Filed Pursuant to Rule 424B3
File No. 333-74118
[DIGI LOGO] [NET SILICON LOGO]
JOINT PROXY STATEMENT/PROSPECTUS
MERGER PROPOSED -- YOUR VOTE IS VERY IMPORTANT
Digi International Inc. and NetSilicon, Inc. have entered into a merger
agreement that provides for a merger of NetSilicon with a subsidiary of Digi. As
a result of the merger, NetSilicon effectively will become a wholly owned
subsidiary of Digi.
In the merger, Digi will issue to NetSilicon stockholders .65 shares of
Digi common stock for each share of NetSilicon common stock held by them.
Instead of stock, each NetSilicon stockholder may elect to receive cash for some
or all of his shares of NetSilicon, subject to the election and allocation
procedures discussed in this document. The amount of the per-share cash payments
will be determined by multiplying .65 by the average per-share closing price of
Digi common stock on the Nasdaq National Market System over the period of ten
trading days ending on the third trading day before consummation of the merger.
The aggregate maximum amount of cash that Digi will pay NetSilicon stockholders
under the merger agreement is $15 million.
On January 8, 2002, the closing price of Digi common stock, which trades on
the Nasdaq National Market System under the symbol "DGII," was $7.05 per share.
If the price of Digi's common stock at the effective time of the merger was
equal to that price, then each share of NetSilicon common stock would be
exchanged either for Digi common stock having a per-share market value of $4.58
or for cash in the amount calculated in the manner described above.
Both companies have called special meetings of their stockholders to
consider and vote on proposals relating to the merger. At NetSilicon's meeting,
NetSilicon will ask its stockholders to consider and vote on the approval of the
merger agreement and the merger. At Digi's meeting, Digi will ask its
stockholders to consider and vote on the approval of the issuance of Digi common
stock in the merger. To complete the merger, the stockholders of each company
must approve the applicable merger-related proposal.
This joint proxy statement/prospectus gives you detailed information about
Digi, NetSilicon, and the merger and includes a copy of the merger agreement and
other important documents. We encourage you to read this entire document
carefully before deciding how to vote. IN PARTICULAR, YOU SHOULD READ CAREFULLY
THE "RISK FACTORS" SECTION BEGINNING ON PAGE 16 FOR A DESCRIPTION OF VARIOUS
RISKS YOU SHOULD CONSIDER IN EVALUATING THE MERGER.
Your vote is important, regardless of the number of shares you own. To vote
your shares, you may use the enclosed proxy card, including the procedures
listed on the card for voting by telephone or the Internet, or you may attend
the meeting held by your company. In the case of NetSilicon stockholders, if you
do not vote, it will have the same effect as voting against approval of the
merger agreement and the merger.
We are very enthusiastic about the merger and join the members of the two
companies' boards of directors in recommending that you vote "FOR" the proposal
being submitted for your consideration and vote.
/s/ Joseph T. Dunsmore /s/ Cornelius Peterson, VIII
JOSEPH T. DUNSMORE CORNELIUS "PETE" PETERSON, VIII
Chairman and Chief Executive Officer Chairman and Chief Executive Officer
Digi International Inc. NetSilicon, Inc.
NEITHER THE SEC NOR ANY STATE SECURITIES COMMISSION HAS APPROVED OR
DISAPPROVED OF THE DIGI COMMON STOCK TO BE ISSUED IN CONNECTION WITH THE MERGER
OR DETERMINED IF THIS JOINT PROXY STATEMENT/PROSPECTUS IS ACCURATE OR ADEQUATE.
ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
THIS JOINT PROXY STATEMENT/PROSPECTUS IS DATED JANUARY 9, 2002,
AND IS FIRST BEING MAILED TO STOCKHOLDERS ON OR ABOUT JANUARY 11, 2002.
ADDITIONAL INFORMATION
This joint proxy statement/prospectus is accompanied by a copy of Digi's
Annual Report on Form 10-K for the fiscal year ended September 30, 2001, which
is attached as Annex H. This joint proxy statement/prospectus is also
accompanied by a copy of NetSilicon's Annual Report on Form 10-K for the fiscal
year ended January 31, 2001, which is attached as Annex I, and a copy of
NetSilicon's Quarterly Report on Form 10-Q for the quarter ended October 27,
2001, which is attached as Annex J.
This joint proxy statement/prospectus also incorporates important business
and financial information about Digi and NetSilicon from documents that are not
included in or delivered with this joint proxy statement/prospectus. This
information is available to you without charge upon your written or oral
request. You can obtain the documents incorporated by reference in this joint
proxy statement/prospectus by requesting them in writing or by telephone from
the appropriate company at the following addresses and telephone numbers:
Digi International Inc.
11001 Bren Road East
Minnetonka, Minnesota 55343
Attention: Chief Financial Officer
Telephone number: (952) 912-3444
NetSilicon, Inc.
411 Waverley Oaks Road, Bldg. 227
Waltham, Massachusetts 02452
Attention: Investor Relations
Telephone number: (781) 647-1234
IN ORDER TO RECEIVE TIMELY DELIVERY OF THE DOCUMENTS IN ADVANCE OF THE
STOCKHOLDERS MEETINGS, YOU SHOULD MAKE YOUR REQUEST NO LATER THAN FEBRUARY 6,
2002.
For more information on the matters incorporated by reference in this joint
proxy statement/ prospectus, please see "Where You Can Find More Information"
beginning on page 97.
DIGI INTERNATIONAL INC.
---------------------
NOTICE OF SPECIAL MEETING OF STOCKHOLDERS
TO BE HELD ON
FEBRUARY 13, 2002
A Special Meeting of Stockholders of Digi International Inc. will be held
at Digi's headquarters, 11001 Bren Road East, Minnetonka, Minnesota 55343, at
9:00 a.m., Central Time, on Wednesday, February 13, 2002 for the following
purpose:
To consider and vote upon the proposed issuance of shares of Digi common
stock in the merger of NetSilicon, Inc. into Dove Sub Inc., a wholly owned
subsidiary of Digi, under the Agreement and Plan of Merger, dated as of
October 30, 2001, among Digi, Dove Sub, and NetSilicon, a copy of which is
included as Annex A to the accompanying joint proxy statement/prospectus.
THE BOARD OF DIRECTORS OF DIGI RECOMMENDS THAT YOU VOTE "FOR" THE PROPOSAL
LISTED ABOVE.
The Board of Directors has fixed December 17, 2001 as the record date for
the meeting, and only stockholders of record at the close of business on that
date are entitled to receive notice of and vote at the meeting.
Your proxy is important to ensure a quorum at the meeting. Even if you own
only a few shares, and whether or not you expect to be present at the meeting,
please mark, date, and sign the enclosed proxy and return it in the accompanying
postage-paid reply envelope as quickly as possible. Stockholders of record also
have the option of voting by telephone or the Internet. Instructions for voting
by telephone or the Internet are on the proxy card. You may revoke your proxy at
any time prior to its exercise, and returning your proxy will not affect your
right to vote in person if you attend the meeting and revoke the proxy.
By Order of the Board of Directors,
/s/ James E. Nicholson
JAMES E. NICHOLSON
Secretary
Minnetonka, Minnesota
January 9, 2002
NETSILICON, INC.
411 WAVERLEY OAKS ROAD, BLDG. 227
WALTHAM, MASSACHUSETTS 02452
---------------------
NOTICE OF SPECIAL MEETING OF STOCKHOLDERS
TO BE HELD ON FEBRUARY 13, 2002
To the Stockholders of
NetSilicon, Inc.:
A special meeting of stockholders of NetSilicon, Inc., will be held on
February 13, 2002 at 10 a.m., Eastern Time, at the offices of NetSilicon, 411
Waverley Oaks Road, Bldg. 227, Waltham, Massachusetts 02452 for the following
purposes:
1. To consider and vote upon a proposal to approve the Agreement and Plan
of Merger, dated as of October 30, 2001, among Digi International Inc.,
Dove Sub Inc., a wholly owned subsidiary of Digi, and NetSilicon, Inc.
and the merger pursuant to which NetSilicon will merge with and into
Dove Sub on and subject to the terms contained in that agreement. A
copy of the Agreement and Plan of Merger is attached as Annex A to the
accompanying joint proxy statement/prospectus.
2. To transact such other business as may properly come before the meeting
or any adjournments or postponements thereof.
THE BOARD OF DIRECTORS OF NETSILICON RECOMMENDS THAT YOU VOTE "FOR"
APPROVAL OF THE MERGER AGREEMENT AND THE MERGER.
If you were a stockholder of record at the close of business on December
17, 2001, you may vote at our special meeting and at any adjournment or
postponement of the meeting.
THE AFFIRMATIVE VOTE OF TWO-THIRDS OF THE OUTSTANDING SHARES OF NETSILICON
COMMON STOCK ENTITLED TO VOTE AT THE SPECIAL MEETING IS REQUIRED TO APPROVE THE
MERGER AGREEMENT AND THE MERGER.
Your proxy vote is very important. Whether or not you plan to attend the
special meeting in person, please complete, date, sign, and return the enclosed
proxy card. A return envelope for your proxy card is provided for your
convenience. Stockholders of record also have the option of voting by telephone
or the Internet. Instructions for voting by telephone or the Internet are on the
proxy card. You may revoke your proxy at any time before it is voted at the
meeting.
Under Massachusetts law, appraisal rights will be available to stockholders
of record on December 17, 2001. To exercise your appraisal rights, you must
strictly follow the procedures prescribed by Massachusetts law. If the merger
agreement is approved by the NetSilicon stockholders at the meeting and the
merger is effected by NetSilicon, any NetSilicon stockholder (1) who files with
NetSilicon, before the taking of the vote on the approval of the merger
agreement, written objection to the proposed action stating that he intends to
demand payment for his shares if the action is taken, and (2) whose shares are
not voted in favor of the merger agreement, has or may have the right to demand
in writing from NetSilicon, within twenty days after the date of mailing to him
of notice in writing that the merger has become effective, payment for his
shares and an appraisal of the value thereof. NetSilicon and any dissenting
stockholder shall have the rights and duties and shall follow the procedure set
forth in sections 85 to 98, inclusive, of chapter 156B of the of Massachusetts
Business Corporation Law. These sections are attached as Annex G to the
accompanying joint proxy statement/prospectus.
On behalf of the Board of Directors,
/s/ Daniel J. Sullivan
DANIEL J. SULLIVAN
Clerk
Waltham, Massachusetts
January 9, 2002
TABLE OF CONTENTS
QUESTIONS AND ANSWERS ABOUT THE MERGER...................... 1
SUMMARY..................................................... 4
The Merger................................................ 4
The Companies............................................. 4
What NetSilicon Stockholders Will Receive in the Merger... 4
Ownership of Digi Following the Merger.................... 5
Reasons for the Merger.................................... 5
Recommendations of Boards of Directors.................... 6
Opinions of Financial Advisors............................ 6
Interests of Directors and Executive Officers of
NetSilicon in the Merger............................... 6
The Stockholders Meetings................................. 7
Voting Agreements......................................... 7
Stockholder Agreement..................................... 7
NetSilicon Stock Options.................................. 8
Accounting Treatment of the Merger........................ 8
Tax Consequences of the Merger............................ 8
Appraisal Rights.......................................... 8
Regulatory Approvals Required for the Merger.............. 9
Material Terms of the Merger Agreement.................... 9
Restrictions on the Ability of NetSilicon Affiliates to
Sell Digi Stock........................................ 10
Stock Price and Dividend Information...................... 10
Digi Selected Historical Financial Information............ 12
NetSilicon Selected Historical Financial Information...... 13
Comparative Per Share Data................................ 15
RISK FACTORS................................................ 16
Risks Relating to the Merger.............................. 16
Risks Relating to Digi.................................... 17
Risks Relating to NetSilicon.............................. 21
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING
STATEMENTS................................................ 29
THE DIGI STOCKHOLDERS MEETING............................... 31
Time and Place; Matters to Be Considered.................. 31
Record Date; Quorum....................................... 31
Votes Required............................................ 31
How Proxies Will Be Voted................................. 31
Treatment of Abstentions and Broker Non-Votes............. 31
How to Revoke Your Proxy.................................. 32
Solicitation of Proxies................................... 32
THE NETSILICON STOCKHOLDERS MEETING......................... 33
Time and Place; Matters to be Considered.................. 33
Record Date; Quorum....................................... 33
Votes Required............................................ 33
How Proxies Will Be Voted................................. 33
Treatment of Abstentions and Broker Non-Votes............. 33
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How to Revoke Your Proxy.................................. 34
Solicitation of Proxies................................... 34
THE MERGER.................................................. 35
General................................................... 35
What NetSilicon Stockholders Will Receive in the Merger... 35
Ownership of Digi after the Merger........................ 36
Background of the Merger.................................. 36
Digi's Reasons for the Merger; Recommendation of the Digi
Board of Directors..................................... 41
NetSilicon's Reasons for the Merger; Recommendation of
NetSilicon's Board of Directors........................ 42
Opinion of Financial Advisor to Digi...................... 45
Opinion of Financial Advisor to NetSilicon................ 51
NetSilicon Projections Provided to Digi................... 56
Interests of Directors and Executive Officers of
NetSilicon in the Merger............................... 57
Accounting Treatment...................................... 59
Federal Income Tax Consequences........................... 60
Regulatory Matters........................................ 62
Federal Securities Laws Consequences; Stock Transfer
Restrictions........................................... 62
THE MERGER AGREEMENT........................................ 63
General................................................... 63
Structure of the Merger................................... 63
Closing; Effective Time................................... 63
NetSilicon Stock Options and Employee Stock Purchase
Plan................................................... 63
Representations and Warranties............................ 63
Conduct of Business....................................... 64
Additional Agreements..................................... 65
Expenses.................................................. 67
Conditions to the Completion of the Merger................ 67
Termination............................................... 68
Amendments................................................ 70
THE VOTING AGREEMENTS....................................... 71
THE STOCKHOLDER AGREEMENT................................... 71
NETSILICON UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL
STATEMENTS................................................ 73
DIGI UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL
STATEMENTS................................................ 77
COMPARATIVE PER SHARE MARKET PRICE AND DIVIDEND
INFORMATION............................................... 82
Market Prices and Dividends............................... 82
Post-Merger Dividend Policy............................... 82
THE COMPANIES............................................... 82
Digi...................................................... 82
NetSilicon................................................ 83
DESCRIPTION OF DIGI CAPITAL STOCK........................... 83
Common Stock.............................................. 83
Preferred Stock........................................... 84
Share Rights Plan......................................... 84
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Certain Charter and By-Law Provisions..................... 85
Transfer Agent and Registrar.............................. 87
APPRAISAL RIGHTS............................................ 87
Digi Stockholders......................................... 87
NetSilicon Stockholders................................... 87
COMPARISON OF STOCKHOLDER RIGHTS............................ 89
Authorized Capital........................................ 89
Shareholder Rights Plan................................... 89
Indemnification and Limitation of Liability............... 90
Inspection Rights......................................... 90
Meetings of Stockholders.................................. 90
Action by Consent of Stockholders......................... 91
Proxies................................................... 91
Approval of Business Combinations and Asset Sales......... 91
Anti-Takeover Legislation................................. 91
Appraisal Rights.......................................... 92
Removal of Directors...................................... 92
Change in Number of Directors............................. 93
Interested Director Transactions.......................... 93
Filling Vacancies on the Board of Directors............... 93
Payment of Dividends...................................... 93
Amendments to Governing Documents......................... 93
SECURITY OWNERSHIP OF BENEFICIAL OWNERS AND MANAGEMENT...... 94
NetSilicon................................................ 94
Digi...................................................... 96
WHERE YOU CAN FIND MORE INFORMATION......................... 97
EXPERTS..................................................... 98
LEGAL MATTERS............................................... 98
STOCKHOLDER PROPOSALS FOR ANNUAL MEETINGS................... 99
LIST OF ANNEXES
ANNEX A Agreement and Plan of Merger................................ A-1
ANNEX B Digi Voting Agreement....................................... B-1
ANNEX C NetSilicon Voting Agreement................................. C-1
ANNEX D Sorrento Networks Corporation Stockholder Agreement......... D-1
ANNEX E Opinion of BMO Nesbitt Burns Corp........................... E-1
ANNEX F Opinion of Thomas Weisel Partners LLC....................... F-1
ANNEX G Provisions of Massachusetts Law Governing Appraisal G-1
Rights......................................................
ANNEX H Digi's Annual Report on Form 10-K for the fiscal year ended H-1
September 30, 2001..........................................
ANNEX I NetSilicon's Annual Report on Form 10-K for the fiscal year I-1
ended January 31, 2001......................................
ANNEX J NetSilicon's Quarterly Report on Form 10-Q for the quarter J-1
ended October 27, 2001......................................
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QUESTIONS AND ANSWERS ABOUT THE MERGER
Q: WHAT IS THE PROPOSED TRANSACTION?
A: Digi and NetSilicon have agreed to a merger in which NetSilicon will merge
with a subsidiary of Digi. As a result of the merger, NetSilicon effectively
will become a wholly owned subsidiary of Digi.
Q: WHAT WILL I RECEIVE IN THE MERGER FOR MY NETSILICON SHARES?
A: You will receive .65 shares of Digi common stock for each share of
NetSilicon common stock that you hold. Instead of receiving stock for your
shares, you may elect to receive cash for some or all of your shares by
following the procedures discussed in this document. Your election for cash
may be reduced, however, if the elections by all NetSilicon stockholders
would cause Digi to pay more than $15 million in cash in the merger, which
we expect to occur. If you do not make a timely election, you will receive
Digi stock for each of your shares of NetSilicon. The amount of the
per-share cash payments will be determined by multiplying .65 times the
average per-share closing price of Digi common stock on the Nasdaq National
Market System over the period of ten trading days ending on the third
trading day before consummation of the merger.
Q: ARE THERE ANY LIMITS ON THE VALUE OF THE CONSIDERATION THAT I WILL RECEIVE
FOR MY NETSILICON SHARES?
A: No, there is neither a minimum nor a maximum value for what you will receive
in the merger for each of your shares.
Q: WHAT PERCENTAGE OF DIGI'S COMMON STOCK WILL FORMER NETSILICON STOCKHOLDERS
OWN AFTER THE MERGER?
A: We anticipate that former NetSilicon stockholders will hold approximately
29% of Digi's outstanding shares of common stock after the merger.
Q: WHAT DO I NEED TO DO NOW?
A: After carefully reading and considering this joint proxy
statement/prospectus, please fill out, sign, and date the enclosed proxy
card and mail it in the enclosed prepaid return envelope as soon as
possible, so that your shares may be represented and voted at your company's
stockholders meeting. You may also vote by telephone or the Internet or
attend your company's stockholders meeting and vote in person.
For NetSilicon stockholders, there is also enclosed an election form on
which you may indicate whether you want to receive cash for some or all of
your NetSilicon shares in the merger. The election form is accompanied by a
transmittal letter for submitting your shares of NetSilicon to be exchanged
for the merger consideration. To be effective, your election form must be
received by the exchange agent no later than January 31, 2002, unless Digi
and NetSilicon agree to extend the election deadline. The companies will not
agree to any such extension beyond the time of the vote of NetSilicon's
stockholders to approve the merger, however. In any event, you will thus
need to make your election decision in advance of the NetSilicon
stockholders meeting.
Q: WHAT STOCKHOLDER APPROVAL IS NEEDED FOR THE MERGER?
A: NetSilicon Stockholders. For NetSilicon to complete the merger, the holders
of two-thirds of the outstanding shares of NetSilicon's voting common stock
must vote affirmatively to approve the merger agreement and the merger. Each
of NetSilicon's seven directors and executive officers, owning a total of
approximately 1.4% of NetSilicon's outstanding voting shares, have entered
into a voting agreement with Digi in which they have agreed to vote their
shares in favor of the merger proposal. Sorrento Networks Corporation, the
holder of NetSilicon's non-voting common stock, is not entitled to vote on
the merger proposal. The failure to vote by a holder of voting common stock
is equivalent to a vote against the merger proposal. If the merger proposal
is not approved, the merger cannot proceed. The board of directors of
NetSilicon recommends voting "FOR" this proposal.
Digi Stockholders. For Digi to complete the merger, the holders of a
majority of the number of shares of Digi common stock present in person or
by proxy at the Digi stockholders meeting must
1
vote affirmatively to approve the issuance of shares in the merger. The nine
directors and executive officers of Digi, owning less than one percent of
Digi's outstanding shares, have entered into a voting agreement with
NetSilicon in which they have agreed to vote their shares in favor of the
proposal to issue shares in the merger. If the proposal to issue shares is
not approved, the merger cannot proceed. The board of directors of Digi
recommends voting "FOR" this proposal.
Q: IF MY SHARES ARE HELD IN "STREET NAME" BY MY BROKER, WILL MY BROKER
AUTOMATICALLY VOTE MY SHARES FOR ME?
A: No. Your broker is not permitted to vote your shares without specific
instructions from you. Unless you follow the directions your broker provides
you regarding how to instruct your broker to vote your shares, your shares
will not be voted.
Q: CAN I CHANGE MY VOTE AFTER I HAVE SUBMITTED MY PROXY?
A: Yes. You may change your vote:
- by writing to the corporate secretary of your company before your
company's stockholders meeting stating that you are revoking your proxy;
- by signing a later-dated proxy card and returning it by mail or by voting
again by telephone or the Internet, in each case before your company's
stockholders meeting; or
- by attending the stockholders meeting and voting in person; merely
attending the meeting, without voting in person, will not revoke any
proxy previously delivered by you.
If your shares are held in an account at a brokerage firm or a bank, you
should contact your brokerage firm or bank to change your vote.
Q: WHEN DO YOU EXPECT TO COMPLETE THE MERGER?
A: We are working toward completing the merger as quickly as possible. We
expect to complete the merger shortly after the NetSilicon and Digi
stockholders meetings are held.
Q: WHAT ARE THE TAX CONSEQUENCES OF THE MERGER TO NETSILICON STOCKHOLDERS?
A: Generally, you will not recognize a gain or a loss with respect to the
receipt of Digi common stock in exchange for your shares of NetSilicon
common stock. Receipt of cash in the merger generally would be taxable. We
urge you to consult your own tax advisor to determine the specific tax
consequences of the merger to you.
Q: DOES DIGI PAY DIVIDENDS?
A: No. Digi does not currently pay cash dividends on its common stock and does
not anticipate paying dividends in the foreseeable future.
Q: WILL I HAVE THE RIGHT TO HAVE MY SHARES APPRAISED IF I DISSENT FROM THE
MERGER?
A: Under Massachusetts law, holders of NetSilicon common stock who comply with
the governing statutory provisions are entitled to appraisal rights to
receive fair value for their shares instead of the merger consideration. A
copy of the applicable statutes is attached to the joint proxy
statement/prospectus as Annex G. Holders of Digi common stock are not
entitled to appraisal rights in connection with the merger.
Q: WHERE CAN I FIND MORE INFORMATION ABOUT THE COMPANIES?
A: Both companies file reports and other information with the Securities and
Exchange Commission. You can read and copy this information at the SEC's
public reference facilities. Please call the SEC at 1-800-SEC-0330 for
information about these facilities. This information is also available at
the Internet site the SEC maintains at http://www.sec.gov. You can also
request copies of these documents from Digi or NetSilicon. In addition, you
can get information about our companies from our Internet sites located at
http://www.digi.com and http://www.netsilicon.com. The information on
2
our Internet sites is not a part of, and is not being incorporated by
reference into, this joint proxy statement/prospectus.
Q: WHO CAN ANSWER MY QUESTIONS?
A: If you are a Digi stockholder and have questions or want additional copies
of this joint proxy statement/prospectus, please contact:
Digi International Inc.
11001 Bren Road East
Minnetonka, Minnesota 55343
Attention: Chief Financial Officer
Telephone number: (952) 912-3444
If you are a NetSilicon stockholder and have questions or want additional
copies of this joint proxy statement/prospectus, please contact:
NetSilicon, Inc.
411 Waverley Oaks Road, Bldg. 227
Waltham, Massachusetts 02452
Attention: Investor Relations
Telephone number: (781) 647-1234
Digi and NetSilicon stockholders may also contact:
MacKenzie Partners, Inc. Logo
156 Fifth Avenue
New York, New York 10010
(212) 929-5500 (Call Collect)
or
CALL TOLL-FREE (800) 322-2885
E-mail: proxy@mackenziepartners.com
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SUMMARY
This summary highlights material information from this joint proxy
statement/prospectus. It may not contain all of the information that is
important to you. To better understand the merger, we urge you to read carefully
this entire joint proxy statement/prospectus and the documents we refer to in
this joint proxy statement/prospectus. Please see "Where You Can Find More
Information" beginning on page 97. A copy of the merger agreement itself is
attached to this joint proxy statement/prospectus as Annex A. We urge you to
read carefully the entire merger agreement and the other documents attached to
this joint proxy statement/prospectus.
THE MERGER (SEE PAGE 35.)
Digi and NetSilicon have entered into a merger agreement that provides for
the merger of NetSilicon into a wholly owned subsidiary of Digi. As a result of
the merger, NetSilicon effectively will become a wholly owned subsidiary of
Digi.
THE COMPANIES
DIGI INTERNATIONAL INC. (SEE PAGE 82.)
11001 Bren Road East
Minnetonka, Minnesota 55343
(952) 912-3444
Digi is a worldwide provider of Connectware, wired and wireless, hardware
and software connectivity solutions that businesses use to create, customize and
control retail operations, industrial automation and other applications.
Connectware network enables the essential devices that build business. Digi
operates exclusively in a single business segment and sells its products through
a global network of distributors, system integrators, value-added resellers and
original equipment manufacturers. The company also sells directly to select
accounts and the government. Digi maintains strategic partnerships with other
industry leaders to develop and market technology solutions. The company was
founded in 1985, has been publicly held since 1989, and employs approximately
425 people worldwide. Unless the context otherwise requires, references to Digi
in this joint proxy statement/prospectus include Digi and its subsidiaries. For
further information, visit Digi's Internet site at http://www.digi.com.
Information on Digi's Internet site is not a part of, and is not being
incorporated by reference into, this joint proxy statement/prospectus, however.
NETSILICON, INC. (SEE PAGE 83.)
411 Waverley Oaks Road, Bldg. 227
Waltham, MA 02452
(781) 647-1234
NetSilicon designs and manufactures integrated solutions for manufacturers
who want to build intelligence and Internet/Ethernet connectivity into their
products. These solutions integrate system-on-silicon and software to provide a
complete platform for Internet/Ethernet-connected devices. NetSilicon is
enabling device intelligence and connectivity in a broad range of industries
including office imaging, industrial automation, telecommunications, building
controls, security, and retail point-of-sale. NetSilicon has been publicly held
since September 15, 1999 and currently employs approximately 130 people
worldwide.
WHAT NETSILICON STOCKHOLDERS WILL RECEIVE IN THE MERGER (SEE PAGE 35.)
NetSilicon stockholders will receive .65 shares of Digi common stock for
each share of NetSilicon common stock that they hold. Instead of stock, each
NetSilicon stockholder may elect to receive cash for some or all of his shares
by following the procedures discussed in this document. Elections for cash may
be reduced on a proportionate basis, however, if the elections by all NetSilicon
stockholders would cause Digi to pay more than $15 million in cash in the
merger. Because Sorrento Networks Corporation,
4
NetSilicon's largest stockholder, has agreed to elect to receive the maximum
amount of cash to which it is entitled in the merger, we expect this reduction
to occur. A NetSilicon stockholder who does not make a timely cash election will
receive Digi common stock for all of that holder's NetSilicon shares. To be
timely, an election form must be received by the exchange agent no later than
January 31, 2002, unless Digi and NetSilicon agree to extend the election
deadline. The companies will not agree to any such extension beyond the time of
the vote of NetSilicon's stockholders to approve the merger, however. In any
event, you will thus have to make your election decision in advance of the
NetSilicon stockholders meeting. The amount of the per-share cash payments will
be determined by multiplying .65 times the average per-share closing price of
Digi common stock on the Nasdaq National Market System over the period of ten
trading days ending on the third trading day before closing of the merger.
Digi will not issue fractional shares in the merger. As a result, the total
number of shares of Digi common stock that you receive in the merger will be
rounded down to the nearest whole number. You will receive a cash payment for
the value of the remaining fraction of a share of Digi common stock that you
would otherwise have received, based on the average of the trading prices of
Digi common stock on the Nasdaq National Market System over the period of ten
trading days ending on the third trading day before the closing of the merger.
OWNERSHIP OF DIGI FOLLOWING THE MERGER (SEE PAGE 36.)
We anticipate that former NetSilicon stockholders will own approximately
29% of the outstanding shares of Digi common stock following the merger.
REASONS FOR THE MERGER (SEE PAGE 41.)
Digi. Digi's board of directors unanimously agreed that the merger is
advisable and in the best interests of Digi and its stockholders. In reaching
its decision, Digi's board of directors considered a number of factors,
including the following:
- the expectation of Digi's management that, although immediately dilutive,
the merger will be accretive to Digi's earnings per share in later years;
- the overall strategic fit between Digi and NetSilicon in view of their
respective product lines and markets;
- that the complementary nature of the two companies' device connectivity
products will give the combined company an expanded range of products and
technology; and
- that NetSilicon's position as an early entrant in the small but growing
embedded systems market will allow Digi to further reposition its
business to address growth markets in device connectivity.
NetSilicon. The NetSilicon board of directors believes that the terms of
the merger and the merger agreement are fair to, and in the best interests of,
NetSilicon and its stockholders. In reaching its decision, the NetSilicon board
of directors considered numerous factors, including the following:
- the financial condition, results of operations, and businesses of
NetSilicon and Digi before and after giving effect to the merger;
- the near- and long-term prospects of NetSilicon as an independent company
and of the combined company;
- the opportunity for NetSilicon stockholders to participate in the
potential for greater growth, operational efficiencies, financial
strength, and earning power of the combined company after the merger;
- industry trends toward consolidation and the advantages that might be
expected to accrue to the combined company through the creation of a
larger customer base, a higher market profile, greater financial
strength, and broader customer offerings, which could enhance the ability
of the combined company to compete in the marketplace; and
5
- the opinion of Thomas Weisel Partners LLC dated October 29, 2001 to the
NetSilicon board of directors to the effect that as of that date, and
based upon and subject to the matters described in their opinion, the
consideration to be received by the stockholders of NetSilicon was fair,
from a financial point of view, to such stockholders.
RECOMMENDATIONS OF BOARDS OF DIRECTORS (SEE PAGE 41.)
Digi Stockholders. After careful consideration, the Digi board of
directors unanimously recommends that you vote "FOR" the proposal to approve the
issuance of shares of Digi common stock in the merger.
NetSilicon Stockholders. The NetSilicon board of directors believes that
the merger is in the best interests of NetSilicon and its stockholders and,
after careful consideration, recommends that you vote "FOR" approval of the
merger agreement and the merger.
OPINIONS OF FINANCIAL ADVISORS (SEE PAGE 45.)
Digi. BMO Nesbitt Burns Corp. has given a written opinion, dated October
30, 2001, to the Digi board of directors as to the fairness on that date, from a
financial point of view, of the consideration to be paid in the merger. The full
text of this opinion is attached to this joint proxy statement/prospectus as
Annex E. You should read the opinion carefully in its entirety to understand the
procedures followed, assumptions made, matters considered, and limitations on
the review undertaken by Nesbitt Burns in providing its opinion. The opinion of
Nesbitt Burns is directed to the Digi board of directors and does not constitute
a recommendation to any Digi stockholder as to any matter relating to the
merger.
NetSilicon. Thomas Weisel Partners LLC has given a written opinion, dated
October 29, 2001, to the NetSilicon board of directors as to the fairness on
that date, from a financial point of view, of the consideration to be received
by the holders of NetSilicon common stock in the merger. The full text of this
opinion is attached to this joint proxy statement/prospectus as Annex F. You
should read the opinion carefully in its entirety to understand the procedures
followed, assumptions made, matters considered and limitations on the review
undertaken by Thomas Weisel Partners in providing its opinion. The opinion of
Thomas Weisel Partners is directed to the NetSilicon board of directors and does
not constitute a recommendation to any NetSilicon stockholder as to any matter
relating to the merger.
INTERESTS OF DIRECTORS AND EXECUTIVE OFFICERS OF NETSILICON IN THE MERGER (SEE
PAGE 57.)
In considering the recommendation of NetSilicon's board of directors in
favor of approval of the merger agreement and the merger, NetSilicon
stockholders should be aware that some of NetSilicon's directors and executive
officers have interests in the merger that are different from, or in addition
to, the interests of NetSilicon stockholders generally. NetSilicon's board of
directors was aware of and considered these interests when it considered and
approved the merger agreement. The interests include the potential for those
individuals to obtain positions as directors or officers of Digi, the
acceleration of vesting of certain stock options, the receipt of severance and
other benefits under employment agreements, and the right to continued
indemnification and insurance coverage for the benefit of current and former
NetSilicon directors and officers.
In addition, Daniel J. Sullivan, NetSilicon's Executive Vice President of
Finance and Operations and Chief Financial Officer, will receive a transaction
bonus of approximately $125,000 after the closing of the merger under his
employment agreement. Under this agreement, Mr. Sullivan will be employed by
Digi as Transition Manager. Digi has also agreed that Cornelius Peterson, VIII,
currently the Chairman of the Board and Chief Executive Officer of NetSilicon,
will be appointed as a director and officer of Digi at the completion of the
merger. Additionally, NetSilicon has forgiven the payment obligations of two
promissory notes in the aggregate principal amount of $871,207.80 plus interest
made by Mr. Peterson and has made an additional payment necessary to cover taxes
owed by Mr. Peterson as a result of the forgiveness and the additional payment.
Mr. Peterson also received a one-time payment of $740,000 on December 28, 2001.
6
THE STOCKHOLDERS MEETINGS (SEE PAGE 31.)
Digi Stockholders. Digi will hold a special stockholders meeting at Digi's
headquarters, 11001 Bren Road East, Minnetonka, Minnesota 55343, at 9:00 a.m.,
Central Time, on February 13, 2002. You may vote at the Digi stockholders
meeting if you owned shares of Digi common stock at the close of business on the
record date, which is December 17, 2001. At the Digi stockholders meeting, you
will be entitled to cast one vote for each share of Digi common stock that you
owned on December 17, 2001. At the close of business on December 17, 2001, there
were 15,374,947 shares of Digi common stock outstanding.
In order for us to complete the merger, Digi stockholders must approve the
issuance of shares of Digi common stock in the merger. The affirmative vote of
the holders of a majority of the total number of shares of Digi common stock
present in person or by proxy at the Digi stockholders meeting is required to
approve the issuance of shares in the merger.
On December 17, 2001, Digi directors and executive officers and persons and
entities affiliated with them owned and were entitled to vote 91,884 shares of
Digi common stock. These shares represented less than one percent of the
outstanding shares of Digi common stock on December 17, 2001.
NetSilicon Stockholders. The special meeting of NetSilicon stockholders
will be held at the offices of NetSilicon, 411 Waverley Oaks Road, Bldg. 227,
Waltham, Massachusetts 02452 at 10:00 a.m., Eastern Time, on February 13, 2002.
You may vote at this meeting if you owned shares of NetSilicon common stock at
the close of business on the record date of December 17, 2001. At the close of
business on December 17, 2001, there were 7,093,666 shares of NetSilicon voting
common stock outstanding.
In order to complete the merger, NetSilicon stockholders must vote to
approve the merger agreement and the merger. The affirmative vote of the holders
of two-thirds of the outstanding shares of NetSilicon common stock entitled to
vote at the meeting is required to approve the merger agreement and the merger.
If you do not vote your NetSilicon shares, the effect will be a vote against the
approval of the merger agreement and the merger.
On December 17, 2001, directors and executive officers of NetSilicon owned
and were entitled to vote 100,531 shares of NetSilicon common stock. These
shares represented approximately 1.4% of the outstanding voting shares of
NetSilicon common stock on December 17, 2001.
VOTING AGREEMENTS (SEE PAGE 71.)
Digi. The nine directors and executive officers of Digi, owning, in the
aggregate, less than one percent of the outstanding Digi common stock on the
record date, have entered into a voting agreement with NetSilicon and have
delivered irrevocable proxies granting to NetSilicon the right to vote all of
the Digi common stock owned by them in favor of the issuance of Digi common
stock in the merger. We have attached a copy of the Digi voting agreement as
Annex B to this joint proxy statement/prospectus.
NetSilicon. Each of the seven directors and executive officers of
NetSilicon, owning in the aggregate approximately 1.4% of the outstanding
NetSilicon voting common stock on the record date, have entered into a voting
agreement with Digi and have delivered irrevocable proxies granting to Digi the
right to vote all of the NetSilicon voting common stock owned by them in favor
of the approval of the merger agreement and the merger. We have attached a copy
of the NetSilicon voting agreement as Annex C to this joint proxy
statement/prospectus.
STOCKHOLDER AGREEMENT (SEE PAGE 71.)
In connection with the execution of the merger agreement, Digi entered into
a stockholder agreement with Sorrento Networks Corporation, holder of all of the
outstanding shares of NetSilicon's non-voting common stock and NetSilicon's
largest stockholder. In that agreement, Sorrento Networks has agreed to the
following terms, among others:
- Sorrento Networks will not seek any offer for an acquisition of
NetSilicon by anyone other than Digi;
7
- Sorrento Networks will not exercise any statutory appraisal rights to
which it may be entitled under Massachusetts law;
- Sorrento will elect to receive the maximum amount of cash available to it
under the merger agreement;
- following consummation of the merger, Sorrento Networks will not acquire
any additional shares of Digi common stock and will not seek to change
Digi's board of directors; and
- Sorrento will be subject to limitations on its ability to sell the shares
of Digi common stock that it receives in the merger.
A copy of the stockholder agreement is attached to this joint proxy
statement/prospectus as Annex D.
NETSILICON STOCK OPTIONS (SEE PAGE 63.)
The merger agreement provides for differing treatment of options to
purchase shares of NetSilicon common stock based on the exercise price of those
options. Options with a per-share exercise price of $7.00 or less will be
assumed by Digi and converted into the right to receive shares of Digi common
stock upon exercise. The terms of the options will remain the same except that
the number of Digi shares issuable upon exercise will be .65 times the number of
NetSilicon shares that were issuable upon exercise of the options and that the
per-share exercise price will equal the pre-merger exercise price divided by
.65. Except for options held by Cornelius Peterson, VIII, to purchase 150,000
shares of NetSilicon common stock at an exercise price of $18.00 per share,
which will also be assumed by Digi in the merger, options with a per-share
exercise price of more than $7.00 will not be assumed by Digi in the merger and
will become exercisable in full for a period of 30 days and then will expire by
their terms, unless those options are exercised during the 30-day period.
ACCOUNTING TREATMENT OF THE MERGER (SEE PAGE 59.)
The merger will be treated as a "purchase" for accounting purposes.
TAX CONSEQUENCES OF THE MERGER (SEE PAGE 60.)
The merger is intended to qualify as a "reorganization" within the meaning
of Section 368(a) of the Internal Revenue Code. That means that NetSilicon
stockholders would generally not recognize gain or loss on the receipt of shares
of Digi common stock in the merger. Payments of cash under the cash-election
option and cash received in lieu of fractional shares generally would be
taxable. You are urged to consult with your tax advisor to determine the
specific tax consequences of the merger to you.
APPRAISAL RIGHTS (SEE PAGE 87.)
Digi. Under Delaware law, Digi stockholders will not have any appraisal
rights in connection with the merger.
NetSilicon. NetSilicon stockholders are entitled under Massachusetts law
to appraisal rights in connection with the merger. To exercise appraisal rights,
a NetSilicon stockholder must:
- provide written notice to NetSilicon before the taking of the vote of the
stockholders on the merger proposal, stating his intention to exercise
appraisal rights;
- vote against approval of the merger proposal or abstain from voting; and
- comply with the other procedures required by Sections 85 to 98 of the
Massachusetts Business Corporation Law.
A copy of the applicable sections of Massachusetts law is attached to this
joint proxy statement/prospectus as Annex G.
8
REGULATORY APPROVALS REQUIRED FOR THE MERGER (SEE PAGE 62.)
Under the Hart-Scott-Rodino Antitrust Improvements Act, mergers over a
certain value may not be completed until the companies have made filings with
the appropriate regulatory agencies and the applicable waiting period has
expired or been terminated. If required, we expect to make the necessary filings
shortly after the date of this joint proxy statement/prospectus. The applicable
waiting period will expire 30 days after those filings are made unless earlier
terminated or extended by a request for additional information.
MATERIAL TERMS OF THE MERGER AGREEMENT
Conditions to Completion of the Merger (See page 67.) Digi and NetSilicon
will not be required to complete the merger unless specified conditions are
satisfied, including:
- approval by Digi stockholders of the issuance of Digi common stock in the
merger and approval by NetSilicon stockholders of the merger agreement
and the merger;
- the effectiveness of the registration statement (which includes this
document) relating to the Digi shares to be issued in the merger;
- the authorization for listing on the Nasdaq National Market System,
subject to official notice of issuance, of the shares of Digi common
stock to be issued in the merger;
- all waiting periods, if any, under the Hart-Scott-Rodino Antitrust
Improvements Act having expired or having been terminated and all
material foreign antitrust approvals having been obtained;
- there not being an injunction prohibiting the merger, nor any litigation
or administrative proceeding by any governmental, regulatory, or
administrative entity pending that is reasonably likely to prohibit the
merger or to have a material adverse effect on the combined company;
- compliance in all material respects by Digi and NetSilicon with their
respective agreements and obligations under the merger agreement, and the
truth and correctness of the representations made by each of them under
the merger agreement, both as of the date of the merger agreement and
immediately before the merger, except to the extent that any inaccuracy
in any representation, individually or in the aggregate, has not had and
is not reasonably likely to have a material adverse effect on Digi or
NetSilicon, as the case may be;
- there not having occurred any event that, individually or in the
aggregate, has had or would be reasonably likely to have a material
adverse effect on Digi or NetSilicon; and
- each party receiving an opinion of counsel that the merger will be
treated as a reorganization for federal income tax purposes.
Termination of the Merger Agreement (See page 68.) Digi and NetSilicon can
jointly agree to terminate the merger agreement at any time before completing
the merger. In addition, either company can terminate the merger agreement if:
- the merger has not been completed by March 15, 2002;
- the NetSilicon stockholders fail to approve the merger agreement and the
merger or the Digi stockholders fail to approve the issuance of Digi
shares in the merger;
- any of the conditions set forth in the second, third, fourth or fifth
bullet points of "Conditions to Completion of the Merger" above become
impossible to fulfill on or before March 15, 2002;
- either of the conditions set forth in the sixth or seventh bullet points
of "Conditions to Completion of the Merger" above become, with respect to
the other party, impossible to fulfill on or before March 15, 2002; or
- the other company's board of directors withdraws or adversely modifies
its recommendation that its stockholders vote in favor of the proposal
required to complete the merger.
9
The merger agreement may also be terminated by NetSilicon if, at any time
before the NetSilicon stockholders meeting, NetSilicon receives an unsolicited
acquisition offer from a third party, and the board of directors of NetSilicon
determines the offer is reasonably likely to be more favorable to NetSilicon's
stockholders than the merger with Digi. However, before terminating the merger
agreement, NetSilicon must have given Digi at least five business days' notice
and, during that period, a chance to propose such amendments to the terms of the
merger agreement as would enable NetSilicon's board of directors to determine
that the merger with Digi, as so amended, is at least as favorable to
NetSilicon's stockholders as the third party's offer.
A Termination Fee Will Be Payable by NetSilicon Under Certain Circumstances
(See page 69.) NetSilicon will be obligated to pay Digi a termination fee of
$2.5 million, plus an amount, not to exceed $750,000, to reimburse Digi's
expenses relating to the merger, if:
- Digi terminates the agreement as a result of the NetSilicon board of
directors having withdrawn or adversely modified its recommendation of
approval of the merger agreement and the merger;
- NetSilicon terminates the merger agreement in order to enter into an
alternative transaction that the NetSilicon board of directors has
determined is reasonably likely to be more favorable to NetSilicon's
stockholders than the merger with Digi, as described in the second
paragraph under "-- Termination of the Merger Agreement" above; or
- if the following conditions occur:
- an alternative transaction is proposed to NetSilicon and becomes
publicly known before termination of the merger agreement;
- NetSilicon or Digi terminates the merger agreement as a result of the
merger not having been completed by March 15, 2002, or the stockholders
of either company having failed to approve the proposal relating to the
merger on which they are voting; and
- within 12 months after termination, NetSilicon completes an alternative
transaction with a third party.
Restrictions on Alternative Transactions (See page 66.) NetSilicon has
agreed not to solicit an acquisition proposal from a third party while the
merger is pending. NetSilicon has also agreed not to engage in discussions or
negotiations concerning an acquisition proposal unless the NetSilicon board of
directors determines that the unsolicited proposal is reasonably likely to be
more favorable to NetSilicon's stockholders than the merger with Digi and that
any required financing is committed or reasonably capable of being obtained by
the third party. In addition, NetSilicon has agreed to keep Digi informed about
any inquiries or discussions relating to any alternative transaction that is
proposed by a third party.
RESTRICTIONS ON THE ABILITY OF NETSILICON AFFILIATES TO SELL DIGI STOCK (SEE
PAGE 62.)
All shares of Digi common stock that NetSilicon stockholders receive in
connection with the merger will be freely transferable unless the holder is
considered an "affiliate" of NetSilicon or Digi for purposes of the federal
securities laws. Shares of Digi common stock held by these affiliates may be
sold only pursuant to a registration statement or an exemption under the
Securities Act of 1933. Sorrento Networks is not considered an affiliate of
NetSilicon or Digi.
STOCK PRICE AND DIVIDEND INFORMATION (SEE PAGE 82.)
Both Digi's and NetSilicon's shares of common stock are listed and trade on
the Nasdaq National Market System. Digi trades under the symbol "DGII," and
NetSilicon trades under the symbol "NSIL." The following table presents the last
reported sale price for Digi common stock and for NetSilicon common stock on
October 30, 2001, the last trading day before our announcement of the signing of
the merger agreement, and on January 8, 2002, the last trading day before the
printing of this document. The
10
table also sets forth the value of the merger consideration NetSilicon
stockholders would have received for one share of NetSilicon common stock
assuming the merger had taken place on those dates.
EQUIVALENT PRICE PER
DIGI NETSILICON SHARE OF NETSILICON
DATE COMMON STOCK COMMON STOCK COMMON STOCK
---- ------------ ------------ --------------------
October 30, 2001................................ $5.43 $2.60 $3.53
January 8, 2002................................. $7.05 $4.50 $4.58
Past price performance is not necessarily indicative of future price
performance. You should obtain current market quotations for shares of
NetSilicon and Digi common stock.
Neither Digi nor NetSilicon has ever paid cash dividends to its
stockholders. Digi does not anticipate paying cash dividends in the foreseeable
future.
11
DIGI SELECTED HISTORICAL FINANCIAL INFORMATION
You should read the following selected historical financial data in
conjunction with the historical financial statements and accompanying notes that
Digi has included in its Annual Report on Form 10-K for the fiscal year ended
September 30, 2001, which is incorporated by reference and attached to this
joint proxy statement/prospectus as Annex H. Statement of operations information
for the year ended September 30, 1998 and 1997 and balance sheet information at
September 30, 1999, 1998 and 1997 are not incorporated by reference.
DIGI INTERNATIONAL INC.
YEAR ENDED SEPTEMBER 30,
----------------------------------------------------
1997 1998 1999 2000 2001
-------- -------- -------- -------- --------
(IN THOUSANDS EXCEPT PER-SHARE AMOUNTS AND
PERCENTAGES)
Net Sales................................. $165,598 $182,932 $193,506 $132,525 $130,405
Net (loss) income(1)...................... (15,791) (71) 3,192 (16,825) (1,783)
Net (loss) income per share-basic......... (1.18) (0.01) 0.22 (1.12) (0.12)
Net (loss) income per share-assuming
dilution................................ (1.18) (0.01) 0.22 (1.12) (0.12)
Total assets.............................. 118,311 191,521 176,330 142,922 139,453
Long-term debt............................ -- 11,124 9,206 7,081 5,499
Stockholders' equity...................... 95,471 121,251 127,164 113,459 112,917
---------------
(1) Net (loss) income for the years presented include the following items:
1997 1998 1999 2000 2001
-------- -------- ----- -------- -------
AetherWorks Corporation net operating
loss.................................. $ (5,764)
AetherWorks Corporation gain
(write-off)........................... $ (5,759) $ 1,350
Restructuring charges................... (10,471) (1,020) $(607) $ (1,382) $(1,121)
Acquired in-process research and
development charge.................... (16,065)
AetherWorks Corporation note recovery
gain.................................. 8,000
Impairment loss......................... (26,146)
Cumulative effect of accounting change
(net of income tax benefit of
$1,056)............................... (1,902)
12
NETSILICON SELECTED HISTORICAL FINANCIAL INFORMATION
The table below presents a summary of selected historical consolidated
financial data with respect to NetSilicon as of the dates and for the periods
indicated. You should read the following selected historical financial
information together with the consolidated financial statements and accompanying
notes contained in NetSilicon's Annual Report on Form 10-K for its fiscal year
ended January 31, 2001 and NetSilicon's Quarterly Report on Form 10-Q for its
fiscal quarter ended October 27, 2001, from which the selected historical
consolidated financial data below is derived, which are attached to, and
incorporated by reference in, this joint proxy statement/prospectus. Statement
of operations information for the years ended January 31, 1998 and 1997, and
balance sheet information at January 31, 1999, 1998 and 1997 and October 28,
2000 are not incorporated by reference. The unaudited interim financial
information for the nine months ended October 27, 2001 and October 28, 2000
reflects, in the opinion of NetSilicon management, all adjustments necessary for
a fair presentation of the consolidated financial position and the consolidated
results of operations of NetSilicon.
NETSILICON, INC.
FISCAL YEARS ENDED JANUARY 31, NINE MONTHS NINE MONTHS
----------------------------------------------- ENDED ENDED
1997 1998 1999 2000 2001 OCTOBER 28, 2000 OCTOBER 27, 2001
------- ------- ------- ------- ------- ---------------- ----------------
(UNAUDITED) (UNAUDITED)
(IN THOUSANDS EXCEPT PER-SHARE AMOUNTS)
STATEMENT OF
OPERATIONS DATA:
Net sales............. $ 7,445 $ 7,920 $13,373 $31,841 $37,382 $29,555 $21,201
Cost of sales......... 4,616 4,337 7,521 15,423 15,188 12,070 9,686
------- ------- ------- ------- ------- ------- -------
Gross profit.......... 2,829 3,583 5,852 16,418 22,194 17,485 11,515
------- ------- ------- ------- ------- ------- -------
Operating expenses:
Selling and
marketing........ 1,563 1,810 3,336 7,560 10,753 8,151 7,660
Engineering,
research and
development...... 706 1,206 1,903 3,083 7,054 4,694 5,666
General and
administrative... 1,502 1,795 2,194 3,551 4,690 3,125 5,346
Amortization of
intangible
assets........... -- -- -- -- 338 -- 473
Intangible and other
asset impairment
charges.......... -- -- -- -- 1,498 -- --
------- ------- ------- ------- ------- ------- -------
Total operating
expenses............ 3,771 4,811 7,433 14,194 24,333 15,970 19,145
------- ------- ------- ------- ------- ------- -------
Operating income
(loss) from
continuing
operations.......... (942) (1,228) (1,581) 2,224 (2,139) 1,515 (7,630)
Interest income
(expense), net...... (136) (118) (551) (206) 882 683 351
------- ------- ------- ------- ------- ------- -------
Income (loss) from
continuing
operations before
taxes on income
(income tax
benefit)............ (1,078) (1,346) (2,132) 2,018 (1,257) 2,198 (7,279)
(Taxes on income)
income tax
benefit............. 969 493 -- -- -- -- (39)
------- ------- ------- ------- ------- ------- -------
13
FISCAL YEARS ENDED JANUARY 31, NINE MONTHS NINE MONTHS
----------------------------------------------- ENDED ENDED
1997 1998 1999 2000 2001 OCTOBER 28, 2000 OCTOBER 27, 2001
------- ------- ------- ------- ------- ---------------- ----------------
(UNAUDITED) (UNAUDITED)
(IN THOUSANDS EXCEPT PER-SHARE AMOUNTS)
Income (loss) from
continuing
operations.......... $ (109) $ (853) $(2,132) $ 2,018 $(1,257) $ 2,198 $(7,318)
======= ======= ======= ======= ======= ======= =======
Income (loss) from
continuing
operations per
share:
Basic............... $ (0.01) $ (0.09) $ (0.21) $ 0.18 $ (0.09) $ 0.16 $ (0.52)
Diluted............. $ (0.01) $ (0.09) $ (0.21) $ 0.17 $ (0.09) $ 0.14 $ (0.52)
Weighted average
number of shares
outstanding:
Basic............... 8,285 10,000 10,000 11,327 13,674 13,636 14,020
Diluted............. 8,285 10,000 10,000 11,978 13,674 15,912 14,020
JANUARY 31,
--------------------------------------------- OCTOBER 28, OCTOBER 27,
1997 1998 1999 2000 2001 2000 2001
------ ------ ------- ------- ------- ----------- -----------
(UNAUDITED)
(IN THOUSANDS EXCEPT PER-SHARE AMOUNTS) (UNAUDITED)
BALANCE SHEET DATA:
Cash and cash
equivalents............ $ 394 $ 185 $ 583 $11,097 $ 5,999 $ 7,091 $ 8,423
Working capital
(deficit).............. (241) (787) (3,471) 19,515 19,102 21,006 12,565
Total assets............. 7,615 7,933 11,648 29,781 31,401 36,165 26,085
Due to affiliate......... 948 1,812 5,885 57 -- 223 --
Total debt (including
short-term debt)....... 3,338 3,005 3,191 983 10 -- --
Stockholders' equity
(deficit).............. 763 586 (1,836) 22,483 24,713 28,150 18,769
14
COMPARATIVE PER SHARE DATA
Set forth below are the net income (loss) and net book value per common
share data separately for Digi on a historical basis, for NetSilicon on a
historical basis, for the combined company on an unaudited pro forma combined
basis and for the combined company on an unaudited pro forma combined basis per
NetSilicon equivalent share, for the periods, and as of the dates, indicated.
Digi has not declared or paid any cash dividends on its common stock, and
Digi does not anticipate doing so in the foreseeable future.
The unaudited pro forma combined data below are for illustrative purposes
only. The companies may have performed differently had they always been
combined. You should not rely on this information as being indicative of the
historical results that would have been achieved had the companies always been
combined or the future results that the combined company will experience after
the merger.
You should read the information below together with our respective
historical financial statements and related notes contained in the annual
reports and information that have been filed with the SEC and that are
incorporated into this joint proxy statement/prospectus by reference. To obtain
copies of these documents, please see "Where You Can Find More Information"
beginning on page 97.
YEAR ENDED
SEPTEMBER 30, 2001
------------------
DIGI HISTORICAL PER COMMON SHARE DATA:
Net loss per share from continuing operations -- basic...... $(0.12)
Net loss per share from continuing operations -- diluted.... $(0.12)
Cash dividends.............................................. --
Net book value per common share............................. $ 7.39
NETSILICON HISTORICAL PER COMMON SHARE DATA:
Net loss per share -- basic................................. $(0.61)
Net loss per share -- diluted............................... $(0.61)
Cash dividends.............................................. --
Net book value per common share............................. $ 1.46
UNAUDITED PRO FORMA COMBINED PER DIGI COMMON SHARE DATA:
Net loss per share from continuing operations -- basic...... $(0.38)
Net loss per share from continuing operations -- diluted.... $(0.38)
Cash dividends.............................................. --
Net book value per common share............................. $ 6.99
UNAUDITED PRO FORMA CONSOLIDATED PER NETSILICON EQUIVALENT
COMMON SHARE DATA:
Net loss per share -- basic................................. $(0.25)
Net loss per share -- diluted............................... $(0.25)
Cash dividends.............................................. --
Net book value per common share............................. $ 4.54
15
RISK FACTORS
In addition to the other information included and incorporated by reference
in this joint proxy statement/prospectus, you should carefully read and consider
the following factors in evaluating the proposal relating to the merger to be
voted on at your company's meeting of stockholders.
RISKS RELATING TO THE MERGER
DIGI MAY FAIL TO REALIZE THE ANTICIPATED BENEFITS OF THE MERGER.
The merger involves the integration of two companies that have previously
operated independently. The success of the merger will depend, in part, on the
ability of Digi to realize the anticipated growth opportunities and synergies
from combining the businesses of Digi with the businesses of NetSilicon. For
Digi to realize the anticipated benefits of this combination, members of its
management team must develop strategies and implement a business plan that will
effectively:
- take advantage of the anticipated synergies related to the companies'
product lines, markets, and distribution channels;
- realize the anticipated opportunities for selling, joint-product
development, and joint-marketing and distribution of the products of Digi
and NetSilicon;
- increase revenues from new products;
- take advantage of cost savings through reductions in costs;
- integrate the policies, procedures, and operations of Digi and
NetSilicon;
- retain and attract key employees of the combined company, including
technical and sales personnel, during a period of transition and in light
of the competitive employment market; and
- while integrating the combined company's operations, maintain adequate
focus on the companies' core businesses in order to take advantage of
competitive opportunities and to respond to competitive challenges.
If members of the management team of Digi are not able to develop
strategies and implement a business plan that achieve these objectives, the
anticipated benefits of the merger may not be realized. In particular,
anticipated growth in earnings per share may not be realized, which could have
an adverse impact on the market price of shares of Digi common stock.
THE RISKS ASSOCIATED WITH THE COMBINED COMPANY WILL BE GREATER IN NUMBER THAN
THOSE ASSOCIATED WITH EACH COMPANY INDIVIDUALLY, AND SOME OF THESE RISKS MAY BE
EXACERBATED BY THE COMBINATION OF THE TWO COMPANIES.
Digi and NetSilicon each face a number of risks in the operation of their
businesses. Some of these risks are common to both companies, but some are
specific to each particular company. The risks associated with the combined
company will therefore be greater in number than those associated with each
company individually. Digi may not be successful in addressing these risks, and
some of these risks may be exacerbated by reason of the merger.
BECAUSE THE MARKET PRICE OF DIGI COMMON STOCK WILL VARY, NETSILICON
STOCKHOLDERS CANNOT BE SURE OF THE VALUE OF THE CONSIDERATION THEY WILL RECEIVE
IN THE MERGER.
For each share of NetSilicon common stock they hold at the effective time
of the merger, NetSilicon stockholders will receive .65 shares of Digi common
stock (or an approximately equivalent value in cash). There is no maximum or
minimum value imposed on the per-share consideration that NetSilicon
stockholders will receive in the merger. Because the market price of Digi common
stock will fluctuate based on general market and economic conditions, Digi's
business and prospects, and other factors, the
16
value of the shares of Digi common stock actually received by NetSilicon
stockholders will vary, even after the date of the NetSilicon stockholders
meeting.
FAILURE TO COMPLETE THE MERGER COULD NEGATIVELY IMPACT NETSILICON'S OR DIGI'S
STOCK PRICE AND FUTURE BUSINESS AND OPERATIONS.
If the merger is not completed for any reason, NetSilicon or Digi, or both,
may be subject to the following risks:
- if the merger is terminated and NetSilicon's board of directors
determines to seek another business combination, NetSilicon may not be
able to find a partner willing to pay an equivalent or more attractive
price than the price to be paid in the merger;
- if the merger is terminated and Digi's board of directors determines to
seek another business combination, Digi may not be able to find a
business opportunity as attractive as is presented by the merger;
- various costs related to the merger, including legal, accounting, and
financial advisory fees, must be paid by each company even if the merger
is not completed and, in some cases, a termination fee and expense
reimbursement must be paid by NetSilicon to Digi; and
- the price of the common stock of either or both companies may decline to
the extent that the current market price reflects an assumption that the
merger will be completed.
OUR COSTS RELATED TO THE MERGER MAY BE SIGNIFICANT.
We expect to incur merger-related expenses of approximately $6.5 million
through the quarter in which the merger occurs. These expenses include legal,
financial advisory, and accounting fees for both companies, regulatory filing
fees, financial printing, and listing fees. This estimate does not include the
anticipated costs associated with restructuring, integrating, and consolidating
the operations of the two companies. Digi expects that the savings from the
elimination of duplicative expenses and the realization of other efficiencies
related to the integration of the businesses may offset or exceed any additional
expenses in the future. However, Digi may not be able to achieve a net benefit
in the near future, or at all. Moreover, combining the businesses, even if
achieved in an efficient and effective manner, may not result in combined
financial results that are better than those that Digi and NetSilicon would have
accomplished independently.
RISKS RELATING TO DIGI
DIGI'S DEPENDENCE ON NEW PRODUCT DEVELOPMENT AND THE RAPID TECHNOLOGICAL CHANGE
THAT CHARACTERIZES DIGI'S INDUSTRY MAKE IT SUSCEPTIBLE TO LOSS OF MARKET SHARE
RESULTING FROM COMPETITORS' PRODUCT INTRODUCTIONS AND SIMILAR RISKS.
The data communications industry is characterized by rapidly changing
technologies, evolving industry standards, frequent new product introductions,
short product life cycles and rapidly changing customer requirements. The
introduction of products embodying new technologies and the emergence of new
industry standards can render existing products obsolete and unmarketable.
Digi's future success will depend on its ability to enhance its existing
products, to introduce new products to meet changing customer requirements and
emerging technologies, and to demonstrate the performance advantages and
cost-effectiveness of its products over competing products. Any failure by Digi
to modify its products to support new alternative technologies or any failure to
achieve widespread customer acceptance of such modified products could cause
Digi to lose market share and cause its revenues to decline.
Digi may experience delays in developing and marketing product enhancements
or new products that respond to technological change, evolving industry
standards and changing customer requirements. There can be no assurance that
Digi will not experience difficulties that could delay or prevent the successful
development, introduction, and marketing of these products or product
enhancements, or that its new
17
products and product enhancements will adequately meet the requirements of the
marketplace and achieve any significant or sustainable degree of market
acceptance in existing or additional markets. Failure by Digi, for technological
or other reasons, to develop and introduce new products and product enhancements
in a timely and cost-effective manner could have a material adverse effect on
Digi. In addition, the future introductions or announcements of products by Digi
or one of its competitors embodying new technologies or changes in industry
standards or customer requirements could render Digi's then-existing products
obsolete or unmarketable. There can be no assurance that the introduction or
announcement of new product offerings by Digi or one or more of its competitors
will not cause customers to defer the purchase of Digi's existing products,
which could cause its revenues to decline.
DIGI INTENDS TO CONTINUE TO DEVOTE SIGNIFICANT RESOURCES TO ITS RESEARCH AND
DEVELOPMENT, WHICH, IF NOT SUCCESSFUL, COULD CAUSE A DECLINE IN ITS REVENUES
AND HARM ITS BUSINESS.
Digi intends to continue to devote significant resources to research and
development in the coming years to enhance and develop additional products. For
the fiscal years ended 2001, 2000, and 1999, Digi's research and development
expenses comprised 14.1%, 15.2% and 11.3%, respectively, of total net sales. If
Digi is unable to develop new products as a result of its research and
development efforts, or if the products Digi develops are not successful, its
business could be harmed. Even if Digi develops new products that are accepted
by its target markets, the net revenues from these products may not be
sufficient to justify its investment in research and development.
CERTAIN OF DIGI'S PRODUCTS THAT GENERATE A SUBSTANTIAL AMOUNT OF ITS REVENUE
ARE SOLD INTO MATURE MARKETS, WHICH COULD LIMIT DIGI'S ABILITY TO GENERATE
REVENUE FROM THESE PRODUCTS.
Certain of Digi's products provide asynchronous and synchronous data
transmissions via add-on cards. The market for add-on asynchronous and
synchronous data communications cards is a mature market. These products
currently generate a substantial majority of Digi's revenues. As the overall
market for these products decreases due to the adoption of newer technologies,
Digi expects that its revenues from these products will continue to decline. As
a result, Digi's future prospects depend in large part on its ability to acquire
or develop and successfully market additional products that address growth
markets.
DIGI'S FAILURE TO EFFECTIVELY MANAGE PRODUCT TRANSITIONS COULD HAVE A MATERIAL
ADVERSE EFFECT ON DIGI'S REVENUES AND PROFITABILITY.
From time to time, Digi or its competitors may announce new products,
capabilities, or technologies that may replace or shorten the life cycles of
Digi's existing products. Announcements of currently planned or other new
products may cause customers to defer or stop purchasing Digi's products until
new products become available. Furthermore, the introduction of new or enhanced
products requires Digi to manage the transition from older product inventories
and ensure that adequate supplies of new products can be delivered to meet
customer demand. Digi's failure to effectively manage transitions from older
products could have a material adverse effect on Digi's revenues and
profitability.
DIGI'S FAILURE TO COMPETE SUCCESSFULLY IN ITS HIGHLY COMPETITIVE MARKET COULD
RESULT IN REDUCED PRICES AND LOSS OF MARKET SHARE.
The market in which Digi operates is characterized by rapid technological
advances and evolving industry standards. The market can be significantly
affected by new product introductions and marketing activities of industry
participants. Digi competes for customers on the basis of product performance in
relation to compatibility, support, quality and reliability, product development
capabilities, price, and availability. Certain of Digi's competitors and
potential competitors may have greater financial, technological, manufacturing,
marketing, and personnel resources than Digi. Present and future competitors may
be able to identify new markets and develop more quickly products which are
superior to those developed by Digi. They may also adapt new technologies
faster, devote greater resources to research and development, promote products
more aggressively, and price products more competitively than Digi. There
18
are no assurances that competition will not intensify or that Digi will be able
to compete effectively in the markets in which Digi competes.
DIGI'S CONCENTRATED CUSTOMER BASE INCREASES THE POTENTIAL ADVERSE EFFECT ON
DIGI FROM THE LOSS OF ONE OR MORE CUSTOMERS.
Digi's products have historically been sold into highly concentrated
customer markets. Two customers comprised more than 10% of net sales each during
the fiscal years ended 2001, 2000, and 1999: Tech Data at 13.9%, 13.4% and
15.4%, respectively, and Ingram Micro at 11.3%, 10.0% and 13.4%, respectively.
Digi's sales are primarily made on the basis of purchase orders rather than
under long-term agreements, and therefore, any customer could cease purchasing
Digi's products at any time without penalty. The decision of any key customer to
cease using Digi's products or a material decline in the number of units
purchased by a significant customer could have a material adverse effect on
Digi's revenues.
THE LONG AND VARIABLE SALES CYCLE FOR DIGI'S PRODUCTS MAKES IT MORE DIFFICULT
FOR DIGI TO PREDICT ITS OPERATING RESULTS AND MANAGE ITS BUSINESS.
The sale of Digi's products typically involves a significant technical
evaluation and commitment of capital and other resources by potential customers,
as well as delays frequently associated with customers' internal procedures to
deploy new technologies within their products and to test and accept new
technologies. For these and other reasons, the sales cycle associated with
Digi's products is typically lengthy and is subject to a number of significant
risks, including customers' internal acceptance reviews, that are beyond Digi's
control. Because of the lengthy sales cycle and the large size of customer
orders, if orders forecasted for a specific customer for a particular quarter
are not realized in that quarter, Digi's operating results for that quarter
could be materially adversely affected.
DIGI DEPENDS ON MANUFACTURING RELATIONSHIPS AND ON LIMITED-SOURCE SUPPLIERS,
AND ANY DISRUPTIONS IN THESE RELATIONSHIPS MAY CAUSE DAMAGE TO DIGI'S CUSTOMER
RELATIONSHIPS.
Digi procures all parts and certain services involved in the production of
its products and subcontracts most of its product manufacturing to outside firms
that specialize in such services. Although most of the components of Digi's
products are available from multiple vendors, Digi has several single-source
supplier relationships, either because alternative sources are not available or
because the relationship is advantageous to Digi. There can be no assurance that
Digi's suppliers will be able to meet Digi's future requirements for products
and components in a timely fashion. In addition, the availability of many of
these components to Digi is dependent in part on Digi's ability to provide its
suppliers with accurate forecasts of its future requirements. Delays or lost
sales could be caused by other factors beyond Digi's control, including late
deliveries by vendors of components. If Digi is required to identify alternative
suppliers for any of its required components, qualification and pre-production
periods could be lengthy and may cause delays in providing products to
customers. Any extended interruption in the supply of any of the key components
currently obtained from limited sources could disrupt Digi's operations and have
a material adverse effect on Digi's customer relationships and profitability.
DIGI'S ABILITY TO COMPETE COULD BE JEOPARDIZED IF DIGI IS UNABLE TO PROTECT
ITS INTELLECTUAL PROPERTY RIGHTS.
Digi's ability to compete depends in part on its proprietary rights and
technology. Although Digi has certain patents and patent applications and may
seek additional patents where appropriate for proprietary technology, Digi's
proprietary technology and products are generally not patented. Digi relies
primarily on the copyright, trademark, and trade secret laws to protect its
proprietary rights in its products.
Digi generally enters into confidentiality agreements with its employees,
and sometimes with its customers and potential customers, and limits access to
the distribution of its proprietary information. There can be no assurance that
the steps taken by Digi in this regard will be adequate to prevent the
misappropriation of its technology. Digi's pending patent applications may be
denied and any patents, once issued, may be circumvented by Digi's competitors.
Furthermore, there can be no assurance that others
19
will not develop technologies that are superior to Digi's. Despite Digi's
efforts to protect its proprietary rights, unauthorized parties may attempt to
copy aspects of its products or to obtain and use information that Digi regards
as proprietary. In addition, the laws of some foreign countries do not protect
Digi's proprietary rights as fully as do the laws of the United States. There
can be no assurance that Digi's means of protecting its proprietary rights in
the United States or abroad will be adequate or that competing companies will
not independently develop similar technology. Digi's failure to adequately
protect its proprietary rights could have a material adverse effect on Digi's
competitive position and result in loss of revenue.
FROM TIME TO TIME, DIGI IS SUBJECT TO CLAIMS AND LITIGATION REGARDING
INTELLECTUAL PROPERTY RIGHTS, WHICH COULD SERIOUSLY HARM DIGI AND REQUIRE DIGI
TO INCUR SIGNIFICANT COSTS.
The data communications industry is characterized by frequent litigation
regarding patent and other intellectual property rights. From time to time, Digi
receives notification of a third-party claim that its products infringe other
intellectual property rights. Any litigation to determine the validity of
third-party infringement claims, whether or not determined in Digi's favor or
settled by Digi, would at a minimum be costly and divert the efforts and
attention of Digi's management and technical personnel from productive tasks,
which could have a material adverse effect on Digi's ability to operate its
business and service the needs of its customers. There can be no assurance that
any infringement claims by third parties, if proven to have merit, will not
materially adversely affect Digi's business or financial condition. In the event
of an adverse ruling in any such matter, Digi may be required to pay substantial
damages, cease the manufacture, use and sale of infringing products, discontinue
the use of certain processes or be required to obtain a license under the
intellectual property rights of the third party claiming infringement. There can
be no assurance that a license would be available on reasonable terms or at all.
Any limitations on Digi's ability to market its products, or delays and costs
associated with redesigning its products or payments of license fees to third
parties, or any failure by Digi to develop or license a substitute technology on
commercially reasonable terms could have a material adverse effect on its
business and financial condition.
DIGI FACES RISKS ASSOCIATED WITH ITS INTERNATIONAL OPERATIONS AND EXPANSION
THAT COULD IMPAIR ITS ABILITY TO GROW ITS REVENUES ABROAD.
In the fiscal years ended September 30, 2001, 2000, and 1999, net sales to
customers outside the United States, primarily in Europe, were approximately
33.0%, 34.8% and 34.8%, respectively, of total net sales.
Digi believes that its future growth is dependent in part upon its ability
to increase sales in international markets. These sales are subject to a variety
of risks, including fluctuations in currency exchange rates, tariffs, import
restrictions and other trade barriers, unexpected changes in regulatory
requirements, longer accounts receivable payment cycles and potentially adverse
tax consequences, and export license requirements. In addition, Digi is subject
to the risks inherent in conducting business internationally, including
political and economic instability and unexpected changes in diplomatic and
trade relationships. There can be no assurance that one or more of these factors
will not have a material adverse effect on Digi's business strategy and
financial condition.
IF DIGI LOSES KEY PERSONNEL IT COULD PREVENT DIGI FROM EXECUTING ITS BUSINESS
STRATEGY.
Digi's business and prospects depend to a significant degree upon the
continuing contributions of its executive officers and its key technical
personnel. Competition for such personnel is intense, and there can be no
assurance that Digi will be successful in attracting and retaining qualified
personnel. Failure to attract and retain key personnel could result in Digi's
failure to execute its business strategy.
20
ANY ACQUISITIONS DIGI HAS MADE OR WILL MAKE COULD DISRUPT ITS BUSINESS AND
SERIOUSLY HARM ITS FINANCIAL CONDITION.
Digi will continue to consider acquisitions of complementary businesses,
products or technologies. In the event of any future purchases, Digi could:
- issue stock that would dilute Digi's current stockholders' percentage
ownership;
- incur debt;
- assume liabilities; or
- incur large and immediate write-offs.
Digi's operation of any acquired business will also involve numerous risks,
including:
- problems combining the purchased operations, technologies, or products;
- unanticipated costs;
- diversion of management's attention from Digi's core business;
- difficulties integrating businesses in different countries and cultures;
- adverse effects on existing business relationships with suppliers and
customers;
- risks associated with entering markets in which Digi has no or limited
prior experience; and
- potential loss of key employees, particularly those of the purchased
organization.
Digi cannot assure you that it will be able to successfully integrate any
businesses, products, technologies, or personnel that Digi has acquired or that
Digi might acquire in the future and any failure to do so could disrupt its
business and have a material adverse effect on its financial condition and
results of operations. Moreover, from time to time Digi may enter into
negotiations for a proposed acquisition, but be unable or unwilling to
consummate the acquisition under consideration. This could cause significant
diversion of management's attention and out-of-pocket expenses to Digi. Digi
could also be exposed to litigation as a result of an unconsummated acquisition,
including claims that it failed to negotiate in good faith or misappropriated
confidential information.
RISKS RELATING TO NETSILICON
NETSILICON HAS A HISTORY OF LOSSES AND AN ACCUMULATED DEFICIT THAT MAKE FUTURE
OPERATING RESULTS AND PROFITABILITY DIFFICULT TO PREDICT.
NetSilicon incurred net losses from continuing operations for the fiscal
years ended January 31, 1997, 1998, 1999 and 2001. At January 31, 2001,
NetSilicon had an accumulated deficit of $3.6 million. There can be no assurance
that NetSilicon will be able to achieve profitability on a quarterly or annual
basis in the future. In addition, revenue growth is not necessarily indicative
of future operating results and there can be no assurance that NetSilicon will
be able to sustain revenue growth. NetSilicon continues to invest significant
financial resources in product development, marketing and sales, and a failure
of such expenditures to result in significant increases in revenue could have a
material adverse effect on NetSilicon. Due to the limited history and
undetermined market acceptance of its new products, the rapidly evolving nature
of its business and markets, potential changes in product standards that
significantly influence many of the markets for its products, the high level of
competition in the industries in which it operates and the other factors
described elsewhere in "Risks Relating to NetSilicon," there can be no assurance
that NetSilicon's investment in these areas will result in increases in revenue
or that any revenue growth that is achieved can be sustained. NetSilicon's
history of losses, coupled with the factors described below, make future
operating results difficult to predict. NetSilicon and its future prospects must
be considered in light of the risks, costs and difficulties frequently
encountered by emerging companies. As a result, there can be no assurance that
NetSilicon will be profitable in any future period.
21
THE UNPREDICTABILITY OF NETSILICON'S QUARTERLY RESULTS MAY ADVERSELY AFFECT THE
TRADING PRICE OF ITS COMMON STOCK.
NetSilicon's net sales and operating results have in the past and may in
the future fluctuate substantially from quarter to quarter and from year to
year. These results have varied significantly due to a number of factors,
including:
- market acceptance of and demand for NetSilicon's products and those of
its customers;
- unanticipated delays or problems in the introduction of its products;
- the timing of large customer orders;
- the timing and success of its customers' development cycles;
- NetSilicon's ability to introduce new products in accordance with
customer design requirements and design cycles;
- new product announcements or product introductions by NetSilicon and its
competitors;
- availability and cost of manufacturing sources for NetSilicon's products;
- the volume of orders that are received and can be filled in a quarter;
- the rescheduling or cancellation of orders by customers;
- changes in product mix;
- timing of "design wins" with NetSilicon's customers and related revenue;
and
- changes in currency exchange rates.
NetSilicon's operating results could also be harmed by:
- the growth rate of markets into which NetSilicon sells its products;
- changes in the mix of sales to customers and sales representatives;
- costs associated with protecting NetSilicon's intellectual property; and
- changes in product costs and pricing by NetSilicon and its competitors.
NetSilicon budgets expenses based in part on future revenue projections.
NetSilicon may be unable to adjust spending in a timely manner in response to
any unanticipated declines in revenues.
As a result of these and other factors, investors should not rely solely
upon period-to-period comparisons of NetSilicon's operating results as an
indication of future performance. It is likely that in some future period
NetSilicon's operating results or business outlook will be below the
expectations of securities analysts or investors, which would likely result in a
significant reduction in the market price of the shares of common stock.
NETSILICON'S FAILURE TO INCREASE SALES TO MANUFACTURERS OF INTELLIGENT,
NETWORK-ENABLED DEVICES AND OTHER EMBEDDED SYSTEMS WILL ADVERSELY AFFECT ITS
FINANCIAL RESULTS.
NetSilicon's financial performance and future growth are dependent upon its
ability to sell its products to manufacturers of intelligent, network-enabled
devices and other embedded systems in various markets, including markets in
which networking solutions for embedded systems have not historically been sold,
such as the industrial automation equipment, data acquisition and test
equipment, Internet devices and security equipment markets. A substantial
portion of NetSilicon's recent development efforts have been directed toward the
development of new products for markets that are new and rapidly evolving. There
can be no assurance that:
- the additional intelligent device markets targeted by NetSilicon for its
products and services will develop;
22
- developers within each market targeted by NetSilicon will choose its
products and services to meet their needs;
- NetSilicon will successfully develop products to meet the
industry-specific requirements of developers in its targeted markets or
that design wins will result in significant sales; or
- developers in NetSilicon's targeted markets will gain market acceptance
for their devices which incorporate its products.
NetSilicon has limited experience in designing its products to meet the
requirements of developers in these industries. Moreover, NetSilicon's products
and services have, to date, achieved limited acceptance in these industries.
NETSILICON IS DEPENDENT ON THE IMAGING MARKET FOR A LARGE PORTION OF ITS
REVENUES.
The imaging market has historically accounted for substantially all of
NetSilicon's revenues. In the fiscal years ended January 31, 2001, 2000 and
1999, 79%, 95% and 95%, respectively, of NetSilicon's revenues were generated
from customers in the imaging market. NetSilicon's success has been and
continues to be dependent on the continued success of the imaging market. Many
of NetSilicon's customers face competition from larger, more established
companies which may exert competitive or other pressures on them. Any decline in
sales to the imaging market would have a material adverse effect on NetSilicon's
business, results of operations and financial condition.
Due in part to an economic slowdown affecting NetSilicon's imaging
customers, NetSilicon anticipates a decline in imaging revenue growth in fiscal
year 2002 which will adversely affect its results of operations and financial
condition.
The imaging market is characterized by declining prices of existing
products and a transition from higher priced network interface cards to
semiconductor devices. Therefore, continual improvements in manufacturing
efficiencies and the introduction of new products and enhancements to existing
products are required for NetSilicon to maintain its gross margins. In response
to customer demands or competitive pressures, or to pursue new product or market
opportunities, NetSilicon may take certain pricing or marketing actions, such as
price reductions or volume discounts. These actions could have a material
adverse effect on NetSilicon.
A significant amount of NetSilicon's customers in the imaging market are
headquartered in Japan. NetSilicon's customers are subject to declines in their
local economies, which have affected them from time to time in the past and may
affect them in the future. The success of NetSilicon's customers affects their
purchases from NetSilicon.
NETSILICON'S HIGHLY CONCENTRATED CUSTOMER BASE INCREASES THE POTENTIAL ADVERSE
EFFECT ON NETSILICON FROM THE LOSS OF ONE OR MORE CUSTOMERS.
NetSilicon's products have historically been sold into the imaging markets
for use in products such as printers, scanners, fax machines, copiers and
multi-function peripherals. This market is highly concentrated. Accordingly,
NetSilicon's sales are derived from a limited number of customers, with the top
five OEM customers accounting for 55%, 72% and 52% of total revenues for the
fiscal years ended 2001, 2000 and 1999, respectively. In particular, sales to
Dimatech, which was acquired by NetSilicon in February 2001, and Ricoh accounted
for 23% and 20% of total revenues, respectively, for the fiscal year ended
January 31, 2001. NetSilicon expects that a small number of customers will
continue to account for a substantial portion of its total revenues for the
foreseeable future. All of NetSilicon's sales are made on the basis of purchase
orders rather than under long-term agreements, and therefore, any customer could
cease purchasing NetSilicon's products at any time without penalty. The decision
of any key customer to cease using NetSilicon's products or a material decline
in the number of units purchased by a significant customer would have a material
adverse effect on NetSilicon.
23
THE LONG AND VARIABLE SALES CYCLE FOR NETSILICON'S PRODUCTS MAKES IT MORE
DIFFICULT FOR NETSILICON TO PREDICT ITS OPERATING RESULTS AND MANAGE ITS
BUSINESS.
The sale of NetSilicon's products typically involves a significant
technical evaluation and commitment of capital and other resources by potential
customers, as well as delays frequently associated with customers' internal
procedures to deploy new technologies within their products and to test and
accept new technologies. For these and other reasons, the sales cycle associated
with NetSilicon's products is typically lengthy, lasting nine months or longer,
and is subject to a number of significant risks, including customers' internal
acceptance reviews, that are beyond NetSilicon's control. Because of the lengthy
sales cycle and the large size of customer orders, if orders forecasted for a
specific customer for a particular quarter are not realized in that quarter,
NetSilicon's operating results for that quarter could be materially adversely
affected.
NETSILICON'S RELATIVELY LOW LEVEL OF BACKLOG INCREASES THE POTENTIAL
VARIABILITY OF NETSILICON'S QUARTERLY OPERATING RESULTS.
NetSilicon's backlog at the beginning of each quarter typically is not
sufficient to achieve expected sales for the quarter. To achieve its sales
objectives, NetSilicon is dependent upon obtaining orders during each quarter
for shipment during that quarter. Furthermore, NetSilicon's agreements with its
customers typically permit them to change delivery schedules.
Non-imaging customers may cancel orders within specified time frames
(typically 30 days or more prior to the scheduled shipment date under
NetSilicon's policies) without significant penalty. NetSilicon's customers have
in the past built, and may in the future build, significant inventory in order
to facilitate more rapid deployment of anticipated major products or for other
reasons. Decisions by such customers to reduce their inventory levels have led
and could lead to reductions in their purchases from NetSilicon. These
reductions, in turn, have caused and could cause adverse fluctuations in
NetSilicon's operating results.
NETSILICON'S DEPENDENCE ON NEW PRODUCT DEVELOPMENT AND THE RAPID TECHNOLOGICAL
CHANGE THAT CHARACTERIZES NETSILICON'S INDUSTRY MAKE IT SUSCEPTIBLE TO LOSS OF
MARKET SHARE RESULTING FROM COMPETITORS' PRODUCT INTRODUCTIONS AND SIMILAR
RISKS.
The semiconductor and networking industries are characterized by rapidly
changing technologies, evolving industry standards, frequent new product
introductions, short product life cycles and rapidly changing customer
requirements. The introduction of products embodying new technologies and the
emergence of new industry standards can render existing products obsolete and
unmarketable. NetSilicon's future success will depend on its ability to enhance
its existing products, to introduce new products to meet changing customer
requirements and emerging technologies, and to demonstrate the performance
advantages and cost-effectiveness of our products over competing products. Any
failure by NetSilicon to modify its products to support new local-area network,
or LAN, wide-area network, or WAN, and Internet technologies, or alternative
technologies, or any failure to achieve widespread customer acceptance of such
modified products could have a material adverse effect on NetSilicon.
NetSilicon has in the past and may in the future experience delays in
developing and marketing product enhancements or new products that respond to
technological change, evolving industry standards and changing customer
requirements. There can be no assurance that NetSilicon will not experience
difficulties that could delay or prevent the successful development,
introduction and marketing of these products or product enhancements, or that
its new products and product enhancements will adequately meet the requirements
of the marketplace and achieve any significant or sustainable degree of market
acceptance in existing or additional markets. Failure by NetSilicon, for
technological or other reasons, to develop and introduce new products and
product enhancements in a timely and cost-effective manner would have a material
adverse effect on NetSilicon. In addition, the future introductions or
announcements of products by NetSilicon or one of its competitors embodying new
technologies or changes in industry standards or customer requirements could
render NetSilicon's then-existing products obsolete or
24
unmarketable. There can be no assurance that the introduction or announcement of
new product offerings by NetSilicon or one or more of its competitors will not
cause customers to defer the purchase of NetSilicon's existing products. Such
deferment of purchases could have a material adverse effect on NetSilicon.
NETSILICON'S FAILURE TO EFFECTIVELY MANAGE PRODUCT TRANSITIONS COULD HAVE A
MATERIAL ADVERSE EFFECT ON NETSILICON.
From time to time, NetSilicon or its competitors may announce new products,
capabilities or technologies that may replace or shorten the life cycles of
NetSilicon's existing products. Announcements of currently planned or other new
products may cause customers to defer or stop purchasing NetSilicon's products
until new products become available. Furthermore, the introduction of new or
enhanced products requires NetSilicon to manage the transition from older
product inventories and ensure that adequate supplies of new products can be
delivered to meet customer demand. NetSilicon's failure to effectively manage
transitions from older products could have a material adverse effect on
NetSilicon's business, results of operations and financial condition.
NETSILICON'S FAILURE TO COMPETE SUCCESSFULLY IN ITS HIGHLY COMPETITIVE MARKET
COULD RESULT IN REDUCED PRICES AND LOSS OF MARKET SHARE.
The markets in which NetSilicon operates are intensely competitive and
characterized by rapidly changing technology, evolving industry standards,
declining average selling prices and frequent new product introductions. A
number of companies offer products that compete with one or more elements of
NetSilicon's products. NetSilicon believes that the competitive factors
affecting the market for its products include product performance, price and
quality, product functionality and features, the availability of products for
existing and future platforms, the ease of integration with other hardware and
software components of the customer's products, and the quality of support
services, product documentation and training. The relative importance of each of
these factors depends upon the specific customer involved. There can be no
assurance that NetSilicon will be able to compete successfully against current
and future competitors, or that competitive factors faced by NetSilicon will not
have a material adverse effect on NetSilicon.
NetSilicon primarily competes with the internal development departments of
large manufacturing companies that have developed their own networking
solutions, as well as established developers of embedded systems software and
chips such as Axis Communications, Echelon, Emulex, Hitachi, Intel, MiLAN
Technology (a division of Digi), Motorola, Peerless Systems, Samsung and Wind
River. In addition, NetSilicon is aware of certain companies which have recently
introduced products that address the markets targeted by NetSilicon. NetSilicon
has experienced and expects to continue to experience increased competition from
current and potential competitors, many of which have substantially greater
financial, technical, sales, marketing and other resources, as well as greater
name recognition and larger customer bases than NetSilicon. In particular,
established companies in the networking or semiconductor industries may seek to
expand their product offerings by designing and selling products using
competitive technology that could render NetSilicon's products obsolete or have
a material adverse effect on NetSilicon's sales. Increased competition may
result in further price reductions, reduced gross margins and loss of market
share.
NETSILICON DEPENDS ON THIRD-PARTY SOFTWARE THAT NETSILICON USES UNDER LICENSES
THAT MAY EXPIRE, WHICH COULD RESULT IN INCREASED COSTS, DELAYS OR REDUCTIONS IN
PRODUCT SHIPMENTS.
NetSilicon relies on certain software that NetSilicon licenses from third
parties, including software that is integrated with internally developed
software and used in NetSilicon's products to perform key functions. These
software license agreements are with Express Logic, Inc., Allegro Software
Development Corporation and Wind River, each of which terminates only if
NetSilicon defaults under the respective agreement; with Novell, Inc., which is
renewable annually at the option of both parties; with InterNiche Technologies,
Inc., which renews until terminated by either party; and with Peerless Systems
Corporation,
25
which expires in 2004 and is subject to year-to-year renewals thereafter at the
option of both parties. These third-party software licenses may not continue to
be available to NetSilicon on commercially reasonable terms, and the related
software may not continue to be appropriately supported, maintained or enhanced
by the licensors. The loss of licenses to use, or the inability of licensors to
support, maintain, and enhance any of such software, could result in increased
costs, delays or reductions in product shipments until equivalent software is
developed or licensed, if at all, and integrated.
NETSILICON DEPENDS ON MANUFACTURING, ASSEMBLING AND PRODUCT TESTING
RELATIONSHIPS AND ON LIMITED SOURCE SUPPLIERS, AND ANY DISRUPTIONS IN THESE
RELATIONSHIPS MAY CAUSE DAMAGE TO NETSILICON'S CUSTOMER RELATIONSHIPS.
NetSilicon does not have its own semiconductor fabrication assembly or
testing operations or contract manufacturing capabilities. Instead, NetSilicon
relies upon independent contractors to manufacture its components,
subassemblies, systems and products. Currently, all of NetSilicon's
semiconductor devices are being manufactured, assembled and tested by Atmel
Corporation in the United States and Europe, and NetSilicon expects that it will
continue to rely upon Atmel, or a similar manufacturer, to manufacture, assemble
and test a significant portion of its semiconductor devices in the future. In
the past, NetSilicon experienced a delay in the introduction of one of its
products due to a problem with Atmel's design tools. While NetSilicon is in the
process of qualifying other suppliers, any qualification and pre-production
periods could be lengthy and may cause delays in providing products to customers
in the event that the sole source supplier of the semiconductor devices fails to
meet NetSilicon's requirements. For example, Atmel uses its manufacturing
facilities for its own products as well as those it manufactures on a contract
basis. There is no assurance that Atmel will have adequate capacity to meet the
needs of its contract manufacturing customers. In addition, semiconductor
manufacturers generally experience periodic constraints on their manufacturing
capacity.
NetSilicon also relies upon limited-source suppliers for a number of other
components used in its products. There can be no assurance that these
independent contractors and suppliers will be able to meet NetSilicon's future
requirements for manufactured products, components and subassemblies in a timely
fashion. NetSilicon generally purchases limited-source components under purchase
orders and has no guaranteed supply arrangements with these suppliers. In
addition, the availability of many of these components to NetSilicon is
dependent in part on NetSilicon's ability to provide its suppliers with accurate
forecasts of its future requirements. Any extended interruption in the supply of
any of the key components currently obtained from limited sources would disrupt
NetSilicon's operations and have a material adverse effect on NetSilicon's
business, results of operations and financial condition.
Delays or lost sales have been and could be caused by other factors beyond
NetSilicon's control, including late deliveries by vendors of components,
changes in implementation priorities or slower than anticipated growth in the
market for networking solutions for embedded systems. Operating results in the
past have also been adversely affected by delays in receipt of significant
purchase orders from customers. In addition, NetSilicon has experienced delays
as a result of the need to modify its products to comply with unique customer
specifications. In general, the timing and magnitude of NetSilicon's revenues
are highly dependent upon its achievement of design wins, the timing and success
of its customers' development cycles, and its customers' product sales. Any of
these factors could have a material adverse effect on NetSilicon's business,
results of operations and financial condition.
THE CYCLICALITY OF THE SEMICONDUCTOR INDUSTRY MAY RESULT IN SUBSTANTIAL
PERIOD-TO-PERIOD FLUCTUATIONS.
NetSilicon's semiconductor products provide networking capabilities for
intelligent, network-enabled devices and other embedded systems. The
semiconductor industry is highly cyclical and subject to rapid technological
change and has been subject to significant economic downturns at various times,
characterized by diminished product demand, accelerated erosion of average
selling prices and production overcapacity. The semiconductor industry also
periodically experiences increased demand and production capacity constraints.
As a result, NetSilicon may experience substantial period-to-period fluctuations
in
26
future operating results due to general semiconductor industry conditions,
overall economic conditions or other factors.
NETSILICON'S ABILITY TO COMPETE COULD BE JEOPARDIZED IF NETSILICON IS UNABLE TO
PROTECT ITS INTELLECTUAL PROPERTY RIGHTS.
NetSilicon's ability to compete depends in part on its proprietary rights
and technology. NetSilicon has one patent and relies primarily on a combination
of copyright and trademark laws, trade secrets, confidentiality procedures and
contract provisions to protect it proprietary rights.
NetSilicon generally enters into confidentiality agreements with its
employees, and sometimes with its customers and potential customers and limits
access to the distribution of its software, hardware designs, documentation and
other proprietary information. There can be no assurance that the steps taken by
NetSilicon in this regard will be adequate to prevent the misappropriation of
its technology. NetSilicon's patents may be circumvented by NetSilicon's
competitors, and its current and future patent applications may be denied.
Furthermore, there can be no assurance that others will not develop technologies
that are superior to NetSilicon's. Despite NetSilicon's efforts to protect its
proprietary rights, unauthorized parties may attempt to copy aspects of its
products or to obtain and use information that NetSilicon regards as
proprietary. In addition, the laws of some foreign countries do not protect
NetSilicon's proprietary rights as fully as do the laws of the United States.
There can be no assurance that NetSilicon's means of protecting its proprietary
rights in the United States or abroad will be adequate or that competing
companies will not independently develop similar technology. NetSilicon's
failure to adequately protect its proprietary rights could have a material
adverse effect on its business, results of operations and financial condition.
NetSilicon exclusively licenses the right to use the NET+ARM trademark from
ARM Limited according to a royalty-free agreement expiring in 2008. NetSilicon
depends on ARM to enforce its rights to the trademark against third-party
infringement. There can be no assurance that ARM will promptly and adequately
enforce these rights, which could have a material adverse effect on NetSilicon's
business, results of operations and financial condition.
NETSILICON COULD BECOME SUBJECT TO CLAIMS AND LITIGATION REGARDING INTELLECTUAL
PROPERTY RIGHTS, WHICH COULD SERIOUSLY HARM NETSILICON AND REQUIRE NETSILICON
TO INCUR SIGNIFICANT COSTS.
The semiconductor and networking industries are characterized by frequent
litigation regarding patent and other intellectual property rights. Although
NetSilicon has not been notified that its products infringe any third-party
intellectual property rights, there can be no assurance that NetSilicon will not
receive such notification in the future. Any litigation to determine the
validity of third-party infringement claims, whether or not determined in
NetSilicon's favor or settled by NetSilicon, would at a minimum be costly and
divert the efforts and attention of NetSilicon's management and technical
personnel from productive tasks, which could have a material adverse effect on
its business, results of operations and financial condition. There can be no
assurance that any infringement claims by third parties or any claims for
indemnification by customers or end users of NetSilicon's products resulting
from infringement claims will not be asserted in the future or that such
assertions, if proven to have merit, will not materially adversely affect
NetSilicon's business, results of operations or financial condition. In the
event of an adverse ruling in any such matter, NetSilicon would be required to
pay substantial damages, cease the manufacture, use and sale of infringing
products, discontinue the use of certain processes or be required to obtain a
license under the intellectual property rights of the third party claiming
infringement. There can be no assurance that a license would be available on
reasonable terms or at all. Any limitations on NetSilicon's ability to market
its products, or delays and costs associated with redesigning its products or
payments of license fees to third parties, or any failure by NetSilicon to
develop or license a substitute technology on commercially reasonable terms
could have a material adverse effect on its business, results of operations and
financial condition.
27
NETSILICON FACES RISKS ASSOCIATED WITH ITS INTERNATIONAL OPERATIONS AND
EXPANSION THAT COULD IMPAIR ITS ABILITY TO GROW ITS REVENUES ABROAD.
In the fiscal years ended January 31, 2001, 2000 and 1999, international
sales constituted approximately 55%, 50% and 51% of NetSilicon's net sales,
respectively, and approximately 68%, 77% and 46% of NetSilicon's domestic sales
were to customers headquartered in Asia during the fiscal years ended January
31, 2001, 2000 and 1999, respectively.
NetSilicon believes that its future growth is dependent in part upon its
ability to increase sales in international markets, and particularly to
manufacturers located in Japan, which sell their products worldwide. These sales
are subject to a variety of risks, including fluctuations in currency exchange
rates, tariffs, import restrictions and other trade barriers, unexpected changes
in regulatory requirements, longer accounts receivable payment cycles and
potentially adverse tax consequences and export license requirements. In
addition, NetSilicon is subject to the risks inherent in conducting business
internationally, including political and economic instability and unexpected
changes in diplomatic and trade relationships. In particular, the economies of
certain countries in the Asia-Pacific region are experiencing considerable
economic instability and downturns. Because NetSilicon's sales to date have been
denominated in United States dollars, increases in the value of the United
States dollar could increase the price in local currencies of NetSilicon's
products in non-US markets and make its products more expensive than
competitors' products denominated in local currencies. In addition, an integral
part of NetSilicon's business strategy is to form strategic alliances for the
manufacture and distribution of its products with third parties, including
foreign corporations. There can be no assurance that one or more of the factors
described above will not have a material adverse effect on NetSilicon's
business, results of operations and financial condition.
NetSilicon intends to expand its presence in Europe to address new markets.
One change resulting from the formation of a European Economic and Monetary
Union ("EMU") required EMU member states to irrevocably fix their respective
currencies to a new currency, the euro, as of January 1, 1999. Business in the
EMU member states will be conducted in both the existing national currency such
as the French franc or the Deutsche mark, and the euro through 2002. As a
result, companies operating or conducting business in EMU member states will
need to ensure that their financial and other software systems are capable of
processing transactions and properly handling these currencies, including the
euro. There can be no assurance that the conversion to the euro will not have a
material adverse effect on NetSilicon's business, results of operations and
financial condition.
IF NETSILICON LOSES KEY PERSONNEL IT COULD PREVENT NETSILICON FROM EXECUTING
ITS BUSINESS STRATEGY.
NetSilicon's business and prospects depend to a significant degree upon the
continuing contributions of its executive officers and its key technical
personnel. Competition for such personnel is intense, and there can be no
assurance that NetSilicon will be successful in attracting and retaining
qualified personnel. NetSilicon's stock price and the number of options
outstanding with exercise prices in excess of their market price could make it
more difficult to attract and retain key personnel. Failure to attract and
retain key personnel could result in NetSilicon's failure to execute its
business strategy and have a material adverse effect on NetSilicon. NetSilicon
has employment contracts with its Vice President, Intelligent Device Markets
Europe; Vice President, Imaging; Executive Vice President, Finance and
Operations and Chief Financial Officer; and the Chairman and Chief Executive
Officer. NetSilicon does not maintain any key-man life insurance policies.
ANY FAILURE TO COMPLY WITH SIGNIFICANT REGULATIONS AND EVOLVING INDUSTRY
STANDARDS COULD DELAY INTRODUCTION OF NETSILICON'S PRODUCTS.
The market for NetSilicon's products is subject to a significant number of
communications regulations and industry standards, some of which are evolving as
new technologies are deployed. In the United States, its products must comply
with various regulations defined by the Federal Communications Commission and
standards established by Underwriters' Laboratories. Some of NetSilicon's
products may not comply with current industry standards, and this noncompliance
must be addressed in the design of
28
those products. Standards for networking are still evolving. As the standards
evolve, NetSilicon may be required to modify its products or develop and support
new versions of its products. The failure of NetSilicon's products to comply, or
delays in compliance, with the various existing and evolving industry standards
could delay introduction of its products, which could have a material adverse
effect on NetSilicon's business, results of operations and financial condition.
ANY MATERIAL PRODUCT DEFECTS COULD RESULT IN LOSS OF MARKET SHARE, DELAY OF
MARKET ACCEPTANCE OR PRODUCT LIABILITY CLAIMS OR LOSSES.
Complex products such as those offered by NetSilicon may contain undetected
or unresolved defects when first introduced or as new versions are released. The
occurrence of material errors in the future could, and the failure or inability
to correct such errors would, result in the loss of market share, the delay or
loss of market acceptance of NetSilicon's products, material warranty expense,
diversion of engineering and other resources from NetSilicon's product
development efforts, the loss of credibility with its customers or product
recall. The use of NetSilicon's products for applications in devices that
interact directly with the general public, where the failure of the embedded
system could cause property damage or personal injury, could expose NetSilicon
to significant product liability claims. Although NetSilicon has not experienced
any product liability or economic loss claims to date, the sale and support of
its products may entail the risk of such claims. Any of such occurrences could
have a material adverse effect upon NetSilicon's business, results of operations
and financial condition.
NETSILICON'S FAILURE TO SUCCESSFULLY MANAGE ITS GROWTH COULD HAVE A MATERIAL
ADVERSE EFFECT ON NETSILICON.
NetSilicon has limited internal infrastructure and any significant growth
would place a substantial strain on its financial and management personnel and
information systems and controls. Such growth would require NetSilicon to
implement new and enhance existing financial and management information systems
and controls and add and train personnel to operate such systems effectively.
NetSilicon's intention to continue to pursue its growth strategy through efforts
to increase sales of existing products and new products can be expected to place
even greater pressure on its existing personnel and compound the need for
increased personnel, expanded information systems, and additional financial and
administrative control procedures. There can be no assurance that NetSilicon
will be able to successfully manage expanding operations. NetSilicon's inability
to manage its expanded operations effectively could have a material adverse
effect on NetSilicon's business, results of operations and financial condition.
CAUTIONARY STATEMENT CONCERNING FORWARD-LOOKING STATEMENTS
This joint proxy statement/prospectus contains "forward-looking statements"
within the meaning of section 27A of the Securities Act of 1933 and section 21E
of the Securities Exchange Act of 1934 with respect to the merger and financial
condition, results of operations, plans, objectives, future performance, and
business of Digi and NetSilicon, which are usually identified by the use of
words such as "will," "may," "anticipates," "believes," "estimates," "expects,"
"projects," "plans," "predicts," "continues," "intends," "should," "would," or
similar expressions. Digi and NetSilicon intend for these forward-looking
statements to be covered by the safe-harbor provisions for forward-looking
statements contained in the Private Securities Litigation Reform Act of 1995 and
are including this statement for purposes of complying with these safe-harbor
provisions.
These forward-looking statements reflect current views and expectations
about the relevant company's plans, strategies, and prospects, which are based
on the information currently available and on current assumptions.
Although each company believes that its plans, intentions, and expectations
as reflected in or suggested by these forward-looking statements are reasonable,
it can give no assurance that the plans, intentions, or expectations will be
achieved. Investors are cautioned that all forward-looking statements involve
risks and uncertainties and actual results may differ materially from those
discussed as a result of various factors including those factors described in
the "Risk Factors" section of this joint proxy
29
statement/prospectus. Listed below and discussed elsewhere in this joint proxy
statement/prospectus are some important risks, uncertainties, and contingencies
that could cause actual results, performances or achievements of Digi,
NetSilicon, or the combined company to be materially different from the forward-
looking statements made in this joint proxy statement/prospectus. These risks,
uncertainties and contingencies include, but are not limited to, the following:
- the risk that the merger may not be completed due to the failure to
obtain necessary stockholder approvals or other conditions to completion
of the transactions not being satisfied;
- the possibility that the combined company will be unable to realize the
anticipated benefits and synergies of the merger;
- difficulties associated with successfully integrating Digi's and
NetSilicon's businesses and technologies and the costs associated with
this integration;
- the possible failure of the combined company to retain and hire key
executives, technical personnel, and other employees;
- difficulties associated with the combined company managing its growth and
the difficulty of successfully managing a larger organization;
- the possible failure of the combined company to successfully manage its
changing relationships with customers, suppliers, distributors, and
strategic partners;
- risks relating to Digi's and NetSilicon's businesses and how they could
affect the operations of the combined company;
- the combined company's ability to maintain customer acceptance of its
products by meeting shifting consumer demands and changing requirements;
- government laws and regulations affecting domestic and foreign
operations, including those relating to trade, monetary and fiscal
policies, and taxes;
- competitive factors and industry trends, technological advances achieved,
and patents obtained by competitors and the relevant company's ability to
respond to those actions; and
- economic factors, including inflation and fluctuations in interest rates
and foreign currency exchange rates and the potential effect of these
fluctuations on revenues, expenses, and resulting margins.
In addition, events may occur in the future that we are not able to
accurately predict or control and that may cause actual results to differ
materially from the expectations described in the forward-looking statements.
Readers should not place undue reliance on the forward-looking statements
contained in this joint proxy statement/prospectus. These forward-looking
statements speak only as of the date on which the statements were made. In
evaluating forward-looking statements, you should consider these risks and
uncertainties, together with the other risks described from time to time in
Digi's and NetSilicon's reports and documents filed with the SEC.
NEITHER DIGI NOR NETSILICON ASSUMES ANY OBLIGATION TO UPDATE ANY OF THESE
FORWARD-LOOKING STATEMENTS TO REFLECT EVENTS OR CIRCUMSTANCES AFTER THE DATE OF
THIS JOINT PROXY STATEMENT/PROSPECTUS.
30
THE DIGI STOCKHOLDERS MEETING
TIME AND PLACE; MATTERS TO BE CONSIDERED
The enclosed proxy is solicited by the board of directors of Digi for use
at the special meeting of stockholders to be held on February 13, 2002 at 9:00
a.m., Central Time, at Digi's headquarters, 11001 Bren Road East, Minnetonka,
Minnesota, 55343, and at any adjournments of the meeting. At the Digi special
stockholders meeting, stockholders of Digi will vote on a proposal to approve
the issuance of shares in the merger.
THE DIGI BOARD OF DIRECTORS HAS APPROVED THE MERGER AGREEMENT AND THE
MERGER AND RECOMMENDS THAT STOCKHOLDERS OF DIGI VOTE "FOR" THE PROPOSAL.
RECORD DATE; QUORUM
Only holders of record of Digi common stock at the close of business on
December 17, 2001 are entitled to receive notice of and vote at the Digi special
stockholders meeting. As of that date, there were 15,374,947 shares of Digi
common stock entitled to vote, held by 250 holders of record. Each share of Digi
common stock is entitled to one vote. Holders of a majority of the outstanding
shares of Digi common stock entitled to vote, present in person or represented
by proxy, will constitute a quorum for the transaction of business at the Digi
special stockholders meeting.
We will have a list of Digi stockholders entitled to vote at the Digi
special stockholders meeting available during normal business hours at the
offices of Digi, 11001 Bren Road East, Minnetonka, Minnesota 55343, for the
ten-day period before the Digi special stockholders meeting, and also at the
special stockholders meeting.
VOTES REQUIRED
Stock Issuance. The affirmative vote of the holders of a majority of the
total number of shares of Digi common stock present in person or by proxy at the
Digi special stockholders meeting is required to approve the issuance of shares
in the merger.
On December 17, 2001, Digi directors and executive officers and persons and
entities affiliated with them owned and were entitled to vote 91,884 shares of
Digi common stock. These shares represented less than one percent of the
outstanding shares of Digi common stock on the record date. All of the directors
and executive officers of Digi, have entered into a voting agreement with
NetSilicon in which they have agreed to vote all of their shares of Digi common
stock in favor of the issuance of shares in connection with the merger.
Votes at the special stockholders meeting will be tabulated by an
independent inspector of election appointed by Digi or by Digi's transfer agent.
HOW PROXIES WILL BE VOTED
Joseph Dunsmore and Subramanian Krishnan, both of whom are executive
officers of Digi, have been named as proxies in the Digi proxy. Shares
represented by a proxy will be voted at the special stockholders meeting as
specified in the proxy. Properly executed proxies that do not contain voting
instructions will be voted "FOR" the approval of the issuance of shares in the
merger. The proxies will be entitled to vote in their discretion on any other
matters that may properly come before the meeting.
TREATMENT OF ABSTENTIONS AND BROKER NON-VOTES
If you submit a proxy that indicates an abstention from voting, your shares
will be counted as present for purposes of determining the existence of a
quorum, but they will not be voted on the merger proposal.
Under NASD rules, if you hold your shares in "street name," your bank or
broker cannot vote your shares of Digi common stock without specific
instructions from you. If you do not provide instructions with
31
your proxy, your bank or broker may deliver a proxy card expressly indicating
that it is NOT voting your shares; this indication that a bank or broker is not
voting your shares is referred to as a "broker non-vote." Broker non-votes will
be counted for the purpose of determining the existence of a quorum, but will
not be voted on the merger proposal.
Because the affirmative vote of a majority of shares of Digi common stock
present in person or represented by proxy is necessary for the approval of the
proposals submitted to Digi stockholders, an abstention or broker non-vote will
have no effect on the outcome of the proposal.
HOW TO REVOKE YOUR PROXY
Your grant of a proxy on the enclosed proxy card does not prevent you from
voting in person at the special stockholders meeting, which would automatically
revoke your proxy. If your shares are held in the name of your broker, bank, or
other nominee and you wish to vote at the annual stockholders meeting, you will
need to obtain a proxy from the institution that holds your shares.
In addition, a Digi stockholder may revoke a proxy at any time before it is
voted at the Digi special stockholders meeting by delivering a later-dated
signed proxy or a written notice of revocation to James E. Nicholson, Secretary
of Digi, at the offices of Digi, 11001 Bren Road East, Minnetonka, Minnesota
55343 or by voting again by telephone or the Internet.
SOLICITATION OF PROXIES
Each of Digi and NetSilicon will bear its own cost of soliciting proxies
from its stockholders, except that the cost of printing and mailing this joint
proxy statement/prospectus to Digi and NetSilicon stockholders is being shared
by the companies equally. In addition to solicitation by mail, Digi directors,
officers, and employees may solicit proxies from stockholders by telephone, in
person, or through other means. Digi will not compensate these people for this
solicitation, but we will reimburse them for reasonable out-of-pocket expenses
that they have incurred in connection with this solicitation. Digi will also
arrange for brokerage firms, fiduciaries, and other custodians to send
solicitation materials to the beneficial owners of shares held of record by
those persons. Digi will reimburse these brokerage firms, fiduciaries, and other
custodians for their reasonable out-of-pocket expenses. Digi has retained
MacKenzie Partners, Inc. to assist it in the solicitation of proxies, using the
means referred to above, at an anticipated cost of $5,000, plus reimbursement of
out-of-pocket expenses.
32
THE NETSILICON STOCKHOLDERS MEETING
TIME AND PLACE; MATTERS TO BE CONSIDERED
The special meeting of NetSilicon, Inc. stockholders will be held on
February 13, 2002 at 10:00 a.m., Eastern Time, at the offices of NetSilicon, 411
Waverley Oaks Road, Bldg. 227, Waltham, Massachusetts 02452. At the meeting, you
will be asked to consider and vote upon a proposal to approve the merger
agreement, a copy of which is attached as Annex A to this joint proxy
statement/prospectus, to approve the merger of NetSilicon with and into a
subsidiary of Digi upon the terms and subject to the conditions of the merger
agreement, and to transact any other and further business as may properly come
before the special meeting or any adjournments or postponements of the special
meeting, including without limitation, potential adjournments or postponements
for the purpose of soliciting additional proxies in order to approve the merger
agreement and merger. If the merger is consummated, NetSilicon will effectively
become a wholly owned subsidiary of Digi.
NETSILICON'S BOARD OF DIRECTORS HAS APPROVED THE MERGER AGREEMENT AND THE
MERGER AND RECOMMENDS THAT YOU VOTE "FOR" THE MERGER PROPOSAL.
RECORD DATE; QUORUM
Only holders of record of NetSilicon voting common stock at the close of
business on December 17, 2001 are entitled to receive notice of and vote at the
special meeting of NetSilicon stockholders or any adjournments or postponements
of the special meeting. As of that date, there were 14,066,322 shares of
NetSilicon common stock outstanding, of which 7,093,666 are entitled to vote,
held by approximately 27 holders of record. Each voting share is entitled to one
vote. Holders of at least one-third of the outstanding shares of NetSilicon
common stock entitled to vote, present in person or represented by proxy, will
constitute a quorum for the transaction of business at the NetSilicon meeting.
VOTES REQUIRED
The affirmative vote of the holders of at least two-thirds of the
outstanding shares of NetSilicon common stock entitled to vote at the special
meeting is required to approve the merger agreement and the merger. If you
abstain or fail to vote your shares on this proposal, it will have the same
effect as voting against the merger.
On December 17, 2001, directors and executive officers of NetSilicon owned
and were entitled to vote 100,531 shares of NetSilicon common stock. These
shares represented approximately 1.4% of the outstanding voting shares of
NetSilicon common stock on the record date. Each of the directors and executive
officers of NetSilicon who owns NetSilicon shares has agreed to vote for the
approval of the merger agreement and the merger. Consequently, holders of
approximately 65.3% of NetSilicon voting common stock who are not party to a
voting agreement must vote in favor of the merger agreement and the merger in
order for stockholder approval to be obtained.
HOW PROXIES WILL BE VOTED
Cornelius Peterson, VIII and Daniel J. Sullivan, both of whom have been
named as proxies in the NetSilicon proxy, are directors and/or executive
officers of NetSilicon. Shares represented by a proxy will be voted at the
special meeting as specified in the proxy. Properly executed proxies that do not
contain voting instructions will be voted "FOR" each of the proposals to be
considered at the special meeting.
TREATMENT OF ABSTENTIONS AND BROKER NON-VOTES
If you submit a proxy that indicates an abstention from voting on any of
the proposals being submitted to stockholders for a vote, your shares will be
counted as present for purposes of determining the existence of a quorum, but
they will not be voted on the proposal or proposals as to which you are
33
abstaining from voting. An abstention from voting on the merger proposal will
have the same effect as a vote against the merger.
Under NASD rules, your broker cannot vote your shares of NetSilicon common
stock without specific instructions from you. If you do not provide instructions
with your proxy, your bank or broker may deliver a proxy card expressly
indicating that it is not voting your shares; this indication that a broker is
not voting your shares is referred to as a "broker non-vote." Broker non-votes
will be counted for the purpose of determining the existence of a quorum but
will not be voted on the merger proposal. A broker non-vote will therefore have
the same effect as a vote against the merger.
HOW TO REVOKE YOUR PROXY
A NetSilicon stockholder may revoke a proxy at any time before it is voted
at the NetSilicon special meeting by delivering a written notice of revocation
to the Clerk of NetSilicon at NetSilicon, Inc., 411 Waverley Oaks Road, Bldg.
227, Waltham, Massachusetts 02452, by attending the special meeting and voting
in person, or by voting again by telephone or the Internet. Mere attendance at
the special meeting will not in and of itself revoke a proxy. Stockholders that
have instructed a broker to vote their shares must follow directions received
from their broker in order to change their vote, revoke their proxy or vote at
the special meeting. If you are not the registered direct holder of your shares,
you must obtain appropriate documentation from the registered holder in order to
be able to vote the shares in person.
SOLICITATION OF PROXIES
Each of NetSilicon and Digi will bear the cost of soliciting proxies from
its own stockholders, except that the cost of printing and mailing this joint
proxy statement/prospectus to each company's stockholders is being shared by
NetSilicon and Digi equally. In addition to solicitation by mail, NetSilicon's
directors, officers, and employees may solicit proxies from stockholders by
telephone, in person, or through other means. NetSilicon will not compensate
these people for this solicitation, but NetSilicon will reimburse them for
reasonable out-of-pocket expenses they have incurred in connection with this
solicitation. NetSilicon will also arrange for brokerage firms, fiduciaries, and
other custodians to send solicitation materials to the beneficial owners of
shares held of record by those persons. NetSilicon will reimburse these
brokerage firms, fiduciaries, and other custodians for their reasonable
out-of-pocket expenses. NetSilicon has retained Mackenzie Partners, Inc. to
assist it in the solicitation of proxies, using the means referred to above, at
an anticipated cost of $6,500, plus reimbursement of out-of-pocket expenses.
34
THE MERGER
GENERAL
The merger agreement provides for the merger of NetSilicon with and into
Dove Sub Inc., a Delaware corporation and a wholly owned subsidiary of Digi. As
a result of the merger, NetSilicon will effectively become a wholly owned
subsidiary of Digi.
The discussion in this joint proxy statement/prospectus of the merger and
the description of the principal terms of the merger agreement and the merger
are summaries only. You should read the merger agreement in its entirety. A copy
of the merger agreement is attached to this joint proxy statement/prospectus as
Annex A and is incorporated by reference in this joint proxy
statement/prospectus.
WHAT NETSILICON STOCKHOLDERS WILL RECEIVE IN THE MERGER
NetSilicon stockholders will receive .65 shares of Digi common stock for
each share of NetSilicon common stock that they hold. There is no minimum or
maximum value imposed on the fraction of a share of Digi common stock to be
issued for each share of NetSilicon common stock in the merger.
Digi will not issue fractional shares in the merger. As a result, the total
number of shares of Digi common stock that you receive in the merger will be
rounded down to the nearest whole number. You will receive a cash payment for
the value of the remaining fraction of a share of Digi common stock that you
would otherwise have received, based on the average of the trading prices of
Digi common stock on the Nasdaq National Market System over the period of ten
trading days ending on the third trading day before the closing of the merger.
Instead of stock, each NetSilicon stockholder may elect to receive cash for
some or all of his shares. Detailed instructions regarding making your election
between receiving the merger consideration in stock, in cash, or in a mix of
both are provided on the enclosed election form. If you do not make a timely
election, you will receive Digi shares in exchange for all of your NetSilicon
shares. Also enclosed are detailed instructions regarding the method of
surrendering your certificates representing shares of NetSilicon common stock
for the merger consideration. Your election may be altered, however, if the
elections by all NetSilicon stockholders would cause Digi to pay more than $15
million in cash in the merger. If the cash option is over-subscribed, then the
cash payable to each NetSilicon stockholder electing to receive cash will be cut
back on a proportionate basis. NetSilicon stockholders holding shares that are
subject to the cut-back provisions will be entitled to receive the same
consideration for those shares in the merger as if those holders had elected to
receive stock in exchange for those shares. Because Sorrento Networks
Corporation, a significant stockholder of NetSilicon, has agreed to elect the
maximum amount of cash to which it is entitled in the merger, we expect that the
cash option will be over-subscribed, and, therefore, the cut-back provisions
will be applicable. The amount of the per-share cash payments will be determined
by multiplying .65 times the average per-share closing price of Digi common
stock on the Nasdaq National Market over the period of ten trading days ending
on the third trading day before closing of the merger.
IN ORDER TO BE TIMELY, YOUR ELECTION FORM MUST BE RECEIVED BY THE EXCHANGE
AGENT NO LATER THAN JANUARY 31, 2002, UNLESS DIGI AND NETSILICON AGREE TO EXTEND
THE ELECTION DEADLINE. THE COMPANIES WILL NOT AGREE TO ANY SUCH EXTENSION BEYOND
THE TIME OF THE VOTE OF NETSILICON'S STOCKHOLDERS TO APPROVE THE MERGER,
HOWEVER. IN ANY EVENT, YOU WILL THUS HAVE TO MAKE YOUR ELECTION DECISION IN
ADVANCE OF THE NETSILICON STOCKHOLDERS MEETING.
After the merger is completed, each record holder who has not previously
surrendered the holder's certificates previously representing shares of
outstanding NetSilicon common stock will be entitled, upon the surrender of the
certificates to Wells Fargo Bank Minnesota, N.A., Digi's stock transfer agent
and the exchange agent for the merger, to receive Digi shares in exchange for
all of the holder's NetSilicon shares. Until surrendered, each certificate
previously representing shares of NetSilicon common stock will be
35
deemed for all corporate purposes, other than the payment of dividends, to
evidence the cash and/or the ownership of the number of whole shares of Digi
common stock into which those shares of NetSilicon capital stock have been
converted.
The stockholders of Digi will continue to hold their shares of common stock
of Digi without any change.
OWNERSHIP OF DIGI AFTER THE MERGER
Based on the number of outstanding shares of NetSilicon common stock on
December 17, 2001, and assuming Digi pays a total of $15 million in cash in lieu
of stock to NetSilicon stockholders, the maximum amount of cash payable in the
merger, NetSilicon stockholders will be entitled to receive approximately 6.4
million shares of Digi common stock in the merger. Based on that number and on
the number of outstanding shares of Digi common stock on December 17, 2001, we
anticipate that former NetSilicon stockholders will own approximately 29% of the
outstanding shares of Digi common stock following the merger.
BACKGROUND OF THE MERGER
NetSilicon and Digi have had a business relationship since July 1998, and
Digi, through its MiLAN division, purchases products from NetSilicon.
Additionally, Digi has previously explored the possibility of using NetSilicon
products in some of Digi's principal products.
The NetSilicon board of directors from time to time had considered the
desirability of exploring strategic alternatives with potential business
partners. Among the reasons for this were:
- the relatively small size of NetSilicon;
- its needs for expansion in certain key business areas, including sales
and marketing and research and development investment, would be difficult
for NetSilicon to achieve on a stand-alone basis;
- uncertainties in certain of its product markets;
- the instability of the financial markets and the anticipated difficulty
that NetSilicon would have in raising outside capital; and
- the elimination or management of the overhang associated with Sorrento
Networks' ownership position.
On April 27, 2001, NetSilicon's board of directors authorized the retention
of Thomas Weisel Partners to act as its investment banker and assist management
in identifying and considering strategic transactions involving NetSilicon. On
May 4, 2001, NetSilicon entered into an engagement letter with Thomas Weisel
Partners.
On May 3, 2001, James Tucker (Digi's Vice President, Business Development)
called Cornelius "Pete" Peterson (NetSilicon's Chief Executive Officer) to
express Digi's interest in acquiring NetSilicon. Mr. Peterson agreed to consider
Mr. Tucker's request for information about NetSilicon. Mr. Peterson also agreed
to meet with Mr. Tucker on May 9, 2001 for further discussions.
On May 9, 2001, Mr. Peterson met with Mr. Tucker, Joseph Dunsmore (Digi's
Chief Executive Officer) and Subramanian Krishnan (Digi's Chief Financial
Officer) for further strategic discussions about the possibility of a business
combination between the two companies. After the meeting, representatives of
both companies agreed to set up a meeting at NetSilicon's principal offices in
Waltham, Massachusetts in order for the management teams to meet and discuss the
high-level strategic direction of the two companies.
On May 17, 2001, Digi and NetSilicon entered into a confidentiality
agreement pursuant to which each of them agreed to treat confidentially certain
information provided by the other in connection with
36
determining whether a transaction between them would be desirable. Digi and
NetSilicon thereafter exchanged confidential information relating to their
business and strategic initiatives.
On May 21, 2001, members of the Digi management team, Messrs. Dunsmore,
Krishnan and Tucker, as well as Joel Young (Digi's Vice President, Engineering),
met with members of the NetSilicon management team, Mr. Peterson, Daniel
Sullivan (NetSilicon's Chief Financial Officer) and William Peisel (NetSilicon's
Chief Technology Officer). The purpose of the initial meeting was to discuss the
embedded microprocessor market in general, the internal structure of both
organizations and, at a high level, the strategic direction of both companies.
At the meeting, representatives of both companies considered whether there were
any synergies between the management teams and the companies' respective
strategic directions. Representatives from Thomas Weisel Partners also attended
the meeting. The representatives of both companies agreed to review possible
strategic alternatives and to meet again. Mr. Peterson relayed information
concerning the initial meeting with Digi to members of the NetSilicon board of
directors.
On June 4, 2001, members of the Digi and NetSilicon management teams met
telephonically to continue discussions regarding a possible transaction between
the two companies.
On June 11, 2001, Digi's board of directors held a telephonic meeting to
discuss a possible transaction with NetSilicon. Digi officers and James E.
Nicholson of Faegre & Benson LLP, Digi's general counsel, were present at the
meeting. Digi's officers summarized NetSilicon's business, as well as the
results of Digi's preliminary due diligence investigation of NetSilicon. Digi's
board of directors, by the unanimous vote of those members in attendance,
authorized management to continue its due diligence investigation of NetSilicon
and discussions relating to a proposed acquisition, with the condition that any
definitive merger agreement negotiated by management would be subject to final
approval by the Digi board of directors at a subsequent meeting.
On June 12, 2001, Mr. Dunsmore called representatives of Thomas Weisel
Partners and indicated that Digi was interested in pursuing a possible merger
with NetSilicon and made a verbal proposal containing the broad terms of such a
transaction. These broad terms included a stock component of the merger
consideration, in response to the desire of NetSilicon's board of directors and
senior management to receive stock in the merger, as well as a cash component,
in response to the reported desire of Sorrento Networks to receive cash in the
merger.
On June 18, 2001, Digi's board of directors met briefly to receive an
update from members of Digi's management on the discussions with NetSilicon. By
the unanimous vote of those members in attendance, the Digi board authorized
management to continue negotiations with NetSilicon.
On June 19, 2001, Digi and NetSilicon broke off their negotiations. The
closing price of NetSilicon common stock on that date was $5.07.
In early July 2001, NetSilicon's stock price had fallen to under $4.00 per
share. Because of that, Mr. Dunsmore called Mr. Peterson at NetSilicon and Joe
R. Armstrong, Chief Financial Officer of Sorrento Networks, to determine whether
negotiations should be re-opened. Shortly after these discussions, Digi and
NetSilicon resumed their negotiations.
On July 16, 2001, Messrs. Peterson, Sullivan and Peisel visited Digi's
headquarters in Minnetonka, Minnesota to meet with members of Digi's management
team, Messrs. Dunsmore, Krishnan, Young and Tucker as well as Burk Murray
(Digi's Vice President, Marketing), for further discussion on each company's
strategic vision and to provide each management team with further detail on
high-level product direction. At the meeting, representatives of both companies
also explored whether there were management-style and corporate-environment
synergies. Both management teams agreed that further discussions regarding a
possible merger were desirable and agreed to schedule a time for each company to
perform its respective due diligence.
On July 17, 2001, Mr. Peterson provided Mr. Dunsmore with a preliminary
proposed term sheet for Digi to acquire NetSilicon under the following terms:
each share of NetSilicon common stock outstanding
37
as of the closing date would be exchanged for a fraction of a Digi share,
determined by dividing $7.50 by the five-day trailing average of Digi stock
prices ending one day prior to executing a definitive agreement. The merger
agreement would provide for a cash election whereby Digi would pay up to $20
million of the purchase price in cash, with the remaining portion of the
purchase price to be paid in Digi common stock. The closing prices of NetSilicon
common stock and Digi common stock on July 17, 2001 were $3.82 and $9.03,
respectively.
On July 18, 2001, Mr. Peterson and Mr. Sullivan met telephonically with the
NetSilicon board of directors to present and discuss the proposal from Digi. The
NetSilicon board authorized senior management to continue negotiations with
Digi. Also on July 18, 2001, the Digi board of directors met and received a
report from Digi management with respect to the status of discussions and due
diligence concerning the NetSilicon acquisition.
On July 25, 2001, after continued discussions among representatives of
Digi, NetSilicon and Thomas Weisel Partners, Mr. Dunsmore provided
representatives of Thomas Weisel Partners with a revised draft of the
preliminary term sheet for Digi to acquire NetSilicon. The basic terms of the
deal were that each share of NetSilicon common stock outstanding as of the
closing date would be exchanged for fraction of a Digi share, determined by
dividing $5.40 by a Digi stock price of $8.70, resulting in an exchange ratio by
which each share of NetSilicon would be exchanged for .6207 shares of Digi
common stock. The merger agreement would provide for a cash election whereby
Digi would pay up to $20 million of the purchase price in cash, with the
remaining portion of the purchase price to be paid in Digi common stock. The
closing prices of NetSilicon common stock and Digi common stock on July 25, 2001
were $4.00 and $8.80, respectively.
On July 27, 2001, the NetSilicon board of directors held its quarterly
meeting and discussed the Digi proposal. The NetSilicon board appointed a
subcommittee comprised of Francis E. Girard, William R. Johnson and F. Grant
Saviers to oversee the process. A representative from Thomas Weisel Partners
reviewed the proposal with the board and discussed its financial, business and
market analyses relating to the proposal. The NetSilicon board unanimously voted
to continue discussions with Digi, preliminarily accepted the basic, broad terms
of the proposal and authorized management to begin work on a definitive
agreement.
Over a period of time from the date of its engagement, representatives of
Thomas Weisel Partners had also made contact with, and had been contacted by,
several other prospective strategic buyers of NetSilicon. No serious continuing
interest arose from those contacts.
On August 6, 2001, the NetSilicon board subcommittee met telephonically and
authorized Mr. Sullivan to enter into an exclusivity agreement with Digi that
would last for at least 30 days. Digi and NetSilicon entered into the
exclusivity agreement on August 7, 2001.
On August 8, 2001, Digi entered into an engagement letter with Nesbitt
Burns with an effective date of June 30, 2001, under which Nesbitt Burns would
act as Digi's financial advisor with respect to the proposed merger.
On August 9, 2001, multiple representatives of Digi and NetSilicon and
their respective legal counsel and investment bankers held a telephonic meeting
to discuss a timetable for closing the proposed merger.
Between August 7, 2001 and August 13, 2001, the companies exchanged certain
high-level due diligence requests and information.
From August 13, 2001 through August 16, 2001, the Digi management team and
Nesbitt Burns visited NetSilicon's Waltham, Massachusetts offices in order to
perform further due diligence on NetSilicon. Representatives of Thomas Weisel
Partners were also present at these meetings. The meetings ended satisfactorily
and both management teams agreed to continue with merger discussions.
Between August 15, 2001 and the next scheduled joint management team
meeting on August 27, 2001, the companies exchanged additional information as
part of the ongoing due diligence process and continued work on a definitive
agreement. Additionally, each company made due diligence calls to the other
company's respective customers.
38
On August 17, 2001, counsel for Digi provided counsel for NetSilicon a
first draft of a proposed form of merger agreement. The merger consideration was
proposed to be payable in cash, stock or a combination of both, provided that
the maximum cash payable by Digi would not exceed $20 million. NetSilicon
stockholders would receive an amount in cash equal to a floating exchange ratio
times the average per-share closing price of Digi common stock during a defined
period ending shortly before the closing. The stock component of the merger
consideration was to consist of a number of shares of Digi common stock equal to
the floating exchange ratio. In either case, the floating exchange ratio would
be adjusted upward or downward depending on the average per share closing price
of Digi common stock, but would not exceed .6908 (if the average Digi common
stock closing price was less than $7.60) or fall below .5928 (if the average
Digi common stock closing price was greater than $9.70). The termination fee
proposed was $3.25 million.
The draft merger agreement was also accompanied by a draft stockholder
agreement between Digi and NetSilicon's largest stockholder, Sorrento Networks
Corporation. This draft stockholder agreement, among other things, granted Digi
an option to purchase all of Sorrento's shares if the merger agreement were
terminated under certain conditions.
The companies thereafter engaged in additional due diligence exchanges,
which included interviews of persons responsible for the financial affairs of
Digi and NetSilicon, respectively, as well as due diligence regarding strategic,
management, legal and business issues.
On August 21, 2001, a proposed form of merger agreement and related
ancillary agreements were forwarded to the NetSilicon board of directors for
review and consideration.
On August 27 and August 28, 2001, Messrs. Sullivan and Peisel and
representatives of Thomas Weisel Partners visited Digi's offices in Minnetonka,
Minnesota for further due diligence by NetSilicon on Digi's financial,
engineering, sales and marketing strategies. Representatives of Nesbitt Burns
were also present at these meetings.
On August 27, 2001, the NetSilicon board of directors met telephonically
and expressed some concern that there was no downside protection to the amount
of Digi stock to be offered in the merger and no right for NetSilicon to
terminate the agreement if Digi's stock price decreased significantly before
completion of the merger. Representatives from Thomas Weisel Partners discussed
with the NetSilicon board the possibility of including in the merger agreement a
price-protection provision to ensure that the value of the merger would remain
the same in the event of fluctuations within defined parameters in the price of
Digi stock, commonly known as a collar provision. In addition, the NetSilicon
board expressed a desire to remove the option contained in the stockholder
agreement with Sorrento Networks. After lengthy discussion, the NetSilicon board
authorized senior management to move forward with the term sheet and merger as
proposed by Digi, with instructions to attempt to resolve the issues relating to
downside protection and the Sorrento Networks option.
On August 30, 2001, the companies extended their exclusivity agreement
through at least September 14, 2001.
On August 31, 2001, the board of directors of Digi held a special
telephonic meeting to consider the results of Digi's due diligence investigation
of NetSilicon and to consider the terms and conditions of the proposed merger
negotiated by Digi management. Digi officers, Faegre & Benson, and
representatives of Nesbitt Burns participated in the meeting. Digi's officers
discussed with the board Digi's and NetSilicon's separate and pro forma combined
financial and business information, the strategic rationale for a combination of
the two companies, and the results of Digi's due diligence investigation of
NetSilicon. Faegre & Benson discussed with the board the proposed terms of the
merger agreement and the Sorrento Networks agreement and the board's fiduciary
duties in considering approval of the proposed merger. At this meeting, Nesbitt
Burns presented a summary of its financial analysis relating to the proposed
merger and indicated to the board that it expected to be able to issue an
opinion that, based upon and subject to the matters described in the opinion,
the consideration to be issued in the merger was fair, from a financial point of
view, to Digi. Faegre & Benson also discussed the status of various pending
lawsuits against NetSilicon in connection with its initial public offering.
After deliberations, subject to receipt of a written fairness opinion from
Nesbitt Burns and a cap on the exchange ratio and the cash component of the
39
merger consideration, the Digi board of directors unanimously approved the
proposed merger, declared it to be advisable and in the best interest of Digi's
stockholders, and resolved to recommend that Digi's stockholders vote in favor
of the issuance of Digi common stock in the merger.
From September 3, 2001 through September 7, 2001, the parties continued to
interview each other's customers and conduct extensive due diligence.
Both management teams agreed to work on the definitive agreement in order
to close and announce the deal on or about on September 11, 2001. Due to the
tragic events of September 11, 2001, both management teams agreed to slow the
merger discussions until each team could assess the impact of those events on
their respective businesses.
On September 19, 2001, the companies extended their exclusivity agreement
through at least October 1, 2001. After October 1, 2001, NetSilicon had the
option to terminate the exclusivity agreement but did not elect to do so.
On September 28, 2001, Digi's board of directors held a regular telephonic
meeting. Digi management reported on the status of negotiations and due
diligence with respect to NetSilicon and reported on general industry conditions
after the tragic events of September 11.
On October 18, 2001, management of both companies attended a full-day video
conference and determined to move forward with a transaction using a fixed
exchange ratio. The parties agreed to recommend to their respective boards that
each share of NetSilicon common stock would be exchanged for .65 shares of Digi
common stock, cash in the amount of .65 multiplied by the average per-share
closing price of Digi common stock during the ten trading days ending on the
third trading day before the date of closing, or a combination of both stock and
cash. The merger agreement would provide for a cash election whereby Digi would
pay up to $15 million of the purchase price in cash, with the remaining portion
of the purchase price to be paid in Digi common stock. The closing prices of
NetSilicon common stock and Digi common stock on October 18, 2001 were $2.42 and
$5.09, respectively. The parties also agreed to eliminate the Sorrento Networks
option from the stockholder agreement and, following discussion of Digi's
proposal to set the termination fee at $3.25 million, decided on a termination
fee of $2.5 million. Finally, Digi agreed to revise the merger agreement so that
in certain circumstances the termination fee would be payable only upon
consummation of a third-party acquisition, rather than upon the signing of an
agreement.
By a unanimous written action dated October 18, 2001, Digi's board of
directors approved the final pricing terms of the transaction, with a fixed
exchange ratio of .65 shares of Digi common stock for each share of NetSilicon
common stock and a $15 million limit on the cash component of the merger
consideration.
The NetSilicon board of directors met on October 24, 2001 to review the
progress of negotiations and the proposed terms of the merger. Messrs. Peterson
and Sullivan gave oral and written presentations to the NetSilicon board and
representatives of Thomas Weisel Partners updated and supplemented the financial
and other information and analyses they had provided to the NetSilicon board at
earlier meetings. Legal advisors for NetSilicon reviewed with the NetSilicon
board the results of their due diligence review and the terms of the proposed
transaction. Legal counsel also reviewed with the board its fiduciary duties
with respect to the transaction. At the meeting, the NetSilicon board received
Thomas Weisel Partners' verbal opinion that, as of that date and subject to the
matters described in the opinion, the consideration to be received by
NetSilicon's stockholders in the merger was fair, from a financial point of
view, to the stockholders. Following lengthy discussions, including a
recommendation by the board subcommittee, the NetSilicon board approved the
merger, the merger agreement and certain ancillary agreements, resolved to
recommend that NetSilicon's stockholders approve the merger, and authorized
senior management to proceed with the transaction. The closing price of
NetSilicon common stock and Digi common stock on October 24, 2001 was $2.98 and
$5.95, respectively. Thomas Weisel Partners subsequently restated its oral
opinion, as of October 29, 2001, and also delivered to the board of directors of
NetSilicon its written opinion, dated October 29, 2001, confirming its oral
opinion.
40
The NetSilicon board of directors also authorized an amendment to the
NetSilicon rights agreement, exempting the transactions contemplated by the
merger agreement from the rights agreement.
On October 24, 2001, Nesbitt Burns delivered to members of Digi's board of
directors its updated analysis with respect to the NetSilicon acquisition,
supplementing and updating information previously delivered to the board of
directors in connection with its presentation at the August 31 board meeting. On
October 30, 2001, Nesbitt Burns delivered its written opinion to Digi's board of
directors that, as of that date and subject to the matters discussed in the
opinion, the consideration to be paid by Digi under the merger agreement was
fair to Digi from a financial point of view.
The parties executed the merger agreement and various related agreements,
including voting agreements whereby certain directors and executive officers of
each company agreed to vote all of their shares of stock in favor of the merger,
on October 30, 2001. The transaction was announced through a joint press release
following the close of the market on the same day.
DIGI'S REASONS FOR THE MERGER; RECOMMENDATION OF THE DIGI BOARD OF DIRECTORS
The Digi board of directors unanimously recommends that the stockholders of
Digi vote "FOR" the issuance of Digi common stock in the merger.
In reaching its decision to approve the merger agreement and the merger,
the Digi board of directors consulted with:
- its legal counsel regarding the legal terms of the transaction;
- its financial advisors regarding the financial aspects of the proposed
transaction and the fairness of the merger consideration, including the
exchange ratio, to Digi from a financial point of view; and
- the management of Digi.
Among the information and factors that the Digi board of directors
considered in its deliberations were the following:
- management's expectation that, although immediately dilutive, the merger
will be accretive to Digi's earnings per share in later years;
- the overall strategic fit between Digi and NetSilicon in view of their
respective product lines and markets;
- that the complementary nature of the two companies' device connectivity
products will give the combined company an expanded range of products and
technology;
- that NetSilicon's position as an early entrant in the small but growing
embedded systems market will allow Digi to further reposition its
business to address growth markets in device connectivity;
- the expected enhancement of Digi's research and development capability
and an economical and efficient means to expand Digi's device
connectivity business;
- access to NetSilicon's proprietary embedded device expertise and
capability and other proprietary technologies;
- that Digi's strong balance sheet and net cash position should enable the
combined company to pursue development and marketing of NetSilicon's
embedded device server products;
- the maximum cash component of the merger consideration and aggregate
number of Digi shares to be delivered to NetSilicon stockholders in
connection with the merger; and
- that the increased float of Digi common stock resulting from the merger
should afford stockholders of the combined company an opportunity to
benefit from some greater trading liquidity and may, with the greater
size and scale of the combined company, potentially increase research
coverage.
41
In its deliberations, the Digi board carefully considered the following
additional factors and information:
- the financial analyses and presentations that Digi management and Nesbitt
Burns made at the August 31, 2001 meeting of the Digi board of directors;
- the statement of representatives of Nesbitt Burns, at the August 31, 2001
meeting of the Digi board of directors, that Nesbitt Burns expected to be
able to issue its opinion that the consideration offered in the merger
was fair, from a financial point of view, to Digi (Nesbitt Burns
subsequently delivered its written opinion, dated October 30, 2001, to
the effect that, as of that date, and subject to the assumptions,
qualifications, and limitations expressed in that opinion, the
consideration to be paid in the merger was fair, from a financial point
of view, to Digi);
- information concerning the business, earnings, operations, financial
condition, and prospects of Digi and NetSilicon, both individually and on
a combined basis, including information with respect to the past earnings
performance of each of Digi and NetSilicon;
- reports from management and legal advisors as to the results of their due
diligence investigation of NetSilicon;
- the belief that the terms of the merger agreement, including the parties'
representations, warranties, and covenants, and the conditions to the
parties' respective obligations, are not unusual; and
- the termination fee and expense reimbursement payable by NetSilicon under
some circumstances.
The board of directors of Digi also considered a variety of risks and other
potentially negative factors in its deliberations concerning the merger. In
particular, the board of directors of Digi considered:
- the risks associated with integrating the operations of NetSilicon with
Digi's existing operations;
- the risk of diverting management focus and resources from other strategic
opportunities and from operational matters while working to implement the
merger;
- the possible effect of the public announcement of the merger on the
market price of Digi common stock in the short term; and
- competition from new and existing technologies.
The board of directors of Digi concluded that the anticipated benefits of
the merger outweighed the possible detriments.
The foregoing discussion of factors considered by the Digi board of
directors is not intended to be exhaustive, but includes the material
information and factors considered by the Digi board of directors in its
consideration of the merger. There can be no assurance that the strategic goals
of the merger will be achieved. See "Risk Factors."
In view of the wide variety of factors considered, the Digi board of
directors did not find it practicable to quantify or otherwise assign relative
weights to the specific factors considered in its deliberations and made its
determination after consideration of all of the factors as a whole. In addition,
individual members of the Digi board of directors may have given different
weights to different factors. After taking into account all of the factors set
forth above, the Digi board of directors unanimously agreed that the merger is
advisable and in the best interests of Digi and its stockholders.
NETSILICON'S REASONS FOR THE MERGER; RECOMMENDATION OF NETSILICON'S BOARD OF
DIRECTORS
The NetSilicon board of directors has determined that the terms of the
merger agreement and the merger are fair to, and in the best interests of,
NetSilicon and its stockholders. Accordingly, the NetSilicon board of directors
has approved the merger agreement and recommends that stockholders of NetSilicon
vote for approval of the merger agreement and the transactions contemplated by
the merger agreement, including the merger.
42
In reaching its decision to approve the merger agreement and the merger,
the NetSilicon board of directors consulted with:
- its legal counsel regarding the legal terms of the transaction and the
obligations and duties of the NetSilicon board of directors in its
consideration of the proposed transaction;
- its financial advisors regarding the financial aspects of the proposed
transaction and the fairness of the merger consideration, including the
exchange ratio, to NetSilicon's stockholders from a financial point of
view; and
- the management of NetSilicon.
Among the information and factors that the NetSilicon board of directors
considered in its deliberations were the following:
- Historical information concerning NetSilicon's and Digi's respective
businesses, prospects, financial performance and condition, operations,
technology, management, and competitive position, including public
reports concerning results of operations during the most recent fiscal
year and fiscal quarter for each company filed with the Securities and
Exchange Commission.
- The financial condition, results of operations, and businesses of
NetSilicon and Digi before and after giving effect to the merger.
- The near- and long-term prospects of NetSilicon as an independent company
and of the combined company.
- That NetSilicon's stockholders will have the opportunity to participate
in the potential for the greater growth, operational efficiencies,
financial strength, and earning power of the combined company after the
merger.
- The advantages that might be expected to accrue to the combined company
in terms of the creation of a larger customer base, a higher market
profile, greater financial strength, and broader customer offerings,
which could enhance the ability of the combined company to compete in the
marketplace.
- Current financial market conditions, historical market prices,
volatility, and trading information with respect to NetSilicon common
stock and Digi common stock and historical price/earnings ratios of
NetSilicon and Digi.
- The consideration to be received by NetSilicon's stockholders in the
merger and the relationship between the market value of Digi common stock
to be issued in exchange for shares of NetSilicon common stock and the
market value of NetSilicon common stock.
- The market price of NetSilicon common stock and the potential for
NetSilicon stockholders to receive a premium over the closing price of
NetSilicon common stock on October 30, 2001, the last trading day before
the public announcement of the merger. If, on the date the merger is
completed, the closing price for shares of Digi common stock is the same
as it was on October 30, 2001, NetSilicon stockholders will receive a
premium of approximately 35.8% over the closing price of NetSilicon
common stock on that date.
- The cash component of the merger consideration, which provides some
liquidity to NetSilicon stockholders.
- Data involving a comparison of comparable merger transactions.
- The belief that the terms of the merger agreement, including the parties'
representations, warranties, and covenants, and the conditions to their
respective obligations, are reasonable.
- The strategic fit and compatibility of the two companies and the
expectation that the merger would result in certain synergies that, if
achieved, might improve the results of Digi.
43
- The fact that representatives of Thomas Weisel Partners, on behalf of
NetSilicon, had solicited interest in a possible acquisition of
NetSilicon from third parties that NetSilicon and representatives of
Thomas Weisel Partners believed were likely to have an interest in a
potential transaction and that NetSilicon had not received any offers
from other parties at prices in excess of the consideration to be
received in the merger.
- The ability of the NetSilicon board of directors, under the merger
agreement, to respond to unsolicited requests for nonpublic information,
to participate in discussions and negotiations with unsolicited potential
third-party acquirors under certain circumstances, and to terminate the
merger agreement under certain circumstances in order to accept
third-party offers, subject to the payment of a termination fee.
- Detailed financial analysis and other information with respect to the
companies presented by representatives of Thomas Weisel Partners to the
NetSilicon board of directors, including its opinion that, as of the date
of the opinion and subject to the matters discussed in the opinion, the
merger consideration in the merger is fair to the stockholders of
NetSilicon from a financial point of view.
- The impact of the merger on NetSilicon's customers and employees.
- Reports from management and legal, accounting, and financial advisors as
to the results of their due diligence investigation of Digi.
- The parties' intent to treat the merger as a tax-free reorganization
under the Internal Revenue Code.
- The fact that Massachusetts law entitles NetSilicon stockholders who do
not vote in favor of the merger and who file a written objection with
NetSilicon to obtain the "fair value" of their shares, as determined by a
court, if the merger is completed.
The NetSilicon board of directors also considered potentially negative
factors relating to the merger, including:
- The risk that the potential benefits sought in the merger might not be
fully realized.
- The possibility that the merger might not be consummated and the effect
of a public announcement of the merger or any failure to consummate the
merger on:
- NetSilicon's sales, operating results and stock price; and
- NetSilicon's ability to attract and retain customers, suppliers, key
management, and sales and marketing and technical personnel.
- That the termination fee of $2.5 million and $750,000 expense
reimbursement required to be paid by NetSilicon under the merger
agreement under certain circumstances might discourage a third party from
seeking to acquire NetSilicon.
- The substantial charges to be incurred in connection with the merger,
including costs of integrating the businesses and transaction expenses
arising from the merger.
- The risk that despite the efforts of the combined company, key technical,
sales, and management personnel might not remain employed by the combined
company.
- Risks associated with fluctuations in Digi's common stock price.
- The fact that certain stockholders might prefer an all-cash transaction
to a transaction in which a substantial portion of the merger
consideration would be stock.
The foregoing discussion of the information and factors considered by the
NetSilicon board of directors is not intended to be exhaustive but is believed
to include all material factors considered by the
44
NetSilicon board of directors. There can be no assurance that the strategic
goals of the merger will be achieved. See "Risk Factors" beginning on page 16 of
this joint proxy statement/prospectus.
In view of the wide variety of information and factors, both positive and
negative, considered by the NetSilicon board of directors, the NetSilicon board
of directors did not find it practical to, and did not, quantify or otherwise
assign relative or specific weights to the foregoing factors considered. After
taking into consideration all of the above factors, the NetSilicon board of
directors determined that the merger agreement and the merger were in the best
interests of NetSilicon and its stockholders and that NetSilicon should enter
into the merger agreement and complete the merger.
In considering the recommendation of the NetSilicon board of directors with
respect to the merger agreement and the merger, you should be aware that certain
directors and officers of NetSilicon have certain interests in the merger that
are different from, and in addition to, the interests of NetSilicon stockholders
generally. These interests are discussed in more detail in the section entitled
"-- Interests of Directors and Executive Officers of NetSilicon in the Merger"
beginning on page 57 of this joint proxy statement/prospectus.
OPINION OF FINANCIAL ADVISOR TO DIGI
On October 30, 2001, Nesbitt Burns delivered its written opinion to Digi's
board of directors that, as of such date and subject to the matters discussed in
the opinion, the consideration to be paid by Digi pursuant to the merger
agreement was fair to Digi from a financial point of view.
The full text of the written opinion of Nesbitt Burns, dated October 30,
2001, which sets forth assumptions made, matters considered, and limitations on
the review undertaken in connection with the opinion, is attached as Annex E and
is incorporated by reference in this joint proxy statement/prospectus. You
should read the opinion in its entirety. The opinion expressed by Nesbitt Burns
was provided for the information and assistance of the board of directors of
Digi in connection with its consideration of the transaction contemplated by the
merger agreement, and such opinion does not constitute a recommendation as to
any action the board of directors of Digi or any stockholder of Digi should take
in connection with the merger or any aspect thereof and is not a recommendation
to any person on how such person should vote with respect to the merger.
In connection with its opinion, Nesbitt Burns reviewed, among other things:
- a draft of the merger agreement dated October 23, 2001;
- annual reports to stockholders of NetSilicon for the years ended January
31, 2000 and 2001;
- annual reports on Form 10-K of NetSilicon for the years ended January 31,
2000 and 2001;
- certain quarterly reports on Form 10-Q of NetSilicon;
- annual reports to stockholders of Digi for the years ended September 30,
1999 and 2000;
- annual reports on Form 10-K of Digi for the years ended September 30,
1999 and 2000;
- certain quarterly reports on Form 10-Q of Digi;
- certain other communications from NetSilicon and Digi to their respective
stockholders;
- certain internal financial analyses and forecasts for NetSilicon prepared
by its management and Digi's management;
- certain internal financial analyses and forecasts for Digi prepared by
its management; and
- independent third-party research and estimates.
Nesbitt Burns also held discussions with members of the management of Digi
and NetSilicon regarding the past and current business operations, financial
condition and future prospects of their respective companies.
45
In addition, Nesbitt Burns:
- reviewed the reported price and trading activity for the common stock of
NetSilicon and Digi;
- compared certain financial and stock market information for NetSilicon
and Digi with similar information for certain other companies, the
securities of which are publicly traded;
- reviewed the financial terms of certain recent business combinations in
NetSilicon's and Digi's industries specifically and in other industries
generally; and
- performed such other studies and analyses as Nesbitt Burns considered
appropriate.
Nesbitt Burns assumed and relied upon the accuracy and completeness of all
information supplied or otherwise made available to it by Digi and NetSilicon or
obtained from other sources, and upon the assurance of Digi's management that
they were not aware of any information or facts that would make the information
provided to Nesbitt Burns incomplete or misleading. Nesbitt Burns did not
independently verify such information, undertake an independent appraisal of the
assets or liabilities (contingent or otherwise) of Digi or NetSilicon, or
receive any such appraisals. With respect to financial forecasts for NetSilicon
and Digi, Nesbitt Burns has been advised by Digi, and has assumed, without
independent investigation, that they have been reasonably prepared and reflect
the best currently available estimates and judgment of management as to the
expected future financial performance of NetSilicon and Digi.
The opinion of Nesbitt Burns does not address the relative merits of the
transaction contemplated pursuant to the merger agreement as compared to any
alternative business transaction that might be available to Digi. The opinion
expressed by Nesbitt Burns was provided for the information and assistance of
the board of directors of Digi in connection with its consideration of the
merger, and such opinion does not constitute a recommendation as to any action
the board of directors of Digi or any stockholder of Digi should take in
connection with the merger or any aspect thereof and is not a recommendation to
any person on how such person should vote with respect to the merger. Although
Nesbitt Burns evaluated the merger consideration from a financial point of view,
Nesbitt Burns was not asked to and did not recommend the specific consideration
payable in the merger, which was determined through negotiations between Digi
and NetSilicon. Nesbitt Burns' opinion relates solely to the fairness, from a
financial point of view, of the merger consideration to Digi. Nesbitt Burns has
expressed no opinion as to the structure, terms or effect of any other aspect of
the merger or the other transactions contemplated by the merger agreement.
The following is a summary of certain financial analyses used by Nesbitt
Burns in connection with providing its opinion to Digi's board of directors
dated October 30, 2001.
THE FOLLOWING SUMMARIES OF FINANCIAL ANALYSES INCLUDE INFORMATION PRESENTED
IN TABULAR FORMAT. YOU SHOULD READ THESE TABLES TOGETHER WITH THE TEXT OF EACH
SUMMARY.
Closing Price and Exchange Ratio Analysis. Nesbitt Burns calculated the
merger price ($3.54 based on the exchange ratio of .65 as set forth in the
merger agreement and the average closing price of Digi for the 10-trading day
period ending October 29, 2001). Although the merger price is subject to change
based upon fluctuations in the price of Digi common stock, Nesbitt Burns used a
per-share merger price of $3.54 for purposes of its financial analyses.
Nesbitt Burns reviewed the average closing price of NetSilicon common stock
over various periods ending on October 29, 2001. These average prices are
referred to as the "period average closing prices." Nesbitt Burns compared the
merger price to the period average closing prices.
Nesbitt Burns also reviewed the average of the ratio of the closing price
of NetSilicon common stock divided by the closing price of Digi common stock
over various selected periods ending on October 29, 2001. These ratios are
referred to as the "period average exchange ratios." Nesbitt Burns examined the
premiums represented by the exchange ratio (.65) set forth in the merger
agreement over the period average exchange ratios.
46
This analysis indicated the following:
PREMIUM OF
PREMIUM OF EXCHANGE
NETSILICON MERGER PRICE TO RATIO (.65) TO
PERIOD ENDING PERIOD AVERAGE PERIOD AVERAGE PERIOD AVERAGE PERIOD AVERAGE
OCTOBER 29, 2001 CLOSING PRICE CLOSING PRICE EXCHANGE RATIO EXCHANGE RATIO
---------------- -------------- --------------- -------------- --------------
1 trading day $2.40 47.5% 0.4364 49.0%
Last 5 trading days $2.75 28.9% 0.4775 36.1%
Last 10 trading days $2.62 35.3% 0.4817 35.0%
Last 20 trading days $2.51 41.2% 0.4790 35.7%
Last 30 trading days $2.35 50.8% 0.4278 51.9%
Last 60 trading days $2.94 20.3% 0.4145 56.8%
Last 90 trading days $3.35 5.7% 0.4361 49.1%
Last 180 trading days $3.84 -7.8% 0.5418 20.0%
Last calendar year $4.27 -17.0% 0.6066 7.2%
Selected Premiums Paid Analysis. Nesbitt Burns reviewed 142 selected
stock-for-stock transactions involving technology companies effected since
January 1, 2000. Thirty transactions within this selected set involved publicly
traded target companies. Nesbitt Burns reviewed the purchase prices and implied
premiums paid in these 30 transactions, as reported by Thomson Financial
Securities Data Corporation. For these 30 selected precedent transactions,
Nesbitt Burns calculated the mean and median implied premiums paid. Nesbitt
Burns then compared the mean and median implied premiums paid in the selected
transactions with the premium implied in the merger based on the merger price.
For each selected transaction or group of transactions, the following table
presents the premiums implied in each transaction based on the final price paid
and the stock prices for the targets at various points in time prior to the
public announcement of the transaction.
MEAN PREMIUM(1) IN MEDIAN PREMIUM(1) IN
PERIOD PRIOR 30 SELECTED 30 SELECTED PREMIUM TO
TO PUBLIC PRECEDENT PRECEDENT NETSILICON CLOSE(2)
ANNOUNCEMENT STOCK-FOR-STOCK STOCK-FOR-STOCK REPRESENTED BY
OF THE TRANSACTION TRANSACTIONS TRANSACTIONS MERGER PRICE(3)
------------------ ------------------ -------------------- -------------------
One day prior 45.4% 18.9% 47.5%
One week prior 42.6% 16.3% 14.2%
Four weeks prior 37.9% 17.5% 73.5%
---------------
(1) Premiums reported by Thomson Financial Securities Data Corporation.
(2) NetSilicon closing price on 10/29/01.
(3) Assumes per-share merger price of $3.54, based upon the average closing
price of Digi common stock for the period of 10 trading days ending October
29, 2001.
Nesbitt Burns applied these premiums to the corresponding NetSilicon stock
prices as of October 29, 2001 to derive an implied equity reference range for
NetSilicon of approximately $2.40 to $4.42 per share.
Selected Comparable Company Analysis. Nesbitt Burns reviewed and compared
selected financial information, ratios and public market multiples for
NetSilicon to corresponding financial information, ratios and public market
multiples for the following selected publicly traded companies (collectively,
the "comparable companies"):
- Broadcom Corporation (BRCM)
- Centillium Communications, Inc. (CTLM)
- Cirrus Logic, Inc. (CRUS)
- Conexant Systems, Inc. (CNXT)
47
- Echelon Corporation (ELON)
- Lantronix, Inc. (LTRX)
- Transwitch Corporation (TXCC)
- Vitesse Semiconductor Corporation (VTSS)
- Wind River Systems, Inc. (WIND)
The selected companies were chosen because they are publicly traded
companies that, for purposes of analysis, may be considered similar to
NetSilicon. Nesbitt Burns calculated and compared various financial multiples
and ratios. The multiples and ratios were calculated using the closing price for
each of the selected companies on October 29, 2001 and the merger price for
NetSilicon. Earnings estimates utilized for the selected comparable companies
were based on estimates obtained from I/B/E/S International, Inc. ("IBES"), a
provider of financial information, as of October 29, 2001. Revenue and earnings
estimates utilized for NetSilicon were based on estimates obtained from Digi
management. Certain other estimates were obtained from published stock analyst
reports.
Nesbitt Burns' analysis of the selected comparable companies compared the
following to the results or estimates for NetSilicon:
- Closing price as a multiple of forecasted next fiscal year ("NFY") + 1
earnings per share ("EPS"); and
- Enterprise value (calculated as equity market value plus debt, less cash)
as a multiple of latest twelve month ("LTM") and estimated current fiscal
year ("CFY") and next fiscal year revenue.
The results of these analyses are summarized as follows:
ENTERPRISE ENTERPRISE ENTERPRISE
VALUE VALUE VALUE PRICE
TO TO TO TO
LTM CFY NFY NFY + 1
(STOCK PRICES AS OF OCTOBER 29, 2001) REVENUES REVENUES REVENUES EARNINGS
------------------------------------- ------------ ------------ ------------ ---------------
Comparable Company Mean(1) 4.1x 3.9x 3.2x 29.9x
Comparable Company Median(1) 3.1x 3.4x 2.7x 23.8x
Comparable Company Range(1) 0.7x to 9.2x 0.6x to 8.7x 1.1x to 7.4x 13.8x to 52.1x
NetSilicon Implied Multiple at
Merger Price(2) 1.2x 1.4x 1.0x 5.8x to 6.0x(3)
---------------
(1) Multiples that do not provide a meaningful comparison and companies with
negative earnings have been excluded from the range and mean and median
calculations.
(2) Assumes merger price of $3.54 per share based on the average closing price
of Digi for the 10-trading day period ending October 29, 2001.
(3) Price for NFY + 1 earnings is based on present value of merger price
discounted back one year at discount rates ranging from 17% to 21% to make
resulting multiples comparable to NFY multiples.
Nesbitt Burns applied a range of selected multiples derived from the
selected companies to corresponding financial data of NetSilicon in order to
derive an implied equity reference range for NetSilicon of approximately $8.16
to $10.72 per share.
Selected Precedent Transactions Analysis. Nesbitt Burns analyzed certain
information relating to 10 selected proposed, pending or completed transactions
(the "selected transactions") that were considered to be in the same or similar
lines of business as NetSilicon, from January 1, 2001 to present. Nesbitt Burns
calculated various financial multiples and premiums over market value based on
publicly available information for each of the selected transactions. Financial
estimates utilized for NetSilicon were based on estimates obtained from Digi
management. Earnings estimates utilized for the selected transactions were based
on estimates obtained from IBES, as of the time each respective transaction was
announced. Certain
48
other estimates were obtained from published stock analyst reports at the time
each respective transaction was announced.
Nesbitt Burns' analysis of the selected transactions compared the following
to the results or estimates for NetSilicon:
- Closing price as a multiple of forecasted NFY + 1 EPS; and
- Enterprise value as a multiple of LTM and estimated CFY and NFY revenue.
The results of these analyses are summarized as follows:
ENTERPRISE
VALUE TO ENTERPRISE ENTERPRISE PRICE TO
LTM VALUE TO CFY VALUE TO NFY NFY + 1
REVENUES REVENUES REVENUES EARNINGS
------------ ------------ ------------ --------------
Selected Transaction Mean(1) 3.3x 3.9x 3.1x 18.8x
Selected Transaction Median(1) 2.7x 3.1x 2.3x 17.6x
Selected Transaction Range(1) 1.0x to 9.8x 0.9x to 9.2x 0.8x to 6.4x 12.7x to 27.3x
NetSilicon Implied Multiple at
Merger Price(2) 1.2x 1.4x 1.0x 5.8x to 6.0x(3)
---------------
(1) Multiples that do not provide a meaningful comparison and companies with
negative earnings have been excluded from the range and mean and median
calculations.
(2) Assumes merger price of $3.54 per share based on the average closing price
of Digi for the 10-trading day period ending October 29, 2001.
(3) Price for NFY+1 earnings is based on present value of the merger price
discounted back one year at discount rates ranging from 17% to 21% to make
resulting multiples comparable to NFY multiples.
Nesbitt Burns applied a range of selected multiples derived from the
selected transactions to corresponding financial data of NetSilicon in order to
derive an implied equity reference range for NetSilicon of approximately $7.07
to $8.43 per share.
Discounted Cash Flow Analysis. Using a discounted cash flow analysis,
Nesbitt Burns calculated the present value of the estimated unlevered free cash
flows of NetSilicon for the fiscal years 2002 to 2006 and a residual value at
2006, based upon estimates prepared by the management of Digi. Nesbitt Burns
determined certain equity value reference ranges for NetSilicon based upon the
sum of: (i) the discounted value (using discount rates ranging from 17.0% to
21.0%) of the estimated unlevered free cash flows of NetSilicon, plus (ii) the
discounted value (using various discount rates from 17.0% to 21.0%) of the
product of (a) estimated revenue for NetSilicon for fiscal year 2006 and (b)
various residual value multiples (ranging from 1.75x to 2.50x), less (iii) total
debt net of cash and short-term investments.
This analysis resulted in an implied equity value reference range per share
of NetSilicon common stock of $4.63 to $6.91.
Contribution Analysis. Nesbitt Burns computed the following:
- The relative contributions of Digi and NetSilicon to the estimated
revenue and gross profit of the combined company for Digi's fiscal years
ended on or about September 2001 through 2003, based on management
forecasts provided by Digi.
- The relative current market capitalization of Digi and NetSilicon to the
sum of the two companies' combined market capitalizations, as of October
29, 2001.
Nesbitt Burns then computed, assuming an all-stock transaction, the fully
diluted ownership of NetSilicon stockholders in the combined company implied by
NetSilicon's relative contribution as well as the resulting implied exchange
ratio.
49
Based on this analysis, Nesbitt Burns observed the following:
IMPLIED NETSILICON STOCKHOLDERS
FULLY DILUTED OWNERSHIP IMPLIED ZERO PREMIUM
PERCENTAGE EXCHANGE RATIO
------------------------------- --------------------
Revenue
Estimated FYE 9/2001.................. 19.0% 0.2556
Estimated FYE 9/2002.................. 22.4% 0.3153
Estimated FYE 9/2003.................. 27.7% 0.4177
Gross Profit
Estimated FYE 9/2001.................. 20.9% 0.2877
Estimated FYE 9/2002.................. 24.0% 0.3436
Estimated FYE 9/2003.................. 30.6% 0.4801
Equity Market
Capitalization -- Diluted............. 28.5% 0.4353
Nesbitt Burns noted that the estimated pro forma fully diluted ownership,
assuming an all-stock transaction, of NetSilicon stockholders in the combined
company implied by the exchange ratio in the merger was 37.3% and that the
exchange ratio was .65.
Pro Forma Earnings Analysis. Nesbitt Burns analyzed the potential pro
forma effect of the merger on Digi's estimated earnings per share for Digi's
fiscal years ending September 30, 2002 and 2003, taking into consideration
various financial effects which will result from consummation of the merger.
This analysis relies upon financial and operating assumptions provided by Digi
management and publicly available data about NetSilicon and Digi.
Nesbitt Burns noted that, without giving effect to any potential cost
savings and other synergies identified by the management of Digi, the
transaction would have the following impact on Digi's estimated EPS:
Fiscal year 2002 estimated EPS accretion/(dilution) (171.2)%
Fiscal year 2003 estimated EPS accretion/(dilution) 41.9%
The actual results achieved by the combined companies may vary from
projected results, and such variations may be material.
The preparation of a fairness opinion is a complex process and is not
necessarily susceptible to partial analysis or summary description. Selecting
portions of the analyses or of the summary set forth above, without considering
the analyses as a whole, could create an incomplete view of the processes
underlying Nesbitt Burns' opinion. In arriving at its fairness determination,
Nesbitt Burns considered the results of all such analyses. No company or
transaction used in the above analyses as a comparison is directly comparable to
NetSilicon, Digi or the contemplated transaction.
The analyses were prepared solely for purposes of providing an opinion to
Digi's board of directors as to the fairness from a financial point of view to
Digi of the merger consideration as of October 30, 2001.
The analyses do not purport to be appraisals or necessarily reflect the
prices at which businesses or securities actually may be sold. Analyses based
upon forecasts of future results are not necessarily indicative of actual future
results, which may be significantly more or less favorable than suggested by
such analyses. Because such analyses are inherently subject to uncertainty,
being based upon numerous factors or events beyond the control of the parties or
their respective advisors, none of Digi, Nesbitt Burns or any other person
assumes responsibility if future results are materially different from those
forecast.
As described above, Nesbitt Burns' opinion to Digi's board of directors was
one of many factors taken into consideration by Digi's board of directors in
making its determination to approve the merger. The foregoing summary does not
purport to be a complete description of the analyses performed by Nesbitt Burns.
50
Nesbitt Burns' opinion was necessarily based upon financial, economic,
market and other conditions as they existed, and the information made available
to Nesbitt Burns, as of the date of the opinion. Nesbitt Burns disclaimed any
undertaking or obligation to advise any person of any change in any fact or
matter affecting the opinion which may come or be brought to Nesbitt Burns'
attention after the date of the opinion.
Nesbitt Burns, as part of its investment banking business, is continually
engaged in the valuation of businesses and their securities in connection with
mergers and acquisitions, negotiated underwritings, competitive biddings,
secondary distributions of listed and unlisted securities, private placements
and valuations for estate, corporate and other purposes. Nesbitt Burns may have
in the past provided certain investment banking services to Digi, and certain of
its affiliates may have provided corporate banking services to Digi and
NetSilicon from time to time for which they have received or will receive
customary fees. Nesbitt Burns and certain of its affiliates may provide
investment and corporate banking services to Digi and its affiliates in the
future. Nesbitt Burns provides a full range of financial advisory and securities
services and, in the course of its normal trading activities, may from time to
time effect transactions and hold securities, including derivative securities,
of Digi or NetSilicon for its own account and for the accounts of customers.
Pursuant to a letter agreement effective as of June 30, 2001, Digi engaged
Nesbitt Burns to act as its financial advisor in connection with the possible
acquisition of, or merger with, NetSilicon. Pursuant to the terms of the letter
agreement, upon the consummation of the merger, Nesbitt Burns will be entitled
to receive a fee of $575,000 from Digi in connection with the merger (a portion
of which has been previously earned in connection with the engagement of Nesbitt
Burns as financial advisor). Digi also has agreed to reimburse Nesbitt Burns for
its reasonable out-of-pocket expenses, including counsel fees, and to indemnify
Nesbitt Burns against certain liabilities, including certain liabilities under
the federal securities laws.
OPINION OF FINANCIAL ADVISOR TO NETSILICON
Thomas Weisel Partners LLC has acted as financial advisor to NetSilicon in
connection with the merger. On October 24, 2001, Thomas Weisel Partners
delivered to the board of directors of NetSilicon its oral opinion that, as of
that date, the consideration to be received by the stockholders of NetSilicon
was fair to such stockholders from a financial point of view. Thomas Weisel
Partners subsequently restated its oral opinion, as of October 29, 2001, and
also delivered to the board of directors of NetSilicon its written opinion,
dated October 29, 2001, confirming its oral opinion. NetSilicon did not impose
any limitations on Thomas Weisel Partners with respect to the investigations
made or procedures followed in rendering its opinion.
The full text of the Thomas Weisel Partners opinion is attached as Annex F
to this joint proxy statement/prospectus. Stockholders of NetSilicon are urged
to, and should, read this opinion carefully and in its entirety. We have,
however, included the following summary of the Thomas Weisel Partners opinion.
Thomas Weisel Partners directed its opinion to the board of directors of
NetSilicon. The opinion does not constitute a recommendation to you as to how
you should vote with respect to the transaction. The opinion addresses only the
fairness of the consideration to be received by stockholders of NetSilicon from
a financial point of view. It does not address the relative merits of the merger
or any alternatives to the merger. Further, it does not address NetSilicon's
underlying decision to proceed with or effect the merger. In furnishing its
opinion, Thomas Weisel Partners did not admit that it is an expert within the
meaning of the term "expert" as used in the Securities Act of 1933, nor did it
admit that its opinion constitutes a report or valuation within the meaning of
the Securities Act of 1933. The Thomas Weisel Partners opinion includes
statements to this effect.
In connection with its opinion, Thomas Weisel Partners, among other things:
- reviewed certain publicly available financial and other data with respect
to NetSilicon and Digi, including the consolidated financial statements
for recent years and interim periods to July 28, 2001
51
with respect to NetSilicon and June 30, 2001 with respect to Digi, and
certain other relevant financial and operating data relating to
NetSilicon and Digi made available to Thomas Weisel Partners from
published sources and from the internal records of both companies;
- reviewed the financial terms and conditions of the merger agreement;
- reviewed certain publicly available information concerning the trading
of, and the trading market for, NetSilicon's and Digi's common stock;
- compared NetSilicon and Digi from a financial point of view with certain
other companies in the communication technology industry generally which
Thomas Weisel Partners deemed to be relevant;
- considered the financial terms, to the extent publicly available, of
selected recent business combinations of companies in the communication
technology industry generally which Thomas Weisel Partners deemed to be
relevant, in whole or in part, to the merger;
- reviewed and discussed with representatives of the management of
NetSilicon and Digi certain information of a business and financial
nature regarding NetSilicon and Digi, furnished to Thomas Weisel Partners
by them, including financial forecasts and related assumptions for
NetSilicon and Digi;
- made inquiries regarding and discussed the merger and the merger
agreement and other matters related thereto with NetSilicon's counsel;
and
- performed such other analyses and examinations as Thomas Weisel Partners
deemed appropriate.
In preparing its opinion, Thomas Weisel Partners did not assume any
obligation to independently verify the information referred to above. Instead,
with NetSilicon's consent, Thomas Weisel Partners relied on the information
being accurate and complete in all material respects. Thomas Weisel Partners
also made the following assumptions, in each case with NetSilicon's consent:
- with respect to the financial forecasts for NetSilicon and Digi described
above, Thomas Weisel Partners assumed for purposes of its opinion, upon
the advice of management of NetSilicon and Digi, that (a) these forecasts
have been reasonably prepared on bases reflecting the best available
estimates and judgments of management of NetSilicon and Digi at the time
of preparation as to the future financial performance of NetSilicon and
Digi, and (b) these forecasts provide a reasonable basis upon which
Thomas Weisel Partners could form its opinion;
- that there have been no material changes in NetSilicon's or Digi's
assets, financial condition, results of operations, business or prospects
since the respective dates of their last financial statements made
available to Thomas Weisel Partners;
- that the merger that will be consummated in a manner that complies in all
material respects with the applicable provisions of the Securities Act of
1933, the Securities Exchange Act of 1934, and all other applicable
federal and state statutes, rules and regulations;
- that the merger will be recorded as a purchase under generally accepted
accounting principles;
- that all non-voting shares of NetSilicon's common stock will convert into
Digi's common stock or cash in connection with the merger on the same
terms as the voting stock; and
- that the transaction will be consummated in accordance with the terms
described in the merger agreement without further amendment thereto, and
without any waiver by NetSilicon of any of the conditions to any party's
obligations thereunder.
In addition, for purposes of its opinion:
- Thomas Weisel Partners relied on advice of NetSilicon's counsel and
independent accountants as to all legal and financial reporting matters
with respect to NetSilicon, the merger and the merger agreement,
including the legal status and financial reporting of litigation
involving NetSilicon; and
52
- Thomas Weisel Partners did not assume responsibility for making an
independent evaluation, appraisal or physical inspection of the assets or
liabilities (contingent or otherwise) of NetSilicon or Digi, nor was
Thomas Weisel Partners furnished with any such appraisals.
The Thomas Weisel Partners opinion was based on economic, monetary, market
and other conditions as in effect on, and the information made available to
Thomas Weisel Partners as of, the date of its opinion. The opinion expressed by
Thomas Weisel Partners was rendered during a period of unusual volatility in the
financial markets and may be affected by material developments in the economic,
monetary and market and other conditions from those prevailing on the date of
the opinion. Accordingly, although subsequent developments may affect its
opinion, Thomas Weisel Partners has not assumed any obligation to update, revise
or reaffirm its opinion.
The following represents a brief summary of the material financial analyses
performed by Thomas Weisel Partners in connection with providing its opinion to
the board of directors of NetSilicon. Some of the summaries of financial
analyses performed by Thomas Weisel Partners include information presented in
tabular format. In order to fully understand the financial analyses performed by
Thomas Weisel Partners, you should read the tables together with the text of
each summary. The tables alone do not constitute a complete description of the
financial analyses. Considering the data set forth in the tables without
considering the full narrative description of the financial analyses, including
the methodologies and assumptions underlying the analyses, could create a
misleading or incomplete view of the financial analyses performed by Thomas
Weisel Partners.
Comparable Company Valuation Analysis. Based on public and other available
information, Thomas Weisel Partners calculated the aggregate value, which Thomas
Weisel Partners defined as equity value plus total debt less cash and cash
equivalents, as a multiple of estimated revenue for companies in the
communication technology industry for calendar years 2001 and 2002. Thomas
Weisel Partners believes that the following 11 companies listed below have
operations similar to some of the operations of NetSilicon, but noted that none
of these companies has the same management, composition, size or combination of
businesses as NetSilicon: 3Com Corporation, Advanced Electronics, Avocent
Corporation, Cirrus Logic, Inc., Echelon Corporation, Lantronix, Inc., Network
Technologies, Inc., Oak Technology, Inc., Peerless Systems Group, RadiSys
Corporation and Standard Microsystems.
The following table sets forth the multiples indicated by this analysis and
the price per share range implied by the proposed merger:
IMPLIED PRICE PER
AGGREGATE VALUE TO NETSILICON VALUATION RANGE SHARE RANGE
------------------ ------------- --------------- -----------------
2001 Estimated Revenue $28.6 million 0.6x-6.3x $2.01-$11.70
2002 Estimated Revenue $37.4 million 0.5x-4.8x $2.19-$11.70
Thomas Weisel Partners noted that the per-share value of the consideration
to be received by the stockholders of NetSilicon in connection with the merger,
$3.58, fell within the ranges indicated by this analysis.
While the comparable company valuation analysis compared NetSilicon to 11
public companies in the communication technology industry, Thomas Weisel
Partners did not include every company that could be deemed to be a participant
in this same industry, or in the specific sectors of this industry.
Comparable Transactions Analysis. Based on public and other available
information, Thomas Weisel Partners calculated aggregate value as a multiple of
revenue for the last 12 months, or LTM, and for the
53
next 12 months, or NTM, in 11 particularly comparable acquisitions of
communication technology companies that have been announced since March 2, 1998:
ANNOUNCEMENT DATE NAME OF ACQUIROR NAME OF TARGET COMPANY
----------------- ---------------- ----------------------
October 1, 2001 GlobeSpan, Inc. Virata Corporation
July 2, 2001 RadiSys Corporation Microware Systems Corporation
October 27, 2000 Microchip Technology, Inc. TelCom Semiconductor, Inc.
August 24, 2000 Zoran Corporation Nogatech, Inc.
January 28, 2000 International Rectifier Corporation Zing Technologies, Inc.
July 29, 1999 Oak Technology, Inc. Xionics Document Technologies, Inc.
May 3, 1999 Texas Instruments Inc. Integrated Sensor Solutions, Inc.
February 22, 1999 LSI Logic Corporation SEEQ Technology, Inc.
December 22, 1998 STMicroelectronics NV Vision Group PLC
November 2, 1998 Integrated Device Technology, Inc. Quality Semiconductor, Inc.
March 2, 1998 Unitrode Corporation Benchmarq Microelectronics, Inc.
The following table sets forth the multiples indicated by this
analysis and the price per share range implied by the proposed merger:
IMPLIED PRICE PER
AGGREGATE VALUE TO NETSILICON VALUATION RANGE SHARE RANGE
------------------ ------------- --------------- -----------------
LTM Revenue.............................. $32.6 million 0.6x-3.8x $2.26-$8.66
NTM Revenue.............................. $31.2 million 1.3x-2.1x $3.73-$5.36
Thomas Weisel Partners observed that while the per share value of the
consideration to be received by the stockholders of NetSilicon in connection
with the merger, $3.58, with respect to LTM revenue was within the range
indicated by comparable transactions, such per share value with respect to NTM
revenue fell below the range indicated by comparable transactions. Thomas Weisel
Partners noted this fact, but as discussed below, comparable transactions
analysis was just one of several analyses used by Thomas Weisel Partners to
reach its fairness determination. No company or transaction used in the
comparable company or comparable transactions analyses is identical to
NetSilicon, Digi or the merger. Accordingly, an analysis of the results of the
foregoing is not mathematical; rather, it involves complex considerations and
judgments concerning differences in financial and operating characteristics of
the companies and other factors that could affect the public trading value of
the companies to which NetSilicon, Digi and the transaction are being compared.
Thomas Weisel Partners also calculated for these same 11 transactions
premiums paid over the average share price of the acquired company as of five
trading days and 20 trading days prior to the announcement of the acquisition
offer, as well as the premiums paid over the average exchange ratio as of one
trading day, five trading days and 20 trading days prior to the announcement of
the acquisition offer.
The following table shows the premiums paid over the share price of the
acquired company with respect to these comparable acquisition transactions:
IMPLIED PRICE PER
NETSILICON VALUATION RANGE SHARE RANGE
---------- --------------- -----------------
Premium Five Days Prior To Announcement...... $2.75 (3)%-79% $2.65-$4.92
Premium 20 Days Prior To Announcement........ $2.51 (14)%-86% $2.17-$4.66
Thomas Weisel Partners noted that the per share value of the consideration
to be received by the stockholders of NetSilicon in connection with the merger,
$3.58, fell within these ranges.
54
The following table shows the premiums paid over the average exchange ratio
with respect to these comparable acquisition transactions:
IMPLIED PRICE PER
NETSILICON VALUATION RANGE SHARE RANGE
---------- --------------- -----------------
Premium One Day Prior To Announcement........ 0.44x (8)%-66% $2.22-$3.98
Premium Five Days Prior To Announcement...... 0.48x 4%-67% $2.74-$4.39
Premium 20 Days Prior To Announcement........ 0.48x (12)%-82% $2.32-$4.81
Thomas Weisel Partners noted that the per share value of the consideration
to be received by the stockholders of NetSilicon in connection with the merger,
$3.58, fell within these ranges.
Technology Transactions Analysis. Thomas Weisel Partners reviewed the
consideration and premiums paid in comparable acquisitions by acquirors in 63
selected transactions involving technology companies. The transactions selected
were those with an aggregate value of at least $20 million and announced since
January 1, 2000. Thomas Weisel Partners calculated the premiums paid in these
transactions over the share price of the acquired company as of five trading
days and 20 trading days prior to the announcement of acquisition offer, as well
as the premiums paid over the average exchange ratio as of one trading day, five
trading days and 20 trading days prior to the announcement of the acquisition
offer.
The following table shows the premiums paid over the average share price of
the acquired company with respect to these technology transactions:
IMPLIED PRICE PER
NETSILICON VALUATION RANGE SHARE RANGE
---------- --------------- -----------------
Premium Five Days Prior To Announcement...... $2.75 (52)%-141% $1.32-$6.62
Premium 20 Days Prior To Announcement........ $2.51 (48)%-130% $1.30-$5.77
Thomas Weisel Partners noted that the per share value of the consideration
to be received by the stockholders of NetSilicon in connection with the merger,
$3.58, fell within these ranges.
The following table shows the premiums paid over the average exchange ratio
with respect to these technology transactions:
IMPLIED PRICE PER
NETSILICON VALUATION RANGE SHARE RANGE
---------- --------------- -----------------
Premium One Day Prior To Announcement........ 0.44x (54)%-120% $1.10-$5.27
Premium Five Days Prior To Announcement...... 0.48x (58)%-113% $1.11-$5.60
Premium 20 Days Prior To Announcement........ 0.48x (56)%-129% $1.17-$6.03
Thomas Weisel Partners noted that the per share value of the consideration
to be received by the stockholders of NetSilicon in connection with the merger,
$3.58, fell within these ranges.
Contribution Analysis. Based on public and other available information,
Thomas Weisel Partners reviewed the estimated contribution of each of NetSilicon
and Digi to estimated total revenues for the combined company for calendar year
2002. Thomas Weisel Partners then compared these contributions to the forecasted
share ownership of the combined company to be owned by the stockholders of
NetSilicon, assuming consummation of the merger as described in the merger
agreement. This analysis indicated an implied percentage revenue contribution
range for NetSilicon of approximately 10% to 37% in the combined company, as
compared to the forecasted share ownership by the stockholders of NetSilicon of
approximately 29.7% in the combined company based on the exchange ratio.
Thomas Weisel Partners noted that with respect to this revenue contribution
analysis, the implied per share value for NetSilicon ranged from (a) $1.15 to
$2.62, based on Digi's aggregate value, which is calculated as equity value plus
total debt less cash and cash equivalents and (b) $0.67 to $3.50, based on
Digi's equity value, which is calculated on the basis of the closing stock price
on October 29, 2001.
55
Thomas Weisel Partners observed that the per share value of the consideration to
be received by the stockholders of NetSilicon in connection with the merger,
$3.58, exceeded these ranges.
The foregoing description is only a summary of the analyses and
examinations that Thomas Weisel Partners deems material to its opinion. It is
not a comprehensive description of all analyses and examinations actually
conducted by Thomas Weisel Partners. The preparation of a fairness opinion
necessarily is not susceptible to partial analysis or summary description.
Thomas Weisel Partners believes that its analyses and the summary set forth
above must be considered as a whole and that selecting portions of its analyses
and of the factors considered, without considering all analyses and factors,
would create an incomplete view of the process underlying the analyses set forth
in its presentation to the board of directors of NetSilicon. In addition, Thomas
Weisel Partners may have given various analyses more or less weight than other
analyses, and may have deemed various assumptions more or less probable than
other assumptions. The fact that any specific analysis has been referred to in
the summary above is not meant to indicate that this analysis was given greater
weight than any other analysis. Accordingly, the ranges of valuations resulting
from any particular analysis described above should not be taken to be the view
of Thomas Weisel Partners with respect to the actual value of NetSilicon.
In performing its analyses, Thomas Weisel Partners made numerous
assumptions with respect to industry performance, general business and economic
conditions and other matters, many of which are beyond the control of NetSilicon
and Digi. The analyses performed by Thomas Weisel Partners are not necessarily
indicative of actual values or actual future results, which may be significantly
more or less favorable than those suggested by these analyses. These analyses
were prepared solely as part of the analysis performed by Thomas Weisel Partners
with respect to the financial fairness of the consideration to be received by
NetSilicon's stockholders pursuant to the transaction, and were provided to the
board of directors of NetSilicon in connection with the delivery of the Thomas
Weisel Partners opinion. The analyses do not purport to be appraisals or to
reflect the prices at which a company might actually be sold or the prices at
which any securities may trade at any time in the future.
As described above, Thomas Weisel Partners' opinion and presentation were
among the many factors that the board of directors of NetSilicon took into
consideration in making its determination to approve, and to recommend that
NetSilicon's stockholders approve, the merger agreement and the merger.
Pursuant to the terms of an engagement letter, NetSilicon agreed to pay to
Thomas Weisel Partners a customary financial advisory fee, a substantial portion
of which will be received upon the consummation of the merger. The board of
directors of NetSilicon was aware of this fee structure and took it into account
in considering the Thomas Weisel Partners opinion and in approving the merger.
Further, NetSilicon has agreed to reimburse Thomas Weisel Partners for its
reasonable out-of-pocket expenses and to indemnify Thomas Weisel Partners, its
affiliates, and their respective, directors, officers, agents, consultants,
employees and controlling persons against specific liabilities, including
liabilities under the federal securities laws.
NetSilicon selected Thomas Weisel Partners to act as its financial advisor
in connection with the merger based on Thomas Weisel Partners' experience,
expertise and reputation, and its familiarity with NetSilicon's business. Thomas
Weisel Partners is a nationally recognized investment banking firm and is
regularly engaged in the valuation of businesses and securities in connection
with mergers and acquisitions, leveraged buyouts, negotiated underwritings,
secondary distributions of listed and unlisted securities, private placements
and valuations for corporate and other purposes. In the ordinary course of its
business, Thomas Weisel Partners actively trades the equity securities of
NetSilicon for its own account and for the accounts of customers and,
accordingly, may at any time hold a long or short position in these securities.
NETSILICON PROJECTIONS PROVIDED TO DIGI
NetSilicon provided Digi with projections that NetSilicon prepared of its
future financial performance for the fiscal years ending January 31, 2003 and
2004. The material portions of these projections reflected projected total
revenues of approximately $39.0 million, and $62.0 million respectively, total
costs and
56
expenses of approximately $38.0 million and $59.0 million respectively, and
earnings from operations of approximately $1.0 million and $3.0 million,
respectively.
The statements regarding NetSilicon's financial projections constitute
forward-looking statements within the meaning of Section 27A of the Securities
Act and Section 21E of the Securities Exchange Act and are subject to the safe
harbors created under these sections. In light of the significant uncertainties
inherent in forward-looking financial information of any kind, our including
this information in this joint proxy statement/prospectus should not be regarded
as a representation that the financial projections will be achieved. You are
cautioned that these financial projections should not be regarded as fact and
should not be relied upon as an accurate representation of future results. The
projections were not examined, reviewed, or compiled by BDO Seidman, LLP,
NetSilicon's independent auditors. BDO Seidman assumes no responsibility for the
projections, they do not express any opinion or any other form of assurance on
the projections, and they disclaim any association with the projections. The
projections were not prepared in accordance with the standards for prospective
financial information established by the American Institute of Certified Public
Accountants. The financial projections were prepared by, and are the sole
responsibility of, NetSilicon's management for internal budgeting and planning
purposes and not for the purposes of the proposed merger. They were based on
numerous subjective estimates and other assumptions and are inherently subject
to significant uncertainties and contingencies. Further, there have been and
will be differences between actual and forecasted results, and these differences
may be material. As disclosed elsewhere in this joint proxy statement/prospectus
under "Cautionary Statement Concerning Forward-Looking Statements," NetSilicon's
business and operations are subject to substantial risks that increase the
uncertainty inherent in the financial projections. Any of the factors disclosed
under "Cautionary Statement Concerning Forward-Looking Statements" could cause
the actual results to differ materially from the financial projections described
above.
The financial projections were prepared by NetSilicon in September 2001 as
part of NetSilicon's normal forecasting process for 2003 and 2004, and do not
reflect or take into account any circumstances or events occurring after that
date. In addition, the financial projections were prepared on the assumption
that NetSilicon remained an independent company, and it is highly likely that
the contribution of NetSilicon's business to Digi's consolidated results will be
different from NetSilicon's performance on a stand-alone basis. In analyzing the
potential benefits of the transaction with NetSilicon, Digi did not assume that
the financial projections provided by NetSilicon would be achieved. Digi and
NetSilicon disclaim any duty to update or otherwise publicly revise the
projections and make no representations as to whether the projections will be
achieved.
INTERESTS OF DIRECTORS AND EXECUTIVE OFFICERS OF NETSILICON IN THE MERGER
When considering the recommendation of NetSilicon's board of directors
regarding the merger, NetSilicon stockholders should be aware that some of
NetSilicon's directors and officers have interests in the merger that are
different from, or in addition to, other stockholders' interests. NetSilicon's
board of directors was aware of these interests before approving the merger
agreement. The interests include the following:
Ownership and Voting Stock. As of December 17, 2001, the directors and
executive officers beneficially owned 2,382,955 shares of NetSilicon common
stock, including stock options to purchase 2,282,424 shares of NetSilicon common
stock, exercisable within 60 days of December 17, 2001, which includes 952,900
options to purchase shares of common stock which will accelerate and become
exercisable upon consummation of the merger, representing in the aggregate
approximately 14.6% of the outstanding shares of NetSilicon common stock.
Additionally, each of the directors and executive officers of NetSilicon who
owns NetSilicon stock has agreed, pursuant to the terms of a voting agreement,
to vote for the approval of the merger agreement and the merger.
Accelerated Stock Option Vesting. Assuming the completion of the merger as
of February 13, 2002, unvested options to purchase shares of NetSilicon common
stock held by NetSilicon's directors will vest
57
and become immediately exercisable upon the completion of the merger and will be
exercisable for the balance of their scheduled terms.
Peterson Employment Agreement. NetSilicon has entered into an amended
employment agreement with NetSilicon's Chairman and Chief Executive Officer,
Cornelius Peterson, VIII. This agreement provides that, in the event of a change
of control, such as the merger, Mr. Peterson's unvested stock options will vest
immediately and all of Mr. Peterson's stock options will remain in full force
and effect and may be exercised at any time up to their latest possible date of
expiration as set forth in each stock option agreement. Mr. Peterson also
received a one-time payment of $740,000 on December 28, 2001. If the merger is
not subsequently consummated, Mr. Peterson will receive an additional payment of
$10,000, which, along with the $740,000, would constitute prepaid salary for a
period of three years. If Mr. Peterson voluntarily terminates his employment
prior to the end of that three-year period, he must repay the unearned portion
of that prepaid salary.
Additionally, pursuant to that agreement, NetSilicon has forgiven the
payment obligations of two promissory notes in the aggregate principal amount of
$871,207.80 plus interest made by Mr. Peterson and has made an additional
payment necessary to cover taxes owed by Mr. Peterson as a result of the
forgiveness and the additional payment.
Under the agreement, if Mr. Peterson terminates his employment for good
reason (as defined in the agreement) or is terminated without cause, Mr.
Peterson is entitled to receive payment for accrued but unused vacation time,
payment for unpaid reimbursable expenses, acceleration of unvested options and
continuation of health coverage including obtaining a medicare supplement policy
for Mr. Peterson and his spouse subject to the specific terms of the agreement.
If, and only if, the merger is not consummated, he will also be entitled to
receive continuation of his base salary (as defined in the agreement) for two
years and a lump-sum cash payment equal to one year of salary (which payments
will each be offset by the unearned portion of the prepaid salary described
above).
Additionally, if any payment or benefit to which Mr. Peterson is entitled
under the employment agreement constitutes a "parachute payment" within the
meaning of Section 280G of the Internal Revenue Code, and as a result Mr.
Peterson is subject to an excise tax, NetSilicon will pay to Mr. Peterson an
additional amount, which is intended to make Mr. Peterson whole for payment of
the excise tax. This "gross-up" amount will equal the amount of the excise tax
(including the aggregate amount of any interest, penalties, fines or additions
imposed in connection with the imposition or such excise tax), plus all income,
excise and other applicable taxes imposed on Mr. Peterson under any federal,
state or local government or taxing authority by reason of those payments.
Finally, Mr. Peterson has also entered into an amended and restated
employment agreement with Digi that will become effective only upon consummation
of the merger and will continue for eighteen months after the consummation of
the merger unless sooner terminated. Under this agreement, Mr. Peterson will
serve as Digi's Senior Vice President of Business Development. The other terms
of this agreement are substantially similar to the agreement Mr. Peterson
currently has with NetSilicon.
Sullivan Employment Agreement. NetSilicon and Digi have entered into an
amended employment agreement with Daniel J. Sullivan, NetSilicon's Chief
Financial Officer, in connection with the merger. Under this agreement, Mr.
Sullivan's unvested stock options will vest immediately upon the consummation of
a change of control, such as the merger. Mr. Sullivan's options with a per-share
exercise price of $7.00 or less will become exercisable for Digi common stock
for a period of 24 months following the consummation of the merger. Upon
consummation of the merger, Digi will pay Mr. Sullivan a retention bonus of
$80,000, which will be paid bi-weekly over a period of six months, provided
that, if Mr. Sullivan's employment is terminated prior to the end of such
six-month period for any reason other than termination by Digi without cause,
Mr. Sullivan would not be entitled to any such payment and would be required to
repay any amounts already paid to him. If Mr. Sullivan is terminated without
cause during the six-month period, he would be entitled to the entire retention
bonus. Additionally, Mr. Sullivan will receive a bonus of $80,000 upon
consummation of the merger and an additional $80,000 six months following the
consummation of the merger.
58
In addition, Mr. Sullivan is entitled to receive a bonus equal to .25% of
the total merger consideration paid upon the successful completion of the
merger. The amount of this bonus will be approximately equal to $125,000.
Finally, if any payment or benefit to which Mr. Sullivan is entitled
constitutes a "parachute payment" pursuant to the Internal Revenue Code, and as
a result is subject to an excise tax, Mr. Sullivan will receive an additional
amount that is intended to make Mr. Sullivan whole for payment of the excise
tax. This "gross-up" amount will equal the amount of all taxes (including any
interest or penalties imposed with respect to such taxes), including, without
limitation, any income taxes (including any interest or penalties imposed with
respect to such taxes) and excise tax imposed upon the gross-up amount.
Other Executive Officers' Employment Agreements. Digi has entered into
other employment agreements with certain NetSilicon employees, which will take
effect upon consummation of the merger. Digi has entered into an employment
agreement with William Peisel which provides for 12 months of severance if he is
terminated at any time without cause. In addition, Digi will recommend the
issuance to him of stock options to purchase 50,000 shares of Digi common stock.
Mr. Peisel's existing stock option agreements have also been amended in
connection with the merger. Under the amendments, if Mr. Peisel's employment is
terminated without cause or if he terminates his employment for good reason (as
such terms are defined in the amended stock option agreements), his stock
options will immediately vest and become exercisable for a period of 24 months
following the date of termination.
Pursuant to an amended employment agreement between Michael Evensen,
NetSilicon and Digi, Digi will recommend the issuance to him of stock options to
purchase 50,000 shares of Digi common stock that would vest and become
exercisable for 24 months from the consummation of the merger. The agreement
also provides for Mr. Evensen to be employed as a General Manager of Digi for a
term of 24 months, and entitles him to participate in Digi's sales compensation
plan. The agreement will automatically renew for successive one year periods
unless terminated 60 days before the end of the term.
Pursuant to an amended employment agreement between Hiroyuki Kataoka,
NetSilicon and Digi, Mr. Kataoka will be entitled to received a gross payment of
$500,000 immediately prior to the consummation of the merger. NetSilicon
previously agreed to make this payment to Mr. Kataoka in connection with
NetSilicon's purchase of certain assets of Dimatech Corp. In addition, Digi will
recommend the issuance to him of stock options to purchase 50,000 shares of Digi
common stock that would vest and become exercisable for 24 months from the
consummation of the merger. The agreement provides for a 24-month employment
term for Mr. Kataoka, unless he is sooner terminated, and entitles him to
participate in Digi's sales compensation plan. The agreement will automatically
renew for successive one year periods unless terminated 60 days before the end
of the term.
Directorship. After completion of the merger, Digi has agreed to appoint
Cornelius Peterson, VIII, the Chairman of the Board and Chief Executive Officer
of NetSilicon, to Digi's board of directors.
Indemnification and Insurance. Under the merger agreement, for six years
after the closing of the merger, Digi will cause the surviving company to
indemnify NetSilicon's (or any of its subsidiaries') present and former
directors, officers or employees for acts or omissions occurring before the
completion of the merger to the extent provided under NetSilicon's articles of
incorporation, bylaws or similar organizational document in effect on the date
of the merger agreement. For six years after the closing of the merger, Digi
will cause the surviving company to provide directors' and officers' liability
insurance for acts or omissions occurring at or before the completion of the
merger covering each such person currently covered by NetSilicon's directors'
and officers' liability insurance policy on terms with respect to coverage and
amount no less favorable than those in effect on the date of the merger
agreement, but only to the extent that the cost of such insurance does not
exceed 200% of the average annual premium currently paid by NetSilicon.
ACCOUNTING TREATMENT
The merger will be accounted for as a "purchase" for financial reporting
purposes. After the completion of the merger, the results of operations of
NetSilicon will be included in the consolidated financial statements of Digi.
The purchase price will be allocated to the acquired assets and liabilities
59
based on their fair values. Any excess of cost over the fair value of the net
tangible and identifiable intangible assets of NetSilicon acquired will be
recorded as goodwill. No amortization expense will be recognized for the
goodwill generated as a result of the merger, although such goodwill will be
subject to periodic reviews for impairment. A final determination of the
intangible asset lives and required purchase accounting adjustments, including
the allocation of the purchase price to the assets acquired and liabilities
assumed based on their respective fair values, has not yet been made.
Accordingly, the purchase accounting adjustments made in connection with the
development of the unaudited pro forma financial information appearing elsewhere
in this joint proxy statement/prospectus are preliminary and have been made
solely for purposes of developing the unaudited pro forma financial information.
For financial reporting purposes, the results of operations of NetSilicon will
be included in Digi's statement of operations following the effective time of
the merger and Digi's historical statements of operations will not be restated.
FEDERAL INCOME TAX CONSEQUENCES
The following discussion summarizes material federal income tax
consequences of the merger to holders of NetSilicon common stock, and to Digi,
Dove Sub, and NetSilicon. The discussion is based on the current provisions of
the Internal Revenue Code, existing and proposed Treasury Regulations,
interpretive rulings of the Internal Revenue Service, and court decisions, all
of which are subject to change at any time, possibly with retroactive effect.
Any such change could affect the continuing validity of this summary.
Holders of NetSilicon common stock should be aware that this discussion
does not deal with all federal income tax considerations that may be relevant to
all stockholders in light of their particular circumstances. For example, the
discussion may not be applicable to insurance companies, tax-exempt
organizations, financial institutions, nonresident alien individuals, or foreign
entities. Others with special considerations include those who are subject to
the alternative minimum tax provisions of the Internal Revenue Code, who
acquired their shares in connection with stock options or in other compensatory
transactions, who hold shares in a hedging transaction or as part of a straddle
or conversion transaction, or who hold NetSilicon stock options to be assumed by
Digi in the merger. In addition, the following discussion does not address the
tax consequences of the merger under foreign, state, local, and other tax laws.
The discussion assumes that the NetSilicon common stock is a capital asset in
the hands of the holder.
ACCORDINGLY, HOLDERS OF NETSILICON COMMON STOCK ARE URGED TO CONSULT THEIR
OWN TAX ADVISORS WITH RESPECT TO THE SPECIFIC TAX CONSEQUENCES OF THE MERGER IN
THEIR PARTICULAR CIRCUMSTANCES.
Neither Digi nor NetSilicon will request a ruling from the Internal Revenue
Service in connection with the merger. The merger agreement provides that the
obligation of NetSilicon and Digi to complete the merger is subject to the
receipt of a written opinion from their respective legal counsel that the merger
will constitute a reorganization under Section 368(a) of the Internal Revenue
Code. The condition regarding the receipt of the tax opinion may be waived, but
neither NetSilicon nor Digi has any current intention to do so.
The tax opinions will not bind the IRS or any court, and the IRS may assert
a contrary position. The tax opinions will be subject to assumptions and
qualifications, including the truth and accuracy of representations made by
NetSilicon, Digi, and Dove Sub in certificates to be delivered to counsel.
Subject to the limitations and qualifications referred to in this section
and assuming that the merger will constitute a reorganization within the meaning
of Section 368(a) of the Internal Revenue Code, the merger will generally result
in the following federal income tax consequences to the holders of NetSilicon
common stock and to Digi, Dove Sub, and NetSilicon:
1. A holder of NetSilicon common stock generally will not recognize gain
or loss with respect to shares of Digi common stock received in the
merger.
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2. A holder of NetSilicon common stock generally will recognize gain, but
not loss, equal to the lesser of the gain realized or the cash (other
than cash received in lieu of a fractional share) received in the
merger. The gain realized will equal the fair market value of the total
consideration received in the merger minus the adjusted tax basis of
the holder's NetSilicon common stock exchanged therefor.
3. Gain recognized by a holder of NetSilicon common stock will generally
be capital gain, but may, under some circumstances, constitute dividend
income. See paragraph 9 below.
4. The tax basis of the Digi common stock to be received by a holder of
NetSilicon common stock (including fractional shares that are deemed to
be issued) will be equal to the tax basis of the NetSilicon common
stock surrendered in the merger, decreased by the cash received in the
merger and increased by the amount of gain recognized as a result of
the merger.
5. The holding period of the Digi common stock received by a holder of
NetSilicon common stock will include the holding period for the
NetSilicon common stock exchanged therefor.
6. A holder of NetSilicon common stock who receives cash in lieu of a
fractional share of Digi common stock will be treated as having
received a fractional share in the merger and then having received cash
in exchange for the fractional share in a redemption described in
Section 302(a) of the Internal Revenue Code. As a result, the holder
will generally recognize capital gain or loss, measured by the
difference, if any, between the amount of cash received in lieu of the
fractional share and the holder's tax basis in the fractional share
treated as having been redeemed.
7. A holder of NetSilicon common stock who exercises appraisal rights and
receives a cash payment for his or her stock generally should recognize
capital gain or loss measured by the difference between the holder's
tax basis in the stock and the amount of cash received, other than any
amounts treated as interest.
8. Gain or loss will generally not be recognized by Digi, Dove Sub, or
NetSilicon as a result of the merger.
9. Although gain recognized by a holder of NetSilicon common stock who
exchanges such stock for Digi common stock and cash in the merger or
who exercises appraisal rights and receives a cash payment may be
capital gain, there are circumstances, in which all or part of the gain
recognized by such holder would be treated as a dividend rather than
capital gain. Such circumstances depend on the number of shares of
NetSilicon common stock as to which NetSilicon stockholders elect to
receive cash or exercise appraisal rights, the market price of Digi
common stock as of the effective time of the merger, the number of Digi
and NetSilicon common shares held by a holder and related parties,
whether such NetSilicon shares are held at a gain and the amount
thereof, and the amount of the accumulated earnings and profits of
NetSilicon for federal income tax purposes. Because the application of
dividend treatment depends in part upon each holder's particular
circumstances, holders should consult their own tax advisors regarding
the tax consequences of the merger to them. Holders who wish to avoid
dividend treatment should consider forgoing the election to receive
cash in the merger and instead sell on the open market some or all of
the Digi common stock received in the merger.
10. Certain noncorporate holders of NetSilicon common stock may be subject
to backup withholding at a 30% rate on reportable payments received in
exchange for NetSilicon common stock, including any amount received in
lieu of fractional shares, or received by a noncorporate holder who
exercises his or her dissenters' rights. Backup withholding generally
will not apply, however, to a holder who furnishes a correct taxpayer
identification number and certifies under penalties of perjury that
such number is correct and that he or she is not subject to backup
withholding on the substitute Form W-9 included in the enclosed letter
of transmittal, or is otherwise exempt from backup withholding.
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If the merger fails to qualify as a reorganization under Section 368(a) of
the Internal Revenue Code, then NetSilicon stockholders would recognize taxable
gain or loss with respect to each share of NetSilicon common stock surrendered
equal to the difference between the stockholder's basis in the share and the sum
of the cash and the fair market value, as of the effective time of the merger,
of the Digi common stock received in exchange for the share. In such an event, a
stockholder's aggregate basis in the Digi common stock so received would equal
its fair market value and the stockholder's holding period for that stock would
begin on the day after the effective time of the merger. In addition, NetSilicon
would be treated as if it made a taxable sale or exchange of its assets.
Each holder of NetSilicon common stock who participates in the merger will
be required to incorporate in the holder's federal income tax return for the
taxable year that includes the effective time of the merger a complete statement
of facts relating to the merger and to retain permanent records showing the
holder's tax basis in the NetSilicon common stock exchanged in the merger and
the amount of Digi common stock and cash received therefor.
THE PRECEDING DISCUSSION IS NOT A COMPLETE ANALYSIS OF ALL POTENTIAL TAX
EFFECTS RELEVANT TO THE MERGER. HOLDERS OF NETSILICON COMMON STOCK ARE URGED TO
CONSULT THEIR OWN TAX ADVISORS AS TO THE SPECIFIC TAX CONSEQUENCES OF THE MERGER
TO THEM, INCLUDING TAX RETURN REPORTING REQUIREMENTS, THE APPLICABILITY AND
EFFECT OF FEDERAL, STATE, LOCAL, AND OTHER TAX LAWS, AND THE EFFECTS OF ANY
CHANGES IN THE TAX LAWS.
REGULATORY MATTERS
Under the Hart-Scott-Rodino Antitrust Improvements Act, mergers over a
certain value may not be completed until the companies have made filings with
the appropriate regulatory agencies and the applicable waiting period has
expired or been terminated. If required, we expect to make the necessary filings
shortly after the date of this joint proxy statement/prospectus. The applicable
waiting period will expire 30 days after those filings are made unless earlier
terminated or extended by a request for additional information.
FEDERAL SECURITIES LAWS CONSEQUENCES; STOCK TRANSFER RESTRICTIONS
All shares of Digi common stock received by NetSilicon stockholders in the
merger are registered under the Securities Act and will be freely tradable
without restriction by people who will not be "affiliates" of Digi after the
merger or who were not "affiliates" of NetSilicon on the date of the NetSilicon
stockholders meeting. Any of these "affiliates" may resell the Digi common stock
received by him in the merger only if the shares are registered for resale under
the Securities Act or an exemption from registration under the Securities Act is
available. Those people may be permitted to effect resales under the safe-harbor
provisions of Rule 145 under the Securities Act, or Rule 144 in the case of
persons who become "affiliates" of Digi, or as otherwise permitted under the
Securities Act. People who may be deemed to be "affiliates" of NetSilicon or
Digi generally include individuals or entities that control, are controlled by,
or are under common control with, NetSilicon or Digi, as applicable, and may
include some officers and all directors of that party as well as principal
stockholders of NetSilicon or Digi, as applicable. Sorrento Networks
Corporation, as a holder of NetSilicon non-voting common stock, is not
considered to be an affiliate of NetSilicon, and will not be considered an
affiliate of Digi after the merger. We recommend that any of those people obtain
advice of securities counsel before making any resale.
The merger agreement provides that,
- on or before the date of the NetSilicon stockholders meeting, NetSilicon
will deliver to Digi a letter identifying all people who may be deemed to
be affiliates of NetSilicon for purposes of Rule 145 under the Securities
Act; and
- on or before the date of the NetSilicon stockholders meeting, NetSilicon
will use reasonable best efforts to cause each of its "affiliates" to
deliver a written agreement to the effect that the "affiliate" will not
offer or sell or otherwise dispose of any shares of Digi common stock
received in the merger in violation of the Securities Act or the rules
and regulations under the Securities Act.
This joint proxy statement/prospectus does not cover resales of Digi common
stock received by any person who may be deemed to be an "affiliate" of Digi or
NetSilicon.
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THE MERGER AGREEMENT
GENERAL
The following is a summary of the material terms of the merger agreement.
The complete text of the merger agreement is incorporated by reference and
attached as Annex A to this joint proxy statement/ prospectus. We encourage you
to read the merger agreement in its entirety.
STRUCTURE OF THE MERGER
Under the merger agreement, NetSilicon will merge with and into a wholly
owned subsidiary of Digi. As a result of the merger, NetSilicon will effectively
become a wholly owned subsidiary of Digi.
CLOSING; EFFECTIVE TIME
The merger will become effective when we file certificates of merger with
the Secretary of State of the State of Delaware and the Secretary of the
Commonwealth of the Commonwealth of Massachusetts. However, we may agree to a
later time and specify that time in the certificates of merger. We expect to
file the certificates of merger and to complete the merger shortly after the
stockholders meetings of Digi and NetSilicon, assuming the stockholders of both
companies approve the merger and the other conditions in the merger agreement
are satisfied or waived. See "-- Conditions to the Completion of the Merger"
beginning on page 67 for a discussion of these conditions.
NETSILICON STOCK OPTIONS AND EMPLOYEE STOCK PURCHASE PLAN
Digi will assume 4,083,354 unexercised stock options to purchase shares of
NetSilicon common stock with a per-share exercise price of $7.00 or less and
150,000 of such options issued to Cornelius Peterson, VIII with a per-share
exercise price of $18.00. In addition, Digi may assume other unexercised stock
options to purchase shares of NetSilicon common stock with a per-share exercise
price of $7.00 or less that are issued to new employees of NetSilicon, subject
to Digi's consent to the option issuances. Once assumed, those options will be
converted into options to acquire, on substantially the same terms as under the
NetSilicon stock plan and related agreements under which they were granted,
shares of Digi common stock equal to the number of shares of NetSilicon common
stock subject to the options multiplied by .65. Those assumed options will have
a per-share exercise price equal to the exercise price per share for the shares
of NetSilicon common stock which were purchasable pursuant to the NetSilicon
stock option divided by .65.
Except as discussed above, Digi will not assume 1,005,150 NetSilicon stock
options with a per-share exercise price greater than $7.00. These options are
immediately exercisable in full until they terminate, by their terms, 30 days
after the date of NetSilicon's notice to that effect, which will be mailed
shortly after this joint proxy statement/prospectus is mailed.
REPRESENTATIONS AND WARRANTIES
The merger agreement contains customary reciprocal representations and
warranties by each of us to the other relating to:
- corporate organization, standing, and qualification;
- capitalization;
- authorization, execution, and enforceability of the merger agreement;
- whether entering into the merger agreement will conflict with our charter
or bylaws, require consents or governmental approvals, or violate any
laws, regulations or existing agreements;
- documents filed by each of us with the SEC, including financial
statements, and disclosure of liabilities;
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- the contents of the registration statement and this joint proxy
statement/prospectus;
- the absence of material changes or events;
- tax matters;
- owned property;
- material contracts;
- intellectual property matters;
- litigation;
- compliance with applicable laws, and permitting and licensing
requirements;
- brokers and finders fees with respect to the merger;
- employee benefit plans;
- environmental matters;
- insurance;
- opinions of financial advisors;
- required stockholder votes in connection with the merger;
- relationships with our distributors, suppliers, and customers; and
- in the case of NetSilicon, the amendment of its rights agreement to
exempt the merger.
These representations and warranties do not survive the consummation of the
merger.
CONDUCT OF BUSINESS
During the period from the date of the merger agreement to the consummation
of the merger, each of us must comply with agreements relating to the conduct of
our respective businesses, except as otherwise permitted by the merger agreement
or as consented to by the other party.
Each of us has agreed that we will:
- use our reasonable best efforts to preserve our assets, technology, and
business organizations and to maintain our respective rights and
franchises;
- use our reasonable best efforts to keep available the services of our
officers and key employees;
- use our reasonable best efforts to maintain our existing relationships
with customers, suppliers, and others having significant business
relationships with us; and
- conduct our business and operations in the ordinary and usual course
consistent with past practice.
The merger agreement prohibits each of us, except as otherwise permitted by
the merger agreement or as consented to by the other party, from taking specific
actions, including:
- making any changes in our equity capital structure;
- purchasing any shares of our capital stock or any options to purchase our
capital stock or any securities convertible into our capital stock;
- declaring any dividend or making any other distribution with respect to
shares of our capital stock;
- amending our organizational documents;
- purchasing capital assets or making capital expenditures, with specified
permitted exceptions;
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- purchasing any business or the stock of any corporation, or merging or
consolidating with any person;
- leasing, encumbering or otherwise disposing of our assets, except in the
ordinary course of business consistent with past practice; or
- taking or omitting to take actions that would be reasonably likely to
result in any of the conditions to the merger not being satisfied, or
preventing, materially delaying, or materially impeding the consummation
of the merger, with specified permitted exceptions.
In addition, NetSilicon is prohibited from taking the following actions,
except as permitted by the merger agreement or as consented by Digi:
- issuing shares of NetSilicon capital stock or options to purchase its
capital stock or securities convertible into its capital stock, with
specified permitted exceptions, or designating any class or series of
capital stock from its authorized but undesignated preferred stock;
- incurring, assuming, or guaranteeing indebtedness for money borrowed,
with specified permitted exceptions;
- entering into new benefit plans or programs or severance or employment
agreements;
- granting increases in compensation or benefits of employees, officers, or
directors, except as required by existing agreements or in the ordinary
course of business consistent with past practice;
- entering into or negotiating collective bargaining agreements, except as
required by law;
- changing or modifying existing accounting methods, principles, or
practices, other than as required by generally accepted accounting
principles;
- entering into or adversely modifying material contracts;
- paying or satisfying any material claims, with specified permitted
exceptions;
- releasing, granting, or transferring rights of material value, other than
in the ordinary course of business consistent with past practice;
- entering into agreements or arrangements with affiliates other than
NetSilicon's wholly owned subsidiaries;
- relinquishing material contractual or other rights or claims, with
specified permitted exceptions; or
- knowingly disposing of or permitting to lapse any of NetSilicon's
material propriety rights, with specified permitted exceptions.
Each of us has also agreed that we will not, other than in the ordinary
course of business consistent with past practice, make any material tax election
or settle or compromise any tax liability, and that we will notify each other of
any request to extend the time to file any of our tax returns.
In addition, we have each agreed to use reasonable efforts to obtain any
third-party consents necessary to consummate the merger, and to notify each
other of the failure to obtain any necessary consents.
ADDITIONAL AGREEMENTS
Board of Directors' Covenant to Recommend. NetSilicon has agreed that its
board of directors will recommend approval of the merger agreement and the
merger by NetSilicon stockholders and will use its reasonable best efforts to
solicit proxies in connection with the NetSilicon stockholders meeting in favor
of the merger proposal. However, NetSilicon's board need not recommend approval
of the merger agreement and the merger nor need it solicit those proxies if
NetSilicon has received a superior acquisition proposal and the board determines
that it wishes to recommend approval of the superior acquisition proposal. The
concept of a "superior acquisition proposal" is explained below under "-- No
Solicitation."
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Digi has agreed that its board of directors will recommend approval of the
issuance of common stock in the merger by stockholders of Digi and will use it
reasonable best efforts to solicit proxies in connection with the Digi
stockholders meeting in favor of approval of the stock issuance.
No Solicitation. NetSilicon may not, and may not permit any of its
officers, directors, financial advisors, or other agents or representatives to,
take any action to solicit any third-party acquisition offer. In the merger
agreement, we define a third-party acquisition offer as any offer to:
- acquire any shares of capital stock of NetSilicon or its subsidiaries;
- merge or consolidate with NetSilicon or any of its subsidiaries; or
- otherwise acquire, except to the extent not prohibited by the merger
agreement, any significant portion of the assets of NetSilicon and its
subsidiaries, taken as whole.
If NetSilicon receives a third-party acquisition offer from any person or
group that is an offer to acquire, by tender offer, merger, acquisition of
assets, or otherwise, 40% or more of the outstanding shares or assets of
NetSilicon, then NetSilicon and its officers, directors, financial advisors, or
other agents or representatives to, may, directly or indirectly:
- engage in discussions or negotiations concerning the offer;
- disclose financial information, or any confidential or proprietary trade
or business information, relating to NetSilicon;
- afford access to its properties, books, or records; or
- otherwise cooperate in any way with any person or group that it has
reason to believe is considering a third-party acquisition offer;
only if NetSilicon has received from the offeror an executed confidentiality and
standstill agreement that is no less favorable to NetSilicon than the
confidentiality agreement dated May 17, 2001, between Thomas Weisel Partners and
Digi and the Mutual Non-Disclosure Agreement dated May 25, 2001, between
NetSilicon and Thomas Weisel Partners, and NetSilicon must provide to Digi all
information provided to the offeror on a substantially concurrent basis and,
before entering into discussions with such an offeror, the NetSilicon board
determines in good faith, after consulting with its outside legal counsel and
financial advisor, that the offer is reasonably likely to be more favorable to
NetSilicon's stockholders than the merger with Digi and that financing, to the
extent required, is committed or, in the good faith judgment of NetSilicon's
board, is reasonably capable of being obtained by the offeror. We sometimes
refer to a third-party acquisition offer that meets this requirement as a
"superior acquisition proposal."
NetSilicon has also agreed to advise Digi promptly of any third-party
acquisition offer or any inquiry or request for information that NetSilicon
reasonably believes could lead to or contemplates a third-party acquisition
offer and the terms and conditions thereof, including the identity of the person
making the offer, request or inquiry. NetSilicon is required to keep Digi
informed in all material respects of the status and details of any third-party
acquisition offer.
NetSilicon has also agreed not to release any party from, or waive any
provision of, any standstill agreement or any confidentiality agreement between
it and another person who has made, or who is reasonably likely to make, a
third-party acquisition offer, unless its board of directors determines in good
faith, after consultation with its outside legal counsel, that the action is
necessary for it to comply with its fiduciary duties under Massachusetts law.
NetSilicon is not required to refuse a request from any person who has signed a
standstill agreement with NetSilicon to make a third-party acquisition offer to
the Chief Executive Officer or the board of directors of NetSilicon if the board
of directors determines in good faith, after consultation with its outside legal
counsel, that the action is necessary for it to comply with its fiduciary duties
under Massachusetts law.
Employee Benefit Arrangements. Digi has agreed that, following the
consummation of the merger, for purposes of determining eligibility, vesting,
and entitlement to vacation and severance benefits for
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employees actively employed full time by NetSilicon or its subsidiaries before
the merger, all active NetSilicon employees employed full time by Digi or its
subsidiaries after the merger will receive credit for all pre-merger service
with NetSilicon or any subsidiary under any compensation, severance, welfare,
pension, benefit, or savings plan of the surviving company, Digi, or any of its
subsidiaries.
Indemnification and Insurance. Digi has agreed that all rights to
indemnification, expense advancements, and exculpation existing in favor of
present or former directors, officers, or employees of NetSilicon or any of its
subsidiaries under the charter, bylaws, or similar organizational documents of
NetSilicon or any of its subsidiaries or by law as in effect on the date of the
merger agreement will continue in effect for a period of at least six years
after the effective time of the merger. Digi has also agreed, for at least six
years following the merger, to cause the surviving company to maintain in effect
either:
- the current policy of directors' and officers' liability insurance
maintained by NetSilicon with respect to claims arising from facts or
events that occurred at or before the merger; or
- a run-off policy or endorsement with respect to the current policy
maintained by NetSilicon for claims asserted within six years after the
merger arising from facts or events that occurred at or before the
merger.
However, if the amount of the insurance coverage required to maintain the
current NetSilicon policy exceeds 200% of the amount currently expended by
NetSilicon for that insurance coverage, Digi is required to maintain or provide
only the most advantageous policies obtainable for an annual premium equal to no
more than 200% of the amount currently expended by NetSilicon for that insurance
coverage. In each case, the policy will name as insureds all present and former
directors and officers of NetSilicon or its subsidiaries.
Satisfaction of Conditions to the Merger; Notification. Each of us has
agreed to use our reasonable efforts to take all actions necessary or advisable
under applicable laws and regulations to complete the merger, including using
reasonable efforts to cause the conditions precedent set forth under
"-- Conditions to the Completion of the Merger" below to be satisfied.
Listing of Digi Common Stock. Digi is required to prepare and submit a
listing application with respect to the shares of Digi common stock to be issued
in connection with the merger and to use reasonable efforts to obtain approval
for the listing of those shares of Digi common stock on the Nasdaq National
Market System.
Governance. Digi has agreed that, at the closing of the merger, it will
appoint Cornelius Peterson, VIII as a member of the board of directors of Digi.
EXPENSES
Whether or not the merger is completed, NetSilicon and Digi will each pay
its own costs and expenses incurred in connection with the merger agreement and
the merger, except:
- expenses (excluding legal, accounting, and other advisors' fees and
expenses) incurred in connection with the filing and printing of the
registration statement and the mailing of this joint proxy
statement/prospectus will be shared equally by NetSilicon and Digi; and
- as otherwise provided in the merger agreement, including the termination
provisions described below.
CONDITIONS TO THE COMPLETION OF THE MERGER
We are required to complete the merger only if the following conditions are
met:
- NetSilicon stockholders have approved the merger agreement and the merger
and Digi stockholders have approved the issuance of Digi common stock in
the merger;
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- the registration statement, of which this joint proxy
statement/prospectus is a part, is effective under the Securities Act;
- the shares of Digi common stock to be issued in the merger are authorized
for listing on Nasdaq National Market System, subject to official notice
of issuance;
- all waiting periods, if any, under the Hart-Scott-Rodino Act have expired
or been terminated and all material foreign antitrust approvals have been
obtained;
- there is no pending litigation or administrative proceeding by any
governmental, regulatory or administrative entity requesting an
injunction, writ, order, judgment, or decree that is reasonably likely to
result in an order that restrains or prohibits the completion of the
merger or would have a material adverse effect on the combined company if
the merger is completed; and
- there is no injunction, writ, order, judgment, or decree directing that
any of the transactions contemplated by the merger agreement not be
completed.
The conditions described above may be waived by both Digi and NetSilicon
together, to the extent permitted under applicable law.
In addition, the obligations of each party to effect the merger is subject
to the satisfaction or waiver of the following additional conditions:
- the representations and warranties of the other party contained in the
merger agreement are true and correct in all material respects both as of
the date of the merger agreement and immediately before the merger as if
made on the date of the merger;
- all obligations and agreements required to be performed and complied with
by the other party on or before the date of the merger have been
performed and complied with in all material respects;
- neither the other party nor any of its subsidiaries having, since the
date of the merger agreement, suffered any business interruption, damage
or destruction of its properties, or other event that would be reasonably
likely to have a material adverse effect on that party and its
subsidiaries, taken as a whole; and
- each party receives an opinion of counsel to the effect that the merger
will be treated as a reorganization for federal income tax purposes.
These conditions may be waived by either Digi or NetSilicon, as applicable.
It is also a condition of Digi's obligation to effect the merger that no
rights have become exercisable under NetSilicon's rights agreement. This
condition may be waived by Digi.
For purposes of the merger agreement, a material adverse effect means, with
respect to NetSilicon or Digi, as applicable, a material adverse effect upon the
business, operations, properties, or financial condition of that party and its
subsidiaries taken as a whole, or on that party's ability to complete the
merger, other than any such effect resulting from (1) any change, event,
occurrence, or condition generally applicable to the industry in which the party
and its subsidiaries operate, (2) general economic or market conditions, or (3)
the public announcement of the merger agreement.
TERMINATION
We may agree in writing to terminate the merger agreement at any time
without completing the merger, even after the stockholders of both companies
have approved it. In addition, either of us may terminate the merger agreement
if:
- the merger has not been completed by March 15, 2002, provided that the
failure to complete the merger is not due to the terminating party's
failure to comply in all material respects with its obligations under the
merger agreement;
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- any of the conditions set forth above in the first paragraph of the
section entitled "-- Conditions to the Completion of the Merger" become
impossible to fulfill on or before March 15, 2002, provided that the
condition has not been waived pursuant to the merger agreement and that
the failure to fulfill the condition is not due to the terminating
party's failure to comply in all material respects with its obligations
under the merger agreement;
- any of the conditions set forth above in the third paragraph of the
section entitled "-- Conditions to the Completion of the Merger" become,
with respect to the other party, impossible to fulfill on or before March
15, 2002, provided that the condition has not been waived pursuant to the
merger agreement and that the failure to fulfill the condition is not due
to the terminating party's failure to comply in all material respects
with its obligations under the merger agreement;
- the stockholders of either party fail to approve the merger-related
proposal on which they are voting; or
- the other company's board of directors withdraws or adversely modifies
its recommendation that its stockholders vote in favor of the proposal
required to complete the merger.
NetSilicon may terminate the merger agreement if, at any time before the
NetSilicon special stockholders meeting, the board of directors of NetSilicon
approves a transaction other than the merger that it determines is a superior
acquisition proposal. However, before terminating the agreement:
- NetSilicon must have complied with the provisions of the merger agreement
relating to not soliciting alternative proposals to acquire NetSilicon
discussed under "-- Additional Agreements -- No Solicitation," above; and
- NetSilicon must have provided Digi with five business days' prior notice
of its intention to enter into an alternative transaction, during which
time Digi may make any adjustments to the terms and conditions of the
merger agreement as would enable NetSilicon to proceed with the merger.
The notice of termination will not be effective if Digi submits to
NetSilicon, within this five-day period, a legally binding offer to enter into
an amendment to the merger agreement within the five-day period unless the
NetSilicon board of directors determines in good faith, after consultation with
its advisors, that Digi's proposed amendment is not as favorable to NetSilicon's
stockholders as the alternative transaction.
Termination Fee and Expenses. NetSilicon has agreed that it will pay Digi
a $2.5 million termination fee and reimburse up to $750,000 of Digi's
out-of-pocket expenses incurred in connection with the merger agreement if:
- Digi terminates the agreement as a result of the NetSilicon board of
directors having withdrawn or adversely modified its recommendation of
approval of the merger agreement and the merger;
- NetSilicon terminates the merger agreement in order to enter into an
alternative transaction under the circumstances described in the third
paragraph under "-- Termination," above; or
- if the following conditions occur:
- an alternative transaction is proposed to NetSilicon and becomes
publicly known before the termination of the merger agreement,
- either party terminates the merger agreement as a result of the merger
not having been completed by March 15, 2002, or the stockholders of
either party having failed to approve merger agreement and the merger,
and
- within 12 months after termination, NetSilicon completes an alternative
transaction with a third-party.
69
A third-party acquisition is defined in the merger agreement as:
- a transaction in which any third party acquires at least 40% of the
outstanding shares of NetSilicon common stock, either by tender offer,
exchange offer, or otherwise;
- a merger or other business combination in which stockholders other than
stockholders of NetSilicon own at least 40% of the surviving entity
immediately after the merger; or
- any transaction in which a third party acquires assets of NetSilicon
having a fair market value equal to at least 40% of all of the assets of
NetSilicon and its subsidiaries, taken as a whole.
AMENDMENTS
We may amend the merger agreement at any time before the merger. However,
after the NetSilicon stockholders meeting, the amount and form of consideration
to be received by NetSilicon stockholders may not be decreased or altered from
that provided in the merger agreement without the approval of the NetSilicon
stockholders.
70
THE VOTING AGREEMENTS
The following is a summary of the material provisions of the voting
agreements. The complete text of the voting agreements is incorporated by
reference and attached as Annexes B and C to this joint proxy
statement/prospectus. We encourage you to read the voting agreements in their
entirety.
As an inducement to NetSilicon to enter into the merger agreement, each of
the nine directors and executive officers of Digi have entered into a voting
agreement with NetSilicon under which they have agreed to vote all of the shares
of Digi common stock owned by them in favor of the issuance of Digi common stock
in connection with the merger. These Digi stockholders own a total of 91,884
shares of Digi common stock, representing less than one percent of the Digi
common stock outstanding as of December 17, 2001.
In addition, as an inducement to Digi to enter into the merger agreement,
seven NetSilicon stockholders, each a director or executive officer of
NetSilicon, have entered into a voting agreement with Digi under which they have
agreed to vote all of the shares of NetSilicon voting common stock owned by them
in favor of the merger agreement and the merger. These NetSilicon stockholders
own a total of 100,531 shares of NetSilicon voting common stock, representing
approximately 1.4% of the NetSilicon voting common stock outstanding as of
December 17, 2001.
Each of these stockholders has agreed that, during the term of the voting
agreement, at each meeting of his company's stockholders convened to consider
and vote upon the merger-related proposals, the stockholder will vote, to the
extent not voted by the person or persons appointed under the proxy granted
pursuant to the voting agreement, all shares of common stock of the company
owned of record by the stockholder at the record date in favor of the
merger-related proposals. These stockholders have also agreed not to transfer or
encumber any of the shares owned by them unless they give the other company
prior written notice and the intended transferee agrees in writing to be bound
by the voting agreement.
Pursuant to the voting agreements, each of the stockholders granted an
irrevocable proxy to certain executive officers of the other company, the power
to vote, at any time before the termination of the voting agreement, all shares
of common stock owned by the stockholder in accordance with the voting
agreement.
THE STOCKHOLDER AGREEMENT
The following is a summary of the material provisions of the stockholder
agreement. The complete text of the stockholder agreement is incorporated by
reference and attached as Annex D to this joint proxy statement/prospectus. We
encourage you to read the stockholder agreement in its entirety.
In connection with the execution of the merger agreement, Digi entered into
a stockholder agreement with Sorrento Networks Corporation, holder of all of the
outstanding shares of NetSilicon's non-voting common stock and NetSilicon's
largest stockholder. In that agreement, Sorrento Networks has agreed to the
following terms, among others:
- Sorrento Networks will not seek any alternative offer for an acquisition
of NetSilicon by anyone other than Digi;
- Sorrento Networks will not exercise any statutory appraisal rights to
which it may be entitled under applicable law;
- Sorrento will elect to receive the maximum amount of cash available to it
under the merger agreement;
- following consummation of the merger, Sorrento Networks will not acquire
any additional shares of Digi common stock and will not seek to change
Digi's board of directors; and
71
- Sorrento will be subject to the following limitations on its ability to
sell the shares of Digi common stock that it receives in the merger:
- for the first six months following the merger, Sorrento may sell in any
three-month period a number of shares not to exceed two percent of
Digi's total outstanding shares of common stock;
- after the initial six-month period, it may sell in any three-month
period a number of shares not to exceed three percent of Digi's total
outstanding shares of common stock;
- at any time, Sorrento may sell shares pursuant to block trades, so long
as the buyer meets certain standards; and
- after the initial six-month period, so long as Sorrento holds at least
five percent of Digi's outstanding common stock, Sorrento may require
Digi to prepare and file a registration statement for Sorrento's resale
of some or all of its shares.
Sorrento's post-closing agreements and restrictions will terminate once it holds
less than five percent of Digi's outstanding common stock.
72
NETSILICON
UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS
On March 2, 2001, NetSilicon filed a Current Report on Form 8-K to report
its acquisition of Dimatech Corporation. NetSilicon purchased all of the equity
securities of Dimatech pursuant to a stock purchase agreement, dated as of
February 16, 2001, among Dimatech, Hiroyuki Kataoka, and NetSilicon.
The following unaudited pro forma combined condensed statement of
operations for the twelve-month period ended September 30, 2001, gives effect to
the acquisition of Dimatech as if it had occurred as of October 1, 2000.
The unaudited pro forma information is based on the historical financial
statements of NetSilicon and Dimatech and was prepared using the purchase method
of accounting. The unaudited pro forma combined condensed statements of
operations and accompanying notes are qualified in their entirety and should be
read in conjunction with the historical financial statements and accompanying
notes of NetSilicon.
NetSilicon has a fiscal year end of January 31 and, prior to the
acquisition, Dimatech had a fiscal year end of December 31. The unaudited pro
forma combined condensed statement of operations for the twelve months ended
September 30, 2001 includes NetSilicon's unaudited statements of operations for
the twelve months ended September 30, 2001 and Dimatech's statement of
operations for the period from October 1, 2000 through February 16, 2001.
Dimatech's operations for the period from February 17, 2001 through September
30, 2001 are included in the NetSilicon statement of operations for the twelve
months ended September 30, 2001.
The unaudited pro forma combined condensed financial information has been
prepared in accordance with the rules and regulations of the Securities and
Exchange Commission. The unaudited pro forma combined condensed financial
information is intended for informational purposes only and is not necessarily
indicative of the future results of operations of the consolidated company after
the acquisition, or the results of operations of the consolidated company that
would have actually occurred had the acquisition been effected as of the dates
indicated above.
73
UNAUDITED PRO FORMA COMBINED CONDENSED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED SEPTEMBER 30, 2001
DIMATECH
NETSILICON, INC. CORPORATION PRO FORMA PRO FORMA
HISTORICAL HISTORICAL(1) ADJUSTMENTS COMBINED
---------------- ------------- ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net sales................................ $32,214 $4,295 $(3,502)(a)(b) $33,007
Cost of sales............................ 13,978 3,009 (3,000)(a) 13,987
------- ------ ------- -------
Gross margin............................. 18,236 1,286 (502) 19,020
------- ------ ------- -------
Operating expenses:
Sales and marketing.................... 10,666 1,498 (502)(b) 11,662
Research and development............... 8,504 8,504
General and administrative............. 8,072 45(c) 8,117
------- ------ ------- -------
Total operating expenses................. 27,242 1,498 (457) 28,283
------- ------ ------- -------
Operating loss........................... (9,006) (212) (45) (9,263)
Other income, net........................ 603 159 762
------- ------ ------- -------
Loss before income taxes................. (8,403) (53) (45) (8,501)
Income tax provision (benefit)........... 68 (62) 6
------- ------ ------- -------
Net (loss) income........................ $(8,471) $ 9 $ (45) $(8,507)
======= ====== ======= =======
Net loss per share, basic................ $ (0.61) $ (0.61)
Net loss per share, assuming dilution.... $ (0.61) $ (0.61)
Weighted average shares, basic........... 13,936 97(d) 14,033
Weighted average shares, assuming
dilution............................... 13,936 97(d) 14,033
---------------
(1) These amounts reflect Dimatech Corporation statement of operations for the
period from October 1, 2000 through February 16, 2001. Dimatech's operations
for the period from February 17, 2001 through September 30, 2001 are
included in the NetSilicon statement of operations.
The accompanying notes are an integral part of the pro forma financial
information.
74
NOTES TO UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS
1. BASIS OF PRO FORMA PRESENTATION
The accompanying unaudited pro forma combined condensed financial
statements and related notes of NetSilicon are unaudited. In the opinion of
NetSilicon management, the pro forma financial statements include all
adjustments necessary for a fair presentation of NetSilicon's results of
operations for the periods presented. These financial statements should be read
in conjunction with the audited financial statements and accompanying notes
included in NetSilicon's Annual Report on Form 10-K as filed with the Securities
and Exchange Commission on May 1, 2001.
In accordance with the rules and regulations of the Securities and Exchange
Commission, unaudited combined financial statements may omit or condense certain
information and disclosures normally required for a complete set of financial
statements prepared in accordance with generally accepted accounting principles.
However, management of NetSilicon believes that the notes to the combined
financial statements contain disclosures adequate to make the information
presented not misleading.
2. PURCHASE PRICE ALLOCATION AND ACQUISITION COSTS
On February 16, 2001, NetSilicon purchased all of the equity securities of
Dimatech. Prior to the acquisition, Dimatech was a major distributor of
NetSilicon's product in Japan.
The purchase price has been allocated to the tangible and intangible assets
acquired and liabilities assumed on the basis of their respective fair values on
the acquisition date. The following represents the purchase price allocation.
Cash........................................................ $ 762,000
Accounts receivable......................................... 1,018,000
Other tangible assets....................................... 162,000
Customer list............................................... 351,000
Workforce................................................... 148,000
Goodwill.................................................... 134,000
----------
Total purchase price...................................... $2,575,000
==========
The purchase price consisted of 242,000 shares of the common stock of
NetSilicon valued at $1,239,000 based on the average NetSilicon stock price
during a period of five business days before and after the acquisition date,
$250,000 of cash and assumed liabilities of approximately $969,000. NetSilicon
incurred approximately $117,000 of costs associated with the acquisition,
including fees for legal, accounting and consulting services. These unaudited
pro forma combined condensed financial statements do not reflect the provisions
of Statement of Financial Accounting Standards Board No. 141, "Business
Combinations," and No. 142, "Goodwill and Other Intangible Assets."
3. PRO FORMA ADJUSTMENTS
The following pro forma adjustments have been made to the historical
financial statements of NetSilicon and Dimatech based upon assumptions made by
NetSilicon management for the purpose of preparing the unaudited pro forma
combined condensed statements of operations.
(a) To eliminate the effect of sales made by NetSilicon to Dimatech.
(b) To eliminate the effect of commissions paid by NetSilicon to
Dimatech.
(c) To record amortization expense for acquired intangible assets of
Dimatech.
(d) To record NetSilicon common shares issued in connection with the
acquisition of Dimatech.
75
4. PRO FORMA EARNINGS PER SHARE
Basic earnings (loss) per share is computed based on the weighted average
number of shares outstanding during the historical period plus the effect of
shares issued in connection with the acquisition of Dimatech. Diluted earnings
(loss) per share is computed based on the weighted average number of shares
outstanding during the historical period plus shares issued in connection with
the acquisition of Dimatech and the effect of dilutive potential common shares
which consist of shares issuable under stock benefit plans.
76
DIGI
UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS
On October 30, 2001, Digi announced its proposed acquisition of NetSilicon.
The acquisition of NetSilicon is subject to the approval of the stockholders of
Digi and NetSilicon. The following unaudited pro forma combined condensed
balance sheet as of September 30, 2001 and the unaudited pro forma combined
condensed statement of operations for the year ended September 30, 2001, give
effect to the acquisition of NetSilicon as if it had occurred on September 30,
2001 for purposes of the balance sheet and as of October 1, 2000 for purposes of
the statement of operations for the year ended September 30, 2001. The unaudited
pro forma information is based on the historical financial statements of Digi
and NetSilicon, giving effect to the acquisition of NetSilicon by Digi as well
as the acquisition of Dimatech by NetSilicon, as described in the preceding pro
forma financial statements on pages 73 through 76 of this joint proxy
statement/prospectus, under the purchase method of accounting and the
adjustments as described in the accompanying notes to the unaudited pro forma
combined condensed financial statements. The pro forma combined condensed
balance sheet and the pro forma combined condensed statements of operations and
accompanying notes are qualified in their entirety and should be read in
conjunction with the historical financial statements of Digi and NetSilicon.
The pro forma adjustments are based on estimates and assumptions available
at the time of the filing of this joint proxy statement/prospectus that Digi and
NetSilicon believe are reasonable under the circumstances. The fair value of the
consideration will be allocated to the assets and liabilities acquired based
upon the fair values of such assets and liabilities at the effective date of the
acquisition. The estimates and assumptions will be adjusted, among other things,
based upon an independent third-party appraiser's determination of the fair
value of acquired intangible assets.
Digi has a fiscal year end of September 30 while NetSilicon has a fiscal
year end of January 31. As a result, the unaudited pro forma combined condensed
balance sheet includes audited balance sheet information for Digi as of
September 30, 2001 and unaudited balance sheet information for NetSilicon as of
September 30, 2001. The unaudited pro forma combined condensed statement of
operations for the year ended September 30, 2001 includes NetSilicon's unaudited
pro forma combined condensed statement of operations for the twelve months ended
September 30, 2001.
The pro forma combined condensed financial information has been prepared in
accordance with the rules and regulations of the Securities and Exchange
Commission. The pro forma combined condensed financial information is intended
for informational purposes only and is not necessarily indicative of the future
financial position or future results of operations of the consolidated company
after the acquisition, or of the financial position or results of operations of
the consolidated company that would have actually occurred had the acquisition
been effected as of the dates indicated above.
77
PRO FORMA COMBINED CONDENSED BALANCE SHEET
SEPTEMBER 30, 2001
(UNAUDITED)
DIGI
INTERNATIONAL INC. NETSILICON, INC. PRO FORMA PRO FORMA
HISTORICAL HISTORICAL ADJUSTMENTS COMBINED
------------------ ---------------- ----------- ---------
(IN THOUSANDS)
ASSETS
Current assets:
Cash and cash equivalents............. $ 30,347 $ 7,031 $(15,000)(a) $ 22,378
Marketable securities................. 25,805 3,074 28,879
Accounts receivable, net.............. 16,161 3,825 19,986
Inventories, net...................... 16,792 4,450 207(b) 21,449
Other................................. 4,603 1,364 5,967
-------- ------- -------- --------
Total current assets............... 93,708 19,744 (14,793) 98,659
Property, equipment and improvements,
net................................... 22,677 2,050 24,727
Intangible assets, net.................. 21,539 1,566 50,120(d) 71,659
(1,566)(b)
Other................................... 1,529 2,647 (2,519)(b) 1,657
-------- ------- -------- --------
Total assets....................... $139,453 $26,007 $ 31,242 $196,702
======== ======= ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Borrowings under line of credit
agreements......................... $ 938 $ 938
Current portion of long-term debt..... 1,584 1,584
Accounts payable...................... 6,012 $ 1,870 7,882
Income taxes payable.................. -- 227 227
Accrued expenses...................... 9,571 3,571 $ 6,580(f) 19,722
Restructuring reserves................ 1,370 -- 1,370
-------- ------- -------- --------
Total current liabilities.......... 19,475 5,668 6,580 31,723
Long-term debt.......................... 5,499 -- 5,499
Net deferred income taxes............... 1,561 -- 8,463(g) 10,024
-------- ------- -------- --------
Total liabilities.................. 26,535 5,668 15,043 47,246
-------- ------- -------- --------
Stockholders' equity:
Common stock.......................... 164 140 63(a) 227
(140)(e)
Additional paid-in capital............ 71,459 29,496 40,085(a) 111,544
(29,496)(e)
Retained earnings..................... 59,627 (9,323) 9,323(e) 56,127
(3,500)(c)
Accumulated other comprehensive
income............................. 8 26 (26)(e) 8
-------- ------- -------- --------
131,258 20,339 16,309 167,906
Unearned stock compensation............. (110)(a) (110)
Treasury stock.......................... (18,340) -- -- (18,340)
-------- ------- -------- --------
Total stockholders' equity......... 112,918 20,339 16,199 149,456
-------- ------- -------- --------
Total liabilities and stockholders'
equity........................... $139,453 $26,007 $ 31,242 $196,702
======== ======= ======== ========
See accompanying notes to the pro-forma financial information.
78
PRO FORMA COMBINED CONDENSED STATEMENT OF OPERATIONS
FOR THE YEAR ENDED SEPTEMBER 30, 2001
(UNAUDITED)
DIGI
INTERNATIONAL INC. NETSILICON, INC. PRO FORMA PRO FORMA
HISTORICAL PRO FORMA ADJUSTMENTS COMBINED
------------------ ---------------- ----------- ---------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Net sales.............................. $130,405 $33,007 $163,412
Cost of sales.......................... 66,193 13,987 80,180
-------- ------- --------
Gross margin........................... 64,212 19,020 -- 83,232
-------- ------- --------
Operating expenses:
Sales and marketing.................. 30,716 11,662 42,378
Research and development............. 18,335 8,504 26,839
General and administrative........... 16,252 8,117 $ 4,022(h) 28,391
Restructuring........................ 1,121 -- 1,121
-------- ------- -------- --------
Total operating expenses............... 66,424 28,283 4,022 98,729
-------- ------- -------- --------
Operating loss......................... (2,212) (9,263) (4,022) (15,497)
Other income (expense), net............ 2,396 762 (600)(i) 2,558
-------- ------- -------- --------
Income (loss) before income taxes and
cumulative effect of accounting
change............................... 184 (8,501) (4,622) (12,939)
Income tax provision (benefit)......... 66 6 (5,097)(j) (5,025)
-------- ------- -------- --------
Net income (loss) before cumulative
effect of accounting change.......... $ 118 $(8,507) $ 475 $ (7,914)
======== ======= ======== ========
Net income (loss) per share from
continuing operations, basic......... $ 0.00(l) $ (0.61) $ (0.37)
Net income (loss) per share from
continuing operations, assuming
dilution............................. 0.00(l) (0.61) (0.37)
Weighted average shares, basic......... 15,235 14,033 6,295(k) 21,530
(14,033)(e)
Weighted average shares, assuming
dilution............................. 15,288 14,033 6,295(k) 21,530
(14,033)(e)
(53)(k)
See accompanying notes to the pro-forma financial information.
79
NOTES TO UNAUDITED PRO FORMA COMBINED CONDENSED FINANCIAL STATEMENTS
1. BASIS OF PRO FORMA PRESENTATION
The unaudited pro forma combined condensed financial statements of Digi
have been prepared on the basis of assumptions relating to the allocation of
consideration paid to the acquired assets and liabilities of NetSilicon based on
management's best preliminary estimates. The actual allocation of the amount of
the consideration may differ from that reflected in these unaudited pro forma
combined condensed financial statements after a third party valuation and other
procedures have been completed. Below are tables of the estimated acquisition
costs and estimated purchase price allocation for NetSilicon:
Cash and fair value of Digi's common stock and common stock
options issued............................................ $55,148,000
Direct acquisition costs.................................... 1,500,000
-----------
Total purchase price................................... $56,648,000
===========
Estimated fair value of net tangible assets acquired........ $11,381,000
Unearned stock compensation related to unvested portion of
stock options issued...................................... 110,000
Estimated fair value of:
Acquired in-process research and development.............. 3,500,000
Identifiable intangible assets, net of deferred tax
liabilities of $8,463,000.............................. 13,237,000
Goodwill and assembled workforce............................ 28,420,000
-----------
$56,648,000
===========
2. PRO FORMA ADJUSTMENTS
(a) Adjustment reflects the components of the purchase consideration and
related transaction costs, which includes $15,000,000 in cash, Digi's common
stock with a market value of $33,158,000 and replacement stock options issued by
Digi to certain NetSilicon common stock option holders with an estimated fair
value of $6,990,000. The cash and Digi's common stock were issued in exchange
for outstanding shares of NetSilicon's common stock and Digi's common stock
options were issued in exchange for certain outstanding NetSilicon common stock
options. The value of the Digi common stock was based on a per share value of
approximately $5.27, calculated as the average market price of Digi's common
stock during the five business days immediately preceding and subsequent to the
date the parties reached agreement on terms and announced the proposed
acquisition. The value of Digi's common stock options is based on the estimated
fair value of these options, as of the date the transaction was announced, using
the Black-Scholes valuation model. Unearned compensation of $110,000 has been
recorded related to the intrinsic value of the unvested replacement common stock
options for which future services are required to vest in the replacement
portion of options.
(b) These amounts represent adjustments to increase the carrying values of
inventories and reduce the carrying values of intangible and other assets to
their estimated fair values.
(c) Digi is utilizing the alternative income valuation approach to
determine the estimated fair value of the purchased in-process research and
development. Management estimates that $3,500,000 of the purchase price
represents the fair value of purchased in-process research and development that
has not yet reached technological feasibility and will have no alternative
future uses as of the acquisition date. This amount has been expensed as a
non-recurring, non tax-deductible charge upon consummation of the acquisition.
This amount is subject to adjustment following completion of the valuation to be
prepared by an independent appraiser.
(d) Goodwill (including assembled workforce) and intangible asset
adjustments represent the consideration paid in excess of the fair value of net
tangible assets acquired. The identifiable intangible assets included in the
estimated purchase price allocation set forth in Note 1 is comprised principally
of proven technology, customer maintenance contracts, license agreements,
patents, trademark, and customer
80
relationships with an estimated fair value of $21,700,000, and with estimated
useful lives ranging from three to ten years. The remaining unallocated portion
of the purchase price in excess of the fair value of tangible net assets
represents goodwill and assembled workforce. Goodwill and assembled workforce
are not amortized in accordance with the provisions of Statement of Financial
Accounting Standards Board No. 141, "Business Combinations," and No. 142,
"Goodwill and Other Intangible Assets." Digi has not yet adopted Statement of
Financial Accounting Standards Board No. 142 "Goodwill and Other Intangible
Assets". The estimated fair value of intangible assets and goodwill is subject
to adjustment following completion of the valuation to be prepared by an
independent appraiser.
(e) Adjustments reflect the elimination of the existing stockholders'
equity of NetSilicon.
(f) Amount represents accrual for the following items:
Digi's direct acquisition costs............................. $1,500,000
NetSilicon's acquisition related costs...................... 2,500,000
Compensation payable to certain members of NetSilicon
management upon change in control......................... 2,580,000
----------
Total.................................................. $6,580,000
==========
(g) Amount represents the deferred tax liabilities generated as a result
of the acquisition of identifiable intangible assets assuming a blended U.S.
federal and state statutory income tax rate of 39%.
(h) Adjustment represents amortization of acquired identifiable
intangibles of NetSilicon based on estimated lives ranging from three to ten
years. In addition, the amortization of unearned stock compensation (as the
stock options vest) of $55,000 is included in this adjustment. The amortization
of acquired identifiable intangibles will differ when the purchase price
allocation is finalized based on the completion of the independent third party
valuation and other procedures. Goodwill amortization is not recorded in
accordance with the provisions of Statement of Financial Accounting Standards
Board No. 141, "Business Combinations," and No. 142, "Goodwill and Other
Intangible Assets."
(i) Adjustments represent interest income assumed to be foregone at a
weighted-average rate of 4% due to the cash paid for the acquisition of
NetSilicon.
(j) Adjustments to income tax provision relating to intangible asset
amortization and adjustment (i) assuming a blended U.S. federal and state
statutory income tax rate of 39%. In addition, the utilization of NetSilicon
operating losses in the Digi consolidated income tax provision is reflected in
this adjustment.
(k) Adjustment relates to the following items:
- To reflect the increase in weighted average basic shares and weighted
average dilutive shares outstanding for the common stock and common stock
options issued in connection with the acquisition. Pro forma basic
earnings per common share for the period presented were calculated
assuming that 6,295,000 shares of Digi common stock issued in connection
with the acquisition were issued at the beginning of the period
presented.
- Pro forma diluted earnings per common share excludes 53,000 shares of
Digi historical common equivalent shares because their effect was
antidilutive on a combined pro-forma basis.
- Common equivalent shares attributable to the common stock options issued
by Digi in connection with the acquisition, to replace existing
NetSilicon common stock options (2,900,000 Digi common stock options),
were excluded in determining the weighted average dilutive shares
outstanding for the year ended September 30, 2001 because their effect
was antidilutive.
(l) Per share net income from continuing operations equals amounts in the
audited financial statements of Digi for the year ended September 30, 2001, but
does not equate to mathematically determined amounts due to rounding.
81
COMPARATIVE PER SHARE MARKET PRICE AND DIVIDEND INFORMATION
MARKET PRICES AND DIVIDENDS
Digi's common stock is listed on the Nasdaq National Market System under
the symbol "DGII," and NetSilicon's common stock is listed on the Nasdaq
National Market System under the symbol "NSIL." The table below sets forth, for
the calendar periods indicated, the high and low sale prices of NetSilicon's
common stock and Digi's common stock as reported on the Nasdaq National Market
System, in each case based on published financial sources. Neither company has
ever paid dividends on its common stock.
DIGI COMMON NETSILICON
STOCK COMMON STOCK
-------------- ---------------
HIGH LOW HIGH LOW
------ ----- ------ ------
2000:
First Quarter............................................... $15.13 $8.19 $49.00 $15.38
Second Quarter.............................................. $ 9.63 $4.63 $35.00 $14.19
Third Quarter............................................... $ 9.06 $6.00 $35.94 $18.06
Fourth Quarter.............................................. $ 9.25 $5.38 $21.38 $ 2.25
2001:
First Quarter............................................... $ 8.13 $5.41 $ 8.13 $ 3.38
Second Quarter.............................................. $10.40 $4.50 $ 6.08 $ 2.50
Third Quarter............................................... $ 9.50 $4.70 $ 5.35 $ 1.66
Fourth Quarter.............................................. $ 6.50 $3.60 $ 4.01 $ 1.77
2002:
First Quarter (through January 8, 2002)..................... $ 7.15 $5.97 $ 4.50 $ 3.68
On October 30, 2001, the last trading day before the public announcement of
the execution of the merger agreement, the closing price of Digi common stock
was $5.43 per share, and the closing price of NetSilicon common stock was $2.60
per share. On January 8, 2002, the last trading date before the printing of this
joint proxy statement/prospectus, the closing price of Digi common stock was
$7.05 per share, and the closing stock price of NetSilicon common stock was
$4.50 per share. You should obtain current market quotations before making any
decisions with respect to the merger.
POST-MERGER DIVIDEND POLICY
Digi has never declared or paid any cash dividends on its common stock and
does not anticipate declaring or paying dividends on its common stock in the
foreseeable future.
THE COMPANIES
DIGI
This joint proxy statement/prospectus is accompanied by a copy of Digi's
Annual Report on Form 10-K for the fiscal year ended September 30, 2001, which
is attached as Annex H. That document contains detailed financial and other
information about Digi and is hereby incorporated by reference in this joint
proxy statement/prospectus.
Digi is a worldwide provider of Connectware, wired and wireless, hardware
and software connectivity solutions that businesses use to create, customize and
control retail operations, industrial automation and other applications.
Connectware network enables the essential devices that build business. Digi
operates exclusively in a single business segment and sells its products through
a global network of distributors, system integrators, value-added resellers and
original equipment manufacturers. From multi-port serial control to Universal
Serial Bus (USB) connectivity to remote access to local area network (LAN)
infrastructure, Digi's products enable a virtually unlimited number of devices
or users to be connected
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locally or remotely to LANs, multi-user systems and the Internet. The company's
products provide asynchronous and synchronous data transmissions for multiple
connections. Digi's products are compatible with all personal computer
platforms. Digi's primary product lines are its multi-port serial adapters,
device servers, terminal servers, USB, and LAN connectivity products.
Digi sells its products through a global network of distributors, systems
integrators, value added resellers and original equipment manufacturers. The
company also sells direct to select accounts and the government.
Internationally, Digi sells and markets its products through 180 distributors in
more than 65 countries and has sales offices located throughout North America,
Europe and Asia. More than 650 value added resellers participate in the DigiVAR
Program. Digi maintains strategic partnerships with other industry leaders to
develop and market technology solutions. These include most major communications
software vendors, operating system suppliers, and computer hardware
manufacturers. Digi's customer base includes many of the world's largest
companies. The company has original equipment manufacturer relationships with
leading vendors, allowing them to ship the company's boards as component parts
of their overall networking solutions.
NETSILICON
NetSilicon develops and markets embedded Ethernet networking solutions,
which combine advanced microprocessors and software, to manufacturers building
intelligent, network-enabled devices. NetSilicon's products provide intelligent
devices and embedded systems with the ability to communicate over standards-
based local area networks, or LANs, and the Internet, enabling the development
of new embedded systems applications. NetSilicon's customers operate in a broad
array of markets including telecommunications and telephony, industrial
automation, office imaging, building automation and control, home automation,
data acquisition, point-of-sale, and wireless access. NetSilicon's devices are
incorporated into office imaging equipment, including printers, scanners, fax
machines, copiers and multi-function devices manufactured by over 20 original
equipment manufacturers including Minolta, Ricoh, Sharp and Xerox. NetSilicon's
products are also in various stages of incorporation into the design and
manufacture of other intelligent devices including power plant automation
equipment, medical data collection and monitoring devices, Internet/Ethernet
cameras for security, voice-over-IP telephones, point-of-sale scanners, scales
and teller machines, networked exercise equipment, and utility measurement and
environment monitoring equipment.
NetSilicon was incorporated in Massachusetts in April, 1984 under the name
of Digital Products, Inc. In September 1996, Sorrento Networks Corporation,
formerly Osicom Technologies, Inc., acquired sole ownership of the NetSilicon
through a merger with a newly formed corporation in exchange for Sorrento common
stock in a transaction accounted for as a pooling of interests. NetSilicon was a
wholly owned subsidiary of Sorrento from the date of the acquisition through
NetSilicon's initial public offering on September 15, 1999.
DESCRIPTION OF DIGI CAPITAL STOCK
The authorized capital stock of Digi consists of 60 million shares of
common stock, par value $.01 per share, of which 15,374,947 shares were
outstanding on December 17, 2001, and 2 million shares of preferred stock, par
value $.01 per share, none of which is outstanding.
COMMON STOCK
Each holder of Digi common stock is entitled to one vote per share on all
matters voted upon by Digi's stockholders. Common stockholders have no
preemptive or other rights to subscribe for additional shares or other
securities of Digi. There are no cumulative voting rights, and, accordingly,
holders of a majority of the outstanding shares of Digi common stock will be
able to elect all of the members of Digi's board of directors.
Common stockholders are entitled to dividends in any amounts as may be
declared by Digi's board of directors from time to time from funds legally
available therefor, but Digi has no present intention of
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paying any dividends. In the event of a liquidation, the common stockholders are
entitled to share ratably in any of Digi's assets remaining after payment in
full of creditors and preferred stockholders to the extent of any liquidation
preferences.
The outstanding shares of Digi common stock are validly issued, fully paid,
and nonassessable.
PREFERRED STOCK
Digi's board of directors is authorized, pursuant to Digi's restated
certificate of incorporation, to issue one or more series of preferred stock
with respect to which the board, without stockholder approval, may determine
voting, conversion and other rights which could adversely affect the rights of
holders of common stock. The rights of the holders of the common stock would
generally be subject to the prior rights of the preferred stock with respect to
dividends, liquidation preferences and other matters. Among other things,
preferred stock could be issued by Digi to raise capital or to finance
acquisitions. The issuance of preferred stock under certain circumstances could
have the effect of delaying or preventing a change of control of Digi. Digi has
no present plans to issue any shares of preferred stock.
SHARE RIGHTS PLAN
Under the rights agreement dated as of June 10, 1998 between Digi and Wells
Fargo Bank Minnesota, N.A. (formerly known as Norwest Bank Minnesota, N.A.), as
amended by an amendment dated as of January 26, 1999, each share of Digi common
stock has attached one preferred-share purchase right. Each right entitles the
registered holder to purchase from Digi one one-hundredth of a Series A Junior
Participating Preferred Share, $.01 per share par value, at a price of $115 per
one one-hundredth of a preferred share, subject to adjustment.
Until the distribution date, as described below:
- the rights will be evidenced by common stock certificates and will be
transferred with, and only with, the shares of common stock,
- new common stock certificates issued after the record date upon transfer
or new issuance of shares of common stock will contain a notation
incorporating the rights agreement by reference, and
- the surrender for transfer of any common stock certificate, even without
the notation or a copy of the summary of rights attached to the
certificate, will also constitute the transfer of the rights associated
with the shares of common stock represented by the certificate.
As promptly as practicable following the distribution date, separate
certificates evidencing the rights will be mailed to holders of record of the
shares of common stock as of the close of business on the distribution date and
the separate rights certificates alone will evidence the rights.
The rights will separate from the shares of common stock and a distribution
date for the rights will occur upon the earlier of:
- the close of business on the fifteenth day following a public
announcement that a person or group of affiliated or associated persons
has become an "acquiring person" -- i.e., has become, subject to certain
exceptions, the beneficial owner of 20% or more of the outstanding shares
of common stock, or
- the close of business on the fifteenth day following the commencement or
public announcement of a tender offer or exchange offer the consummation
of which would result in a person or group of affiliated or associated
persons becoming, subject to certain exceptions, the beneficial owner of
20% or more of the outstanding shares of common stock, or any later date
as may be determined by the board of directors prior to a person or group
of affiliated or associated persons becoming an acquiring person.
The rights are not exercisable until the distribution date. The rights will
expire on June 30, 2008, unless extended or earlier redeemed or exchanged by
Digi as described below.
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If any person or group of affiliated or associated persons becomes an
acquiring person, proper provision shall be made so that each holder of a right,
other than rights that are or were beneficially owned by the acquiring person,
which will thereafter be void, will thereafter have the right to receive upon
exercise thereof at the then current exercise price of the right that number of
shares of common stock having a market value of two times the exercise price of
the right, subject to certain possible adjustments.
If after the distribution date or within 15 days prior thereto, Digi is
acquired in certain mergers or other business combination transactions, other
than a transaction for at least the same per-share consideration with a person
who acquired shares of common stock through a tender offer or exchange offer for
all outstanding shares of common stock approved by the board of directors in
accordance with the preceding paragraph or any wholly owned subsidiary of the
person, or 50% or more of the assets or earning power of Digi and its
subsidiaries, taken as a whole, are sold after the distribution date or within
15 days prior thereto, in one or a series of related transactions, each holder
of a right, other than rights which have become void under the terms of the
rights agreement, will thereafter have the right to receive, upon exercise of
the right at the then current exercise price, that number of common shares of
the acquiring company or, in certain cases, one of its affiliates, having a
market value of two times the exercise price of the right.
At any time prior to the close of business on the twentieth day after a
public announcement that a person or group of affiliated or associated persons
has become an acquiring person, the board of directors may redeem the rights in
whole, but not in part, at a price of $.001 per right, subject to adjustment,
payable in cash; provided, however, that any redemption may occur after any
person becomes an acquiring person only if there has not been a change in
control of the board of directors. The period of time during which the rights
may be redeemed may be extended by the board of directors if no change of
control has occurred or if no person has become an acquiring person. The
redemption of the rights may be made effective at the time, on the basis and
with the conditions that the board of directors, in its sole discretion, may
establish.
The terms of the rights may be amended by the board of directors, subject
to certain limitations after the distribution date, without the consent of the
holders of the rights, including an amendment prior to the date a person or
group of affiliated or associated persons becomes an acquiring person to lower
the 20% threshold for exercisability of the rights to not less that the greater
of:
- the sum of .001% and the largest percentage of the outstanding shares of
common stock then known by Digi to be beneficially owned by any person or
group of affiliated or associated persons, subject to certain exceptions,
or
- 10%.
Until a right is exercised, the holder will have no rights as a stockholder
of Digi, including, without limitation, the right to vote or to receive
dividends.
CERTAIN CHARTER AND BY-LAW PROVISIONS
Digi's restated certificate of incorporation and amended and restated
by-laws contain certain provisions, described below, that could delay, defer or
prevent a change in control of Digi if the board determines that a change in
control is not in the best interests of Digi and its stockholders, and could
have the effect of making it more difficult to acquire Digi or remove incumbent
management.
Classified Board. Pursuant to the restated certificate of incorporation,
directors of Digi are divided into three classes and elected to serve staggered
three-year terms. Under Delaware law, directors serving staggered terms can be
removed from office only for cause.
Action by Written Consent. Digi's restated certificate of incorporation
provides that all stockholder action by written consent must be unanimous.
Special Meetings of Stockholders. Special meetings of stockholders may be
called for any purpose by the chairman of the board of directors or the
president of Digi, and must be called by either of those
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officers upon the written request of a majority of the board or a duly
authorized committee of the board. Stockholders do not have the power to call a
special meeting.
Nomination Procedures. The amended and restated by-laws establish
procedures, including advance-notice procedures, with regard to the nomination,
other than by or at the direction of the board of directors, of candidates for
election as directors. In general, notice must be received by Digi not less than
60 days prior to meetings of stockholders of Digi.
Vacancies. A vacancy on the board of directors occurring for any reason,
including vacancies due to removal for cause, death, resignation or a newly
created directorship, may be filled for the remainder of the term by the
stockholders or by the board by vote of a majority of the remaining directors,
though less than a quorum.
Amendment of By-Laws. Digi's restated certificate of incorporation gives
the board of directors of Digi the power to adopt, amend, and repeal Digi's
amended and restated by-laws. This authority gives the board of directors
flexibility by enabling it to amend the amended and restated by-laws in response
to changed circumstances without waiting for the next annual meeting of
stockholders or incurring the delay and expense associated with calling and
holding a special meeting of stockholders. Stockholders of Digi have the power
to adopt, amend, or repeal the amended and restated by-laws of Digi, but only
with the affirmative vote of at least 80% of the outstanding voting stock.
Limitations of Liability. Digi's restated certificate of incorporation
limits the liability of directors, in their capacity as directors, to the full
extent permitted by Delaware law. It provides that directors shall not be liable
to Digi and its stockholders for monetary damages for a breach of their
fiduciary duty, except:
- for any breach to the director's duty of loyalty to Digi or its
stockholders,
- for acts or omissions not in good faith or which involve intentional
misconduct or a knowing violation of the law,
- for dividends, stock repurchases, and other distributions made in
violation of Delaware law, and
- for any transaction from which the director derived an improper personal
benefit.
These provisions do not affect the availability of equitable remedies, such
as an action to enjoin or rescind a transaction involving a breach of fiduciary
duty, although, as a practical matter, equitable relief may not be available.
The above provisions also may not limit director liability for violations of, or
relieve them from the necessity of complying with, federal securities laws.
Restrictions on Transactions with Affiliates. Generally, the affirmative
vote of the holders of a majority of the outstanding shares of Digi's voting
stock entitled to vote on the merger is necessary to authorize any agreement for
consolidation, merger, or sale or other disposition of all or substantially all
of Digi's assets. However, Digi's restated certificate of incorporation provides
that if any transactions involve a beneficial holder of 20% or more of Digi's
outstanding voting stock or a liquidation or dissolution of Digi proposed by a
substantial stockholder, or in the case of certain other specified transactions
involving a substantial stockholder, whether or not they otherwise require a
stockholder vote, the affirmative vote of the holders of at least 80% of the
outstanding shares of voting stock of Digi is required to authorize the
transactions. The special voting requirements do not apply if the transaction is
first approved by a majority of the directors, other than the 20% stockholder or
related parties, who were members of the board of directors prior to the time
that the substantial stockholder acquired his or her stock holdings, or whose
election or nomination for election to the board was approved by a majority of
the directors, or if the consideration required to be paid in the transaction
meets certain fair price criteria and is either cash or the same type of
consideration used by the substantial stockholder in acquiring beneficial
ownership of its largest portion of Digi's capital stock. A vote of at least 80%
of the outstanding shares of Digi's voting stock is required to amend this
special voting provision. Other amendments to Digi's restated certificate of
incorporation require an affirmative vote of the holders of a majority of the
outstanding shares entitled to vote thereon.
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The requirement of a supermajority vote to approve certain corporate
transactions and certain amendments to Digi's restated certificate of
incorporation and amended and restated by-laws could enable a minority of Digi's
stockholders to exercise veto powers over any transactions and amendments.
TRANSFER AGENT AND REGISTRAR
The Transfer Agent and Registrar for the common stock of Digi is Wells
Fargo Bank Minnesota, N.A.
APPRAISAL RIGHTS
DIGI STOCKHOLDERS
Under Delaware law, Digi's stockholders will not have any appraisal rights
in connection with the merger.
NETSILICON STOCKHOLDERS
If the merger becomes effective, a stockholder of NetSilicon who does not
vote in favor of the merger and who follows the procedures prescribed under the
Massachusetts Business Corporation Law ("MBCL") may require NetSilicon to pay
the fair value, determined as provided under the MBCL, for the dissenting shares
held by the stockholder. The following is a summary of Sections 85 through 98 of
the MBCL, which sets forth the procedures for NetSilicon stockholders to object
to the proposal to approve the merger agreement and the merger and demand
statutory appraisal rights. The full text of Sections 85 through 98 is attached
as Annex G to this joint proxy statement/prospectus. Failure to follow those
provisions exactly could result in the loss of your appraisal rights. You should
also refer to "The Merger -- Federal Income Tax Consequences" beginning on page
60 for a discussion of the tax consequences of exercising appraisal rights.
NetSilicon stockholders who desire to exercise their appraisal rights must
satisfy each of the applicable conditions of Sections 85 through 98. A written
objection to the proposed merger agreement stating that the stockholder intends
to demand payment for his shares must be filed with NetSilicon before the vote
on the proposal relating to the merger agreement is taken. This written demand
for appraisal must be in addition to and separate from any proxy vote abstaining
from or voting against the merger agreement. Voting against, abstaining from
voting, or failing to vote with respect to the merger agreement alone will not
constitute a demand for appraisal for purposes of Massachusetts law. NetSilicon
stockholders electing to exercise their appraisal rights must not vote for
approval of the merger agreement. If a stockholder returns a signed proxy but
does not specify a vote against approval of the merger agreement or a direction
to abstain, the proxy will be voted "FOR" the merger agreement, which will have
the effect of waiving that stockholder's appraisal rights.
A demand for appraisal must reasonably inform NetSilicon of the identity of
the NetSilicon stockholder and that the NetSilicon stockholder intends to demand
the appraisal of his shares. Accordingly, a demand for appraisal must be
executed by or for the NetSilicon stockholder of record, fully and correctly, as
that stockholder's name appears on the certificate evidencing the dissenting
shares. If the dissenting shares are owned of record in a fiduciary capacity,
such as by a trustee, guardian, or custodian, the demand must be executed by or
for the fiduciary. If the dissenting shares are owned of record by or for more
than one person, as in a joint tenancy or tenancy in common, the demand must be
executed by or for all joint owners. An authorizing agent, including an agent
for two or more joint owners, may execute the demand for appraisal for a
stockholder of record; however, the agent must identify the record owner and
expressly disclose the fact that, in exercising the demand, he is acting as
agent for the record owner.
A NetSilicon stockholder who elects to exercise appraisal rights should
deliver his written demand to NetSilicon, Inc., 411 Waverley Oaks Road, Bldg.
227, Waltham, MA 02452, Attn: Chief Financial Officer, prior to the vote
concerning approval of the merger agreement and the merger taken at the special
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meeting. The written demand for appraisal should specify the stockholder's name
and mailing address, that the NetSilicon stockholder objects to the proposal
regarding the merger agreement and the merger, and that he is demanding
appraisal of his shares of NetSilicon common stock.
Within 10 days after the merger becomes effective, NetSilicon must notify
by registered or certified mail each stockholder who has satisfied the
requirements for demanding appraisal that the merger has become effective. The
notice from NetSilicon will not create any rights in its recipient to demand
payment for his shares of NetSilicon common stock.
If, within 20 days after the date NetSilicon mails the notice, any
stockholder to whom NetSilicon was required to give notice demands in writing
payment from NetSilicon for his shares of NetSilicon common stock, NetSilicon
shall pay to such objecting stockholder the fair value of his NetSilicon common
stock within 30 days after the expiration of the period during which such demand
may be made. These written demands may be filed with NetSilicon c/o Digi
International Inc., 11001 Bren Road East, Minnetonka, MN 55343, Attn: Chief
Financial Officer. If during this 30-day period NetSilicon and the objecting
stockholder are unable to agree as to the value of the NetSilicon common stock,
either party may, within four months after the expiration of the 30-day period,
demand a determination of the value of the shares of NetSilicon common stock of
all such objecting stockholders by filing a bill in equity in the superior court
in Middlesex County, Massachusetts.
Any objecting stockholder who decides to file a bill in equity must do so
on his own behalf and on behalf of all other objecting stockholders who have
demanded payment for their shares and with whom NetSilicon has not reached an
agreement as to the value thereof. Service of the bill must be made upon
NetSilicon by subpoena with a copy of the bill attached. NetSilicon will file
with its answer a duly verified list of all other objecting stockholders and the
objecting stockholders will then be deemed to have been added as parties to the
bill. NetSilicon will then give notice in the form, and returnable on the date,
ordered by the court to each objecting stockholder by registered or certified
mail to the last known address as shown in the records of NetSilicon and by
publication or otherwise as the court may order.
After a hearing, the court shall enter a decree determining the fair value
of the NetSilicon common stock owned by the objecting stockholders who have
become entitled to the valuation of and payment for their shares and shall order
NetSilicon to make payment, together with interest, if any, to the objecting
stockholders entitled thereto upon the transfer by them of the certificates
representing their shares of NetSilicon common stock to NetSilicon if
certificated, or if uncertificated, upon receipt of an instruction to transfer
such stock to NetSilicon. The value of such shares shall be determined as of the
day preceding the date of the stockholder vote approving the merger agreement
and shall be exclusive of any element of value arising from the expectation or
accomplishment of the merger.
The costs associated with the bill in equity, exclusive of fees of counsel
and experts retained by any party, shall be taxed upon the parties to the bill
as the court deems equitable. All costs associated with giving notice to
stockholders, however, shall be borne by NetSilicon. Interest shall be paid on
any award from the date of the vote approving the merger agreement and the
merger and the court may, upon application of any interested party, determine
the amount of interest to be paid.
Any objecting stockholder who has demanded payment for his NetSilicon
common stock shall not thereafter be entitled to notice of any stockholders
meeting, to vote such stock for any purpose, or to receive any dividends or
distributions on the stock (except dividends or distributions payable to
stockholders of record as of a date prior to the date of the vote approving the
merger agreement) unless:
- a bill in equity to determine the fair value of the NetSilicon common
stock is not filed within the statutory time period;
- a bill in equity, if filed, has been dismissed as to that stockholder; or
- that stockholder has, with the written approval of NetSilicon, delivered
a written withdrawal of his objections and an acceptance of such
corporate action.
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The enforcement by an objecting stockholder of his right to receive payment for
his shares in this manner shall be an exclusive remedy, except that the
stockholder may still bring or maintain an appropriate proceeding to obtain
relief on the ground that the corporate action giving rise to such right will be
or is illegal or fraudulent as to him.
COMPARISON OF STOCKHOLDER RIGHTS
At the time the merger becomes effective, the stockholders of NetSilicon
who do not perfect and exercise their statutory appraisal rights will become
stockholders of Digi. As stockholders of Digi, their rights will be governed by
the Delaware General Corporation Law ("DGCL") and Digi's restated certificate of
incorporation and amended and restated by-laws, which differ in certain respects
from NetSilicon's articles of organization and bylaws.
The following is a summary of the material differences between the rights
of the holders of Digi common stock and NetSilicon common stock. You might
regard as important other differences that we do not include here. You should
refer to the documents and statutory sections we mention in this section if you
want more information.
The following summary does not purport to be a complete statement of the
rights of Digi's stockholders as compared with the rights of NetSilicon's
stockholders. Further, the following summary does not purport to be a complete
description of the specific provisions referred to in this section. In addition,
the identification of specific differences is not meant to indicate that other
equally or more significant differences do not exist. This summary is qualified
in its entirety by reference to Massachusetts and Delaware law, and the
governing corporate instruments of Digi and NetSilicon to which stockholders are
referred.
AUTHORIZED CAPITAL
NetSilicon's authorized capital stock consists of 35 million shares of
common stock, par value $0.01 per share, consisting of voting common stock and
non-voting common stock, and 5 million shares of preferred stock, par value
$0.01 per share, of which 100,000 shares have been designated as Series A Junior
Participating Preferred Stock, none of which, as of the date of this proxy
statement/prospectus, is issued and outstanding. At December 17, 2001, there
were 7,093,666 shares of NetSilicon voting common stock outstanding and
6,972,656 shares of NetSilicon non-voting common stock, of which no shares were
held in the treasury. Holders of NetSilicon voting common stock are entitled to
one vote for each share and to receive such dividends as may from time to time
be declared by the NetSilicon Board out of funds legally available for this
purpose. Upon dissolution of NetSilicon or any distribution of its assets, and
in accordance with the relevant provisions of the Massachusetts Business
Corporation Law ("MBCL"), the holders of NetSilicon common stock are entitled to
all assets of NetSilicon available for distribution to stockholders after the
satisfaction of all known creditors' claims against NetSilicon and payment to
any preferred stockholders to the extent of any liquidation preference. The
holders of NetSilicon common stock have no preemptive rights to purchase shares
of NetSilicon. The authorized capital stock of Digi is set forth under
"Description of Digi Capital Stock" on page 83.
SHAREHOLDER RIGHTS PLAN
On September 12, 2000, the NetSilicon Board adopted a shareholder rights
plan under which common stock purchase rights were distributed as a rights
dividend on September 23, 2000 at the rate of one right for each share of
NetSilicon common stock held as of the close of business on that date. The
rights plan is designed to prevent an acquiror from gaining control of
NetSilicon without offering a fair price to all of NetSilicon's stockholders.
The rights plan was not adopted by the NetSilicon board in response to any
specific offer or threat, but rather was intended to protect the interests of
stockholders if NetSilicon was confronted with hostile takeover activities in
the future.
The NetSilicon board has amended the rights plan to make it inapplicable to
the merger.
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Digi also has a share rights plan, a description of which is included under
"Description of Digi Capital Stock -- Share Rights Plan" on page 84.
INDEMNIFICATION AND LIMITATION OF LIABILITY
Section 145 of the DGCL generally permits indemnification of officers,
directors, employees and agents of a Delaware corporation against expenses
(including attorneys' fees) incurred in connection with a derivative action and
against expenses (including attorneys' fees), judgments, fines and amounts paid
in settlements incurred in connection with a third-party action provided that
the person seeking indemnification acted in good faith and in a manner
reasonably believed to be in, or not opposed to, the best interests of the
corporation (and, with respect to any third-party criminal action or proceeding,
had no reasonable cause to believe this conduct was unlawful). Indemnification
under Section 145 is not exclusive of any other rights to which those persons
seeking indemnification may be entitled.
Massachusetts law similarly permits indemnification of directors, officers,
employees and agents of a corporation, except that no indemnification can be
provided for any person for any matter as to which he shall have been
adjudicated not to have acted in good faith in the reasonable belief that his
action was in the best interests of the corporation or, to the extent that such
matter relates to service with respect to any employee benefit plan, in the best
interests of the participants or beneficiaries of such benefit plan.
Indemnification permitted by statute does not limit any rights of
indemnification existing independently of the statute.
Delaware law requires indemnification when the individual being indemnified
has successfully defended the action on the merits or otherwise. Massachusetts
law merely permits indemnification to the extent authorized in the corporation's
articles of organization or its bylaws or as set forth in a vote of
stockholders.
Expenses incurred by an indemnified person in defending an action may be
paid in advance under Delaware and Massachusetts law if the person undertakes to
repay those amounts should it be determined ultimately that he or she is not
entitled to indemnification. In addition, both Delaware and Massachusetts law
permit a corporation to purchase indemnity insurance for the benefit of its
officers, directors, employees and agents whether or not the corporation would
have the power to indemnify against the liability covered by the policy.
Both Delaware and Massachusetts corporations may include in their corporate
charters a provision eliminating or limiting the liability of a director in
certain circumstances to the corporation or its stockholders for monetary
damages for a breach of certain fiduciary duties as a director regardless of any
provision of law imposing that liability. Both the NetSilicon articles and the
Digi restated certificate include those provisions. In addition, the Digi
amended and restated by-laws require the indemnification of officers and
directors to the maximum extent permissible under Delaware law. See "The
Merger -- Interests of Directors and Executive Officers of NetSilicon in the
Merger" beginning on page 57 for a description of indemnification of directors
and officers of NetSilicon to be in effect following the time the merger becomes
effective.
INSPECTION RIGHTS
Inspection rights under Delaware law are more extensive than under
Massachusetts law. Under Delaware law, stockholders, upon the demonstration of a
proper purpose, have the right to inspect a corporation's stock ledger,
stockholder lists and other books and records. Under Massachusetts law, a
corporation's stockholders have a right to inspect only the corporation's
charter, bylaws, records of all meetings of incorporators and stockholders and
transfer records.
MEETINGS OF STOCKHOLDERS
The NetSilicon bylaws provide that a special meeting of stockholders of
NetSilicon may be called by the holders of shares entitled to cast not less than
two-thirds of the votes at the meeting. Digi's amended
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and restated by-laws state that a special meeting of the stockholders may only
be called by the chairman, the board of directors, a board committee, or the
president. The DGCL permits special meetings of stockholders to be called by the
board of directors or as stated in the corporation's bylaws.
Under Delaware law, unless directors are elected by written consent, an
annual meeting of stockholders must be held as directed in the bylaws. A meeting
may be ordered by the Court of Chancery, upon application of any stockholder or
director, if an annual meeting is not held within 30 days after the date
designated in the bylaws; or no date has been designated for a period of 13
months after either the last annual meeting or the last action by written
consent to elect directors in lieu of an annual meeting, whichever is later.
Under Massachusetts law, the time and place of an annual meeting of stockholders
will be fixed as directed in the corporation's bylaws.
ACTION BY CONSENT OF STOCKHOLDERS
Under Massachusetts law, any action to be taken by stockholders may be
taken without a meeting only if all stockholders entitled to vote on the matter
consent to the action in writing, and a corporation may not provide otherwise in
its charter documents or bylaws. Under Delaware law, unless the certificate of
incorporation provides otherwise, any action to be taken by the stockholders may
be taken without a meeting, without prior notice and without a vote, if the
stockholders having the number of votes that would be necessary to take such
action at a meeting at which all of the stockholders were present and voted
consent to the action in writing. The Digi restated certificate, however, states
that stockholder action without a meeting can only be taken with the unanimous
consent of all stockholders entitled to vote on the action.
PROXIES
Massachusetts law permits the authorization by a stockholder to vote by
proxy to be valid for no more than six months. Delaware law permits a proxy to
be valid for up to three years unless the proxy provides for a longer period.
APPROVAL OF BUSINESS COMBINATIONS AND ASSET SALES
Generally, under Massachusetts law, the affirmative vote of two-thirds of
the shares outstanding and entitled to vote of each class of stock or which
would be adversely affected by a merger or asset sale is necessary to approve a
merger or a sale of all or substantially all of the corporation's assets unless
the articles of organization provide for a lesser proportion of each class
entitled to vote, but not less than a majority. The NetSilicon articles do not
provide for a lesser proportion, so the approval of any such merger or sale,
including the merger, requires the vote of two-thirds of the shares of each
class outstanding and entitled to vote. Under Delaware law, the affirmative vote
of only a majority of the shares of stock outstanding and entitled to vote is
necessary to approve a merger or asset sale. Digi's restated certificate,
however, requires a higher vote for such transactions with certain affiliates.
See "Description of Digi Capital Stock -- Certain Charter and By-Law Provisions"
beginning on page 85.
ANTI-TAKEOVER LEGISLATION
Under Section 203 of the DGCL, certain "business combinations" with
"interested stockholders" of Delaware corporations are subject to a three-year
moratorium unless specified conditions are met. Massachusetts law contains an
analogous anti-takeover law set forth in Chapter 110F of the General Laws of
Massachusetts. Chapter 110F does not apply to the merger because the NetSilicon
board has approved the merger agreement and merger.
The MBCL contains another anti-takeover law, Chapter 110D of the
Massachusetts General Laws, relating to control share acquisitions. In general,
the statute provides that any stockholder who acquires 20% or more of the
outstanding voting stock of a corporation subject to this statute may not vote
any stock of the corporation acquired within 90 days of triggering the 20%
threshold, including the stock acquired in the transaction that crossed the
threshold, unless the stockholders of the corporation so authorize. In
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addition, Chapter 110D permits the corporation to provide in its articles of
organization or bylaws that the corporation may redeem (for fair value) all the
shares thereafter acquired in a control share acquisition if voting rights for
those shares were not authorized by the stockholders or if no control share
acquisition statement was delivered. NetSilicon's bylaws include a provision
opting out of the provisions of Chapter 110D, as permitted under Massachusetts
law.
Section 50A of the MBCL requires, in general, that publicly held
Massachusetts corporations have a classified board of directors consisting of
three classes as nearly equal in size as possible. Once a corporation is subject
to the classified board provisions of this statute, directors may be removed by
a majority vote of the stockholders only for cause.
NetSilicon has a classified board of directors consisting of three classes.
At each year's annual meeting of stockholders, one of the classes of directors
of the NetSilicon board of directors is elected to serve for a three year term
unless the director is removed or resigns. Digi also has a classified board of
directors consisting of three classes. At each year's annual meeting of
stockholders, one of the classes of directors of the Digi board of directors is
elected to serve for a three-year term unless the director is removed or
resigns.
APPRAISAL RIGHTS
Under Massachusetts law, dissenting stockholders who follow prescribed
statutory procedures are entitled to appraisal rights in connection with any
merger or sale of substantially all the assets of a corporation and in
connection with certain mergers, reclassifications and other transactions which
may adversely affect the rights or preferences of stockholders.
Delaware provides similar rights in the case of a merger or consolidation
of a corporation except that such rights are not provided as to shares of a
corporation listed on a national securities exchange or designated as a national
market system security on an interdealer quotation system by the NASD or held of
record by more than 2,000 stockholders where such stockholders are required to
accept in such a merger only (i) shares of the surviving or resulting
corporation, (ii) shares of a corporation listed on a national securities
exchange or held of record by more than 2,000 holders, (iii) cash in lieu of
fractional shares, or (iv) any combination thereof. Delaware law does not
provide dissenters' rights in connection with sales of substantially all of the
assets of a corporation, reclassifications of stock or other amendments to the
certificate of incorporation which adversely affect a class of stock; provided,
however, that a corporation may provide in its certificate of incorporation that
appraisal rights shall be available as a result of an amendment to its
certificate of incorporation, to a merger or a sale of all or substantially all
of its assets. The Digi restated certificate does not provide for the appraisal
rights described in the preceding sentence.
REMOVAL OF DIRECTORS
Under Delaware law, a director serving on the board that is not classified
may be removed with or without cause by the holders of a majority of the
outstanding shares entitled to vote at an election of directors. In the case of
a Delaware corporation having a classified board, stockholders may effect that
removal only for cause unless the certificate of incorporation otherwise
provides. The Digi restated certificate and amended and restated by-laws provide
for a classified board. Under Massachusetts law, any director or the entire
board of directors may be removed, except as otherwise provided in the articles
of organization or bylaws, with or without cause, by the holders of a majority
of the shares entitled to vote at an election of directors, except that
directors of a class elected by a particular class of stockholders may be
removed only by the vote of the holders of a majority of the shares entitled to
vote for the election of those directors. Under Massachusetts law, any director
may be removed for cause by a majority vote of the directors then in office.
NetSilicon's bylaws state that stockholders may remove a director from office
only for cause.
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CHANGE IN NUMBER OF DIRECTORS
Under Massachusetts law, the number of directors is determined in the
manner provided in the corporation's bylaws. The board of directors may be
enlarged by the stockholders or, if authorized by the bylaws as is the case for
NetSilicon, by vote of a majority of directors. The NetSilicon bylaws fix the
number of directors at not less than three, unless there are fewer than three
stockholders, in which case there can be as few directors as stockholders. Under
Delaware law, the number of directors shall be fixed by or in the manner
provided in the bylaws unless the number of directors is fixed in the
corporation's certificate of incorporation. Under the Digi amended and restated
bylaws, the board may fix the number of directors.
INTERESTED DIRECTOR TRANSACTIONS
Delaware law provides that no transaction between a corporation and a
director or officer, or any entity in which any of them has an interest, is void
or voidable solely for this reason, solely because the director or officer is
present at or participates in the meeting of the board or committee which
authorizes the contract or transaction, or solely because of his or their votes
are counted for such purpose if (i) after full disclosure the transaction is
approved by the disinterested directors, which may be less than a quorum, or the
stockholders or (ii) the transaction is fair to the corporation at the time it
is approved. Massachusetts law only expressly provides that directors who vote
for and officers who knowingly participate in loans to officers or directors are
jointly and severally liable to the corporation for any part of the loan which
is not repaid, unless (i) a majority of the directors who are not direct or
indirect recipients of such loans, or (ii) the holders of a majority of the
shares entitled to vote for such directors, have approved or ratified the loan
as one which in the judgment of such directors or stockholders, as the case may
be, may reasonably be expected to benefit the corporation.
FILLING VACANCIES ON THE BOARD OF DIRECTORS
Under Massachusetts law, unless the articles of organization provide
otherwise, any vacancy in the board of directors, however occurring, including a
vacancy resulting from enlargement of the board and any vacancy in any other
office, may be filled in the manner prescribed in the bylaws, or, in the absence
of any such provision in the bylaws, by the directors. The NetSilicon bylaws
provide that vacancies may be filled by a majority of directors then in office.
Under Delaware law, vacancies and newly created directorships may be filled
by a majority of directors then in office, unless otherwise provided in the
corporation's certificate of incorporation or bylaws, provided that if at the
time of filling any vacancy or newly created directorship, the directors then in
office constitute less than a majority of the entire board as constituted
immediately prior to any increase, the Delaware Court of Chancery may, upon
application of any stockholder or stockholders holding at least 10% of the total
number of shares at the time outstanding having the right to vote for such
directors, summarily order an election to be held to fill any such vacancies or
newly created directorships or to replace the directors chosen by the directors
then in office.
PAYMENT OF DIVIDENDS
There are no restrictions on authorized dividend payments under
Massachusetts law if these actions are taken while the corporation is solvent.
Under Delaware law, a Delaware corporation may make a distribution, subject to
restrictions and the certificate of incorporation, out of either its surplus or
if there is no surplus, its net profits for the fiscal year in which the
dividend is declared or the preceding fiscal year. All dividend payments are
subject to limitations for the benefit of preference shares. A Delaware
corporation may also repurchase shares of its capital stock if it complies with
statutory standards.
AMENDMENTS TO GOVERNING DOCUMENTS
Under the MBCL, there are two stockholder voting thresholds for amending
the articles of incorporation. Generally, an amendment to the articles of
incorporation requires a two-thirds vote of the
93
corporation's stockholders, unless the corporation's articles of incorporation
provide that a lesser proportion, but no less than a majority, may amend the
corporation's articles of organization. NetSilicon's articles do not so provide
for a lesser percentage vote. Alternatively, pursuant to Section 70 of the MBCL,
a majority of the stockholders may amend the articles to increase or reduce the
authorized capital stock, change the par value of its capital stock, change the
corporation's name and effect other changes to the corporation's capital stock.
Under Delaware law, the certificate of incorporation of a Delaware
corporation may be amended by approval of the board of directors of a
corporation and the affirmative vote of the holders of a majority of the
outstanding shares entitled to vote for the amendment, unless a higher vote is
required by the corporation's charter. Digi's restated certificate requires the
affirmative vote of at least 80% of votes entitled to be cast to alter, amend or
repeal, or adopt any provisions inconsistent with, Article Sixth or Article
Seventh of the Digi restated certificate, which pertain to business combinations
with interested stockholders and the ability of stockholders to change the Digi
restated certificate. This special voting requirement will not apply to any
alteration, amendment, repeal or adoption recommended by Digi's board of
directors and approved by a majority of the continuing directors (as set forth
in the Digi restated certificate).
Under the MBCL, the stockholders of the corporation generally have the
power to make, amend, or repeal bylaws unless the articles of organization also
permit the directors to make, amend or repeal bylaws in whole or in part, except
with respect to any provision of the bylaws which by law, the articles of
organization or the bylaws requires action by the stockholders. Any bylaw
adopted by the directors may be amended or repealed by the stockholders.
NetSilicon's articles and bylaws permit NetSilicon's board of directors to make,
amend or repeal its bylaws, which is permitted under the MBCL.
Under the DGCL, a corporation's stockholders have the exclusive power to
adopt, amend, or repeal bylaws, unless the certificate of incorporation also
grants this power to the board of directors. Digi's restated certificate does
grant the board of directors the power to make, alter, or repeal its bylaws.
Digi's restated certificate also provides that the stockholders may not so adopt
or change the amended and restated bylaws except upon the affirmative vote of at
least 80% of the votes entitled to be cast by the holders of all the outstanding
shares entitled to vote.
SECURITY OWNERSHIP OF BENEFICIAL OWNERS AND MANAGEMENT
NETSILICON
The following table sets forth certain information regarding beneficial
ownership of NetSilicon's common stock as of December 17, 2001: (i) by each
person who, to the knowledge of the NetSilicon, owned beneficially more than 5%
of the 14,066,322 shares of common stock of NetSilicon outstanding at such date;
(ii) by each director; (iii) by each executive officer, and (iv) by the
directors and executive officers of NetSilicon as a group. Unless otherwise
indicated, the mailing address for each person listed in the table is 411
Waverley Oaks Road, Bldg. 227, Waltham, Massachusetts, 02452.
AMOUNT AND NATURE
NAME AND ADDRESS OF OF BENEFICIAL
BENEFICIAL OWNER OWNERSHIP(1)(2) PERCENT OF CLASS
------------------- ----------------- ----------------
Sorrento Networks, Inc.(3).................................. 6,972,656 49.6%
2800 28th Street, Suite 100 (non-voting)
Santa Monica, California 90405
Firsthand Capital Management, Inc.(4)....................... 1,264,701 9.0%
101 Park Center Plaza, Suite 1300
San Jose, California 95113
Cornelius Peterson, VIII(5)................................. 1,179,736 7.7%
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AMOUNT AND NATURE
NAME AND ADDRESS OF OF BENEFICIAL
BENEFICIAL OWNER OWNERSHIP(1)(2) PERCENT OF CLASS
------------------- ----------------- ----------------
William E. Peisel(6)........................................ 177,418 1.2%
Daniel J. Sullivan(7)....................................... 405,067 2.8%
Michael Evensen(8).......................................... 88,494 *
Richard C. Andersen(9)...................................... 36,250 *
Michael K. Ballard(10)...................................... 85,000 *
John Brennan(11)............................................ 84,690 *
Francis E. Girard(12)....................................... 80,000 *
William Johnson(13)......................................... 78,000 *
Edward B. Roberts(14)....................................... 75,000 *
F. Grant Saviers(15)........................................ 93,300 *
All executive officers, nominees and directors as a group 2,382,955 14.6%
(11 persons)(16)..........................................
---------------
* Less than 1% of the outstanding common stock.
(1)The persons and entities named in the table have sole voting and investment
power with respect to all shares of common stock shown as beneficially owned
by them, except as noted in the footnotes below and except to the extent
authority is shared by spouses under applicable law.
(2)The number of shares of common stock deemed outstanding includes (i)
14,066,322 shares of common stock outstanding as of December 17, 2001; (ii)
shares of common stock issuable pursuant to options held by the respective
person or group that may be exercised within 60 days, as set forth below and
(iii) shares of common stock issuable pursuant to options held by the
respective person or group that will accelerate and become exercisable upon
consummation of the merger.
(3)All shares owned by Sorrento Networks, Inc., formerly Osicom Technologies,
Inc., are shares of non-voting common stock.
(4)Based on a Schedule 13F dated October 11, 2001 filed by Firsthand Capital
Management, Inc. reflecting beneficial ownership as of September 30, 2001.
According to the Schedule 13F, Firsthand Capital exercises sole voting power
and sole disposition power to all such shares. Kevin Michael Landis,
President of Firsthand Capital, disclaims beneficial ownership of all such
shares.
(5)Mr. Peterson's beneficial ownership includes of 457,833 options to purchase
shares of common stock which may be exercised within 60 days, and 659,618
options to purchase shares of common stock which will accelerate and become
exercisable upon consummation of the merger.
(6)Mr. Peisel's beneficial ownership includes 177,418 options to purchase
shares of common stock which may be exercised within 60 days.
(7)Mr. Sullivan's beneficial ownership includes 173,285 options to purchase
shares of common stock which may be exercised within 60 days, and 230,782
options to purchase shares of common stock which will accelerate and become
exercisable upon consummation of the merger.
(8)Mr. Evensen's beneficial ownership includes 88,494 options to purchase
shares of common stock which may be exercised within 60 days.
(9)Mr. Andersen's beneficial ownership includes 36,250 options to purchase
shares of common stock which may be exercised within 60 days.
(10)Mr. Ballard's beneficial ownership includes 62,500 options to purchase
shares of common stock which may be exercised within 60 days, and 12,500
options to purchase shares of common stock which will accelerate and become
exercisable upon consummation of the merger.
(11)Mr. Brennan's beneficial ownership includes 83,744 options to purchase
shares of common stock that may be exercised within 60 days.
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(12)Mr. Girard's beneficial ownership includes 62,500 options to purchase shares
of common stock which may be exercised within 60 days, and 12,500 options to
purchase shares of common stock which will accelerate and become exercisable
upon consummation of the merger.
(13)Mr. Johnson's beneficial ownership includes 62,500 options to purchase
shares of common stock which may be exercised within 60 days, and 12,500
options to purchase shares of common stock which will accelerate and become
exercisable upon consummation of the merger.
(14)Mr. Roberts' beneficial ownership includes 62,500 options to purchase shares
of common stock which may be exercised within 60 days, and 12,500 options to
purchase shares of common stock which will accelerate and become exercisable
upon consummation of the merger.
(15)Mr. Saviers' beneficial ownership includes 62,500 options to purchase shares
of common stock which may be exercised within 60 days, and 12,500 options to
purchase shares of common stock which will accelerate and become exercisable
upon consummation of the merger.
(16)All current directors and executive officers as a group hold options to
purchase 1,329,524 shares of common stock that may be exercised within 60
days, and 952,900 options to purchase shares of common stock which will
accelerate and become exercisable upon consummation of the merger.
DIGI
The following table sets forth, as of December 17, 2001, the beneficial
ownership of Digi common stock by each director and executive officer of Digi,
by all directors and executive officers as a group, and by each stockholder who
is known by Digi to own beneficially more than 5% of the outstanding Digi common
stock. Unless otherwise indicated, the mailing address for each person listed in
the table is 11001 Bren Road East, Minnetonka, Minnesota 55343.
NAME AND ADDRESS AMOUNT AND NATURE OF PERCENTAGE OF
OF BENEFICIAL OWNER BENEFICIAL OWNERSHIP(1) OUTSTANDING SHARES
------------------- ----------------------- ------------------
Directors and executive officers:
Bruce H. Berger....................................... 33,502(2) *
Joseph T. Dunsmore.................................... 82,833(3) *
Douglas J. Glader..................................... 283,708(4) 1.8%
Subramanian Krishnan.................................. 145,934(5) *
Kenneth E. Millard.................................... 19,250(6) *
Mykola Moroz.......................................... 142,036(7) *
Michael S. Seedman.................................... 5,000(8) *
David Stanley......................................... 94,250(9) *
Bradley J. Williams................................... 0 *
All directors and executive officers as a group (9
persons)............................................ 806,513(10) 5.0%
Other beneficial owners:
John P. Schinas..................................... 1,430,352(11) 9.3%
P.O. Box 187
Rangeley, ME 04970
Dimensional Fund Advisors Inc. ..................... 1,291,350(12) 8.4%
1299 Ocean Avenue, 11th Floor
Santa Monica, CA 90401
---------------
* Less than one percent.
(1) Unless otherwise indicated in footnote below, the listed beneficial owner
has sole voting power and investment power with respect to such shares.
(2) Includes 32,813 shares covered by options which are exercisable within 60
days of the record date.
(3) Includes 78,333 shares covered by options which are exercisable within 60
days of the record date.
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(4) Includes 239,483 shares covered by options which are exercisable within 60
days of the record date. Includes 4,200 shares held by Mr. Glader's
spouse's IRA. Mr. Glader disclaims beneficial ownership for the shares held
by his spouse's IRA.
(5) Includes 126,251 shares covered by options which are exercisable within 60
days of the record date.
(6) Includes 19,250 shares covered by options which are exercisable within 60
days of the record date.
(7) Includes 134,500 shares covered by options which are exercisable within 60
days of the record date.
(8) Includes 3,125 shares covered by options which are exercisable within 60
days of the record date.
(9) Includes 79,000 shares covered by options which are exercisable within 60
days of the record date.
(10) Includes 237,750 shares covered by options which are exercisable within 60
days of the record date held by five non-employee directors of Digi and
476,880 shares covered by options which are exercisable within 60 days of
the record date held by four executive officers of Digi.
(11) Based on the information received by Digi from a questionnaire dated
December 3, 2001, completed by the stockholder as to the stockholder's
beneficial ownership.
(12) Based on information received by Digi on December 10, 2001 from Dimensional
Fund Advisors Inc. Dimensional, an investment advisor registered under
Section 203 of the Investment Advisers Act of 1940, furnishes investment
advice to four investment companies registered under the Investment Company
Act of 1940, and serves as investment manager to certain other investment
vehicles, including commingled group trusts. In its role as investment
adviser and investment manager, Dimensional possessed both voting and
investment power over 1,291,350 shares of Digi common stock as of September
30, 2001. The shares are owned by Dimensional's portfolios and Dimensional
claims beneficial ownership of the shares held by the portfolios.
WHERE YOU CAN FIND MORE INFORMATION
Both Digi and NetSilicon file periodic reports, proxy statements, and other
information with the Securities and Exchange Commission. These SEC filings are
available to the public over the Internet at the SEC's web site
(http://www.sec.gov). You may also read and copy any document that either
company files with the SEC at the SEC's public reference room at 450 Fifth
Street, N.W., Washington, D.C. 20549. Please call the SEC at 1-800-SEC-0330 for
further information on the operation of its public reference room.
Both Digi and NetSilicon "incorporate by reference" into this joint proxy
statement/prospectus the information in documents they file with the SEC, which
means that they can disclose important business and financial information about
themselves to you by referring you to those documents. The information
incorporated by reference is an important part of this joint proxy
statement/prospectus, and information that they file subsequently with the SEC
will automatically update this joint proxy statement/prospectus. The companies
incorporate by reference the documents listed below and any filings they make
with the SEC under Sections 13(a), 13(c), 14, or 15(d) of the Securities
Exchange Act of 1934 after the filing of this joint proxy statement/prospectus
and before the special meetings of both companies' stockholders.
FOR DIGI:
- Annual Report on Form 10-K for the fiscal year ended September 30, 2001,
including information incorporated by reference into that report from
portions of Digi's definitive proxy statement for its 2002 annual meeting
of stockholders.
97
You may request a copy of this filing, other than an exhibit to the filing
unless the exhibit is specifically incorporated by reference into the filing, at
no cost by contacting Digi orally or in writing at:
Digi International Inc.
11001 Bren Road East
Minnetonka, Minnesota 55343
Attention: Chief Financial Officer
(952) 912-3444
FOR NETSILICON:
- Annual Report on Form 10-K for the fiscal year ended January 31, 2001,
including information incorporated by reference into that report from
portions of NetSilicon's definitive proxy statement for its 2001 annual
meeting of stockholders;
- Quarterly Reports on Form 10-Q for the quarters ended April 28, July 28,
and October 27, 2001;
- Current Reports and Amended Current Reports on Form 8-K filed March 2,
May 1, and November 5, 2001; and
- the description of NetSilicon's common stock and related rights to
purchase preferred stock contained in NetSilicon's registration statement
on Form S-1 (Reg. No. 333-62231).
You may request a copy of these filings, other than an exhibit to a filing
unless the exhibit is specifically incorporated by reference into the filing, at
no cost by contacting NetSilicon orally or in writing at:
NetSilicon, Inc.
411 Waverley Oaks Road, Bldg. 227
Waltham, Massachusetts 02452
Attention: Investor Relations
(781) 647-1234
IN ORDER TO OBTAIN TIMELY DELIVERY, YOU MUST REQUEST COPIES OF DIGI'S OR
NETSILICON'S SEC FILINGS NO LATER THAN FEBRUARY 6, 2002.
You should rely only on the information delivered with, or stated or
incorporated by reference in, this joint proxy statement/prospectus. Neither
Digi nor NetSilicon has authorized anyone else to provide you with different
information. You should not assume that the information in this joint proxy
statement/ prospectus is accurate as of any date other than the date on the
cover page of this document.
EXPERTS
The financial statements of Digi International Inc. as of September 30,
2001 and 2000 and for each of the three years in the period ended September 30,
2001 included in this joint proxy statement/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 auditing and accounting.
The audited consolidated financial statements of NetSilicon, Inc.
incorporated by reference in this joint proxy statement/prospectus have been
audited by BDO Seidman, LLP, independent certified public accountants, to the
extent and for the periods set forth in their report incorporated herein by
reference, and are incorporated herein in reliance upon such report given upon
the authority of BDO Seidman, LLP as experts in auditing and accounting.
LEGAL MATTERS
The validity of the shares of Digi common stock to be issued in the merger
will be passed upon for Digi by Faegre & Benson LLP, Minneapolis, Minnesota. Tax
consequences of the merger will be passed
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upon for Digi by Faegre & Benson and for NetSilicon by Testa, Hurwitz &
Thibeault, LLP, Boston, Massachusetts.
James E. Nicholson, Secretary of Digi, is a partner of Faegre & Benson. Mr.
Nicholson holds options to purchase 70,500 shares of common stock of Digi,
63,000 of which are exercisable within 60 days of the date of this proxy
statement/prospectus. Such options are held by Mr. Nicholson under nominee
agreements for the benefit of Faegre & Benson. In addition, attorneys at Faegre
& Benson participating in matters relating to the merger beneficially own 11,685
shares of Digi common stock. An attorney at Testa, Hurwitz & Thibeault, LLP
participating in matters relating to the merger beneficially owns 6,400 shares
of NetSilicon common stock.
STOCKHOLDER PROPOSALS FOR ANNUAL MEETINGS
Digi. Stockholder proposals intended to be presented at the 2003 Annual
Meeting of Stockholders must be received by Digi at its principal executive
office no later than August 23, 2002 for inclusion in the proxy statement for
that meeting. Any other stockholder proposals for Digi's 2003 Annual Meeting of
Stockholders must be received by Digi at its principal executive office not less
than 60 days prior to the date fixed for the annual meeting, unless the company
gives less than 75 days' prior public disclosure of the date of the meeting, in
which case the company must receive notice from the stockholder not later than
the close of business on the fifteenth day following the day on which the
company publicly discloses the meeting date. The notice must set forth certain
information concerning the proposal, including a brief description of the
business desired to be brought before the annual meeting and the reasons for
conducting the business at the annual meeting, the name and record address of
the stockholder proposing the business, the class and number of shares of Digi
which are beneficially owned by the stockholder, and any material interest of
the stockholder in the business.
NetSilicon. Due to the anticipated merger, NetSilicon does not currently
expect to hold a 2002 annual meeting of stockholders because NetSilicon will be
owned by Digi if the merger is completed. If the merger is not completed and an
annual meeting is later held, stockholder proposals for inclusion in the proxy
materials for that meeting would have to be submitted to the Clerk of NetSilicon
at NetSilicon's principal executive offices no later than April 17, 2002. Under
NetSilicon's bylaws, stockholders who wish to make a proposal at the next annual
meeting -- other than one that will be included in NetSilicon's proxy
materials -- must notify NetSilicon no earlier than March 18, 2002 and no later
than April 17, 2002. These proposals also must meet the other requirements of
the rules of the SEC relating to stockholder proposals. In order to curtail
controversy as to the date upon which such written notice is received by
NetSilicon, it is suggested that such notice be submitted by certified mail,
return receipt requested.
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ANNEX A
AGREEMENT AND PLAN OF MERGER
AMONG
DIGI INTERNATIONAL INC.,
DOVE SUB INC.
AND
NETSILICON, INC.
DATED AS OF
OCTOBER 30, 2001
A-1
TABLE OF CONTENTS
PAGE
----
ARTICLE I -- THE MERGER.................................................... A-5
Section 1.1 The Merger.................................................. A-5
Section 1.2 Closing..................................................... A-5
Section 1.3 Effective Time of the Merger................................ A-5
Section 1.4 Effects of the Merger....................................... A-5
Section 1.5 Directors and Officers...................................... A-6
Section 1.6 Obligations of the Surviving Corporation.................... A-6
ARTICLE II -- EFFECT OF THE MERGER ON THE CAPITAL STOCK OF THE CONSTITUENT
CORPORATIONS; EXCHANGE OF CERTIFICATES................................... A-6
Section 2.1 Manner of Converting Shares................................. A-6
Section 2.2 Exchange of Certificates.................................... A-9
ARTICLE III -- REPRESENTATIONS AND WARRANTIES OF THE COMPANY............... A-12
Section 3.1 Organization, Standing, Qualification....................... A-12
Section 3.2 Capitalization.............................................. A-13
Section 3.3 Authorization and Execution................................. A-13
Section 3.4 No Conflicts................................................ A-13
Section 3.5 SEC Reports; Financial Statements; No Undisclosed A-14
Liabilities.................................................
Section 3.6 Registration Statement; Joint Proxy Statement............... A-15
Section 3.7 Absence of Certain Changes or Events........................ A-15
Section 3.8 Tax Matters................................................. A-16
Section 3.9 Owned Property.............................................. A-17
Section 3.10 Material Contracts.......................................... A-17
Section 3.11 Intellectual Property....................................... A-18
Section 3.12 Litigation.................................................. A-19
Section 3.13 Permits, Licenses, Authorizations; Compliance with Laws..... A-20
Section 3.14 No Brokers or Finders....................................... A-20
Section 3.15 Benefit Plans............................................... A-20
Section 3.16 Environmental Matters....................................... A-22
Section 3.17 Insurance................................................... A-23
Section 3.18 Amendment to Company Rights Agreement....................... A-24
Section 3.19 Opinion of Financial Adviser................................ A-24
Section 3.20 Voting Requirements......................................... A-24
Section 3.21 Distributors, Suppliers and Customers....................... A-24
Section 3.22 Stockholder Agreement....................................... A-24
Section 3.23 Key Employees............................................... A-24
ARTICLE IV -- REPRESENTATIONS AND WARRANTIES OF BUYER AND BUYER
SUBSIDIARY............................................................... A-24
Section 4.1 Organization, Standing, Qualification....................... A-24
Section 4.2 Capitalization.............................................. A-25
Section 4.3 Authorization and Execution................................. A-25
Section 4.4 No Conflicts................................................ A-26
Section 4.5 SEC Reports; Financial Statements; No Undisclosed A-26
Liabilities.................................................
Section 4.6 Registration Statement; Joint Proxy Statements.............. A-27
Section 4.7 Absence of Certain Changes or Events........................ A-27
Section 4.8 Tax Matters................................................. A-28
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PAGE
----
Section 4.9 Owned Property.............................................. A-29
Section 4.10 Material Contracts.......................................... A-29
Section 4.11 Intellectual Property....................................... A-30
Section 4.12 Litigation.................................................. A-31
Section 4.13 Permits, Licenses, Authorizations; Compliance with Laws..... A-31
Section 4.14 No Brokers or Finders....................................... A-31
Section 4.15 Benefit Plans............................................... A-31
Section 4.16 Environmental Mattes........................................ A-33
Section 4.17 Insurance................................................... A-34
Section 4.18 Opinion of Financial Adviser................................ A-34
Section 4.19 Voting Requirements......................................... A-34
Section 4.20 Distributors, Suppliers and Customer........................ A-34
ARTICLE V -- OPERATION OF BUSINESS OF THE COMPANY UNTIL EFFECTIVE TIME..... A-34
Section 5.1 Preservation of Business.................................... A-34
Section 5.2 Ordinary Course............................................. A-35
Section 5.3 Negative Covenants of the Company........................... A-35
Section 5.4 Tax Covenant................................................ A-36
Section 5.5 Third-Party Consents........................................ A-36
ARTICLE VI -- OPERATION OF BUSINESS OF BUYER UNTIL EFFECTIVE TIME.......... A-36
Section 6.1 Preservation of Business.................................... A-36
Section 6.2 Ordinary Course............................................. A-37
Section 6.3 Negative Covenants of Buyer................................. A-37
Section 6.4 Tax Covenant................................................ A-37
Section 6.5 Third-Party Consents........................................ A-37
ARTICLE VII -- ADDITIONAL AGREEMENTS....................................... A-38
Section 7.1 Shareholders' Meetings; Registration Statement and Joint A-38
Proxy Statement.............................................
Section 7.2 No Shopping................................................. A-39
Section 7.3 Access to Information....................................... A-40
Section 7.4 Amendment of the Company's Employee Plans................... A-40
Section 7.5 Certain Resignations........................................ A-40
Section 7.6 Confidentiality Agreements.................................. A-40
Section 7.7 Employee Benefits........................................... A-40
Section 7.8 Indemnification............................................. A-40
Section 7.9 Directors and Officers Liability Insurance.................. A-41
Section 7.10 Cooperation................................................. A-41
Section 7.11 Satisfaction of Conditions to the Merger; Notification...... A-41
Section 7.12 Rule 145 Affiliates......................................... A-41
Section 7.13 Listing of Buyer Common Stock............................... A-42
Section 7.14 Section 16 Matters.......................................... A-42
Section 7.15 Buyer Board of Directors.................................... A-42
Section 7.16 Accounting Treatment........................................ A-42
Section 7.17 Company Employees........................................... A-42
ARTICLE VIII -- CONDITIONS PRECEDENT....................................... A-42
Section 8.1 Conditions to Each Party's Obligation to Effect the A-42
Merger......................................................
Section 8.2 Conditions to the Obligations of Buyer and Buyer A-43
Subsidiary..................................................
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PAGE
----
Section 8.3 Conditions to Obligations of the Company.................... A-43
ARTICLE IX -- TERMINATION AND AMENDMENT.................................... A-44
Section 9.1 Termination................................................. A-44
Section 9.2 Procedure and Effect of Termination......................... A-45
Section 9.3 Termination Fee; Expenses................................... A-45
ARTICLE X -- GENERAL PROVISIONS............................................ A-46
Section 10.1 Termination of Representations and Warranties............... A-46
Section 10.2 Amendment and Modification.................................. A-46
Section 10.3 Waiver of Compliance; Consents.............................. A-46
Section 10.4 Expenses.................................................... A-46
Section 10.5 Press Releases and Public Announcements..................... A-47
Section 10.6 Additional Agreements....................................... A-47
Section 10.7 Notices..................................................... A-47
Section 10.8 Assignment.................................................. A-48
Section 10.9 Rules of Interpretation..................................... A-48
Section 10.10 Governing Law............................................... A-48
Section 10.11 Counterparts................................................ A-48
Section 10.12 Headings; Internal References............................... A-48
Section 10.13 Entire Agreement............................................ A-48
Section 10.14 Severability................................................ A-49
Section 10.15 Equitable Remedies.......................................... A-49
Section 10.16 Disclosure Schedules........................................ A-49
EXHIBITS
Exhibit A Stockholder Agreement
Exhibit B Form of Non-Competition and Non-Solicitation Agreement
Exhibit C Form of Affiliate Letter Agreement
Exhibit D Form of Rule 145 Letter
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AGREEMENT AND PLAN OF MERGER, dated as of October 30, 2001 (this
"Agreement"), among Digi International Inc., a Delaware corporation ("Buyer"),
Dove Sub Inc., a Delaware corporation formed and wholly owned by Buyer ("Buyer
Subsidiary"), and NetSilicon, Inc., a Massachusetts corporation (the "Company"
and, together with Buyer Subsidiary, sometimes hereinafter referred to as the
"Constituent Corporations").
WHEREAS, the respective Boards of Directors of the Company, Buyer and Buyer
Subsidiary have determined that it is advisable and in the best interests of
their respective shareholders to consummate, and have approved, the merger of
the Company with and into Buyer Subsidiary (the "Merger") and the other
transactions contemplated by this Agreement; and
WHEREAS, the Company, Buyer and Buyer Subsidiary desire to make certain
representations, warranties and agreements in connection with, and to prescribe
various conditions to, the Merger.
NOW, THEREFORE, in consideration of the premises and the respective
representations, warranties, covenants and agreements set forth in this
Agreement, the parties, intending to be legally bound, agree as follows:
ARTICLE I
THE MERGER
SECTION 1.1 The Merger. Upon the terms and subject to the conditions set
forth in this Agreement, at the Effective Time (defined in Section 1.3), the
Company shall be merged with and into Buyer Subsidiary in accordance with the
laws of the State of Delaware and the Commonwealth of Massachusetts. Buyer
Subsidiary shall be the surviving corporation in the Merger. Throughout this
Agreement, the term "Surviving Corporation" shall refer to Buyer Subsidiary in
its capacity as the surviving corporation in the Merger. The effects and the
consequences of the Merger shall be as set forth in Section 1.4.
SECTION 1.2 Closing. The closing of the Merger (the "Closing") will take
place at 10.00 a.m. (Central Time), on the business day following the date on
which the last of the closing conditions set forth in Article VIII have been met
or waived in accordance with this Agreement (other than those that by their
terms cannot be satisfied until the time of the Closing), or on such other date
or at such other time as is agreed to in writing by the parties (the date of the
Closing is referred to as the "Closing Date"). The Closing shall take place at
the offices of Faegre & Benson LLP, 90 South Seventh Street, Minneapolis,
Minnesota 55402, or at such other location as is agreed to in writing by the
parties.
SECTION 1.3 Effective Time of the Merger. Subject to the provisions of
this Agreement, an appropriate officer of each of the Constituent Corporations
shall execute and acknowledge (i) a duly prepared certificate of merger, which
shall be filed with the Secretary of State of the State of Delaware (the
"Certificate of Merger") and (ii) duly prepared articles of merger, which shall
be filed with the Secretary of the Commonwealth of the Commonwealth of
Massachusetts (the "Articles of Merger" and, together with the Certificate of
Merger, the "Certificates of Merger"). The Certificates of Merger shall be filed
as soon as practicable on the Closing Date (or such other date as is agreed to
in writing by the parties) following the Closing. The Merger shall become
effective upon the filing of the Certificates of Merger with the Secretary of
State of the State of Delaware and the Secretary of the Commonwealth of the
Commonwealth of Massachusetts in accordance with Section 252 of the Delaware
General Corporation Law (the "DGCL") and Section 79 of the Massachusetts
Business Corporation Law (the "MBCL") or at such time thereafter as is agreed by
the parties and provided in the Certificates of Merger (the date and time the
Merger becomes effective is referred to as the "Effective Time").
SECTION 1.4 Effects of the Merger. At the Effective Time:
(a) The Company shall be merged with and into Buyer Subsidiary, the
separate corporate existence of the Company shall cease, and Buyer Subsidiary
shall be the Surviving Corporation;
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(b) the Certificate of Incorporation and the Bylaws of Buyer Subsidiary
shall be the Certificate of Incorporation and the Bylaws of the Surviving
Corporation until thereafter amended as provided by law or by the Certificate of
Incorporation or the Bylaws of the Surviving Corporation; and
(c) the Merger shall have all the effects prescribed in the DGCL and the
MBCL.
SECTION 1.5 Directors and Officers. As of the Effective Time, all of the
directors of Buyer Subsidiary and the Company immediately prior to the Effective
Time shall together be the directors of the Surviving Corporation and the
officers of Buyer Subsidiary immediately prior to the Effective Time shall be
the officers of the Surviving Corporation, in each case until the earlier of the
resignation or removal of such person or until his or her successor is duly
elected or appointed and qualified, as the case may be.
SECTION 1.6 Obligations of the Surviving Corporation. As of the Effective
Time of the Merger, the Surviving Corporation hereby (a) agrees that, so long as
any such liability of the Company or the Surviving Corporation remains
outstanding in the Commonwealth of Massachusetts, it may be sued in the
Commonwealth of Massachusetts for any prior obligation of the Company and any
obligation of the Surviving Corporation thereafter incurred, including the
obligation created by Massachusetts General Laws, Chapter 156B, Section 85 so
long as such obligation remains outstanding in Massachusetts and (b) irrevocably
appoints the Secretary of the Commonwealth of the Commonwealth of Massachusetts
as its agent for service of process in any action for the enforcement of any
such obligation, including taxes, in the same manner as provided in
Massachusetts General Laws, Chapter 181.
ARTICLE II
EFFECT OF THE MERGER ON THE CAPITAL STOCK OF THE CONSTITUENT
CORPORATIONS; EXCHANGE OF CERTIFICATES
SECTION 2.1 Manner of Converting Shares. As of the Effective Time, by
virtue of the Merger and without any action on the part of the holder of any
shares of capital stock of the Constituent Corporations, the shares of capital
stock of the Constituent Corporations shall be converted or cancelled as
follows:
(a) Buyer Subsidiary's Common Stock. Each share of common stock of
Buyer Subsidiary issued and outstanding immediately prior to the Effective
Time shall remain outstanding as one share of common stock of the Surviving
Corporation and shall not be converted into any other securities or cash in
the Merger. The certificates for such shares shall not be surrendered or in
any way modified by reason of the Merger. No stock of Buyer Subsidiary will
be issued in the Merger.
(b) Conversion of Company Common Stock. Subject to the other
provisions of this Section 2.1, each share of common stock, par value $0.01
per share, of the Company ("Company Common Stock"), other than Dissenting
Shares (as defined in Section 2.1(d)) and shares of Company Common Stock
held of record immediately before the Effective Time by Buyer, Buyer
Subsidiary or any direct or indirect wholly owned subsidiary of Buyer
("Excluded Shares"), issued and outstanding immediately prior to the
Effective Time (collectively, the "Outstanding Shares") shall be converted
into the right to receive from Buyer (A) an amount in cash equal to the
Exchange Ratio (defined below) times the average per-share closing price of
Buyer Common Stock on the Nasdaq National Market System during the period
of ten trading days ending on the third trading day before the Closing Date
("Buyer's Average Price"), without interest (the "Cash Consideration"), (B)
a number of validly issued, fully paid and nonassessable shares of common
stock, par value $0.01 per share, of Buyer ("Buyer Common Stock"), equal to
the Exchange Ratio (the "Stock Consideration") or (C) the right to receive
a combination of cash and shares of Buyer Common Stock determined in
accordance with this Section (the "Mixed Consideration"). (The Cash
Consideration, the Stock Consideration or the Mixed Consideration, together
with any cash in lieu of fractional shares of Buyer Common Stock (the
"Fractional Shares") to which a holder of Company Common Stock has the
right to receive pursuant to Section 2.2(e), is each referred to herein as
the "Merger Consideration.") The "Exchange Ratio" means .6500. Election of
the Merger Consideration
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to be received upon conversion of the Outstanding Shares shall be governed
by the following provisions:
(i) Cash Election. Each record holder of Outstanding Shares shall
be entitled to elect to receive the Cash Consideration for each of such
holder's shares of Company Common Stock (a "Cash Election"). If the
aggregate cash payment with respect to the shares of Company Common
Stock covered by Cash Elections (the "Cash Election Shares"), together
with any cash payable with respect to Fractional Shares and Dissenting
Shares, exceeds $15 million (the "Cash Election Number"), each Cash
Election Share shall be converted into (i) the right to receive an
amount in cash, without interest, equal to the product of (A) the Cash
Consideration and (B) a fraction (the "Cash Fraction"), the numerator of
which shall be the Cash Election Number and the denominator of which
shall be the total number of Cash Election Shares, and (ii) a number of
shares of Buyer Common Stock equal to the product of (A) the Exchange
Ratio and (B) a fraction equal to one minus the Cash Fraction. Cash
Elections shall be made on a form designed for that purpose (a "Form of
Election"), which Form of Election shall be in such form as Buyer and
the Company shall mutually agree. Solely for purposes of determining the
cash payable with respect to Dissenting Shares in connection with the
Cash Election Number, the holders of such Dissenting Shares shall be
deemed to have made a Cash Election with respect to the Dissenting
Shares.
(ii) Stock Election. Each record holder of Outstanding Shares
shall be entitled to elect to receive the Stock Consideration for each
of such holder's shares of Company Common Stock (a "Stock Election").
Stock Elections shall be made on a Form of Election.
(iii) Mixed Election. Subject to the limitation on the aggregate
amount of cash payable in the Merger set forth in Section 2.1(b)(i),
each record holder of Outstanding Shares shall be entitled to elect to
receive the Stock Consideration for each share of a portion of such
holder's shares of Company Common Stock and the Cash Consideration for
the remainder (a "Mixed Election" and, collectively with a Stock
Election and a Cash Election, an "Election"). Mixed Elections shall be
made on a Form of Election. With respect to each holder of Company
Common Stock who makes a Mixed Election, the shares of Company Common
Stock such holder elects to be converted into the right to receive Cash
Consideration shall be treated as Cash Election Shares for purposes of
the provisions contained in Section 2.1(b)(i), and the shares such
holder elects to be converted into the right to receive shares of Buyer
Common Stock shall be treated as Stock Election Shares for purposes of
the provisions contained in Section 2.1(b)(ii).
(iv) Form of Election. To be effective, a Form of Election must be
properly completed, signed and submitted to Wells Fargo Bank Minnesota,
N.A., transfer agent for Buyer Common Stock, or such other paying and
exchange agent (which shall be a commercial bank or trust company) as
Buyer may appoint (which shall be reasonably acceptable to the Company
(the "Exchange Agent"), and accompanied by the certificates representing
the shares of Company Common Stock ("Old Certificates") as to which the
election is being made (or by an appropriate guarantee of delivery of
such Old Certificate signed by a bank, broker, dealer, credit union,
savings association or other entity that is a member in good standing of
the Securities Transfer Agent's Medallion Program, the New York Stock
Exchange Medallion Signature Guarantee Program or the Stock Exchange
Medallion Program). A holder of record of shares of Company Common Stock
who holds such shares as nominee, trustee or in another representative
capacity (a "Holder Representative") may submit multiple Forms of
Election, provided that such Holder Representative certifies that each
such Form of Election covers all the shares of Company Common Stock held
by such Holder Representative for a particular beneficial owner. Buyer
shall have the discretion, which it may delegate in whole or in part to
the Exchange Agent, to determine whether Forms of Election have been
properly completed, signed and submitted or revoked and to disregard
immaterial defects in Forms of Election. The decision of Buyer (or the
Exchange Agent) in such matters shall be conclusive and binding. Neither
Buyer nor the Exchange Agent shall be under any obligation to notify any
person of any defect in a Form of
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Election submitted to the Exchange Agent. Buyer (or the Exchange Agent)
shall make all computations contemplated by this Section 2.1, and all
such computations shall be conclusive and binding on the holders of
shares of Company Common Stock.
(v) Deemed Non-Election. For the purposes hereof, a holder of
shares of Company Common Stock who does not submit a Form of Election
that is received by the Exchange Agent prior to the Election Deadline
(the "No Election Shares") shall be deemed to have made a Stock
Election. If Buyer or the Exchange Agent shall determine that any
purported Election was not properly made, the shares subject to such
improperly made Election shall be treated as No Election Shares.
(vi) Election Deadline. Buyer and the Company shall each use
reasonable efforts to cause copies of the Form of Election to be mailed
on the Mailing Date (as defined below) to each holder of record of
shares of Company Common Stock as of a record date that shall be the
same date as the record date for eligibility to vote on the Merger. The
"Mailing Date" shall be the date on which proxy materials relating to
the Merger are first mailed to holders of shares of Company Common
Stock. In order to be effective, a Form of Election must be received by
the Exchange Agent by 5:00 p.m., New York City time, on the 20th
calendar day following the Mailing Date, or such other time and date as
Buyer and the Company may mutually agree (the "Election Deadline"). All
elections may be revoked until the Election Deadline in writing by the
record holders submitting Forms of Election.
(c) Anti-Dilution Provisions. If Buyer changes (or establishes a
record date for changing) the number of shares of Buyer Common Stock issued
and outstanding prior to the Effective Time as a result of a stock split,
stock dividend, stock combination, recapitalization, reclassification,
reorganization or similar transaction with respect to the outstanding Buyer
Common Stock and the record date therefor or the effective time thereof
shall be prior to the Effective Time, the Exchange Ratio shall be adjusted
appropriately. If, between the date of this Agreement and the Effective
Time, Buyer shall merge or consolidate with or into any other corporation
and the terms of that transaction shall provide that Buyer Common Stock
shall be converted into or exchanged for the shares of any other
corporation or entity, then provision shall be made so that shareholders of
the Company who would be entitled to receive shares of Buyer Common Stock
pursuant to this Agreement shall be entitled to receive, in lieu of each
share of Buyer Common Stock issuable to that shareholder as provided in
this Agreement, the same kind and amount of securities or assets as shall
be distributable upon that merger or consolidation with respect to one
share of Buyer Common Stock. Nothing stated herein shall permit Buyer to
take any action that is not permitted under Section 6.3 hereof without the
written consent of the Company.
(d) Dissenting Shares. Each outstanding share of Company Common Stock
the holder or beneficial owner of which has perfected such holder or
beneficial owner's right to demand payment under Section 89 of the MBCL,
and has not effectively withdrawn or lost that right as of the Effective
Time (the "Dissenting Shares"), shall not be converted into or represent a
right to receive the Merger Consideration, and the holder thereof shall be
entitled only to those rights as are granted by the MBCL. If, after the
Effective Time, a holder or beneficial owner of Dissenting Shares fails to
perfect, withdraws or loses its right to demand payment, such Dissenting
Shares shall be deemed to be converted into, as of the Effective Time, the
right to receive the Stock Consideration as provided in Section 2.1(b),
without interest thereon, upon surrender of the Old Certificates previously
constituting Dissenting Shares in accordance with Section 2.2 of this
Agreement. The Company shall give Buyer (i) prompt notice upon receipt by
the Company of any notice of intent to demand payment of the fair value of
any shares of Company Common Stock and of withdrawals of any of those
notices of intent and any other instruments provided pursuant to the MBCL
and received by the Company that relate to any such demand for appraisal
and (ii) the opportunity to participate in all negotiations and proceedings
with respect to the exercise of appraisal rights under the MBCL. The
Company shall not, except with the prior written consent of Buyer,
voluntarily make any payment with respect to any exercise of appraisal
rights or settle or offer to settle any demands for fair value of
A-8
Dissenting Shares under Section 89 of the MBCL. Any payments made in
respect of Dissenting Shares shall be made by the Surviving Corporation.
SECTION 2.2 Exchange of Certificates.
(a) Deposit with Exchange Agent. As soon as practicable after the
Effective Time, Buyer and the Surviving Corporation jointly and severally agree
to deposit with the Exchange Agent an amount of cash and certificates
representing the shares of Buyer Common Stock required to effect the conversion
of Outstanding Shares and the Dissenting Shares (presuming that they will lose
the right to dissent) into cash and Buyer Common Stock in accordance with
Section 2.1. Buyer and the Surviving Corporation jointly and severally agree
promptly to deposit with the Exchange Agent additional amounts of cash, if any,
needed from time to time by the Exchange Agent to make payments for Fractional
Shares or Dissenting Shares and to effect the conversion of the Outstanding
Shares, which payments shall be made by the Exchange Agent. The cash and Buyer
Common Stock deposited with the Exchange Agent pursuant to this Section 2.2(a)
may not be used for any other purpose, except as provided in this Agreement. All
cash deposited with the Exchange Agent pursuant to this Section 2.2(a) shall be
invested in obligations of or guaranteed by the United States of America, in
commercial paper obligations receiving the highest rating from either Moody's
Investors Service, Inc. or Standard & Poor's Corporation, or in certificates of
deposit, bank repurchase agreements or bankers' acceptances of commercial banks
with capital, surplus and undivided profits exceeding $50 million ("Permitted
Investments"); provided, however, that the maturities of Permitted Investments
shall be such as to permit the Exchange Agent to make prompt payments to persons
entitled thereto pursuant to this Section 2.2. Any net profit resulting from, or
interest or income produced by, such investments shall be distributed to Buyer
by the Exchange Agent upon Buyer's request.
(b) Exchange and Payment Procedures. Upon surrender of an Old Certificate
for cancellation to the Exchange Agent or to another agent or agents as may be
appointed by Buyer for that purpose, together with a letter of transmittal, duly
executed, the holder of the Old Certificate (other than an Old Certificate
representing Dissenting Shares) shall be entitled to receive in exchange
therefor (x) a certificate representing that number of shares of Buyer Common
Stock ("Buyer Shares"), if any, into which the shares of Company Common Stock
previously represented by the Old Certificate are converted in accordance with
Section 2.1, (y) cash, if any, to which that holder is entitled in accordance
with Section 2.1 and (z) any cash in lieu of Fractional Shares that the holder
has the right to receive pursuant to Section 2.2(e) (the Buyer Shares and cash
described in clauses (x), (y) and (z) above being referred to collectively as
the "Aggregate Consideration"). If the Aggregate Consideration is to be
delivered to any person who is not the person in whose name the Old Certificate
surrendered in exchange therefor is registered in the transfer records of the
Company, the Aggregate Consideration may be delivered to a transferee if the Old
Certificate is presented to the Exchange Agent, accompanied by all documents
reasonably required to evidence and effect that transfer and by evidence
reasonably satisfactory to the Exchange Agent that any applicable stock transfer
taxes have been paid. Until surrendered as contemplated by this Section 2.2,
each Old Certificate (other than an Old Certificate representing Excluded
Shares, which shall be canceled) shall be deemed at any time after the Effective
Time to represent only the right to receive upon surrender the Aggregate
Consideration contemplated by this Section 2.2. No interest will be paid or will
accrue on any cash payable to holders of the Old Certificates pursuant to
provisions of this Article II.
(c) Distributions with Respect to Unexchanged Shares. No dividends or
other distributions declared or paid after the Effective Time with respect to
Buyer Shares with a record date after the Effective Time shall be paid to the
holder of any unsurrendered Old Certificate with respect to the Buyer Shares
represented thereby and no cash payment in lieu of fractional shares shall be
paid to any such holder pursuant to Section 2.2(e) until the holder of record of
such Old Certificate shall surrender such Old Certificate. Subject to the effect
of unclaimed property, escheat and other applicable laws, following surrender of
any such Old Certificate, there shall be paid to the record holder of the
certificates representing whole Buyer Shares issued in exchange therefor (or the
person who would be the record holder of the certificates representing
fractional Buyer Shares if fractional Buyer Shares were issued in
A-9
exchange therefor), without interest, (i) at the time of such surrender, the
amount of any cash payable in lieu of Fractional Shares to which such holder is
entitled pursuant to Section 2.2(e) and the amount of dividends or other
distributions with a record date after the Effective Time theretofore paid with
respect to such whole Buyer Shares and (ii) at the appropriate payment date, the
amount of dividends or other distributions with a record date after the
Effective Time but prior to surrender and a payment date subsequent to surrender
payable with respect to such whole Buyer Shares.
(d) No Further Ownership Rights in Company Common Stock.
(i) After the Effective Time, there shall be no further registration or
transfers of shares of Company Common Stock.
(ii) The payment of the Aggregate Consideration to be made to holders of
Old Certificates upon conversion of shares of Company Common Stock in accordance
with the terms of this Agreement shall be deemed to have been issued and paid in
full satisfaction of all rights pertaining to those shares of Company Common
Stock.
(iii) If, after the Effective Time, Old Certificates are presented to Buyer
for any reason, they shall be canceled and exchanged as provided in this Article
II.
(e) No Fractional Shares.
(i) No certificates or scrip representing Fractional Shares of Buyer Common
Stock shall be issued upon the surrender for exchange of Old Certificates, and
those Fractional Shares will not entitle the owner thereof to vote or to any
rights of a shareholder of Buyer.
(ii) To the extent a holder of Company Common Stock would otherwise have
been entitled to receive a Fractional Share of Buyer Common Stock, that holder
shall be entitled to receive in lieu thereof a payment in cash, without
interest, in an amount equal to (x) such fraction multiplied by (y) Buyer's
Average Price. The Fractional Shares of Buyer Common Stock shall be aggregated
and no holder of Company Common Stock shall be entitled to receive cash in lieu
of Fractional Shares in an amount equal to or greater than the value of one full
share of Buyer Common Stock as calculated above.
(f) Termination of Exchange Agent. Any certificates representing Buyer
Shares deposited with the Exchange Agent pursuant to Section 2.2(a) and not
exchanged within one year after the Effective Time pursuant to this Section 2.2
shall be returned by the Exchange Agent to Buyer, which shall thereafter act as
Exchange Agent. All funds held by the Exchange Agent for payment to the holders
of unsurrendered Old Certificates and Dissenting Shares and unclaimed at the end
of one year from the Effective Time shall be returned to Buyer, after which time
any holder of unsurrendered Old Certificates shall look, as a general creditor
only, to Buyer for payment of those funds to which the holder may be due,
subject to applicable law. Notwithstanding anything herein stated, Buyer and the
Surviving Corporation shall continue to be liable, after the expiration of the
one-year period, for any payments required to be made under Section 89 of the
MBCL and Section 2.1(d) hereof.
(g) Withholding Rights. Buyer shall be entitled to deduct and withhold
from the consideration otherwise payable pursuant to this Agreement to any
holder of Company Common Stock (or to any person pursuant to Section 2.2(i))
those amounts as it is required to deduct and withhold with respect to the
making of that payment under the Internal Revenue Code of 1986 (the "Code"), or
any provision of state, local or foreign tax law. To the extent that amounts are
so withheld by Buyer, the withheld amounts shall be treated for all purposes of
this Agreement as having been paid to the holder of the shares of Company Common
Stock (or to any person pursuant to Section 2.2(i)) in respect of which the
deduction and withholding was made by Buyer.
(h) Lost, Stolen or Destroyed Certificates. If any Old Certificate shall
have been lost, stolen or destroyed, upon the making of an affidavit of that
fact by the person claiming such Old Certificate to have been lost, stolen or
destroyed, the amount to which such person would have been entitled under
Section 2.2 but for failure to deliver such certificate or certificates to the
Exchange Agent shall nevertheless be paid to such person; provided, however,
that the Surviving Corporation may, in its sole
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discretion and as a condition precedent to such payment, require such person to
give the Surviving Corporation a written indemnity agreement in form and
substance reasonably satisfactory to the Surviving Corporation and, if
reasonably deemed advisable by the Surviving Corporation, a bond in such sum as
it may reasonably direct as indemnity against any claim that may be had against
the Surviving Corporation or Buyer with respect to the certificate or
certificates alleged to have been lost, stolen or destroyed.
(i) Stock Plans of the Company. At the Effective Time, all outstanding
options to purchase shares of Company Common Stock outstanding immediately prior
to the Effective Time ("Company Stock Options") under the Company's Amended and
Restated 1998 Incentive and Non-Qualified Stock Option Plan, 1998 Director Stock
Option Plan, as Amended and Restated, and 2001 Stock Option and Incentive Plan
("Company Stock Plans"):
(i) for the 4,311,936 of such options with a per share exercise price
of $7.00 or less and 150,000 of such options issued to Cornelius Peterson,
VIII with a per share exercise price of $18.00, each of which is listed
under the heading "Assumed Company Stock Options" on Schedule 3.2 of the
Company Disclosure Schedule ("Assumed Company Stock Options"), shall be
converted into options to acquire, on the same terms and conditions as were
applicable under such Company Stock Option, the number of shares of Buyer
Common Stock equal to (A) the number of shares of Company Common Stock
subject to the Company Stock Option, multiplied by (B) the Exchange Ratio
(such product rounded up (or down as provided below with respect to
"incentive stock options") to the nearest whole number) (all such new
options of an option holder, a "Replacement Option"), at an exercise price
per share (rounded up or down to the nearest whole cent) equal to (y) the
exercise price per share for the shares of Company Common Stock which were
purchasable pursuant to such Company Stock Option divided by (z) the
Exchange Ratio; or
(ii) for the 1,121,025 of such options with a per share exercise price
of greater than $7.00, each of which is listed under the heading
"Non-Assumed Company Stock Options" on Schedule 3.2 of the Company
Disclosure Schedule ("Non-Assumed Company Stock Options"), shall not be
assumed by Buyer but shall terminate, by their terms, 30 days following the
date of written notice from the Company, which notice shall be given by the
Company promptly following the Mailing Date, and such Non-Assumed Company
Stock Options shall be immediately exercisable in full until the date of
such termination.
Notwithstanding the foregoing, each Assumed Company Stock Option that is
intended to be an "incentive stock option" (as defined in Section 422 of the
Code) shall be adjusted in accordance with the requirements of Section 424 of
the Code. At the Effective Time, Buyer shall assume the Company Stock Plans;
provided, that such assumption shall be only in respect of the Replacement
Options resulting from the conversion of Assumed Company Stock Options issued
under such plans and that Buyer shall have no obligation with respect to any
awards under the Company Stock Plans other than the Replacement Options and
shall have no obligation to make any additional grants or awards under such
assumed Company Stock Plans. The Company shall not, and shall cause any plan
committee or administrator not to, take any action prior to the Effective Time
that will extend the exercise period of any Assumed Company Stock Option or
cause the vesting period of any Assumed Company Stock Option to accelerate under
any circumstances, regardless of whether such circumstances are to occur before
or after the Effective Time, or otherwise amend the terms of outstanding Assumed
Company Stock Options.
(j) ESPP Options of the Company. At the Effective Time, each option ("ESPP
Option") granted under the Company's 2000 Employee Stock Purchase Plan (the
"Company ESPP") that is then outstanding shall be treated as an option to
acquire, on the same terms and conditions as were applicable under such ESPP
Option, the number of shares of Buyer Common Stock equal to (i) the number of
shares of Company Common Stock subject to the ESPP Option, multiplied by (ii)
the Exchange Ratio (such product rounded up to the nearest whole number).
(k) Warrants of the Company. At the Effective Time, the warrants to
purchase 20,000 shares of Company Common Stock issued to WireSpeed
Communications Corp. dated May 22, 2000 (the "WireSpeed Warrants") shall be
deemed to be assumed by Buyer and shall be converted into warrants to
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acquire, on the same terms and conditions as were applicable under the WireSpeed
Warrants, the number of shares of Buyer Common Stock equal to (i) the number of
shares of Company Common Stock subject to the WireSpeed Warrants, multiplied by
(ii) the Exchange Ratio (such product rounded up to the nearest whole number),
at an exercise price per share (rounded up or down to the nearest whole cent)
equal to (y) the exercise price per share for the shares of Company Common Stock
that were purchasable pursuant to the WireSpeed Warrants divided by (z) the
Exchange Ratio.
(l) No Liability. No party to this Agreement shall be liable to any holder
of shares of Company Common Stock for payment of the Merger Consideration (or
dividends or distributions relating thereto) delivered to a public official
pursuant to the requirements of any applicable abandoned property, escheat or
similar law.
(m) Shares Held by Company Affiliates. Anything to the contrary in this
Agreement notwithstanding, no shares of Buyer Common Stock (or certificates for
such shares) shall be issued in exchange for any Old Certificate to any person
who is expected to be an "affiliate" of the Company at the Effective Time
(identified pursuant to Section 7.12) until such person shall have delivered to
Buyer a duly executed letter agreement as contemplated by Section 7.12. Such
person shall be subject to the restrictions described in such letter agreement,
and such shares (or certificates for such shares) shall bear a legend describing
such restrictions.
ARTICLE III
REPRESENTATIONS AND WARRANTIES OF THE COMPANY
Except as otherwise set forth in the disclosure schedule delivered by the
Company to Buyer concurrently with the execution and delivery of this Agreement
(the "Company Disclosure Schedule") or as otherwise described in the Company SEC
Reports (defined in Section 3.5(a) below), the Company represents and warrants
to Buyer and Buyer Subsidiary as follows:
SECTION 3.1 Organization, Standing, Qualification. Each of the Company's
Subsidiaries is listed in the Company Disclosure Schedule under the heading
"Subsidiaries." Each of the Company and its Subsidiaries is a corporation duly
incorporated, validly existing, and in good standing under the laws of the
jurisdiction of its incorporation (as identified in the Company Disclosure
Schedule) and has the requisite corporate power and corporate authority to own,
lease, and operate its properties and assets and to carry on its business as it
is now being conducted. Each of the Company and its Subsidiaries is duly
qualified or licensed as a foreign corporation to do business, and is in good
standing, in each jurisdiction where the character of the properties owned,
operated, or leased by it, or the nature of its business, makes such
qualification or licensing necessary, except such jurisdictions where failure to
be so qualified, licensed, or in good standing would not be reasonably likely to
have, individually or in the aggregate, a Company Material Adverse Effect
(defined below). "Material Adverse Effect" shall mean, with respect to the
Company, Buyer or the Surviving Corporation, as applicable, a material adverse
effect upon the business, operations, properties, or financial condition of that
party and its Subsidiaries taken as a whole, or on that party's ability to
consummate the Merger (other than any such effect resulting from (a) any change,
event, occurrence, or condition generally applicable to the industry in which
the party and its Subsidiaries operate, (b) general economic or market
conditions, or (c) the public announcement of this Agreement). A Material
Adverse Effect on the Company, the Buyer or the Surviving Corporation is
referred to as a "Company Material Adverse Effect," a "Buyer Material Adverse
Effect" or a "Surviving Corporation Material Adverse Effect," as applicable. The
copies of the charter and bylaws (or similar organizational documents) of the
Company and each of its Subsidiaries provided to Buyer are complete and correct
as of the date of this Agreement. A "Subsidiary" means, with respect to any
corporation or other entity, any corporation or other entity in which the first
entity owns, directly or indirectly, fifty percent or more of the securities or
other ownership interests having by their terms ordinary voting power to elect
at least a majority of the board of directors or other persons performing
similar functions.
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SECTION 3.2 Capitalization. The authorized capital stock of the Company
consists of (i) 35 million shares of Company Common Stock, consisting of 26
million shares of Voting Stock (the "Company Voting Stock") and 9 million shares
of Non-Voting Stock (the "Company Non-Voting Stock"), of which, as of the date
of this Agreement, 7,093,666 shares of Company Voting Stock and 6,972,656 shares
of Company Non-Voting Stock are issued and outstanding, and (ii) 5 million
shares of Preferred Stock, par value $0.01 per share, of which 100,000 shares
have been designated as Series A Junior Participating Preferred Stock ("Company
Series A Preferred Stock"), none of which, as of the date of this Agreement, is
issued and outstanding. All of the issued and outstanding shares of capital
stock of the Company and of each of its Subsidiaries have been duly authorized
and validly issued, are fully paid and nonassessable, and were not granted in
violation of any statutory or other preemptive rights. There are no outstanding
subscriptions, options, warrants, calls, rights or other agreements,
arrangements or commitments under which the Company or any of its Subsidiaries
is or may become obligated to issue, sell, transfer, or otherwise dispose of, or
purchase, redeem, or otherwise acquire, any shares of capital stock of, or other
equity or voting interests in, the Company or any of its Subsidiaries, and there
are no outstanding securities convertible into or exchangeable for any such
capital stock or other equity or voting interests, except for (a) options to
purchase up to 5,582,961 shares of Company Common Stock (as of the date of this
Agreement) at the exercise prices set forth in the Company Disclosure Schedule,
(b) the Rights Agreement dated as of September 12, 2000, as amended, between the
Company and American Stock Transfer and Trust Company (the "Company Rights
Agreement"), under which each outstanding share of Company Common Stock has
attached to it certain rights (the "Company Rights"), including rights under
certain circumstances to purchase one one-thousandth of a share of Series A
Preferred Stock at $200 per right, subject to adjustment, (c) 41,875 shares of
Company Common Stock issued pursuant to the Company's 2000 Employee Stock
Purchase Plan, and (d) 20,000 shares of Company Common Stock issuable upon the
exercise of the WireSpeed Warrants. There are no voting trusts, proxies or other
agreements or understandings to which the Company is a party with respect to the
voting of capital stock of the Company. The Company owns, directly or
indirectly, all of the issued and outstanding shares of capital stock of every
class of each of its Subsidiaries, free and clear of all liens, security
interests, pledges, charges, and other encumbrances. The Company Disclosure
Schedule contains a complete and correct list of each corporation, limited
liability company, partnership, joint venture, or other business association or
entity in which the Company or any of its Subsidiaries has any direct or
indirect equity ownership interest (other than the Subsidiaries listed in the
Company Disclosure Schedule).
SECTION 3.3 Authorization and Execution. The Company has the corporate
power and authority to execute and deliver this Agreement and, subject to
approval by the holders of Company Common Stock at the Company Shareholders
Meeting, to consummate the transactions contemplated hereby. The execution,
delivery, and performance of this Agreement by the Company have been duly
authorized by the Board of Directors of the Company, and no further corporate
action of the Company, other than the approval of its shareholders and the
filing of the Articles of Merger with the Secretary of the Commonwealth of the
Commonwealth of Massachusetts, is necessary to consummate the transactions
contemplated hereby. This Agreement has been duly executed and delivered by the
Company and, assuming the accuracy of the representations and warranties of
Buyer and Buyer Subsidiary set forth in Article IV, constitutes the legal,
valid, and binding obligation of the Company, enforceable against the Company in
accordance with its terms, except to the extent that enforceability may be
limited by applicable bankruptcy, insolvency, or similar laws affecting the
enforcement of creditors' rights generally, and subject, as to enforceability,
to general principles of equity (regardless of whether enforcement is sought in
a court of law or equity).
SECTION 3.4 No Conflicts. Neither the execution and delivery of this
Agreement by the Company nor the consummation by the Company of the transactions
contemplated hereby, will (a) conflict with or result in a breach of the
charter, bylaws, or similar organizational documents, as currently in effect, of
the Company or any of its Subsidiaries, (b) except for (i) compliance with the
Securities Act and the Securities Exchange Act of 1934 (the "Exchange Act"),
including the filing with, and to the extent applicable, the declaration of
effectiveness by, the SEC of the Joint Proxy Statement and the Registration
Statement (each defined in Section 7.1(b)) and such reports and other filings
under the Securities Act or Exchange Act as may be required in connection with
this Agreement and the transactions contemplated
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hereby, (ii) the filing of the Certificates of Merger with the Secretary of
State of the State of Delaware and the Secretary of the Commonwealth of the
Commonwealth of Massachusetts, (iii) any filings required by the pre-merger
notification requirements of the Hart-Scott-Rodino Antitrust Improvements Act of
1976, as amended, and the rules and regulations thereunder (the "HSR Act") and
comparable filings, if any, in foreign jurisdictions and (iv) the filings
required under the rules and regulations of Nasdaq National Market System,
require any filing with, or consent or approval of, any governmental,
administrative or regulatory body or authority having jurisdiction over any of
the business or assets of the Company or any of its Subsidiaries, (c) violate
any statute, law, ordinance, permit, license, rule, or regulation applicable to
the Company or any of its Subsidiaries or any injunction, judgment, order, writ,
decision or decree applicable to the Company or any of its Subsidiaries or their
respective properties or assets, or (d) result in a breach of, or constitute a
default or an event that, with or without the passage of time or the giving of
notice, or both, would constitute a default, give rise to a right of
termination, cancellation, or acceleration, create any entitlement of any third
party to any material payment or benefit, require notice to, or the consent of,
any third party, or result in the creation of any lien on the assets of the
Company or any of its Subsidiaries under, any Company Material Contract (defined
in Section 3.10), except, in the case of clauses (b), (c), and (d), where such
violation, breach, default, termination, cancellation, acceleration, payment,
benefit, or lien, or the failure to make such filing, give such notice, or
obtain such consent or approval, would not, individually or in the aggregate, be
reasonably likely to have a Company Material Adverse Effect.
SECTION 3.5 SEC Reports; Financial Statements; No Undisclosed Liabilities.
(a) The Company has made available to Buyer, in the form filed with the
Securities and Exchange Commission (the "SEC"), all reports, registration
statements, and other filings (including amendments to previously filed
documents) filed by the Company with the SEC from February 1, 2001 to the date
of this Agreement (all such reports, proxy statements, registration statements,
and filings are collectively called the "Company SEC Reports" and each is
individually called a "Company SEC Report"). No Company SEC Report, as of its
filing date, contained any untrue statement of a material fact or omitted to
state any material fact required to be stated therein or necessary in order to
make the statements made therein, in the light of the circumstances under which
they were made, not misleading, and each Company SEC Report at the time of its
filing complied as to form in all material respects with all applicable
requirements of the Securities Act of 1933 (the "Securities Act"), the Exchange
Act, and the rules and regulations of the SEC promulgated thereunder. The
representation in the immediately preceding sentence does not apply to any
misstatement or omission in any Company SEC Report filed before the date of this
Agreement that has been superseded by a subsequent Company SEC Report filed
before the date of this Agreement. From February 1, 2001 to the date of this
Agreement, the Company has filed all reports and other filings that it was
required to file with the SEC under the Exchange Act, Securities Act and the
rules and regulations of the SEC.
(b) The consolidated financial statements contained in the Company SEC
Reports were prepared in accordance with generally accepted accounting
principles ("GAAP") applied on a consistent basis throughout the periods
involved (except as may be indicated in the notes thereto) and fairly present,
in all material respects, the consolidated financial position of the Company and
its Subsidiaries at the respective dates thereof and the consolidated results of
operations and the consolidated cash flows of the Company and its Subsidiaries
for the periods indicated and are consistent with the books and records of the
Company and its Subsidiaries, subject, in the case of interim financial
statements, to normal year-end adjustments, and except that the interim
financial statements do not contain all of the footnote disclosures required by
GAAP to the extent permitted by the rules and regulations of the SEC.
(c) Except as and to the extent reflected or reserved against on the most
recent balance sheet contained in the Company SEC Reports (the "Company Balance
Sheet"), neither the Company nor any of its Subsidiaries had, as of the date of
such Company Balance Sheet, any material obligations or liabilities of any
nature that as of such date would have been required to be included on a
consolidated balance sheet of the Company prepared in accordance with GAAP as in
effect on such date (without regard to any events, incidents, assertions, or
state of knowledge occurring after such date). From the date
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of the Company Balance Sheet to the date of this Agreement, neither the Company
nor any of its Subsidiaries has incurred any obligations or liabilities of any
nature that are currently outstanding that would be required to be reflected on,
or reserved against in, a consolidated balance sheet of the Company dated as of
the date of this Agreement prepared in accordance with GAAP as in effect on the
date of this Agreement (without regard to any events, incidents, assertions, or
state of knowledge occurring subsequent to such date), other than those arising
in the ordinary course of business consistent with past practice (including
trade indebtedness) since the date of the Company Balance Sheet and those that
would not, individually or in the aggregate, be reasonably likely to have a
Company Material Adverse Effect.
SECTION 3.6 Registration Statement; Joint Proxy Statement. The Joint
Proxy Statement will comply as to form in all material respects with the
requirements of the Exchange Act applicable to the Company. None of the
information supplied by the Company for inclusion or incorporation by reference
in the Registration Statement or the Joint Proxy Statement will (in the case of
the Registration Statement, at the time it is filed with the SEC and, after
giving effect to all supplements and amendments thereto (if any), at the time it
becomes effective under the Securities Act; and, in the case of the Joint Proxy
Statement, at the date mailed to shareholders of the Company and Buyer and,
after giving effect to all supplements and amendments thereto (if any), at the
time of the meetings of such shareholders to be held in connection with the
Merger) contain any untrue statement of a material fact, or omit to state any
material fact required to be stated therein or necessary in order to make the
statements therein, in light of the circumstances under which they were made,
not misleading.
SECTION 3.7 Absence of Certain Changes or Events. From the date of the
Company Balance Sheet to and including the date of this Agreement, the Company
and its Subsidiaries have conducted their respective businesses and operations
in the ordinary course consistent with past practice and neither the Company nor
any of its Subsidiaries has:
(a) split, combined, or reclassified any shares of its capital stock
or made any other changes in its equity capital structure;
(b) purchased, redeemed, or otherwise acquired, directly or
indirectly, any shares of its capital stock or any options, rights, or
warrants to purchase any such capital stock or any securities convertible
into or exchangeable for any such capital stock;
(c) declared, set aside, or paid any dividend or made any other
distribution in respect of shares of its capital stock, except for
dividends or distributions by any of the Company's Subsidiaries to the
Company or another of the Company's Subsidiaries;
(d) issued any shares of its capital stock or granted any options,
rights, or warrants to purchase any such capital stock or any securities
convertible into or exchangeable for any such capital stock, except for
issuances of shares of Company Common Stock upon the exercise of options
granted on or before the date of the Company Balance Sheet;
(e) purchased any business, purchased any stock of any corporation
other than the Company, or merged or consolidated with any person;
(f) sold, leased, licensed or encumbered or otherwise disposed of any
assets or properties, other than in the ordinary course of business
consistent with past practice, which sales, leases, licenses, encumbrances
or other dispositions of assets other than inventory, in any event, were
not material to the Company and its Subsidiaries, taken as a whole;
(g) incurred, assumed, or guaranteed any indebtedness for money
borrowed other than (i) borrowing incurred for working capital purposes
under the Company's existing revolving credit facility and (ii)
intercompany indebtedness;
(h) changed or modified in any material respect any existing
accounting method, principle or practice, other than as required by GAAP;
(i) except for this Agreement, entered into any commitment to do any
of the foregoing;
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(j) suffered any business interruption, damage to or destruction of
its properties, or other incident, occurrence, or event that has had or
would be reasonably likely to have (after giving effect to insurance
coverage), individually or in the aggregate, a Company Material Adverse
Effect;
(k) except for normal increases in the ordinary course of business
consistent with past practice that, in the aggregate, do not result in a
material increase in benefits or compensation expense to the Company,
increased in any manner the compensation or benefits of any employee who is
not a director or officer, former employee, or independent contractor
providing personal services of the Company or its Subsidiaries ("Company
Employee");
(l) increased the compensation or benefits of any officer or director
of the Company or any of its Subsidiaries, other than consistent with past
practice; or
(m) entered into or amended any contract, agreement, employment,
severance or special pay arrangement with any Company Employee, except in
the ordinary course of business consistent with past practice.
SECTION 3.8 Tax Matters.
(a) The Company and its Subsidiaries have timely filed (or received
appropriate extensions of time to file) all material federal, state, local, and
foreign Tax Returns required to be filed by them for tax years ended prior to
the date of this Agreement with respect to income, gross receipts, withholding,
social security, unemployment, payroll, franchise, personal property, unclaimed
property, real property, excise, sales, use, license, employment, severance,
stamp, occupation, premium, windfall profits, environmental (including taxes
under Section 59A of the Code), customs duties, capital stock, profits,
disability, transfer, registration, value added, alternative, or add-on minimum,
estimated, or other tax of any kind whatsoever, including any interest, penalty,
or addition thereto, whether disputed or not, and including any liability for
the Taxes of any person under Treas. Reg. Section 1.1502-6 (or any similar
provision of state, local, or foreign law), as a transferee or successor, by
contract or otherwise (collectively, "Taxes"). "Tax Return" means any return,
declaration, report, claim for refund, or information return or statement
relating to Taxes, including any schedule or attachment thereto, and including
any amendment thereof. All such Tax Returns were correct and complete in all
material respects. The Company and its Subsidiaries have paid or accrued in
accordance with GAAP all Taxes owed by any of them for all fiscal periods to and
including the date of this Agreement.
(b) There is no material dispute or claim concerning the Tax liability of
any of the Company or its Subsidiaries claimed or raised by any authority in
writing. Neither the Company nor any of its Subsidiaries has extended the period
for assessment or payment of any Tax, which extension has not since expired.
(c) The Company and its Subsidiaries have withheld and paid over to the
appropriate governmental authorities all Taxes required by law to have been
withheld and paid in connection with amounts paid or owing to any employee,
except for any such Taxes that are immaterial in amount.
(d) Neither the Company nor any of its Subsidiaries has been a member of an
affiliated group (as such term is defined in Section 1504 of the Code) filing a
consolidated federal income tax return for any tax year since the tax year ended
December 31, 1993, other than a group the common parent of which was the
Company.
(e) Neither the Company nor any of its Subsidiaries has filed a consent
under Code Section 341(f) concerning collapsible corporations.
(f) Neither the Company nor any of its Subsidiaries has been a United
States real property holding corporation within the meaning of Code Section
897(c)(2) during the applicable period specified in Code Section
897(c)(1)(A)(ii).
(g) Neither the Company nor any of its Subsidiaries is a party to or bound
by any Tax-indemnity, Tax-allocation or Tax-sharing agreement other than between
the Company and its Subsidiaries.
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(h) The Company has delivered or made available to the Buyer true and
complete copies of all requested federal, state, local, and foreign income tax
returns with respect to the Company and each of its Subsidiaries.
(i) There is no contract, agreement, plan, or arrangement covering any
Company Employee that, individually or collectively, could give rise to the
payment of any amount that would not be deductible under Section 280G of the
Code.
(j) No written claims that, in the aggregate, could reasonably be expected
to have a Company Material Adverse Effect have been made by an authority in a
jurisdiction where any of the Company or its Subsidiaries does not file Tax
Returns that it is or may be subject to taxation by that jurisdiction.
(k) Neither the Company nor any of its Subsidiaries has distributed the
stock of a "controlled corporation" (within the meaning of that term as used in
Section 355(a) of the Code) in a transaction subject to Section 355 of the Code
within the past two years.
(l) Neither the Company nor any of its Subsidiaries will be required to
include any material item of income in, or exclude any item of deduction from,
taxable income for any taxable period (or portion thereof) ending after the
Closing Date as a result of any (A) change in method of accounting for a taxable
period ending on or prior to the Closing Date under Code Section 481(c) (or any
corresponding or similar provision of state, local or foreign income Tax law);
(B) "closing agreement" as described in Code Section 7121 (or any corresponding
or similar provision of state, local or foreign income Tax law) executed on or
prior to the Closing Date; (C) installment sale or open transaction disposition
made on or prior to the Closing Date; or (D) prepaid amount received on or prior
to the Closing Date.
(m) Neither the Company nor any of its Subsidiaries has any "excess loss
accounts" or "deferred gains" with respect to any "deferred intercompany
transactions" within the meaning of Treas. Reg. Sections 1.1502-19 and
1.1502-13, respectively.
SECTION 3.9 Owned Property. The Company Disclosure Schedule sets forth a
list of all real property owned in fee by the Company or any of its
Subsidiaries. One or more of the Company and its Subsidiaries has good and valid
title to all such real property, free and clear of all mortgages, liens,
security interests, charges, and encumbrances, except (a) liens for Taxes,
assessments, and other governmental charges that are not due and payable or that
are being contested in good faith and in respect of which adequate reserves have
been established, (b) mechanics', materialmen's, carriers', workmen's,
warehousemen's, repairmen's, landlord's, or other similar liens securing
obligations that are not due and payable, that are due but not delinquent, or
that are being contested in good faith and in respect of adequate reserves have
been established, (c) mortgages, liens, security interests, charges, and
encumbrances evidenced by any lease, contract, or agreement that is described in
the Company Disclosure Schedule or in the Company SEC Reports or the
non-disclosure of which therein does not constitute a misrepresentation under
Section 3.10(e), (d) imperfections of title and liens, charges, and encumbrances
that do not materially detract from the value or materially interfere with the
present use of the properties subject thereto or affected thereby, and (e) in
the case of any real property subject to a title commitment described in the
Company Disclosure Schedule, imperfections of title and mortgages, liens,
security interests, charges, and encumbrances that are shown on such title
commitment or are otherwise of record. The Company and its Subsidiaries have
sufficient title to, or the right to use, all of their other tangible properties
and assets necessary to conduct their respective businesses as currently
conducted, with such exceptions as, individually or in the aggregate, would not
interfere with the current use of such properties or assets in such a manner as
to be reasonably likely to have a Company Material Adverse Effect.
Section 3.10 Material Contracts. Neither the Company nor any of its
Subsidiaries is a party to or bound by any (whether written or oral):
(a) employment, severance or non-competition agreements with Company
Employees;
(b) operating lease, whether as lessor or lessee, with respect to any
real property;
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(c) contract, whether as licensor or licensee, for the license of any
patent, know-how, trademark, trade name, service mark, copyright, or other
intangible asset (other than non-negotiated licenses of commercially
available computer software);
(d) loan or guaranty agreement, indenture, or other instrument,
contract, or agreement under which any money has been borrowed or loaned,
which has not yet been repaid, or any note, bond, or other evidence of
indebtedness has been issued and remains outstanding;
(e) mortgage, security agreement, conditional sales contract, capital
lease, or similar agreement that effectively creates a lien on any assets
of the Company or any of its Subsidiaries (other than any conditional sales
contract, capital lease, or similar agreement that creates a lien only on
tangible personal property);
(f) contract restricting the Company or any of its Subsidiaries in any
material respect from engaging in business or from competing with any other
parties;
(g) plan of reorganization;
(h) partnership or joint venture agreement;
(i) collective bargaining agreement or agreement with any labor union
or association representing the Company Employees;
(j) contracts and other agreements for the sale of any of its material
assets or properties or for the grant to any person of any preferential
rights to purchase any of its assets or properties other than in the
ordinary course of business, except for contracts or agreements pursuant to
which the sale or purchase has been completed and there are no material
obligations of the Company remaining;
(k) material warehousing, distributorship, representative, marketing,
sales agency or advertising agreements; or
(l) "material contract" (as defined in Item 601(b)(10) of Regulation
S-K of the SEC).
All of the foregoing are collectively called "Company Material Contracts."
To the extent Company Material Contracts are evidenced by documents, true and
complete copies have been delivered or made available to Buyer. To the extent
Company Material Contracts are not evidenced by documents, written summaries
have been delivered or made available to Buyer. Each Company Material Contract
is in full force and effect, unless the failure of any Company Material
Contracts to be in full force and effect has not had and would not reasonably be
expected to have, individually or in the aggregate, a Company Material Adverse
Effect. Neither the Company nor any of its Subsidiaries nor, to the knowledge of
the Company, any other party is in breach of or in default under any of the
Company Material Contracts, except for breaches or defaults that have not had
and would not reasonably be expected to have, individually or in the aggregate,
a Company Material Adverse Effect.
SECTION 3.11 Intellectual Property. The Company Disclosure Schedule
contains a complete and correct list of all Company Proprietary Rights (defined
below) which are patents, registered trademarks, trade names, registered service
marks, or copyrights, and all applications for any of the foregoing. The Company
is the sole and exclusive owner of, or otherwise has a valid license or right to
use, all the Company Proprietary Rights, free and clear of any encumbrance other
than encumbrances of a nature described in Section 3.9(a), except to the extent
that such inability to use such Company Proprietary Rights would not reasonably
be expected to have, individually or in the aggregate, a Company Material
Adverse Effect. The Company Proprietary Rights are all the Proprietary Rights
that are necessary in all material respects for the ownership, maintenance and
operation (currently and as anticipated for the future) of the Company's
properties, assets and business, and the Company has the right to use all of the
Company Proprietary Rights in all jurisdictions in which the Company conducts
(or anticipates conducting in the future) its business except to the extent that
such inability to use such Proprietary Rights would not reasonably be expected
to have, individually or in the aggregate, a Company Material Adverse Effect.
Each individual and entity, including each employee, agent, consultant and
contractor, who has contributed
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to or participated in any way in the conception, creation, reduction to practice
and/or development of the Company Proprietary Rights was at the time of such
contribution or participation a party to and bound by a valid, enforceable, duly
executed agreement with the Company containing appropriate confidentiality
provisions, standard "work-made-for-hire" provisions, in accordance with
applicable law, and a valid written assignment in favor of the Company as
assignee that has conveyed to the Company all right, title and interest in and
to all worldwide intellectual rights in the Company Proprietary Rights. No
Company Proprietary Rights have been declared unenforceable or otherwise invalid
by any court or governmental agency and no party is currently pursuing or, to
the Company's knowledge, threatening to pursue such action. There is, to the
knowledge of the Company, no material existing infringement, misuse, or
misappropriation of any Company Proprietary Rights by others. To the knowledge
of the Company, the Company has not, since January 1, 1998, and the continued
operation of its business as presently conducted or as the Company knows the
Company proposes to conduct its business will not (based on facts and
circumstances existing as of the date hereof), interfere with, infringe upon or
misappropriate any Proprietary Rights of third parties in any manner that would
reasonably be expected to have, individually or in the aggregate, a Company
Material Adverse Effect, and, since January 1, 1998, the Company has not
received written notice of any charge, complaint, claim, demand or notice
alleging any interference with, infringement upon or misappropriation of any
Proprietary Rights of third parties (including any offers to license, or any
claim that the Company must license or refrain from using any Proprietary Rights
of any third party), which alleged interference, infringement or
misappropriation, if true, would reasonably be expected to have, individually or
in the aggregate, a Company Material Adverse Effect. To the knowledge of the
Company, since January 1, 1998, no action, suit, proceeding, hearing,
investigation, charge, complaint, claim or demand has been made or is threatened
which challenges the legality, validity, enforceability, use or ownership of any
Company Proprietary Rights. The Company has received no written opinion from
counsel regarding the Proprietary Rights of third parties.
"Company Proprietary Rights" means all Proprietary Rights owned, licensed
or otherwise used by the Company in the operation of its business.
"Proprietary Rights" means (a) all inventions (whether patentable or
unpatentable and whether or not reduced to practice), all improvements thereon,
and all patents, patent applications and patent disclosures, together with all
reissuances, continuations, continuations-in-part, revisions, extensions and
reexaminations thereof, (b) all trademarks, service marks, trade dress, logos,
trade names, domain names, and corporate names, together with all translations,
adaptations, derivations and combinations thereof and including all goodwill
associated therewith, and all applications, registrations and renewals in
connection therewith, (c) all copyrightable works, all copyrights and all
applications, registrations and renewals in connection therewith, (d) all trade
secrets and confidential business information (including ideas, know-how,
customer and supplier lists, pricing and cost information and business and
marketing plans and proposals), (e) all computer software (including data and
related documentation), (f) all other proprietary rights, (g) all copies and
tangible embodiments of the foregoing categories of intellectual property listed
in subsections (a) through (f) of this paragraph (in whatever form or medium),
and (h) all licenses, sublicenses, agreements, or permissions related to the
foregoing categories of intellectual property listed in subsections (a) through
(f) of this paragraph.
SECTION 3.12 Litigation. The Company Disclosure Schedule sets forth a
list of all material pending litigation, arbitration, or administrative
proceedings against the Company or any of its Subsidiaries as of the date of
this Agreement. No litigation, arbitration, or administrative proceeding is
pending or, to the knowledge of the Company, threatened against the Company or
any of its Subsidiaries as of the date of this Agreement that, if decided
adversely to such person, would be reasonably likely to have, individually or in
the aggregate, a Company Material Adverse Effect, or that seeks to enjoin or
otherwise challenges the consummation of the transactions contemplated by this
Agreement. As of the date of this Agreement, neither the Company nor any of its
Subsidiaries is specifically identified as a party subject to any material
restrictions or limitations under any injunction, writ, judgment, order, or
decree of any arbitrator, court, administrative agency, commission, or other
governmental authority.
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SECTION 3.13 Permits, Licenses, Authorizations; Compliance with
Laws. Each of the Company and its Subsidiaries has all licenses, franchises,
permits, and other governmental authorizations and approvals necessary to
conduct its business, and neither the Company nor any of its Subsidiaries is in
violation of any such license, franchise, permit, or other governmental
authorization or approval, or any statute, law, ordinance, rule, or regulation
applicable to it or any of its properties, except where the failure to have any
such license, franchise, permit, or other governmental authorization or
approval, or the existence of any such violation, has not had and would not be
reasonably likely to have, individually or in the aggregate, a Company Material
Adverse Effect. As of the date of this Agreement, (i) no investigation or review
by any governmental authority with respect to the Company or any of its
Subsidiaries is pending (other than with respect to Taxes, which are subject to
the representations set forth in Section 3.8) or, to the knowledge of the
Company, threatened, and (ii) to the knowledge of the Company, no governmental
authority has indicated an intention to conduct any such investigation or
review.
SECTION 3.14 No Brokers or Finders. Except for Thomas Weisel Partners
LLC, the Company has not engaged any investment banker, broker, or finder in
connection with the transactions contemplated hereby.
SECTION 3.15 Benefit Plans.
(a) Each employee pension benefit plan ("Pension Plan"), as defined in
Section 3(2) of the Employee Retirement Income Security Act of 1974 ("ERISA"),
each employee welfare benefit plan ("Welfare Plan"), as defined in Section 3(1)
of ERISA, and each deferred compensation, bonus, incentive, stock incentive,
option, stock purchase, severance, or other employee benefit plan, agreement,
commitment, or arrangement, funded or unfunded, written or oral ("Benefit
Plan"), which is currently maintained by the Company or any of its ERISA
Affiliates (defined in Section 3.15(n) below) or to which the Company or any of
its ERISA Affiliates currently contributes, or is under any current obligation
to contribute, or under which the Company or any of its ERISA Affiliates has any
liability, contingent or otherwise (including any withdrawal liability within
the meaning of Section 4201 of ERISA) (collectively, the "Company Employee
Plans" and each, individually, a "Company Employee Plan"), and each management,
employment, severance, consulting, non-compete or similar agreement or contract
between the Company or any of its Subsidiaries and any Company Employee pursuant
to which the Company or any of its Subsidiaries has or may have any liability,
contingent or otherwise ("Company Employee Agreement"), is listed in the Company
Disclosure Schedule. True and complete copies have been delivered or made
available to Buyer of (i) all material documents embodying or relating to each
Company Employee Plan and each Company Employee Agreement, including all
amendments thereto, written interpretations thereof and trust or funding
agreements with respect thereto; (ii) the two most recent annual actuarial
valuations, if any, prepared for each Company Employee Plan; (iii) a statement
of alternative form of compliance pursuant to U.S. Department of Labor ("DOL")
Regulation sec.2520.104-23, if any, filed for each Company Employee Plan which
is an "employee pension benefit plan" (as defined in Section 3(2) of ERISA) for
a select group of management or highly compensated employees; (iv) the most
recent determination letter received from the Internal Revenue Service ("IRS"),
if any, for each Company Employee Plan and related trust which is intended to
satisfy the requirements of Section 401(a) of the Code; (v) if a Company
Employee Plan is funded, the most recent annual and periodic accounting of the
Company Employee Plan assets; (vi) the most recent summary plan description
together with all subsequent summaries of material modifications, if any,
required under ERISA with respect to each Company Employee Plan; and (vii) the
three most recent annual reports (Series 5500 and all schedules thereto), if
any, filed as required under ERISA in connection with each Company Employee Plan
or related trust. None of the Company, nor any of its Subsidiaries or ERISA
Affiliates has any plan or commitment, whether legally binding or not, to
establish any new Company Employee Plan, to enter into any Company Employee
Agreement or to modify or to terminate any Company Employee Plan or Company
Employee Agreement (except to the extent required by law or to conform any such
Company Employee Plan or Company Employee Agreement to the requirements of any
applicable law, in each case as previously disclosed to Buyer, or as required by
this Agreement), nor has any intention to do any of the foregoing been
communicated to Company Employees.
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(b) The Company and each of its ERISA Affiliates has made on a timely basis
all contributions or payments required to be made by it under the terms of the
Company Employee Plans, ERISA, the Code, or other applicable laws.
(c) Each Company Employee Plan intended to qualify under Section 401 of the
Code is, and since its inception has been, so qualified and a determination
letter has been issued by the IRS to the effect that each such Company Employee
Plan is so qualified and that each trust forming a part of any such Company
Employee Plan is exempt from tax pursuant to Section 501(a) of the Code and, to
the knowledge of the Company, no circumstances exist which would adversely
affect this qualification or exemption.
(d) Each Company Employee Plan (and any related trust or other funding
instrument) has been established, maintained, and administered in all material
respects in accordance with its terms and in both form and operation is in
compliance in all material respects with the applicable provisions of ERISA, the
Code, and other applicable laws, statutes, orders, rules and regulations (other
than adoption of any plan amendments for which the deadline has not yet
expired), and all reports required to be filed with any governmental agency with
respect to each Company Employee Plan have been timely filed, other than filings
that are inconsequential.
(e) There is no litigation, arbitration, audit or investigation or
administrative proceeding pending or, to the knowledge of the Company,
threatened against the Company or any of its ERISA Affiliates or, to the
knowledge of the Company, any plan fiduciary by the IRS, the DOL, the Pension
Benefit Guaranty Corporation ("PBGC"), or any participant or beneficiary with
respect to any Company Employee Plan as of the date of this Agreement. No event
or transaction has occurred with respect to any Company Employee Plan that would
result in the imposition of any material tax under Chapter 43 of Subtitle D of
the Code. Neither the Company nor any of its ERISA Affiliates nor, to the
knowledge of the Company, any plan fiduciary of any Pension or Welfare Plan
maintained by the Company or its Subsidiaries has engaged in any transaction in
violation of Section 406(a) or (b) of ERISA for which no exemption exists under
Section 408 of ERISA or any "prohibited transaction" (as defined in Section
4975(c)(1) of the Code) for which no exemption exists under Section 4975(c)(2)
or 4975(d) of the Code, or is subject to any material excise tax imposed by the
Code or ERISA with respect to any Company Employee Plan.
(f) Each Company Employee Plan (other than Company Employee Agreements) can
be amended, terminated or otherwise discontinued without liability to the
Company, any of its Subsidiaries or any of its ERISA Affiliates, other than for
benefits accrued to date and administrative costs.
(g) No liability under any Company Employee Plan has been funded, nor has
any such obligation been satisfied with the purchase of a contract from an
insurance company as to which the Company or any of its Subsidiaries has
received notice that such insurance company is insolvent or is in rehabilitation
or any similar proceeding.
(h) Neither the Company nor any of its ERISA Affiliates currently
maintains, nor at any time in the previous six calendar years maintained or had
an obligation to contribute to, any defined benefit pension plan subject to
Title IV of ERISA, or any "multiemployer plan" as defined in Section 3(37) of
ERISA.
(i) None of the Company, nor any of its Subsidiaries or ERISA Affiliates
(i) maintains or contributes to any Company Employee Plan which provides, or has
any liability to provide, life insurance, medical, severance or other employee
welfare benefits to any Company Employee upon his retirement or termination of
employment, except as may be required by Section 4980B of the Code; or (ii) has
ever represented, promised or contracted (whether in oral or written form) to
any Company Employee (either individually or to Company Employees as a group)
that such Company Employee(s) would be provided with life insurance, medical,
severance or other employee welfare benefits upon their retirement or
termination of employment, except to the extent required by Section 4980B of the
Code.
(j) The execution of, and performance of the transactions contemplated in,
this Agreement will not (either alone or upon the occurrence of any additional
or subsequent events) (i) constitute an event under any Company Employee Plan,
Company Employee Agreement, trust or loan that will or may result in any
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payment (whether of severance pay or otherwise), acceleration, forgiveness of
indebtedness, vesting, distribution, increase in benefits or obligation to fund
benefits with respect to any Company Employee, or (ii) result in the triggering
or imposition of any restrictions or limitations on the right of the Company or
Buyer to amend or terminate any Company Employee Plan and receive the full
amount of any excess assets remaining or resulting from such amendment or
termination, subject to applicable taxes.
(k) There is no commitment covering any Company Employee that, individually
or in the aggregate, would be reasonably likely to give rise to the payment of
any amount that would result in a material loss of tax deductions pursuant to
Section 162(m) of the Code.
(l) The Company and each of its Subsidiaries (i) is in compliance in all
material respects with all applicable federal, state and local laws, rules and
regulations (domestic and foreign) respecting employment, employment practices,
labor, terms and conditions of employment and wages and hours, in each case,
with respect to Company Employees; (ii) is not liable for any arrears of wages
or any penalty for failure to comply with any of the foregoing; and (iii) is not
liable for any past due payment to any trust or other fund or to any
governmental or administrative authority, with respect to unemployment
compensation benefits, social security or other benefits for Company Employees.
(m) No work stoppage or labor strike against the Company or any of its
Subsidiaries by Company Employees is pending or threatened. Neither the Company
nor any of its Subsidiaries (i) is involved in or threatened with any labor
dispute, grievance, or litigation relating to labor matters involving any
Company Employees, including violation of any federal, state or local labor,
safety or employment laws (domestic or foreign), charges of unfair labor
practices or discrimination complaints, other than such disputes, grievances or
litigation that are inconsequential; (ii) is engaged in any unfair labor
practices within the meaning of the National Labor Relations Act or the Railway
Labor Act; or (iii) is presently, nor has been in the past six years, a party
to, or bound by, any collective bargaining agreement or union contract with
respect to Company Employees and no such agreement or contract is currently
being negotiated by the Company or any of its affiliates. No Company Employees
are currently represented by any labor union for purposes of collective
bargaining and, to the knowledge of the Company, no activities the purpose of
which is to achieve such representation of all or some of such Company Employees
are threatened or ongoing.
(n) For purposes of this Agreement, "ERISA Affiliate" means, with respect
to the Company and its Subsidiaries or Buyer and its Subsidiaries, as
applicable, each trade, business or entity which is a member of a "controlled
group of corporations," under "common control" or an "affiliated service group"
with the Company and its Subsidiaries or Buyer and its Subsidiaries, as
applicable, within the meaning of Sections 414(b), (c) or (m) of the Code, or
required to be aggregated with the Company and its Subsidiaries or Buyer and its
Subsidiaries, as applicable, under Section 414(o) of the Code, or is under
"common control" with the Company and its Subsidiaries or Buyer and its
Subsidiaries, as applicable, within the meaning of Section 4001(a)(14) of ERISA.
SECTION 3.16 Environmental Matters.
(a) For purposes of Sections 3.16 and 4.16:
(i) "Environmental Law" means the Comprehensive Environmental
Response, Compensation and Liability Act, 42 U.S.C. sec. 9601 et seq., the
Resource Conservation and Recovery Act, 42 U.S.C. sec. 6901 et seq., the
Federal Water Pollution Control Act, 33 U.S.C. sec. 1201 et seq., the Clean
Water Act, 33 U.S.C. sec. 1321 et seq., the Clean Air Act, 42 U.S.C.
sec. 7401 et seq., the Occupational Safety and Health Act, 29 U.S.C.
sec.sec. 641 et seq., and any other federal, state, local, or other
governmental statute, regulation, law, published and legally binding
guidance document, ordinance, common law cause of action, judicial or
administrative decision, order or decree relating to Environmental Matters;
(ii) "Environmental Matter" means any matter arising out of, relating
to, or resulting from pollution, contamination, protection of the
environment, health or safety of employees or any matter arising out of,
relating to, or resulting from emissions, discharges, disseminations,
releases or threatened releases, of Hazardous Substances into the air
(indoor and outdoor), surface water, groundwater, soil, land surface or
subsurface, buildings or facilities, or otherwise arising out of,
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relating to, or resulting from the manufacture, processing, distribution,
use, treatment, storage, disposal, transport or handling of Hazardous
Substances; and
(iii) "Hazardous Substance" means any pollutant, contaminant,
hazardous or extremely hazardous substance, or waste, solid waste, asbestos
and asbestos-containing material, polychlorinated biphenyls (PCBs) and
PCB-containing equipment, petroleum or any fraction thereof, or any other
chemical, substance, or material listed or identified in or regulated by
any Environmental Law.
(b) The Company and its Subsidiaries (i) are in compliance with all
applicable Environmental Laws, and (ii) have obtained, and are in compliance
with, all permits, licenses, authorizations, registrations and other
governmental consents required by applicable Environmental Laws ("Environmental
Permits"), and have made all appropriate filings for issuance or renewal of such
Environmental Permits, except where such noncompliance or the failure to obtain
such Environmental Permits or to make such filings would not, individually or in
the aggregate, be reasonably likely to have a Company Material Adverse Effect.
(c) There are no written claims or notices (including notices that the
Company or any of its Subsidiaries--or any person whose liability has been
retained or assumed contractually by the Company or any of its Subsidiaries--is
or may be a potentially responsible person or otherwise liable in connection
with any site or other location containing Hazardous Substances or used for the
storage, handling, treatment, processing, disposal, generation or transportation
of Hazardous Substances), nor any civil, criminal or administrative actions,
suits, hearings, investigations, inquiries or proceedings pending or, to the
knowledge of the Company, threatened, that are based on or related to any
Environmental Matters relating to the Company or any of its Subsidiaries that,
if decided adversely, would, individually or in the aggregate, be reasonably
likely to have a Company Material Adverse Effect.
(d) Except as would not, individually or in the aggregate, be reasonably
likely to have a Company Material Adverse Effect, no Hazardous Substances have
been spilled, discharged, leaked, emitted, injected, disposed of, dumped or
released by the Company or any of its Subsidiaries or any other person on, at,
beneath, above, or into any of the real property currently owned, leased or
operated by the Company or any of its Subsidiaries (or, to the knowledge of the
Company, any real property formerly owned, leased or operated by the Company or
any of its Subsidiaries, or any predecessor of the Company or any of its
Subsidiaries).
(e) Except as would not, individually or in the aggregate, be reasonably
likely to have a Company Material Adverse Effect, to the knowledge of the
Company, no site at or to which the Company or any of its Subsidiaries has
disposed of, transported, or arranged for the transportation of, any Hazardous
Substances, has been listed on, or proposed for listing on, the National
Priorities List, the Comprehensive Environmental Response, Compensation and
Liability Information System ("CERCLIS") list, or any comparable state list of
properties to be investigated and/or remediated.
(f) Except as would not, individually or in the aggregate, be reasonably
likely to have a Company Material Adverse Effect, to the knowledge of the
Company, there are no past or present conditions, events, activities, practices,
incidents, actions, omissions or plans that may (i) interfere with or prevent
continued compliance by the Company or any of its Subsidiaries with
Environmental Laws and the requirements of Environmental Permits or (ii) give
rise to any liability or other obligation under any Environmental Laws.
(g) The Company has delivered or made available to Buyer true and complete
copies and results of any reports, studies, analyses, tests, or monitoring
possessed or initiated by the Company or any of its Subsidiaries, since January
1, 1991, with respect to Environmental Matters relating to the Company or its
Subsidiaries.
SECTION 3.17 Insurance. The Company Disclosure Schedule contains a list
of all insurance policies maintained by the Company and its Subsidiaries as of
the date of this Agreement, together with a brief description of the coverages
afforded thereby. All of such insurance policies are in full force and effect as
of the date of this Agreement and neither the Company nor its Subsidiaries have
received any notice of cancellation or termination with respect to any material
insurance policy of the Company or its Subsidiaries.
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SECTION 3.18 Amendment to Company Rights Agreement. The Board of
Directors of the Company has amended the Company Rights Agreement to provide
that (a) neither Buyer nor Buyer Subsidiary will become an "Acquiring Person"
(as defined in the Company Rights Agreement) as a result of the execution of
this Agreement, or the consummation of the Merger, (b) no "Shares Acquisition
Date," "Distribution Date" or "Section 11(a)(ii) Trigger Date" (as such terms
are defined in the Company Rights Agreement) will occur as a result of the
execution of this Agreement or the consummation of the Merger, and (c) all
outstanding Company Rights issued and outstanding under the Company Rights
Agreement will expire immediately before the Effective Time.
SECTION 3.19 Opinion of Financial Adviser. The Company's Board of
Directors has received the opinion of Thomas Weisel Partners LLC to the effect
that, as of the date of this Agreement, the consideration to be received by the
Company's shareholders in the Merger is fair to such shareholders from a
financial point of view.
SECTION 3.20 Voting Requirements. The affirmative vote of the holders of
two-thirds of the issued and outstanding shares of Company Voting Stock, voting
as a single class at the Company Shareholders Meeting to approve this Agreement,
is the only vote of the holders of any class or series of the Company's capital
stock necessary to approve this Agreement and the transactions contemplated
hereby. The holders of the issued and outstanding Company Non-Voting Stock are
not entitled to vote to approve this Agreement and the transactions contemplated
hereby.
SECTION 3.21 Distributors, Suppliers and Customers. To the Company's
knowledge, the relationships of the Company with its distributors, suppliers,
licensors or sublicensors of intellectual property rights and customers are
reasonably good commercial working relationships and no (i) supplier of products
sold or utilized by the Company that supplied more than $50,000 of products to
the Company during the year ended January 31, 2001 or is reasonably expected to
supply more than $50,000 of products to the Company during the year ending
January 31, 2002, or (ii) distributor or other customer who accounted for more
than $50,000 of the Company's sales of Company Products or services during the
year ended January 31, 2001, or is reasonably expected to account for more than
$50,000 of such sales during the year ending January 31, 2002, has cancelled or
otherwise terminated, or threatened in writing to cancel or otherwise terminate,
its relationship with the Company.
SECTION 3.22 Stockholder Agreement. As of the date of this Agreement,
Sorrento Networks Corporation, a New Jersey corporation ("Sorrento"), has
entered into the Stockholder Agreement with Buyer, in substantially the form of
Exhibit A hereto (the "Stockholder Agreement"), with respect to the Buyer Common
Stock issuable to Sorrento pursuant to Section 2.1.
SECTION 3.23 Key Employees. The key employees of the Company identified
by Buyer in Section 3.23 of the Buyer Disclosure Schedule have entered into
non-compete and non-solicitation agreements with Buyer, substantially in the
form of Exhibit B attached hereto.
ARTICLE IV
REPRESENTATIONS AND WARRANTIES OF BUYER AND BUYER SUBSIDIARY
Except as otherwise set forth in the disclosure schedule delivered by Buyer
to the Company concurrently with the execution and delivery of this Agreement
(the "Buyer Disclosure Schedule") or as otherwise described in the Buyer SEC
Reports (defined in Section 4.5(a)), Buyer and Buyer Subsidiary represent and
warrant to the Company as follows:
SECTION 4.1 Organization, Standing, Qualification. Each of Buyer's
Subsidiaries is listed in the Buyer Disclosure Schedule under the heading
"Subsidiaries." Buyer and each of its Subsidiaries (including Buyer Subsidiary)
is a corporation duly incorporated, validly existing, and in good standing under
the laws of the jurisdiction of its incorporation (as identified in the Buyer
Disclosure Schedule) and has the requisite corporate power and corporate
authority to own, lease, and operate its properties and assets and to carry on
its business as it is now being conducted. Each of Buyer and its Subsidiaries is
duly qualified or
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licensed as a foreign corporation to do business, and is in good standing, in
each jurisdiction where the character of the properties owned, operated, or
leased by it, or the nature of its business, makes such qualification or
licensing necessary, except such jurisdictions where failure to be so qualified,
licensed, or in good standing would not be reasonably likely to have,
individually or in the aggregate, a Buyer Material Adverse Effect. The copies of
the charter and bylaws (or similar organizational documents) of Buyer and each
of its Subsidiaries provided to the Company are complete and correct as of the
date of this Agreement. Buyer Subsidiary is newly formed and wholly owned by
Buyer, has no employees and no material assets or liabilities, and has not
engaged in any business except in connection with this Agreement.
SECTION 4.2 Capitalization. The authorized capital stock of Buyer
consists of (i) 60 million shares of Buyer Common Stock, of which, as of the
date of this Agreement, 16,425,606 shares are issued, excluding 1,052,286 shares
held in the treasury of the Buyer and (ii) 2 million shares of Preferred Stock,
par value $0.01 per share, of which 200,000 have been designated as Series A
Junior Participating Preferred Shares ("Buyer Series A Preferred Stock"), none
of which, as of the date of this Agreement, is issued and outstanding. The
authorized capital stock of Buyer Subsidiary consists of 10,000 shares of common
stock, of which, as of the date of this Agreement, 1,000 shares are issued and
outstanding. All of the issued and outstanding shares of capital stock of Buyer
and of each of its Subsidiaries have been duly authorized and validly issued,
are fully paid and nonassessable, and were not granted in violation of any
statutory or other preemptive rights. There are no outstanding subscriptions,
options, warrants, calls, rights or other agreements, arrangements or
commitments under which Buyer or any of its Subsidiaries is or may become
obligated to issue, sell, transfer, or otherwise dispose of, or purchase,
redeem, or otherwise acquire, any shares of capital stock of, or other equity or
voting interests in, Buyer or any of its Subsidiaries, and there are no
outstanding securities convertible into or exchangeable for any such capital
stock or other equity or voting interests, except for (a) options to purchase up
to 3,797,929 shares of Buyer Common Stock (as of the date of this Agreement) at
the exercise prices set forth in the Buyer Disclosure Schedule and (b) the
Rights Agreement dated as of June 10, 1998 between Buyer and Wells Fargo Bank
Minnesota, N.A. (formerly known as Norwest Bank Minnesota, N.A.), as amended by
Amendment dated as of January 26, 1999 (the "Buyer Rights Agreement"), under
which each outstanding share of Buyer Common Stock has attached to it certain
rights (the "Buyer Rights"), including rights under certain circumstances to
purchase one one-hundredth of a share of Buyer Series A Preferred Stock at $115
per right, subject to adjustment. There are no voting trusts, proxies or other
agreements or understandings to which Buyer or Buyer Subsidiary is a party with
respect to the voting of capital stock of Buyer or Buyer Subsidiary. Buyer owns,
directly or indirectly, all of the issued and outstanding shares of capital
stock of every class of each of its Subsidiaries, free and clear of all liens,
security interests, pledges, charges, and other encumbrances. The Buyer
Disclosure Schedule contains a complete and correct list of each corporation,
limited liability company, partnership, joint venture, or other business
association or entity in which Buyer or any of its Subsidiaries has any direct
or indirect equity ownership interest (other than the Subsidiaries listed in the
Buyer Disclosure Schedule).
SECTION 4.3 Authorization and Execution. Each of Buyer and Buyer
Subsidiary has the corporate power and authority to execute and deliver this
Agreement and, subject to approval by the holders of the Buyer Common Stock at
the Buyer Shareholders Meeting (defined in Section 7.1(a)), to consummate the
transactions contemplated hereby. The execution, delivery, and performance of
this Agreement by each of Buyer and Buyer Subsidiary have been duly authorized
by Buyer as sole shareholder of Buyer Subsidiary and by their respective Boards
of Directors, and no further corporate action of Buyer or Buyer Subsidiary,
other than the approval of Buyer's shareholders and the filing of the
Certificate of Merger with the Secretary of State of the State of Delaware, is
necessary to consummate the transactions contemplated hereby. This Agreement has
been duly executed and delivered by each of Buyer and Buyer Subsidiary and,
assuming the accuracy of the representations and warranties of the Company set
forth in Article III, constitutes the legal, valid, and binding obligation of
each of Buyer and Buyer Subsidiary, enforceable against each of Buyer and Buyer
Subsidiary in accordance with its terms, except to the extent that
enforceability may be limited by applicable bankruptcy, insolvency, or similar
laws affecting the
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enforcement of creditors' rights generally, and subject, as to enforceability,
to general principles of equity (regardless of whether enforcement is sought in
a court of law or equity).
SECTION 4.4 No Conflicts. Neither the execution and delivery of this
Agreement by Buyer and Buyer Subsidiary nor the consummation by Buyer and Buyer
Subsidiary of the transactions contemplated hereby, will (a) conflict with or
result in a breach of the charter, bylaws, or similar organizational documents,
as currently in effect, of Buyer or any of its Subsidiaries, (b) except for (i)
compliance with the Securities Act and the Exchange Act, including the filing
with, and to the extent applicable, the declaration of effectiveness by, the SEC
of the Joint Proxy Statement and the Registration Statement (each defined in
Section 7.1(b)) and such reports and other filings under the Securities Act or
Exchange Act as may be required in connection with this Agreement and the
transactions contemplated hereby, (ii) the filing of the Certificates of Merger
with the Secretary of State of the State of Delaware and the Secretary of the
Commonwealth of the Commonwealth of Massachusetts, (iii) any filings required by
the pre-merger notification requirements of the HSR Act and comparable filings,
if any, in foreign jurisdictions and (iv) the filings required under the rules
and regulations of Nasdaq National Market System, require any filing with, or
consent or approval of, any governmental, administrative or regulatory body or
authority having jurisdiction over any of the business or assets of Buyer or any
of its Subsidiaries, (c) violate any statute, law, ordinance, permit, license,
rule, or regulation applicable to Buyer or any of its Subsidiaries or any
injunction, judgment, order, writ, decision or decree applicable to Buyer or any
of its Subsidiaries or their respective properties or assets, or (d) result in a
breach of, or constitute a default or an event that, with or without the passage
of time or the giving of notice, or both, would constitute a default, give rise
to a right of termination, cancellation, or acceleration, create any entitlement
of any third party to any material payment or benefit, require notice to, or the
consent of, any third party, or result in the creation of any lien on the assets
of Buyer or any of its Subsidiaries under, any Buyer Material Contract (defined
in Section 4.10), except, in the case of clauses (b), (c), and (d), where such
violation, breach, default, termination, cancellation, acceleration, payment,
benefit, or lien, or the failure to make such filing, give such notice, or
obtain such consent or approval, would not, individually or in the aggregate, be
reasonably likely to have a Buyer Material Adverse Effect.
SECTION 4.5 SEC Reports; Financial Statements; No Undisclosed Liabilities.
(a) Buyer has made available to the Company, in the form filed with the
SEC, all reports, registration statements, and other filings (including
amendments to previously filed documents) filed by Buyer with the SEC from
October 1, 2000 to the date of this Agreement (all such reports, proxy
statements, registration statements, and filings are collectively called the
"Buyer SEC Reports" and each is individually called a "Buyer SEC Report"). No
Buyer SEC Report, as of its filing date, contained any untrue statement of a
material fact or omitted to state any material fact required to be stated
therein or necessary in order to make the statements made therein, in the light
of the circumstances under which they were made, not misleading, and each Buyer
SEC Report at the time of its filing complied as to form in all material
respects with all applicable requirements of the Securities Act, the Exchange
Act, and the rules and regulations of the SEC promulgated thereunder. The
representation in the immediately preceding sentence does not apply to any
misstatement or omission in any Buyer SEC Report filed before the date of this
Agreement that has been superseded by a subsequent Buyer SEC Report filed before
the date of this Agreement. From October 1, 2000 to the date of this Agreement,
Buyer has filed all reports and other filings that it was required to file with
the SEC under the Exchange Act, Securities Act and the rules and regulations of
the SEC.
(b) The consolidated financial statements contained in the Buyer SEC
Reports were prepared in accordance with GAAP applied on a consistent basis
throughout the periods involved (except as may be indicated in the notes
thereto) and fairly present, in all material respects, the consolidated
financial position of Buyer and its Subsidiaries at the respective dates thereof
and the consolidated results of operations and consolidated cash flows of Buyer
and its Subsidiaries for the periods indicated and are consistent with the books
and records of Buyer and its Subsidiaries, subject, in the case of interim
financial statements, to normal year-end adjustments, and except that the
interim financial statements do not
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contain all of the footnote disclosures required by GAAP to the extent permitted
by the rules and regulations of the SEC.
(c) Except as and to the extent reflected or reserved against on the most
recent balance sheet contained in the Buyer SEC Reports (the "Buyer Balance
Sheet"), neither Buyer nor any of its Subsidiaries had, as of the date of such
Buyer Balance Sheet, any material obligations or liabilities of any nature that
as of such date would have been required to be included on a consolidated
balance sheet of Buyer prepared in accordance with GAAP as in effect on such
date (without regard to any events, incidents, assertions, or state of knowledge
occurring after such date). From the date of the Buyer Balance Sheet to the date
of this Agreement, neither Buyer nor any of its Subsidiaries has incurred any
obligations or liabilities of any nature that are currently outstanding that
would be required to be reflected on, or reserved against in, a consolidated
balance sheet of Buyer dated as of the date of this Agreement prepared in
accordance with GAAP as in effect on the date of this Agreement (without regard
to any events, incidents, assertions, or state of knowledge occurring subsequent
to such date), other than those arising in the ordinary course of business
consistent with past practice (including trade indebtedness) since the date of
the Buyer Balance Sheet and those that would not, individually or in the
aggregate, be reasonably likely to have a Buyer Material Adverse Effect.
SECTION 4.6 Registration Statement; Joint Proxy Statements. The
Registration Statement and the Joint Proxy Statement will comply as to form in
all material respects with the requirements of the Securities Act or of the
Exchange Act, as the case may be, applicable to Buyer. None of the information
supplied or to be supplied by Buyer for inclusion or incorporation by reference
in the Registration Statement or the Joint Proxy Statement will (in the case of
the Registration Statement, at the time it is filed with the SEC, after giving
effect to all supplements and amendments thereto (if any), and at the time it
becomes effective under the Securities Act; and, in the case of the Joint Proxy
Statement, at the date mailed to the shareholders of the Company and Buyer, and
after giving effect to all supplements and amendments thereto (if any), at the
time of the meetings of such shareholders to be held in connection with the
Merger) contain any untrue statement of a material fact, or omit to state any
material fact required to be stated therein or necessary in order to make the
statements therein, in light of the circumstances under which they were made,
not misleading.
SECTION 4.7 Absence of Certain Changes or Events. From the date of the
Buyer Balance Sheet to and including the date of this Agreement, Buyer and its
Subsidiaries have conducted their respective businesses and operations in the
ordinary course consistent with past practice and neither Buyer nor any of its
Subsidiaries has:
(a) split, combined, or reclassified any shares of its capital stock
or made any other changes in its equity capital structure;
(b) purchased, redeemed, or otherwise acquired, directly or
indirectly, any shares of its capital stock or any options, rights, or
warrants to purchase any such capital stock or any securities convertible
into or exchangeable for any such capital stock;
(c) declared, set aside, or paid any dividend or made any other
distribution in respect of shares of its capital stock, except for
dividends or distributions by any of Buyer's Subsidiaries to Buyer or
another of Buyer's Subsidiaries;
(d) issued any shares of its capital stock or granted any options,
rights, or warrants to purchase any such capital stock or any securities
convertible into or exchangeable for any such capital stock, except for
issuances of shares of Buyer Common Stock upon the exercise of options,
granted on or before the date of the Buyer Balance Sheet;
(e) purchased any business, purchased any stock of any corporation
other than Buyer, or merged or consolidated with any person;
(f) sold, leased, licensed or encumbered or otherwise disposed of any
assets or properties, other than in the ordinary course of business
consistent with past practice, which sales, leases, licenses,
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encumbrances or other dispositions of assets other than inventory, in any
event, were not material to Buyer and its Subsidiaries, taken as a whole;
(g) incurred, assumed, or guaranteed any indebtedness for money
borrowed other than (A) borrowing incurred for working capital purposes
under Buyer's existing revolving credit facility and (B) intercompany
indebtedness;
(h) changed or modified in any material respect any existing
accounting method, principle or practice, other than as required by GAAP;
(i) except for this Agreement, entered into any commitment to do any
of the foregoing;
(j) suffered any business interruption, damage to or destruction of
its properties, or other incident, occurrence, or event that has had or
would be reasonably likely to have (after giving effect to insurance
coverage), individually or in the aggregate, a Buyer Material Adverse
Effect;
(k) except for normal increases in the ordinary course of business
consistent with past practice that, in the aggregate, do not result in a
material increase in benefits or compensation expense to Buyer, increased
in any manner the compensation or benefits of any employee who is not a
director or officer, former employee, or independent contractor providing
personal services of Buyer or its Subsidiaries ("Buyer Employee");
(l) increased the compensation or benefits of any officer or director
of Buyer or any of its Subsidiaries, other than consistent with past
practice; or
(m) entered into or amended any contract, agreement, employment,
severance or special pay arrangement with any Buyer Employee, except in the
ordinary course of business consistent with past practice.
SECTION 4.8 Tax Matters.
(a) Buyer and its Subsidiaries have timely filed (or received appropriate
extensions of time to file) all material federal, state, local, and foreign Tax
Returns required to be filed by them for tax years ended prior to the date of
this Agreement with respect to Taxes. All Tax Returns were correct and complete
in all material respects. Buyer and its Subsidiaries have paid or accrued in
accordance with GAAP all Taxes owed by any of them for all fiscal periods to and
including the date of this Agreement.
(b) There is no material dispute or claim concerning the Tax liability of
any of Buyer or its Subsidiaries claimed or raised by any authority in writing.
Neither Buyer nor any of its Subsidiaries has extended the period for assessment
or payment of any Tax, which extension has not since expired.
(c) Buyer and its Subsidiaries have withheld and paid over to the
appropriate governmental authorities all Taxes required by law to have been
withheld and paid in connection with amounts paid or owing to any employee,
except for any such Taxes that are immaterial in amount.
(d) Neither Buyer nor any of its Subsidiaries has been a member of an
affiliated group (as such term is defined in Section 1504 of the Code) filing a
consolidated federal income tax return for any tax year since the tax year ended
December 31, 1993, other than a group the common parent of which was Buyer.
(e) Neither Buyer nor any of its Subsidiaries has filed a consent under
Code Section 341(f) concerning collapsible corporations.
(f) Neither Buyer nor any of its Subsidiaries has been a United States real
property holding corporation within the meaning of Code Section 897(c)(2) during
the applicable period specified in Code Section 897(c)(1)(A)(ii).
(g) Neither Buyer nor any of its Subsidiaries is a party to or bound by any
Tax-indemnity, Tax-allocation or Tax-sharing agreement other than between Buyer
and its Subsidiaries.
(h) Buyer has delivered or made available to the Company true and complete
copies of all requested federal, state, local, and foreign income tax returns
with respect to Buyer and each of its Subsidiaries.
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(i) There is no contract, agreement, plan, or arrangement covering any
Buyer Employee that, individually or collectively, could give rise to the
payment of any amount that would not be deductible under Section 280G of the
Code.
(j) No written claims that, in the aggregate, could reasonably be expected
to have a Buyer Material Adverse Effect have been made by an authority in a
jurisdiction where any of Buyer or its Subsidiaries does not file Tax Returns
that it is or may be subject to taxation by that jurisdiction.
(k) Neither Buyer nor any of its Subsidiaries has distributed the stock of
a "controlled corporation" (within the meaning of that term as used in Section
355(a) of the Code) in a transaction subject to Section 355 of the Code within
the past two years.
(l) Neither Buyer nor any of its Subsidiaries will be required to include
any material item of income in, or exclude any item of deduction from, taxable
income for any taxable period (or portion thereof) ending after the Closing Date
as a result of any (A) change in method of accounting for a taxable period
ending on or prior to the Closing Date under Code Section 481(c) (or any
corresponding or similar provision of state, local or foreign income Tax law);
(B) "closing agreement" as described in Code Section 7121 (or any corresponding
or similar provision of state, local or foreign income Tax law) executed on or
prior to the Closing Date; (C) installment sale or open transaction disposition
made on or prior to the Closing Date; or (D) prepaid amount received on or prior
to the Closing Date.
(m) Neither Buyer nor any of its Subsidiaries has any "excess loss
accounts" or "deferred gains" with respect to any "deferred intercompany
transactions" within the meaning of Treas. Reg. Sections 1.1502-19 and
1.1502-13, respectively.
SECTION 4.9 Owned Property. Buyer and its Subsidiaries have sufficient
title to, or the right to use, all of their tangible properties and assets
necessary to conduct their respective businesses as currently conducted, with
such exceptions as, individually or in the aggregate, would not interfere with
the current use of such properties or assets in such a manner as to be
reasonably likely to have a Buyer Material Adverse Effect.
SECTION 4.10 Material Contracts. Neither Buyer nor any of its
Subsidiaries is a party to or bound by any (whether written or oral):
(a) employment, severance or non-competition agreements with Buyer
Employees;
(b) operating lease, whether as lessor or lessee, with respect to any
real property;
(c) contract, whether as licensor or licensee, for the license of any
patent, know-how, trademark, trade name, service mark, copyright, or other
intangible asset (other than non-negotiated licenses of commercially
available computer software);
(d) loan or guaranty agreement, indenture, or other instrument,
contract, or agreement under which any money has been borrowed or loaned,
which has not yet been repaid, or any note, bond, or other evidence of
indebtedness has been issued and remains outstanding;
(e) mortgage, security agreement, conditional sales contract, capital
lease, or similar agreement that effectively creates a lien on any assets
of Buyer or any of its Subsidiaries (other than any conditional sales
contract, capital lease, or similar agreement that creates a lien only on
tangible personal property);
(f) contract restricting Buyer or any of its Subsidiaries in any
material respect from engaging in business or from competing with any other
parties;
(g) plan of reorganization;
(h) partnership or joint venture agreement;
(i) collective bargaining agreement or agreement with any labor union
or association representing the Buyer Employees;
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(j) contracts and other agreements for the sale of any of its material
assets or properties or for the grant to any person of any preferential
rights to purchase any of its assets or properties other than in the
ordinary course of business except for contracts or agreements pursuant to
which the sale or purchase has been completed and there are no material
obligations remaining;
(k) material warehousing, distributorship, representative, marketing,
sales agency or advertising agreements; or
(l) "material contract" (as defined in Item 601(b)(10) of Regulation
S-K of the SEC).
All of the foregoing are collectively called "Buyer Material Contracts." To
the extent Buyer Material Contracts are evidenced by documents, true and
complete copies have been delivered or made available to the Company. To the
extent Buyer Material Contracts are not evidenced by documents, written
summaries have been delivered or made available to the Company. Each Buyer
Material Contract is in full force and effect, unless the failure of any Buyer
Material Contracts to be in full force and effect has not had and would not be
reasonably likely to have, individually or in the aggregate, a Buyer Material
Adverse Effect. Neither Buyer nor any of its Subsidiaries nor, to the knowledge
of Buyer, any other party is in breach of or in default under any of the Buyer
Material Contracts, except for breaches or defaults that have not had and would
not be reasonably likely to have, individually or in the aggregate, a Buyer
Material Adverse Effect.
SECTION 4.11 Intellectual Property. The Buyer Disclosure Schedule
contains a complete and correct list of all Buyer Proprietary Rights (defined
below) which are patents, registered trademarks, trade names, registered service
marks, or copyrights, and all applications for any of the foregoing. Buyer is
the sole and exclusive owner of, or otherwise has a valid license or right to
use, all Buyer Proprietary Rights, free and clear of any encumbrance other than
encumbrances of a nature described in Section 3.9(a), except to the extent that
such inability to use such Buyer Proprietary Rights would not have, individually
or in the aggregate, a Buyer Material Adverse Effect. The Buyer Proprietary
Rights are all the Proprietary Rights that are necessary in all material
respects for the ownership, maintenance and operation (currently and as
anticipated for the future) of Buyer's properties, assets and business, and
Buyer has the right to use all of the Buyer Proprietary Rights in all
jurisdictions in which Buyer conducts (or anticipates conducting in the future)
its business, except to the extent that such inability to use such Proprietary
Rights would not reasonably be expected to have, individually or in the
aggregate, a Buyer Material Adverse Effect. Each individual and entity,
including each employee, agent, consultant and contractor, who has contributed
to or participated in any way in the conception, creation, reduction to practice
and/or development of the Buyer Proprietary Rights was at the time of such
contribution or participation a party to and bound by a valid, enforceable, duly
executed agreement with Buyer containing appropriate confidentiality provisions,
standard "work-made-for-hire" provisions, in accordance with applicable law, and
a valid written assignment in favor of Buyer as assignee that has conveyed to
Buyer all right, title and interest in and to all worldwide intellectual rights
in the Buyer Proprietary Rights. No Buyer Proprietary Rights have been declared
unenforceable or otherwise invalid by any court or governmental agency and no
party is currently pursuing or, to Buyer's knowledge, threatening to pursue such
action. There is, to the knowledge of Buyer, no material existing infringement,
misuse or misappropriation of any Proprietary Rights by others. To the knowledge
of Buyer, Buyer has not, since January 1, 1998, and the continued operation of
its business as presently conducted or as the Buyer knows the Buyer proposes to
conduct its business will not (based on facts and circumstances existing as of
the date hereof), interfere with, infringe upon or misappropriate any
Proprietary Rights of third parties in any manner that would reasonably be
expected to have, individually or in the aggregate, a Buyer Material Adverse
Effect, and, since January 1, 1998, Buyer has not received written notice of any
charge, complaint, claim, demand or notice alleging any interference with,
infringement upon or misappropriation of any Proprietary Rights of third parties
(including any offers to license, or any claim that Buyer must license or
refrain from using any Buyer Proprietary Rights of any third party), which
alleged interference, infringement or misappropriation, if true, would
reasonably be expected to have, individually or in the aggregate, a Buyer
Material Adverse Effect. To the knowledge of Buyer, since January 1, 1998, no
action, suit, proceeding, hearing, investigation, charge, complaint, claim or
demand has been made or is threatened which challenges the legality, validity,
enforceability, use or
A-30
ownership of any Buyer Proprietary Rights. Buyer has received no written opinion
from counsel regarding the Proprietary Rights of third parties.
"Buyer Proprietary Rights" means all Proprietary Rights owned, licensed or
otherwise used by Buyer in the operation of its business.
SECTION 4.12 Litigation. The Buyer Disclosure Schedule sets forth a list
of all material pending litigation, arbitration, or administrative proceedings
against Buyer or any of its Subsidiaries as of the date of this Agreement. No
litigation, arbitration, or administrative proceeding is pending or, to the
knowledge of Buyer, threatened against Buyer or any of its Subsidiaries as of
the date of this Agreement that, if decided adversely to such person, would be
reasonably likely to have, individually or in the aggregate, a Buyer Material
Adverse Effect, or that seeks to enjoin or otherwise challenges the consummation
of the transactions contemplated by this Agreement. As of the date of this
Agreement, neither Buyer nor any of its Subsidiaries is specifically identified
as a party subject to any material restrictions or limitations under any
injunction, writ, judgment, order, or decree of any arbitrator, court,
administrative agency, commission, or other governmental authority.
SECTION 4.13 Permits, Licenses, Authorizations; Compliance with
Laws. Each of Buyer and its Subsidiaries has all licenses, franchises, permits,
and other governmental authorizations and approvals necessary to conduct its
business, and neither Buyer nor any of its Subsidiaries is in violation of any
such license, franchise, permit, or other governmental authorization or
approval, or any statute, law, ordinance, rule, or regulation applicable to it
or any of its properties, except where the failure to have any such license,
franchise, permit, or other governmental authorization or approval, or the
existence of any such violation, has not had and would not be reasonably likely
to have, individually or in the aggregate, a Buyer Material Adverse Effect. As
of the date of this Agreement, (i) no investigation or review by any
governmental authority with respect to Buyer or any of its Subsidiaries is
pending (other than with respect to Taxes, which are subject to the
representations set forth in Section 4.8) or, to the knowledge of Buyer,
threatened, and (ii) to the knowledge of Buyer, no governmental authority has
indicated an intention to conduct any such investigation or review.
SECTION 4.14 No Brokers or Finders. Except for BMO Nesbitt Burns Corp.,
Buyer has not engaged any investment banker, broker, or finder in connection
with the transactions contemplated hereby.
SECTION 4.15 Benefit Plans.
(a) Each Pension Plan, Welfare Plan and Benefit Plan, which is currently
maintained by Buyer or any of its ERISA Affiliates or to which Buyer or any of
its ERISA Affiliates currently contributes, or is under any current obligation
to contribute, or under which Buyer or any of its ERISA Affiliates has any
liability, contingent or otherwise (including any withdrawal liability within
the meaning of Section 4201 of ERISA) (collectively, the "Buyer Employee Plans"
and individually, a "Buyer Employee Plan"), and each management, employment,
severance, consulting, non-compete, confidentiality, or similar agreement or
contract between Buyer or any of its Subsidiaries and any Buyer Employee
pursuant to which Buyer or any of its Subsidiaries has or may have any
liability, contingent or otherwise ("Buyer Employee Agreement"), is listed in
the Buyer Disclosure Schedule. True and complete copies have been delivered or
made available to the Company of (i) all material documents embodying or
relating to each Buyer Employee Plan and each Buyer Employee Agreement,
including all amendments thereto, written interpretations thereof and trust or
funding agreements with respect thereto; (ii) the two most recent annual
actuarial valuations, if any, prepared for each Buyer Employee Plan; (iii) a
statement of alternative form of compliance pursuant to DOL Regulation
sec. 2520.104-23, if any, filed for each Buyer Employee Plan which is an
"employee pension benefit plan" (as defined in Section 3(2) of ERISA) for a
select group of management or highly compensated employees; (iv) the most recent
determination letter received from the IRS, if any, for each Buyer Employee Plan
and related trust which is intended to satisfy the requirements of Section
401(a) of the Code; (v) if a Buyer Employee Plan is funded, the most recent
annual and periodic accounting of Buyer Employee Plan assets; (vi) the most
recent summary plan description together with all subsequent summaries of
material modifications, if any, required under ERISA with respect to each Buyer
Employee Plan; and (vii) the three most recent annual reports
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(Series 5500 and all schedules thereto), if any, filed as required under ERISA,
in connection with each Buyer Employee Plan or related trust. None of Buyer,
Buyer Subsidiary or any of Buyer's Subsidiaries or ERISA Affiliates has any plan
or commitment, whether legally binding or not, to establish any new Buyer
Employee Plan, to enter into any Buyer Employee Agreement or to modify or to
terminate any Buyer Employee Plan or Buyer Employee Agreement (except to the
extent required by law or to conform any such Buyer Employee Plan or Buyer
Employee Agreement to the requirements of any applicable law, in each case as
previously disclosed to the Company, or as required by this Agreement), nor has
any intention to do any of the foregoing been communicated to Buyer Employees.
(b) Buyer and each of its ERISA Affiliates has made on a timely basis all
contributions or payments required to be made by it under the terms of the Buyer
Employee Plans, ERISA, the Code, or other applicable laws.
(c) Each Buyer Employee Plan intended to qualify under Section 401 of the
Code is, and since its inception has been, so qualified and a determination
letter has been issued by the IRS to the effect that each such Buyer Employee
Plan is so qualified and that each trust forming a part of any such Buyer
Employee Plan is exempt from tax pursuant to Section 501(a) of the Code and, to
the knowledge of Buyer, no circumstances exist which would adversely affect this
qualification or exemption.
(d) Each Buyer Employee Plan (and any related trust or other funding
instrument) has been established, maintained, and administered in all material
respects in accordance with its terms and in both form and operation is in
compliance in all material respects with the applicable provisions of ERISA, the
Code, and other applicable laws, statutes, orders, rules and regulations (other
than adoption of any plan amendments for which the deadline has not yet
expired), and all reports required to be filed with any governmental agency with
respect to each Buyer Employee Plan have been timely filed, other than filings
that are inconsequential.
(e) There is no litigation, arbitration, audit or investigation or
administrative proceeding pending or, to the knowledge of Buyer, threatened
against Buyer or any of its ERISA Affiliates or, to the knowledge of Buyer, any
plan fiduciary by the IRS, the DOL, the PBGC, or any participant or beneficiary
with respect to any Buyer Employee Plan as of the date of this Agreement. No
event or transaction has occurred with respect to any Buyer Employee Plan that
would result in the imposition of any material tax under Chapter 43 of Subtitle
D of the Code. Neither Buyer nor any of its ERISA Affiliates nor, to the
knowledge of Buyer, any plan fiduciary of any Pension or Welfare Plan maintained
by Buyer or its Subsidiaries has engaged in any transaction in violation of
Section 406(a) or (b) of ERISA for which no exemption exists under Section 408
of ERISA or any "prohibited transaction" (as defined in Section 4975(c)(1) of
the Code) for which no exemption exists under Section 4975(c)(2) or 4975(d) of
the Code, or is subject to any material excise tax imposed by the Code or ERISA
with respect to any Buyer Employee Plan.
(f) Each Buyer Employee Plan (other than Buyer Employee Agreements) can be
amended, terminated or otherwise discontinued without liability to Buyer, any of
its Subsidiaries or any of its ERISA Affiliates, other than for benefits accrued
to date and administrative costs.
(g) No liability under any Buyer Employee Plan has been funded, nor has any
such obligation been satisfied with the purchase of a contract from an insurance
company as to which Buyer or any of its Subsidiaries has received notice that
such insurance company is insolvent or is in rehabilitation or any similar
proceeding.
(h) Neither the Buyer nor any of its ERISA Affiliates currently maintains,
nor at any time in the previous six calendar years maintained or had an
obligation to contribute to, any defined benefit pension plan subject to Title
IV of ERISA, or any "multiemployer plan" as defined in Section 3(37) of ERISA.
(i) None of Buyer nor any of its Subsidiaries or ERISA Affiliates (i)
maintains or contributes to any Buyer Employee Plan which provides, or has any
liability to provide, life insurance, medical, severance or other employee
welfare benefits to any Buyer Employee upon his retirement or termination of
employment, except as may be required by Section 4980B of the Code; or (ii) has
ever represented, promised or
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contracted (whether in oral or written form) to any Buyer Employee (either
individually or to Buyer Employees as a group) that such Buyer Employee(s) would
be provided with life insurance, medical, severance or other employee welfare
benefits upon their retirement or termination of employment, except to the
extent required by Section 4980B of the Code.
(j) The execution of, and performance of the transactions contemplated in,
this Agreement will not (either alone or upon the occurrence of any additional
or subsequent events) (i) constitute an event under any Buyer Employee Plan,
Buyer Employee Agreement, trust or loan that will or may result in any payment
(whether of severance pay or otherwise), acceleration, forgiveness of
indebtedness, vesting, distribution, increase in benefits or obligation to fund
benefits with respect to any Buyer Employee, or (ii) result in the triggering or
imposition of any restrictions or limitations on the right of Buyer or the
Company to amend or terminate any Buyer Employee Plan and receive the full
amount of any excess assets remaining or resulting from such amendment or
termination, subject to applicable taxes.
(k) There is no commitment covering any Buyer Employee that, individually
or in the aggregate, would be reasonably likely to give rise to the payment of
any amount that would result in a material loss of tax deductions pursuant to
Section 162(m) of the Code.
(l) Buyer and each of its Subsidiaries (i) is in compliance in all material
respects with all applicable federal, state and local laws, rules and
regulations (domestic and foreign) respecting employment, employment practices,
labor, terms and conditions of employment and wages and hours, in each case,
with respect to Buyer Employees; (ii) is not liable for any arrears of wages or
any penalty for failure to comply with any of the foregoing; and (iii) is not
liable for any past due payment to any trust or other fund or to any
governmental or administrative authority, with respect to unemployment
compensation benefits, social security or other benefits for Buyer Employees.
(m) No work stoppage or labor strike against Buyer or any of its
Subsidiaries by Buyer Employees is pending or threatened. Neither Buyer nor any
of its Subsidiaries (i) is involved in or threatened with any labor dispute,
grievance, or litigation relating to labor matters involving any Buyer
Employees, including violation of any federal, state or local labor, safety or
employment laws (domestic or foreign), charges of unfair labor practices or
discrimination complaints, other than such disputes, grievances or litigation
that are inconsequential; (ii) has engaged in any unfair labor practices within
the meaning of the National Labor Relations Act or the Railway Labor Act; or
(iii) is presently, nor has been in the past six years a party to, or bound by,
any collective bargaining agreement or union contract with respect to Buyer
Employees and no such agreement or contract is currently being negotiated by
Buyer or any of its affiliates. No Buyer Employees are currently represented by
any labor union for purposes of collective bargaining and, to the knowledge of
Buyer, no activities the purpose of which is to achieve such representation of
all or some of such Buyer Employees are threatened or ongoing.
SECTION 4.16 Environmental Matters.
(a) Buyer and its Subsidiaries (i) are in compliance with all applicable
Environmental Laws, and (ii) have obtained, and are in compliance with, all
Environmental Permits, and have made all appropriate filings for issuance or
renewal of such Environmental Permits, except where such noncompliance or the
failure to obtain such Environmental Permits or to make such filings would not,
individually or in the aggregate, be reasonably likely to have a Buyer Material
Adverse Effect.
(b) There are no written claims or notices (including notices that Buyer or
any of its Subsidiaries -- or any Person whose liability has been retained or
assumed contractually by Buyer or any of its Subsidiaries -- is or may be a
potentially responsible person or otherwise liable in connection with any site
or other location containing Hazardous Substances or used for the storage,
handling, treatment, processing, disposal, generation or transportation of
Hazardous Substances), nor any civil, criminal or administrative actions, suits,
hearings, investigations, inquiries or proceedings pending or, to the knowledge
of Buyer, threatened that are based on or related to any Environmental Matters
relating to Buyer or any of its Subsidiaries that, if decided adversely, would,
individually or in the aggregate, be reasonably likely to have a Buyer Material
Adverse Effect.
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(c) Except as would not, individually or in the aggregate, be reasonably
likely to have a Buyer Material Adverse Effect, no Hazardous Substances have
been spilled, discharged, leaked, emitted, injected, disposed of, dumped or
released by Buyer or any of its Subsidiaries or any other person on, at,
beneath, above, or into any of the real property currently owned, leased or
operated by Buyer or any of its Subsidiaries (or, to the knowledge of Buyer, any
real property formerly owned, leased or operated by Buyer or any of its
Subsidiaries, or any predecessor of Buyer or any of its Subsidiaries).
(d) Except as would not, individually or in the aggregate, be reasonably
likely to have a Buyer Material Adverse Effect, to the knowledge of Buyer, no
site at or to which Buyer or any of its Subsidiaries has disposed of,
transported, or arranged for the transportation of, any Hazardous Substances,
has been listed on, or proposed for listing on, the National Priorities List,
the CERCLIS list, or any comparable state list of properties to be investigated
and/or remediated.
(e) Except as would not, individually or in the aggregate, be reasonably
likely to have a Buyer Material Adverse Effect, to the knowledge of Buyer, there
are no past or present conditions, events, activities, practices, incidents,
actions, omissions or plans that may (i) interfere with or prevent continued
compliance by Buyer or any of its Subsidiaries with Environmental Laws and the
requirements of Environmental Permits or (ii) give rise to any liability or
other obligation under any Environmental Laws.
(f) Buyer has delivered or made available to the Company true and complete
copies and results of any reports, studies, analyses, tests, or monitoring
possessed or initiated by Buyer or any of its Subsidiaries, since January 1,
1991, with respect to Environmental Matters relating to Buyer or its
Subsidiaries.
SECTION 4.17 Insurance. The Buyer Disclosure Schedule contains a list of
all insurance policies maintained by Buyer and its Subsidiaries as of the date
of this Agreement, together with a brief description of the coverages afforded
thereby. All of such insurance policies are in full force and effect as of the
date of this Agreement and neither Buyer nor its Subsidiaries have received any
notice of cancellation or termination with respect to any material insurance
policy of Buyer or its Subsidiaries.
SECTION 4.18 Opinion of Financial Adviser. Buyer's Board of Directors has
received the opinion of BMO Nesbitt Burns Corp. to the effect that, as of the
date of this Agreement, the consideration to be paid by Buyer in the Merger is
fair to Buyer's shareholders from a financial point of view.
SECTION 4.19 Voting Requirements. The affirmative vote of the holders of
a majority of the issued and outstanding shares of Buyer Common Stock present at
the Buyer Shareholders Meeting, voting as a single class at the Buyer
Shareholders Meeting, to approve the Stock Issuance (defined in Section 7.1(a)),
is the only vote of the holders of any class or series of Buyer's capital stock
necessary in connection with this Agreement and the transactions contemplated
hereby.
SECTION 4.20 Distributors, Suppliers and Customer. To the knowledge of
Buyer, the relationships of Buyer with its distributors, suppliers, licensors or
sublicensors of intellectual property rights and customers are reasonably good
commercial working relationships and no (i) supplier of products sold or
utilized by the Buyer that supplied more than $50,000 of products to Buyer
during the year ended September 30, 2001 or is reasonably expected to supply
more than $50,000 of products to Buyer during the year ending September 30,
2002, or (ii) distributor or other customer who accounted for more than $50,000
of Buyer's sales of Buyer Products or services during the year ended September
30, 2001 or is reasonably expected to account for more than $50,000 of such
sales during the year ending September 30, 2002, has cancelled or otherwise
terminated, or threatened in writing to cancel or otherwise terminate, its
relationship with Buyer.
ARTICLE V
OPERATION OF BUSINESS OF THE COMPANY UNTIL EFFECTIVE TIME
SECTION 5.1 Preservation of Business. From the date hereof to the
Effective Time, the Company will, and will cause each of its Subsidiaries to,
exercise reasonable best efforts to preserve intact in all material respects its
assets, technology and business organization, maintain its rights and
franchises, keep
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available for itself and the Surviving Corporation the services of its present
officers and key employees, and preserve its present relationships with
customers, suppliers, regulators, licensors, licensees, lessors, distributors
and other persons having significant business dealings with the Company or any
of its Subsidiaries, except as otherwise consented to in writing by Buyer.
SECTION 5.2 Ordinary Course. From the date hereof to the Effective Time,
the Company will, and will cause each of its Subsidiaries to, conduct its
business and operations in the ordinary and usual course consistent with past
practice, except as otherwise required or expressly contemplated by this
Agreement or consented to in writing by Buyer.
SECTION 5.3 Negative Covenants of the Company. Except as otherwise
required or expressly contemplated by this Agreement or consented to in writing
by Buyer, the Company will not and will not permit any of its Subsidiaries to,
from the date hereof until the Effective Time:
(a) split, combine, or reclassify any shares of its capital stock or
make any other changes in its equity capital structure;
(b) purchase, redeem, or otherwise acquire, directly or indirectly,
any shares of its capital stock or any options, rights, or warrants to
purchase any such capital stock or any securities convertible into or
exchangeable for any such capital stock;
(c) declare, set aside, or pay any dividend or make any other
distribution in respect of shares of its capital stock;
(d) amend its charter, bylaws, or similar organizational documents;
(e) issue any shares of its capital stock or any options, rights, or
warrants to purchase any such capital stock or any securities convertible
into or exchangeable for any such capital stock, except for issuances of
shares of Company Common Stock upon the exercise of any options or of any
Company Rights under the Company Rights Agreement, or designate any class
or series of capital stock from its authorized but undesignated preferred
stock;
(f) purchase any capital assets or make any capital expenditures
(except as set forth in the Company's current capital expenditures budget,
a copy of which has been delivered to Buyer) in excess of $250,000 in the
aggregate, purchase any business, purchase any stock of any corporation, or
merge or consolidate with any person;
(g) sell, lease, license, encumber or otherwise dispose of any assets
or properties, other than in the ordinary course of business consistent
with past practice, which sales, leases, licenses, encumbrances or other
dispositions of assets other than inventory, in any event, are not material
to the Company and its Subsidiaries, taken as a whole;
(h) incur, assume, or guarantee any indebtedness for money borrowed
other than (i) borrowings incurred for working capital purposes under the
Company's existing revolving credit facility or (ii) intercompany
indebtedness;
(i) enter into any new Benefit Plan or program or severance or
employment agreement, modify in any respect any existing Benefit Plan or
program (except as required by law) or any existing employment or severance
agreement, or, except as required under existing agreements or in the
ordinary course of business consistent with past practice, grant any
increases in compensation or benefits of any Company Employee, officer or
director;
(j) enter into any collective bargaining agreement or enter into any
substantive negotiations with respect to any collective bargaining
agreement, except as required by law;
(k) change or modify in any material respect any existing accounting
method, principle, or practice, other than as required by GAAP;
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(l) enter into any new Company Material Contract (other than in the
ordinary course of business consistent with past practice), or modify in
any respect adverse to the Company or any of its Subsidiaries any existing
Company Material Contract;
(m) (i) pay, discharge, settle or satisfy any material claims against
the Company or its Subsidiaries (including claims of shareholders),
liabilities or obligations (whether absolute, accrued, contingent or
otherwise), other than (x) the payment, discharge, settlement or
satisfaction of such claim, liability or obligation in the ordinary course
of business consistent with past practice, (y) modifications, refinancings
or renewals of existing indebtedness as permitted by the terms thereof as
in effect on the date of this Agreement, or (z) the payment, discharge,
settlement or satisfaction of claims, liabilities or obligations reflected
or reserved against in the most recent audited financial statements (or the
notes thereto) of the Company included in the Company SEC Reports (for
amounts not in excess of such reserves) or incurred since the date of such
financial statements in the ordinary course of business consistent with
past practice, or (ii) waive, release, grant or transfer any right of
material value, other than in the ordinary course of business consistent
with past practice;
(n) enter into any agreement with any of their respective affiliates
(other than wholly owned Subsidiaries of the Company);
(o) (i) relinquish, waive or release any material contractual or
other right or claim of the Company or its Subsidiaries, or (ii) knowingly
dispose of or permit to lapse any rights in any material Company
Proprietary Rights or knowingly disclose to any person not an employee of,
or consultant or adviser to, the Company or any of its Subsidiaries of the
Company or otherwise knowingly dispose of any trade secret, process or
know-how not a matter of public knowledge prior to the date of this
Agreement, except pursuant to judicial order or process or commercially
reasonable disclosures in the ordinary course of business consistent with
past practice or pursuant to any existing contract or agreement;
(p) except pursuant to the fiduciary duties of the Board of Directors
of the Company as set forth in Sections 7.1(a) and (b), or as expressly
permitted pursuant to Sections 7.2 or 9.1, take any action or omit to take
any action that would or is reasonably likely to (i) result in any of the
conditions to the Merger set forth in Article VIII not being satisfied, or
(ii) prevent, materially delay or materially impede the consummation of the
Merger; or
(q) enter into any commitment to do any of the foregoing.
SECTION 5.4 Tax Covenant. During the period from the date of this
Agreement and continuing until the Effective Time, the Company agrees, as to
itself and its Subsidiaries, that each of them (i) will not, except in the
ordinary course of business consistent with past practice, make any material Tax
election or settle or compromise any Tax liabilities that, individually or in
the aggregate, are material to the Company or any of its Subsidiaries, and (ii)
will promptly notify the Buyer of the making of any request for extension of the
time within which to file any federal income Tax Return for that entity.
SECTION 5.5 Third-Party Consents. The Company shall, and shall cause its
Subsidiaries to, use reasonable efforts, consistent with United States and
foreign laws, to obtain any third-party consents necessary to consummate the
Merger. The Company shall promptly notify Buyer of any failure or prospective
failure to obtain any such consents and, if requested, shall provide copies of
all consents obtained to Buyer.
ARTICLE VI
OPERATION OF BUSINESS OF BUYER UNTIL EFFECTIVE TIME
SECTION 6.1 Preservation of Business. From the date hereof to the
Effective Time, Buyer will, and will cause each of its Subsidiaries to, exercise
reasonable best efforts to preserve intact in all material respects its assets,
technology and business organization, maintain its rights and franchises, keep
available for itself the services of its present officers and key employees, and
preserve its present relationships with
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customers, suppliers, regulators, licensors, licensees, lessors, distributors
and other persons having significant business dealings with Buyer or any of its
Subsidiaries, except as otherwise consented to in writing by the Company.
SECTION 6.2 Ordinary Course. From the date hereof to the Effective Time,
Buyer will, and will cause each of its Subsidiaries to, conduct its business and
operations in the ordinary and usual course consistent with past practice,
except as otherwise required or expressly contemplated by this Agreement or
consented to in writing by the Company.
SECTION 6.3 Negative Covenants of Buyer. Except as otherwise required or
expressly contemplated by this Agreement or consented to in writing by the
Company, Buyer will not and will not permit any of its Subsidiaries to, from the
date hereof until the Effective Time:
(a) split, combine, or reclassify any shares of its capital stock or
make any other changes in its equity capital structure;
(b) purchase, redeem, or otherwise acquire, directly or indirectly,
any shares of its capital stock or any options, rights, or warrants to
purchase any such capital stock or any securities convertible into or
exchangeable for any such capital stock;
(c) declare, set aside, or pay any dividend or make any other
distribution in respect of shares of its capital stock;
(d) amend its charter, bylaws, or similar organizational documents;
(e) purchase any material business, purchase a material amount of any
stock of any corporation, or merge or consolidate with any person;
(f) sell, lease, license, encumber or otherwise dispose of any assets
or properties, other than in the ordinary course of business consistent
with past practice, which sales, leases, licenses, encumbrances or other
dispositions of assets other than inventory, in any event, are not material
to Buyer and its Subsidiaries, taken as a whole;
(g) except as expressly permitted pursuant to Section 9.1, take any
action or omit to take any action that would or is reasonably likely to (i)
result in any of the conditions to the Merger set forth in Article VIII not
being satisfied, or (ii) prevent, materially delay or materially impede the
consummation of the Merger; or
(h) enter into any commitment to do any of the foregoing.
SECTION 6.4 Tax Covenant. During the period from the date of this
Agreement and continuing until the Effective Time, Buyer agrees, as to itself
and its Subsidiaries, that each of them (i) will not, except in the ordinary
course of business consistent with past practice, make any material Tax election
or settle or compromise any Tax liabilities that, individually or in the
aggregate, are material to Buyer or any of its Subsidiaries, and (ii) will
promptly notify the Company of the making of any request for extension of the
time within which to file any federal income Tax Return for that entity.
SECTION 6.5 Third-Party Consents. Buyer shall, and shall cause its
Subsidiaries to, use reasonable efforts, consistent with United States and
foreign laws, to obtain any third-party consents necessary to consummate the
Merger. Buyer shall promptly notify the Company of any failure or prospective
failure to obtain any such consents and, if requested, shall provide copies of
all consents obtained to the Company.
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ARTICLE VII
ADDITIONAL AGREEMENTS
SECTION 7.1 Shareholders' Meetings; Registration Statement and Joint Proxy
Statement.
(a) The Company shall cause a special meeting of its shareholders (the
"Company Shareholders Meeting") to be duly called and held as soon as reasonably
practicable after the execution of this Agreement for the purpose of voting on
the approval of this Agreement and the Merger. Buyer shall cause a special
meeting of its shareholders (the "Buyer Shareholders Meeting") to be duly called
and held as soon as reasonably practicable after the execution of this Agreement
for the purpose of voting on the approval of the issuance of shares of Buyer
Common Stock in the Merger as contemplated by this Agreement (the "Stock
Issuance"). The Company Shareholders Meeting and the Buyer Shareholders Meeting
are referred to together as the "Shareholder Meetings." The Board of Directors
of the Company shall recommend to the Company's shareholders that they vote in
favor of approval of this Agreement and the Merger; provided, however, that the
Board of Directors of the Company shall not be obligated to recommend approval
of this Agreement and the Merger to its shareholders if the Company has received
a Company Superior Third-Party Acquisition Offer (defined in Section 7.2(a)) and
the Board of Directors of the Company shall determine that it wishes to
recommend approval of the Company Superior Third-Party Acquisition Offer, and,
therefore, that the recommendation of this Agreement and the Merger should not
be made. The Board of Directors of Buyer shall recommend to Buyer's shareholders
that they vote in favor of approval of the Stock Issuance. The persons and
entities owning shares of Buyer listed on Schedule 7.1(a) of the Buyer
Disclosure Schedule (the "Named Buyer Stockholders") have delivered to the
Company an agreement (the "Buyer Stockholder Agreement") among the Named Buyer
Stockholders and the Company, dated the date of this Agreement, and irrevocable
proxies granting to the Company, pursuant to the terms of the Buyer Stockholder
Agreement, the right to vote all of the Buyer Common Stock of the Named Buyer
Stockholders in favor of the Stock Issuance at the Buyer Shareholders Meeting.
The persons and entities owning shares of the Company listed on Schedule 7.1(a)
of the Company Disclosure Schedule (the "Named Company Stockholders") have
delivered to Buyer an agreement (the "Company Stockholder Agreement") among the
Named Company Stockholders and Buyer, dated the date of this Agreement, and
irrevocable proxies granting to Buyer, pursuant to the terms of the Company
Stockholder Agreement, the right to vote all of the Company Voting Stock of the
Named Company Stockholders in favor of approval of this Agreement and the Merger
at the Company Shareholders Meeting.
(b) The Company and Buyer, as promptly as reasonably practicable following
the execution of this Agreement, shall prepare and file with the SEC a proxy
statement, together with a form of proxy, with respect to the Company
Shareholders Meeting and the Buyer Shareholders Meeting (such proxy statement,
together with any amendments thereof or supplements thereto, being called the
"Joint Proxy Statement"). Buyer, as promptly as reasonably practicable following
the execution of this Agreement, shall prepare and file with the SEC a
registration statement on Form S-4 in connection with the issuance of shares of
Buyer Common Stock in the Merger (the "Registration Statement"), in which the
Joint Proxy Statement will be included as a prospectus. The Company and Buyer
(i) shall use reasonable best efforts to have the Joint Proxy Statement cleared
by the SEC and the Registration Statement declared effective under the
Securities Act as promptly as practicable after such filing, and (ii) as soon as
reasonably practicable thereafter, shall cause copies of the Joint Proxy
Statement and form of proxy to be mailed to their respective shareholders in
accordance with applicable provisions of law. The Joint Proxy Statement and form
of proxy shall comply as to form in all material respects with the applicable
requirements of the Exchange Act and the rules and regulations of the SEC
promulgated thereunder. After the delivery to the Company's and Buyer's
shareholders of copies of the Joint Proxy Statement and form of proxy, the
Company and Buyer shall use reasonable best efforts to solicit proxies in
connection with the Company Shareholders Meeting and the Buyer Shareholders
Meeting, respectively, in favor of, in the case of the Company, approval of this
Agreement and, in the case of Buyer, approval of the Stock Issuance, unless, in
the case of the Company, the Company has received a Company Superior Third-Party
Acquisition Offer and the Board of Directors of the Company shall determine that
it wishes to recommend approval of the
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Company Superior Third-Party Acquisition Offer, and, therefore, that such
solicitation should not be made. The Registration Statement shall comply as to
form in all material respects with the applicable requirements of the Securities
Act and the rules and regulations of the SEC promulgated thereunder.
(c) The Company and Buyer each shall engage a nationally recognized proxy
solicitor (that is reasonably acceptable to the other) to solicit proxies in
connection with the special meeting of its shareholders in favor of approval of,
in the case of the Company, this Agreement, and, in the case of Buyer, the Stock
Issuance.
(d) The Company and Buyer will coordinate and cooperate with respect to the
timing of the shareholder approvals and will use reasonable efforts to hold the
Shareholder Meetings on the same day and to secure such approvals as soon as
practicable after the date on which the Registration Statement becomes
effective.
SECTION 7.2 No Shopping.
(a) From the date hereof until the Effective Time, the Company and its
Subsidiaries will not, and will not permit any officer, director, financial
adviser, or other agent or representative of the Company and its Subsidiaries,
directly or indirectly, to:
(i) take any action to seek, encourage, initiate or solicit any offer
from any person or group to acquire any shares of capital stock of the
Company or any of its Subsidiaries, to merge or consolidate with the
Company or any of its Subsidiaries, or to otherwise acquire, except to the
extent not prohibited by Section 5.3, any significant portion of the assets
of the Company and its Subsidiaries, taken as whole (a "Company Third-Party
Acquisition Offer"), or
(ii) with respect to a Company Third-Party Acquisition Offer to
acquire, by tender offer, merger, acquisition of assets or otherwise, 40%
or more of the Outstanding Shares or assets of the Company, engage in
discussions or negotiations concerning a Company Third-Party Acquisition
Offer with any person or group, or disclose financial information relating
to the Company or any of its Subsidiaries or any confidential or
proprietary trade or business information relating to the business of the
Company or any of its Subsidiaries, or afford access to the properties,
books, or records of the Company or any of its Subsidiaries, or otherwise
cooperate in any way with, any person or group that the Company has reason
to believe is considering a Company Third-Party Acquisition Offer; unless
(A) before furnishing such non-public information or access to such person
or group, the Company's Board of Directors shall receive from such person
an executed confidentiality and standstill agreement that is no less
favorable to the Company than the Confidentiality Agreement dated May 17,
2001 between the Company and Buyer, together with the Mutual Non-Disclosure
Agreement dated May 25, 2001 between the Company and Thomas Weisel Partners
LLC (together, the "Confidentiality Agreement") and all information
provided to such person or group shall be provided on a substantially
concurrent basis to Buyer, and (B) before entering into discussions or
negotiations with such person or group, the Company's Board of Directors
determines in good faith, after consultation with its outside legal counsel
and financial adviser, that such Company Third-Party Acquisition Offer is
reasonably likely to be more favorable to the Company's shareholders than
the Merger and for which financing, to the extent required, is committed
or, in the good-faith judgment of the Company's Board of Directors, is
reasonably capable of being obtained by the third party (a "Company
Superior Third-Party Acquisition Offer").
(b) In addition to the obligations of the Company set forth above, the
Company promptly shall advise Buyer orally and in writing of any Company
Third-Party Acquisition Offer or any inquiry or request for information that the
Company reasonably believes could lead to or contemplates a Company Third-Party
Acquisition Offer and the terms and conditions thereof, including the identity
of the offeror or person making the request or inquiry, and the Company shall
keep Buyer informed in all material respects of the status and details thereof
(including changes or amendments thereto).
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(c) Nothing in this Section 7.2 shall operate to hinder or prevent the
Company from fully complying with Rule 14e-2 promulgated under the Exchange Act
with regard to a Company Third-Party Acquisition Offer.
(d) The Company shall not release any third party from, or waive any
provision of, any standstill agreement to which it is a party or any
confidentiality agreement between it and another person who has made, or who is
reasonably likely to make, a Company Third-Party Acquisition Offer, unless the
Company's Board of Directors determines in good faith, after consultation with
outside legal counsel, that such action is necessary for the Board of Directors
to comply with its fiduciary duties to Company shareholders under Massachusetts
law. Notwithstanding anything stated in this Section 7.2(d), the Company need
not refuse a request from any person who has signed a standstill agreement with
the Company to make a Company Third-Party Acquisition Offer to the Chief
Executive Officer or the Board of Directors of the Company if the Board of
Directors determines in good faith, after consultation with outside legal
counsel, that such action is necessary for the Board of Directors to comply with
its fiduciary duties to Company shareholders under Massachusetts law.
SECTION 7.3 Access to Information. From the date hereof until the
Effective Time, the Company and Buyer will each give the other and its
respective counsel, financial advisers, auditors, and other authorized
representatives and its financing sources reasonable access to its and its
Subsidiaries' offices, properties, books, and records at all reasonable times
and upon reasonable notice, and will instruct its and its Subsidiaries'
employees, counsel, financial advisers, and auditors to cooperate with the other
and each such representative and financing source in all reasonable respects in
its investigation of the business of Buyer and the Company, as the case may be,
and each such representative and financing source will conduct such
investigation in a manner as not to unreasonably interfere with the operations
of the other and its Subsidiaries and will take all reasonable precautions to
protect the confidentiality of any information of the other and its Subsidiaries
disclosed to such persons during such investigation.
SECTION 7.4 Amendment of the Company's Employee Plans. The Company will,
effective at or immediately before the Effective Time, cause any Company
Employee Plans that it may have to be amended, to the extent, if any, reasonably
requested by Buyer, for the purpose of permitting such Company Employee Plan to
continue to operate in conformity with ERISA and the Code following the Merger
or to terminate any such Company Employee Plans prior to the Merger if requested
by Buyer.
SECTION 7.5 Certain Resignations. The Company will use reasonable efforts
to assist Buyer in procuring the resignation, effective as of the Effective
Time, of all of the members of the Boards of Directors of the Company's
Subsidiaries.
SECTION 7.6 Confidentiality Agreements. The Confidentiality Agreement
(except for Section 5 thereof) shall remain in full force and effect until the
Effective Time. Until the Effective Time, the Company and Buyer shall comply
with the terms of the Confidentiality Agreement (except for Section 5 thereof).
SECTION 7.7 Employee Benefits. From and after the Effective Time, for
purposes of determining eligibility, vesting, and entitlement to vacation and
severance benefits for employees actively employed full-time by the Company or
any of its Subsidiaries immediately before the Effective Time under any
compensation, severance, welfare, pension, benefit, or savings plan of the
Surviving Corporation, Buyer, or any of its affiliates in which active full-time
employees of the Company and its Subsidiaries become eligible to participate,
service with the Company or any of its Subsidiaries (whether before or after the
Effective Time) shall be credited as if such service had been rendered to the
Surviving Corporation, Buyer, or such affiliate.
SECTION 7.8 Indemnification. All rights to indemnification, expense
advancement, and exculpation existing in favor of any present or former
director, officer, or employee of the Company or any of its Subsidiaries as
provided in the charter, bylaws, or similar organizational documents of the
Company or any of its Subsidiaries or by law as in effect on the date hereof
shall survive the Merger for a period of at least six years after the Effective
Time (or, in the event any relevant claim is asserted or made within such six-
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year period, until final disposition of such claim) with respect to matters
occurring at or before the Effective Time, and no action taken during such
period shall be deemed to diminish the obligations set forth in this Section
7.8.
SECTION 7.9 Directors and Officers Liability Insurance. For a period of
at least six years after the Effective Time, Buyer shall cause the Surviving
Corporation to maintain in effect either (a) the current policy of directors'
and officers' liability insurance maintained by the Company (provided that the
Surviving Corporation may substitute therefor policies of at least the same
coverage and amounts containing terms and conditions which are no less
advantageous in any material respect to the insured parties thereunder) with
respect to claims arising from facts or events that occurred at or before the
Effective Time (including consummation of the Merger), or (b) a run-off (i.e.,
"tail") policy or endorsement with respect to the current policy of directors'
and officers' liability insurance covering claims asserted within six years
after the Effective Time arising from facts or events that occurred at or before
the Effective Time (including consummation of the Merger); and such policies or
endorsements shall name as insureds thereunder all present and former directors
and officers of the Company or any of its Subsidiaries. Notwithstanding the
foregoing, if the amount of the insurance coverage required pursuant to clause
(a) of this Section 7.9 exceeds 200% of the amount currently expended by the
Company for such insurance coverage, Buyer shall maintain or provide the most
advantageous policies of directors' and officers' liability insurance for all
present and former directors and officers of the Company or any of its
Subsidiaries obtainable for an annual premium equal to no more than 200% of the
amount currently expended by the Company for such insurance coverage.
SECTION 7.10 Cooperation. Prior to the Effective Time, to the extent
permitted by law, each of Buyer and the Company shall, and shall cause its
Subsidiaries to, (i) confer on a regular and reasonably frequent basis with one
or more representatives of the other to discuss material operational matters and
the general status of its ongoing operations; (ii) promptly notify the other of
any significant changes, of which its executive officers have knowledge, in its
business, properties, assets, financial condition or reported or future results
of operations; and (iii) promptly provide the other (or the other's counsel)
with copies of all filings made by it or any of its Subsidiaries with any state,
federal or foreign court, administrative agency, commission or other
governmental authority in connection with this Agreement and the transactions
contemplated by this Agreement.
SECTION 7.11 Satisfaction of Conditions to the Merger; Notification.
(a) Subject to the terms and conditions of this Agreement and the fiduciary
duties of the Boards of Directors of the Company and Buyer, each of the Company
and Buyer agrees to use reasonable efforts promptly to take, or cause to be
taken, all action and to do, or cause to be done, all things necessary, proper
or advisable under applicable laws and regulations to consummate and make
effective the transactions contemplated by this Agreement (subject to the
appropriate vote of shareholders of Buyer and the Company, respectively,
described in Section 7.1(a)), as promptly as practicable after the date of this
Agreement, including using reasonable efforts to cause the conditions precedent
set forth in Article VIII to be satisfied.
(b) Each of the Company and Buyer shall, as promptly as reasonably
practicable, give notice to the other of any representation or warranty made by
it contained in this Agreement becoming untrue or inaccurate such that the
condition set forth in Section 8.2(a) or 8.3(a), as the case may be, would not
be satisfied; provided, however, that no notification shall affect the
representations, warranties, covenants or agreements of the parties or the
conditions to the obligations of the parties under this Agreement.
SECTION 7.12 Rule 145 Affiliates. Prior to the date of the Company
Shareholders Meeting, the Company shall deliver to Buyer a letter, substantially
in the form of Exhibit C attached hereto, identifying all persons who are
expected to be, at the time this Agreement is submitted for approval to such
shareholders, "affiliates" of the Company for purposes of Rule 145 under the
Securities Act ("Company Affiliates"). The list of Company Affiliates shall be
updated as necessary to reflect changes from the date of the letter. The Company
shall use reasonable efforts to cause to be delivered to Buyer on or prior to
the
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date of the Company Shareholders Meeting a letter agreement from each of the
Company Affiliates, substantially in the form of Exhibit D attached hereto.
SECTION 7.13 Listing of Buyer Common Stock. Buyer shall use reasonable
efforts to cause the shares of Buyer Common Stock to be issued in the Merger to
be approved for listing on the Nasdaq National Market System, subject to
official notice of issuance, prior to the Closing.
SECTION 7.14 Section 16 Matters. Prior to the Effective Time, with
respect to both derivative and non-derivative securities, as applicable, Buyer
and the Company shall take all such steps as may be required or appropriate to
cause any dispositions of Company Common Stock or acquisitions of Buyer Common
Stock resulting from the transactions contemplated by Article I or Article II of
this Agreement by each individual who is subject to the reporting requirements
of Section 16(a) of the Exchange Act with respect to the Company and Buyer, to
be exempt under Rule 16b-3 promulgated under the Exchange Act, and shall take
those steps to be taken in accordance with the no-action letter dated January
12, 1999, issued by the SEC to Skadden, Arps, Slate, Meagher & Flom LLP.
SECTION 7.15 Buyer Board of Directors. Prior to, but effective at, the
Effective Time, Buyer will appoint Cornelius Peterson, VIII as a member of the
Board of Directors of Buyer.
SECTION 7.16 Accounting Treatment. Buyer and the Company each agree to,
and to cause the Surviving Corporation to, account for the Merger on a purchase
accounting basis in accordance with GAAP and applicable SEC regulations.
SECTION 7.17 Company Employees. From and after the Effective Time Buyer
will increase the base salaries of certain key employees of the Company, as set
forth on Schedule 7.17. In addition, no later than the next meeting of the
Compensation Committee of the Board of Directors of Buyer following the
Effective Time, Buyer's management will recommend a grant of stock options to
purchase shares of Buyer Common Stock to those key employees of the Company who
accept offers of employment from Buyer, as set forth on Schedule 7.17. In its
discretion, Buyer may condition such stock option awards upon the execution and
delivery of a Non-Competition and Non-Solicitation Agreement, in substantially
the form of Exhibit B.
ARTICLE VIII
CONDITIONS PRECEDENT
SECTION 8.1 Conditions to Each Party's Obligation to Effect the
Merger. The respective obligations of each party to effect the Merger shall be
subject to the fulfillment at or before the Effective Time of the following
conditions, any one or more of which, to the extent permitted by applicable law,
may be waived in writing by all of the parties to this Agreement:
(a) Shareholder Approvals. This Agreement and the Merger shall have
been adopted by the shareholders of the Company in accordance with the MBCL
and the Company's Articles of Incorporation, and the Stock Issuance shall
have been approved by the shareholders of Buyer in accordance with the DGCL
and Buyer's Certificate of Incorporation.
(b) Registration Statement Effective. The Registration Statement
shall have become effective under the Securities Act, no stop order
suspending the effectiveness of the Registration Statement shall then be in
effect, and no proceedings for that purpose shall then be threatened by the
SEC or shall have been initiated by the SEC and not concluded or withdrawn.
(c) Listing. The shares of Buyer Common Stock issuable to holders of
Company Common Stock pursuant to this Agreement and such other shares
required to be reserved for issuance in connection with the Merger shall
have been authorized for listing on the Nasdaq National Market System,
subject to official notice of issuance.
(d) HSR Act. All waiting periods, if any, under the HSR Act relating
to the transactions contemplated hereby will have expired or been
terminated early and all material foreign antitrust
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approvals required to be obtained prior to the Merger in connection with
the transactions contemplated hereby shall have been obtained.
(e) Injunctions or Restraints. There shall not be pending any
litigation or administrative proceeding brought by any governmental or
other regulatory or administrative agency or commission requesting an
injunction, writ, order, judgment, or decree (each, an "Injunction") that
is reasonably likely to result in an order to restrain or prohibit the
consummation of any of the transactions contemplated hereby or to require
rescission of this Agreement or any such transactions or to have a
Surviving Corporation Material Adverse Effect if the transactions
contemplated hereby are consummated, nor shall there be in effect any
Injunction directing that any of the transactions provided for herein not
be consummated as so provided (it being agreed that each of the parties
shall use all reasonable efforts to prevent the entry of any such
Injunction and to appeal as promptly as possible any such Injunction that
may be entered).
SECTION 8.2 Conditions to the Obligations of Buyer and Buyer
Subsidiary. The obligations of Buyer and Buyer Subsidiary to effect the Merger
shall be subject to the fulfillment at or before the Effective Time of the
following conditions, any one or more of which, to the extent permitted by
applicable law, may be waived in writing by Buyer and Buyer Subsidiary:
(a) Representations and Warranties. The representations and
warranties of the Company contained in Article III of this Agreement shall
be true and correct in all material respects as of the date of this
Agreement and immediately before the Effective Time as though made
immediately before the Effective Time (except those representations and
warranties that speak of an earlier date, which shall be true and correct
in all material respects as of such earlier date), except that any
representation or warranty that is qualified by "materiality" or "Company
Material Adverse Effect" or similar qualification shall be true and correct
in all respects as of the applicable time; the Company shall have, in all
material respects, performed and complied with the agreements and
obligations contained in this Agreement required to be performed and
complied with by it immediately before the Effective Time; and Buyer and
Buyer Subsidiary shall have received a certificate signed by an executive
officer of the Company to the effects set forth in this Section 8.2(a).
(b) Material Adverse Effect. Neither the Company nor any of its
Subsidiaries shall have, since the date of this Agreement, suffered any
business interruption, damage to or destruction of its properties, or other
incident, occurrence, or event that, individually or in the aggregate, has
had or would be reasonably likely to have (after giving effect to any
insurance coverage) a Company Material Adverse Effect.
(c) Company Rights Agreement. No Company Rights shall have become
exercisable under the Company Rights Agreement.
(d) Tax Opinion. Buyer shall have received a written opinion from
Faegre & Benson LLP, counsel to Buyer, to the effect that the Merger will
be treated for federal income tax purposes as a reorganization within the
meaning of Section 368(a) of the Code (it being understood that Buyer and
the Company shall each provide reasonable cooperation, including making
reasonable representations to Faegre & Benson LLP to enable them to render
such opinion).
(e) Corporate Authority Opinion. Buyer shall have received a written
opinion from Testa, Hurwitz & Thibeault, LLP, counsel to the Company, to
the effect that the Merger and this Agreement have been duly authorized by
all necessary corporate action on the part of the Company.
SECTION 8.3 Conditions to Obligations of the Company. The obligations of
the Company to effect the Merger shall be subject to the fulfillment at or
before the Effective Time of the following conditions, any one or more of which,
to the extent permitted by applicable law, may be waived in writing by the
Company:
(a) Representations and Warranties. The representations and
warranties of Buyer and Buyer Subsidiary contained in Article IV of this
Agreement shall be true and correct in all material respects
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as of the date of this Agreement and immediately before the Effective Time
as though made immediately before the Effective Time (except those
representations and warranties that speak of an earlier date, which shall
be true and correct in all material respects as of such earlier date),
except that any representation or warranty that is qualified by
"materiality" or "Buyer Material Adverse Effect" or similar qualification
shall be true and correct in all respects as of the applicable time; Buyer
and Buyer Subsidiary shall have, in all material respects, performed and
complied with the agreements and obligations contained in this Agreement
required to be performed and complied with by them immediately before the
Effective Time; and the Company shall have received a certificate signed by
an executive officer of Buyer to the effects set forth in this Section
8.3(a).
(b) Material Adverse Effect. Neither Buyer nor any of its
Subsidiaries shall have, since the date of this Agreement, suffered any
business interruption, damage to or destruction of its properties, or other
incident, occurrence, or event that, individually or in the aggregate, has
had or would reasonably be expected to have (after giving effect to any
insurance coverage) a Buyer Material Adverse Effect.
(c) Tax Opinion. The Company shall have received a written opinion
from Testa, Hurwitz & Thibeault, LLP, counsel to the Company, to the effect
that the Merger will be treated for federal income tax purposes as a
reorganization within the meaning of Section 368(a) of the Code (it being
understood that Buyer and the Company shall each provide reasonable
cooperation, including making reasonable representations to Testa, Hurwitz
& Thibeault, LLP to enable them to render such opinion).
(d) Corporate Authority Opinion. The Company shall have received a
written opinion from Faegre & Benson LLP, counsel to Buyer and Buyer
Subsidiary, to the effect that the Merger and the Stock Issuance have been
duly authorized by all necessary corporate action on the part of Buyer and
Buyer Subsidiary.
ARTICLE IX
TERMINATION AND AMENDMENT
SECTION 9.1 Termination. This Agreement may be terminated at any time
before the Effective Time, whether before or after approval of this Agreement by
the shareholders of the Company or approval of the Stock Issuance by the
shareholders of Buyer (except as provided otherwise in Section 9.1(e)):
(a) by written agreement of the respective Boards of Directors of
Buyer and the Company;
(b) by Buyer or the Company, if the transactions contemplated hereby
shall not have been consummated on or before March 15, 2002 (the "End
Date," as such date may be extended by written agreement of Buyer and the
Company), provided that such failure is not due to the failure of the party
seeking to terminate this Agreement (or, in the event Buyer is seeking to
terminate this Agreement, of Buyer Subsidiary) to comply in all material
respects with its obligations under this Agreement;
(c) by Buyer, if (i) any of the conditions set forth in Sections 8.1
and 8.2 shall become impossible to fulfill on or prior to the End Date
(provided, that such failure is not due to the failure of Buyer or Buyer
Subsidiary to comply in all material respects with its obligations under
this Agreement), and such conditions shall not have been waived under
Sections 8.1 and 8.2, (ii) the shareholders of the Company shall fail to
approve this Agreement by the vote required by the MBCL and the Company's
Articles of Incorporation at the first shareholders meeting called for that
purpose or any adjournment thereof, (iii) the shareholders of Buyer shall
fail to approve the Stock Issuance by the vote required by the DGCL and
Buyer's Certificate of Incorporation at the first shareholders meeting
called for that purpose or any adjournment thereof, or (iv) the Board of
Directors of the Company withdraws or modifies, in any manner adverse to
Buyer, its recommendation of approval of this Agreement and the Merger;
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(d) by the Company, if (i) any of the conditions set forth in Sections
8.1 and 8.3 shall become impossible to fulfill on or prior to the End Date
(provided, that such failure is not due to the failure of the Company to
comply in all material respects with its obligations under this Agreement)
and such conditions shall not have been waived under Sections 8.1 and 8.3,
(ii) the shareholders of the Company shall fail to approve this Agreement
by the vote required by the MBCL and the Company's Articles of
Incorporation at the first shareholders meeting called for that purpose or
any adjournment thereof, (iii) the shareholders of Buyer shall fail to
approve the Stock Issuance by the vote required by the DGCL and Buyer's
Certificate of Incorporation at the first shareholders meeting called for
that purpose or any adjournment thereof, or (iv) the Board of Directors of
Buyer withdraws or modifies, in any manner adverse to the Company, its
recommendation of the Stock Issuance; or
(e) by the Company, at any time prior to the Company Shareholders
Meeting, upon written notice to Buyer, if the Board of Directors of the
Company shall have approved a Company Superior Third-Party Acquisition
Offer; provided, however, that, prior to termination, (i) the Company shall
have complied with Section 7.2(a), and (ii) the Company shall have notified
Buyer in writing at least five business days before termination of its
intention to enter into an agreement with respect to a Company Superior
Third-Party Acquisition Offer (the "Intention Notice") and shall have
provided Buyer with the proposed definitive documentation for such
transaction; and provided, further, that, during the period of five
business days following the Intention Notice, the Company shall have
afforded Buyer a reasonable opportunity to make such adjustments to the
terms and conditions of this Agreement as would enable the Company to
proceed with the transactions contemplated hereby, and the notice of
termination shall not be effective if Buyer submits to the Company during
such period a legally binding, executed offer to enter into an amendment to
this Agreement within such period unless the Company's Board of Directors
shall have determined in good faith, after consultation with its outside
legal counsel and financial advisor, that the amendment to this Agreement
that Buyer has agreed to enter into during such period is not at least as
favorable to the Company's shareholders as the Company Superior Third-Party
Acquisition Offer.
SECTION 9.2 Procedure and Effect of Termination. In the event of
termination of this Agreement by the Company or Buyer under Section 9.1, written
notice shall forthwith be given to the other parties and this Agreement shall
terminate and the Merger shall be abandoned without further action by any of the
parties. If this Agreement is terminated as provided herein, no party hereto
shall have any liability or further obligation to any other party to this
Agreement, except as otherwise provided in Section 9.3 or to the extent that the
termination is a result of a willful and material violation by such party of a
representation, warranty, covenant or agreement contained in this Agreement.
SECTION 9.3 Termination Fee; Expenses.
(a) If (i) this Agreement is terminated pursuant to Section 9.1(c)(iv) or
9.1(e); or (ii) (x) a Company Third-Party Acquisition Offer shall have been made
to the Company and shall have become known publicly prior to the termination of
this Agreement, (y) this Agreement shall have been terminated pursuant to
Section 9.1(b) (other than by reason of the failure of the conditions set forth
in any of Sections 8.1(b), (c) or (d) to be fulfilled or the failure of the
conditions set forth in Section 8.3 to be fulfilled), or pursuant to Section
9.1(c)(ii) or 9.1(d)(ii) and (z) within 12 months after termination the Company
shall have consummated any Company Third-Party Acquisition (defined below),
then, the Company shall pay to Buyer a fee equal to $2.5 million in cash (the
"Termination Fee"), plus an amount, in cash (the "Expense Reimbursement
Amount"), not to exceed $750,000, equal to all documented out-of-pocket expenses
and fees incurred by Buyer (including fees and expenses payable to all legal,
accounting, financial, public relations and other professional advisors) arising
out of, in connection with or related to this Agreement, the Merger or the
transactions contemplated by this Agreement. The Termination Fee and Expense
Reimbursement Amount shall be paid by wire transfer of same day funds to an
account designated by Buyer (x) in the case of Section 9.3(a)(i), upon
termination of this Agreement, and (y) in the case of Section 9.3(a)(ii), upon
consummation of a Company Third-Party Acquisition. It shall be a condition to
termination of this Agreement by the Company pursuant to any paragraph of
Section 9.1 that requires payment of the Termination Fee and Expense
Reimbursement Amount upon termination pursuant
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thereto, that such payment has been made. In no event shall more than one
Termination Fee be payable under this Article IX. As used in Section
9.3(a)(ii)(z), a "Company Third-Party Acquisition" means (i) a transaction
pursuant to any Company Third-Party Acquisition Offer in which any third party
acquires at least 40% of the outstanding shares of Company Common Stock by
tender offer, exchange offer or otherwise, (ii) a merger or other business
combination (other than with Buyer or Buyer Subsidiary) in which, immediately
after giving effect thereto, shareholders other than the shareholders of the
Company immediately prior thereto own at least 40% of the entity surviving such
merger or business combination, or (iii) any transaction pursuant to which any
third party acquires assets of the Company having a fair market value equal to
at least 40% of all of the assets of the Company and its Subsidiaries, taken as
a whole, immediately prior to such transaction.
(b) (i) The existence of the right to receive payment pursuant to this
Section 9.3 shall not constitute an election of remedies or in any way limit or
impair a party's right to pursue any other remedy against the other party to
which it may be entitled under this Agreement, at law or in equity, or
otherwise; provided, however, the successful exercise of the right under this
Section 9.3 shall constitute an election of remedies and shall preclude that
party from any other remedy against the other party to which it may otherwise be
entitled under this Agreement, at law or in equity or otherwise.
(ii) The parties agree that the agreements contained in this Section 9.3
are an integral part of the transactions contemplated by the Agreement and are
an inducement to Buyer to enter into this Agreement and not a penalty.
(iii) If the Company fails to pay promptly to Buyer any amount due under
this Section 9.3, the Company shall pay the costs and expenses of Buyer
(including legal fees and expenses) in connection with any action, including the
filing of any lawsuit or other legal action, taken to collect payment, together
with interest on the amount of any unpaid fee at the publicly announced prime or
base rate of Wells Fargo Bank Minnesota, N.A., from the date such fee was
required to be paid.
ARTICLE X
GENERAL PROVISIONS
SECTION 10.1 Termination of Representations and Warranties. The
representations and warranties of the parties set forth in this Agreement
(including those set forth in the Company Disclosure Schedule and the Buyer
Disclosure Schedule) or in any certificate furnished under this Agreement shall
not survive the Effective Time.
SECTION 10.2 Amendment and Modification. To the extent permitted by
applicable law, this Agreement may be amended, modified, or supplemented only by
written agreement of the parties hereto at any time before the Effective Time
with respect to any of the terms contained herein, except that after the Company
Shareholders Meeting the amount of the Merger Consideration shall not be
decreased and the form of the Merger Consideration shall not be altered from
that provided for in this Agreement without the approval of the shareholders of
the Company.
SECTION 10.3 Waiver of Compliance; Consents. Any failure of Buyer or
Buyer Subsidiary, on the one hand, or the Company, on the other hand, to comply
with any obligation, covenant, agreement, or condition herein may be waived in
writing by the other, but such waiver or failure to insist upon strict
compliance with such obligation, covenant, agreement, or condition shall not
operate as a waiver of, or estoppel with respect to, any subsequent or other
failure. Whenever this Agreement requires or permits consent by or on behalf of
any party hereto, such consent shall be given in writing in a manner consistent
with the requirements for a waiver of compliance as set forth in this Section
10.3.
SECTION 10.4 Expenses. All expenses incurred in connection with this
Agreement and the consummation of the transactions contemplated hereby shall be
paid by the party incurring or required to pay such expenses as a matter of law,
except (i) as otherwise provided in Section 9.3 or Schedule 10.4, and (ii) all
expenses (excluding legal, accounting and other advisors' fees and expenses)
incurred in
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connection with the preparation, printing, filing and mailing of the Joint Proxy
Statement and the Registration Statement shall be shared equally by the Company
and Buyer.
SECTION 10.5 Press Releases and Public Announcements. Neither Buyer nor
the Company shall issue any press release or make any public announcement
relating to the subject matter of this Agreement without prior written approval
of the other; provided, however, that each of the Company and Buyer may make any
public disclosure it believes in good faith is required by applicable law or any
listing or trading agreement concerning its publicly traded securities (in which
case the disclosing party will advise the other parties to this Agreement and
provide them with a reasonable period of time to comment before making the
disclosure).
SECTION 10.6 Additional Agreements. Subject to the terms and conditions
of this Agreement, each of the parties agrees to use its reasonable efforts to
take or cause to be taken all action, and do or cause to be done all things
necessary, proper, or advisable under applicable laws and regulations, to ensure
that the conditions set forth in Article VIII are satisfied and to consummate
and make effective the transactions contemplated by this Agreement (subject to
the Company's Board of Directors' and Buyer's Board of Directors' right to
exercise in good faith its fiduciary duties). If, at any time after the
Effective Time, any further action is necessary or desirable to carry out the
purposes of this Agreement, the proper officers and directors of each
corporation that is a party to this Agreement shall take all such necessary
action.
SECTION 10.7 Notices. All notices and other communications hereunder
shall be in writing and shall be deemed given if delivered personally, effective
when delivered, or if delivered by express delivery service, effective when
delivered, or if mailed by registered or certified mail (return receipt
requested), effective three business days after mailing, or if delivered by
telecopy, effective when telecopied with confirmation of receipt, to the parties
at the following addresses (or at such other address for a party as shall be
specified by like notice):
(a) If to the Company, to it at:
NetSilicon, Inc.
411 Waverley Oaks Road, Bldg. 227
Waltham, MA 02452
Telecopy: (781) 398-4877
Telephone: (781) 398-4514
Attention: Dan Sullivan, Chief Financial Officer
with a copy to:
Testa, Hurwitz, Thibeault, LLP
125 High Street
Boston, MA 02110
Telecopy: (617) 790-0191
Telephone: (617) 248-7516
Attention: Edwin L. Miller, Jr., Esq.
(b) If to Buyer of Buyer Subsidiary, to it at:
Digi International Inc.
11001 Bren Road East
Minnetonka, MN 55343
Telecopy: (952) 912-4998
Telephone: (952) 912-3125
Attention: Kris Krishnan, Senior Vice President
and Chief Financial Officer
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with a copy to:
Faegre & Benson LLP
2200 Wells Fargo Center
90 South Seventh Street
Minneapolis, MN 55402
Telecopy: (612) 766-1600
Telephone: (612) 766-8408
Attention: James E. Nicholson, Esq.
SECTION 10.8 Assignment. This Agreement shall be binding upon and shall
inure to the benefit of the parties hereto and their respective successors and
permitted assigns, but neither this Agreement nor any of the rights, interests
or obligations hereunder shall be assigned by any party without the prior
written consent of the other parties. Except for the provisions of Article II
and Sections 7.7, 7.8 and 7.9, this Agreement is not intended to confer upon any
other person except the parties any rights or remedies hereunder.
SECTION 10.9 Rules of Interpretation. As used in this Agreement,
(a) "including" means "including without limitation";
(b) "person" includes an individual, a partnership, a limited
liability company, a joint venture, a corporation, a trust, an incorporated
organization, and a government or any department or agency thereof;
(c) "affiliate" has the meaning set forth in Rule 12b-2 promulgated
under the Exchange Act;
(d) "business day" means any day other than a Saturday, Sunday or a
day that is a statutory holiday under the laws of the United States or the
State of Massachusetts;
(e) all dollar amounts are expressed in United States funds;
(f) the phrase "to the knowledge of the Company" or "to the knowledge
of the Buyer," or any similar phrase, means the actual knowledge of one or
more of the executive officers of the Company or Buyer, as the case may be;
and
(g) all references to statutes or regulations are deemed to refer to
such statutes and regulations as amended from time to time or as superseded
by comparable successor statutory provisions.
SECTION 10.10 Governing Law. This Agreement shall be governed by the laws
of the State of Delaware (except to the extent such matter is the proper subject
of the MBCL, in which event the laws of the Commonwealth of Massachusetts shall
govern) without giving effect to conflict-of-laws principles.
SECTION 10.11 Counterparts. This Agreement may be executed in two or more
counterparts, each of which shall be deemed an original, but all of which
together shall constitute the same instrument.
SECTION 10.12 Headings; Internal References. The Article and Section
headings contained in this Agreement are solely for the purpose of reference,
and are not part of the agreement of the parties and shall not affect in any way
the meaning or interpretation of this Agreement.
SECTION 10.13 Entire Agreement. This Agreement, including the Company
Disclosure Schedule, the Buyer Disclosure Schedule and the Exhibits, and the
Confidentiality Agreement, embody the entire agreement and understanding of the
parties hereto in respect of the subject matter contained herein, and supersede
all prior agreements and understandings among the parties with respect to such
subject matter including, specifically, the letter agreement dated August 7,
2001 between Buyer and the Company. There are no restrictions, promises,
representations, warranties (express or implied), covenants, or undertakings of
the parties in respect of the subject matter set forth herein, other than those
expressly set forth or referred to in this Agreement, or the Confidentiality
Agreement.
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SECTION 10.14 Severability. If any term of this Agreement is held by a
court of competent jurisdiction to be invalid, void, or unenforceable, the
remainder of the terms hereof will continue in full force and effect and will in
no way be affected, impaired, or invalidated.
SECTION 10.15 Equitable Remedies. The parties agree that money damages or
another remedy at law would not be a sufficient or adequate remedy for any
breach or violation of, or default under, this Agreement by them and that in
addition to all other remedies available to them, each of them shall be
entitled, to the fullest extent permitted by law, to an injunction restraining
such breach, violation, or default or threatened breach, violation, or default
and to any other equitable relief, including specific performance, without bond
or other security being required.
SECTION 10.16 Disclosure Schedules. Matters reflected in the Company
Disclosure Schedule or the Buyer Disclosure Schedule are not necessarily limited
to matters required by this Agreement to be reflected in the Company Disclosure
Schedule or the Buyer Disclosure Schedule. Such additional matters are set forth
for informational purposes and do not necessarily include other matters of a
similar nature that are not required to be reflected in the Company Disclosure
Schedule or the Buyer Disclosure Schedule. A disclosure made by the Company or
Buyer in any Section of this Agreement or its Disclosure Schedule that is
sufficient to reasonably inform the other of information required to be
disclosed in another Section of this Agreement or the Disclosure Schedule in
order to avoid a misrepresentation thereunder shall be deemed to have been made
with respect to such other Section of this Agreement or the Disclosure Schedule.
IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be
signed by their respective officers thereunto duly authorized, all as of the
date first above written.
DIGI INTERNATIONAL INC. NETSILICON, INC.
By: /s/ Joseph T. Dunsmore By: /s/ Cornelius Peterson VIII
--------------------------------------- ---------------------------------------
Name: Joseph T. Dunsmore Name: Cornelius Peterson VIII
------------------------------------ ------------------------------------
Title: President & CEO Title: CEO
------------------------------------- -------------------------------------
DOVE SUB INC.
By: /s/ Joseph T. Dunsmore
---------------------------------------
Name: Joseph T. Dunsmore
------------------------------------
Title: President & CEO
-------------------------------------
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INDEX OF DEFINED TERMS
TERM SECTION
---- -----------
Affiliate................................................... 10.9(c)
Aggregate Consideration..................................... 2.2(b)
Agreement................................................... Preamble
Articles of Merger.......................................... 1.3
Assumed Company Stock Options............................... 2.2(i)
Benefit Plan................................................ 3.15(a)
Business day................................................ 10.9(d)
Buyer....................................................... Preamble
Buyer Balance Sheet......................................... 4.5(c)
Buyer Common Stock.......................................... 2.1(b)
Buyer Disclosure Schedule................................... Article IV
Buyer Employee.............................................. 4.7(k)
Buyer Employee Agreement.................................... 4.15(a)
Buyer Employee Plan......................................... 4.15(a)
Buyer Employee Plans........................................ 4.15(a)
Buyer Material Adverse Effect............................... 3.1
Buyer Material Contracts.................................... 4.10
Buyer Proprietary Rights.................................... 4.11
Buyer Rights................................................ 4.2
Buyer Rights Agreement...................................... 4.2
Buyer SEC Report............................................ 4.5(a)
Buyer SEC Reports........................................... 4.5(a)
Buyer Series A Preferred Stock.............................. 4.2
Buyer Shareholders Meeting.................................. 7.1(a)
Buyer Shares................................................ 2.2(b)
Buyer Stockholder Agreement................................. 7.1(a)
Buyer Subsidiary............................................ Preamble
Buyer's Average Price....................................... 2.1(b)
Cash Consideration.......................................... 2.1(b)
Cash Election............................................... 2.1(b)
Cash Election Number........................................ 2.1(b)
Cash Election Shares........................................ 2.1(b)
Cash Fraction............................................... 2.1(b)
CERCLIS..................................................... 3.17(e)
Certificate of Merger....................................... 1.3
Certificates of Merger...................................... 1.3
Closing..................................................... 1.2
Closing Date................................................ 1.2
Code........................................................ 2.2(g)
Company..................................................... Preamble
Company Affiliates.......................................... 7.14
Company Balance Sheet....................................... 3.5(c)
Company Common Stock........................................ 2.1(b)
A-50
TERM SECTION
---- -----------
Company Disclosure Schedule................................. Article III
Company Employee............................................ 3.7(k)
Company Employee Agreement.................................. 3.15(a)
Company Employee Plan....................................... 3.15(a)
Company Employee Plans...................................... 3.15(a)
Company ESPP................................................ 2.2(j)
Company Material Adverse Effect............................. 3.1
Company Material Contracts.................................. 3.10
Company Non-Voting Stock.................................... 3.2
Company Proprietary Rights.................................. 3.11
Company Rights.............................................. 3.2
Company Rights Agreement.................................... 3.2
Company SEC Report.......................................... 3.5(a)
Company SEC Reports......................................... 3.5(a)
Company Series A Preferred Stock............................ 3.2
Company Shareholders Meeting................................ 7.1(a)
Company Stock Options....................................... 2.2(i)
Company Stock Plans......................................... 2.2(i)
Company Stockholder Agreement............................... 7.1(a)
Company Superior Third-Party Acquisition Offer.............. 7.2(a)
Company Third-Party Acquisition............................. 9.3(a)
Company Third-Party Acquisition Offer....................... 7.2(a)
Company Voting Stock........................................ 3.2
Confidentiality Agreement................................... 7.2(a)
Constituent Corporations.................................... Preamble
DGCL........................................................ 1.3
Dissenting Shares........................................... 2.1(d)
DOL......................................................... 3.15(a)
Effective Time.............................................. 1.3
Election.................................................... 2.1(b)
Election Deadline........................................... 2.1(b)
End Date.................................................... 9.1(b)
Environmental Law........................................... 3.16(a)
Environmental Matter........................................ 3.16(a)
Environmental Permits....................................... 3.16(b)
ERISA....................................................... 3.15(a)
ERISA Affiliate............................................. 3.15(o)
ESPP Option................................................. 2.2(j)
Exchange Act................................................ 3.4
Exchange Agent.............................................. 2.1(b)
Exchange Ratio.............................................. 2.1(b)
Excluded Shares............................................. 2.1(b)
Expense Reimbursement Amount................................ 9.3(a)
Form of Election............................................ 2.1(b)
A-51
TERM SECTION
---- -----------
Fractional Shares........................................... 2.1(b)
GAAP........................................................ 3.5(b)
Hazardous Substance......................................... 3.16(a)
Holder Representative....................................... 2.1(b)
HSR Act..................................................... 3.4
including................................................... 10.9(a)
Injunction.................................................. 8.1(e)
Intention Notice............................................ 9.1(e)
IRS......................................................... 3.15(a)
Joint Proxy Statement....................................... 7.1(b)
Mailing Date................................................ 2.1(b)
Material Adverse Effect..................................... 3.1
MBCL........................................................ 1.3
Merger...................................................... Preamble
Merger Consideration........................................ 2.1(b)
Mixed Consideration......................................... 2.1(b)
Mixed Election.............................................. 2.1(b)
Named Buyer Stockholders.................................... 7.1(a)
Named Company Stockholders.................................. 7.1(a)
No Election Shares.......................................... 2.1(b)
Non-Assumed Company Stock Options........................... 2.2(i)
Old Certificates............................................ 2.1(b)
Outstanding Shares.......................................... 2.1(b)
PBGC........................................................ 3.15(e)
Pension Plan................................................ 3.15(a)
Permitted Investments....................................... 2.2(a)
person...................................................... 10.9(b)
Proprietary Rights.......................................... 3.11
Registration Statement...................................... 7.1(b)
Replacement Option.......................................... 2.2(i)
SEC......................................................... 3.5(a)
Securities Act.............................................. 3.5(a)
Shareholder Meetings........................................ 7.1(a)
Sorrento.................................................... 3.22
Stock Consideration......................................... 2.1(b)
Stock Election.............................................. 2.1(b)
Stock Issuance.............................................. 7.1(a)
Stockholder Agreement....................................... 3.22
Subsidiary.................................................. 3.1
Surviving Corporation....................................... 1.1
Surviving Corporation Material Adverse Effect............... 3.1
Tax Return.................................................. 3.8(a)
Taxes....................................................... 3.8(a)
Termination Fee............................................. 9.3(a)
A-52
TERM SECTION
---- -----------
Welfare Plan................................................ 3.15(a)
WireSpeed Warrants.......................................... 2.2(k)
A-53
ANNEX B
VOTING AGREEMENT
This Voting Agreement is dated as of October 30, 2001, among Digi
International Inc., a Delaware corporation (the "Company"), and the persons
listed on Annex A hereto, each of whom is a stockholder (a "Stockholder") of
NetSilicon, Inc., a Massachusetts corporation (the "Target").
RECITALS
A. The Company, Dove Sub Inc., a Delaware corporation and wholly owned
subsidiary of the Company ("Merger Sub"), and the Target are entering into an
Agreement and Plan of Merger dated as of the date hereof (the "Merger
Agreement"), pursuant to which the Target shall merge (the "Merger") with and
into Merger Sub and the existing shareholders of the Target shall receive cash
and common stock of the Company in exchange for their shares of common stock of
the Target ("Target Common Stock").
B. Each Stockholder is a director or executive officer of the Target.
C. The execution and delivery of this Agreement is a condition precedent to
the Company entering into the Merger Agreement.
AGREEMENT
Now, therefore, the parties hereby agree as follows:
1. Voting; Proxy.
(a) During the term of this Agreement, at each meeting of the Target's
stockholders convened to consider and vote upon the approval of the Merger
Agreement, each Stockholder agrees to vote (to the extent not voted by the
person or persons appointed under the proxy granted under Section 1(b)) all
shares of Target Common Stock owned of record by the Stockholder at the
record date for the vote (including, except for any shares for which the
Stockholder's sole voting power results from his or her having been named
as proxy pursuant to the proxy solicitation conducted by the Target's Board
of Directors in connection with the meeting, any shares of Target Common
Stock over which the Stockholder has voting power, by contract or
otherwise) in favor of the approval of the Merger Agreement.
(b) Each Stockholder acknowledges that he or she has executed and
delivered to the Company an irrevocable proxy in the form of Annex B
hereto.
2. No Transfer. During the term of this Agreement, each Stockholder
agrees that he or she shall not sell, pledge, assign, or otherwise transfer, or
authorize, propose, or agree to the sale, pledge, assignment, or other transfer
of, any of his or her shares of Target Common Stock, unless (a) at least two
business days' written notice of the proposed transfer is provided to the
Company and (b) the intended transferee agrees in writing to be bound by this
Agreement as if he or she were a Stockholder.
3. Representations and Warranties. Each Stockholder, severally and not
jointly, represents and warrants to the Company with respect to himself or
herself as follows:
(a) Authority. He or she has the requisite power and authority to
enter into this Agreement, to perform his or her obligations hereunder, and
to consummate the transactions contemplated hereby. This Agreement has been
duly executed and delivered by him or her and constitutes his or her valid
and binding obligation, enforceable against him or her in accordance with
its terms, except as the enforceability hereof may be limited by
bankruptcy, insolvency, moratorium, or similar laws affecting the
enforcement of creditors' rights generally, and except for judicial
limitations on the enforcement of the remedy of specific performance and
other equitable remedies.
B-1
(b) Title; Authority to Vote Shares. He or she owns of record and has
voting power over the number of shares of Target Common Stock set forth
beside his or her name on Annex A hereto; and such shares are held by him
or her free and clear of all liens, charges, pledges, restrictions, and
encumbrances that would prevent him or her from performing his or her
obligations hereunder.
(c) Noncontravention. Neither his or her execution and delivery of
this Agreement, nor his or her consummation of any of the transactions
contemplated hereby, nor his or her compliance with any of the provisions
hereof will violate, conflict with, or result in a breach of, or constitute
a default (or an event that, with notice or lapse of time or both, would
constitute a default) under, or result in the termination or suspension of,
or accelerate the performance required by, or result in a right of
termination or acceleration under, or result in the creation of any lien
upon, any of his or her properties or assets under any agreement or
instrument to which he or she is a party or any statute, rule, regulation,
judgment, order, decree, or other legal requirement applicable to him or
her.
(d) Litigation. (i) There is no claim, action, proceeding, or
investigation pending or, to his or her knowledge, threatened against or
relating to him or her before any court or governmental or regulatory
authority or body (including the National Association of Securities
Dealers, Inc.), and (ii) he or she is not subject to any outstanding order,
writ, injunction, or decree, that, in the case of clause (i) or (ii), if
determined adversely, would prohibit him or her from performing his or her
obligations hereunder.
4. Termination. This Agreement shall terminate automatically and without
further action on behalf of any party at the earlier of (a) the Effective Time
or (b) the date and time the Merger Agreement is terminated pursuant to its
terms. In the event of a termination of this Agreement pursuant to this Section
4, this Agreement shall forthwith become void and there shall be no liability or
obligation on the part of any party; provided, however, that nothing herein
shall release any party from any liability for any breach of this Agreement. If
this Agreement is terminated, the proxies of the Stockholders delivered under
Section 1(b) hereof shall also terminate and be of no further force or effect,
and the Company shall promptly return the proxies to the respective
Stockholders.
5. Director Matters Excluded. The Company acknowledges and agrees that,
with respect to each Stockholder that is a member of the Target's Board of
Directors, no provision of this Agreement shall limit or otherwise restrict such
Stockholder with respect to any act or omission that he may undertake or
authorize in his capacity as a member of the Target's Board of Directors,
including, without limitation, any vote that such Stockholder may make as a
director of the Target with respect to any matter presented to the Target's
Board of Directors.
6. Miscellaneous.
(a) Notices. All notices and other communications hereunder shall be
in writing and shall be deemed given if delivered personally, effective
when delivered, or if delivered by express delivery service, effective when
delivered, or if mailed by registered or certified mail (return receipt
requested), effective three business days after mailing, or if delivered by
telecopy, effective when telecopied with confirmation of receipt, to the
parties at the following addresses (or at such other address for a party as
shall be specified by like notice):
If to a Stockholder at the address and/or telecopy number set forth
under his or her name on Annex A hereto;
If to Company to:
Digi International Inc.
11001 Bren Road East
Minnetonka, Minnesota 55343
Telecopy: (952) 912-4998
Telephone: (952) 912-3444
Attention: Chief Financial Officer
B-2
(b) Interpretation. The headings contained in this Agreement are for
reference purposes only and do not affect the interpretation of this
Agreement.
(c) Counterparts. This Agreement may be executed in one or more
counterparts, all of which shall be considered the same agreement.
(d) Entire Agreement. This Agreement (along with the documents and
instruments referred to herein, including the Merger Agreement),
constitutes the entire agreement and supersedes all prior and
contemporaneous agreements and understandings, both written and oral,
between the parties with respect to the subject matter hereof.
(e) Severability. The invalidity or unenforceability of any provision
of this Agreement shall not affect the validity or enforceability of any
other provisions of this Agreement. Whenever possible, each provision of
this Agreement will be interpreted in such manner as to be effective and
valid under applicable law.
(f) Governing Law. This Agreement shall be governed by Delaware law,
without regard to the principles of conflicts of law.
(g) Assignment. Neither this Agreement nor any of the rights,
interests, or obligations hereunder may be assigned by any party, whether
by operation of law or otherwise, without the express written consent of
the other party. Subject to the preceding sentence, this Agreement will be
binding upon, inure to the benefit of, and be enforceable by the parties
and their respective successors, heirs, legal representatives, and
permitted assigns. The representations, agreements, and obligations of the
Stockholders contained herein shall survive the death or incapacity of any
Stockholder and shall be binding upon the heirs, personal representatives,
successors, and assigns of each Stockholder.
(h) Remedies. In addition to all other remedies available, the
parties agree that, in the event of a breach by a party of any of its
obligations hereunder, the non-breaching party shall be entitled to
specific performance or injunctive relief.
(i) Defined Terms. All capitalized terms used but not defined herein
have the meanings given them in the Merger Agreement.
B-3
IN WITNESS WHEREOF, each of the parties have signed this Agreement as of
the date first written above.
DIGI INTERNATIONAL INC.
By
------------------------------------
Its Chief Financial Officer
--------------------------------------
Cornelius Peterson VIII
--------------------------------------
Michael Ballard
--------------------------------------
Francis Girard
--------------------------------------
William Johnson
--------------------------------------
F. Grant Saviers
--------------------------------------
Daniel Sullivan
--------------------------------------
John Brennan
B-4
ANNEX A
NUMBER OF SHARES OF
NAME TARGET COMMON STOCK
---- -------------------
Cornelius Peterson VIII..................................... 62,285
Michael Ballard............................................. 10,000
Francis Girard.............................................. 5,000
William Johnson............................................. 3,000
F. Grant Saviers............................................ 18,300
Daniel Sullivan............................................. 1,000
John Brennan................................................ 946
B-5
ANNEX B
IRREVOCABLE PROXY
The undersigned, revoking any proxy heretofore given, hereby constitutes
and appoints each of Joseph T. Dunsmore and Subramanian (Kris) Krishnan the true
and lawful attorney, with full power of substitution, for and in the name of the
undersigned to vote, at any time before the Termination (defined below), all
shares of common stock of NetSilicon, Inc., a Massachusetts corporation (the
"Target"), or other shares of capital stock of the Target entitled to vote on
the business to be transacted, (1) registered in the name of the undersigned at
the record date for such vote, or (2) except as set forth below, over which the
undersigned has voting power by power of attorney or other contractual
arrangements with the owner of record (collectively, the "Shares"), at any
meeting of the stockholders of the Target, and at all adjournments thereof, and
pursuant to any consent of the stockholders in lieu of a meeting or otherwise,
in favor of approval of the Merger Agreement (defined below).
This Proxy is given with respect to the approval of the Agreement and Plan
of Merger among Digi International Inc., a Delaware corporation (the "Company"),
Dove Sub Inc., a Delaware corporation and wholly owned subsidiary of the
Company, and the Target, dated as of October , 2001 (the "Merger Agreement").
This Proxy is given to induce the Company to enter into the Merger Agreement, is
coupled with an interest, and is irrevocable; provided, however, that this Proxy
shall terminate automatically and without further action on behalf of the
undersigned upon the termination of the Voting Agreement, dated as of the date
hereof, among the Company and each of the persons and entities listed on Annex A
thereto (the "Termination").
Notwithstanding clause (2) of the first paragraph above, this Proxy shall
not include any shares of capital stock of the Target that are not subject to
clause (1) of the first paragraph above for which the undersigned's only voting
power results from the undersigned having been named as proxy pursuant to the
proxy solicitation conducted by the Target's Board of Directors in connection
with a meeting of the stockholders of the Target and over which the undersigned
does not otherwise have voting power with respect thereto.
The undersigned hereby ratifies and confirms all that the proxies named
herein may lawfully do or cause to be done by virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereunto set his or her hand as of
this day of October, 2001.
--------------------------------------
B-6
ANNEX C
VOTING AGREEMENT
This Voting Agreement is dated as of October 30, 2001, among NetSilicon,
Inc., a Massachusetts corporation (the "Company"), and the persons listed on
Annex A hereto, each of whom is a stockholder (a "Stockholder") of Digi
International Inc., a Delaware corporation (the "Buyer").
RECITALS
A. The Buyer, Dove Sub Inc., a Delaware corporation and wholly owned
subsidiary of the Buyer ("Merger Sub"), and the Company are entering into an
Agreement and Plan of Merger dated as of the date hereof (the "Merger
Agreement"), pursuant to which the Company shall merge (the "Merger") with and
into Merger Sub and the existing shareholders of the Company shall receive cash
and common stock of the Buyer ("Buyer Common Stock") in exchange for their
shares of common stock of the Company.
B. Each Stockholder is a director or executive officer of the Buyer.
C. The execution and delivery of this Agreement is a condition precedent to
the Company entering into the Merger Agreement.
AGREEMENT
Now, therefore, the parties hereby agree as follows:
1. Voting; Proxy.
(a) During the term of this Agreement, at each meeting of the Buyer's
stockholders convened to consider and vote upon the issuance of shares of
Buyer Common Stock in the Merger, each Stockholder agrees to vote (to the
extent not voted by the person or persons appointed under the proxy granted
under Section 1(b)) all shares of Buyer Common Stock owned of record by the
Stockholder at the record date for the vote (including, except for any
shares for which the Stockholder's sole voting power results from his or
her having been named as proxy pursuant to the proxy solicitation conducted
by the Buyer's Board of Directors in connection with the meeting, any
shares of Buyer Common Stock over which the Stockholder has voting power,
by contract or otherwise) in favor of the approval of the stock issuance.
(b) Each Stockholder acknowledges that he or she has executed and
delivered to the Company an irrevocable proxy in the form of Annex B
hereto.
2. No Transfer. During the term of this Agreement, each Stockholder
agrees that he or she shall not sell, pledge, assign, or otherwise transfer, or
authorize, propose, or agree to the sale, pledge, assignment, or other transfer
of, any of his or her shares of Buyer Common Stock, unless (a) at least two
business days' written notice of the proposed transfer is provided to the
Company and (b) the intended transferee agrees in writing to be bound by this
Agreement as if he or she were a Stockholder.
3. Representations and Warranties. Each Stockholder, severally and not
jointly, represents and warrants to the Company with respect to himself or
herself as follows:
(a) Authority. He or she has the requisite power and authority to
enter into this Agreement, to perform his or her obligations hereunder, and
to consummate the transactions contemplated hereby. This Agreement has been
duly executed and delivered by him or her and constitutes his or her valid
and binding obligation, enforceable against him or her in accordance with
its terms, except as the enforceability hereof may be limited by
bankruptcy, insolvency, moratorium, or similar laws affecting the
enforcement of creditors' rights generally, and except for judicial
limitations on the enforcement of the remedy of specific performance and
other equitable remedies.
C-1
(b) Title; Authority to Vote Shares. He or she owns of record and has
voting power over the number of shares of Buyer Common Stock set forth
beside his or her name on Annex A hereto; and such shares are held by him
or her free and clear of all liens, charges, pledges, restrictions, and
encumbrances that would prevent him or her from performing his or her
obligations hereunder.
(c) Noncontravention. Neither his or her execution and delivery of
this Agreement, nor his or her consummation of any of the transactions
contemplated hereby, nor his or her compliance with any of the provisions
hereof will violate, conflict with, or result in a breach of, or constitute
a default (or an event that, with notice or lapse of time or both, would
constitute a default) under, or result in the termination or suspension of,
or accelerate the performance required by, or result in a right of
termination or acceleration under, or result in the creation of any lien
upon, any of his or her properties or assets under any agreement or
instrument to which he or she is a party or any statute, rule, regulation,
judgment, order, decree, or other legal requirement applicable to him or
her.
(d) Litigation. (i) There is no claim, action, proceeding, or
investigation pending or, to his or her knowledge, threatened against or
relating to him or her before any court or governmental or regulatory
authority or body (including the National Association of Securities
Dealers, Inc.), and (ii) he or she is not subject to any outstanding order,
writ, injunction, or decree, that, in the case of clause (i) or (ii), if
determined adversely, would prohibit him or her from performing his or her
obligations hereunder.
4. Termination. This Agreement shall terminate automatically and without
further action on behalf of any party at the earlier of (a) the Effective Time
or (b) the date and time the Merger Agreement is terminated pursuant to its
terms. In the event of a termination of this Agreement pursuant to this Section
4, this Agreement shall forthwith become void and there shall be no liability or
obligation on the part of any party; provided, however, that nothing herein
shall release any party from any liability for any breach of this Agreement. If
this Agreement is terminated, the proxies of the Stockholders delivered under
Section 1(b) hereof shall also terminate and be of no further force or effect,
and the Company shall promptly return the proxies to the respective
Stockholders.
5. Director Matters Excluded. The Company acknowledges and agrees that,
with respect to each Stockholder that is a member of the Buyer's Board of
Directors, no provision of this Agreement shall limit or otherwise restrict such
Stockholder with respect to any act or omission that he may undertake or
authorize in his capacity as a member of the Buyer's Board of Directors,
including, without limitation, any vote that such Stockholder may make as a
director of the Buyer with respect to any matter presented to the Buyer's Board
of Directors.
6. Miscellaneous.
(a) Notices. All notices and other communications hereunder shall be
in writing and shall be deemed given if delivered personally, effective
when delivered, or if delivered by express delivery service, effective when
delivered, or if mailed by registered or certified mail (return receipt
requested), effective three business days after mailing, or if delivered by
telecopy, effective when telecopied with confirmation of receipt, to the
parties at the following addresses (or at such other address for a party as
shall be specified by like notice):
If to a Stockholder at the address and/or telecopy number set forth
under his or her name on Annex A hereto;
If to Company to:
NetSilicon, Inc.
411 Waverley Oaks Rd., Bldg. 227
Waltham, Massachusetts 02452
Telecopy: (781) 398-4877
Telephone: (781) 647-1234
Attention: Chief Financial Officer
C-2
(b) Interpretation. The headings contained in this Agreement are for
reference purposes only and do not affect the interpretation of this
Agreement.
(c) Counterparts. This Agreement may be executed in one or more
counterparts, all of which shall be considered the same agreement.
(d) Entire Agreement. This Agreement (along with the documents and
instruments referred to herein, including the Merger Agreement),
constitutes the entire agreement and supersedes all prior and
contemporaneous agreements and understandings, both written and oral,
between the parties with respect to the subject matter hereof.
(e) Severability. The invalidity or unenforceability of any provision
of this Agreement shall not affect the validity or enforceability of any
other provisions of this Agreement. Whenever possible, each provision of
this Agreement will be interpreted in such manner as to be effective and
valid under applicable law.
(f) Governing Law. This Agreement shall be governed by Delaware law,
without regard to the principles of conflicts of law.
(g) Assignment. Neither this Agreement nor any of the rights,
interests, or obligations hereunder may be assigned by any party, whether
by operation of law or otherwise, without the express written consent of
the other party. Subject to the preceding sentence, this Agreement will be
binding upon, inure to the benefit of, and be enforceable by the parties
and their respective successors, heirs, legal representatives, and
permitted assigns. The representations, agreements, and obligations of the
Stockholders contained herein shall survive the death or incapacity of any
Stockholder and shall be binding upon the heirs, personal representatives,
successors, and assigns of each Stockholder.
(h) Remedies. In addition to all other remedies available, the
parties agree that, in the event of a breach by a party of any of its
obligations hereunder, the non-breaching party shall be entitled to
specific performance or injunctive relief.
(i) Defined Terms. All capitalized terms used but not defined herein
have the meanings given them in the Merger Agreement.
C-3
IN WITNESS WHEREOF, each of the parties have signed this Agreement as of
the date first written above.
NETSILICON, INC.
By
------------------------------------
Name: Daniel J. Sullivan
Its: Chief Financial Officer
--------------------------------------
Joseph T. Dunsmore
--------------------------------------
Subramanian Krishnan
--------------------------------------
Douglas J. Glader
--------------------------------------
Bruce H. Berger
--------------------------------------
Kenneth E. Millard
--------------------------------------
Mykola Moroz
--------------------------------------
Michael S. Seedman
--------------------------------------
David Stanley
--------------------------------------
Bradley J. Williams
C-4
ANNEX A
NUMBER OF SHARES OF
NAME BUYER COMMON STOCK
---- -------------------
Joseph T. Dunsmore.......................................... 4,500
c/o Digi International Inc.
11001 Bren Road East
Minnetonka, MN 55343
Telecopy: (952) 912-4949
Subramanian Krishnan........................................ 18,405.4046
c/o Digi International Inc.
11001 Bren Road East
Minnetonka, MN 55343
Telecopy: (952) 912-4949
Douglas J. Glader........................................... 42,788.6324
c/o Digi International Inc.
11001 Bren Road East
Minnetonka, MN 55343
Telecopy: (952) 912-4949
Bruce H. Berger............................................. 0
c/o Digi International Inc.
11001 Bren Road East
Minnetonka, MN 55343
Telecopy: (952) 912-4949
Kenneth E. Millard.......................................... 0
647 North Lakeview Parkway
Vernon Hills, IL 60061
Telecopy: (847) 247-1242
Mykola Moroz................................................ 7,536
4160 Dallas Lane North
Plymouth, MN 55446
Telecopy: (763) 557-1062
Michael S. Seedman.......................................... 0
2025 Hidden Ridge
Highland Park, IL 60035
Telecopy: (847) 831-8826
David Stanley............................................... 15,250
3424 Zenith Avenue South
Minneapolis, MN 55416
Telecopy: (612) 927-1085
Bradley J. Williams......................................... 0
111 NW 9th Street, Suite 5
Ankeny, IA 50021
Telecopy: (515) 963-3492
C-5
ANNEX B
IRREVOCABLE PROXY
The undersigned, revoking any proxy heretofore given, hereby constitutes
and appoints each of Cornelius Peterson VIII and Daniel J. Sullivan the true and
lawful attorney, with full power of substitution, for and in the name of the
undersigned to vote, at any time before the Termination (defined below), all
shares of common stock of Digi International Inc., a Delaware corporation (the
"Buyer"), or other shares of capital stock of the Buyer entitled to vote on the
business to be transacted, (1) registered in the name of the undersigned at the
record date for such vote, or (2) except as set forth below, over which the
undersigned has voting power by power of attorney or other contractual
arrangements with the owner of record (collectively, the "Shares"), at any
meeting of the stockholders of the Buyer, and at all adjournments thereof, and
pursuant to any consent of the stockholders in lieu of a meeting or otherwise,
in favor of approval of the Stock Issuance (defined below).
This Proxy is given with respect to the approval of the issuance of shares
of common stock of the Buyer (the "Stock Issuance") pursuant to the Agreement
and Plan of Merger among the Buyer, Dove Sub Inc., a Delaware corporation and
wholly owned subsidiary of the Buyer, and NetSilicon, Inc., a Massachusetts
corporation (the "Company"), dated as of October 30, 2001 (the "Merger
Agreement"). This Proxy is given to induce the Company to enter into the Merger
Agreement, is coupled with an interest, and is irrevocable; provided, however,
that this Proxy shall terminate automatically and without further action on
behalf of the undersigned upon the termination of the Voting Agreement, dated as
of the date hereof, among the Company and each of the persons and entities
listed on Annex A thereto (the "Termination").
Notwithstanding clause (2) of the first paragraph above, this Proxy shall
not include any shares of capital stock of the Buyer that are not subject to
clause (1) of the first paragraph above for which the undersigned's only voting
power results from the undersigned having been named as proxy pursuant to the
proxy solicitation conducted by the Buyer's Board of Directors in connection
with a meeting of the stockholders of the Buyer and over which the undersigned
does not otherwise have voting power with respect thereto.
The undersigned hereby ratifies and confirms all that the proxies named
herein may lawfully do or cause to be done by virtue hereof.
IN WITNESS WHEREOF, the undersigned has hereunto set his or her hand as of
this day of October, 2001.
--------------------------------------
C-6
ANNEX D
STOCKHOLDER AGREEMENT
This Stockholder Agreement (this "Agreement") is entered into as of the
30th day of October, 2001, between Digi International Inc., a Delaware
corporation (the "Company"), and Sorrento Networks Corporation, a New Jersey
corporation (the "Stockholder").
RECITALS
A. The Company has entered into an Agreement and Plan of Merger (the
"Merger Agreement"), dated as of the date hereof, among the Company, Dove Sub
Inc., a Delaware corporation and wholly owned subsidiary of the Company ("Merger
Subsidiary"), and NetSilicon, Inc., a Massachusetts corporation (the "Target").
B. The Merger Agreement provides for the merger of the Target with and into
Merger Subsidiary, with the existing shareholders of the Target being entitled
to receive cash and common stock of the Company in exchange for their shares of
common stock of the Target.
C. All shares of Buyer Common Stock issuable to the existing stockholders
of the Target, including the Stockholder, pursuant to the Merger Agreement,
shall be registered under the Securities Act.
D. The Stockholder has no right to vote on the Merger Agreement or the
Merger under Massachusetts law or the Articles of Incorporation of the Target.
E. The Stockholder is a significant shareholder of the Target and will
become a significant stockholder of the Company at the Effective Time.
F. As a condition to the Company's willingness to enter into the Merger
Agreement, the Company has required that, simultaneously with the execution of
the Merger Agreement, the Stockholder agree to the terms hereof.
G. The Stockholder has reviewed the Merger Agreement, approves of it, and,
in order to induce the Company to enter into the Merger Agreement, is willing to
agree to the terms hereof.
H. Capitalized terms used but not otherwise defined herein shall have the
meanings given them in the Merger Agreement.
AGREEMENT
Now, therefore, the parties hereby agree as follows:
1. No Solicitation. The Stockholder will not, and will cause its
officers, directors and employees, in their capacities as such, and its agents
or representatives (including any investment banker or attorney retained by it)
not to, initiate, solicit, or encourage, directly or indirectly, any inquiries
or the making or implementation of any Company Third-Party Acquisition Offer or
provide any confidential information or data to, or have any discussions with,
any person relating to a Company Third-Party Acquisition Offer, or otherwise
facilitate any effort or attempt to make or implement a Company Third-Party
Acquisition Offer. The Stockholder shall notify the Company immediately if any
such inquiries or proposals are received by, any such information is requested
from, or any such negotiations or discussions are sought to be initiated or
continued with, it.
2. Standstill. Following the Stockholder's receipt of Buyer Common Stock
pursuant to the consummation of the Merger (the "Merger Shares"), the
Stockholder agrees that, until such time as the
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Stockholder holds less than five percent of the then-outstanding shares of Buyer
Common Stock, the Stockholder will not (and will not assist or encourage others
to), directly or indirectly:
(a) acquire or agree, offer, seek, or propose to acquire, or cause to
be acquired, beneficial ownership of any of the Company's assets (other
than acquisitions of inventory in the ordinary course of business) or
businesses or any shares of Buyer Common Stock;
(b) otherwise propose, offer, seek, or agree to the merger or
consolidation of the Company or the entering into of any other business
combination involving the Company;
(c) seek or propose to influence or control the management or policies
of the Company or to obtain representation on the Company's Board of
Directors, or solicit, or participate in the solicitation of, proxies or
consents with respect to any securities of the Company in connection with
the election of directors or any other matter, or disclose to the public by
press release or other communication its position concerning the election
of directors or any other matter to be considered by the shareholders of
the Company;
(d) make any other public announcement with respect to any of the
foregoing; or
(e) enter into any discussions, negotiations, arrangements, or
understandings with any third party with respect to any of the foregoing.
3. Restrictions on Transfer of Shares.
(a) Restriction on Transfer. Except for sales to the Company and
except as provided in Sections 4 and 5, the Stockholder may not offer to
sell, contract to sell, or otherwise sell, dispose of, loan, pledge, or
grant any rights with respect to (collectively, a "Disposition") any Merger
Shares, options or warrants to purchase any shares of Buyer Common Stock,
or any securities convertible into or exchangeable for Buyer Common Stock
(collectively, "Securities") during the term of this Agreement. The
Stockholder agrees that the foregoing restriction precludes the Stockholder
from engaging in any hedging or other transaction that is designed to or
reasonably expected to lead to or result in a Disposition of Securities,
even if the Securities would be disposed of by someone other than the
Stockholder. Prohibited hedging or other transactions include any short
sale (whether or not against the box) or any purchase, sale, or grant of
any right (including any put or call option) with respect to any Securities
or with respect to any security (other than a broad-based market basket or
index) that includes, relates to, or derives any significant part of its
value from Securities. Any Disposition or attempted Disposition in
violation of this Agreement shall be void.
(b) Stop-Transfer Instructions. The Stockholder consents to the entry
of stop-transfer instructions with the Company's transfer agent and
registrar against the Disposition of the Securities, except Dispositions of
Merger Shares in compliance with Section 4 or 5.
(c) Legend. Each certificate representing the Merger Shares shall be
endorsed with the following legend:
The shares evidenced by this certificate are subject to a Stockholder
Agreement dated as of October 30, 2001 between Digi International Inc.
(the "Company") and Sorrento Networks Corporation providing for, among
other matters, certain restrictions on transfer of the shares
represented by this certificate. A copy of the agreement is on file at
the principal business office of the Company.
4. Permitted Sales. Except for sales of Merger Shares to the Company and
Dispositions permitted under Section 5, the Stockholder may effect a Disposition
of Merger Shares only as follows:
(a) from the Effective Time until the date that is six months after
the Effective Time, the Stockholder may sell Merger Shares pursuant to
"brokers' transactions," within the meaning of Section 4(4) of the
Securities Act, or in transactions directly with a "market maker," as
defined in Section 3(a)(38) of the Exchange Act, in an aggregate amount per
three-month period not to exceed
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two percent of the shares of Buyer Common Stock outstanding, as shown on
the most recent report or statement published by the Company;
(b) following the date that is six months after the Effective Time, so
long as the Stockholder holds five percent or more of the then-outstanding
shares of Buyer Common Stock, the Stockholder may sell Merger Shares
pursuant to brokers' transactions or in transactions directly with a market
maker in an aggregate amount per three-month period not to exceed three
percent of the shares of Buyer Common Stock outstanding, as shown on the
most recent report or statement published by the Company; and
(c) following the date that is six months after of the Effective Time,
so long as the Stockholder holds five percent or more of the
then-outstanding shares of Buyer Common Stock, the Stockholder may effect a
Disposition of Merger Shares pursuant to an underwritten offering pursuant
to the Company's registration statement discussed in Section 6; provided
that the underwriters for such offering shall be reasonably acceptable to
the Company and that such underwriters shall use reasonable efforts to seek
a broad distribution of the Merger Shares.
5. Extraordinary Corporate Transactions and Block Trades. The
restrictions on Disposition of the Merger Shares set forth herein shall not
apply to any of the following:
(a) Dispositions made pursuant to a merger or consolidation, tender
offer, exchange offer, or any other similar transaction involving Buyer
Common Stock, or
(b) Dispositions made pursuant to a block trade (as defined below) to
either (1) an open-end investment company registered under the Investment
Company Act of 1940, as amended (i.e., a mutual fund), or (2) to any other
person, other than a person that the Stockholder knows, or after reasonable
inquiry should know, (A) is, or is affiliated with any other person or is a
member of a group that is, the beneficial owner (determined pursuant to
Rule 13d-3 under the Exchange Act) of more than five percent of the
then-outstanding shares of Buyer Common Stock, or (B) that would become, or
is affiliated with any other person or is a member of a group that would
become, the beneficial owner of more than five percent of the
then-outstanding shares of Buyer Common Stock as a result of the purchase
from the Stockholder.
(c) For purposes of Section 5(b), a "block trade" means a single
transaction involving the sale of at least 100,000 Merger Shares (as
appropriately adjusted for stock splits, stock dividends, recapitalizations
and other relevant changes in Buyer Common Stock), except that a block
trade shall not include a sale to (1) a broker-dealer acting as a market
maker or (2) a broker-dealer otherwise intending to resell the shares sold
to such broker-dealer to a person that would not be permitted to purchase
such shares directly pursuant to Section 5(b). As used in Section 5(b), the
Stockholder shall be deemed to have made "reasonable inquiry" if the
Stockholder shall have reviewed the Schedule 13D and 13G filings of the
prospective purchaser on the SEC's EDGAR database and, if no such filings
relating to the Company are found therein, if the Stockholder shall have
inquired of the prospective purchaser whether it would be permitted to
complete the proposed purchase under Section 5(b)(2).
6. Registration Rights.
(a) Form S-3 Demand Registration. If the Company receives a written
request therefor from the Stockholder, the Company shall prepare and file
with the SEC a registration statement under the Securities Act covering the
Merger Shares that are the subject of the request and shall use reasonable
efforts to cause the registration statement to become effective; provided
that if such request is received before the date that is six months after
the Effective Time, the Company shall prepare such registration statement
and shall seek to cause it to become effective on the date that is six
months after of the Effective Time or as soon thereafter as is reasonably
practicable. The Company shall be obligated to prepare, file, and cause to
become effective only one registration statement (on Form S-3 or any other
applicable form ("Form S-3")) under this Agreement, and to pay the expenses
associated therewith that are listed below. If the Stockholder determines
for any reason not to proceed
D-3
with the registration at any time before the registration statement has
been declared effective by the SEC, and the registration statement, if
previously filed with the SEC, is withdrawn with respect to the Merger
Shares covered thereby, and the Stockholder agrees to bear its own expenses
incurred in connection therewith and to reimburse the Company for the
expenses incurred by it attributable to the registration of Merger Shares,
then the Stockholder shall not be deemed to have exercised its right to
require the Company to register the Merger Shares under this Agreement.
(b) The Company's Right to Postpone or Suspend Registration. The
Company may postpone compliance with a request for registration under
Section 6(a) or may suspend the Stockholder's ability to make sales under
the registration statement filed pursuant thereto, if (1) such compliance
or sales would adversely affect or would be improper in view of (or
improper without disclosure in a prospectus or other filing with the SEC) a
proposed financing, reorganization, recapitalization, merger, acquisition,
consolidation, or similar transaction or other development involving or
with respect to the Company or its subsidiaries (including through the
premature disclosure thereof), or (2) the Company is conducting a public
offering of capital stock (including during the effectiveness of any
registration statement pertaining thereto) and the managing underwriter
concludes in its reasonable judgment that such compliance or sales would
adversely affect the success of the offering. If the Company invokes this
Section 6(b), then the Company shall give prompt oral notice, on a
confidential basis, of the postponement and its general reasons therefor
(subject to restrictions imposed by applicable federal securities laws and
regulations) to the Chief Executive Officer of the Stockholder. The
aggregate number of days for which registration may be postponed or sales
suspended under clauses (1) and (2) of this Section 6(b) shall be 90 days.
In addition, the Stockholder agrees to promptly suspend sales under the
registration statement during any period that Company notifies the
Stockholder that it is preparing and filing an amendment or supplement to
the registration statement or prospectus under Section 6(c)(6) or (7).
(c) The Company's Obligations. When the Company is required by
Section 6(a) to register the Merger Shares under the Securities Act, then
the Company shall:
(1) prepare and file with the SEC a registration statement on Form
S-3 with respect to the Merger Shares and use reasonable efforts to
cause this registration statement become and remain effective for such
period as may be reasonably necessary to effect the sale of the Merger
Shares, not to exceed 60 days from the effective date of the
registration statement;
(2) prepare and file with the SEC such amendments to the
registration statement and supplements to the prospectus contained
therein as may be necessary to keep the registration statement effective
for such period as may be reasonably necessary to effect the sale of the
Merger Shares, not to exceed 60 days from the effective date of the
registration statement;
(3) furnish to the Stockholder (and to the underwriter of the
securities being registered) a reasonable number of copies of the
registration statement, preliminary prospectus (if any), final
prospectus, and such other documents as the Stockholder or the
underwriter may reasonably request in order to facilitate the sale of
the Merger Shares;
(4) notify the Stockholder, promptly after the Company shall
receive notice thereof, of the time when the registration statement has
become effective or a supplement to any prospectus forming a part of the
registration statement has been filed;
(5) notify the Stockholder promptly of any request by SEC for the
amending or supplementing of the registration statement or prospectus or
for additional information;
(6) prepare and file with the SEC, promptly upon the request of the
Stockholder, any amendments or supplements to the registration statement
or prospectus that, in the reasonable opinion of counsel for the
Stockholder (and agreed with by counsel for the Company), is required
under the Securities Act or the rules and regulations thereunder in
connection with the distribution of the Merger Shares;
D-4
(7) prepare and promptly file with the SEC, and promptly notify the
Stockholder of, any filing of the amendment or supplement to the
registration statement or prospectus as may be necessary to correct any
statements or omissions if, at the time when a prospectus relating to
those securities is required to be delivered under the Securities Act,
the prospectus or any other prospectus as then in effect would include
an untrue statement of a material fact or omit to state any material
fact necessary to make the statements therein, in the light of the
circumstances in which they were made, not misleading; and
(8) advise the Stockholder, promptly after it receives notice of
the issuance of any stop order by the SEC suspending the effectiveness
of the registration statement or the initiation or threatening of any
proceeding for that purpose and promptly use reasonable efforts to
prevent the issuance of any stop order or to obtain its withdrawal if a
stop order is issued.
(d) Fees, Costs, and Expenses. With respect to a registration under
this Section 6 (except as otherwise provided in Section 6(a) with respect
to registrations voluntarily terminated at the request of the Stockholder)
the Company shall bear the following fees, costs, and expenses: all
registration, filing, and NASD fees, printing expenses, fees and
disbursements of counsel and accountants for the Company, and all internal
expenses of the Company. Fees and disbursements of counsel and accountants
for the Stockholder, any underwriting discounts, commissions, transfer
taxes, and any other expenses not listed above shall be borne by the
Stockholder.
(e) Indemnification. With respect to a registration under this
Section 6:
(1) the Company shall indemnify the Stockholder and the underwriter
(as defined in the Securities Act) for the Stockholder and each person,
if any, who controls the Stockholder or the underwriter within the
meaning of the Securities Act, against any loss, damage, liability,
cost, or expense to which the Stockholder or such underwriter or
controlling person becomes subject under the Securities Act or
otherwise, insofar as such losses, damages, liabilities, costs, or
expenses are caused by an untrue statement or alleged untrue statement
of any material fact contained in the registration statement, any
prospectus contained therein, or any amendment or supplement thereto, or
arise out of or are based upon the omission or alleged omission to state
therein a material fact required to be stated therein or necessary to
make the statements therein, in light of the circumstances in which they
were made, not misleading; provided, however, that the Company shall not
be liable to the extent that any such loss, damage, liability, cost, or
expense arises out of or is based upon an untrue statement or alleged
untrue statement or omission or alleged omission so made in conformity
with information furnished by the Stockholder or such underwriter or
controlling person in writing specifically for use in the preparation
thereof.
(2) The Stockholder shall indemnify the Company, its directors and
officers, any controlling person, and any underwriter from any loss,
damage, liability, cost, or expense to which the Company, any
controlling person, or any such underwriter becomes subject under the
Securities Act or otherwise, insofar as the losses, damages,
liabilities, costs, or expenses are caused by any untrue or alleged
untrue statement of any material fact contained in such registration
statement, any prospectus contained therein or any amendment or
supplement thereto, or arise out of or are based upon the omission or
the alleged omission to state therein a material fact required to be
stated therein or necessary to make the statements therein, in light of
the circumstances in which they were made, not misleading, in each case
to the extent, but only to the extent, that such untrue statement or
alleged untrue statement or omission or alleged omission was so made in
reliance upon and in conformity with written information furnished by
the Stockholder specifically for use in the preparation thereof, or the
failure of the Stockholder to comply with the Securities Act, including
the prospectus-delivery requirements thereof.
(3) Promptly after receipt by an indemnified party under the
provisions of paragraph (1) or (2) of this Section 6(e) of notice of the
commencement of any action involving the subject matter of the foregoing
indemnity provisions, the indemnified party shall, if a claim thereof is
to
D-5
be made against the indemnifying party under the provisions of paragraph
(1) or (2), promptly notify the indemnifying party of the commencement
thereof; but any delay in so notifying the indemnifying party will not
relieve it from any liability which it may have to any indemnified
party, unless the indemnifying party is actually prejudiced by such
delay. If such an action is brought against any indemnified party and it
notifies the indemnifying party of the commencement thereof, the
indemnifying party shall have the right to participate in, and, to the
extent that it may wish, to assume the defense thereof, with counsel
satisfactory to the indemnified party; provided, however, if the
defendants in any action include both the indemnified party and the
indemnifying party and the indemnified party reasonably concludes that
there may be legal defenses available to it or other indemnified parties
that are different from or additional to those available to the
indemnifying party, or if there is a conflict of interest that would
prevent counsel for the indemnifying party from also representing the
indemnified party, the indemnified party shall have the right to select
separate counsel to participate in the defense of the action on its
behalf. After notice from the indemnifying party to the indemnified
party of its election so to assume the defense thereof, the indemnifying
party shall not be liable to the indemnified party under the provisions
of paragraph (1) or (2) for any legal or other expense subsequently
incurred by the indemnified party in connection with the defense thereof
other than reasonable costs of investigation, unless the indemnified
party employs counsel in accordance with the proviso of the preceding
sentence, the indemnifying party does not employ counsel satisfactory to
the indemnified party to represent the indemnified party within a
reasonable time after the notice of the commencement of the action, or
the indemnifying party has authorized the employment of counsel for the
indemnified party at its expense.
7. No Exercise of Dissenters' Rights; Maximum Cash Election. The
Stockholder agrees that it will not assert any dissenters' rights of appraisal
under the Massachusetts Business Corporation Law to which it may be entitled in
connection with the Merger or the Merger Agreement and further agrees to make a
Cash Election for all of its shares of Company Common Stock in accordance with
the procedures set forth in the Merger Agreement.
8. Stockholder Representations.
(a) Authority. The Stockholder has the power and authority required
to execute and deliver this Agreement and to perform its obligations
hereunder. The execution and delivery of this Agreement by the Stockholder
and the performance by it of the terms hereof have been duly authorized by
all necessary corporate action on the part of the Stockholder.
(b) Required Consents. Except for the consents that have been
obtained and notices that have been given (copies of which have been
delivered to the Company), no consent or approval of, nor any notice to,
any person or governmental entity is necessary for the performance of the
terms of this Agreement by the Stockholder.
(c) No Conflicts. Neither the execution and delivery of this
Agreement by the Stockholder nor the performance by the Stockholder of the
terms hereof will (1) violate any judicial, administrative, or arbitration
order, writ, award, judgment, injunction or decree involving the
Stockholder or (2) conflict with the Articles of Incorporation or Bylaws of
the Stockholder.
(d) No Ownership of Buyer Common Stock. The Stockholder does not
beneficially own any shares of Buyer Common Stock.
9. Company Representations.
(a) Authority. The Company has the power and authority required to
execute and deliver this Agreement and to perform its obligations
hereunder. The execution and delivery of this Agreement by the Company and
the performance by it of the terms hereof have been duly authorized by all
necessary corporate action on the part of the Company.
D-6
(b) Required Consents. Except for the consents that have been
obtained and notices that have been given (copies of which have been
delivered to the Stockholder), no consent or approval of, nor any notice
to, any person or governmental entity is necessary for the performance of
the terms of this Agreement by the Company, other than applicable
requirements, if any, of the Securities Exchange Act of 1934, as amended.
(c) No Conflicts. Neither the execution and delivery of this
Agreement by the Company nor the performance by the Company of the terms
hereof will (1) violate any judicial, administrative, or arbitration order,
writ, award, judgment, injunction or decree involving the Company or (2)
conflict with the Certificate of Incorporation or Bylaws of the Company.
10. Term of Agreement. This Agreement shall terminate upon the first to
occur of any of the following:
(a) the determination by the Board of Directors of the Company, in its
sole discretion, that this Agreement should be terminated;
(b) the dissolution or bankruptcy of the Company;
(c) the termination of the Merger Agreement; or
(d) the date on which, following the issuance of the Merger Shares,
the Stockholder becomes the beneficial owner of five percent or less of the
then-outstanding shares of Buyer Common Stock.
11. Miscellaneous Provisions.
(a) Amendments. This Agreement may be amended, modified, or
supplemented only by written agreement of the Company and the Stockholder.
(b) Waiver. Any failure of the Stockholder to comply with any
provision of this Agreement may be waived in writing by the Company, but
such waiver or failure to insist upon strict compliance with such provision
shall not operate as a waiver of, or estoppel with respect to, any
subsequent or other failure.
(c) Notices. All Notices and other communications hereunder shall be
in writing and shall be deemed given if delivered personally, effective
when delivered, or if delivered by express delivery service, effective when
delivered, or if delivered by telecopy, effective when telecopied on a
business day with confirmation of receipt, to the parties at the following
addresses (or at such other address for a party as shall be specified by
like notice):
(1) If to the Company, to it at:
Digi International Inc.
11001 Bren Road East
Minnetonka, Minnesota 55343
Telecopy: (952) 912-4998
Telephone: (952) 912-3125
Attention: Chief Financial Officer
(2) If to the Stockholder, to it at:
Sorrento Networks Corporation
9990 Mesa Rim Road
San Diego, California 92121
Telecopy: (858) 558-3977
Telephone: (858) 558-3960
Attention: Chief Financial Officer
(d) Successors and Assigns. This Agreement shall be binding upon and
shall inure to the benefit of the parties hereto and their respective
successors and permitted assigns, but neither this
D-7
Agreement nor any of the rights or obligations hereunder may be assigned by
any party without the prior written consent of the party.
(e) Rules of Interpretation. As used in this Agreement,
"including" means "including without limitation";
"person" includes an individual, a partnership, a limited
liability company, a joint venture, a corporation, a trust, and an
incorporated organization;
"or" is disjunctive and not exclusive; and
"business day" means any day other than a Saturday, Sunday or a
day that the Nasdaq National Market System is closed for trading.
(f) Governing Law. This Agreement shall be governed by the laws of
the State of Delaware, without giving effect to conflict-of-laws
principles.
(g) Counterparts. This Agreement may be executed in two or more
counterparts, each of which shall be deemed an original, but all of which
together shall constitute the same instrument.
(h) Section Headings. The section headings contained in this
Agreement are solely for the purpose of reference, and are not part of the
agreement of the parties and shall not affect in any way the meaning or
interpretation of this Agreement.
(i) Integration. This Agreement embodies the entire agreement and
understanding of the parties hereto in respect of the subject matter
contained herein, and supersedes all prior agreements and understandings
among the parties with respect to such subject matter. There are no
restrictions, promises, representations, warranties (express or implied),
covenants, or undertakings of the parties in respect of the subject matter
set forth herein, other than those expressly set forth or referred to in
this Agreement.
(j) Severability. If any provision of this Agreement is held by a
court of competent jurisdiction to be invalid, void, or unenforceable, the
remainder of the provisions hereof will continue in full force and effect
and will in no way be affected, impaired, or invalidated.
(k) Equitable Relief. The parties agree that money damages or another
remedy at law would not be a sufficient or adequate remedy for any breach
or violation of this Agreement by them, and that, in addition to all other
remedies available to them, each of them shall be entitled, to the fullest
extent permitted by law, to an injunction restraining such breach or
violation (or threatened breach or violation) and to any other equitable
relief, including specific performance, without bond or other security
being required.
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IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be
signed by their respective officers thereunto duly authorized, all as of the
date first written above.
DIGI INTERNATIONAL INC.
By
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Its
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SORRENTO NETWORKS CORPORATION
By
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Its
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D-9
ANNEX E
[BMO NESBITT BURNS LETTERHEAD]
October 30, 2001
The Board of Directors of
Digi International Inc.
11001 Bren Road East
Minnetonka, MN 55343
Ladies and Gentlemen:
You have requested that BMO Nesbitt Burns Corp. ("Nesbitt Burns") render an
opinion, as investment bankers, as to the fairness from a financial point of
view to Digi International, Inc. (the "Buyer") of the consideration to be paid
by Buyer pursuant to the terms of the Agreement and Plan of Merger, dated as of
October 30, 2001 (the "Merger Agreement"), among the Buyer, Dove Sub Inc.
("Buyer Subsidiary"), a corporation formed and wholly owned by Buyer, and
NetSilicon, Inc., a Massachusetts corporation (the "Company"). As more fully
described in the Merger Agreement, (i) the Company will be merged with and into
Buyer Subsidiary (the "Merger") and (ii) each outstanding share of common stock,
par value $0.01 per share, of the Company will be converted into the right to
receive from Buyer an amount of cash and/or shares of Buyer common stock, par
value $0.01 per share (the "Merger Consideration"), determined by reference to
the Exchange Ratio of 0.6500 as set forth in the Merger Agreement.
Nesbitt Burns, as part of its investment banking business, is continually
engaged in the valuation of businesses and their securities in connection with
mergers and acquisitions, negotiated underwritings, competitive biddings,
secondary distributions of listed and unlisted securities, private placements
and valuations for estate, corporate and other purposes. Nesbitt Burns has acted
as financial advisor to the Buyer with respect to the Merger for which we will
receive a fee for our services, a significant portion of which is contingent
upon consummation of the Merger. We may have in the past provided certain
investment banking services to the Buyer or the Company, and certain of our
affiliates may have provided corporate banking services to the Buyer or the
Company from time to time, for which they may have received or will receive
customary fees and we may provide investment and corporate banking services to
the Buyer or the Company and their respective affiliates in the future. Nesbitt
Burns provides a full range of financial advisory and securities services and,
in the course of its normal trading activities, may from time to time effect
transactions and hold securities, including derivative securities, of the Buyer
or Company for its own account and for the accounts of customers.
In connection with our opinion, we reviewed, among other things:
- a draft of the Merger Agreement dated October 23, 2001;
- annual reports to stockholders of the Company for the years ended January
31, 2000 and 2001;
- annual reports on Form 10-K of the Company for the years ended January
31, 2000 and 2001;
- certain quarterly reports on Form 10-Q of the Company;
- annual reports to stockholders of the Buyer for the years ended September
30, 1999 and 2000;
- annual reports on Form 10-K of the Buyer for the years ended September
30, 1999 and 2000;
- certain quarterly reports on Form 10-Q of the Buyer;
- certain other communications from the Company and the Buyer to their
respective stockholders;
E-1
The Board of Directors of
Digi International Inc.
October 30, 2001
Page 2
- certain internal financial analyses and forecasts for the Company
prepared by its management and the Buyer's management;
- certain internal financial and analyses and forecasts for the Buyer
prepared by its management; and
- independent third party research and estimates.
Nesbitt Burns also held discussions with members of the management of the
Buyer and the Company regarding the past and current business operations,
financial condition and future prospects of the Company and their respective
companies.
In addition, Nesbitt Burns:
- reviewed the reported price and trading activity for the common stock of
the Company and the Buyer;
- compared certain financial and stock market information for the Company
and the Buyer with similar information for certain other companies the
securities of which are publicly traded;
- reviewed the financial terms of certain recent business combinations in
the Company's and the Buyer's industries specifically and in other
industries generally; and
- performed such other studies and analyses as Nesbitt Burns considered
appropriate.
In rendering our opinion, we have assumed and relied upon the accuracy and
completeness of all information supplied or otherwise made available to us by
the Company or the Buyer or obtained by us from other sources, and upon the
assurance of the Company's and the Buyer's management that they are not aware of
any information or facts that would make the information provided to us
incomplete or misleading. We have not independently verified such information,
undertaken an independent appraisal of the assets or liabilities (contingent or
otherwise) of the Company, or been furnished with any such appraisals. With
respect to financial forecasts for the Company prepared by the Company or the
Buyer, we have been advised by the Company or the Buyer, and we have assumed,
without independent investigation, that they have been reasonably prepared and
reflect the best currently available estimates and judgment of Company
management as to the expected future financial performance of the Company. With
respect to financial forecasts for the Company or the Buyer prepared by the
Buyer, we have been advised by the Buyer, and we have assumed, without
independent investigation, that they have been reasonably prepared and reflect
the best currently available estimates and judgment of Buyer management as to
the expected future financial performance of the Company or the Buyer, as the
case may be.
Our opinion is necessarily based upon financial, economic, market and other
conditions as they exist, and the information made available to us, as of the
date hereof. We disclaim any undertakings or obligations to advise any person of
any change in any fact or matter affecting the opinion which may come or be
brought to our attention after the date of the opinion.
Our opinion does not constitute a recommendation as to any action the Board
of Directors of the Buyer or any stockholder of the Buyer should take in
connection with the Merger or any aspect thereof and is not a recommendation to
any person on how such person should vote with respect to the Merger. Our
opinion relates solely to the fairness, from a financial point of view, of the
Merger Consideration to the Buyer. We express no opinion herein as to the
relative merits of the Merger and any other transactions or business strategies
discussed by the Board of Directors of the Buyer as alternatives to the Merger
or the decision of the Board of Directors of the Buyer to proceed with the
Merger, nor do we express any opinion on the structure, terms or effect of any
other aspect of the Merger or the other transactions contemplated by the Merger
Agreement.
E-2
The Board of Directors of
Digi International Inc.
October 30, 2001
Page 3
Our opinion has been prepared at the request and for the use of the Board
of Directors of the Buyer in evaluating the fairness from a financial point of
view of the Merger Consideration to the Buyer, and shall not be reproduced,
summarized, described or referred to, or provided to any other person, or used
for any other purpose, without our prior written consent, except that this
letter may be reproduced in full, subject to our review and consent to the
manner of reproduction and distribution, in filings with the Securities and
Exchange Commission that are necessary in connection with the Merger, including
the joint proxy statement/prospectus relating to the Merger.
Based upon and subject to the foregoing and based upon such other matters
as we consider relevant, it is our opinion, as investment bankers, that as of
the date hereof the Merger Consideration to be paid by the Buyer in the Merger
is fair from a financial point of view to the Buyer.
Very truly yours,
/s/ BMO NESBITT BURNS CORP.
--------------------------------------
BMO Nesbitt Burns Corp.
E-3
ANNEX F
[THOMAS WEISEL PARTNERS LLC LETTERHEAD]
October 29, 2001
Board of Directors
NetSilicon, Inc.
411 Waverley Oaks Road, Bldg. 227
Waltham, Massachusetts 02452
Gentlemen:
We understand that NetSilicon, Inc., a Massachusetts corporation
("Seller"), Digi International Inc., a Delaware corporation ("Buyer"), and Dove
Sub, a Delaware corporation and a wholly owned subsidiary of Buyer ("Merger
Sub"), have entered into a Merger Agreement dated October 30, 2001 (the "Merger
Agreement"), pursuant to which Seller will be merged with and into Merger Sub,
which will be the surviving entity (the "Merger"). Pursuant to the Merger, as
more fully described in the Merger Agreement and as further described to us by
management of Seller, we understand that each outstanding share of the common
stock, $.01 par value per share (together with associated rights under the
Seller's Rights Agreement, the "Seller Common Stock"), of Seller will be
converted into and exchangeable at such holder's election for either (x) 0.6500
(the "Exchange Ratio") of a share of the common stock, $.01 par value per share
(together with associated rights under the Buyer's Rights Agreement, the "Buyer
Common Stock"), of Buyer (the "Stock Consideration") or (y) cash equal to the
Exchange Ratio times the Buyer's Average Price (as defined in the Merger
Agreement), subject to an aggregate cash payment limit not to exceed $15 million
(the "Cash Consideration" and together with the Stock Consideration, the
"Consideration"). The Merger is expected to be tax-free to the Seller's
shareholders electing to receive shares of Buyer. The terms and conditions of
the Merger are set forth in more detail in the Merger Agreement.
You have asked for our opinion as investment bankers as to whether the
Consideration to be received by the shareholders of Seller (other than Buyer and
its affiliates) pursuant to the Merger is fair to such shareholders from a
financial point of view, as of the date hereof.
In connection with our opinion, we have, among other things: (i) reviewed
certain publicly available financial and other data with respect to Seller and
Buyer, including the consolidated financial statements for recent years and
interim periods to July 28, 2001 with respect to Seller and June 30, 2001 with
respect to Buyer and certain other relevant financial and operating data
relating to Seller and Buyer made available to us from published sources and
from the internal records of Seller and Buyer; (ii) reviewed the financial terms
and conditions of the Merger Agreement; (iii) reviewed certain publicly
available information concerning the trading of, and the trading market for,
Seller Common Stock and Buyer Common Stock; (iv) compared Seller and Buyer from
a financial point of view with certain other companies which we deemed to be
relevant; (v) considered the financial terms, to the extent publicly available,
of selected recent business combinations which we deemed to be comparable, in
whole or in part, to the Merger; (vi) reviewed and discussed with
representatives of the management of Seller and Buyer certain information of a
business and financial nature regarding Seller and Buyer, furnished to us by
them, including financial forecasts and related assumptions of Seller and Buyer;
(vii) made inquiries regarding and discussed the Merger and the Merger Agreement
and other matters related thereto with Seller's counsel; and (viii) performed
such other analyses and examinations as we have deemed appropriate.
In connection with our review, we have not assumed any obligation
independently to verify the foregoing information and have relied on its being
accurate and complete in all material respects. With respect to the financial
forecasts for Seller and Buyer provided to us by their respective management,
upon their advice and with your consent we have assumed for purposes of our
opinion that the forecasts have
F-1
Board of Directors
NetSilicon, Inc.
October 29, 2001
Page 2
been reasonably prepared on bases reflecting the best available estimates and
judgments of their respective management at the time of preparation as to the
future financial performance of Seller and Buyer and that they provide a
reasonable basis upon which we can form our opinion. We have also assumed that
there have been no material changes in Seller's or Buyer's assets, financial
condition, results of operations, business or prospects since the respective
dates of their last financial statements made available to us. We have relied on
advice of counsel and independent accountants to Seller as to all legal and
financial reporting matters with respect to Seller, the Merger and the Merger
Agreement, including the legal status and financial reporting of litigation
involving Seller. We have assumed that the Merger will be consummated in a
manner that complies in all respects with the applicable provisions of the
Securities Act of 1933, as amended (the "Securities Act"), the Securities
Exchange Act of 1934 and all other applicable federal and state statutes, rules
and regulations. In addition, we have not assumed responsibility for making an
independent evaluation, appraisal or physical inspection of any of the assets or
liabilities (contingent or otherwise) of Seller or Buyer, nor have we been
furnished with any such appraisals. You have informed us, and we have assumed,
that the Merger will be recorded as a purchase under generally accepted
accounting principles. We have assumed that all non-voting shares of Seller's
common stock will convert into Buyer Common Stock or cash in connection with the
Merger. Finally, our opinion is based on economic, monetary and market and other
conditions as in effect on, and the information made available to us as of, the
date hereof. The opinion expressed herein is being rendered during a period of
unusual volatility in the financial markets and may be affected by material
developments in the economic, monetary and market and other conditions from
those prevailing on the date hereof. Accordingly, although subsequent
developments may affect this opinion, we have not assumed any obligation to
update, revise or reaffirm this opinion.
We have further assumed with your consent that the Merger will be
consummated in accordance with the terms described in the Merger Agreement,
without any further amendments thereto, and without waiver by Seller of any of
the conditions to its obligations thereunder.
We have acted as financial advisor to Seller in connection with the Merger
and will receive a fee for our services, including rendering this opinion, a
significant portion of which is contingent upon the consummation of the Merger.
In the ordinary course of our business, we actively trade the equity securities
of Seller and Buyer for our own account and for the accounts of customers and,
accordingly, may at any time hold a long or short position in such securities.
Based upon the foregoing and in reliance thereon, it is our opinion as
investment bankers that the Consideration to be received by the shareholders of
Seller (other than Buyer and its affiliates) pursuant to the Merger is fair to
such shareholders from a financial point of view, as of the date hereof.
We are not expressing an opinion regarding the price at which the Buyer
Common Stock may trade at any future time. The Consideration to be received by
the shareholders of Seller pursuant to the Merger is based upon a fixed exchange
ratio and, accordingly, the market value of the Consideration may vary
significantly.
This opinion is directed to the Board of Directors of Seller in its
consideration of the Merger and is not a recommendation to any shareholder as to
how such shareholder should vote with respect to the Merger. Further, this
opinion addresses only the financial fairness of the Consideration to the
shareholders (other than Buyer and its affiliates) and does not address the
relative merits of the Merger and any alternatives to the Merger, Seller's
underlying decision to proceed with or effect the Merger, or any other aspect of
the Merger. This opinion may not be used or referred to by Seller, or quoted or
disclosed to any person in any manner, without our prior written consent, which
consent is hereby given to the inclusion of this opinion in any proxy statement
or prospectus filed with the Securities and Exchange Commission in
F-2
Board of Directors
NetSilicon, Inc.
October 29, 2001
Page 3
connection with the Merger. In furnishing this opinion, we do not admit that we
are experts within the meaning of the term "experts" as used in the Securities
Act and the rules and regulations promulgated thereunder, nor do we admit that
this opinion constitutes a report or valuation within the meaning of Section 11
of the Securities Act.
Very truly yours,
/s/ THOMAS WEISEL PARTNERS LLC
--------------------------------------
THOMAS WEISEL PARTNERS LLC
F-3
ANNEX G
MASSACHUSETTS GENERAL LAWS RELATING TO APPRAISAL RIGHTS
C.156B SECTION 85. DISSENTING STOCKHOLDER; RIGHT TO DEMAND PAYMENT FOR STOCK;
EXCEPTION
A stockholder in any corporation organized under the laws of Massachusetts
which shall have duly voted to consolidate or merge with another corporation or
corporations under the provisions of sections seventy-eight or seventy-nine who
objects to such consolidation or merger may demand payment for his stock from
the resulting or surviving corporation and an appraisal in accordance with the
provisions of sections eighty-six to ninety-eight, inclusive, and such
stockholder and the resulting or surviving corporation shall have the rights and
duties and follow the procedure set forth in those sections. This section shall
not apply to the holders of any shares of stock of a constituent corporation
surviving a merger if, as permitted by subsection (c) of section seventy-eight,
the merger did not require for its approval a vote of the stockholders of the
surviving corporation.
C.156B SECTION 86. SECTIONS APPLICABLE TO APPRAISAL; PREREQUISITES
If a corporation proposes to take a corporate action as to which any
section of this chapter provides that a stockholder who objects to such action
shall have the right to demand payment for his shares and an appraisal thereof,
sections eighty-seven to ninety-eight, inclusive, shall apply except as
otherwise specifically provided in any section of this chapter. Except as
provided in sections eighty-two and eighty-three, no stockholder shall have such
right unless (1) he files with the corporation before the taking of the vote of
the stockholders on such corporate action, written objection to the proposed
action stating that he intends to demand payment for his shares if the action is
taken and (2) his shares are not voted in favor of the proposed action.
C.156B SECTION 87. STATEMENT OF RIGHTS OF OBJECTING STOCKHOLDERS IN NOTICE OF
MEETING; FORM
The notice of the meeting of stockholders at which the approval of such
proposed action is to be considered shall contain a statement of the rights of
objecting stockholders. The giving of such notice shall not be deemed to create
any rights in any stockholder receiving the same to demand payment for his
stock, and the directors may authorize the inclusion in any such notice of a
statement of opinion by the management as to the existence or non-existence of
the right of the stockholders to demand payment for their stock on account of
the proposed corporate action. The notice may be in such form as the directors
or officers calling the meeting deem advisable, but the following form of notice
shall be sufficient to comply with this section:
"If the action proposed is approved by the stockholders at the meeting and
effected by the corporation, any stockholder (1) who files with the corporation
before the taking of the vote on the approval of such action, written objection
to the proposed action stating that he intends to demand payment for his shares
if the action is taken and (2) whose shares are not voted in favor of such
action has or may have the right to demand in writing from the corporation (or,
in the case of a consolidation or merger, the name of the resulting or surviving
corporation shall be inserted), within twenty days after the date of mailing to
him of notice in writing that the corporate action has become effective, payment
for his shares and an appraisal of the value thereof. Such corporation and any
such stockholder shall in such cases have the rights and duties and shall follow
the procedure set forth in sections 88 to 98, inclusive, of chapter 156B of the
General Laws of Massachusetts."
C.156B SECTION 88. NOTICE OF EFFECTIVENESS OF ACTION OBJECTED TO
The corporation taking such action, or in the case of a merger or
consolidation the surviving or resulting corporation, shall, within ten days
after the date on which such corporate action became effective, notify each
stockholder who filed a written objection meeting the requirements of section
eighty-six and whose shares were not voted in favor of the approval of such
action, that the action approved at the
G-1
meeting of the corporation of which he is a stockholder has become effective.
The giving of such notice shall not be deemed to create any rights in any
stockholder receiving the same to demand payment for his stock. The notice shall
be sent by registered or certified mail, addressed to the stockholder at his
last known address as it appears in the records of the corporation.
C.156B SECTION 89. DEMAND FOR PAYMENT; TIME FOR PAYMENT
If within twenty days after the date of mailing of a notice under
subsection (e) of section eighty-two, subsection (f) of section eighty-three, or
section eighty-eight any stockholder to whom the corporation was required to
give such notice shall demand in writing from the corporation taking such
action, or in the case of a consolidation or merger from the resulting or
surviving corporation, payment for his stock, the corporation upon which such
demand is made shall pay to him the fair value of his stock within thirty days
after the expiration of the period during which such demand may be made.
C.156B SECTION 90. DEMAND FOR DETERMINATION OF VALUE; BILL IN EQUITY; VENUE
If during the period of thirty days provided for in section eighty-nine the
corporation upon which such demand is made and any such objecting stockholder
fail to agree as to the value of such stock, such corporation or any such
stockholder may within four months after the expiration of such thirty-day
period demand a determination of the value of the stock of all such objecting
stockholders by a bill in equity filed in the superior court in the county where
the corporation in which such objecting stockholder held stock had or has its
principal office in the commonwealth.
C.156B SECTION 91. PARTIES TO SUIT TO DETERMINE VALUE; SERVICE
If the bill is filed by the corporation, it shall name as parties
respondent all stockholders who have demanded payment for their shares and with
whom the corporation has not reached agreement as to the value thereof. If the
bill is filed by a stockholder, he shall bring the bill in his own behalf and in
behalf of all other stockholders who have demanded payment for their shares and
with whom the corporation has not reached agreement as to the value thereof, and
service of the bill shall be made upon the corporation by subpoena with a copy
of the bill annexed. The corporation shall file with its answer a duly verified
list of all such other stockholders, and such stockholders shall thereupon be
deemed to have been added as parties to the bill. The corporation shall give
notice in such form and returnable on such date as the court shall order to each
stockholder party to the bill by registered or certified mail, addressed to the
last known address of such stockholder as shown in the records of the
corporation, and the court may order such additional notice by publication or
otherwise as it deems advisable. Each stockholder who makes demand as provided
in section eighty-nine shall be deemed to have consented to the provisions of
this section relating to notice, and the giving of notice by the corporation to
any such stockholder in compliance with the order of the court shall be a
sufficient service of process on him. Failure to give notice to any stockholder
making demand shall not invalidate the proceedings as to other stockholders to
whom notice was properly given, and the court may at any time before the entry
of a final decree make supplementary orders of notice.
C.156B SECTION 92. DECREE DETERMINING VALUE AND ORDERING PAYMENT; VALUATION
DATE
After hearing the court shall enter a decree determining the fair value of
the stock of those stockholders who have become entitled to the valuation of and
payment for their shares, and shall order the corporation to make payment of
such value, together with interest, if any, as hereinafter provided, to the
stockholders entitled thereto upon the transfer by them to the corporation of
the certificates representing such stock if certificated or, if uncertificated,
upon receipt of an instruction transferring such stock to the corporation. For
this purpose, the value of the shares shall be determined as of the day
preceding the date of the vote approving the proposed corporate action and shall
be exclusive of any element of value arising from the expectation or
accomplishment of the proposed corporate action.
G-2
C.156B SECTION 93. REFERENCE TO SPECIAL MASTER
The court in its discretion may refer the bill or any question arising
thereunder to a special master to hear the parties, make findings and report the
same to the court, all in accordance with the usual practice in suits in equity
in the superior court.
C.156B SECTION 94. NOTATION ON STOCK CERTIFICATES OF PENDENCY OF BILL
On motion the court may order stockholder parties to the bill to submit
their certificates of stock to the corporation for the notation thereon of the
pendency of the bill, and may order the corporation to note such pendency in its
records with respect to any uncertificated shares held by such stockholder
parties, and may on motion dismiss the bill as to any stockholder who fails to
comply with such order.
C.156B SECTION 95. COSTS; INTEREST
The costs of the bill, including the reasonable compensation and expenses
of any master appointed by the court, but exclusive of fees of counsel or of
experts retained by any party, shall be determined by the court and taxed upon
the parties to the bill, or any of them, in such manner as appears to be
equitable, except that all costs of giving notice to stockholders as provided in
this chapter shall be paid by the corporation. Interest shall be paid upon any
award from the date of the vote approving the proposed corporate action, and the
court may on application of any interested party determine the amount of
interest to be paid in the case of any stockholder.
C.156B SECTION 96. DIVIDENDS AND VOTING RIGHTS AFTER DEMAND FOR PAYMENT
Any stockholder who has demanded payment for his stock as provided in this
chapter shall not thereafter be entitled to notice of any meeting of
stockholders or to vote such stock for any purpose and shall not be entitled to
the payment of dividends or other distribution on the stock (except dividends or
other distributions payable to stockholders of record at a date which is prior
to the date of the vote approving the proposed corporate action) unless:
(1) A bill shall not be filed within the time provided in section
ninety;
(2) A bill, if filed, shall be dismissed as to such stockholder; or
(3) Such stockholder shall with the written approval of the
corporation, or in the case of a consolidation or merger, the resulting or
surviving corporation, deliver to it a written withdrawal of his objections
to and an acceptance of such corporate action.
Notwithstanding the provisions of clauses (1) to (3), inclusive, said
stockholder shall have only the rights of a stockholder who did not so demand
payment for his stock as provided in this chapter.
C.156B SECTION 97. STATUS OF SHARED PAID FOR
The shares of the corporation paid for by the corporation pursuant to the
provisions of this chapter shall have the status of treasury stock or in the
case of a consolidation or merger the shares or the securities of the resulting
or surviving corporation into which the shares of such objecting stockholder
would have been converted had he not objected to such consolidation or merger
shall have the status of treasury stock or securities.
C.156B SECTION 98. EXCLUSIVE REMEDY; EXCEPTION
The enforcement by a stockholder of his right to receive payment for his
shares in the manner provided in this chapter shall be an exclusive remedy
except that this chapter shall not exclude the right of such stockholder to
bring or maintain an appropriate proceeding to obtain relief on the ground that
such corporate action will be or is illegal or fraudulent as to him.
G-3
ANNEX H
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------
FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED: SEPTEMBER 30, 2001
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
.
COMMISSION FILE NUMBER: 0-17972
DIGI INTERNATIONAL INC.
--------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
DELAWARE 41-1532464
------------------------- --------------------
(State or other (I.R.S. Employer
jurisdiction of Identification
incorporation or Number)
organization)
11001 BREN ROAD EAST
MINNETONKA, MINNESOTA 55343
-------------------------------------------------
(Address of principal executive offices) (Zip Code)
(952) 912-3444
---------------------------------------------
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, $.01 PAR VALUE
(Title of each class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months, and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
The aggregate market value of voting stock held by nonaffiliates of the
Registrant, based on a closing price of $5.95 per share as reported on the
National Association of Securities Dealers Automated Quotation System-National
Market System on December 10, 2001 was $90,934,231.
Shares of common stock outstanding as of December 10, 2001: 15,374,947
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
H-1
INDEX
DOCUMENTS INCORPORATED BY REFERENCE
The following table shows, except as otherwise noted, the location of
information required in this Form 10-K, in the Registrant's Annual Report to
Stockholders for the year ended September 30, 2001 and Proxy Statement for the
Registrant's Annual Meeting of Stockholders scheduled for January 23, 2002, a
definitive copy of which will be filed on or about December 28, 2001. All such
information set forth below under the heading "Page/Reference" is incorporated
herein by reference, or included in this Form 10-K on the pages indicated.
PART I. ITEM IN FORM 10-K PAGE/REFERENCE
------- ----------------- --------------
Item 1. Business H-3
Item 2. Properties H-5
Item 3. Legal Proceedings H-6
Item 4. Submission of Matters to a Vote of H-7
Security Holders
PART II.
---------
Item 5. Market for Registrant's Common Equity H-8
and Related Stockholder Matters
Item 6. Selected Financial Data H-9
Item 7. Management's Discussion and Analysis of H-9
Financial Condition and Results of
Operations
Item 7A. Quantitative and Qualitative Disclosures H-17
About Market Risk
Item 8. Financial Statements and Supplementary H-18
Data
Item 9. Changes in and Disagreements with H-47
Accountants On Accounting and Financial
Disclosure
PART III.
---------
Item 10. Directors of the Registrant Election of Directors, Proxy Statement
Executive Officers of the Registrant H-48
Compliance with Section 16(a) of the Section 16(a) Beneficial Ownership
Exchange Act Reporting Compliance, Proxy Statement
Item 11. Executive Compensation Executive Compensation; Election of
Directors; Summary Compensation Table;
Option Grants in Last Fiscal Year;
Aggregated Option Exercises in the Last
Fiscal Year and Fiscal Year-end Option
Values; Employment Contracts; Severance,
Termination of Employment and Change-in-
Control Arrangements; Performance
Evaluation, Proxy Statement
Item 12. Security Ownership of Certain Beneficial Security Ownership of Principal
Stockholders and Management, Owners and Stockholders and Management, Proxy
Management Statement
Item 13. Certain Relationships and Related Not Applicable
Transactions
PART IV.
---------
Item 14. Exhibits, Financial Statement Schedules H-49
and Reports on Form 8-K
H-2
PART I
ITEM 1. BUSINESS
Digi International Inc. (Digi or the Company) was formed in 1985 as a
Minnesota corporation and reorganized as a Delaware corporation in 1989 in
conjunction with its initial public offering. Digi is a worldwide provider of
Connectware, wired and wireless, hardware and software connectivity solutions
that businesses use to create, customize and control retail operations,
industrial automation and other applications. Connectware network enables the
essential devices that build business.
The Company operates exclusively in a single business segment and sells its
products through a global network of distributors, systems integrators,
value-added resellers (VARs) and original equipment manufacturers (OEMs). The
Company also sells direct to select accounts and the government.
The common stock of Digi International Inc. is traded on the Nasdaq
National Market under the symbol DGII. The Company has its worldwide
headquarters in Minnetonka, Minnesota, with regional and sales offices
throughout the U.S. and worldwide, including Germany, France, the Netherlands,
Denmark, the United Kingdom, Hong Kong and China.
PRODUCTS
Digi is a worldwide leader in connecting peripherals to networks. From
multi-port serial control to Universal Serial Bus (USB) connectivity to remote
access to Local Area Network (LAN) infrastructure, Digi's products enable a
virtually unlimited number of devices or users to be connected locally or
remotely to LANs, multi-user systems and the Internet. The Company's products
are compatible with all PC platforms, including Compaq, IBM, Hewlett-Packard and
Sun Microsystems, as well as popular operating systems, such as Microsoft
Windows NT/95/2000, Novell NetWare, Linux and UNIX.
The Company has sales offices located throughout North America, Europe and
Asia. Digi products are available through 180 distributors in more than 65
countries. More than 650 VARs participate in the DigiVAR Program, introduced in
July 1993.
The application markets where these products are most prominently used are
point-of-sales systems (POS), industrial automation, medical, hospitality, and
building automation. In addition, the Company has expanded into new applications
such as console management and wireless products to complement its existing
portfolio.
The Company's primary product lines are its multi-port serial adapters,
device servers, terminal servers, USB, and LAN connectivity products.
MULTI-PORT SERIAL ADAPTERS
The Company is a leader in this product category and offers one of the most
comprehensive multi-port serial adapter family of products. The Company's
products support a wide range of operating systems, port-density, bus type,
expansion options, and applications.
As Ethernet connections extend beyond current applications, the internal
multi-port serial adapter products are expected to gradually transition to
network-attached terminal server devices. The Company has strengthened its
product offering to continue to successfully meet customer needs and believes
that multi-port serial adapters will continue to be an important product
category.
TERMINAL SERVER/DEVICE SERVER
The Company's terminal server and device server families offer flexible and
easy solutions for providing access to serial devices over Ethernet networks. As
Ethernet-based serial connections extend beyond their current applications and
into new market uses such as building automation, process control and console
port management on servers, routers, switches, and other network equipment, the
Company believes that terminal servers and device servers will continue to be a
major growth area.
H-3
UNIVERSAL SERIAL BUS
The Company expanded its product lines with its acquisition of Inside Out
Networks, Inc. (Inside Out Networks) in October 2000. The acquisition creates
the most comprehensive and complete USB product line in the industry, expanding
on the USB technology acquired in the July 1998 acquisition of Central Data
Corporation (CDC), and brings an extensive list of satisfied corporate customers
such as Agilent, Gateway, Hewlett-Packard, IBM, Lucent Technologies, Microsoft,
NCR Corporation, Sun Microsystems and others into the Company's customer base.
The Company also benefits from Inside Out Networks' pioneering EPIC software,
which provides seamless transition between legacy software/systems and
next-generation USB-attached devices, supporting feature-rich hardware and
software flow control signaling. This provides ease of use and integration while
protecting technology investments.
LAN CONNECTIVITY
The Company entered the LAN market with its acquisition of MiLAN Technology
Corporation (MiLAN) in November 1993. The Company's LAN business, MiLAN
Technology, provides a complete portfolio of multilayer networking products,
including wireless access points and clients, managed and unmanaged switches,
media converters, print servers and fault tolerant transceivers. These products
are designed to increase the reliability, security and management of
multi-tenant, campus and local area networks. The Company was recently awarded a
multi-million dollar contract to provide fiber-optic LAN connectivity for a
major school district in California.
DISTRIBUTION AND PARTNERSHIPS
Significant U.S. distributors include: Ingram Micro, Tech Data Corporation,
Gates/Arrow Distributing, Merisel, Avnet/Hallmark, Seneca Data and Express
Systems & Peripherals.
Significant Canadian distributors include: Gates/Arrow Electronics, EMJ
Data Systems, Ingram Micro Canada and Tech Data Canada.
Significant European distributors include: Miel, Arecta, Westbase
Technology, Sphinx Computer, Connect Service Riedlbauer, Mitrol, Euroline and
Data Solutions.
Significant Latin American and Asia Pacific distributors include: Tech
Pacific, Sumisho Datacom, Lantech and Ingram Dicom.
Digi maintains strategic alliances with other industry leaders to develop
and market technology solutions. These include most major communications
software vendors, operating system suppliers, and computer hardware
manufacturers. Key partners include: Citrix Systems, Compaq, Hewlett-Packard,
IBM, Intel, Lotus, Micron, Motorola, Novell, Red Hat, Santa Cruz Operation, Sun
Microsystems and Tobit.
CUSTOMERS
The Company's customer base includes many of the world's largest companies.
Long-time customer IBM made the Company's adapter boards the first integrated
communications offering for the iSeries (previously named AS400) in 2000, in
addition to the products currently being sold into the pSeries (previously named
RS6000). The Company has OEM relationships with leading vendors, allowing them
to ship the Company's board and network products as component parts of their
overall networking solutions. These vendors include NCR, Sun Microsystems,
Hewlett Packard, Compaq and Groupe Bull, among others. Many of the world's
leading telecommunications companies and Internet service providers also rely on
the Company's products, including Lucent, Nortel, AT&T, Sprint, Verizon and
Seimens.
During the year ended September 30, 2001, two customers comprised more than
10% of net sales each: Tech Data at 13.9% and Ingram Micro at 11.3%. During the
year ended September 30, 2000, two customers comprised more than 10% of net
sales each: Tech Data at 13.4% and Ingram Micro at 10.0%. During the year ended
September 30, 1999, two customers comprised more than 10% of net sales each:
Tech Data at 15.4% and Ingram Micro at 13.4%.
H-4
COMPETITIVE CONDITIONS
The computer industry is characterized by rapid technological advances and
evolving industry standards. The market can be significantly affected by new
product introductions and marketing activities of industry participants. The
Company competes for customers on the basis of product performance in relation
to compatibility, support, quality and reliability, product development
capabilities, price and availability.
The Company believes that it is a global market leader in multi-port serial
adapters. As this market continues to mature, the Company will focus on key
applications, customers, and markets to manage applications as they transition
to other technologies such as Ethernet, USB, and wireless connectivity products.
The Company also believes it is a leader in connecting peripheral devices to
Ethernet LANs with its terminal server and device server product lines. With
respect to the LAN business, the Company believes it commands less than a 5%
market share.
Some of the Company's competitors and potential competitors may have
greater financial, technological, manufacturing, marketing and personnel
resources than the Company. Present and future competitors may be able to
identify new markets and develop products more quickly which are superior to
those developed by the Company. They may also adapt new technologies faster,
devote greater resources to research and development, promote products more
aggressively and price products more competitively than the Company. There are
no assurances that competition will not intensify or that the Company will be
able to compete effectively in the markets in which the Company competes.
OPERATIONS
The Company's manufacturing operations procure all parts and certain
services involved in production and subcontracts most of its product
manufacturing to outside firms that specialize in such services. The Company
believes that this approach is beneficial because the Company can reduce its
fixed costs, maintain production flexibility and maximize its profit margins.
The Company's products are manufactured to its designs with standard and
semi-custom components. Most of these components are available from multiple
vendors. The Company has several single-sourced supplier relationships, either
because alternative sources are not available or because the relationship is
advantageous to the Company. If these suppliers are unable to provide a timely
and reliable supply of components, the Company could experience manufacturing
delays adversely affecting its results of operations.
During fiscal years 2001, 2000 and 1999, the Company's research and
development expenditures were $18.3, $20.2 and $21.8 million, respectively.
Due to rapidly changing technology in the computer industry, the Company
believes that its success depends primarily upon the engineering, marketing,
manufacturing and support skills of its personnel, rather than upon patent
protection. Although the Company may seek patents where appropriate and has
certain patent applications pending for proprietary technology, the Company's
proprietary technology or products are generally not patented. The Company
relies primarily on the copyright, trademark and trade secret laws to protect
its proprietary rights in its products. The Company has established common law
and registered trademark rights on a family of marks for a number of its
products.
As of September 30, 2001, the Company had backlog orders which management
believed to be firm in the amount of $1.4 million. All of these orders are
expected to be filled in the current fiscal year. Backlog as of September 30,
2000 and September 30, 1999 was $4.4 million and $5.0 million, respectively.
The Company had 425 employees at September 30, 2001.
ITEM 2. PROPERTIES
The Company's headquarters and research facilities are located in a 130,000
square foot office building in Minnetonka, Minnesota which the Company acquired
in August 1995 and has occupied since
H-5
March 1996. The Company's primary manufacturing facility is located in a 58,000
square foot building in Eden Prairie, Minnesota, which the Company purchased in
May 1993 and has occupied since August 1993. Additional office and research
facilities include a 63,000 square foot facility in Dortmund, Germany, a 46,170
square foot facility in Sunnyvale, California, the lease for which expires in
April 2002, and a 5,000 square foot facility in Champaign, Illinois, the lease
for which expires in January 2002. Subsequent to the Company's fiscal year end,
the lease was extended to expire in February 2005. In connection with the
acquisition of Inside Out Networks in October 2000, the Company acquired an
additional 10,465 square foot facility in Austin, Texas and a 3,655 square foot
facility in Torrance, California. The leases on these facilities expire in
October 2005 and September 2003, respectively.
Management believes that the Company's facilities are suitable and adequate
for current office, research and warehouse requirements, and that its
manufacturing facilities provide sufficient production capacity to meet the
Company's currently anticipated needs.
ITEM 3. LEGAL PROCEEDINGS
Between January 3, 1997 and March 7, 1997, the Company and certain of its
previous officers were named as defendants in putative securities class action
lawsuits filed in the United States District Court for the District of Minnesota
by 21 lead plaintiffs on behalf of an alleged class of purchasers of the
Company's common stock during the period January 25, 1996 through December 23,
1996. The putative class actions were thereafter consolidated (Master File No.
97-5 DWF/RLE). The Consolidated Amended Class Action Complaint ("Consolidated
Amended Complaint") alleges that the Company and certain of its previous
officers violated the federal securities laws by, among other things,
misrepresenting and/or omitting material information concerning the Company's
operations and financial results.
On February 25, 1997, the Company and certain of its previous officers also
were named as defendants in a securities lawsuit filed in the United States
District Court for the District of Minnesota by the Louisiana State Employees
Retirement System (Civil File No. 97-440, Master File No. 97-5 DWF/ RLE) (the
"Louisiana Amended Complaint"). The Louisiana Amended Complaint alleges that the
Company and certain of its previous officers violated the federal securities
laws and state common law by, among other things, misrepresenting and/or
omitting material information concerning the Company's operations and financial
results.
In a decision issued on May 22, 1998, the District Court dismissed without
leave to replead all claims asserted in both cases, including all claims
asserted against defendant Gary L. Deaner, except for certain federal securities
law claims based upon alleged misrepresentations and/or omissions relating to
the accounting treatment applied to the Company's AetherWorks investment. The
District Court also limited the claims asserted in the Louisiana Amended
Complaint to the 11,000 shares of the Company's stock held subsequent to
November 14, 1996, for which the Louisiana Amended Complaint claims damages of
$184,276 and seeks an award of attorneys' fees, disbursements and costs. The
Consolidated Amended Complaint seeks compensatory damages of approximately $43.1
million, plus interest, against all defendants, jointly and severally, and an
award of attorneys' fees, experts' fees and costs.
On August 17, 2000, the District Court granted defendants' motions for
summary judgment and dismissed with prejudice the Consolidated Amended Complaint
and the Louisiana Amended Complaint.
Although the 21 lead plaintiffs in the consolidated putative class actions
had previously moved for class certification, the District Court dismissed the
actions before ruling on that motion. Both the Louisiana State Employees
Retirement System and the 21 lead plaintiffs in the consolidated putative class
actions filed appeals from the decisions of the District Court.
On July 5, 2001, the United States Court of Appeals for the Eighth Circuit
affirmed the decisions of the District Court and ordered that judgment be
entered in favor of defendants on the claims alleged in the Consolidated Amended
Complaint and the Louisiana Amended Complaint. On September 28, 2001, the Court
of Appeals denied a petition for rehearing en banc filed by the 21 lead
plaintiffs in the consolidated putative class actions.
H-6
Management does not expect that the outcome of the action will have a
material adverse effect on the Company's financial position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
There were no matters submitted to the vote of security holders during the
quarter ended September 30, 2001.
H-7
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER'S MATTERS
STOCK LISTING
The Company's Common Stock trades on the Nasdaq National Market tier of the
Nasdaq Stock Market(TM) under the symbol "DGII." On December 10, 2001, the
number of holders of the Company's Common Stock was approximately 15,374,947,
consisting of 250 record holders and approximately 6,200 stockholders whose
stock is held by a bank, broker or other nominee.
High and low sale prices for each quarter during the years ended September
30, 2001 and 2000, as reported on the Nasdaq Stock Market, were as follows:
STOCK PRICES
2001 FIRST SECOND THIRD FOURTH
---- ------ ------ ------ ------
High................................................ $ 9.25 $ 8.13 $10.40 $9.50
Low................................................. $ 5.53 $ 5.41 $ 4.50 $4.70
2000 FIRST SECOND THIRD FOURTH
---- ------ ------ ------ ------
High................................................ $17.75 $15.13 $ 9.63 $9.06
Low................................................. $10.06 $ 8.19 $ 4.63 $6.00
DIVIDEND POLICY
The Company has never paid cash dividends on its Common Stock. The Board of
Directors presently intends to retain all earnings for use in the Company's
business and does not anticipate paying cash dividends in the foreseeable
future.
The Company does not have a Dividend Reinvestment Plan or a Direct Stock
Purchase Plan.
H-8
ITEM 6. SELECTED FINANCIAL DATA
FOR THE FISCAL YEARS ENDED SEPTEMBER 30 2001 2000 1999 1998 1997
--------------------------------------- ----------- ----------- ----------- ----------- -----------
(IN THOUSANDS EXCEPT PER SHARE AMOUNTS AND NUMBER OF EMPLOYEES)
Net sales............................... $130,405 $132,525 $193,506 $182,932 $165,598
Acquired in-process research and
development........................... -- -- -- 16,065 --
Restructuring........................... 1,121 1,382 607 1,020 10,472
AetherWorks Corporation net operating
loss.................................. -- -- -- -- (5,764)
AetherWorks Corporation gain
(write-off)........................... -- -- -- 1,350 (5,759)
AetherWorks Corporation note recovery... -- 8,000 -- -- --
Impairment loss......................... -- (26,146) -- -- --
Income (loss) before cumulative effect
of accounting change.................. 119 (16,825) 3,192 (71) (15,791)
Cumulative effect of accounting
change................................ (1,902) -- -- -- --
Net (loss) income....................... (1,783) (16,825) 3,192 (71) (15,791)
Net (loss) income per common share --
basic:
Continuing operations................. -- (1.12) 0.22 (0.01) (1.18)
Cumulative effect of accounting
change............................. (0.12) -- -- -- --
Net (loss) income per common share --
assuming dilution:
Continuing operations................. -- (1.12) 0.22 (0.01) (1.18)
Cumulative effect of accounting
change............................. (0.12) -- -- -- --
Working capital......................... 74,233 78,085 59,946 37,896 61,979
Total assets............................ 139,453 142,922 176,330 191,521 118,311
Long-term debt.......................... 5,499 7,081 9,206 11,124 --
Stockholders' equity.................... 112,917 113,459 127,164 121,251 95,471
Book value per share.................... 7.39 7.45 8.52 8.34 7.09
Number of employees..................... 425 525 583 703 481
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995
This Annual Report contains certain statements that are "forward-looking
statements" as that term is defined under the Private Securities Litigation
Reform Act of 1995, and within the meaning of Section 27A of the Securities Act
of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as
amended. The words "believe," "expect," "anticipate," "intend," "estimate,"
"target," "may," "will," "plan," "project," "should," "continue," or the
negative thereof or other expressions, which are predictions of or indicate
future events and trends and which do not relate to historical matters, identify
forward-looking statements. Such statements are based on information available
to management as of the time of such statements and relate to, among other
things, expectations of the business environment in which the Company operates,
projections of future performance, perceived opportunities in the market and
statements regarding the Company's mission and vision. Forward-looking
statements involve known and unknown risks, uncertainties and other factors,
which may cause the actual results, performance or achievements of the Company
to differ materially from anticipated future results, performance or
achievements expressed or implied by such forward-looking statements. The
Company undertakes no obligation to publicly update or revise any
forward-looking statement, whether as a result of new information, future events
or otherwise.
The future operating results and performance trends of the Company may be
affected by a number of factors, including, without limitation, the following:
(i) the highly competitive market in which the
H-9
Company operates; (ii) the Company's ability to respond to rapidly developing
changes in its marketplace; (iii) delays in the Company's product development
efforts; (iv) the useful life of products once developed; (v) the Company's
ability to integrate its recent acquisitions and proposed acquisition of
NetSilicon, Inc. (NetSilicon) and to develop marketable products from the
acquired in-process research and development; (vi) the Company's reliance on
distributors; (vii) declining prices of networking products; (viii) uncertainty
in consumer acceptance of the Company's products; and (ix) changes in the
Company's level of revenue or profitability. These and other risks,
uncertainties and assumptions identified from time to time in the Company's
filings with the Securities and Exchange Commission, including without
limitation, its quarterly reports on Form 10-Q and its registration statements,
could cause the Company's actual future results to differ materially from those
projected in the forward-looking statements as a result of the factors set forth
in the Company's various filings with the Securities and Exchange Commission and
of changes in general economic conditions, changes in interest rates and/or
exchange rates and changes in the assumptions used in making such
forward-looking statements.
The following table sets forth selected information from the Company's
Consolidated Statements of Operations, expressed as a percentage of net sales.
INCREASE/(DECREASE)
YEAR ENDED SEPTEMBER 30, ---------------------
------------------------ 2001 OVER 2000 OVER
2001 2000 1999 2000 1999
------ ------ ------ --------- ---------
Net sales.......................................... 100.0% 100.0% 100.0% (1.6)% (31.5)%
Cost of sales...................................... 50.8 47.4 49.3 5.3 (34.0)
----- ----- ----- ----- -------
Gross margin....................................... 49.2 52.6 50.7 (7.8) (29.1)
Operating expenses:
Sales and marketing.............................. 23.5 26.0 22.7 (10.8) (21.5)
Research and development......................... 14.1 15.2 11.3 (9.1) (7.7)
General and administrative....................... 12.4 14.6 12.2 (16.0) (18.2)
Impairment loss.................................. -- 19.7 -- -- --
Restructuring.................................... 0.9 1.1 0.3 (18.9) 127.5
----- ----- ----- ----- -------
Total operating expenses........................... 50.9 76.6 46.5 (34.5) 12.8
Operating (loss) income............................ (1.7) (24.0) 4.2 93.1 (486.5)
Other income (expense), net........................ 1.8 2.0 (0.1) (10.2) 1,140.8
AetherWorks Corporation note recovery.............. -- 6.0 -- -- --
Income (loss) before income taxes and cumulative
effect of accounting change...................... 0.1 (16.0) 4.1 100.9 (365.2)
Income tax provision (benefit)..................... -- (3.3) 2.5 101.5 (190.6)
----- ----- ----- ----- -------
Income (loss) before cumulative effect of
accounting change................................ 0.1 (12.7) 1.6 100.7 (627.1)
----- ----- ----- ----- -------
Cumulative effect of accounting change, net of
taxes............................................ (1.5) -- -- -- --
----- ----- ----- ----- -------
Net (loss) income.................................. (1.4)% (12.7)% 1.6% 89.4% (627.1)%
===== ===== ===== ===== =======
NET SALES
In December 1999, the Securities and Exchange Commission (SEC) issued Staff
Accounting Bulletin No. 101, Revenue Recognition in Financial Statements (SAB
101). SAB 101 summarizes the SEC's views in applying generally accepted
accounting principles to selected revenue recognition issues.
The Company generally recognizes revenue at the date that products are
shipped to distributors or original equipment manufacturers. Upon adoption of
SAB 101 in the fourth quarter of fiscal 2001, the Company changed its revenue
recognition policy with regard to certain product sales. Essentially, the new
policy recognizes that the risks and rewards of ownership in certain
transactions do not substantively
H-10
transfer to customers upon shipment of the products. These new policies are
consistent with the guidance contained in SAB 101. The effect of this change in
revenue recognition policy, as of October 1, 2000, has been reported as the
cumulative effect of an accounting change in the first quarter of fiscal 2001 of
$1.9 million, net of taxes, which includes revenue of approximately $6.3
million, less cost of sales and certain direct selling expenses. (See Note 18 to
the Company's Consolidated Financial Statements.)
The following table presents the estimated consolidated results of
operations of the Company on an unaudited pro forma basis if SAB 101 guidance
had been effective in fiscal 2000. Information to estimate the fiscal 1999
impact of the accounting change was not available as a result of a change in the
Company's financial reporting system in fiscal 1999.
2000
------------
Net sales................................................... $135,411,197
Net loss.................................................... $(15,828,728)
Net loss per share.......................................... $ (1.05)
The $2.1 million or 1.6% decrease in net sales from 2000 to 2001 and the
$61.0 million or 31.5% decrease in net sales from 1999 to 2000 occurred within
the Company's principal product groups as follows:
PERCENT OF ANNUAL NET SALES
----------------------------
2001 2000 1999
------ ------ ------
Growth...................................................... 26.4% 19.7% 16.3%
Mature...................................................... 56.3% 70.2% 73.4%
LAN......................................................... 17.4% 10.1% 10.3%
In addition to the factors discussed below, the Company's net sales in 2001
were lower than initially anticipated and lower than fiscal 2000 net sales,
partially due to an industry-wide decline in demand associated with the economic
downturn. Net sales of the Company's products addressing growth markets, which
consists of terminal server, USB and device server products, generated revenues
of $34.4 million for the 2001 fiscal year, an increase of $8.3 million, or
31.7%, relative to the net sales recognized during the year ago period for these
products. The increase in net sales is a result of the Company's repositioning
of its product lines into growth markets and acquired expertise in USB and
device server connectivity solutions. Net sales of the products addressing
mature markets, which consists of asynchronous, synchronous and RAS products,
were $73.4 million, a decrease of $19.6 million, or 21.1%. The continued erosion
of the asynchronous product market, offset partially by market share gain,
accounts for $10.5 million of the decline. The phase out of the ISDN product
line resulted in a $5.0 million decrease compared to the year ago period, and
the Company's digital remote access server (RAS) products sales decreased by
$4.1 million. Net sales of the Company's physical layer LAN products were $22.6
million and increased by $9.2 million, or 68.9%, relative to fiscal year 2000,
primarily as a result of many new product introductions, as well as increases in
the volume of media conversion products the Company delivered to the education
market.
Net sales decreased by $61.0 million from 1999 to 2000 largely due to a
decline in revenues of $49.1 million, or 34.5%, from products addressing mature
markets. The decrease is related to the erosion of the asynchronous product
market and the demand downturn associated with the post Year 2000 period.
The decline in asynchronous products accounts for $38.8 million of the
decrease in sales in fiscal 2000 as compared to 1999. In addition, in the second
quarter of fiscal 2000, the Company eliminated the VoIP product line, and the
ISDN product line experienced a slowdown in sales, resulting in reduced revenues
of $15.9 million relative to the net sales recognized during fiscal 1999 for
these products. Net sales of the Company's digital RAS and synchronous products
contributed an additional $5.6 million of revenues during fiscal 2000 as
compared to the prior year. Net sales of the products addressing growth markets
declined by $5.4 million, or 17.2%, in fiscal 2000 compared to 1999, due to a
lack of new product
H-11
introductions and the effect of the post Year 2000 period. Net sales of the
Company's physical layer products declined by $6.5 million, or 32.6%, in 2000
relative to 1999.
Net sales to OEMs in 2001 decreased 29.7% relative to 2000, and as a
percentage of total net sales, decreased 8.4% from 29.3% in 2000 to 20.9% in
2001. Net sales to OEMs for 1999 were 24.9% of total net sales.
Net sales into the distribution channel declined 5.5% from 2000 and as a
percentage of total net sales, declined 2.5% to 60.9% as compared to 63.4% in
2000. International distribution net sales decreased by 1.0% over fiscal 2000.
Domestic distribution net sales declined by 8.6% due to overall market
conditions discussed previously. Net sales to the distribution market for 1999
represented 69.3% of total net sales.
During fiscal years 2001, 2000 and 1999, the Company's net sales to
customers outside the United States, primarily in Europe, were approximately
$43.0 million, $46.1 million, and $67.4 million, respectively, comprising
approximately 33.0%, 34.8%, and 34.8% of total net sales, respectively.
As a result of repositioning its product lines into growth markets during
fiscal year 2001, the Company expects to continue to enhance its Connectware
positioning into these growth markets in the future.
GROSS MARGIN
Gross margin in 2001 was 49.2%, compared to 52.6% in 2000, primarily due to
the $3.0 million write down of inventories associated with a discontinued RAS
product line and the overall impact of sales volume declines in fiscal 2001.
Gross margin in 2000 improved to 52.6%, compared to 50.7% in 1999,
primarily due to fewer pricing and volume discount incentives offered to channel
partners in fiscal 2000 and an increase in sales of higher margin DSP RAS
products.
OPERATING EXPENSES
Operating expenses in 2001, excluding restructuring and asset impairment
charges, decreased $8.7 million or 11.7% as compared to operating expenses for
2000. Operating expenses in 2001, excluding restructuring and asset impairment
charges, were 50.0% of net sales compared to 55.8% of net sales in 2000. All
operating expense categories, including sales and marketing, research and
development, and general and administrative, were less in 2001 than in 2000 in
terms of both total dollars and as a percentage of net sales. The savings were a
result of several factors, including controls placed on discretionary spending
throughout the fiscal year, the closure of foreign locations during fiscal 2001,
and savings realized as a result of prior year restructuring decisions.
Sales and marketing expenses declined by $3.7 million primarily as a result
of cost control initiatives which the Company implemented early in 2001. The
Company took actions to hold most discretionary expenses below the prior year
levels in response to the lower sales volumes in 2001. The Company generated
savings of $3.8 million primarily by reducing spending for compensation and
employee related costs $0.8 million, advertising spending $0.5 million,
discretionary marketing expenses $1.7 million and other expenses $0.8 million.
The technical support function was eliminated in Europe and moved to the
corporate location in Minnetonka as a result of the European restructuring which
took place in 2000, creating a savings of $0.6 million in technical support
costs in 2001. In fiscal 2001, the Company also closed its Australia and
Singapore foreign sales offices resulting in sales and marketing savings of $0.4
million compared to 2000. Incremental sales and marketing expenses related to
the operations of Inside Out Networks and INXTECH, which were acquired in 2001,
totaled $1.2 million.
Research and development expenses decreased by $1.8 million relative to
2000, largely due to compensation and other employee-related cost savings of
$1.1 million associated with a reduction in the engineering staff. As a result
of the 2000 restructuring in Europe, research and development costs
H-12
decreased by $2.0 million, partially offset by incremental research and
development costs of $1.3 million related to the operations of Inside Out
Networks and INXTECH during 2001.
General and administrative expenses in 2001 decreased by $3.1 million
relative to 2000, of which $2.1 million resulted from a decrease in amortization
associated with the write-off of the VoIP and ISDN identifiable intangibles and
goodwill of $3.8 million, partially offset by $1.7 million in amortization
associated with the Inside Out Networks and INXTECH acquisitions. An additional
$1.6 million in savings were realized due to a reduction in employees and the
cost containment measures implemented throughout the Company. The Company
realized another $0.2 million of cost reductions as a result of the 2000
restructuring of European operations. The Company incurred $0.8 million of
incremental general and administrative costs related to the operations of Inside
Out Networks and INXTECH.
Operating expenses in 2000, excluding restructuring, reorganization and
asset impairment charges, decreased $15.4 million or 17.2% as compared to
operating expenses for 1999. Sales and marketing expenses declined by $9.4
million as a result of lower salaries of $3.6 million related to 1999
restructuring activities, lower advertising costs and commissions of $1.1
million and $0.7 million, respectively, resulting from lower sales volumes in
2000, and lower travel expenses of $0.6 million in response to cost control
measures implemented primarily due to the lower sales volumes experienced in
2000. Marketing expenses were lower than in 1999 by $3.4 million due to fewer
new product introductions and less trade show activity. Research and development
expenses in 2000 decreased by $1.7 million relative to 1999, largely due to the
discontinuance of the NetBlazer technology and the elimination of the related
VoIP product line in Germany. General and administrative expenses in 2000
decreased by $4.3 million relative to 1999, of which $2.7 million resulted from
the decrease in amortization associated with the write-off of the VoIP
identifiable intangibles and goodwill, and prior year restructuring activities
which created cost reductions in 2000 of approximately $0.6 million. An
additional $1.0 million in savings were realized due to cost controls
implemented across the entire Company.
The $1.4 million of restructuring charges recorded in fiscal 2001 were the
result of a board-approved workforce reduction of approximately 13% or 61
employees. The restructuring charge consists entirely of severance and
termination costs for the 61 positions affected by the restructuring.
Restructuring activities were completed at the end of the fourth quarter of
fiscal 2001. The Company anticipates annual cost savings of approximately $4.0
million from these restructurings. (See Note 4 to the Company's consolidated
financial statements.)
The $1.5 million of restructuring charges recorded in fiscal 2000 were
associated with the board-approved plan to restructure the European organization
located in Dortmund, Germany and Bagshot, England, by transitioning all product
development, technical support and manufacturing functions to the Company's
corporate headquarters located in Minnetonka, Minnesota. The restructuring
charge consists principally of severance and termination costs for the 75
positions affected by the restructuring. Restructuring activities were completed
by the end of the second quarter of fiscal 2001. The Company realized cost
savings of approximately $3.6 million in fiscal year 2001 from these
restructurings. (See Note 4 to the Company's consolidated financial statements.)
The $1.2 million of net restructuring charges recorded in fiscal 1999 were
associated with the board-approved plan to reorganize the sales and marketing
functions in Germany, England and the United States, by consolidating worldwide
sales and marketing resources into strategic locations. The charges consisted
principally of existing commitments for rent on facilities vacated by the
Company and termination payments associated with the elimination of 42
positions. These activities were completed in December 1999. The Company
realized cost savings of approximately $0.4 million in fiscal year 2001 from
these restructurings. (See Note 4 to the Company's consolidated financial
statements.)
IMPAIRMENT LOSS
In the second quarter of fiscal 2000, the Company recorded an $18.1 million
charge reflecting the write-down of the carrying value of all of the intangible
assets associated with the NetBlazer technology
H-13
and some of the goodwill acquired in the Company's July 1998 purchase of ITK.
The write-down resulted from the Company's March 2000 decision to discontinue
development of the NetBlazer technology when the key technical members of the
NetBlazer technology team elected to leave the Company and the Company concluded
that it would not be able to successfully develop a competitive product from the
technology. Accordingly, the Company determined that future undiscounted cash
flows from the acquired ITK assets would be substantially reduced, and
therefore, the carrying value of the acquired ITK assets would be impaired. (See
Note 3 to the Company's consolidated financial statements.)
In September 2000, the Company recorded a charge of $5.8 million reflecting
a write-down of the remaining carrying value of identifiable intangible assets
and goodwill associated with the Integrated Services Digital Network (ISDN)
technology and some of the other long-lived assets acquired in the Company's
July 1998 purchase of ITK. The write-down resulted from the Company's September
2000 decision to discontinue all business activities in the ISDN market. The
Company determined that it did not have the capability to invest at the levels
necessary to achieve significant market share in the ISDN market and, therefore,
has discontinued development activities associated with the ISDN product lines.
Accordingly, the Company determined that future undiscounted cash flows from the
remaining acquired ITK intangible assets would be reduced and, therefore, the
carrying value of the remaining acquired ITK intangible assets would be
impaired.
OTHER INCOME (EXPENSE)
Other income of $2.4 million in 2001 consisted primarily of interest income
on short-term investments of $2.7 million and $0.3 million of miscellaneous
other income, partially offset by $0.6 million of interest expense on the
Company's borrowings. Other income of $2.7 million in 2000 consisted primarily
of interest income on short-term investments of $2.7 million and $0.7 million of
miscellaneous other income. These items were partially offset by $0.8 million of
interest expense on the Company's borrowings. Other expense of $0.3 million in
1999 consisted primarily of $1.0 million of interest expense on lines of credit
and long-term debt partially offset by $0.8 million of interest income on
short-term investments.
AETHERWORKS CORPORATION NOTE RECOVERY
In March 2000, the Company received a payment of $8.0 million on a
non-convertible note receivable from AetherWorks Corporation, at which time an
$8.0 million gain was recognized. The note had been recorded as having no
carrying value in 1998 due to significant uncertainty as to its collectibility.
The note was subsequently paid in connection with the acquisition of AetherWorks
Corporation by Nx Networks, Inc.
INCOME TAXES
The Company recorded a $0.1 million tax provision for 2001, before
cumulative effect of accounting change. A tax benefit of $4.3 million and a tax
provision of $4.8 million were recorded for fiscal years 2000 and 1999,
respectively. The tax provision for 2001 is recorded at a rate slightly greater
than the U.S. statutory rate primarily due to non-deductible amortization of
goodwill acquired in the purchase of CDC, Inside Out Networks and INXTECH,
partially offset by the exclusion of non-taxable foreign source income. The tax
benefit in 2000 is recorded at a rate less than the U.S. statutory rate
primarily due to non-deductible charges and amortization, partially offset by
the non-taxable gain recognized upon recovery of the AetherWorks Corporation
note. For fiscal 1999, the Company recorded taxes at a rate in excess of the
U.S. statutory rate primarily due to the amortization of goodwill acquired in
the purchase of ITK and CDC, which was not deductible for income tax reporting
purposes.
RECENT DEVELOPMENTS
On October 30, 2001, the Company announced that they have entered into a
definitive merger agreement whereby Digi will acquire NetSilicon, a provider of
Ethernet microprocessing solutions for
H-14
intelligent networked devices. The transaction is subject to approval by
shareholders of both companies. (See Note 17 to the Company's consolidated
financial statements.)
INFLATION
The Company believes inflation has not had a material effect on its
operations or its financial condition.
LIQUIDITY AND CAPITAL RESOURCES
The Company has financed its operations principally with funds generated
from operations, and, in prior years, with proceeds from earlier public
offerings.
The Company's working capital decreased from $78.1 million at September 30,
2000, to $74.2 million at September 30, 2001, as compared to an increase of
$18.2 million, from $59.9 million to $78.1 million, at September 30, 2000 versus
September 30, 1999, respectively. The Company maintains a line of credit with a
banking institution in Germany providing for borrowings of up to $5.0 million,
depending upon levels of eligible accounts receivable and inventories. As of
September 30, 2001, $0.9 million had been borrowed under these line of credit
agreements.
Net cash provided by operating activities totaled $10.5 million during
fiscal 2001 as compared to $27.4 million during fiscal 2000. The decrease in net
cash provided by operations during fiscal 2001 was primarily due to a net
increase of $1.3 million in operating assets and liabilities compared to a net
decrease of $6.1 million in operating assets and liabilities during fiscal 2000.
The increase in net operating assets and liabilities generated in fiscal 2001 is
primarily the result of a slowdown in accounts receivable collections in the
last half of fiscal 2001. Net cash provided by operations was also lower in
fiscal 2001 compared to fiscal 2000 since the Company received an $8.0 million
cash payment for the AetherWorks note in fiscal 2000. The decrease in net cash
provided by operations during fiscal 2000 compared to fiscal 1999 was primarily
due to less favorable operating results.
Investing activities in 2001 consisted of net investments of $5.7 million
in marketable securities and purchases of $1.6 million of equipment, capital
improvements and other intangible assets. The Company also used $10.1 million of
cash for the acquisitions of Inside Out Networks and INXTECH (see Note 2 of the
Company's consolidated financial statements.) In 2000 investing activities
included net investments of $6.4 million in marketable securities and purchases
of $2.5 million of equipment and other intangible assets. Investing activities
in 1999 consisted of net investments of $13.6 million in marketable securities
and purchases of $4.8 million of equipment, and expansion of the Company's
enterprise-wide Enterprise Resource Planning (ERP) software system.
Financing activities consisted of payments on line of credit and debt
obligations totaling $2.9 million, $1.4 million and $5.9 million for 2001, 2000
and 1999, respectively. These payments were partially offset by $1.3 million,
$1.5 million and $3.0 million in 2001, 2000 and 1999, respectively, received
from the exercise of employee stock options and employee stock purchase plan
transactions. In 1999, the Company also spent $0.8 million to repurchase shares
of its common stock.
The Company's management believes that current financial resources, cash
generated from operations and the Company's potential capacity for debt and/or
equity financing will be sufficient to fund current and future business
operations.
FOREIGN CURRENCY TRANSLATION
Effective January 1, 1999, eleven countries of the European Union converted
to a common currency called the "Euro." This action caused some of the Company's
European transactions to be negotiated, invoiced, and paid in "Euros." The
conversion will most likely add currency exchange costs and risks, although such
costs and risks are not quantifiable at this time.
H-15
During 2001, the Company had approximately $43.0 million of net sales
related to foreign customers, of which $33.6 million were denominated in U.S.
dollars, $9.3 million were in Deutschemark-denominated sales, and $0.1 million
were in Euro-denominated sales. During 2001, the average monthly exchange rate
for the U.S. dollar to the Deutschemark increased by approximately 4.7% from
.4455 to .4666.
During 2000, the Company had approximately $46.1 million of net sales
related to foreign customers, of which $41.0 million were denominated in U.S.
dollars, $5.0 million were in Deutschemark-denominated sales, and $0.1 million
were in Euro-denominated sales. During 2000, the average monthly exchange rate
for the U.S. dollar to the Deutschemark dropped by approximately 17.0% from
.5370 to .4455.
In future periods, a significant portion of sales will be made in
Deutschemarks until full integration of the "Euro" is achieved. The Company has
not implemented a hedging strategy to reduce the risk of foreign currency
translation exposures.
RECENT ACCOUNTING DEVELOPMENTS
In June 2001, the Financial Accounting Standards Board (FASB) issued
Statements of Financial Accounting Standards No. 141, "Business Combinations"
(FAS 141), and No. 142, "Goodwill and Other Intangible Assets" (FAS 142). The
most significant changes made by FAS No. 141 are: 1) requiring that the purchase
method of accounting be used for all business combinations initiated after June
30, 2001, and 2) establishing specific criteria for the recognition of
intangible assets separately from goodwill. FAS No. 142 primarily addresses the
accounting for acquired goodwill and intangible assets (i.e., the post-
acquisition accounting). The provisions of FAS No. 142 will be effective for the
Company in fiscal year 2003. The most significant changes made by FAS No. 142
are: 1) goodwill and indefinite-lived intangible assets will no longer be
amortized, and 2) goodwill and indefinite-lived intangible assets will be tested
for impairment at least annually. Goodwill and intangible assets acquired after
June 30, 2001, will be subject immediately to the nonamortization and
amortization provisions of this statement. These standards only permit
prospective application of the new accounting; accordingly, adoption of these
standards will not affect previously reported financial information of the
Company.
Although the Company has not completed its assessment of the impact of the
adoption of FAS 142, management believes that the principal effect will be the
Company ceasing the amortization of goodwill and assembled workforce. Goodwill
and assembled workforce amortization was approximately $2,427,000 for the year
ended September 30, 2001.
In July 2001, the FASB issued Statement of Financial Accounting Standards
No. 143, "Accounting for Asset Retirement Obligations" (FAS 143), which
addresses financial accounting and reporting for obligations associated with the
retirement of tangible long-lived assets and the associated asset retirement
costs. FAS 143 requires an entity to recognize the fair value of a liability for
an asset retirement obligation in the period in which it is incurred. Upon
initial recognition of a liability for an asset retirement obligation, an entity
shall capitalize an asset retirement cost by increasing the carrying amount of
the related long-lived asset by the same amount as the liability. FAS 143 is
effective for financial statements issued for fiscal years beginning after June
15, 2002. Although the Company has not completed its analysis of FAS 143, it
does not expect the impact of adoption to be significant.
In August 2001, the FASB issued FAS No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets" (FAS 144). This statement addresses financial
accounting and reporting for the impairment or disposal of long-lived assets.
FAS 144 retains and expands upon the fundamental provisions of existing guidance
related to the recognition and measurement of the impairment of long-lived
assets to be held and used and the measurement of long-lived assets to be
disposed of by sale. Generally, the provisions of FAS 144 are effective for
financial statements issued for fiscal years beginning after December 15, 2001.
Earlier application is encouraged. Although the Company has not completed its
analysis of FAS 144, it does not expect the impact of adoption to be
significant.
H-16
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company does not have material exposure to market risk from market
sensitive financial instruments other than the currency risk associated with
certain transactions being denominated in Deutschemarks.
The Company has some exposure to credit risk related to its accounts
receivable portfolio. Exposure to credit risk is controlled through continuous
monitoring procedures, credit limits and collaboration with sales management on
customer contacts to facilitate payment.
H-17
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
DIGI INTERNATIONAL INC.
CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE FISCAL YEARS ENDED SEPTEMBER 30,
------------------------------------------
2001 2000 1999
------------ ------------ ------------
Net sales.......................................... $130,404,745 $132,524,630 $193,506,059
Cost of sales...................................... 66,192,549 62,871,689 95,313,636
------------ ------------ ------------
Gross margin....................................... 64,212,196 69,652,941 98,192,423
Operating expenses:
Sales and marketing.............................. 30,715,581 34,423,150 43,844,557
Research and development......................... 18,334,929 20,174,918 21,847,230
General and administrative....................... 16,252,453 19,357,867 23,657,586
Impairment loss.................................. -- 26,146,300 --
Restructuring.................................... 1,121,121 1,381,642 607,398
------------ ------------ ------------
Total operating expenses.................... 66,424,084 101,483,877 89,956,771
------------ ------------ ------------
Operating (loss) income............................ (2,211,888) (31,830,936) 8,235,652
Other income (expense):
Interest expense................................. (616,964) (775,678) (1,015,331)
Interest income.................................. 2,668,957 2,733,912 856,457
Other income (expense)........................... 344,263 709,582 (97,446)
------------ ------------ ------------
Total other income (expense)....................... 2,396,256 2,667,816 (256,320)
AetherWorks Corporation note recovery............ -- 8,000,000 --
------------ ------------ ------------
Income (loss) before income taxes and cumulative
effect of accounting change...................... 184,368 (21,163,120) 7,979,332
Income tax provision (benefit)..................... 65,819 (4,338,440) 4,787,599
------------ ------------ ------------
Income (loss) before cumulative effect of
accounting change................................ 118,549 (16,824,680) 3,191,733
------------ ------------ ------------
Cumulative effect of accounting change (net of
income tax benefit of $1,055,928)................ (1,901,853) -- --
------------ ------------ ------------
Net (loss) income.................................. $ (1,783,304) $(16,824,680) $ 3,191,733
============ ============ ============
Net (loss) income per common share, basic:
Continuing operations............................ $ -- $ (1.12) $ 0.22
Cumulative effect of accounting change........... (0.12) -- --
------------ ------------ ------------
$ (0.12) $ (1.12) $ 0.22
============ ============ ============
Net (loss) income per common share, assuming
dilution:
Continuing operations............................ $ -- $ (1.12) $ 0.22
Cumulative effect of accounting change........... (0.12) -- --
------------ ------------ ------------
$ (0.12) $ (1.12) $ 0.22
============ ============ ============
Weighted average common shares, basic.............. 15,235,258 15,061,774 14,696,057
============ ============ ============
Weighted average common shares, assuming
dilution......................................... 15,287,935 15,061,774 14,831,242
============ ============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
H-18
DIGI INTERNATIONAL INC.
CONSOLIDATED BALANCE SHEETS
AT SEPTEMBER 30,
---------------------------
2001 2000
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents................................. $ 30,347,253 $ 38,785,936
Marketable securities..................................... 25,804,947 20,150,132
Accounts receivable, net.................................. 16,161,143 18,175,226
Inventories, net.......................................... 16,791,851 19,700,010
Other..................................................... 4,602,668 3,655,511
------------ ------------
Total current assets.............................. 93,707,862 100,466,815
Property, equipment and improvements, net................... 22,677,155 24,408,384
Goodwill, net............................................... 10,521,157 10,114,490
Identifiable intangible assets, net......................... 11,017,233 6,283,254
Other....................................................... 1,529,169 1,649,252
------------ ------------
Total assets...................................... $139,452,576 $142,922,195
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Borrowings under line of credit agreements................ $ 938,400 $ 3,147,900
Current portion of long-term debt......................... 1,584,156 330,305
Accounts payable.......................................... 6,012,296 6,275,995
Income taxes payable...................................... -- 1,328,481
Accrued expenses:
Advertising............................................ 856,939 1,143,565
Compensation........................................... 3,317,935 1,862,517
Other.................................................. 5,395,249 6,760,841
Restructuring reserves.................................... 1,369,799 1,531,992
------------ ------------
Total current liabilities......................... 19,474,774 22,381,596
------------ ------------
Long-term debt.............................................. 5,499,226 7,081,396
Net deferred income taxes................................... 1,561,155 --
------------ ------------
Total liabilities................................. 26,535,155 29,462,992
------------ ------------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value: 2,000,000 shares
authorized; none issued and outstanding,
Common stock, $.01 par value; 60,000,000 shares
authorized; 16,425,606 and 16,322,949 shares issued
and outstanding...................................... 164,256 163,229
Additional paid-in capital............................. 71,458,733 71,851,928
Retained earnings...................................... 59,626,557 61,409,861
Accumulated other comprehensive income................. 7,969 166,750
------------ ------------
131,257,515 133,591,768
Unearned stock compensation................................. -- (89,618)
Treasury stock, at cost, 1,095,881 and 1,196,463 shares..... (18,340,094) (20,042,947)
------------ ------------
Total stockholders' equity........................ 112,917,421 113,459,203
------------ ------------
Total liabilities and stockholders' equity........ $139,452,576 $142,922,195
============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
H-19
DIGI INTERNATIONAL INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE FISCAL YEARS ENDED SEPTEMBER 30,
------------------------------------------
2001 2000 1999
------------ ------------ ------------
Operating activities:
Net (loss) income..................................... $ (1,783,304) $(16,824,680) $ 3,191,733
Adjustments to reconcile net (loss) income to cash
provided by operating activities:
Impairment loss..................................... -- 26,146,300 --
Restructuring....................................... 1,121,121 1,381,642 (672,167)
Depreciation of property and equipment.............. 3,905,455 4,296,143 5,988,640
Amortization of intangibles......................... 5,992,614 8,463,573 12,807,568
(Gain) loss on sale of fixed assets................. (18,172) 85,809 243,524
Provision for losses on accounts receivable......... 1,149,286 1,150,068 179,366
Provision for inventory obsolescence................ 3,836,989 1,632,685 6,218,261
Deferred income taxes............................... (2,198,879) (5,234,720) (2,119,056)
Stock compensation.................................. 76,849 164,909 582,981
Changes in operating assets and liabilities:
Accounts receivable.............................. 2,047,277 12,792,380 12,359,264
Inventories...................................... 82,498 898,344 (1,618,415)
Income taxes payable............................. (1,296,674) (3,943,276) 1,761,296
Other assets..................................... 235,966 3,546,641 2,228,897
Accounts payable................................. (823,078) (2,829,261) (3,822,046)
Accrued expenses................................. (1,855,153) (4,362,890) (4,025,827)
------------ ------------ ------------
Total adjustments............................ 12,256,099 44,188,347 30,112,286
------------ ------------ ------------
Net cash provided by operating activities.... 10,472,795 27,363,667 33,304,019
------------ ------------ ------------
Investing activities:
Purchase of property and equipment and certain other
intangible assets................................... (1,625,576) (2,544,171) (4,759,893)
Proceeds from sale of fixed assets.................... -- -- 843,995
Proceeds from maturities of held-to-maturity
marketable securities............................... 84,807,237 76,531,426 7,000,000
Purchase of held-to-maturity marketable securities.... (90,462,052) (82,967,136) (20,633,113)
Business acquisitions, net of cash acquired........... (10,086,848) -- --
------------ ------------ ------------
Net cash used in investing activities........ (17,367,239) (8,979,881) (17,549,011)
------------ ------------ ------------
Financing activities:
Payments on long-term debt............................ (630,596) (859,264) (1,072,747)
Payments on line of credit............................ (2,277,000) (508,317) (4,843,096)
Purchase of treasury stock............................ -- -- (815,000)
Stock option transactions............................. 776,412 937,723 2,381,422
Employee stock purchase plan transactions............. 515,283 580,855 586,324
------------ ------------ ------------
Net cash (used in) provided by financing
activities................................ (1,615,901) 150,997 (3,763,097)
------------ ------------ ------------
Effect of exchange rates changes on cash and cash
equivalents........................................... 71,662 (712,454) (1,383,672)
Net (decrease) increase in cash and cash equivalents.... (8,438,683) 17,822,329 10,608,239
Cash and cash equivalents, beginning of period.......... 38,785,936 20,963,607 10,355,368
------------ ------------ ------------
Cash and cash equivalents, end of period................ $ 30,347,253 $ 38,785,936 $ 20,963,607
============ ============ ============
Supplemental Cash Flows Information:
Interest paid........................................... $ 717,154 $ 699,228 $ 937,306
Income taxes paid....................................... $ 2,609,798 $ 4,358,892 $ 3,742,898
The accompanying notes are an integral part of the consolidated financial
statements.
H-20
DIGI INTERNATIONAL INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY AND
COMPREHENSIVE INCOME
FOR THE YEARS ENDED SEPTEMBER 30, 2001, 2000 AND 1999
COMMON STOCK TREASURY STOCK
---------------------- ------------------------ ADDITIONAL
SHARES PAR VALUE SHARES VALUE PAID-IN-CAPITAL
---------- --------- --------- ------------ ---------------
BALANCES, SEPTEMBER 30, 1998........ 15,790,975 $157,910 1,247,094 $(21,894,812) $70,461,123
Purchase of treasury stock, at
cost.............................. 105,000 (815,000)
Employee stock purchase issuances... (80,482) 1,384,310 (797,986)
Stock compensation
Issuance of stock upon exercise of
stock options, net of
withholding....................... 402,022 4,020 2,377,402
Tax benefit realized upon exercise
of stock options.................. 198,041
Forfeiture of stock options......... (777,968)
Foreign currency translation
adjustment........................
Net income..........................
---------- -------- --------- ------------ -----------
BALANCES, SEPTEMBER 30, 1999........ 16,192,997 161,930 1,271,612 (21,325,502) 71,460,612
Employee stock purchase issuances... (75,149) 1,282,555 (701,700)
Stock compensation
Issuance of stock upon exercise of
stock options, net of
withholding....................... 129,952 1,299 936,424
Tax benefit realized upon exercise
of stock options.................. 241,751
Forfeiture of stock options......... (85,159)
Foreign currency translation
adjustment........................
Net loss............................
---------- -------- --------- ------------ -----------
BALANCES, SEPTEMBER 30, 2000........ 16,322,949 163,229 1,196,463 (20,042,947) 71,851,928
Employee stock purchase issuances... (100,582) 1,702,853 (1,187,570)
Stock compensation
Issuance of stock upon exercise of
stock options, net of
withholding....................... 102,657 1,027 775,386
Tax benefit realized upon exercise
of stock options.................. 31,758
Forfeiture of stock options......... (12,769)
Foreign currency translation
adjustment........................
Net loss............................
---------- -------- --------- ------------ -----------
BALANCES, SEPTEMBER 30, 2001........ 16,425,606 $164,256 1,095,881 $(18,340,094) $71,458,733
========== ======== ========= ============ ===========
H-21
DIGI INTERNATIONAL INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
AND COMPREHENSIVE INCOME
FOR THE YEARS ENDED SEPTEMBER 30, 2001, 2000 AND 1999 -- (CONTINUED)
ACCUMULATED
UNEARNED OTHER TOTAL
RETAINED STOCK COMPREHENSIVE STOCKHOLDERS' COMPREHENSIVE
EARNINGS COMPENSATION INCOME (LOSS) EQUITY (LOSS) INCOME
------------ ------------ ------------- ------------- -------------
BALANCES, SEPTEMBER 30, 1998...... $ 75,042,808 $(1,700,635) $ (815,809) $121,250,585 $ (886,903)
============
Purchase of treasury stock, at
cost............................ (815,000)
Employee stock purchase
issuances....................... 586,324
Stock compensation................ 582,981 582,981
Issuance of stock upon exercise of
stock options, net of
withholding..................... 2,381,422
Tax benefit realized upon exercise
of stock options................ 198,041
Forfeiture of stock options....... 777,968
Foreign currency translation
adjustment...................... (211,724) (211,724) (211,724)
Net income........................ 3,191,733 3,191,733 3,191,733
------------ ----------- ----------- ------------ ------------
BALANCES, SEPTEMBER 30, 1999...... 78,234,541 (339,686) (1,027,533) 127,164,362 $ 2,980,009
============
Employee stock purchase
issuances....................... 580,855
Stock compensation................ 164,909 164,909
Issuance of stock upon exercise of
stock options, net of
withholding..................... 937,723
Tax benefit realized upon exercise
of stock options................ 241,751
Forfeiture of stock options....... 85,159
Foreign currency translation
adjustment...................... 1,194,283 1,194,283 1,194,283
Net loss.......................... (16,824,680) (16,824,680) (16,824,680)
------------ ----------- ----------- ------------ ------------
BALANCES, SEPTEMBER 30, 2000...... 61,409,861 (89,618) 166,750 113,459,203 $(15,630,397)
============
Employee stock purchase
issuances....................... 515,283
Stock compensation................ 76,849 76,849
Issuance of stock upon exercise of
stock options, net of
withholding..................... 776,413
Tax benefit realized upon exercise
of stock options................ 31,758
Forfeiture of stock options....... 12,769
Foreign currency translation
adjustment...................... (158,781) (158,781) (158,781)
Net loss.......................... (1,783,304) (1,783,304) (1,783,304)
------------ ----------- ----------- ------------ ------------
BALANCES, SEPTEMBER 30, 2001...... $ 59,626,557 $ -- $ 7,969 $112,917,421 $ (1,942,085)
============ =========== =========== ============ ============
The accompanying notes are an integral part of the consolidated financial
statements.
H-22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS DESCRIPTION
Digi International is a worldwide provider of Connectware, wired and
wireless, hardware and software connectivity solutions that businesses use to
create, customize and control retail operations, industrial automation and other
applications. Connectware network enables the essential devices that build
business.
Digi's products are marketed through a global network of distributors,
systems integrators, original equipment manufacturers (OEMs), and value-added
resellers (VARs).
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements include the accounts of the Company
and its wholly-owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.
CASH EQUIVALENTS AND MARKETABLE SECURITIES
The Company considers all highly liquid investments purchased with an
original maturity of three months or less to be cash equivalents. Those having
original maturities in excess of three months are classified as marketable
securities. Marketable securities consist of high-grade commercial paper and
corporate bonds that have maturities of less than one year. Marketable
securities classified as held to maturity are carried at amortized cost. Gross
unrealized holding gains and losses were $39,223 and $3,426, respectively, as of
September 30, 2001, and were $0 and $70,833, respectively, as of September 30,
2000.
REVENUE RECOGNITION
In December 1999, the SEC issued Staff Accounting Bulletin No. 101, Revenue
Recognition in Financial Statements (SAB 101). SAB 101 summarizes the SEC's
views in applying generally accepted accounting principles to selected revenue
revenue recognition issues.
The Company recognizes revenue at the date that products are shipped to
distributors or original equipment manufacturers. Sales to authorized domestic
distributors and original equipment manufacturers are made with certain rights
of return and price protection provisions. Estimated reserves for future returns
and pricing adjustments are established by the Company based on historical
experience and current business factors and are charged against revenues in the
same period as the corresponding sales are recorded. Estimated warranty costs
are accrued based on historical experience and current business factors, and are
recorded in the same period as the corresponding sales.
The Company offers rebates to authorized domestic and international
distributors and authorized resellers. The rebates are incurred based on the
level of sales to the respective distributors and resellers, and are charged to
operations as a reduction in revenue in the same period as the corresponding
sales.
The Company generally recognizes revenue at the date that products are
shipped to distributors or original equipment manufacturers. Upon adoption of
SAB 101 in the fourth quarter of fiscal 2001, the Company changed its revenue
recognition policy with regard to certain product sales. Essentially, the new
policy recognizes that the risks and rewards of ownership in certain
transactions do not substantively transfer to customers upon shipment of the
products. These new policies are consistent with the guidance contained in SAB
101. The effect of this change in revenue recognition policy, as of October 1,
2000, has been reported as the cumulative effect of an accounting change in the
first quarter of fiscal 2001 of $1.9 million, net of taxes, which includes
revenue of approximately $6.3 million, less cost of sales and certain related
expenses such as direct selling expenses.
The Company recognizes license revenue upon meeting each of the following
criteria: execution of a license agreement or contract; delivery of software;
the license fee is fixed or determinable; collectibility of the proceeds is
assessed as being probable; and vendor specific objective evidence exists to
allocate the
H-23
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
total fee to undelivered elements of the arrangement. Vendor-specific objective
evidence is based on the price charged when an element is sold separately.
INVENTORIES
Inventories are stated at the lower of cost or fair market value, with cost
determined on the first-in, first-out method. Fair market value for raw
materials is based on replacement cost and for other inventory classifications
based on net realizable value. Appropriate consideration is given to
deterioration, obsolescence and other factors in evaluating net realizable
value. During the year ended September 30, 2001, the Company discontinued the
Datafire RAS product line, in connection with its strategy of focusing resources
on growth areas such as the terminal server and device server markets. The
Company recorded a $2.7 million charge to adjust the Datafire RAS inventory to
net realizable value. The charge was included in cost of sales in the
consolidated statement of operations for the fiscal year ended September 30,
2001.
PROPERTY, EQUIPMENT AND IMPROVEMENTS
Property, equipment and improvements are carried at cost. Depreciation is
provided by charges to operations using the straight-line method over their
estimated useful lives. Furniture and fixtures and other equipment are
depreciated over a period of three to five years. Building improvements and
buildings are depreciated over ten and thirty-nine years, respectively. Periodic
reviews for impairment of the carrying value of property, equipment and
improvements are made based on undiscounted expected future cash flows.
Expenditures for maintenance and repairs are charged to operations as
incurred, while major renewals and betterments are capitalized. The assets and
related accumulated depreciation accounts are adjusted for asset retirements and
disposals with the resulting gain or loss included in operations.
INTANGIBLE ASSETS
Purchased proven technology, license agreements, covenants not to compete
and other intangible assets are recorded at fair value when acquired in a
business acquisition, or at cost when purchased directly. Goodwill represents
the excess of cost over the fair value of identifiable assets acquired and is
being amortized on a straight-line basis over estimated useful life periods
ranging from five to fifteen years. Purchased in-process research and
development costs (IPR&D) are expensed upon consummation of the purchase. All
other intangible assets are amortized on a straight-line basis over their
estimated useful lives of four to seven years.
The carrying amount of intangible assets is periodically, at least
quarterly, reviewed to assess the remaining useful lives and the recoverability
based on undiscounted expected future cash flows.
RESEARCH AND DEVELOPMENT
Research and development costs are expensed when incurred. Software
development costs are expensed as incurred. Such costs are required to be
expensed until the point that technological feasibility and proven marketability
of the product are established. Costs otherwise capitalized after such point
also are expensed because they are insignificant.
INCOME TAXES
Deferred income taxes are recognized for the tax consequences in future
years of differences between the tax basis of assets and liabilities and their
financial reporting amounts at each year end based on enacted tax laws and
statutory tax rates applicable to the periods in which the differences are
expected to affect taxable income. Income tax expense is the tax payable for the
period and the change during the period in deferred tax assets and liabilities.
H-24
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Tax credits are accounted for under the flow-through method, which
recognizes the benefit in the year in which the credit is utilized.
(LOSS) INCOME PER COMMON SHARE
Basic net (loss) income per share is calculated based on the weighted
average of common shares outstanding during the period. Net (loss) income per
share, assuming dilution, is computed by dividing net (loss) income by the
weighted average number of common and common equivalent shares outstanding. The
Company's only common equivalent shares are those that result from dilutive
common stock options.
The following table is a reconciliation of the numerators and denominators
in the (loss) income per share calculations:
FOR THE YEAR ENDED SEPTEMBER 30, 2001
-----------------------------------------
INCOME (LOSS) SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
------------- ------------- ---------
BASIC LOSS PER SHARE
Loss available to common stockholders......... $(1,783,304) 15,235,258 $(0.12)
EFFECT OF DILUTIVE SECURITIES
Common equivalent shares...................... 52,677
----------- ---------- ------
DILUTED LOSS PER SHARE
Loss available to common stockholders......... $(1,783,304) 15,287,935 $(0.12)
FOR THE YEAR ENDED SEPTEMBER 30, 2000
-----------------------------------------
INCOME (LOSS) SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
------------- ------------- ---------
BASIC LOSS PER SHARE
Loss available to common stockholders..... $(16,824,680) 15,061,774 $(1.12)
EFFECT OF DILUTIVE SECURITIES
Common equivalent shares.....................
------------ ---------- ------
DILUTED LOSS PER SHARE
Loss available to common stockholders..... $(16,824,680) 15,061,774 $(1.12)
FOR THE YEAR ENDED SEPTEMBER 30, 1999
-----------------------------------------
INCOME (LOSS) SHARES PER SHARE
(NUMERATOR) (DENOMINATOR) AMOUNT
------------- ------------- ---------
BASIC INCOME PER SHARE
Income available to common stockholders....... $3,191,733 14,696,057 $0.22
EFFECT OF DILUTIVE SECURITIES
Common equivalent shares...................... 135,185
---------- ---------- -----
DILUTED INCOME PER SHARE
Income available to common stockholders.... $3,191,733 14,831,242 $0.22
Common equivalent shares of 160,853 at September 30, 2000 were not included
in the computation of diluted earnings per share because their effect is
antidilutive.
Options to purchase 1,705,964, 1,230,224 and 811,753 shares at September
30, 2001, 2000 and 1999, respectively, were not included in the computation of
diluted earnings per share because the options' exercise price was greater than
the average market price of common shares and therefore their effect would be
antidilutive.
H-25
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Pursuant to Statement of Financial Accounting Standards No. 128, "Earnings
per Share", income before cumulative effect of accounting change has been used
in determining diluted earnings per share for the year ended September 30, 2001.
As discussed in Note 17, the Company has proposed to acquire NetSilicon in
exchange for cash and common stock.
FOREIGN CURRENCY TRANSLATION
Financial position and results of operations of the Company's international
subsidiaries are measured using local currencies as the functional currency.
Assets and liabilities of these operations are translated at the exchange rates
in effect at each fiscal year-end. Statements of operations accounts are
translated at the average rates of exchange prevailing during the year.
Translation adjustments arising from the use of differing exchange rates from
period to period are included in the cumulative translation account in
stockholders' equity. The Company has not implemented a hedging strategy to
reduce the risk of foreign currency translation exposures.
USE OF ESTIMATES
The preparation of consolidated financial statements in conformity with
generally accepted accounting principles requires management to make estimates
and assumptions that affect the reported amounts of assets and liabilities and
disclosure of contingent assets and liabilities at the date of the financial
statements and the reported amounts of revenues and expenses during the
reporting period. Actual results could differ from those estimates.
COMPREHENSIVE INCOME (LOSS)
For the Company, comprehensive income (loss) includes net income (loss) and
foreign currency translation adjustments. Foreign currency translation
adjustments are charged or credited to the accumulated other comprehensive
income (loss) account in stockholders' equity.
RECENT ACCOUNTING DEVELOPMENTS
In June 2001, the Financial Accounting Standards Board (FASB) issued
Statements of Financial Accounting Standards No. 141, "Business Combinations"
(FAS 141), and No. 142, "Goodwill and Other Intangible Assets" (FAS 142). The
most significant changes made by FAS No. 141 are: 1) requiring that the purchase
method of accounting be used for all business combinations initiated after June
30, 2001, and 2) establishing specific criteria for the recognition of
intangible assets separately from goodwill. FAS No. 142 primarily addresses the
accounting for acquired goodwill and intangible assets (i.e., the post-
acquisition accounting). The provisions of FAS No. 142 will be effective for the
Company in fiscal year 2003. The most significant changes made by FAS No. 142
are: 1) goodwill and indefinite-lived intangible assets will no longer be
amortized, and 2) goodwill and indefinite-lived intangible assets will be tested
for impairment at least annually. Goodwill and intangible assets acquired after
June 30, 2001, will be subject immediately to the nonamortization and
amortization provisions of this statement. These standards only permit
prospective application of the new accounting; accordingly, adoption of these
standards will not affect previously reported financial information of the
Company. Although the Company has not completed its assessment of the impact of
the adoption of FAS 142, management believes that the principal effect will be
the Company ceasing the amortization of goodwill and assembled workforce.
Goodwill and assembled workforce amortization was approximately $2,427,000 for
the year ended September 30, 2001.
In July 2001, the FASB issued Statement of Financial Accounting Standards
No. 143, "Accounting for Asset Retirement Obligations" (FAS 143), which
addresses financial accounting and reporting for obligations associated with the
retirement of tangible long-lived assets and the associated asset retirement
costs. FAS 143 requires an entity to recognize the fair value of a liability for
an asset retirement obligation
H-26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
in the period in which it is incurred. Upon initial recognition of a liability
for an asset retirement obligation, an entity shall capitalize an asset
retirement cost by increasing the carrying amount of the related long-lived
asset by the same amount as the liability. FAS 143 is effective for financial
statements issued for fiscal years beginning after June 15, 2002. Although the
Company has not completed its analysis of FAS 143, it does not expect the impact
of adoption to be significant.
In August 2001, the FASB issued FAS No. 144, "Accounting for the Impairment
or Disposal of Long-Lived Assets" (FAS 144). This statement addresses financial
accounting and reporting for the impairment or disposal of long-lived assets.
FAS 144 retains and expands upon the fundamental provisions of existing guidance
related to the recognition and measurement of the impairment of long-lived
assets to be held and used and the measurement of long-lived assets to be
disposed of by sale. Generally, the provisions of FAS 144 are effective for
financial statements issued for fiscal years beginning after December 15, 2001.
Earlier application is encouraged. Although the Company has not completed its
analysis of FAS 144, it does not expect the impact of adoption to be
significant.
2. ACQUISITIONS
In October 2000, the Company acquired Inside Out Networks, a developer of
data connections products based in Austin, Texas. The transaction was accounted
for using the purchase method of accounting. Accordingly, the purchase price was
allocated to the estimated fair value of assets acquired and liabilities
assumed.
The purchase consideration, including related transaction costs, consists
of $7,684,176 in cash. The Company paid $1,398,577 in November 2001 and may be
required to pay up to $7,101,423 of additional cash consideration for the
purchase subject to Inside Out Networks achieving specific revenue and operating
income targets during the three years following the acquisition.
The table below sets forth the purchase price allocation.
Cash........................................................ $ 7,494,844
Direct acquisition costs.................................... 56,000
Guaranteed employee retention payments...................... 133,332
-----------
Total purchase price........................................ $ 7,684,176
Estimated fair value of tangible assets acquired............ 1,261,598
Identifiable intangible assets.............................. 6,422,578
Goodwill.................................................... 2,504,806
Deferred tax liabilities related to identifiable
intangibles............................................... (2,504,806)
-----------
$ 7,684,176
The identifiable intangible assets of $6,422,578 included in the purchase
price allocation set forth above are comprised of proven technology with an
estimated fair value of $5,692,578 and an assembled workforce with an estimated
fair value of $730,000, which have estimated useful lives of six years and five
years, respectively. The remaining unallocated purchase price represents
goodwill, which is being amortized over six years.
In June 2001, the Company acquired INXTECH, the parent company of Decision
Europe, a French designer and manufacturer of data communications systems sold
under the Xcell Technology brand. The transaction was accounted for using the
purchase method of accounting. Accordingly, the purchase price was allocated to
the estimated fair value of assets acquired and liabilities assumed.
The purchase consideration, including related transaction costs, consists
of $2,424,095 in cash. The Company may be required to pay up to $2,500,000 of
additional cash consideration for the purchase
H-27
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
subject to Decision Europe achieving certain future product development
milestones and retention of certain key employees during the three years
following the acquisition.
The table below sets forth the purchase price allocation.
Cash........................................................ $2,372,965
Direct acquisition costs.................................... 51,130
----------
Total purchase price........................................ $2,424,095
Estimated fair value of tangible assets acquired............ 577,439
Identifiable intangible asset............................... 1,846,656
Goodwill.................................................... 743,077
Deferred tax liabilities related to identifiable
intangibles............................................... (743,077)
----------
$2,424,095
The identifiable intangible asset of $1,930,492 included in the purchase
price allocation set forth above is proven technology, which has an estimated
useful life of four and one-half years. The remaining unallocated purchase price
represents goodwill, which is being amortized over four and one-half years.
The following unaudited pro forma condensed consolidated results of
operations have been prepared as if the acquisitions of Inside Out Networks and
INXTECH had occurred as of the beginning of fiscal 2000:
2001 2000
------------ ------------
Net sales................................................ $131,821,522 $137,701,141
Net loss................................................. $ (1,995,047) $(16,794,902)
Net loss per share....................................... $ (0.13) $ (1.12)
The unaudited pro forma condensed consolidated results of operations are
not necessarily indicative of results that would have occurred had the
acquisitions occurred as of the beginning of fiscal 2000, nor are they
necessarily indicative of the results that will be obtained in the future.
3. IMPAIRMENT LOSS
In March 2000, the Company recorded a charge of $18,068,249 reflecting the
write-down of the carrying value of all of the intangible assets associated with
the NetBlazer technology and some of the goodwill acquired in the Company's July
1998 purchase of ITK. The write-down resulted from the Company's March 2000
decision to discontinue development of the NetBlazer technology when the key
technical members of the NetBlazer technology team elected to leave the Company
and the Company concluded that it would not be able to successfully develop a
competitive product from the technology. Accordingly, the Company determined
that future undiscounted cash flows from the acquired ITK assets would be
substantially reduced and, therefore, the carrying value of the acquired ITK
assets would be impaired.
The Company utilized a discounted cash flows valuation method as described
in Statement of Financial Accounting Standards Board No. 121 "Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of"
(FASB 121), to measure the March 2000 adjustment to the carrying value of the
acquired ITK intangible assets.
In September 2000, the Company recorded a charge of $8,078,051 reflecting a
write-down of the remaining carrying value of identifiable intangible assets and
goodwill associated with the Integrated Services Digital Network (ISDN)
technology and some of the other long-lived assets acquired in the Company's
July 1998 purchase of ITK. The write-down resulted from the Company's September
2000 decision to discontinue all business activities in the ISDN market. The
Company determined that it did not have the capability to invest at the levels
necessary to achieve significant market share in the ISDN
H-28
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
market and, therefore, discontinued development activities associated with the
ISDN product lines. Accordingly, the Company determined that future undiscounted
cash flows from the remaining acquired ITK intangible assets would be reduced
and, therefore, the carrying value of the remaining acquired ITK intangible
assets would be impaired. As a result of discontinuing business activities in
the ISDN market, as well as the decision to restructure the European operations
to a sales and marketing organization, the Company determined that its Dortmund,
Germany facility (the Dortmund Facility), including certain furniture and
fixtures, would no longer be needed to support operations. During September
2000, the Company began efforts to sell the Dortmund Facility. As a result of
placing the Dortmund Facility on the commercial real estate market, the Company
determined that the Dortmund Facility's fair market value was less than its
carrying value. An independent appraisal of the Dortmund Facility was completed.
Based on the results of this appraisal, the Company wrote-down the carrying
value of the Dortmund Facility to its estimated fair market value as of
September 30, 2000. The carrying value of certain furniture and fixtures at the
Dortmund Facility were written down to estimated fair value, given the actions
taken by the Company as described above. The estimated fair value of the
Dortmund Facility, including the furniture and fixtures, is $4.9 million and is
classified as part of property, equipment and improvements on the Company's
balance sheet at September 30, 2001. The Company utilized a discounted cash
flows valuation method as described in FASB 121 to measure the September 2000
adjustment to the carrying value of the remaining acquired ITK intangible
assets. The Company utilized an independent appraisal to measure the September
2000 adjustment to the carrying value of the acquired Dortmund Facility. The
September 2000 adjustment to carrying value of the acquired ITK furniture and
fixtures was based on the Company's estimate of selling prices for the furniture
and fixtures.
The write-down of the carrying value of the long-lived assets, as described
in the previous paragraphs, consists of the following:
IDENTIFIABLE IDENTIFIABLE
INTANGIBLE ASSETS INTANGIBLE ASSETS
AND GOODWILL AND GOODWILL
ASSOCIATED WITH ASSOCIATED WITH OTHER TOTAL
THE NETBLAZER THE ISDN LONG LIVED IMPAIRMENT
ASSET DESCRIPTION TECHNOLOGY TECHNOLOGY ASSETS LOSS
----------------- ----------------- ----------------- ---------- -----------
Current technology.................... $10,491,837 $2,241,167 $12,733,004
Assembled workforce................... 252,646 670,484 923,130
Goodwill.............................. 7,323,766 2,852,737 10,176,503
Building -- Dortmund facility......... $1,955,366 1,955,366
Furniture and fixtures................ 358,297 358,297
----------- ---------- ---------- -----------
Totals................................ $18,068,249 $5,764,388 $2,313,663 $26,146,300
=========== ========== ========== ===========
The Company recognized $5,327,981 of tax benefits as a result of the
elimination of the deferred tax liabilities associated with the identifiable
intangible assets of ITK's NetBlazer and ISDN technologies, which were written
off as described above.
4. RESTRUCTURING
In September 2001, the Company implemented a restructuring plan that
resulted in a workforce reduction of 50 employees in Minnetonka, Minnesota and
11 employees in Sunnyvale, California. A charge of $1,351,870 was recorded for
severance and outplacement costs. Payment of all costs related to the September
2001 restructuring is expected to be completed in the second quarter of fiscal
2002.
In September 2000, the Company's Board of Directors approved a
restructuring plan related to its European operations headquartered in Dortmund,
Germany, which provided for the transition of all product development, technical
support and manufacturing functions to the Company's corporate headquarters
located in Minnetonka, Minnesota. The plan also included the closure of the
Company's
H-29
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
office in Bagshot, England. The charge of $1,531,992 consisted of $1,252,531 for
severance and termination costs related to the elimination of 73 positions in
Dortmund, Germany and two positions in Bagshot, England; $134,227 related to the
closure of the Bagshot office for lease cancellation; $100,684 of cancellation
fees related to automobile leases, and maintenance contracts, and office
equipment leases, and $44,550 for severance-related legal expenses. As of March
31, 2001, the Company had paid $1,079,321 of severance and termination costs
relating to the elimination of 69 positions. Change in estimate adjustments
related to the severance component of the restructuring accrual totaling
$173,210 were recorded in the quarter ended March 31, 2001 because the Company
made a decision to retain six employees who had previously been notified that
their employment would be terminated. In fiscal 2001, the Company paid $134,227
related to the closure of the Bagshot office for lease cancellation and paid
$69,766 of cancellation fees related to automobile leases, maintenance
contracts, and office equipment leases. Changes in estimate for
severance-related legal expenses of $44,550 and cancellation fees of $12,989
were recorded as a reduction of the restructuring accrual with a corresponding
increase to operating income during the year ended September 30, 2001.
In March 1999, the Company's Board of Directors approved a restructuring
plan related to the reorganization of sales and marketing functions in Germany,
England and the United States, by consolidating worldwide sales and marketing
resources into strategic locations. The original related charge of $1,452,909
($581,164 net of tax benefits) consisted of $151,038 of existing commitments for
rent on facilities vacated by the Company in Hamburg, Nurnberg, and Frankfurt,
Germany and $1,301,871 of termination payments associated with the elimination
of 44 positions in Dortmund, Germany; Bagshot, England; Sunnyvale, California;
and Minnetonka, Minnesota.
As of December 31, 1999, the Company had paid $906,299 of termination costs
relating to the elimination of 33 positions. Restructuring activities were
completed as of December 1999. During the second quarter of fiscal 2000, the
final severance and termination expenses were paid, and the Company adjusted the
remaining restructuring accrual to zero. In fiscal 2000, severance and
termination costs of $146,767 and rent commitment payments of $7,312 were
charged to the restructuring accrual. Changes in estimate for severance and
termination costs of $124,937 and rent commitments of $13,160 were recorded as a
reduction of the restructuring accrual with a corresponding increase to
operating income during the year ended September 30, 2000.
In July 1998, the Company's Board of Directors approved a restructuring
plan related to the consolidation of its offices in Germany and England. The
restructuring plan related to the closure of existing leased facilities rendered
redundant by the acquisition of ITK. The original charge of $1,020,000 ($647,000
net of tax benefits), consisted of $61,483 of noncancellable rent commitments
the Company expected to incur following closure of the Cologne, Germany
facility; $100,110 of contractual payment obligations for office furniture and
other equipment the Company expected to incur following the closure of the
Cologne, Germany facility; $202,039 related to the write-off of leasehold
improvements in connection with the closure of the Cologne, Germany facility;
and $656,368 of termination payments associated with the elimination of six
positions in Cologne, Germany and Bagshot, England.
The Company closed the Cologne facility in December 1998. As of December
31, 1999, the Company had paid $301,044 of termination costs relating to the
elimination of two positions. Restructuring activities were completed as of June
1999. In the third quarter of fiscal 2000, the Company adjusted the remaining
restructuring accrual to zero, as all obligations had been satisfied. In fiscal
year 2000, rent commitment payments of $12,636 and payments of $27,646 for
write-off of leasehold improvements were charged to the restructuring accrual.
Changes in estimate for rent commitments of $2,573 and write-off of leasehold
improvements of $9,680 were recorded as a reduction of the restructuring accrual
with a corresponding increase to operating income during the year ended
September 30, 2000.
In connection with the Company's acquisition of ITK, the Company formulated
a plan of reorganization and, accordingly, recognized a $3,484,000 restructuring
liability which the Company
H-30
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
included as a component of total liabilities assumed in the acquisition.
Components of the original estimated liability included $1,844,000 of
termination payments associated with 10 employees the Company expected to
eliminate at the Chelmsford, Massachusetts ITK location and 20 employees the
Company expected to eliminate at the Dortmund, Germany location and $1,640,000
of noncancellable rent obligations for facilities the Company expected to incur
following closure of facilities in Chelmsford, Massachusetts and Bristol and
Newbury, England.
The Company vacated the Chelmsford, Bristol, and Newbury facilities in
March 1999, October 1998 and May 1999, respectively. Restructuring activities
were completed as of June 1999. During the second quarter of fiscal 2000, the
final severance, termination and facility closure costs were paid. In fiscal
2000, severance and termination costs of $5,217 and facility closure costs of
$1,928 were charged against the restructuring accrual. Changes in estimate
relating to severance and termination costs of $17,652 and facilities closures
of $33,469 were recorded as a reduction in the restructuring accrual with
corresponding offsets to goodwill during the year ended September 30, 2000.
In connection with the Company's acquisition of CDC, the Company formulated
a plan of reorganization and, accordingly, recognized a $750,000 restructuring
liability which the Company included as a component of total liabilities assumed
in the acquisition. Components of this estimated liability included $675,000 of
termination payments, associated with 22 employees the Company expected to
eliminate when it closed the Champaign, Illinois facility in January 1999 and
$75,000 related to facility closure costs the Company expected to incur
following closure and sale of the Champaign, Illinois facility. Restructuring
activities were completed as of June 1999. During the second quarter of fiscal
2000, the Company paid the final severance costs of $7,128 associated with this
restructuring and the accrual was adjusted to zero. Total payments against the
restructuring accrual in fiscal year 2000 included severance and termination
costs of $88,661. An additional expense of $3,340 was also recorded related to a
change in estimate in the original restructuring accrual. Adjustments to the
restructuring accrual were reflected as changes to the restructuring accrual
with corresponding offsets to goodwill.
The Company's restructuring activities are summarized as follows:
BALANCE AT CHANGE IN BALANCE AT
SEPTEMBER 30, ESTIMATE SEPTEMBER 30,
DESCRIPTION 2000 PROVISION PAYMENTS ADJUSTMENTS 2001
----------- ------------- ---------- ----------- ----------- -------------
September 2001 Restructuring
Plan:
-- Severance and termination
costs..................... $1,351,870 $1,351,870
---------- ---------- ----------- --------- ----------
Subtotal................ 1,351,870 $1,351,870
---------- ---------- ----------- --------- ----------
September 2000 European
Restructuring Plan:
-- Severance and termination
costs..................... $1,252,531 $(1,079,321) $(173,210) $ --
-- Office lease cancellation
fees...................... 134,227 (134,227) --
-- Other lease cancellation
fees and contractual
payments.................. 100,684 (69,766) (12,989) 17,929
-- Legal costs............... 44,550 (44,550) --
---------- ---------- ----------- --------- ----------
Subtotal................ 1,531,992 -- (1,283,314) (230,749) 17,929
---------- ---------- ----------- --------- ----------
Totals............... $1,531,992 $1,351,870 $(1,283,314) $(230,749) $1,369,799
========== ========== =========== ========= ==========
H-31
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
5. SEGMENT INFORMATION AND MAJOR CUSTOMERS
The Company views its operations and manages its business as one
segment -- a provider of connectivity solutions that businesses use to create,
customize and control retail operations, industrial automation and other
applications. Factors used to identify the Company's single operating segment
include the organizational structure of the Company and the financial
information used by executive management in making decisions about how to
allocate resources and assess performance. The following table sets forth the
various components of net sales by product line as a percentage of total net
sales:
PERCENT OF
ANNUAL NET SALES
------------------
2001 2000 1999
---- ---- ----
Growth...................................................... 26.3% 19.7% 16.3%
Mature...................................................... 56.3% 70.2% 73.4%
LAN......................................................... 17.4% 10.1% 10.3%
The operations of the Company are primarily conducted in the Unites States,
the Company's country of domicile. The data in the tables below are determined
by reference to the location of the Company's operations in the United States
and Europe for the years ended September 30:
Revenue derived by operational location:
YEAR ENDED SEPTEMBER 30,
------------------------------------------
2001 2000 1999
------------ ------------ ------------
United States.............................. $111,832,491 $114,066,232 $166,557,811
Europe..................................... 18,572,254 18,458,398 26,948,248
------------ ------------ ------------
$130,404,745 $132,524,630 $193,506,059
============ ============ ============
Net long-lived assets by location:
YEAR ENDED SEPTEMBER 30,
---------------------------------------
2001 2000 1999
----------- ----------- -----------
United States................................. $36,698,844 $35,232,754 $40,921,789
Foreign....................................... 7,516,701 5,573,374 37,125,699
----------- ----------- -----------
Total net long-lived assets................... $44,215,545 $40,806,128 $78,047,488
=========== =========== ===========
The Company's foreign export sales, primarily to Europe, comprised 33.0%,
34.8%, and 34.8% of net sales for the years ended September 30, 2001, 2000 and
1999, respectively.
During fiscal 2001, one customer accounted for 13.9% of net sales and 7.6%
of the trade accounts receivable as of September 30, 2001, while another
accounted for 11.3% of net sales and 21.9% of the trade accounts receivable as
of September 30, 2001.
During fiscal 2000, one customer accounted for 13.4% of net sales and 14.7%
of the trade accounts receivable as of September 30, 2000, while another
accounted for 10.0% of net sales and 25.4% of the trade accounts receivable as
of September 30, 2000.
During fiscal 1999, one customer accounted for 15.4% of net sales and 8.7%
of the trade accounts receivable as of September 30, 1999, while another
accounted for 13.4% of net sales and 22.5% of the trade accounts receivable as
of September 30, 1999.
6. INVESTMENT IN AETHERWORKS CORPORATION
In May 1998, the Company exchanged its previously purchased $13,796,525 of
convertible notes from AetherWorks Corporation, a development stage company
engaged in the development of wireless and dial-
H-32
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
up remote access technology, for a non-interest bearing $8,000,000
non-convertible note. As a part of the exchange, the Company relinquished its
rights to any future technology or claims on any of AetherWorks' intellectual
properties. In exchange, the Company was released from all of its guarantees of
certain lease obligations of AetherWorks.
Due to the significant uncertainty as to its collectibility, the $8,000,000
note was recorded by the Company as having no carrying value.
In March 2000, the Company received a payment of $8,000,000 from
AetherWorks, representing payment on the aforementioned non-convertible note.
The note was paid as a result of AetherWorks Corporation being acquired by Nx
Networks. As a result of this payment, the Company recorded $8,000,000 of other
income during the year ended September 30, 2000.
The Company leased to AetherWorks $1,325,000 of computer equipment under a
three-year direct financing lease, expiring in August 2000. The lease contained
an option for AetherWorks to acquire the equipment for $132,598 upon termination
of the lease, and with 30 days' prior written notice. AetherWorks did not
exercise its option to acquire the equipment, and the equipment was returned to
the Company in September 2000.
H-33
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
7. SELECTED BALANCE SHEET DATA
2001 2000
----------- -----------
Accounts receivable, net:
Trade accounts receivable................................ $17,621,225 $19,990,463
Less allowance for doubtful accounts..................... 1,460,082 1,815,237
----------- -----------
$16,161,143 $18,175,226
=========== ===========
Inventories, net:
Raw materials............................................ $11,480,340 $14,152,861
Work in process.......................................... 664,055 1,092,654
Finished goods........................................... 4,647,456 4,454,495
----------- -----------
$16,791,851 $19,700,010
=========== ===========
Property, equipment and improvements, net:
Land..................................................... $ 2,219,683 $ 2,202,241
Buildings................................................ 17,948,937 17,641,451
Improvements............................................. 1,566,183 1,254,023
Equipment................................................ 20,549,526 22,218,933
Purchased software....................................... 9,537,120 9,504,099
Furniture and fixtures................................... 1,537,239 1,505,238
----------- -----------
53,358,688 54,325,985
Less accumulated depreciation and amortization............. 30,681,533 29,917,601
----------- -----------
$22,677,155 $24,408,384
=========== ===========
Goodwill, net:
Goodwill................................................. $18,837,074 $16,216,257
Less accumulated amortization............................ 8,315,917 6,101,767
----------- -----------
$10,521,157 $10,114,490
=========== ===========
Identifiable intangible assets, net:
Purchased technology..................................... $17,023,070 $ 9,400,000
License agreements....................................... 40,000 2,915,600
Assembled workforce...................................... 1,130,000 400,000
Other.................................................... 689,464 698,369
----------- -----------
18,882,534 13,413,969
Less accumulated amortization.............................. 7,865,301 7,130,715
----------- -----------
$11,017,233 $ 6,283,254
=========== ===========
8. BORROWINGS UNDER LINE OF CREDIT AGREEMENT
The Company maintains a line credit with Deutsche Bank that provides for
borrowings of up to $5,000,000 depending upon levels of eligible accounts
receivable and inventories. As of September 30, 2001 and 2000, the Company had
borrowed $938,400 and $3,147,900 under this credit line at interest rates of
7.98% and 7.25% at September 30, 2001 and 2000, respectively. The Company is
required to maintain, until March 31, 2002, $5,000,000 deposited in a financial
institution as collateral for the balance
H-34
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
outstanding at September 30, 2001. This collateral is included in marketable
securities at September 30, 2001.
9. LONG-TERM DEBT
Long-term debt consists of the following at September 30,
2001 2000
---------- ----------
5.25% fixed rate long-term collateralized note.............. $1,326,178 $1,353,068
5.20% fixed rate long-term collateralized note.............. 956,340 944,370
6.25% fixed rate long-term collateralized note.............. 3,111,744 3,194,044
6.00% fixed rate long-term uncollateralized notes........... 1,689,120 1,618,920
5.00% to 10.60% subsidized long-term notes.................. -- 301,299
---------- ----------
7,083,382 7,411,701
Less current portion........................................ 1,584,156 330,305
---------- ----------
$5,499,226 $7,081,396
========== ==========
Maturities of long term debt are as follows as of September 30, 2001:
FISCAL
YEAR AMOUNT
------ ----------
2002........................................................ $1,584,156
2003........................................................ 833,437
2004........................................................ 364,237
2005........................................................ 364,237
2006........................................................ 364,237
Thereafter.................................................. 3,573,078
----------
Total....................................................... $7,083,382
==========
The 5.25% fixed rate long-term note is due on March 30, 2017, and is
payable in semi-annual principal installments beginning September 2000. The
5.20% fixed rate long-term note is due on December 30, 2017, and is payable in
semi-annual principal installments beginning June 2001. The 6.25% fixed rate
long-term note is due on September 30, 2016, and is payable in semi-annual
principal installments beginning March 2000. Interest on the notes is payable on
a quarterly basis. These notes are collateralized by land, buildings and
equipment with a carrying value of $4,945,447 on September 30, 2001. The 6.0%
fixed rate long-term uncollateralized notes are due on November 5, 2001
($1,219,920) and on September 15, 2003 ($469,200). Interest is payable annually
on the 2001 note, and payable on a quarterly basis for the 2003 notes.
All of the long-term debt was incurred in connection with the construction
of the Dortmund Facility acquired in the ITK purchase. (See Note 3). The Company
intends to prepay all long-term debt if the Dortmund Facility is sold.
H-35
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
10. INCOME TAXES
The components of the provision (benefit) for income taxes before
cumulative effect of accounting change for the years ended September 30 is as
follows:
2001 2000 1999
----------- ----------- -----------
Currently payable:
Federal....................................... $ 1,859,018 $ 667,992 $ 6,201,277
State......................................... 405,680 228,288 705,378
Deferred...................................... (2,198,879) (5,234,720) (2,119,056)
----------- ----------- -----------
$ 65,819 $(4,338,440) $ 4,787,599
=========== =========== ===========
The net deferred tax asset at September 30 consists of the following:
2001 2000
----------- -----------
Uncollectible accounts and other reserves.................. $ 1,687,335 $ 2,016,254
Inventories................................................ 1,659,604 168,128
Compensation costs......................................... 498,420 589,685
Net operating loss carryforwards........................... 2,738,658 2,582,194
Intangible assets.......................................... (4,143,334) (2,113,800)
----------- -----------
Net deferred tax asset..................................... $ 2,440,683 $ 3,242,461
=========== ===========
The net deferred tax asset consists of the following at September 30:
2001 2000
----------- ----------
Current deferred tax asset.................................. $ 3,845,359 $2,774,067
Net non-current deferred tax asset.......................... -- 468,394
Net non-current deferred tax liability...................... (1,404,676) --
----------- ----------
$ 2,440,683 $3,242,461
=========== ==========
Deferred tax liabilities of $5,327,981 were eliminated as a result of the
write-off of the identifiable intangible assets of ITK during fiscal year 2000.
(See Note 3.)
As of September 30, 2001 and 2000, the Company had federal net operating
loss carryforwards of approximately $8.0 million and $7.6 million, respectively,
which expire at various dates through 2011.
H-36
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The reconciliation of the statutory federal income tax rate with the
Company's effective income tax rate before cumulative effect of accounting
change for the years ended September 30, 2001, 2000 and 1999 is as follows:
2001 2000 1999
------ ----- ----
Statutory income tax rate................................... 34.0% (34.0)% 35.0%
Increase (reduction) resulting from:
State taxes, net of federal benefits...................... 145.2 (0.7) 5.7
Utilization of low income housing credits................. (162.7) (1.9) (5.0)
AetherWorks Corporation recovery.......................... (12.9)
Impairment loss, net of deferred taxes.................... 13.1
Non-deductible intangible amortization.................... 322.9 3.8 15.3
Foreign operations........................................ (211.1) 6.8 2.9
Other..................................................... (92.6) 5.3 6.1
------ ----- ----
35.7% (20.5)% 60.0%
====== ===== ====
11. STOCK OPTIONS AND EMPLOYEE STOCK PURCHASE PLAN
The Company's stock option plan (the Stock Option Plan) provides for the
issuance of nonstatutory stock options (NSOs) and incentive stock options (ISOs)
to key employees and nonemployee board members holding less than 5% of the
outstanding shares of the Company's common stock. The Company's Non-Officer
Stock Option Plan (the Non-Officer Plan and, together with the Stock Option
Plan, the Plans), provides for the issuance of NSOs to key employees who are not
officers or directors of the Company. The Company's 2000 Omnibus Stock Plan (the
Omnibus Plan) provides for the issuance of stock-based incentives, including
ISOs and NSOs, to employees and others who provide services to the Company,
including consultants, advisers and directors. Options granted under the plans
will expire if unexercised after ten years from the date of grant. Options
granted under the plans generally vest over a four year service period.
The exercise price for ISOs and non-employee directors options granted
under the Stock Option Plan or the Omnibus Plan is set at the fair market value
of the Company's common stock on the date of grant. The exercise price for
nonstatutory options granted under the Plans is set by the Compensation
Committee of the Board of Directors. The authority to grant options under the
Plans and set other terms and conditions rests with the Compensation Committee.
The Stock Option Plan terminates in 2006 and the Omnibus Plan terminates in
2010. The Non-Officer Plan does not have a designated termination date.
The Plans have provisions allowing employees to elect to pay their
withholding obligation through share reduction. No employees elected to pay
income tax withholding obligations through share reduction during fiscal 2001,
2000 or 1999. Income tax withholding is limited to the employer's minimum
statutory withholding rate.
During the year ended September 30, 1998 the Board of Directors authorized
the issuance of incentive stock options for the purchase of 486,631 shares and
the issuance of nonstatutory stock options for the purchase of 543,461 shares,
at prices below the market value of the stock on the grant dates.
The difference between the option price and market value at the date of
grant for the above option arrangements has been recorded as additional paid-in
capital with an offsetting debit within stockholders' equity to unearned stock
compensation. The compensation expense related to these option grants was
amortized to operations over the contractual vesting period in which employees
performed services and amounted to $76,849 in 2001, $164,909 in 2000, and
$582,981 in 1999.
H-37
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Stock options and common shares reserved for grant under the Plans are as
follows:
WEIGHTED
AVERAGE
AVAILABLE OPTIONS PRICE PER
FOR GRANT OUTSTANDING SHARE
---------- ----------- ---------
BALANCES, SEPTEMBER 30, 1998....................... 869,937 2,731,267 $12.75
Granted............................................ (1,019,100) 1,019,100 9.32
Exercised.......................................... (402,022) 5.95
Cancelled.......................................... 1,244,635 (1,244,635) 14.26
---------- ----------
BALANCES, SEPTEMBER 30, 1999....................... 1,095,472 2,103,710 $11.50
Additional shares approved for grant............... 500,000
Granted............................................ (1,158,450) 1,158,450 9.42
Exercised.......................................... (129,952) 7.44
Cancelled.......................................... 525,995 (529,498) 10.16
---------- ----------
BALANCES, SEPTEMBER 30, 2000....................... 963,017 2,602,710 $11.05
Additional shares approved for grant............... 2,250,000
Granted............................................ (1,607,214) 1,607,214 5.96
Exercised.......................................... (102,657) 7.57
Cancelled.......................................... 298,796 (298,796) 10.80
---------- ----------
BALANCES, SEPTEMBER 30, 2001....................... 1,904,599 3,808,471 $ 9.02
========== ==========
Exercisable at September 30, 1999.................. 893,374 $12.84
Exercisable at September 30, 2000.................. 1,066,579 $12.82
Exercisable at September 30, 2001.................. 1,893,484 $10.36
Commencing April 1996, the Company has sponsored an Employee Stock Purchase
Plan (the Purchase Plan) that covers all domestic employees with at least 90
days of service. The Purchase Plan allows eligible participants the right to
purchase common stock on a quarterly basis at the lower of 85% of the market
price at the beginning or end of each three-month offering period. Employee
contributions to the Purchase Plan were $560,562, $580,855 and $586,324 in the
fiscal years ended 2001, 2000 and 1999, respectively. Pursuant to the Purchase
Plan, 100,582, 75,149 and 80,482 shares were issued to employees during the
fiscal years ended 2001, 2000 and 1999, respectively. As of September 30, 2001,
128,152 shares are available for future issuances under the Purchase Plan.
12. STOCK-BASED COMPENSATION
In accordance with Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" (SFAS 123), the Company has chosen to
continue to account for stock-based compensation using the intrinsic value
method prescribed in Accounting Principles Board Opinion No. 25, "Accounting for
Stock Issued to Employees," and related interpretations. Accordingly,
compensation costs for stock options granted to employees are measured as the
excess, if any, of the fair value of the Company's stock at the date of the
grant over the amount an employee must pay to acquire the stock. Such
compensation costs, if any, are amortized on a straight-line basis over the
option vesting schedule.
Had the Company used the fair-value-based method of accounting for its
stock options granted in 2001, 2000 and 1999, and charged operations over the
option vesting periods based on the fair value of
H-38
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
options on the date of grant, net (loss) income and net (loss) income per common
share would have been changed to the following pro forma amounts:
2001 2000 1999
----------- ------------ ----------
Net (loss) income:
As reported................................. $(1,783,304) $(16,824,680) $3,191,733
Pro forma................................... $(4,668,100) $(20,981,166) $ 281,852
Net (loss) income per share -- basic:
As reported................................. $ (0.12) $ (1.12) $ 0.22
Pro forma................................... $ (0.31) $ (1.39) $ 0.02
Net (loss) income per share -- assuming
dilution:
As reported................................. $ (0.12) $ (1.12) $ 0.22
Pro forma................................... $ (0.31) $ (1.39) $ 0.02
The weighted average fair value of options granted in fiscal years 2001,
2000 and 1999 was $3.45, $5.38 and $5.24, respectively. The weighted average
fair value was determined based upon the fair value of each option on the grant
date, utilizing the Black-Scholes option-pricing model and the following
assumptions:
ASSUMPTIONS: 2001 2000 1999
------------ ------- ------- -------
Risk free interest rate................................... 3.50% 5.88% 5.75%
Expected option holding period............................ 4 years 4 years 4 years
Expected volatility....................................... 75% 50% 50%
Expected dividend yield................................... 0 0 0
At September 30, 2001, the weighted average exercise price and remaining
life of the stock options are as follows:
OPTIONS OUTSTANDING
-----------------------------------------------------------
WEIGHTED
AVERAGE OPTIONS EXERCISABLE
REMAINING ----------------------------
CONTRACTUAL WEIGHTED WEIGHTED
RANGE OF OPTIONS LIFE AVERAGE OPTIONS AVERAGE
EXERCISE PRICES OUTSTANDING (IN YEARS) EXERCISE PRICE EXERCISABLE EXERCISE PRICE
--------------- ----------- ----------- -------------- ----------- --------------
$ 2.36 7,556 6.0 $ 2.36 6,629 $ 2.36
$ 5.20 1,006,294 10.0 $ 5.20 523,794 $ 5.20
$ 5.75 - $ 8.00 1,529,963 8.0 $ 7.11 598,059 $ 7.48
$ 8.25 - $14.00 868,085 7.3 $11.41 393,393 $11.78
$14.31 - $20.50 134,948 4.9 $15.97 132,902 $15.99
$20.75 - $29.25 261,625 4.8 $23.61 238,707 $23.63
--------- ---------
$ 2.36 - $29.25 3,808,471 8.1 $ 9.02 1,893,484 $10.36
========= =========
13. SHARE RIGHTS PLAN
The Company has adopted a share rights plan. Under the plan, the Company
distributed as a dividend one right for each share of the Company's common stock
outstanding on June 30, 1998. Each right entitles its holder to buy one
one-hundredth of a share of a new series of junior participating preferred stock
at an exercise price of $115, subject to adjustment. The rights are exercisable
only if certain ownership considerations are met. The Company will be entitled
to redeem the rights prior to the rights becoming exercisable.
H-39
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
14. COMMITMENTS
The Company has entered into various operating lease agreements for office
space and equipment, the last of which expires in fiscal 2013. These leases
generally require the Company to pay a pro-rata share of the lessor's operating
expenses. Below is a schedule of future minimum commitments under noncancellable
operating leases:
FISCAL
YEAR AMOUNT
------ ----------
2002........................................................ $ 892,000
2003........................................................ 462,000
2004........................................................ 335,000
2005........................................................ 243,000
2006........................................................ 45,000
Thereafter.................................................. 83,000
----------
Total....................................................... $2,060,000
==========
Total rental expense for all operating leases, including a pro-rata share
of lessor operating expenses, for the years ended September 30, 2001, 2000 and
1999 was $1,525,000, $1,967,000 and $1,838,000, respectively.
15. EMPLOYEE BENEFIT PLAN
The Company has a savings and profit sharing plan pursuant to Section
401(k) of the Internal Revenue Code (the Code), whereby eligible employees may
contribute up to 15% of their pre-tax earnings, not to exceed amounts allowed
under the Code. In addition, the Company may make contributions to the plan at
the discretion of the Board of Directors.
The Company provided matching contributions of $579,000, $508,000 and
$325,000 for the fiscal years ended September 30, 2001, 2000 and 1999,
respectively.
16. CONTINGENCIES
Between January 3, 1997 and March 7, 1997, the Company and certain of its
previous officers were named as defendants in putative securities class action
lawsuits filed in the United States District Court for the District of Minnesota
by 21 lead plaintiffs on behalf of an alleged class of purchasers of the
Company's common stock during the period January 25, 1996 through December 23,
1996. The putative class actions were thereafter consolidated (Master File No.
97-5 DWF/RLE). The Consolidated Amended Class Action Complaint ("Consolidated
Amended Complaint") alleged that the Company and certain of its previous
officers violated the federal securities laws by, among other things,
misrepresenting and/or omitting material information concerning the Company's
operations and financial results.
On February 25, 1997, the Company and certain of its previous officers also
were named as defendants in a securities lawsuit filed in the United States
District Court for the District of Minnesota by the Louisiana State Employees
Retirement System (Civil File No. 97-440, Master File No. 97-5 DWF/RLE) (the
"Louisiana Amended Complaint"). The Louisiana Amended Complaint alleged that the
Company and certain of its previous officers violated the federal securities
laws and state common law by, among other things, misrepresenting and/or
omitting material information concerning the Company's operations and financial
results.
In a decision issued on May 22, 1998, the District Court dismissed without
leave to replead all claims asserted in both cases, including all claims
asserted against defendant Gary L. Deaner, except for certain federal securities
law claims based upon alleged misrepresentations and/or omissions relating to
the
H-40
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
accounting treatment applied to the Company's AetherWorks investment. The
District Court also limited the claims asserted in the Louisiana Amended
Complaint to the 11,000 shares of the Company's stock held subsequent to
November 14, 1996, for which the Louisiana Amended Complaint claims damages of
$184,276 and seeks an award of attorneys' fees, disbursements and costs. The
Consolidated Amended Complaint sought compensatory damages of approximately
$43.1 million, plus interest, against all defendants, jointly and severally, and
an award of attorneys' fees, experts' fees and costs.
On August 17, 2000, the District Court granted defendants' motions for
summary judgment and dismissed with prejudice the Consolidated Amended Complaint
and the Louisiana Amended Complaint. Although the 21 lead plaintiffs in the
consolidated putative class actions had previously moved for class
certification, the District Court dismissed the actions before ruling on that
motion. Both the Louisiana State Employees Retirement System and the 21 lead
plaintiffs in the consolidated putative class actions filed appeals from the
decisions of the District Court.
On July 5, 2001, the United States Court of Appeals for the Eighth Circuit
affirmed the decisions of the District Court and ordered that judgment be
entered in favor of defendants on the claims alleged in the Consolidated Amended
Complaint and the Louisiana Amended Complaint. On September 28, 2001, the Court
of Appeals denied a petition for rehearing en banc filed by the 21 lead
plaintiffs in the consolidated putative class actions.
Management does not expect that the outcome of the action will have a
material adverse effect on the Company's financial position.
17. SUBSEQUENT EVENT
On October 30, 2001, the Company announced a definitive merger agreement
whereby the Company will acquire NetSilicon for cash and common stock with a
value of approximately $56,000,000. NetSilicon is a provider of Ethernet
microprocessing solutions for intelligent networked devices. The Boards of
Directors of both companies have approved the transaction, which, subject to
shareholder approval, is expected to close during the second quarter of the
Company's 2002 fiscal year.
Under the terms of the definitive merger agreement, each share of
NetSilicon stock will be converted into the right to receive either (1) cash,
(2) the Company's common stock, or (3) a combination of cash and the Company's
common stock. The exchange ratio is fixed at .6500 shares of the Company's
common stock for each share of NetSilicon common stock. The maximum cash to be
paid by the Company is $15,000,000. If the elections would cause Digi to pay
more than $15,000,000 in cash in the merger, all requests will be prorated among
the electing stockholders with the balance paid in stock.
The transaction is subject to approval by shareholders of both companies.
Holders of at least two-thirds of the outstanding voting shares of NetSilicon
must vote in favor of the acquisition and a majority of the outstanding shares
present at the Company's shareholder meeting must vote in favor of issuing
shares of the Company's common stock in the merger.
The transaction will be accounted for using the purchase method of
accounting as required for combinations initiated after June 30, 2001.
Accordingly, the purchase price will be allocated to the estimated fair value of
assets acquired and liabilities assumed.
18. CUMULATIVE EFFECT OF ACCOUNTING CHANGE
During the fourth quarter of fiscal 2001, the Company adopted Staff
Accounting Bulletin No. 101, Revenue Recognition in Financial Statements (SAB
101). The Company recorded a cumulative effect charge of $1,901,853, net of an
income tax benefit of $1,055,928, related to this accounting change. Upon
adoption of SAB 101, the Company changed its revenue recognition policy with
regard to certain product sales. The Company's previous policy stated that
revenue is recognized upon shipment of products to customers. Essentially, the
new policy recognizes that the risks and rewards of ownership in certain
H-41
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
transactions do not substantively transfer to customers upon shipment of the
products. These new policies are consistent with the guidance contained in SAB
101. The effect of this change in revenue recognition policy, as of October 1,
2000, has been reported as the cumulative effect of an accounting change in the
first quarter of fiscal 2001. Previously reported fiscal 2001 quarters have been
restated to reflect the change. The effect of the change in revenue recognition
policy resulted in an increase in revenues of $6.3 million. This change did not
have a significant effect on 2001 net income.
The following table presents the estimated consolidated results of
operations of the Company on an unaudited pro forma basis if SAB 101 guidance
had been effective in fiscal 2000. Information to estimate the fiscal 1999
impact of the accounting change was not available as a result of a change in the
Company's financial reporting system in fiscal 1999.
2000
------------
Net sales................................................... $135,411,197
Net loss.................................................... $(15,828,728)
Net loss per share.......................................... $ (1.05)
H-42
SCHEDULE II -- VALUATION AND QUALIFYING ACCOUNTS
(DOLLARS IN THOUSANDS)
BALANCE AT CHARGED TO BALANCE AT
BEGINNING COSTS AND CHARGED TO END OF
DESCRIPTION OF PERIOD EXPENSES OTHER ACCOUNTS DEDUCTIONS PERIOD
----------- ---------- ---------- -------------- ---------- ----------
September 30, 2001
Valuation account -- doubtful
accounts...................... $1,815 $1,149 $ 1,504(1) $1,460
September 30, 2000
Valuation account -- doubtful
accounts...................... $1,761 $1,150 $ 1,096(1) $1,815
September 30, 1999
Valuation account -- doubtful
accounts...................... $1,560 $ 179 $ (22)(1) $1,761
September 30, 2001
Valuation account, inventory
obsolescence.................. $4,074 $3,837 $ 2,203(2) $5,708
September 30, 2000
Valuation account, inventory
obsolescence.................. $4,539 $1,633 $ 2,098(2) $4,074
September 30, 1999
Valuation account, inventory
obsolescence.................. $3,107 $6,218 $ 4,786(2) $4,539
---------------
(1)Uncollectible accounts charged against allowance net of recoveries.
(2)Scrapped inventory charged against allowance.
H-43
REPORT OF MANAGEMENT
To the Stockholders of Digi International Inc.
The Company's management is responsible for the integrity, objectivity and
consistency of the financial information presented in this Annual Report on Form
10-K. The consolidated financial statements contained herein were prepared in
accordance with generally accepted accounting principles and were based on
informed judgments and management's best estimates as required. Financial
information elsewhere in this annual report is consistent with that contained in
the consolidated financial statements.
The Company maintains a system of internal controls designed to provide
reasonable assurance that assets are safeguarded, transactions are properly
executed in accordance with management's authorization, and accounting records
may be relied upon for the preparation of financial statements and other
financial information. The system is monitored by direct management review.
Limitations exist in any system of internal control, based upon the recognition
that the cost of the system should not exceed the benefits derived.
The Company's consolidated financial statements have been audited by
PricewaterhouseCoopers LLP, independent certified public accountants. Their
audit was conducted in accordance with auditing standards generally accepted in
the United States of America. As part of their audits of the Company's
consolidated financial statements, these independent accountants considered the
Company's internal controls to the extent they deemed necessary to determine the
nature, timing and extent of their audit tests.
The Audit Committee of the Board of Directors is composed entirely of
non-employee directors and is responsible for monitoring and overseeing the
quality of the Company's accounting and reporting policies, internal controls
and other matters deemed appropriate. The independent certified public
accountants have free access to the Audit Committee without management present.
/s/ JOSEPH T. DUNSMORE
--------------------------------------
Joseph T. Dunsmore
Chairman, President and
Chief Executive Officer
/s/ SUBRAMANIAN KRISHNAN
--------------------------------------
Subramanian Krishnan
Senior Vice President,
Chief Financial Officer and Treasurer
December 28, 2001
H-44
REPORT OF INDEPENDENT ACCOUNTANTS
To the Stockholders and Board of Directors of Digi International Inc.
In our opinion, the consolidated financial statements listed in the index
appearing under Item 14(a)(1) on page 57 present fairly, in all material
respects, the financial position of Digi International Inc. and its subsidiaries
(the Company) at September 30, 2001 and 2000, and the results of their
operations and their cash flows for each of the three years in the period ended
September 30, 2001 in conformity with accounting principles generally accepted
in the United States of America. In addition, in our opinion, the financial
statement schedule listed in the index appearing under Item 14(a)(2) on page 57
presents fairly, in all material respects, the information set forth therein
when read in conjunction with the related consolidated financial statements.
These financial statements and financial statement schedule are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements and financial statement schedule 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 our opinion.
As discussed in Note 18, in 2001 the Company adopted the provisions of the
Securities and Exchange Commission's Staff Accounting Bulletin No. 101 relating
to revenue recognition.
/s/ PricewaterhouseCoopers LLP
Minneapolis, Minnesota
November 27, 2001
H-45
QUARTERLY FINANCIAL DATA
QUARTER ENDED
-----------------------------------------------
DECEMBER 31 MARCH 31 JUNE 30 SEPTEMBER 30
----------- -------- ------- ------------
IN THOUSANDS EXCEPT PER SHARE AMOUNTS
(UNAUDITED)
2001
Net sales................................................. $34,958 $32,065 $31,081 $32,300
Gross margin.............................................. 18,434 16,692 16,163 12,923
Restructuring............................................. (182) (48) -- 1,351
Income (loss) before income taxes and cumulative effect of
accounting change...................................... 2,981 581 705 (4,083)
Cumulative effect of accounting change (net of income tax
benefit of $1,056...................................... (1,902) -- -- --
Net income (loss)......................................... (411) 320 366 (2,058)
Net income (loss) per share, before cumulative effect
of accounting change -- basic.......................... 0.10 0.02 0.02 (0.13)
-- assuming dilution.............. 0.10 0.02 0.02 (0.13)
Net income (loss) per share, cumulative effect of
accounting change -- basic............................. (0.13) -- -- --
-- assuming dilution................. (0.13) -- -- --
Net income (loss) per share -- basic...................... (0.03) 0.02 0.02 (0.13)
Net income (loss) per share -- assuming dilution.......... (0.03) 0.02 0.02 (0.13)
2000
Net sales................................................. $40,140 $25,800 $32,354 $34,231
Gross margin.............................................. 22,175 12,273 17,175 18,030
Impairment loss........................................... 18,068 8,078
Restructuring............................................. (138) (12) 1,532
Net income (loss)......................................... 1,018 (13,282) 2,513 (7,074)
Net income (loss) per share -- basic...................... 0.07 (0.88) 0.17 (0.47)
Net income (loss) per share -- assuming dilution.......... 0.07 (0.88) 0.17 (0.47)
1999
Net sales................................................. $51,395 $42,631 $51,145 $48,335
Gross margin.............................................. 26,491 18,478 27,147 26,076
Restructuring............................................. 1,453 (685) (161)
Net income (loss)......................................... 475 (2,251) 2,253 2,715
Net income (loss) per share -- basic...................... 0.03 (0.15) 0.15 0.18
Net income (loss) per share -- assuming dilution.......... 0.03 (0.15) 0.15 0.18
The summation of quarterly net income per share may not equate to the
year-end calculation as quarterly calculations are performed on a discrete
basis.
H-46
Previously reported fiscal 2001 quarterly information included above has
been restated to reflect the change in revenue recognition policy as described
in Note 18 to the consolidated financial statements. The following table
summarizes previously reported fiscal 2001 quarters.
2001
--------------------------------
DECEMBER 31 MARCH 31 JUNE 30
----------- -------- -------
Net sales................................................... $34,443 $33,038 $30,155
Gross margin................................................ 18,161 17,198 15,681
Restructuring............................................... (182) (48) --
Net income.................................................. 1,364 555 139
Net income per share -- basic............................... 0.09 0.04 0.01
Net income per share -- assuming dilution................... 0.09 0.04 0.01
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
H-47
PART III
ITEM 10. EXECUTIVE OFFICERS OF THE REGISTRANT
As of the date of filing this Form 10-K, the following individuals were
executive officers of the Registrant:
NAME AGE POSITION
---- --- --------
Joseph T. Dunsmore........................ 43 Chairman, President and Chief Executive Officer
Douglas J. Glader......................... 58 Executive Vice President and General Manager of
MiLAN Technology
Subramanian Krishnan...................... 47 Senior Vice President, Chief Financial Officer and
Treasurer
Bruce Berger.............................. 41 Senior Vice President and General Manager of
European Operations
Mr. Dunsmore joined the Company on October 24, 1999, as President and Chief
Executive Officer and as a member of the Board of Directors. Prior to joining
Digi, Mr. Dunsmore had been Vice President of Access for Lucent
Microelectronics, a telecommunications company now known as Agere Systems Inc.,
since July 1999. From October 1998 to June 1999, he acted as an independent
consultant to various high technology companies. From February 1998 to October
1998, Mr. Dunsmore was Chief Executive Officer of NetFax, Inc., a
telecommunications company. From October 1995 to February 1998, he held
executive management positions at US Robotics and then at 3COM after 3COM
acquired US Robotics in June 1997. Prior to that, Mr. Dunsmore held various
marketing management positions at AT&T Paradyne Corporation since May 1983.
Mr. Glader was named Executive Vice President and General Manager of MiLAN
Technology on May 8, 2000, Executive Vice President and Chief Operating Officer
on April 19, 1999, Senior Vice President, Manufacturing Operations on April 23,
1997 and Vice President of Operations in February 1995. Before that, he was
Director of Manufacturing and Operations for MiLAN Technology Corporation, which
the Company acquired in November 1993. He began his career with Memorex
Corporation and also worked for Measurex Corporation, Altus Corporation and
Direct Incorporated. He founded and was Vice President of Operations for
Greyhawk Systems, Inc., a manufacturer of electronic imaging hardware and
software.
Mr. Krishnan was named Senior Vice President, Chief Financial Officer and
Treasurer on February 1, 1999, prior to which he served as the Company's Vice
President of Finance since January 11, 1999. Prior to joining the Company, he
served as a principal with LAWCO Financial, an investment banking firm in
Minneapolis, MN from January 1997 to January 1999. Prior to LAWCO, he served for
13 years with the Valspar Corporation as the Director of Corporate Financial
Planning and Reporting and Taxes and was primarily responsible for mergers,
acquisitions and joint ventures.
Mr. Berger was named Vice President and Managing Director of European
Operations in May 2000. Prior to joining the Company he served as Vice President
and General Manager, Business Development at TeCom Incorporated where he was
responsible for development of TeCom's original business plan, development and
implementation of the strategic plan and management of aspects of the business.
Prior to TeCom his tenure included 11 years with AT&T Paradyne Corporation in a
variety of product management positions, international sales and marketing and
business development experience. At AT&T Paradyne, Mr. Berger was responsible
for international sales channel development in Europe, Canada, Latin America,
the Far East and Australia.
H-48
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Consolidated Financial Statements and Schedules of the Company
1.Consolidated Statements of Operations for the fiscal years ended
September 30, 2001, 2000 and 1999
Consolidated Balance Sheets as of September 30, 2001 and 2000
Consolidated Statements of Cash Flows for the fiscal years ended
September 30, 2001, 2000 and 1999
Consolidated Statements of Stockholders' Equity for the fiscal years
ended September 30, 2001, 2000 and 1999
Notes to Consolidated Financial Statements
2.Schedule of Valuation and Qualifying Accounts
3.Report of Independent Accountants
(b) Reports on Form 8-K
There were no reports on Form 8-K during the quarter ended September 30,
2001.
H-49
(c) Exhibits
EXHIBIT
NUMBER DESCRIPTION
-------- -----------
3(a) Restated Certificate of Incorporation of the Company(1)
3(b) Amended and Restated By-Laws of the Company (as amended
through December 1, 2001)
4(a) Form of Rights Agreement, dated as of June 10, 1998 between
Digi International Inc. and Wells Fargo Bank Minnesota,
National Association (formerly known as Norwest Bank
Minnesota, National Association), as Rights Agent(2)
4(b) Amendment dated January 26, 1999, to Share Rights Agreement,
dated as of June 10, 1998 between Digi International Inc.
and Wells Fargo Bank Minnesota, National Association
(formerly known as Norwest Bank Minnesota, National
Association), as Rights Agent(3)
10(a) Stock Option Plan of the Company(4)
10(b) Form of indemnification agreement with directors and
officers of the Company(5)
10(c) Employment Arrangement between the Company and Douglas
Glader*(6)
10(c)(i) Amendment to Employment Agreement between the Company and
Douglas Glader, dated as of December 13, 2000*(7)
10(d) Agreement between the Company and Subramanian Krishnan dated
March 26, 1999*(8)
10(d)(i) Amendment to Agreement between the Company and Subramanian
Krishnan dated February 5, 2001*(9)
10(e) Employment Agreement between the Company and Joseph T.
Dunsmore dated October 24, 1999*(10)
10(f) Agreement between the Company and Bruce Berger dated March
29, 2000*(11)
10(f)(i) Agreement between the Company and Bruce Berger dated
December 14, 2001*
10(g) Employee Stock Purchase Plan of the Company(12)
10(h) 2000 Omnibus Stock Plan of the Company(13)
10(i) Agreement and Plan of Merger among the Company, Dove Sub
Inc. and NetSilicon, Inc. dated as of October 30, 2001(14)
21 Subsidiaries of the Company
23 Consent of Independent Accountants
24 Powers of Attorney
---------------
* Management contract or compensatory plan or arrangement required to be filed
as an exhibit to this Form 10-K.
(1)Incorporated by reference to Exhibit 3(a) to the Company's Form 10-K for the
year ended September 30, 1993 (File no. 0-17972).
(2)Incorporated by reference of Exhibit 1 to the Company's Registration
Statement on Form 8-A dated June 24, 1998 (File no. 0-17972).
(3)Incorporated by reference to Exhibit 1 to Amendment No. 1 to the Company's
Registration Statement on Form 8-A dated February 5, 1999 (File no.
0-17972).
(4)Incorporated by reference to the corresponding exhibit number to the
Company's Form 10-K for the year ended September 30, 1998 (File no.
0-17972).
(5)Incorporated by reference to Exhibit 10(b) to the Company's Registration
Statement on Form S-1 (File no. 33-30725).
(6)Incorporated by reference to Exhibit 10(q) to the Company's Form 10-K for
the year ended September 30, 1995 (File no. 0-17972).
(7)Incorporated by reference to Exhibit 10(d)(i) to the Company's Form 10-K for
the year ended September 30, 2000 (File no. 0-17972).
H-50
(8)Incorporated by reference to Exhibit 10(k) to the Company's Form 10-Q for
the quarter ended March 31, 1999 (File no. 0-17972).
(9)Incorporated by reference to Exhibit 10(e)(i) to the Company's Form 10-Q for
the quarter ended December 31, 2000 (File no. 0-17972).
(10)Incorporated by reference to Exhibit 10(j) to the Company's Form 10-K for
the year ended September 30, 1999 (File no. 0-17972).
(11)Incorporated by reference to Exhibit 10(g) to the Company's Form 10-K for
the year ended September 30, 2000 (File no. 0-17972).
(12)Incorporated by reference to Exhibit B to the Company's Proxy Statement for
its Annual Meeting of Stockholders held on January 31, 1996 (File no.
0-17972).
(13)Incorporated by reference to Exhibit B to the Company's Proxy Statement for
its Annual Meeting of Stockholders held on January 24, 2000 (File no.
0-17972).
(14)Incorporated by reference to Annex A to the Company's Registration Statement
on Form S-4 (File no. 333-74118).
H-51
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
DIGI INTERNATIONAL INC.
By: /s/ JOSEPH T. DUNSMORE
------------------------------------
Joseph T. Dunsmore
President, Chief Executive Officer,
and Chairman
December 28, 2001
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
Registrant and in the capacities and on the dates indicated.
/s/ JOSEPH T. DUNSMORE
------------------------------------
Joseph T. Dunsmore
President, Chief Executive Officer,
and Chairman
(Principal Executive Officer)
December 28, 2001
/s/ SUBRAMANIAN KRISHNAN
------------------------------------
Subramanian Krishnan
Senior Vice President, Chief
Financial Officer
and Treasurer
(Principal Financial and Accounting
Officer)
December 28, 2001
JOSEPH T. DUNSMORE
KENNETH E. MILLARD
MYKOLA MOROZ A majority of the Board of Directors*
MICHAEL SEEDMAN
DAVID STANLEY
BRADLEY J. WILLIAMS
---------------
*Subramanian Krishnan, by signing his name hereto, does hereby sign this
document on behalf of each of the above named directors of the Registrant
pursuant to Powers of Attorney duly executed by such persons.
/s/ SUBRAMANIAN KRISHNAN
------------------------------------
Subramanian Krishnan
Attorney-in-fact
December 28, 2001
H-52
EXHIBIT INDEX
EXHIBIT DESCRIPTION PAGE
-------- ----------- ----
3(a) Restated Certificate of Incorporation of the Registrant, Incorporated by Reference
as amended
3(b) Amended and Restated By-Laws of the Registrant (as Filed Electronically
amended through December 1, 2001)
4(a) Form of Rights Agreement, dated as of June 10, 1998 Incorporated by Reference
between Digi International Inc. and Wells Fargo Bank
Minnesota, National Association (formerly known as
Norwest Bank Minnesota, National Association), as Rights
Agent
4(b) Amendment dated January 26, 1999, to Shares Rights Incorporated by Reference
Agreement, dated as of June 10, 1998 between Digi
International Inc. and Wells Fargo Bank Minnesota,
National Association (formerly known as Norwest Bank
Minnesota, National Association), as Rights Agent
10(a) Stock Option Plan of the Registrant Incorporated by Reference
10(b) Form of indemnification agreement with directors and Incorporated by Reference
officers of the Registrant
10(c) Employment Arrangement between the Registrant and Douglas Incorporated by Reference
Glader
10(c)(i) Amendment to Employment Agreement between the Registrant Incorporated by Reference
and Douglas Glader, dated as of December 13, 2000
10(d) Agreement between the Registrant and Subramanian Krishnan Incorporated by Reference
dated March 26, 1999
10(d)(i) Amendment to the Agreement between the Registrant and Incorporated by Reference
Subramanian Krishnan dated February 5, 2001
10(e) Employment Agreement between the Registrant and Joseph T. Incorporated by Reference
Dunsmore, dated October 24, 1999
10(f) Agreement between the Registrant and Bruce Berger dated Incorporated by Reference
March 29, 2000
10(f)(i) Agreement between the Company and Bruce Berger dated Filed Electronically
December 14, 2001
10(g) Employee Stock Purchase Plan of the Registrant Incorporated by Reference
10(h) 2000 Omnibus Stock Plan of the Company Incorporated by Reference
10(i) Agreement and Plan of Merger among the Company, Dove Sub Incorporated by Reference
Inc. and NetSilicon, Inc. dated as of October 30, 2001
21 Subsidiaries of the Registrant Filed Electronically
23 Consent of Independent Accountants Filed Electronically
24 Powers of Attorney Filed Electronically
H-53
ANNEX I
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
------------------------
FORM 10-K
FOR ANNUAL AND TRANSITION REPORTS PURSUANT TO
SECTIONS 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
(MARK ONE)
[X] Annual report pursuant to Section 13 or 15(d) of the Securities Exchange
Act of 1934 for the fiscal year ended January 31, 2001
[ ] Transition report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934 for the transition period from to
Commission File Number: 0-26761
NetSilicon, Inc.
(Exact name of registrant as specified in its charter)
MASSACHUSETTS 04-2826579
(State or other jurisdiction of incorporation or (IRS Employer Identification No.)
organization)
411 Waverley Oaks Road, Bldg. 227, Waltham, MA 02452
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (781) 647-1234
Securities registered pursuant to Section 12(b) of the act: None
Securities registered pursuant to Section 12(g) of the Act: Common Stock, par
value $.01 per share
Indicate by check mark whether the registrant: (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K. [X]
The aggregate market value of Common Stock held by non-affiliates of the
registrant at April 23, 2001 was approximately $47,805,300 based upon $3.43 per
share, the last reported sale price of the Common Stock on the Nasdaq National
Market on that date.
The number of shares of the registrant's Common Stock outstanding as of April
23, 2001: 7,064,434 shares of voting common stock and 6,972,656 shares of
non-voting common stock.
DOCUMENTS INCORPORATED BY REFERENCE
The registrant intends to file a definitive proxy statement pursuant to
Regulation 14A within 120 days of the end of the fiscal year ended January 31,
2001. Portions of such proxy statement are incorporated by reference into Part
III of this report.
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
I-1
NetSilicon, Inc.
TABLE OF CONTENTS
SECURITIES AND EXCHANGE COMMISSION
ITEM NUMBER AND DESCRIPTION PAGE
---------------------------------- ----
PART I:
Item 1. Business.................................................... I-3
Item 2. Properties.................................................. I-24
Item 3. Legal Proceedings........................................... I-24
Item 4. Submission of Matters to a Vote of Security Holders......... I-25
PART II:
Item 5. Market for the Registrant's Common Stock and Related
Shareholder Matters....................................... I-25
Item 6. Selected Financial Data..................................... I-26
Item 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................. I-27
Item 7a. Quantitative and Qualitative Disclosures About Market
Risk...................................................... I-34
Item 8. Financial Statements and Supplementary Data................. I-34
Item 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure.................................. I-34
PART III:
Item 10. Directors and Executive Officers of the Registrant.......... I-34
Item 11. Executive Compensation...................................... I-35
Item 12. Security Ownership of Certain Beneficial Owners and
Management................................................ I-35
Item 13. Certain Relationships and Related Transactions.............. I-35
PART IV:
Item 14. Exhibits, Financial Statement Schedules and Reports on Form
8-K....................................................... I-35
I-2
PART I
ITEM 1. BUSINESS:
COMPANY OVERVIEW
We develop and market embedded Ethernet networking solutions, which combine
advanced microprocessors and software, to manufacturers building intelligent,
network-enabled devices. Our products provide intelligent devices and embedded
systems with the ability to communicate over standards-based local-area
networks, or LANs, and the Internet, enabling the development of new embedded
systems applications. We believe we offer the first comprehensive solution that,
in conjunction with a physical interface and memory, encompasses all of the
hardware and software necessary to allow intelligent electronic devices
incorporating embedded systems to communicate with other devices. Our customers
are in a broad array of markets including telecommunications and telephony,
industrial automation, office imaging, building automation and control, home
automation, data acquisition, point-of-sale, and wireless access. Our devices
are incorporated into office imaging equipment, including printers, scanners,
fax machines, copiers and multi-function devices manufactured by over 20
manufacturers including Minolta, Ricoh, Sharp and Xerox. Our products are also
in various stages of incorporation into the design and manufacture of other
intelligent devices including power plant automation equipment, medical data
collection and monitoring devices, Internet/Ethernet cameras for security,
voice-over-IP telephones, point-of-sale scanners, scales and teller machines,
networked exercise equipment, and utility measurement and environment monitoring
equipment.
We were incorporated in Massachusetts in April 1984 under the name of Digital
Products, Inc. In September 1996, Sorrento Networks Corporation, formerly Osicom
Technologies, Inc., ("Sorrento"), acquired sole ownership of the Company through
a merger with a newly-formed corporation in exchange for Sorrento common stock
in a transaction accounted for as a pooling of interest. On September 15, 1999,
we completed an initial public offering of our common stock.
INDUSTRY BACKGROUND
An embedded system contains a microprocessor that is part of a larger electronic
system and responds to external events by performing specific tasks quickly,
predictably and reliably. Some examples of products with embedded computers are:
- office products such as fax machines, laser printers and
photocopiers;
- industrial automation equipment such as robots and process
control equipment;
- building control equipment such as elevator and environmental
control systems;
- consumer products such as camcorders and video games;
- medical instrumentation and imaging systems;
- vending machines and automated teller machines; and
- vehicle anti-lock brakes and navigation systems.
Many electronic systems incorporating embedded systems run autonomously. They do
not require an operator's constant presence and are often candidates for network
connectivity. Connection to a network affords the operators of these devices the
convenience of controlling or monitoring them remotely. Examples of device
networking can be as simple as a home security company receiving a message that
a door in a subscriber's house is open, or as complex as the control of a
multi-step chemical process in a refinery. Only a small portion of embedded
systems are currently connected to a network, despite the many benefits of
networking, due to the high historical cost of developing network connectivity
solutions for these systems.
The first extensive networking of devices arose from the connection of personal
computers, or PCs, in business environments across LANs and wide-area networks,
or WANs, and in home and mobile environments across
I-3
the Internet. As network connectivity for PCs became more prevalent, so too did
the networking of the imaging devices that printed out, scanned in, faxed and
copied the documents created by those PCs. The primary motivation for networking
imaging devices was cost. A single networked printer could serve an entire
office, whereas without networking, the same office might need a printer for
every work station. Network connectivity for imaging devices was facilitated by
the emergence of networking standards such as Ethernet and the Internet
Protocol, or IP. Imaging device networking solutions, like those that we
manufacture and sell, incorporate those common transmission protocols.
In several markets other than imaging, embedded systems manufacturers have
tended to base their network connectivity solutions upon unique or proprietary
communication protocols. Creating and upgrading networks based on these
proprietary protocols generally has been costly and time consuming for these
manufacturers. In addition, these proprietary networks are generally restrictive
for end users because they are unable or late to gain the benefits of new,
standards-based add-on products and services. These systems, because they are so
difficult to upgrade with standards-based products and software, can often
rapidly lose their effectiveness and become obsolete or uncompetitive.
With the broad acceptance of common networking protocols, such as IP and
Ethernet, embedded systems developers have increasingly attempted to incorporate
standards-based networking into their products. To participate in a common
networking environment, manufacturers and developers have integrated multiple
hardware and software sub-systems commercially available from third-party
vendors, each of which provides a part of the total solution. Adding networking
functionality with components from multiple sources requires the engineering
integration of complex components, including:
- a microprocessor;
- an Ethernet chip;
- a direct memory access, or DMA, controller;
- a memory controller;
- a TCP protocol stack;
- an SNMP agent for management;
- a Web server;
- a Hypertext Transfer Protocol, or HTTP, server;
- a real-time operating system, or RTOS; and
- software drivers.
These components must be compatible to enable full networking functionality.
Thus, while multi-sourced networking may be, in specialized cases, superior to
proprietary solutions, developers of systems incorporating multi-sourced
networking functionality must hire sophisticated network engineering teams,
endure lengthy and risky development and integration cycles and incur
substantial technology enhancement and maintenance costs. As an alternative to a
multi-sourced approach, developers have designed standards-based networking
designs in which the embedded system or systems to be networked are connected to
a generic, off-the-shelf, microprocessor-based board. Such designs are
expensive, physically large and impractical for many users.
We believe that historically there have not been cost-effective and practical
alternatives for networking embedded systems. Consequently, end users of most
non-imaging devices have not been able to connect them to networks. Where
developers have added network connectivity to their devices, they have
sacrificed time, effort and expense to create proprietary solutions assembled
from numerous and distinct vendors or board-based designs. As a result, end
users have purchased systems that were either not cost effective or contained
generally rudimentary network connectivity that they could not routinely
upgrade.
I-4
THE NETSILICON SOLUTION
We develop and market integrated hardware and software for manufacturers who
want to build network-ready products. Our NET+Works(TM) family of solutions
integrates network-enabled microprocessors (specialized computer chips), an
operating system, networking software, development tools and high level
technical support. These chips and software are "embedded" by our customers into
their intelligent electronic devices, allowing their products to connect to the
network via Ethernet. Once connected, these products can be managed, serviced,
and accessed from anywhere.
Our Softworks Group develops and licenses software that is embedded into
Internet appliances and other devices to enable Internet and Web-based
communications.
We design our products to provide our customers with an integrated, easy-to-use,
standards-based solution that aims to lower development risk, accelerate
time-to-market and reduce cost of ownership. We have 17 years of experience
providing networking connectivity for a wide array of electronic devices.
We believe that our products offer manufacturers of intelligent, network-enabled
devices and embedded systems developers a compelling solution because our
products are:
- STANDARDS-BASED. Our products incorporate existing LAN, WAN
and Internet networking standards. These standards make it
possible for electronic devices incorporating embedded systems
to communicate with other standards-based equipment, enabling
the free exchange of data, distributed processing and remote
maintenance.
- COMPREHENSIVE. We offer a comprehensive set of products that,
in conjunction with a physical interface and memory,
consolidates the hardware and software necessary to network
electronic devices in a single solution. In addition, we offer
manufacturers of intelligent, network-enabled devices and
embedded systems developers a package of development tools and
application engineering services to facilitate a reduced
time-to-market for their network-ready products. Manufacturers
that incorporate our products do not need to develop in-house
networking expertise in order to offer advanced connectivity
in their products. Furthermore, manufacturers incorporating
our products into their designs do not need to acquire
networking hardware or software from multiple third-party
vendors and perform the associated highly complex and lengthy
integration and maintenance.
- SCALABLE AND EXTENSIBLE. We based the NET+Works technology on
a design platform that allows networking extensibility across
a wide range of hardware platforms and performance levels. Our
customers can achieve scalability through a design that allows
us to offer pin-compatible semiconductor devices from 5
million instructions per second, or MIPS, to 40 MIPS
performance levels. Consequently, developers can incorporate
varying performance levels into their products without
redesigning the hardware or reprogramming the software.
- PROVEN. Since our inception, we have focused our efforts on
enabling the connection of electronic devices to networks. Our
technology embodies refinements and enhancements developed
during our years of service to manufacturers of intelligent,
network-enabled devices and embedded systems developers. Our
semiconductor devices are incorporated into a broad array of
office imaging products, including printers, scanners, fax
machines, copiers and multi-function devices manufactured by
over 20 manufacturers, including Minolta, Ricoh, Sharp and
Xerox and into a growing number of other intelligent devices.
BUSINESS STRATEGY
Our objective is to continue to expand our market position as a developer and
supplier of networking products for intelligent devices. Key elements of our
strategy include the following:
- IDENTIFYING AND PENETRATING GROWING INTELLIGENT DEVICE
MARKETS. The total available market for embedded networking
systems is comprised of OEMs producing electronic
I-5
devices in multiple market segments that each have their own
combinations of manufacturers, developers and end users. We
target those embedded systems markets where we estimate that
the compelling mainstream need for network connectivity has
developed or is developing rapidly. For example, we have
identified the industrial automation market as one in which
manufacturers have demonstrated early demand for our
networking products -- comprehensive networking solutions
incorporating specialized industry-specific applications. Our
ability to penetrate other market segments results from the
basic design of our semiconductor devices, specifically their
suitability for incorporation into a very wide range of
embedded systems with minimal additional research or product
development expenses. We evaluate each new target market
opportunity based upon four criteria: significant potential
sales of our products within three to five years; a
demonstrable compelling benefit from network connectivity with
the absence of a widely accepted network connectivity
architecture; compatibility with our sales and marketing
channels; and ease of adaptability to our existing technology.
- EXPANDING EXISTING CUSTOMER RELATIONSHIPS IN THE IMAGING
SEGMENT. Over 20 manufacturers in the imaging industry have
incorporated our networking products. Our customers have
designed our products into a broad array of office imaging
products, including printers, scanners, fax machines, copiers
and multi-function devices. Manufacturers currently are
commercially shipping over 50 imaging products incorporating
our semiconductor devices. In addition, many of these
manufacturers are in various stages of designing other
products that will incorporate our NET+Works products. We seek
to leverage our existing relationships with manufacturers by
working closely with them to understand their evolving
requirements and to meet them. In addition, we focus our
efforts on obtaining design wins with those companies in the
imaging industry that do not currently incorporate our
semiconductor devices.
- LEVERAGING EMERGING TECHNOLOGIES. We believe that by adopting
new technological developments in our industry, we will be
better positioned to take advantage of new market
opportunities. We expect to continue to invest in new
technological developments and innovation. These developments
include improved hardware performance, enhanced intelligent
networking software for routing protocols and network
applications, continued incorporation of the Java programming
language and Linux operating system in our products and
development environment, a new high-performance printer
controller and evolving wireless connectivity technology and
other technologies including Universal Plug and Play and XML.
We believe we need to continue to strengthen our value
proposition by expanding our product line with lower cost
products as well as higher performance semiconductors. In
addition we will continue to make our software and tools
easier to use and install.
- EXPANDING WORLDWIDE DISTRIBUTION CHANNELS. We continue to
expand our worldwide sales and marketing channels to
capitalize on intelligent device market opportunities in key
geographic areas including Japan, the Far East and Europe. In
February 2001, we acquired Dimatech Corporation of Tokyo,
Japan, a company that had previously distributed our products
in Japan. We also continue to forge relationships with leading
distributors in Europe and the Far East.
- DEVELOPING MARKET-SPECIFIC PRODUCTS AND FEATURES. We intend
to bolster our competitive position within the markets we
target by incorporating value-added functions and features
into our products that are specifically tailored to the unique
requirements of each market. We believe that this approach to
product development increases the attractiveness of our
NET+Works products over more generic, less function-rich
alternatives.
- DEVELOPING STRATEGIC RELATIONSHIPS. To facilitate our
penetration of new intelligent device markets, we intend to
leverage the capabilities and market presence of our customers
and
I-6
strategic partners. In June 1998, we joined with industrial
automation companies to create the Industrial Automation Open
Network Alliance. The alliance was founded to promote a
standards-based approach to networking for industrial
automation, and to focus on overcoming obstacles to its rapid
adoption. The alliance now has over 50 and 100 members in the
United States and Europe, respectively, and we believe that by
taking a leading role in the growth of the alliance we will
further establish our products in industrial automation
markets. We have also established relationships with companies
addressing both Linux and Java for intelligent device
applications to more rapidly address these technologies,
including a partnership with Red Hat, Inc. to deliver open
source products and services to manufacturers of Ethernet and
Internet-attached devices and we have partnered with industry
leaders to jointly develop new products, including the NET+Zj
network printer controller that was developed with
Zenographics, Inc. during 2000. In addition, we seek to
establish relationships with developers that will be early
adopters of networking technology because we anticipate that
these developers will have significant influence in
determining the network connectivity standards within that
market. We plan to develop our products in conjunction with
these early adopters, and to position our products as the
networking products of choice for each intelligent device
market we choose to address.
PRODUCTS AND SERVICES
Our technology solution is comprised of products and services. Our NET+Works
products offer an integrated solution for intelligent networked devices. This
"solution-on-chip" approach combines a core microprocessor, network connectivity
interfaces, operating system and networking software, development tools and
technical service and support. Our products are sold as a complete system and
include both the hardware and a license to use the full array of our software.
We believe our NET+Works products, in conjunction with a physical interface and
memory, provide all of the functionality needed to implement Internet and
Ethernet connectivity. Furthermore, we believe our integrated products allow our
customers to accelerate their time-to-market, reduce development risk, and
benefit from lower total cost of ownership compared to alternative approaches,
without sacrificing system performance or increasing the amount of memory
required.
Our NET+Works development tool kit includes the hardware and software necessary
to enable device intelligence and network connectivity and is accompanied by
documentation and optional technical support and hardware design review
services.
We also develop and license a suite of standards-based software products that
are embedded into Internet appliances and other devices to enable Internet and
Web-based communications. We believe these products, which include Internet,
routing and application protocols, provide the functionality, performance and
flexibility to build embedded networking into intelligent devices using a
variety of platforms.
Hardware Products
Our NET+Works products include our NET+ARM semiconductor device containing core
microprocessors from ARM Holdings plc ("ARM") along with network connectivity
interfaces. Customers incorporate our semiconductor devices directly into their
embedded systems or integrate them into a network interface card, or NIC. A
complete design also requires a physical interface and memory. In our imaging
markets, while many of our customers are integrating our NET+Works products into
their controllers, the majority of our sales to imaging customers consist of
NET+Works products contained in network interface controllers.
Our NET+ARM semiconductor devices operate at speeds of 33 and 44 MHz. We believe
that the price at which our NET+ARM semiconductor devices are available to
customers provides significant cost savings to currently available components
with comparable functionality. The product's processing speed is enhanced by
NET+DMA, an interface between the Ethernet MAC, or media access controller, and
the main memory bank. We have filed a patent application for NET+DMA.
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Software
Our NET+Works products include a suite of software integrated with the NET+ARM
semiconductor device. The software includes:
- NET+Drivers and RTOS. NET+Drivers and RTOS components are the
basic pieces that operate the hardware and software. We offer
a NET+OS platform based on the ThreadX RTOS and the NET+Lx
platform based on the open source Linux operating system and
we support two popular third-party commercial offerings: pSOS+
and VxWorks from Wind River. NetSilicon's drivers are fully
integrated and supported by the RTOS and tools.
- NET+Protocols. NET+Protocols contain the open standard
communications protocols such as the Internet transmission
protocols.
- NET+Services. NET+Services add the necessary Internet standard
networking services for Web server, email, data transfer,
installation and management services.
- NET+APIs. NET+APIs provide the needed access to the RTOS and
NET+Services for applications software engineers without
having to attain networking engineering knowledge.
An important component of our strategy is to leverage our NET+ARM semiconductor
devices by adding application-specific software that is focused on the unique
needs of vertical industry markets. Our first customized vertical-market
application is a set of embedded networking products designed for office imaging
devices, such as printers, copiers, faxes, scanners and multifunction devices.
This product uses the same core technology found in our NET+ARM semiconductor
devices and adds NET+Applications software developed by us specifically for use
in imaging devices. Our NET+Works products for the imaging market offer full
networking operating system support, full print server applications and
management capabilities. The management capabilities enable devices to report
status messages, such as toner low or paper jam to network administrators via
email cross a LAN, WAN or the Internet. It is available for installation
directly on the controller board, eliminating the need for a separate NIC.
For our imaging customers, we also offer software to enable connection and
communication with embedded controllers over a variety of interface
specifications. Our DPO interface specification is an open-architecture
specification designed by us and licensed to controller designers and imaging
device manufacturers. The DPO interface can function with networks comprised of
multiple protocols and operating systems, including Novell NetWare, AppleTalk,
UNIX, IP and Windows NT. In addition, the DPO interface meets the networking
functionality standard established by Hewlett-Packard, enabling our customer to
offer similar networking functionality to Hewlett-Packard. PSIO is an interface
specification that we license from Peerless Systems Corp. so that our products
can interface with controllers provided by Peerless. We also offer a PCI
interface specification to simplify and reduce the cost of PCI applications.
We offer a software-only version of our NET+Works products, called NET+Software,
to our imaging customers. NET+Software offers the same functionality as the
network interface card and embedded product. NET+Software has been designed to
run on the controller's processor, thus saving cost. We provide a complete range
of products by offering NET+Works as a network interface card, semiconductor
device with software or as a software-only product.
Our suite of software products includes embedded Internet and Web protocols and
applications which include support for Internet, Web, network management,
routing and LAN communications. Our FUSION(TM) line of embedded network
protocols are independent of microprocessors, operating systems and development
tools and therefore can be integrated into a wide range of system designs.
Software Development Tools
We sell our NET+ARM semiconductor devices to developers with a set of integrated
NET+Utilities and tools for hardware and software development, many of which, we
believe, are unique to us. These include our
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NET+Web, a Hypertext Markup Language, or HTML-to-C compiler which customers can
use to automate the generation of HTML Web pages.
We also provide customers with development boards, including schematics. These
boards assist hardware and software application developers in debugging their
product-specific applications they port to and develop on NET+ARM semiconductor
devices. Developers also receive an embedded in-circuit emulator, or ICE,
debugging tool to enable testing and evaluation of hardware and their software
after it has been ported to NET+ARM semiconductor devices. Developers may, if
desired, obtain cross-compilers, linkers and symbolic debuggers from us, or the
RTOS vendor. Full documentation provided to developers includes a guide to
beginning the design cycle, hardware and software reference manuals, development
board jumpers and a components guide.
The development tools also include additional cost options such as Greenhills,
Inc.'s development tools and Wind River's pRISM+ or Tornado open, graphical
development environments. Wind River's pRISM+ and Tornado support embedded
developers with tools that span the complete development process, from
conception to development and through life cycle support.
Before customers incorporate our semiconductor devices into the design of their
product, they may purchase some sample semiconductor devices and software. They
use the samples to create custom application programming interfaces and other
software components of the ultimate networking design of their embedded systems.
Application Engineering and Support Services
We place significant emphasis on customer support, training and consultation. We
provide a hardware design review in the early stages of the customer's design
cycle. This design review helps customers avoid common hardware implementation
problems by providing an independent technical review of their hardware design
before the design is completed. Additionally, we provide full technical support
for all development tools, including hardware, software and embedded products,
for the first 12 months after product shipment. Our support and training
services include:
- Consulting. Our field application engineering staff provides
development process consulting services that range from
answering questions to assisting in problem solving and
performing design reviews of customer products.
- On-going Technical Support. Post-integration support typically
includes beta test period support and assistance to the
customer's support specialists.
- Product Updates. We provide product updates on all releases of
NET+Works products to developers initially under maintenance
and subsequently on an optional service and maintenance
contract basis.
- Training. We provide hands-on training sessions during which
we teach developers to install both our hardware and software
products, set up and configure all network operating systems
and protocols, and understand Ethernet topology. For our
imaging customers, we also provide some training of their
support staff.
- Joint Marketing Assistance. We make joint sales calls with our
customers and authorized developers, provide marketing
materials, participate in the organization of press releases
and tours, and create Web links to customer product pages.
- Project Management. We provide our imaging customers with
assistance in interface specifications analysis, lead time
planning, delivery scheduling, and product cycle planning.
- Product Integration Support. We provide our customers with
product testing and support during the customer's development
process of integrating our technology into their products.
I-9
A portion of the revenue from sales of development tools is allocated to the
hardware design review and technical support services that typically accompany
the sale of development kits. Technical support, maintenance, training,
consulting, project management and other engineering and support services can
also be contracted separately.
PRODUCT DEVELOPMENT
Our success depends upon our ability to enhance our products, and develop and
introduce new products to meet changing customer needs on a timely basis. We
focus our hardware development efforts on improving the performance of our
products, simplifying the integration process for our products and introducing
new products with a variety of speeds, capabilities and price points. We focus
our software development efforts on addressing industry needs, developing
industry-specific applications and integrating additional operating systems and
protocols into our products.
We have made, and expect to continue to make, substantial investments in product
development. For example, we continue to invest resources in the development of
products supporting the Linux operating system and Java programming language, to
improve hardware performance and to enhance intelligent networking software. For
the fiscal years ended January 31, 2001, 2000 and 1999, our engineering,
research and development expenses were approximately $7.1 million, $3.1 million
and $1.9 million, respectively or 18.9%, 9.7% and 14.3% of net sales,
respectively. As of January 31, 2001, we had 53 full-time employees who have
substantial networking and software driver development experience engaged in
research and development activities.
SALES AND MARKETING
We market and sell our products to embedded systems manufacturers and developers
through a combination of:
- our direct sales and marketing staff;
- selected distributors;
- strategic partner relationships and alliances;
- manufacturers representatives; and
- authorized developers.
Direct Sales and Marketing
As of January 31, 2001, we employed a total of 47 employees in our direct sales
and marketing efforts. We manage most of our sales efforts from our headquarters
in Waltham, Massachusetts and a sales office in Germany. Our direct sales staff
solicits prospective customers, provides technical advice and support with
respect to our products, and works closely with our partners, representatives
and developers worldwide to secure new customer design wins and provide support
during their development of new products. The direct sales and marketing staff
participates in select industry trade shows and conferences to promote our
products and to generate new business leads.
We design our marketing programs to build awareness of NetSilicon and NET+Works,
and to generate new sales leads. Our primary marketing activities include
advertising, direct mail, customer communications, trade show participation, and
press, media and industry analyst relations.
Partnership Relationships and Alliances
We augment our direct sales efforts through various strategic marketing
alliances. These include, in the imaging market, alliances with the makers of
printer controllers, and in other intelligent device markets, alliances with our
vendors, suppliers and partners, such as ARM, Atmel Corporation, Wind River
Systems,
I-10
Inc., Esmertec, Inc., and Red Hat, Inc. Our strategy for making sales to imaging
manufacturers is to have our DPO interface specification incorporated into the
controllers that those manufacturers purchase from controller designers. We
encourage the use of our interface because every imaging device that uses a
controller incorporating it will also use our networking connectivity products.
Printer controller designers that have incorporated our DPO interface
specification include Adobe Systems, Advanced HiTech, Destiny Technology,
Imaging Technologies and Xionics Document Technologies.
In June 1998, we joined with industrial automation companies to create the
Industrial Automation Open Network Alliance. The alliance was founded to promote
a standards-based approach to networking for industrial automation, and to focus
on overcoming obstacles to its rapid adoption. The alliance now has over 50 and
100 members in the United States and Europe, respectively, and we believe that
by taking a leading role in the growth of the alliance we will further establish
our products in industrial automation markets. We have also established
relationships with companies addressing both Linux and Java for embedded market
applications to more rapidly address these technologies.
We and our printer controller partners engage in joint marketing efforts,
presenting their individual products as a fully compatible, comprehensive
imaging and networking solution to imaging manufacturers.
Manufacturers Representatives
Manufacturers representatives act as local sales agents for us and work on a
commission basis. As of January 31, 2001, there were eight manufacturers
representatives in North America, three in Europe and Israel, and one in Asia.
Our direct sales staff supports and works closely with these representatives,
who have extensive relationships with the current and potential customers in
their territories.
Authorized Developers
We also market and sell our products in coordination with independent product
development consulting firms. These firms have hardware and software engineering
staffs ranging from five to 100 engineers. They consult with large
manufacturers, recommending new products for development and offering their
expertise to manufacturers during the design cycle of those products. Where
network connectivity is contemplated for such products, we provide incentives to
these developers to recommend our products by paying the developers a commission
on our sales to manufacturers that result from these recommendations. As of
January 31, 2001, we had approved 35 consulting firms as authorized developers
of our products.
CUSTOMER PRODUCT CYCLE
Our products are sold to manufacturers, which incorporate them into devices that
are sold to end users. The timing and magnitude of our revenues are highly
dependent upon our achievement of design wins, the timing and success of our
customers' development cycles, and our customers' product sales.
We initially target manufacturers that are developing intelligent devices and
embedded systems products and are seeking to incorporate networking capability
into their products. Manufacturers and developers typically select core
components, such as our semiconductor devices, early in the device design
process. Before the selection of core components, developers typically purchase
development tools and receive application-engineering services from us to
facilitate the integration of NET+Works products into their design. When we have
received notification from a customer that they have selected our devices and
software for incorporation into their final product, we achieve what is known as
a design win. Once a customer selects the components it will use for our
product, it generally does not substitute an alternative component, as the
change typically requires significant cost or development time. Therefore, we
are generally the sole supplier of networking technology throughout the life
cycle of an intelligent device once our products have been selected for
inclusion in the product design. Even if we are successful in our efforts to
market our products to manufacturers and achieve a design win, there can be no
assurance that we will ever achieve revenue from the sale of products. Even if
we do achieve revenues from the sales, there can be no assurance that the
revenues will be sustainable.
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The length of the product development process can vary greatly among our
customers, ranging from six to more than 24 months, with no certainty that any
given design will result in a commercial product. When the customers' product
development cycle nears successful completion, customers typically begin
purchasing our products to supply their initial manufacturing efforts. Only upon
the commencement of product shipment do we achieve significant revenues.
Customers then typically purchase quantities of our products periodically to
match their ongoing manufacturing needs, based on their demand requirements.
Sales of our products are therefore dependent upon the sales of the customers'
products into which customers have designed them.
The following is a summary of our shipping customer activity over the prior
eight quarters:
THREE MONTHS ENDED
-------------------------------------------------------------------------------------
APR. 30, JULY 31, OCT. 31, JAN. 31, APR. 29, JULY 29, OCT. 28, JAN. 31,
1999 1999 1999 2000 2000 2000 2000 2001
-------- -------- -------- -------- -------- -------- -------- --------
Shipping customers(1):
Imaging market........................ 22 22 22 22 22 23 23 23
Additional intelligent device
markets............................. 5 8 8 21 24 40 51 56
-- -- -- -- -- -- -- --
Total................................. 27 30 30 43 46 63 74 79
== == == == == == == ==
---------------
(1) Represents the number of customers to which we shipped products during the
period indicated.
CUSTOMERS
We sell our products for incorporation into manufacturers' devices.
Representative customers who incorporated our products into their devices using
our technology include:
IMAGING CUSTOMERS INTELLIGENT DEVICE CUSTOMERS
----------------- ----------------------------
Kyocera Communications ABB Automation Products GmbH
Konica Business Systems Adept Systems, Inc.
Minolta Corporation GE Fanuc Automation, Inc.
NEC Corporation Lantronix, Inc.
Ricoh Electronics NCR Corporation
Sharp Electronics Corporation Nortel Networks Corporation
Xerox Corporation Phoenix Contact GmbH
Our 23 imaging customers have designed our products into more than 50 imaging
products available for sale as of January 31, 2001. 79% of our net sales for the
fiscal year ended January 31, 2001 and 95% of our net sales for the fiscal years
ended January 31, 2000 and 1999 were derived from the imaging device market.
Sales to Ricoh and Dimatech each represented greater than 10% of our net sales
for the fiscal year ended January 31, 2001.
MANUFACTURING
We do not maintain our own manufacturing capabilities for our semiconductor
devices, but rely on third parties to provide foundry capabilities. We engage
Atmel Corporation to manufacture the NET+ARM semiconductor device. Shipments of
the semiconductor device are first delivered to us, where we perform quality
assurance testing. We purchase tested, packaged chips from Atmel. We do not have
a written agreement with Atmel regarding production, relying instead upon
standard purchase orders. We have selected an additional manufacturer to supply
new NET+ARM devices. Additionally, we obtain price quotes from possible second
sources for semiconductor devices in order to ensure that we are receiving
competitive price terms from our current manufacturer.
We contract with domestic qualified assemblers and with Semiconductor Ventures
International Company ("SVI"), based in Thailand, to assemble printed circuit
boards for our NICs. We perform some final assembly of printed circuit boards
and, for quality assurance purposes, randomly test boards assembled by
I-12
third parties. We believe that the terms of our arrangement with SVI are more
favorable than we would receive from our domestic assemblers.
As of January 31, 2001, we had 25 full-time employees in Waltham, Massachusetts
performing manufacturing-related activities, including purchasing, final
assembly, testing, quality assurance, packaging and shipping.
PRODUCT BACKLOG
Our business is characterized by short-term shipment schedules. Our backlog at
the beginning of each quarter typically is not sufficient to achieve expected
sales for the quarter. To achieve our sales objectives, we are dependent upon
obtaining orders during each quarter for shipment that quarter. Furthermore, our
agreements with our customers typically provide that they may change delivery
schedules. Non-imaging customers can cancel orders within specified time frames,
typically 30 days or more prior to the scheduled shipment date under our
policies, without significant penalty. In the past, our customers have built,
and may in the future build, significant inventory in order to facilitate more
rapid deployment of anticipated major products, or for other reasons. Decisions
by these customers to reduce their inventory levels have led, and in the future
could lead, to reductions in purchases from us. These reductions, in turn, have
caused and could cause fluctuations in our operating results, which could have a
material adverse effect on our business, results of operations and financial
condition in periods in which the inventory is reduced.
As of January 31, 2001, our backlog was approximately $3.4 million, as compared
to $6.0 million as of January 31, 2000. We include all firm purchase orders
scheduled for delivery within the subsequent 12 months in our backlog. We
anticipate that we will ship all of our backlog to customers within the next 12
months.
COMPETITION
The markets in which we operate are intensely competitive, and characterized by
rapidly changing technology, evolving industry standards, declining average
selling prices and frequent new product introductions. A number of companies
offer products that compete with one or more elements of our solution. We
believe that the competitive factors affecting the market for our products
include:
- product performance, price and quality;
- product functionality and features;
- the availability of products for existing and future
platforms;
- the ease of integration with other hardware and software
components of the customer's products; and
- the quality of support services, product documentation and
training.
The relative importance of each of these factors depends upon the specific
customer involved. There can be no assurance that we will be able to compete
successfully against current and future competitors, or that competitive factors
we face will not have a material adverse effect on us.
INTELLECTUAL PROPERTY, TRADEMARKS AND PROPRIETARY RIGHTS
Our ability to compete is dependent in part on our proprietary rights and
technology. We have no patents and rely primarily on a combination of copyright,
trademark laws, trade secrets, confidentiality procedures and contract
provisions to protect our proprietary rights. We generally enter into
confidentiality agreements with our employees, and sometimes with our customers
and potential customers and limit access to the distribution of our software,
hardware designs, documentation and other proprietary information. There can be
no assurance that the steps we take in this regard will be adequate to prevent
the misappropriation of our technology. While we have filed two patent
applications and plan to file various additional applications, such applications
may be denied. Any patents, once issued, may be circumvented by our competitors.
Furthermore, there can be no assurance that others will not develop technologies
that are superior to ours. Despite our efforts to protect our proprietary
rights, unauthorized parties may attempt to copy aspects of our products or to
I-13
obtain and use information that we regard as proprietary. In addition, the laws
of some foreign countries do not protect our proprietary rights as fully as do
the laws of the United States. There can be no assurance that our means of
protecting our proprietary rights in the United States or abroad will be
adequate or that competing companies will not independently develop similar
technology. Our failure to protect our proprietary rights adequately could have
a material adverse effect on our business, results of operations and financial
condition.
We also rely on certain software that we license from third parties, including
software that we integrate with internally developed software and use in our
products to perform important functions. These software license agreements are
with:
- Express Logic, Inc., which terminates only if we default under
the agreement;
- InterNiche Technologies, Inc., which renews until terminated
by either party;
- Novell, Inc., which is renewable annually at the option of
both parties;
- Peerless Systems Corporation, which expires in 2004 subject to
year-to-year renewals thereafter until terminated by either
party.
- Wind River Systems, Inc., which terminates only if we default
under the agreement;
- Allegro Software Development Corporation, which terminates
only if there is a material breach of the agreement by either
party.
These third-party software licenses may not continue to be available to us on
commercially reasonable terms, and the licensors may not continue to support,
maintain or enhance the software appropriately. The loss of licenses to use, or
the inability of licensors to support, maintain and enhance any of such
software, could result in increased costs, delays or reductions in product
shipments until equivalent software is developed or licensed, if it can be, and
integrated.
We exclusively license the right to use the NET+ARM trademark from ARM Limited
according to a royalty-free agreement expiring in 2008. We depend on ARM to
enforce our rights to the trademark against third-party infringement. There can
be no assurance that ARM will promptly and adequately enforce the rights, which
could have a material adverse effect on our business, results of operations and
financial condition.
EMPLOYEES
As of January 31, 2001, we had 148 full-time employees, which included 78
engaged in product development and manufacturing-related duties and 47 in sales
and marketing. We believe our future success will depend, in part, on our
continued ability to attract and retain highly qualified personnel in a
competitive market for experienced and talented software engineers, chip
designers and sales and marketing personnel. None of our employees are
represented by a labor union or subject to a collective bargaining agreement. We
believe that our relations with employees are good.
RISK FACTORS
You should carefully consider the following risks before investing in our common
stock. These are not the only risks facing our company. Additional risks may
also impair our business operations. If any of the following risks come to
fruition, our business, results of operations or financial condition could be
materially adversely affected. In that case, the trading price of our common
stock could decline, and you may lose all or part of your investment.
You should also refer to the other information set forth in this report, and
incorporated by reference, including our financial statements and the
accompanying notes.
This report contains certain "forward-looking statements" (statements that are
not historical fact) based on our current expectations, assumptions, estimates
and projections about our company and our industry. These forward-looking
statements involve risks and uncertainties. Our actual results could differ
materially from
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those anticipated in those forward-looking statements as a result of many
factors, as more fully described in this section and elsewhere in this report.
WE HAVE A HISTORY OF LOSSES AND AN ACCUMULATED DEFICIT THAT MAKE FUTURE
OPERATING RESULTS AND PROFITABILITY DIFFICULT TO PREDICT.
We incurred net losses from continuing operations for the fiscal years ended
January 31, 1997, 1998, 1999 and 2001. At January 31, 2001, we had an
accumulated deficit of $3.6 million. There can be no assurance that we will be
able to achieve profitability on a quarterly or annual basis in the future. In
addition, revenue growth is not necessarily indicative of future operating
results and there can be no assurance that we will be able to sustain revenue
growth. We continue to invest significant financial resources in product
development, marketing and sales, and a failure of such expenditures to result
in significant increases in revenue could have a material adverse effect on us.
Due to the limited history and undetermined market acceptance of our new
products, the rapidly evolving nature of our business and markets, potential
changes in product standards that significantly influence many of the markets
for our products, the high level of competition in the industries in which we
operate and the other factors described elsewhere in Risk Factors, there can be
no assurance that our investment in these areas will result in increases in
revenue or that any revenue growth that is achieved can be sustained. Our
history of losses, coupled with the factors described below, make future
operating results difficult to predict. We and our future prospects must be
considered in light of the risks, costs and difficulties frequently encountered
by emerging companies. As a result, there can be no assurance that we will be
profitable in any future period.
THE UNPREDICTABILITY OF OUR QUARTERLY RESULTS MAY ADVERSELY AFFECT THE TRADING
PRICE OF OUR COMMON STOCK.
Our net sales and operating results have in the past and may in the future
fluctuate substantially from quarter to quarter and from year to year. These
results have varied significantly due to a number of factors, including:
- market acceptance of and demand for our products and those of
our customers;
- unanticipated delays or problems in the introduction of our
products;
- the timing of large customer orders;
- the timing and success of our customers' development cycles;
- our ability to introduce new products in accordance with
customer design requirements and design cycles;
- new product announcements or product introductions by us and
our competitors;
- availability and cost of manufacturing sources for our
products;
- the volume of orders that are received and can be filled in a
quarter;
- the rescheduling or cancellation of orders by customers;
- changes in product mix;
- timing of "design wins" with our customers and related
revenue; and
- changes in currency exchange rates.
Our operating results could also be harmed by:
- the growth rate of markets into which we sell our products;
- changes in the mix of sales to customers and sales
representatives;
- costs associated with protecting our intellectual property;
and
- changes in product costs and pricing by us and our
competitors.
I-15
We budget expenses based in part on future revenue projections. We may be unable
to adjust spending in a timely manner in response to any unanticipated declines
in revenues.
As a result of these and other factors, investors should not rely solely upon
period-to-period comparisons of our operating results as an indication of future
performance. It is likely that in some future period our operating results or
business outlook will be below the expectations of securities analysts or
investors, which would likely result in a significant reduction in the market
price of the shares of common stock.
OUR FAILURE TO INCREASE SALES TO MANUFACTURERS OF INTELLIGENT, NETWORK-ENABLED
DEVICES AND OTHER EMBEDDED SYSTEMS WILL ADVERSELY AFFECT OUR FINANCIAL RESULTS.
Our financial performance and future growth is dependent upon our ability to
sell our products to manufacturers of intelligent, network-enabled devices and
other embedded systems in various markets, including markets in which networking
solutions for embedded systems have not historically been sold, such as the
industrial automation equipment, data acquisition and test equipment, Internet
devices and security equipment markets. A substantial portion of our recent
development efforts have been directed toward the development of new products
for markets that are new and rapidly evolving. There can be no assurance that:
- the additional intelligent device markets targeted by us for
our products and services will develop;
- developers within each market targeted by us will choose our
products and services to meet their needs;
- we will successfully develop products to meet the
industry-specific requirements of developers in our targeted
markets or that design wins will result in significant sales;
or
- developers in our targeted markets will gain market acceptance
for their devices which incorporate our products.
We have limited experience in designing our products to meet the requirements of
developers in these industries. Moreover, our products and services have, to
date, achieved limited acceptance in these industries.
WE ARE DEPENDENT ON THE IMAGING MARKET FOR A LARGE PORTION OF OUR REVENUES.
The imaging market has historically accounted for substantially all of our
revenues. In the fiscal years ended January 31, 2001, 2000 and 1999, 79%, 95%
and 95%, respectively, of our revenues were generated from customers in the
imaging market. Our success has been and continues to be dependent on the
continued success of the imaging market. Many of our customers face competition
from larger, more established companies which may exert competitive or other
pressures on them. Any decline in sales to the imaging market would have a
material adverse effect on our business, results of operations and financial
condition.
Due in part to an economic slowdown affecting our imaging customers, we
anticipate a decline in imaging revenue growth in fiscal year 2002 which will
adversely affect our results of operations and financial condition.
The imaging market is characterized by declining prices of existing products and
a transition from higher priced network interface cards to semiconductor
devices. Therefore, continual improvements in manufacturing efficiencies and the
introduction of new products and enhancements to existing products are required
for us to maintain our gross margins. In response to customer demands or
competitive pressures, or to pursue new product or market opportunities, we may
take certain pricing or marketing actions, such as price reductions or volume
discounts. These actions could have a material adverse effect on us.
A significant amount of our customers in the imaging market are headquartered in
Japan. Our customers are subject to declines in their local economies, which
have affected them from time to time in the past and may affect them in the
future. The success of our customers affects their purchases from us.
I-16
OUR HIGHLY CONCENTRATED CUSTOMER BASE INCREASES THE POTENTIAL ADVERSE EFFECT ON
US FROM THE LOSS OF ONE OR MORE CUSTOMERS.
Our products have historically been sold into the imaging markets for use in
products such as printers, scanners, fax machines, copiers and multi-function
peripherals. This market is highly concentrated. Accordingly, our sales are
derived from a limited number of customers, with the top five OEM customers
accounting for 55%, 72% and 52% of total revenues for the fiscal years ended
2001, 2000 and 1999, respectively. In particular, sales to Dimatech and Ricoh
accounted for 23% and 20% of total revenues, respectively, for the fiscal year
ended January 31, 2001. We expect that a small number of customers will continue
to account for a substantial portion of our total revenues for the foreseeable
future. All of our sales are made on the basis of purchase orders rather than
under long-term agreements, and therefore, any customer could cease purchasing
our products at any time without penalty. The decision of any key customer to
cease using our products or a material decline in the number of units purchased
by a significant customer would have a material adverse effect on us.
THE LONG AND VARIABLE SALES CYCLE FOR OUR PRODUCTS MAKES IT MORE DIFFICULT FOR
US TO PREDICT OUR OPERATING RESULTS AND MANAGE OUR BUSINESS.
The sale of our products typically involves a significant technical evaluation
and commitment of capital and other resources by potential customers, as well as
delays frequently associated with customers' internal procedures to deploy new
technologies within their products and to test and accept new technologies. For
these and other reasons, the sales cycle associated with our products is
typically lengthy, lasting nine months or longer, and is subject to a number of
significant risks, including customers' internal acceptance reviews, that are
beyond our control. Because of the lengthy sales cycle and the large size of
customer orders, if orders forecasted for a specific customer for a particular
quarter are not realized in that quarter, our operating results for that quarter
could be materially adversely affected.
OUR RELATIVELY LOW LEVEL OF BACKLOG INCREASES THE POTENTIAL VARIABILITY OF OUR
QUARTERLY OPERATING RESULTS.
Our backlog at the beginning of each quarter typically is not sufficient to
achieve expected sales for the quarter. To achieve our sales objectives, we are
dependent upon obtaining orders during each quarter for shipment during that
quarter. Furthermore, our agreements with our customers typically permit them to
change delivery schedules.
Non-imaging customers may cancel orders within specified time frames (typically
30 days or more prior to the scheduled shipment date under our policies) without
significant penalty. Our customers have in the past built, and may in the future
build, significant inventory in order to facilitate more rapid deployment of
anticipated major products or for other reasons. Decisions by such customers to
reduce their inventory levels have led and could lead to reductions in their
purchases from us. These reductions, in turn, have caused and could cause
adverse fluctuations in our operating results.
OUR DEPENDENCE ON NEW PRODUCT DEVELOPMENT AND THE RAPID TECHNOLOGICAL CHANGE
THAT CHARACTERIZES OUR INDUSTRY MAKE US SUSCEPTIBLE TO LOSS OF MARKET SHARE
RESULTING FROM COMPETITORS' PRODUCT INTRODUCTIONS AND SIMILAR RISKS.
The semiconductor and networking industries are characterized by rapidly
changing technologies, evolving industry standards, frequent new product
introductions, short product life cycles and rapidly changing customer
requirements. The introduction of products embodying new technologies and the
emergence of new industry standards can render existing products obsolete and
unmarketable. Our future success will depend on our ability to enhance our
existing products, to introduce new products to meet changing customer
I-17
requirements and emerging technologies, and to demonstrate the performance
advantages and cost-effectiveness of our products over competing products. Any
failure by us to modify our products to support new local-area network, or LAN,
wide-area network, or WAN, and Internet technologies, or alternative
technologies, or any failure to achieve widespread customer acceptance of such
modified products could have a material adverse effect on us. In particular, we
have dedicated significant resources to developing products based on the Linux
operating system and on the Java programming language, and the failure of these
products to achieve widespread acceptance could have a material adverse effect
on us.
We have in the past and may in the future experience delays in developing and
marketing product enhancements or new products that respond to technological
change, evolving industry standards and changing customer requirements. There
can be no assurance that we will not experience difficulties that could delay or
prevent the successful development, introduction and marketing of these products
or product enhancements, or that our new products and product enhancements will
adequately meet the requirements of the marketplace and achieve any significant
or sustainable degree of market acceptance in existing or additional markets.
Failure by us, for technological or other reasons, to develop and introduce new
products and product enhancements in a timely and cost-effective manner would
have a material adverse effect on us. In addition, the future introductions or
announcements of products by us or one of our competitors embodying new
technologies or changes in industry standards or customer requirements could
render our then-existing products obsolete or unmarketable. There can be no
assurance that the introduction or announcement of new product offerings by us
or one or more of our competitors will not cause customers to defer the purchase
of our existing products. Such deferment of purchases could have a material
adverse effect on us.
OUR FAILURE TO EFFECTIVELY MANAGE PRODUCT TRANSITIONS COULD HAVE A MATERIAL
ADVERSE EFFECT ON US.
From time to time, we or our competitors may announce new products, capabilities
or technologies that may replace or shorten the life cycles of our existing
products. Announcements of currently planned or other new products may cause
customers to defer or stop purchasing our products until new products become
available. Furthermore, the introduction of new or enhanced products requires us
to manage the transition from older product inventories and ensure that adequate
supplies of new products can be delivered to meet customer demand. Our failure
to effectively manage transitions from older products could have a material
adverse effect on our business, results of operations and financial condition.
OUR FAILURE TO COMPETE SUCCESSFULLY IN OUR HIGHLY COMPETITIVE MARKET COULD
RESULT IN REDUCED PRICES AND LOSS OF MARKET SHARE.
The markets in which we operate are intensely competitive and characterized by
rapidly changing technology, evolving industry standards, declining average
selling prices and frequent new product introductions. A number of companies
offer products that compete with one or more elements of our products. We
believe that the competitive factors affecting the market for our products
include product performance, price and quality, product functionality and
features, the availability of products for existing and future platforms, the
ease of integration with other hardware and software components of the
customer's products, and the quality of support services, product documentation
and training. The relative importance of each of these factors depends upon the
specific customer involved. There can be no assurance that we will be able to
compete successfully against current and future competitors, or that competitive
factors faced by us will not have a material adverse effect on us.
We primarily compete with the internal development departments of large
manufacturing companies that have developed their own networking solutions, as
well as established developers of embedded systems software and chips such as
Axis Communications, Echelon, Emulex, Hitachi, Intel, Milan Technology, a
division of Digi International, Motorola, Peerless Systems, Samsung and Wind
River. In addition, we are aware of certain companies which have recently
introduced products that address the markets targeted by us. We have experienced
and expect to continue to experience increased competition from current and
potential competitors, many of which have substantially greater financial,
technical, sales, marketing and other
I-18
resources, as well as greater name recognition and larger customer bases than
ours. In particular, established companies in the networking or semiconductor
industries may seek to expand their product offerings by designing and selling
products using competitive technology that could render our products obsolete or
have a material adverse effect on our sales. Increased competition may result in
further price reductions, reduced gross margins and loss of market share.
WE DEPEND ON THIRD-PARTY SOFTWARE THAT WE USE UNDER LICENSES THAT MAY EXPIRE.
We rely on certain software that we license from third parties, including
software that is integrated with internally developed software and used in our
products to perform key functions. These software license agreements are with
Express Logic, Inc., Allegro Software Development Corporation and Wind River,
each of which terminates only if we default under the respective agreement; with
Novell, Inc., which is renewable annually at the option of both parties, with
InterNiche Technologies, Inc., which renews until terminated by either party and
with Peerless Systems Corporation, which expires in 2004 and is subject to
year-to-year renewals thereafter at the option of both parties. These
third-party software licenses may not continue to be available to us on
commercially reasonable terms, and the related software may not continue to be
appropriately supported, maintained or enhanced by the licensors. The loss of
licenses to use, or the inability of licensors to support, maintain, and enhance
any of such software, could result in increased costs, delays or reductions in
product shipments until equivalent software is developed or licensed, if at all,
and integrated.
WE DEPEND ON MANUFACTURING, ASSEMBLING AND PRODUCT TESTING RELATIONSHIPS AND ON
LIMITED SOURCE SUPPLIERS, AND ANY DISRUPTIONS IN THESE RELATIONSHIPS MAY CAUSE
DAMAGE TO OUR CUSTOMER RELATIONSHIPS.
We do not have our own semiconductor fabrication assembly or testing operations
or contract manufacturing capabilities. Instead, we rely upon independent
contractors to manufacture our components, subassemblies, systems and products.
Currently, all of our semiconductor devices are being manufactured, assembled
and tested by Atmel Corporation in the United States and Europe, and we expect
that we will continue to rely upon Atmel to manufacture, assemble and test a
significant portion of our semiconductor devices in the future. In the past, we
experienced a delay in the introduction of one of our products due to a problem
with Atmel's design tools. While we are in the process of qualifying other
suppliers, any qualification and pre-production periods could be lengthy and may
cause delays in providing products to customers in the event that the sole
source supplier of the semiconductor devices fails to meet our requirements. For
example, Atmel uses its manufacturing facilities for its own products as well as
those it manufactures on a contract basis. There is no assurance that Atmel will
have adequate capacity to meet the needs of its contract manufacturing
customers. In addition, semiconductor manufacturers generally experience
periodic constraints on their manufacturing capacity.
We also rely upon limited-source suppliers for a number of other components used
in our products. There can be no assurance that these independent contractors
and suppliers will be able to meet our future requirements for manufactured
products, components and subassemblies in a timely fashion. We generally
purchase limited-source components under purchase orders and have no guaranteed
supply arrangements with these suppliers. In addition, the availability of many
of these components to us is dependent in part on our ability to provide our
suppliers with accurate forecasts of our future requirements. Any extended
interruption in the supply of any of the key components currently obtained from
limited sources would disrupt our operations and have a material adverse effect
on our business, results of operations and financial condition.
Delays or lost sales have been and could be caused by other factors beyond our
control, including late deliveries by vendors of components, changes in
implementation priorities or slower than anticipated growth in the market for
networking solutions for embedded systems. Operating results in the past have
also been adversely affected by delays in receipt of significant purchase orders
from customers. In addition, we have experienced delays as a result of the need
to modify our products to comply with unique customer
I-19
specifications. In general, the timing and magnitude of our revenues are highly
dependent upon our achievement of design wins, the timing and success of our
customers' development cycles, and our customers' product sales. Any of these
factors could have a material adverse effect on our business, results of
operations and financial condition.
THE CYCLICALITY OF THE SEMICONDUCTOR INDUSTRY MAY RESULT IN SUBSTANTIAL
PERIOD-TO-PERIOD FLUCTUATIONS.
Our semiconductor products provide networking capabilities for intelligent,
network-enabled devices and other embedded systems. The semiconductor industry
is highly cyclical and subject to rapid technological change and has been
subject to significant economic downturns at various times, characterized by
diminished product demand, accelerated erosion of average selling prices and
production overcapacity. The semiconductor industry also periodically
experiences increased demand and production capacity constraints. As a result,
we may experience substantial period-to-period fluctuations in future operating
results due to general semiconductor industry conditions, overall economic
conditions or other factors.
OUR ABILITY TO COMPETE COULD BE JEOPARDIZED IF WE ARE UNABLE TO PROTECT OUR
INTELLECTUAL PROPERTY RIGHTS.
Our ability to compete depends in part on our proprietary rights and technology.
We have no patents and rely primarily on a combination of copyright and
trademark laws, trade secrets, confidentiality procedures and contract
provisions to protect our proprietary rights.
We generally enter into confidentiality agreements with our employees, and
sometimes with our customers and potential customers and limit access to the
distribution of our software, hardware designs, documentation and other
proprietary information. There can be no assurance that the steps taken by us in
this regard will be adequate to prevent the misappropriation of our technology.
While we have filed two patent applications and plan to file various additional
applications, such applications may be denied. Any patents, once issued, may be
circumvented by our competitors. Furthermore, there can be no assurance that
others will not develop technologies that are superior to ours. Despite our
efforts to protect our proprietary rights, unauthorized parties may attempt to
copy aspects of our products or to obtain and use information that we regard as
proprietary. In addition, the laws of some foreign countries do not protect our
proprietary rights as fully as do the laws of the United States. There can be no
assurance that our means of protecting our proprietary rights in the United
States or abroad will be adequate or that competing companies will not
independently develop similar technology. Our failure to adequately protect our
proprietary rights could have a material adverse effect on our business, results
of operations and financial condition.
We exclusively license the right to use the NET+ARM trademark from ARM Limited
according to a royalty-free agreement expiring in 2008. We depend on ARM to
enforce its rights to the trademark against third-party infringement. There can
be no assurance that ARM will promptly and adequately enforce these rights which
could have a material adverse effect on our business, results of operations and
financial condition.
WE COULD BECOME SUBJECT TO CLAIMS AND LITIGATION REGARDING INTELLECTUAL PROPERTY
RIGHTS, WHICH COULD SERIOUSLY HARM US AND REQUIRE US TO INCUR SIGNIFICANT COSTS.
The semiconductor and networking industries are characterized by frequent
litigation regarding patent and other intellectual property rights. Although we
have not been notified that our products infringe any third-party intellectual
property rights, there can be no assurance that we will not receive such
notification in the future. Any litigation to determine the validity of
third-party infringement claims, whether or not determined in our favor or
settled by us, would at a minimum be costly and divert the efforts and attention
of our management and technical personnel from productive tasks, which could
have a material adverse effect on our business, results of operations and
financial condition. There can be no assurance that any infringement claims by
third parties or any claims for indemnification by customers or end users of our
products resulting from
I-20
infringement claims will not be asserted in the future or that such assertions,
if proven to have merit, will not materially adversely affect our business,
results of operations or financial condition. In the event of an adverse ruling
in any such matter, we would be required to pay substantial damages, cease the
manufacture, use and sale of infringing products, discontinue the use of certain
processes or be required to obtain a license under the intellectual property
rights of the third party claiming infringement. There can be no assurance that
a license would be available on reasonable terms or at all. Any limitations on
our ability to market our products, or delays and costs associated with
redesigning our products or payments of license fees to third parties, or any
failure by us to develop or license a substitute technology on commercially
reasonable terms could have a material adverse effect on our business, results
of operations and financial condition.
WE FACE RISKS ASSOCIATED WITH OUR INTERNATIONAL OPERATIONS AND EXPANSION THAT
COULD IMPAIR OUR ABILITY TO GROW OUR REVENUES ABROAD.
In the fiscal years ended January 31, 2001, 2000 and 1999, international sales
constituted approximately 55%, 50% and 51% of our net sales, respectively, and
approximately 68%, 77% and 46% of our domestic sales were to customers
headquartered in Asia during the fiscal years ended January 31, 2001, 2000 and
1999, respectively.
We believe that our future growth is dependent in part upon our ability to
increase sales in international markets, and particularly to manufacturers
located in Japan, which sell their products worldwide. These sales are subject
to a variety of risks, including fluctuations in currency exchange rates,
tariffs, import restrictions and other trade barriers, unexpected changes in
regulatory requirements, longer accounts receivable payment cycles and
potentially adverse tax consequences and export license requirements. In
addition, we are subject to the risks inherent in conducting business
internationally, including political and economic instability and unexpected
changes in diplomatic and trade relationships. In particular, the economies of
certain countries in the Asia-Pacific region are experiencing considerable
economic instability and downturns. Because our sales to date have been
denominated in United States dollars, increases in the value of the United
States dollar could increase the price in local currencies of our products in
non-US markets and make our products more expensive than competitors' products
denominated in local currencies. In addition, an integral part of our business
strategy is to form strategic alliances for the manufacture and distribution of
our products with third parties, including foreign corporations. There can be no
assurance that one or more of the factors described above will not have a
material adverse effect on our business, results of operations and financial
condition.
We intend to expand our presence in Europe to address new markets. One change
resulting from the formation of a European Economic and Monetary Union ("EMU")
required EMU member states to irrevocably fix their respective currencies to a
new currency, the euro, as of January 1, 1999. Business in the EMU member states
will be conducted in both the existing national currency such as the French
franc or the Deutsche mark, and the euro through 2002. As a result, companies
operating or conducting business in EMU member states will need to ensure that
their financial and other software systems are capable of processing
transactions and properly handling these currencies, including the euro. There
can be no assurance that the conversion to the euro will not have a material
adverse effect on our business, results of operations and financial condition.
IF WE LOSE KEY PERSONNEL IT COULD PREVENT US FROM EXECUTING OUR BUSINESS
STRATEGY.
Our business and prospects depend to a significant degree upon the continuing
contributions of our executive officers and our key technical personnel.
Competition for such personnel is intense, and there can be no assurance that we
will be successful in attracting and retaining qualified personnel. Our stock
price and the number of options outstanding with exercise prices in excess of
their market price could make it more difficult to attract and retain key
personnel. Failure to attract and retain key personnel could result in our
failure to execute our business strategy and have a material adverse effect on
us. We have employment contracts with our Vice President, Intelligent Device
Markets Europe; Vice President, Finance, and Chief Financial Officer;
I-21
President and Chief Operating Officer and the Chairman and Chief Executive
Officer. We do not maintain any key-man life insurance policies.
ANY FAILURE TO COMPLY WITH SIGNIFICANT REGULATIONS AND EVOLVING INDUSTRY
STANDARDS COULD DELAY INTRODUCTION OF OUR PRODUCTS.
The market for our products is subject to a significant number of communications
regulations and industry standards, some of which are evolving as new
technologies are deployed. In the United States, our products must comply with
various regulations defined by the Federal Communications Commission and
standards established by Underwriters' Laboratories. Some of our products may
not comply with current industry standards, and this noncompliance must be
addressed in the design of those products. Standards for networking are still
evolving. As the standards evolve, we may be required to modify our products or
develop and support new versions of our products. The failure of our products to
comply or delays in compliance, with the various existing and evolving industry
standards could delay introduction of our products, which could have a material
adverse effect on our business, results of operations and financial condition.
ANY MATERIAL PRODUCT DEFECTS COULD RESULT IN LOSS OF MARKET SHARE, DELAY OF
MARKET ACCEPTANCE OR PRODUCT LIABILITY CLAIMS OR LOSSES.
Complex products such as those offered by us may contain undetected or
unresolved defects when first introduced or as new versions are released. The
occurrence of material errors in the future could, and the failure or inability
to correct such errors would, result in the loss of market share, the delay or
loss of market acceptance of our products, material warranty expense, diversion
of engineering and other resources from our product development efforts, the
loss of credibility with our customers or product recall. The use of our
products for applications in devices that interact directly with the general
public, where the failure of the embedded system could cause property damage or
personal injury, could expose us to significant product liability claims.
Although we have not experienced any product liability or economic loss claims
to date, the sale and support of our products may entail the risk of such
claims. Any of such occurrences could have a material adverse effect upon our
business, results of operations and financial condition.
IF WE DO NOT SUCCESSFULLY MANAGE OUR GROWTH, IT COULD HAVE A MATERIAL ADVERSE
EFFECT ON US.
We have limited internal infrastructure and any significant growth would place a
substantial strain on our financial and management personnel and information
systems and controls. Such growth would require us to implement new and enhance
existing financial and management information systems and controls and add and
train personnel to operate such systems effectively. Our intention to continue
to pursue our growth strategy through efforts to increase sales of existing
products and new products can be expected to place even greater pressure on our
existing personnel and compound the need for increased personnel, expanded
information systems, and additional financial and administrative control
procedures. There can be no assurance that we will be able to successfully
manage expanding operations. Our inability to manage our expanded operations
effectively could have a material adverse effect on our business, results of
operations and financial condition.
A SUBSTANTIAL NUMBER OF SHARES OF OUR COMMON STOCK COULD BE SOLD INTO THE PUBLIC
MARKET, WHICH COULD DEPRESS OUR STOCK PRICE.
Sales of a substantial number of shares of common stock in the public market
could adversely affect the market price for our common stock and could make it
more difficult for us to raise funds through equity offerings in the future.
Subject to applicable federal and securities laws and the restrictions set forth
below, Sorrento may sell any and all of the shares of common stock beneficially
owned by it or distribute any or all such shares of common stock to its
stockholders. Sales or distributions by Sorrento of substantial amounts of
common stock in the public
I-22
market or to its stockholders, or the perception that such sales or distribution
could occur, could adversely affect the prevailing market prices for the common
stock. Sorrento is not subject to any obligation to retain its shares in
NetSilicon. As a result, there can be no assurance concerning the period of time
during which Sorrento will maintain its beneficial ownership of our common
stock.
At January 31, 2001, options to purchase an aggregate of 5,051,149 shares of our
common stock were outstanding. Of these options, 852,394 were exercisable as of
January 31, 2001, with additional vesting to occur from time to time.
ANY ACQUISITIONS WE HAVE MADE OR WILL MAKE COULD DISRUPT OUR BUSINESS AND
SERIOUSLY HARM OUR FINANCIAL CONDITION.
We continue to intend to consider investments in complementary companies,
products or technologies. We may buy businesses, products or technologies in the
future. In the event of any future purchases, we could:
- issue stock that would dilute our current stockholders'
percentage ownership;
- incur debt;
- assume liabilities;
- incur amortization expenses related to goodwill and other
intangible assets; or
- incur large and immediate write-offs.
OUR OPERATION OF ANY ACQUIRED BUSINESS WILL ALSO INVOLVE NUMEROUS RISKS,
INCLUDING:
- problems combining the purchased operations, technologies or
products;
- unanticipated costs;
- diversion of management's attention from our core business;
- difficulties integrating businesses in different countries and
cultures;
- adverse effects on existing business relationships with
suppliers and customers;
- risks associated with entering markets in which we have no or
limited prior experience; and
- potential loss of key employees, particularly those of the
purchased organizations.
We cannot assure you that we will be able to successfully integrate any
businesses, products, technologies or personnel that we have acquired or that we
might acquire in the future and any failure to do so could disrupt our business
and seriously harm our financial condition.
BECAUSE THE NASDAQ NATIONAL MARKET IS LIKELY TO EXPERIENCE EXTREME PRICE AND
VOLUME FLUCTUATIONS, THE PRICE OF OUR COMMON STOCK MAY DECLINE.
The market price of our shares is likely to be highly volatile and could be
subject to wide fluctuations in response to numerous factors, including the
following:
- actual or anticipated variations in our quarterly operating
results or those of our competitors;
- announcements by us or our competitors of new products or
technological innovations;
- introduction and adoption of new industry standards;
- changes in financial estimates or recommendations by
securities analysts;
- changes in the market valuations of our competitors;
I-23
- announcements by us or our competitors of significant
acquisitions or partnerships; and
- sales of our common stock.
Many of these factors are beyond our control and may negatively impact the
market price of our common stock, regardless of our performance. In addition,
the stock market in general, and the market for technology companies in
particular, has been highly volatile. Our common stock may not trade at the same
levels of shares as that of other technology companies and shares of technology
companies, in general, may not sustain their current market prices. In the past,
securities class action litigation has often been brought against a company
following periods of volatility in the market price of its securities. We may be
the target of similar litigation in the future. Securities litigation could
result in substantial costs and divert management's attention and resources,
which could seriously harm our business and operating results.
PROVISIONS OF OUR CHARTER DOCUMENTS, OUR SHAREHOLDER RIGHTS PLAN AND LAW MAY
HAVE ANTI-TAKEOVER EFFECTS THAT COULD PREVENT A CHANGE OF CONTROL.
Provisions of our amended and restated articles of organization, bylaws, our
shareholder rights plan, and of Massachusetts law could make it more difficult
for a third party to acquire us, even if doing so would be beneficial to our
stockholders. Operating alone or together, the above provisions or statutes
could diminish the opportunities for a stockholder to participate in tender
offers, including tender offers at a price above the then current market value
of Common Stock and may render more difficult or discourage a merger,
consolidation or tender offer, the assumption of control by a holder of a large
block of the Company's shares, and the removal of incumbent management.
ITEM 2. PROPERTIES:
We lease approximately 47,000 square feet of office space in Waltham,
Massachusetts, for our corporate headquarters. Activities at our Waltham
headquarters include administration, sales, product development, assembly, test
and support. Our lease for property in Waltham provides for base rent of $55,589
per month through February 28, 2003. We believe that our current facilities are
adequate to meet our current needs.
In addition we lease the following properties:
- 5,750 square feet of office space in Newbury Park, California
which is used by our Softworks group for product development
and sales and marketing;
- 1,370 square feet of office space in Tokyo, Japan and 1,300
square feet of office space in Kirchheim, Germany, all of
which is used primarily for sales and marketing.
ITEM 3. LEGAL PROCEEDINGS:
NetSilicon may become involved in various legal actions from time to time
arising in the ordinary course of business. Except as noted below, the Company
is not a party to any litigation that it believes could have a material adverse
effect on the business, results of operations and financial condition of the
Company.
On August 31, 2000, Websprocket, LLC filed a suit against the Company in the
United States District Court for the Northern District of California
(Websprocket, LLC v. NetSilicon, Inc., Civil Action No. C-00-20915), claiming
breach of contract. The complaint alleges that the Company breached a technology
development contract that was executed between the Company and Websprocket, LLC
in December 1999. Websprocket, LLC seeks relief including alleged damages of
$2,000,000 plus attorney's fees, a declaration of its rights under the
technology development contract and an injunction requiring the Company to cease
using and return all property of Websprocket, LLC. The Company believes that it
has meritorious defenses to the claims and intends to contest the lawsuit
vigorously. On or about October 31, 2000, the Company asserted counterclaims
against Websprocket, LLC that included breach of contract, fraud, and negligent
misrepresentation. An unfavorable resolution of the action could have a material
adverse effect on the business, results of operations or financial condition of
the Company.
I-24
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS:
No matters were submitted to a vote of NetSilicon's security holders during the
fourth quarter of the fiscal year ended January 31, 2001.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED SHAREHOLDER
MATTERS:
We effected our initial public offering on September 15, 1999 at a price of
$7.00 per share. Since that date, our Common Stock has traded on the Nasdaq
National Market under the symbol NSIL. The following table sets forth, for the
period indicated, the high and low closing sales prices for the Common Stock,
all as reported by the Nasdaq National Market.
QUARTERLY STOCK MARKET DATA
FISCAL 2001 HIGH LOW FISCAL 2000 HIGH LOW
----------- ------ ------ -------------- ------ ------
First Quarter $45.75 $11.00 First Quarter N/A N/A
Second Quarter $35.25 $14.38 Second Quarter N/A N/A
Third Quarter $30.00 $12.94 Third Quarter $15.88 $ 9.38
Fourth Quarter $14.25 $ 2.44 Fourth Quarter $26.56 $11.81
On January 31, 2001, there were approximately 23 shareholders of record. We
believe that shares of our Common Stock held in bank, money management,
institution and brokerage house "nominee" names may account for an estimated
5,400 additional beneficial holders. The last reported sale price of the Common
Stock on April 23, 2001 was $3.43 per share.
We currently intend to retain all of our earnings to finance future growth and
therefore, do not anticipate paying any cash dividends on our common stock in
the foreseeable future.
I-25
ITEM 6. SELECTED FINANCIAL DATA:
The following selected financial data of the Company for the five years ended
January 31, 2001 are derived from the audited financial statements of the
Company. The information set forth below should be read in conjunction with
"Management's Discussion and Analysis of Financial Condition and Results of
Operations" included as Item 7 and the financial statements and related
footnotes included as Item 8 in this Form 10-K.
NetSilicon, Inc.
FISCAL YEARS ENDED JANUARY 31,
---------------------------------------------------
2001 2000 1999 1998 1997
------- ------- ------- ------- -------
(IN THOUSANDS, EXCEPT PER SHARE DATA)
STATEMENT OF OPERATIONS DATA:
Net sales................................ $37,382 $31,841 $13,373 $ 7,920 $ 7,445
Cost of sales............................ 15,188 15,423 7,521 4,337 4,616
------- ------- ------- ------- -------
Gross margin............................. 22,194 16,418 5,852 3,583 2,829
------- ------- ------- ------- -------
Operating expenses:
Selling and marketing.................. 10,753 7,560 3,336 1,810 1,563
Engineering, research and
development......................... 7,054 3,083 1,903 1,206 706
General and administrative............. 4,690 3,551 2,194 1,795 1,502
Amortization of intangible assets...... 338 -- -- -- --
Intangible and other asset impairment
charges............................. 1,498 -- -- -- --
------- ------- ------- ------- -------
Total operating expenses................. 24,333 14,194 7,433 4,811 3,771
------- ------- ------- ------- -------
Operating income (loss) from continuing
operations............................. (2,139) 2,224 (1,581) (1,228) (942)
Interest income (expense), net........... 882 (206) (551) (118) (136)
------- ------- ------- ------- -------
Income (loss) from continuing operations
before income tax benefit.............. (1,257) 2,018 (2,132) (1,346) (1,078)
Income tax benefit....................... -- -- -- 493 969
------- ------- ------- ------- -------
Income (loss) from continuing
operations............................. $(1,257) $ 2,018 $(2,132) $ (853) $ (109)
======= ======= ======= ======= =======
Income (loss) from continuing operations
per share:
Basic.................................. $ (0.09) $ 0.18 $ (0.21) $ (0.09) $ (0.01)
Diluted................................ $ (0.09) $ 0.17 $ (0.21) $ (0.09) $ (0.01)
Weighted average number of shares
outstanding:
Basic.................................. 13,674 11,327 10,000 10,000 8,285
Diluted................................ 13,674 11,978 10,000 10,000 8,285
JANUARY 31,
---------------------------------------------------
2001 2000 1999 1998 1997
------- ------- ------- ------- -------
(IN THOUSANDS)
BALANCE SHEET DATA:
Cash and cash equivalents................ $ 5,999 $11,097 $ 583 $ 185 $ 394
Working capital (deficit)................ 19,102 19,515 (3,471) (787) (241)
Total assets............................. 31,401 29,781 11,648 7,933 7,615
Due to affiliate......................... -- 57 5,885 1,812 948
Total debt (including short-term debt)... 10 983 3,191 3,005 3,338
Stockholders' equity (deficit)........... 24,713 22,483 (1,836) 586 763
I-26
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF OPERATIONS:
Some of the information in this report contains forward-looking statements
within the meaning of the federal securities laws. These statements include,
among others, the following: future product development plans, projected capital
expenditures, and liquidity and business strategy. These statements may be found
under Business and Management's Discussion and Analysis of Financial Condition
and Results of Operations. Forward-looking statements typically are identified
by use of terms such as may, will, expect, anticipate, estimate and similar
words, although some forward-looking statements are expressed differently. You
should be aware that our actual results could differ materially from those
contained in the forward-looking statements due to a number of factors,
including delays in product introductions, interruptions in supply and
competitive product introductions. You should also consider carefully the
statements under Business and Risk Factors and other sections of this report,
which address additional factors that could cause our actual results to differ
from those set forth in the forward-looking statements.
You should read this discussion together with the financial statements and other
financial information included in this document.
OVERVIEW
We develop and market semiconductor devices and software products designed to
meet the networking requirements of embedded systems. We commenced our
operations in 1984 as Digital Products, Inc. From our inception, we have
developed and marketed networking products for embedded systems that enable the
connection of electronic devices to networks. In 1994, we introduced the Digital
Products Option, or DPO, Interface Specification and our network interface card,
or NIC, two network connectivity products used by printer controller designers
and manufacturers of imaging devices. DPO was designed using the same networking
technology found in our previous products.
In 1996, we began developing our NET+Works family of semiconductor devices
designed to network-enable a broad array of embedded systems in a variety of
markets. In September 1996, Sorrento Networks Corporation, formerly Osicom
Technologies, Inc. ("Sorrento"), acquired all of our outstanding capital stock
from our stockholders for $5.0 million of Sorrento common stock. Supported by
Sorrento's funding of working capital, we completed the development of our
NET+Works family of products and began shipping that family of products in March
1998. We were a wholly-owned subsidiary of Sorrento from the date of the
acquisition through our initial public offering in September of 1999.
As of May 1, 1998, according to our intercompany agreement with Sorrento, we
transferred our stand-alone print server line of business to Sorrento.
Therefore, we treat the stand-alone print server line of business as a
discontinued operation, and Sorrento now manufactures, sells and supports the
stand-alone print server and other products. The financial data discussed below
do not include the operations of the stand-alone print server line of business.
We generate revenues from the sales of network semiconductor devices, NICs and
software products, development tools and application engineering services to
embedded systems manufacturers. Our networking products are sold to
manufacturers that build them into electronic devices incorporating embedded
systems that are sold to end users. We generally recognize product and software
license revenue upon shipment to our customers. Revenue recognition is not
dependent upon the customers of those manufacturers accepting the manufacturer's
products into which our products are incorporated. Revenue from service
obligations is deferred and recognized over the lives of the contracts or when
the service is performed. Our standard warranty period is 12 months from date of
shipment and our standard product return policy does not allow the customer to
return product other than for warranty. We accrue warranty costs and other
allowances at the time of shipment. In general, the timing and magnitude of our
revenues are dependent upon our achievement of design wins, the timing and
success of our customers' development cycles and our customers' product sales.
In addition to revenues from actual sales of the hardware products, NetSilicon
also receives revenue from the sales of support services provided to developers
during their design stage, and also from post-sale support
I-27
contracts. The contracts generally cover the 12 month period following date of
actual shipment of product to the customer. The sale of our products typically
involves a significant technical evaluation and commitment of capital and other
resources by customers, as well as delays frequently associated with customers'
internal procedures to deploy new technologies within their products and to
accept and test new technologies. For these and other reasons, the sales cycles
associated with our products is typically lengthy, lasting nine months or
longer.
In the fiscal years ended January 31, 2001, 2000 and 1999, international sales
constituted approximately 55%, 50% and 51% of our net sales, respectively, and
approximately 68%, 77% and 46% of our domestic sales were to customers
headquartered in Asia during the fiscal years ended January 31, 2001, 2000 and
1999, respectively. Approximately 79%, 95% and 95% of our net sales in the
fiscal years ended January 31, 2001, 2000 and 1999, respectively, were made to
customers in the imaging market, many of which are headquartered in Japan.
RESULTS OF OPERATIONS
The following table sets forth information derived from our Statement of
Operations expressed as a percentage of net sales for the fiscal years ended
January 31, 2001, 2000 and 1999.
FISCAL YEARS ENDED JANUARY 31,
------------------------------
2001 2000 1999
------ ------ ------
STATEMENT OF OPERATIONS DATA:
Net sales................................................... 100.0% 100.0% 100.0%
Cost of sales............................................... 40.6 48.4 56.2
----- ----- -----
Gross margin................................................ 59.4 51.6 43.8
----- ----- -----
Operating expenses:
Selling and marketing..................................... 28.8 23.7 24.9
Engineering, research and development..................... 18.9 9.7 14.3
General and administrative................................ 12.5 11.2 16.4
Amortization of intangible assets......................... 0.9 -- --
Intangible and other asset impairment charges............. 4.0 -- --
----- ----- -----
Total operating expenses.................................... 65.1 44.6 55.6
----- ----- -----
Operating income (loss) from continuing operations.......... (5.7) 7.0 (11.8)
Interest income (expense), net.............................. 2.4 (0.6) (4.1)
----- ----- -----
Income (loss) from continuing operations before income tax
benefit................................................... (3.3) 6.4 (15.9)
Income tax benefit.......................................... -- -- --
----- ----- -----
Income (loss) from continuing operations.................... (3.3)% 6.4% (15.9)%
===== ===== =====
FISCAL YEAR ENDED JANUARY 31, 2001 COMPARED TO FISCAL YEAR ENDED JANUARY 31,
2000
NET SALES. Net sales increased to $37.4 million in the fiscal year ended
January 31, 2001 from $31.8 million in the fiscal year ended January 31, 2000,
representing an increase of 17.4%. The increase in net sales was due primarily
to an increase in OEM customers to which the Company shipped product from 43 in
fiscal year 2000 to 79 in fiscal year 2001 and increased sales to existing OEM
imaging customers due to greater demand for their products and an increase in
the number of projects we have with these customers. Backlog for our product and
services was approximately $3.4 million and $6.0 million at January 31, 2001 and
2000, respectively, all of which was scheduled to be shipped within 12 months.
Office imaging market sales accounted for 79.0% of total net sales in fiscal
year 2001 compared to 95.0% of total net sales in fiscal year 2000. 13.0% and
5.0% of net sales in fiscal years 2001 and 2000, respectively, were to a broad
array of intelligent device markets including telecommunications and telephony,
industrial automation, building automation and control, point-of-sale, wireless
access and others. We expect that sales to
I-28
intelligent device markets other than office imaging will continue to grow as a
percent of total sales as we add new customers in these markets.
Our embedded networking semiconductor and controller products accounted for
88.3% and 94.0% of total net sales in fiscal years 2001 and 2000, respectively.
Software development tools and development boards accounted for 5.6% and 2.0% of
total net sales in fiscal years 2001 and 2000, respectively, and 6.1% and 4.0%
of net sales in fiscal years 2001 and 2000, respectively, related to royalty,
maintenance and service revenue.
COST OF SALES; GROSS MARGIN. Cost of sales consists principally of the cost of
raw material components and subcontract labor assembly from outside
manufacturers and suppliers. Cost of sales also includes amortization of
software development costs. Gross margin increased to $22.2 million, or 59.4% of
net sales, in the fiscal year ended January 31, 2001 from $16.4 million, or
51.6% of net sales, in the fiscal year ended January 31, 2000, representing an
increase of 35.2%. The increase in gross margin percent in fiscal year 2001 was
due primarily to material and subcontract labor cost reductions which were
partially attributable to the increased sales volume and our transition to a new
subcontract manufacturer for imaging network interface cards. In addition, the
increase in gross margin is due to higher non-recurring engineering fees and
royalties in fiscal year 2001 compared to fiscal year 2000 and a gradual shift
in product mix to higher margin intelligent device market products and a shift
within the imaging market from network interface cards to higher margin
semiconductor devices. Amortization expense related to capitalized software
development costs was $435,100 and $382,700 in the fiscal years ended January
31, 2001 and 2000, respectively.
SELLING AND MARKETING EXPENSES. Selling and marketing expenses consist mainly
of employee related expenses, commissions to sales representatives, trade shows,
publicity and travel expenses. Selling and marketing expenses increased to $10.8
million, or 28.8% of net sales, in the fiscal year ended January 31, 2001 from
$7.6 million, or 23.7% of net sales, in the fiscal year ended January 31, 2000,
representing an increase of 42.2%. The increase in selling and marketing
expenses was the result of (i) an increase in marketing costs of approximately
$927,000 associated with the introduction of new products, expanded advertising
and publicity programs, greater participation in trade shows and costs
associated with Internet and web marketing activities; (ii) additional sales
commissions of approximately $575,000 due to increased sales and the expansion
of our network of distributors and authorized developers; (iii) additional
payroll costs related to the expansion of our direct sales and marketing teams
in the United States, Europe and Asia; and (iv) payroll, recruiting and other
costs associated with investments made to expand our customer support
department.
ENGINEERING, RESEARCH AND DEVELOPMENT EXPENSES. Engineering, research and
development expenses consist primarily of salaries and the related costs of
employees engaged in research, design and development activities, net of
capitalized software costs. Engineering, research and development costs
increased to $7.1 million, or 18.9% of net sales, in the fiscal year ended
January 31, 2001 from $3.1 million, or 9.7% of net sales, in the fiscal year
ended January 31, 2000, representing an increase of 128.8%. The increase was due
primarily to (i) an increase of $1.6 million in payroll and recruiting costs
associated with an increase in headcount from 34 employees engaged in research
and development activities at January 31, 2000 to 53 employees at January 31,
2001. The increase in headcount includes the addition of 10 engineers acquired
in connection with our purchase of certain assets of Pacific Softworks, Inc. in
August 2000; (ii) an increase of $1.4 million in contract labor, consulting and
other external product development costs related to our continued investment in
product development, including investments in NET+OS, our Linux based NET+Lx and
advanced microprocessor technology; and (iii) increased depreciation and
amortization of purchased software tools and increased software maintenance
expense. Software development costs of $532,900 and $938,100, in the fiscal
years ended January 31, 2001 and 2000, respectively, were capitalized and are
being amortized to cost of sales over the products' useful lives, typically two
to three years.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
consist mainly of salaries, employee-related expenses, legal expenses, audit
fees and provisions to accounts receivable allowances. General and
administrative expenses increased to $4.7 million, or 12.5% of net sales, in the
fiscal year ended January 31, 2001 from $3.6 million, or 11.2% of net sales, in
the fiscal year ended January 31, 2000, representing an increase of 32.1%. The
increase in general and administrative expenses is attributable to an increase
in legal, accounting and insurance costs of $799,000, an increase in payroll
costs of $529,000, and
I-29
increases in rent expense, related to our lease of additional space at our
headquarters in Massachusetts and rent at our new facility in California, higher
investor relations costs, increased costs related to the expansion of our
information systems infrastructure and an increase in other costs associated
with our first complete year as a public company. General and administrative
expenses included $0 and approximately $200,000 in the fiscal year ended January
31, 2001 and 2000, respectively, related to changes in the accounts receivable
valuation reserve.
AMORTIZATION OF INTANGIBLE ASSETS. Amortization of intangible assets consists
of the amortization of intangible assets acquired in connection with the
purchase of certain assets of Pacific Softworks, Inc. in August 2000.
Amortization expense was $337,700, or 0.9% of net sales, in the fiscal year
ended January 31, 2001. We expect that amortization of these intangible assets
will be approximately $130,000 per quarter until August 2003.
INTANGIBLE AND OTHER ASSET IMPAIRMENT CHARGES. Intangible and other asset
impairment charges consist of nonrecurring charges related to the impairment of
the carrying amount of long-lived and certain intangible assets. Intangible and
other asset impairment charges were $1.5 million, or 4.0% of net sales, in the
fiscal year ended January 31, 2001 compared to $0 in the fiscal year ended
January 31, 2000. In fiscal year 2001, internal and external circumstances
indicated that the carrying amount of our intangible web protocol asset, which
was acquired in connection with the purchase of certain Pacific Softworks, Inc.
assets, and capitalized product development costs, related to a Java-based
development project with a third party vendor, would not be recoverable. An
impairment loss was recorded to write off the web protocol asset, with a
carrying value of $957,000 and the capitalized costs, with a carrying value of
$541,000.
INTEREST INCOME/EXPENSE. Interest income includes interest earned on cash and
short-term investment balances. Interest expense is the result of our borrowings
against our line of credit with our former lender, Coast Business Credit, and
the interest charged by our former sole shareholder, Sorrento, for our
borrowings from Sorrento. Net interest income was $882,500, or 2.4% of net
sales, in the fiscal year ended January 31, 2001 and consisted of interest
earned on cash and short-term investment balances. Net interest expense was
$206,100, or 0.6% of net sales, in the fiscal year ended January 31, 2000 and
consisted of interest on borrowings from both our line of credit and Sorrento,
offset in part by interest earned on cash and short term investments. The
increase in interest income and the decrease in interest expense from the period
ended January 31, 2001 to the period ended January 31, 2000 are the result of
the proceeds raised by the sale of our stock in conjunction with our initial
public offering on September 15, 1999 and our subsequent repayment of amounts
due Coast Business Credit and Sorrento.
PROVISION FOR INCOME TAXES. There was no net provision for income taxes for the
fiscal years ended January 31, 2001 and January 31, 2000 due to the net loss in
2001 and utilization of available net operating loss carryforwards. At January
31, 2001 we had federal net operating losses of approximately $4,611,000 and
research and development credits of approximately $457,100 which may be
available to reduce future taxable income. These carryforwards expire at various
dates through 2022. The extent to which net operating loss carryforwards may be
utilized in a single taxable year may be reduced in the event there has been any
ownership change of a taxpayer. Further ownership changes in the future may
reduce the extent to which any net operating losses and credits may be utilized.
FISCAL YEAR ENDED JANUARY 31, 2000 COMPARED TO FISCAL YEAR ENDED JANUARY 31,
1999
NET SALES. Net sales increased to $31.8 million in the fiscal year ended
January 31, 2000 from $13.4 million in the fiscal year ended January 31, 1999,
representing an increase of 138.1%. The increase in net sales was due primarily
to an increase in OEM customers to which the Company shipped product from 20 in
fiscal year 1999 to 43 in fiscal year 2000 and increased sales to existing OEM
imaging customers due to greater demand for their products. Backlog for our
product and services was approximately $6.0 million and $7.8 million at January
31, 2000 and 1999, respectively, all of which was scheduled to be shipped within
12 months.
Our embedded networking semiconductor and controller products accounted for
94.0% and 90.8% of total net sales in fiscal years 2000 and 1999, respectively.
Software development tools and development boards
I-30
accounted for 2.0% and 3.4% of total net sales in fiscal years 2000 and 1999,
respectively, and 4.0% and 5.8% of net sales in fiscal years 2000 and 1999,
respectively, related to royalty, maintenance and service revenue.
COST OF SALES; GROSS MARGIN. Cost of sales consists principally of the cost of
raw material components and subcontract labor assembly from outside
manufacturers and suppliers. Cost of sales also includes amortization of
software development costs. Gross profit increased to $16.4 million, or 51.6% of
net sales, in the fiscal year ended January 31, 2000 from $5.9 million, or 43.8%
of net sales, in the fiscal year ended January 31, 1999, representing an
increase of 180.5%. The increase in gross margin percent in fiscal year 2000 was
due primarily to material and subcontract labor cost reductions offset in part
by declining average sales prices. The gross margin percent in fiscal year 1999
was also adversely effected by costs of $224,000 resulting from the late
delivery of the NET+ARM chip from a vendor. Amortization expense related to
capitalized software development costs was $382,700 and $249,600 in the fiscal
years ended January 31, 2000 and 1999, respectively.
SELLING AND MARKETING EXPENSES. Selling and marketing expenses consist mainly
of employee related expenses, commissions to sales representatives, trade shows,
publicity and travel expenses. Selling and marketing expenses increased to $7.6
million, or 23.7% of net sales, in the fiscal year ended January 31, 2000 from
$3.3 million, or 24.9% of net sales, in the fiscal year ended January 31, 1999,
representing an increase of 126.6%. The increase was the result of (i)
additional sales commissions of $1.4 million due to increased sales volume, (ii)
additional payroll costs of $1.1 million related to the expansion of the sales
force in the United States, Europe and Asia, and (iii) marketing costs
associated with the NET+Works family of products, greater participation in trade
shows, and costs associated with internet and web marketing activities.
ENGINEERING, RESEARCH AND DEVELOPMENT EXPENSES. Engineering, research and
development expenses consist primarily of salaries and the related costs of
employees engaged in research, design and development activities, net of
capitalized software costs. Engineering, research and development costs
increased to $3.1 million, or 9.7% of net sales, in the fiscal year ended
January 31, 2000 from $1.9 million, or 14.3% of net sales, representing an
increase of 62.0%. The increase was due to increased headcount and related
payroll expenses of $360,000 and increased costs of $228,900 associated with
external product development and depreciation of purchased software and other
assets. Software development costs of $938,100 and $723,600, in the fiscal years
ended January 31, 2000 and 1999, respectively, were capitalized and are being
amortized to cost of sales over the products' useful lives, typically two to
three years. Engineering, research and development expense in fiscal year 2000
includes a charge of $307,100 related to a decrease in the net realizable value
of capitalized development costs.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
consist mainly of salaries, employee-related expenses, legal expenses, audit
fees and changes to accounts receivable allowances. General and administrative
expenses increased to $3.6 million, or 11.2% of net sales, in the fiscal year
ended January 31, 2000 from $2.2 million, or 16.4% of net sales, in the fiscal
year ended January 31, 1999, representing an increase of 61.8%. The increase in
expenses is associated with the increase in sales and headcount, including
increased payroll and related costs of $431,000 and costs of $221,200 associated
with the development of a newly formed MIS group. In addition, the increase is
due to new and increased costs associated with becoming a public entity,
including an increase in legal, audit, and insurance costs of $261,000 as well
as costs related to investor relations and similar activities. General and
administrative expenses included approximately $200,000 and $300,000 in the
fiscal years ended January 31, 2000 and 1999, respectively, related to increases
in the accounts receivable valuation reserve made to reflect increased risk of
collection.
INTEREST EXPENSE. Interest expense is the result of the Company's borrowings
against its line of credit with its lender, Coast Business Credit, and the
interest charged by its former sole shareholder, Sorrento, for borrowings made
by the Company from Sorrento, offset by income earned on cash and cash
equivalents and investments. Net interest expense decreased to $206,100, or 0.6%
of net sales, in the fiscal year ended January 31, 2000 from $551,700, or 4.1%
of net sales, in the fiscal year ended January 31, 1999, representing a decrease
of 62.6%. The decrease is due primarily to income earned on cash and investments
of $364,700 in the fiscal year ended January 31, 2000. Interest income earned in
fiscal year 1999 was not material.
I-31
PROVISION FOR INCOME TAXES. There was no net provision for income taxes for the
fiscal year ended January 31, 2000 as the provision was offset by available net
operating loss carryforwards. There was no net provision for income taxes for
the fiscal year ended January 31, 1999 because the tax benefits attributable to
continuing operations were offset by the tax provision attributable to
discontinued operations. At January 31, 2000, the Company had federal net
operating losses of approximately $3,513,400 and research and development
credits of $221,000 which may be available to reduce future taxable income;
these carryforwards expire at various dates through 2014. The extent to which
net operating loss carryforwards may be utilized in a single taxable year may be
reduced in the event there has been any ownership change of a taxpayer. Further
ownership changes in the future may reduce the extent to which any net operating
losses and credits may be utilized.
LIQUIDITY AND CAPITAL RESOURCES
Prior to our public offering in September, 1999 we financed our operations
through advances from Sorrento and borrowings under our short-term bank line of
credit. The Company received proceeds, net of offering costs, of approximately
$22.2 million as a result of the initial public offering and sale of our stock.
At January 31, 2001 we had working capital of $19.1 million and cash and cash
equivalents of $6.0 million.
Our operating activities used cash of $2.3 million, provided cash of $6.4
million, and used cash of $1.9 million in the fiscal years ended January 31,
2001, 2000 and 1999, respectively. Cash used by operating activities in fiscal
year 2001 was attributable to increases in inventory, accounts receivable and a
net loss for the period, offset in part by the non-cash impact of depreciation,
amortization and asset impairment charges. The increase in accounts receivable
and inventory relate to the growth in sales. The increase in inventory is also
due to larger volume purchases of certain electronic components that were made
to decrease the risk to our operations of the sharp fluctuations in the market
supply of the components. The non-cash asset impairment charges relate to the
write-down in fair value of an intangible asset acquired as part of our purchase
of certain assets of Pacific Softworks, Inc. and capitalized product development
costs related to a Java-based development project with a third party vendor.
Cash provided in fiscal year 2000 was attributable to net income for the period,
an increase in other current liabilities, a decrease in accounts receivable and
the non-cash impact of depreciation and amortization, offset in part by
increases in inventory and other current assets. The increase in other current
liabilities in fiscal year 2000 related primarily to an increase in commissions
payable. Cash used during fiscal year 1999 was due to a net loss, growth in
inventory and accounts receivable caused by increased demand for our products,
offset in part by an increase in accounts payable and other current liabilities
and the non-cash impact of depreciation and amortization.
To support our anticipated growth, we expect that our sales and marketing
expenses, engineering, research and development expenses and general and
administrative expenses each will increase in the fiscal year ending January 31,
2002 and thereafter compared to the amounts of such expenses in the fiscal year
ending January 31, 2001. Due in part to an economic slowdown affecting our
imaging customers, we anticipate a decline in imaging revenue growth in fiscal
year 2002 which will adversely effect our results of operations and financial
condition and may result in operating losses for all or part of fiscal year
2002. We expect to return to profitability in the fourth quarter of 2002 or the
first quarter of 2003. There can be no assurance that our available cash and
cash flow from operations will be sufficient to fund such additional expenses.
Our standard payment terms are net 30 days. While we actively pursue collection
within that time, receivables have frequently taken longer to collect in part
because we sell products to large companies in Asia.
Our investing activities used cash of $2.0 million, $10.6 million and $928,500
in fiscal years ended January 31, 2001, 2000 and 1999, respectively. Cash used
in investing activities during fiscal year 2001 related primarily to purchases
of $1.8 million of property and equipment, software development costs of
$532,900 and an increase in other assets, offset in part by proceeds of $1.5
million from the sale of short-term investments. Cash used in investing
activities in fiscal year 2000 related primarily to the purchases of $8.2
million of short-term investments and $1.4 million of property and equipment and
$938,100 of software development costs. Cash used in fiscal year 1999 related to
software development costs of $723,600 and an increase in other assets of
$525,700, offset in part by the transfer of capitalized software, in the amount
of $577,400, to Sorrento.
I-32
On August 31, 2000, we issued 90,000 shares of common stock, valued at $2.3
million and incurred $570,000 of acquisition-related costs in connection with
the acquisition of the strategic network technology assets of Pacific Softworks,
Inc. The total purchase price was $2.8 million and was allocated to the tangible
and intangible assets acquired. On February 16, 2001, subsequent to the fiscal
year end, we issued 241,667 shares of common stock valued at $1.2 million, paid
cash of $250,000, incurred $116,500 of acquisition-related costs and assumed
$834,900 of liabilities in connection with the acquisition of Dimatech
Corporation. The total purchase price was $2.4 million and was allocated to the
tangible and intangible assets acquired.
Financing activities used cash of $812,700 in the fiscal year ended January 31,
2001 and provided cash of $14.7 million and $3.2 million during the fiscal years
ended January 31, 2000 and 1999, respectively. Cash used by financing activities
during fiscal year 2001 related primarily to loans to an officer of the company
in the amount of $871,200 and the repayment of short-term debt of $779,700,
offset in part by proceeds from the exercise of stock options of $1.1 million.
Cash provided by financing activities in fiscal year 2000 related to proceeds of
$22.2 million from the sale of common stock in connection with our initial
public offering in September 1999 which were offset in part by repayments of
advances from Sorrento of $5.1 million and repayments of short-term debt of $2.4
million. Cash provided by financing activities in fiscal year 1999 was due
primarily to net loans from Sorrento of $3.0 million.
We anticipate that our available cash resources will be sufficient to meet our
presently anticipated capital requirements through the next 12 months.
Nonetheless, we may elect to sell additional equity securities or to obtain
additional credit. Our future capital requirements may vary materially from
those now planned and will depend on many factors, including, but not limited
to, the levels at which we maintain inventory and accounts receivable; the
market acceptance of our products; the levels of promotion and advertising
required to launch products or enter markets and attain a competitive position
in the marketplace; volume pricing concessions; our business, product, capital
expenditure and research and development plans and technology roadmap; capital
improvements to new and existing facilities; technological advances; the
response of competitors to our products; and our relationships with suppliers
and customers. In addition, we may require an increase in the level of working
capital to accommodate planned growth, hiring and infrastructure needs.
Additional capital may be required for consummation of any acquisitions of
businesses, products or technologies. We may need to raise additional funds
through public or private financings or borrowings if existing resources and
cash generated from operations are insufficient to fund our future activities.
No assurance can be given that additional financing will be available or that,
if available, such financing can be obtained on terms favorable to our
shareholders and us. If additional funds are raised through the issuance of
equity securities, the percentage ownership of then current stockholders will be
reduced and such equity securities may have rights, preferences or privileges
senior to those of holders of our common stock. If adequate funds are not
available to satisfy short- or long-term capital requirements, we may be
required to limit our operations significantly.
EFFECTS OF INFLATION AND CURRENCY EXCHANGE RATES
We believe that the relatively moderate rate of inflation in the United States
over the past few years has not had a significant impact on our sales or
operating results or on the prices of raw materials. There can be no assurance,
however, that inflation will not have a material adverse effect on our operating
results in the future.
Substantially all of our sales are currently denominated in U.S. dollars and to
date our business has not been significantly affected by currency fluctuations.
However, we conduct business in several different countries and thus
fluctuations in currency exchange rates could cause our products to become
relatively more expensive in particular countries, leading to a reduction in
sales in those countries. In addition, inflation in such countries could
increase our expenses. In the future, we will engage in foreign currency
denominated sales and pay material amounts of expenses in foreign currencies
and, in such events, may experience gains and losses due to currency
fluctuations. Our operating results could be adversely affected by such
fluctuations.
IMPACT OF RECENT ACCOUNTING PRONOUNCEMENTS
In June 1998, the Financial Accounting Standards Board, or FASB, issued
Statement No. 133, "Accounting for Derivative Instruments and Hedging
Activities," SFAS No. 133. SFAS No. 133 provides a comprehensive
I-33
and consistent standard for the recognition and measurement of derivatives and
hedging activities and requires all derivatives to be recorded on the balance
sheet at fair value. SFAS No. 133, as amended, is effective for years beginning
after June 15, 2000. To date, we have not engaged in derivative and hedging
activities, and accordingly, the adoption of SFAS No. 133 has not had a material
impact on our results of operations, financial position or cash flows.
In March 2000, the FASB issued FASB Interpretation, or FIN No. 44, "Accounting
for Certain Transactions Involving Stock Compensation -- an Interpretation of
APB Opinion No. 25." FIN 44 primarily clarifies the definition of an employee
for purposes of applying APB Opinion No. 25, the criteria for determining
whether a plan qualifies as a noncompensatory plan, the accounting consequences
of various modifications to the terms of previously fixed stock option awards,
and the accounting for an exchange of stock compensation awards in a business
combination. The application of FIN 44 did not have a significant impact on our
results of operations, financial position or cash flows.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK:
We own financial instruments that are sensitive to market risks as part of our
investment portfolio. The investment portfolio is used to preserve our capital
until it is required to fund operations, including our research and development
activities. None of these market-risk sensitive instruments are held for trading
purposes. We do not own derivative financial instruments in our investment
portfolio. The investment portfolio contains instruments that are subject to the
risk of a decline in interest rates.
INVESTMENT RATE RISK. Our investment portfolio includes debt instruments that
primarily have durations of less than one year. These bonds are subject to
interest rate risk, and could decline in value if interest rates fluctuate. Our
investment portfolio also at times includes certain commercial paper which is
also subject to interest rate risk. Due to the short duration and conservative
nature of these instruments, we do not believe that we have a material exposure
to interest rate fluctuations.
WE HAVE FOREIGN OPERATIONS IN EUROPE. As a result, we are exposed to
fluctuations in foreign exchange rates. However, we do not expect that changes
in foreign exchange rates will have a significant impact on our results of
operations, financial position or cash flows. We plan to continue to expand our
operations globally which may increase our exposure to foreign exchange
fluctuations. Our acquisition of Dimatech Corporation headquartered in Tokyo,
Japan in February 2001, is an example of this expansion.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA:
NetSilicon's Financial Statements, together with the related Independent
Auditor's Report, appear at pages F-1 through F-23, respectively, of this Form
10-K.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE:
Not applicable.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT:
The information required by this item is incorporated by reference from
NetSilicon's definitive Proxy Statement for its 2001 annual meeting of
stockholders (the "Proxy Statement") under the captions "Election of Directors"
and "Section 16(a) Beneficial Ownership Reporting Compliance."
I-34
ITEM 11. EXECUTIVE COMPENSATION:
The information required by this item is incorporated by reference from the
definitive Proxy Statement under the caption "Compensation and Other Information
Concerning Directors and Officers."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT:
The information required by this item is incorporated by reference from the
definitive Proxy Statement in the tables under the captions "Principal
Shareholders" and "Election of Directors."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS:
The information required by this item is incorporated by reference from the
definitive Proxy Statement under the caption "Certain Transactions."
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K:
(a) The following documents are filed as part of this Annual Report on Form
10-K:
(1) Financial Statements listed under Part II, Item 8.
(2) Financial Statement Schedules. Financial statement schedules have been
omitted because the required information is not present or not present
in amounts sufficient to require submission of the schedule, or because
the information required is included in the financial statements or the
notes thereto.
(b) Reports on Form 8-K:
On November 14, 2000, we filed Amendment No. 1 to Form 8-K filed on
September 15, 2000 related to the acquisition of certain assets of Pacific
Softworks Technology, Inc. The amended document includes historical audited
financial statements of Pacific Softworks, Inc. as of and for the periods
ended December 31, 1999 and 1998 and the unaudited pro forma combined
balance sheet as of July 29, 2000 and unaudited pro forma combined
statements of operations for the six months ended July 29, 2000 and the year
ended January 31, 2000.
(c) The exhibits listed in the Exhibit Index immediately preceding the Exhibits
are filed or incorporated by reference as part of this Annual Report on Form
10-K.
(d) Financial Statement Schedules: The financial statement schedules required by
this item, if any, are listed under Item 14(a)(2).
I-35
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this report to be signed on its
behalf by the undersigned, thereunto duly authorized.
NETSILICON, INC.
By: /s/ Cornelius Peterson VIII
--------------------------------------
Cornelius Peterson VIII
Chairman of the Board and Chief
Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the registrant and
in the capacities and on the dates indicated.
NAME TITLE DATE
---- ----- ----
/s/ CORNELIUS PETERSON VIII Chairman of the Board and Chief Executive May 1, 2001
-------------------------------------------- Officer (Principal Executive Officer)
Cornelius Peterson VIII
/s/ DANIEL J. SULLIVAN Vice President, Finance, Chief Financial May 1, 2001
-------------------------------------------- Officer (Principal Financial and
Daniel J. Sullivan Accounting Officer)
/s/ MICHAEL K. BALLARD Director May 1, 2001
--------------------------------------------
Michael K. Ballard
/s/ FRANCIS E. GIRARD Director May 1, 2001
--------------------------------------------
Francis E. Girard
/s/ WILLIAM JOHNSON Director May 1, 2001
--------------------------------------------
William Johnson
/s/ EDWARD B. ROBERTS Director May 1, 2001
--------------------------------------------
Edward B. Roberts
/s/ F. GRANT SAVIERS Director May 1, 2001
--------------------------------------------
F. Grant Saviers
I-36
NetSilicon, Inc.
CONSOLIDATED FINANCIAL STATEMENTS
TABLE OF CONTENTS
FINANCIAL STATEMENTS PAGE
-------------------- ----
Report of Independent Certified Public Accountants.......... I-38
Consolidated Balance Sheets as of January 31, 2001 and
2000...................................................... I-39
Consolidated Statements of Operations for the Years Ended
January 31, 2001, 2000 and 1999........................... I-40
Consolidated Statements of Stockholders' Equity (Deficit)
for the Years Ended January 31, 2001, 2000 and 1999....... I-41
Consolidated Statements of Cash Flows for the Years Ended
January 31, 2001, 2000 and 1999........................... I-42
Notes to Consolidated Financial Statements.................. I-43-I-60
I-37
REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
The Board of Directors of
NetSilicon, Inc.
We have audited the accompanying consolidated balance sheets of NetSilicon, Inc.
and subsidiary as of January 31, 2001 and 2000 and the related consolidated
statements of operations, stockholders' equity (deficit) and cash flows for each
of the three years in the period ended January 31, 2001. 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 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 our audits provide a reasonable
basis for our opinion.
In our opinion the consolidated financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
NetSilicon, Inc. and subsidiary as of January 31, 2001 and 2000, and the
consolidated results of their operations and their cash flows for each of the
three years in the period ended January 31, 2001 in conformity with accounting
principles generally accepted in the United States of America.
/s/ BDO SEIDMAN, LLP
--------------------------------------
Boston, Massachusetts
February 23, 2001
I-38
NetSilicon, Inc.
CONSOLIDATED BALANCE SHEETS
JANUARY 31,
--------------------------
2001 2000
----------- -----------
ASSETS
CURRENT ASSETS
Cash and equivalents...................................... $ 5,999,200 $11,096,500
Short-term investments.................................... 6,794,400 8,203,700
Accounts receivable, net.................................. 4,660,300 2,266,000
Inventory, net............................................ 6,707,000 4,322,400
Notes receivable from officer............................. 871,200 --
Prepaid expenses and other current assets................. 757,400 798,900
----------- -----------
TOTAL CURRENT ASSETS.............................. 25,789,500 26,687,500
PROPERTY AND EQUIPMENT, NET................................. 2,335,200 1,466,400
----------- -----------
OTHER ASSETS
Capitalized software, net................................. 990,800 770,700
Intangible assets, net.................................... 1,351,800 --
Other assets.............................................. 933,800 855,900
----------- -----------
TOTAL OTHER ASSETS................................ 3,276,400 1,626,600
----------- -----------
TOTAL ASSETS................................................ $31,401,100 $29,780,500
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
CURRENT LIABILITIES
Short-term debt........................................... $ -- $ 779,700
Short-term portion of capital lease obligation............ 10,400 78,000
Accounts payable.......................................... 2,787,100 3,013,200
Due to affiliate.......................................... -- 56,900
Deferred revenue.......................................... 343,000 52,500
Other current liabilities................................. 3,547,300 3,192,200
----------- -----------
TOTAL CURRENT LIABILITIES......................... 6,687,800 7,172,500
CAPITAL LEASE OBLIGATION, less current portion.............. -- 125,100
----------- -----------
TOTAL LIABILITIES................................. 6,687,800 7,297,600
----------- -----------
COMMITMENTS AND CONTINGENCIES
STOCKHOLDERS' EQUITY
Preferred stock, $0.01 par value; 5,000,000 authorized;
none issued............................................ -- --
Common stock, $0.01 par value; 35,000,000 authorized;
issued and outstanding:
Voting, 6,810,100 and 6,037,500 shares................. 68,100 60,400
Non-voting, 6,972,700 and 7,500,000 shares............. 69,700 75,000
Additional paid-in capital................................ 28,187,400 24,755,400
Accumulated other comprehensive income (loss)............. 26,500 (26,400)
Accumulated deficit....................................... (3,638,400) (2,381,500)
----------- -----------
TOTAL STOCKHOLDERS' EQUITY........................ 24,713,300 22,482,900
----------- -----------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY.................. $31,401,100 $29,780,500
=========== ===========
See accompanying notes to consolidated financial statements.
I-39
NetSilicon, Inc.
CONSOLIDATED STATEMENTS OF OPERATIONS
FISCAL YEAR ENDED JANUARY 31,
-----------------------------------------
2001 2000 1999
----------- ----------- -----------
NET SALES........................................... $37,382,100 $31,840,900 $13,373,000
COST OF SALES....................................... 15,188,300 15,422,900 7,520,000
----------- ----------- -----------
GROSS MARGIN...................................... 22,193,800 16,418,000 5,853,000
----------- ----------- -----------
OPERATING EXPENSES:
Selling and marketing............................. 10,753,500 7,560,300 3,336,400
Engineering, research and development............. 7,054,200 3,083,500 1,902,900
General and administrative........................ 4,689,900 3,550,500 2,194,400
Amortization of intangible assets................. 337,700 -- --
Intangible and other asset impairment charges..... 1,497,900 -- --
----------- ----------- -----------
TOTAL OPERATING EXPENSES.................. 24,333,200 14,194,300 7,433,700
----------- ----------- -----------
OPERATING INCOME (LOSS) FROM CONTINUING
OPERATIONS........................................ (2,139,400) 2,223,700 (1,580,700)
Interest income (expense), net of interest income
of $364,700 in 2000............................ 882,500 (206,100) (551,700)
----------- ----------- -----------
INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE
INCOME TAXES...................................... (1,256,900) 2,017,600 (2,132,400)
Income taxes...................................... -- -- --
----------- ----------- -----------
INCOME (LOSS) FROM CONTINUING OPERATIONS............ (1,256,900) 2,017,600 (2,132,400)
LOSS FROM DISCONTINUED OPERATIONS................... -- -- (289,800)
----------- ----------- -----------
NET INCOME (LOSS)................................... $(1,256,900) $ 2,017,600 $(2,422,200)
=========== =========== ===========
INCOME (LOSS) PER COMMON SHARE
From continuing operations
Basic.......................................... $ (0.09) $ 0.18 $ (0.21)
Diluted........................................ $ (0.09) $ 0.17 $ (0.21)
From discontinued operations
Basic.......................................... $ -- $ -- $ (0.03)
Diluted........................................ $ -- $ -- $ (0.03)
Net income (loss) per common share
Basic.......................................... $ (0.09) $ 0.18 $ (0.24)
Diluted........................................ $ (0.09) $ 0.17 $ (0.24)
SHARES USED IN PER SHARE CALCULATIONS
Basic.......................................... 13,674,200 11,326,600 10,000,000
Diluted........................................ 13,674,200 11,978,200 10,000,000
See accompanying notes to consolidated financial statements.
I-40
NetSilicon, Inc.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
ACCUMULATED
OTHER
COMMON STOCK ADDITIONAL COMPREHENSIVE TOTAL COMPREHENSIVE
--------------------- PAID-IN INCOME ACCUMULATED STOCKHOLDERS' INCOME
SHARES AMOUNT CAPITAL (LOSS) DEFICIT EQUITY (DEFICIT) (LOSS)
---------- -------- ----------- ------------- ----------- ---------------- -------------
BALANCE AT JANUARY 31,
1998..................... 10,000,000 $100,000 $ 2,463,000 $ -- $(1,976,900) $ 586,100
Net loss and comprehensive
loss..................... -- -- -- -- (2,422,200) (2,422,200) $(2,422,200)
---------- -------- ----------- -------- ----------- ----------- ===========
BALANCE AT JANUARY 31,
1999..................... 10,000,000 100,000 2,463,000 -- (4,399,100) (1,836,100)
Sale of common stock, net
of issuance costs of
$788,000................. 3,537,500 35,400 22,213,700 -- -- 22,249,100
Issuance of common stock
options to
non-employees............ -- -- 78,700 -- -- 78,700
Net income................. -- -- -- -- 2,017,600 2,017,600 $ 2,017,600
Unrealized loss on
short-term investments... -- -- -- (26,400) -- (26,400) (26,400)
-----------
Comprehensive income....... -- -- -- -- -- -- $ 1,991,200
---------- -------- ----------- -------- ----------- ----------- ===========
BALANCE AT JANUARY 31,
2000..................... 13,537,500 135,400 24,755,400 (26,400) (2,381,500) 22,482,900
Common stock issued in
connection with asset
acquisition.............. 90,000 900 2,270,700 -- -- 2,271,600
Common stock issued under
stock plans.............. 155,300 1,500 1,086,300 -- -- 1,087,800
Issuance of common stock
options to
non-employees............ -- -- 75,000 -- -- 75,000
Net loss................... -- -- -- -- (1,256,900) (1,256,900) $(1,256,900)
Unrealized gain on
short-term investments... -- -- -- 52,900 -- 52,900 52,900
-----------
Comprehensive loss......... -- -- -- -- -- -- $(1,204,000)
---------- -------- ----------- -------- ----------- ----------- ===========
BALANCE AT JANUARY 31,
2001..................... 13,782,800 $137,800 $28,187,400 $ 26,500 $(3,638,400) $24,713,300
========== ======== =========== ======== =========== ===========
See accompanying notes to consolidated financial statements.
I-41
NetSilicon, Inc.
CONSOLIDATED STATEMENTS OF CASH FLOWS
FISCAL YEAR ENDED JANUARY 31,
------------------------------------------
2001 2000 1999
----------- ------------ -----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss)................................ $(1,256,900) $ 2,017,600 $(2,422,200)
Adjustments to reconcile net income (loss) to net
cash provided by (used in) operating
activities:
Depreciation and amortization................. 1,815,400 1,127,300 666,400
Intangible and other asset impairment
charges..................................... 1,497,900 -- --
Stock option compensation -- non-employee..... -- 78,700 --
Changes in operating assets and liabilities,
net of effects of acquisition:
(Increase) decrease in accounts
receivable............................... (2,302,800) 1,938,500 (609,200)
(Increase) decrease in inventories.......... (2,384,600) (553,100) (1,161,900)
(Increase) decrease in other current
assets................................... 41,500 (560,300) (66,000)
Increase (decrease) in accounts payable..... (226,100) 223,400 1,012,500
Increase (decrease) in other current
liabilities.............................. 224,800 2,112,100 686,100
Increase (decrease) in deferred revenue..... 290,500 52,500 --
----------- ------------ -----------
NET CASH PROVIDED BY (USED IN) OPERATING
ACTIVITIES............................. (2,300,300) 6,436,700 (1,894,300)
----------- ------------ -----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from (purchases of) short-term
investments................................... 1,462,200 (8,230,100) --
Purchases of property and equipment.............. (1,848,600) (1,322,400) (256,600)
Software development costs....................... (532,900) (938,100) (723,600)
Capitalized software transferred to Sorrento..... -- -- 577,400
Direct acquisition costs......................... (439,800) -- --
Other assets..................................... (625,200) (84,500) (525,700)
----------- ------------ -----------
NET CASH USED IN INVESTING ACTIVITIES.... (1,984,300) (10,575,100) (928,500)
----------- ------------ -----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of notes receivable to officer.......... (871,200) -- --
Proceeds (repayments) of affiliates advances..... (56,900) (5,147,900) 3,033,800
Proceeds (repayments) of short-term debt, net.... (779,700) (2,411,800) 204,400
Repayments of long-term debt, net................ -- -- (17,900)
Payments of capital lease obligation............. (192,700) (37,100) --
Proceeds from issuance of stock.................. -- 22,249,100 --
Proceeds from exercise of stock options.......... 1,087,800 -- --
----------- ------------ -----------
NET CASH PROVIDED BY (USED IN) FINANCING
ACTIVITIES............................. (812,700) 14,652,300 3,220,300
----------- ------------ -----------
INCREASE (DECREASE) IN CASH AND EQUIVALENTS........ (5,097,300) 10,513,900 397,500
CASH AND EQUIVALENTS BEGINNING OF YEAR............. 11,096,500 582,600 185,100
----------- ------------ -----------
CASH AND EQUIVALENTS END OF YEAR................... $ 5,999,200 $ 11,096,500 $ 582,600
=========== ============ ===========
See accompanying notes to consolidated financial statements.
I-42
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NetSilicon, Inc. (the "Company") develops and markets embedded Ethernet
networking solutions, which combine advanced microprocessors and software, to
manufacturers building intelligent, network-enabled devices. The Company's
products provide intelligent devices and embedded systems with the ability to
communicate over standards-based local-area networks, or LANs, and the Internet,
enabling the development of new embedded systems applications. The Company
believes that it offers the first comprehensive solution that, in conjunction
with a physical interface and memory, encompass all of the hardware and software
necessary to allow intelligent electronic devices incorporating embedded systems
to communicate with other devices. NetSilicon's customers are in a broad array
of markets including telecommunications and telephony, industrial automation,
office imaging, building automation and control, home automation, data
acquisition, point-of-sale, and wireless access. NetSilicon's devices are
incorporated into office imaging equipment, including printers, scanners, fax
machines, copiers and multi-function devices manufactured by over 20
manufacturers including Minolta, Ricoh, Sharp and Xerox. The Company's products
are also in various stages of incorporation into the design and manufacture of
other intelligent devices including power plant automation equipment, medical
data collection and monitoring devices, Internet/Ethernet cameras for security,
voice-over-IP telephones, point-of-sale scanners, scales and teller machines,
networked exercise equipment, and utility measurement and environment monitoring
equipment.
The accompanying financial statements are the responsibility of the management
of the Company.
A. The Company and Basis of Presentation
The Company was incorporated in Massachusetts on April 17, 1984 under the name
of Digital Products, Inc. In September 1996, Sorrento Networks Corporation,
formerly Osicom Technologies, Inc., ("Sorrento") acquired sole ownership of the
Company through a merger with a newly-formed corporation in exchange for
Sorrento common stock in a transaction accounted for as a pooling of interests.
On September 15, 1999, the Company completed an initial public offering of its
common stock. As of January 31, 2001, Sorrento held a 50.6% non-voting interest
in the Company.
The Company was comprised of two product lines: OEM and Stand-Alone Print
Server. The Company developed both board and system-level products to satisfy
the specific design needs of OEMs and stand-alone solutions for end-user
customers. The end-user customers were addressed through value-added resellers
and distributors; this sales activity is referred to as Stand-Alone Print Server
Line sales. The Company had decided to focus its resources on the future
development of its NET+Works family of products within the OEM line.
As a result, in May 1998, the Company sold its Stand-Alone Print Server Line to
Sorrento, which consisted principally of specific sales employees and
capitalized software related to Stand-Alone Print Server products. Based on this
transaction, the Company has accounted for the Stand-Alone Print Server Line as
a discontinued operation. The Company did not realize a gain or loss on sale as
Sorrento purchased the capitalized software and other miscellaneous assets at
their book value as of the date of purchase. Sales, cost of sales, selling,
marketing, engineering, general and administrative, research and development
expenses included in discontinued operations within the Company's historical
Statements of Operations represent only those transactions specific to the
Stand-Alone Print Server Line.
For periods prior to the Company's initial public offering in September 1999,
general and administrative expenses include an amount that management considered
to be a reasonable allocation of general corporate expenses. Management and
administrative salaries were allocated based upon estimated time devoted to the
Company's operations; all other allocations of general corporate expenses,
including public company costs, were based upon specific identification of the
relationship of the Company's operations to the total operations of Sorrento.
Selling and marketing and general and administrative expenses in the fiscal year
ended January 31, 1999 include $80,000 of allocated corporate overhead expenses.
I-43
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
The consolidated financial statements include the accounts of the Company and
its wholly owned subsidiary, NetSilicon GmbH. All significant intercompany
transactions and balances have been eliminated.
B. Summary of Significant Accounting Policies
Cash and Equivalents and Short-term Investments -- All highly liquid debt
instruments purchased with remaining maturities of three months or less are
classified as cash equivalents. Management determines the classification of debt
and equity securities at the time of purchase and reevaluates the classification
at each balance sheet date. The Company classifies its short-term investments as
available-for-sale and therefore records them at fair value with unrealized
gains and losses, net of taxes, reported as a component of accumulated other
comprehensive income (loss). All available-for-sale securities are classified as
current assets. The cost of investments sold, for purposes of calculating
realized gains and losses, is determined using the first-in, first-out method.
Realized gains and losses are recognized in the statement of operations.
Use of Estimates -- The financial statements are prepared in conformity with
generally accepted accounting principles which require management to make
estimates that affect the reported amounts of assets, liabilities, revenues and
expenses, the disclosure of contingent assets and liabilities and the values of
purchased assets and assumed liabilities in acquisitions. Actual results could
differ from these estimates.
Accounts and Notes Receivable -- In the normal course of business, the Company
extends unsecured credit to its customers related to the sales of various
products. Typically credit terms require payment within thirty days from the
date of shipment. The Company evaluates and monitors the creditworthiness of
each customer on a case-by-case basis.
Allowance for Doubtful Accounts -- The Company provides an allowance for
doubtful accounts based on its continuing evaluation of its customers' credit
risk. The Company generally does not require collateral from its customers.
Inventory -- Inventory, comprised of raw materials, work in process, finished
goods and spare parts, is stated at the lower of cost (first-in, first-out
method) or market. Inventories consisted of:
JANUARY 31,
------------------------
2001 2000
---------- ----------
Raw material................................................ $7,041,500 $2,882,800
Work in process............................................. 126,800 1,938,200
Finished goods.............................................. 49,500 126,400
---------- ----------
7,217,800 4,947,400
Less: Valuation reserve..................................... 510,800 625,000
---------- ----------
$6,707,000 $4,322,400
========== ==========
Fair Value of Financial Instruments -- The fair value of financial instruments
is determined by reference to various market data and other valuation techniques
as appropriate. Management believes that there are no material differences
between the recorded book values of its financial instruments, which include
cash and equivalents, short-term investments, accounts receivable and accounts
payable, and their estimated fair value.
Property and Equipment -- Property and equipment are recorded at historical
cost. Depreciation and amortization is provided using the straight-line method
over the estimated useful lives of two to seven years for computer and other
equipment, purchased software, and furniture and fixtures. Leasehold
improvements are amortized over the shorter of the remaining lease term or the
estimated useful life of the improvement using the straight-line method.
I-44
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
Capitalized leases are initially recorded at the present value of the minimum
payments at the inception of the contracts, with an equivalent liability
categorized as appropriate under current or non-current liabilities. Such assets
are depreciated on the same basis as described above. Interest expense, which
represents the difference between the minimum payments and the present value of
the minimum payments at the inception of the lease, is allocated to accounting
periods using a constant rate of interest over the term of the lease.
Property and equipment are reviewed for impairment whenever events or
circumstances indicate that the asset's undiscounted expected cash flows are not
sufficient to recover its carrying amount. The Company measures impairment loss
by comparing the fair market value, calculated as the present value of expected
future cash flows, to its net book value. Impairment losses, if any, are
recorded currently.
Software Development -- Software development costs where technological
feasibility has not been established are expensed in the period in which they
occurred, otherwise, development costs that will become an integral part of the
Company's products are deferred in accordance with Statement of Financial
Accounting Standards ("SFAS") Nos. 2 and 86. The deferred costs are amortized to
cost of sales using the straight-line method over the remaining estimated two to
three year economic life of the product or the ratio that current revenues for
the product bear to the total of current and anticipated future revenues for
that product. Amortization expense for the fiscal years ended January 31, 2001,
2000 and 1999 was $435,100, $382,700 and $249,600, respectively.
The recoverability of capitalized software costs are reviewed on an ongoing
basis primarily based upon projections of discounted future operating cash flows
from each software product line. The excess amount, if any, of the remaining net
book value over the calculated amount is fully reserved. Engineering, research
and development expense in fiscal year 2000 includes a charge of $307,100
related to a decrease in the net realizable value of capitalized development
costs.
Intangible Assets -- Intangible assets consist of completed technology,
assembled workforce and other assets arising from the acquisition of a business
or business assets. These intangible assets are amortized using the
straight-line method over their estimated useful lives of three years.
Intangible assets are reviewed for impairment whenever events or circumstances
indicate that the asset's undiscounted expected future cash flows are not
sufficient to recover its carrying amount. The Company measures impairment loss
by comparing the fair market value, calculated as the present value of expected
future cash flows, to its net book value or carrying amount. Impairment losses,
if any, are recorded currently.
Revenue Recognition -- The Company's revenues are derived primarily from the
sale of product to its OEM customers and to a lesser extent from the sale of
software licenses, fees associated with technical support, training and
engineering services and royalties. The Company recognizes revenue when
persuasive evidence of an arrangement exists, delivery has occurred, the sales
price is fixed or determinable, collectibility is probable and there are no
post-delivery obligations. Revenue from the sale of hardware products, including
embedded networking semiconductors and controller products, is generally
recognized upon shipment. Revenue from service obligations is deferred and
recognized at the time the service is provided or over the life of the
underlying service or support contract, if applicable.
The Company's software development tools and developments boards often include
multiple elements - hardware, software, post contract customer support ("PCS"),
limited training and a basic hardware design review. Our customers purchase
these products and services during their product development process in which
they use the tools to build network connectivity into the devices they are
manufacturing. The Company recognizes revenue related to these multiple element
arrangements in accordance with Statement of Position ("SOP") No. 97-2 "Software
Revenue Recognition," as amended by SOP 98-4, "Deferral of the Effective Date of
Certain Provisions of SOP 97-2." Revenue related to the sale of these
development products is allocated to the various elements based on
vendor-specific objective evidence of fair value. The portion of revenue
allocated to hardware and software licenses is recognized upon shipment. The
portion of the revenue
I-45
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
allocated to PCS is recognized ratably over the term of the PCS arrangement and
the portion of revenue allocated to training and the hardware design review are
recognized when the service is performed.
The Company's customers have a limited right of return. The Company records an
estimated reserve for warranty costs and an allowance for sales returns during
the month of shipment.
The Company's embedded networking semiconductor and controller products
accounted for 88.3%, 94.0%, and 90.8% of total net sales in fiscal years 2001,
2000 and 1999, respectively. Software development tools and development boards
accounted for 5.6%, 2.0%, and 3.4% of total net sales in fiscal years 2001, 2000
and 1999, respectively, and 6.1%, 4.0%, and 5.8% of net sales in fiscal years
2001, 2000, and 1999, respectively, related to royalty, maintenance and service
revenue.
Income Taxes -- Income taxes are accounted for in accordance with SFAS No. 109
"Accounting for Income Taxes." The statement employs an asset and liability
approach for financial accounting and reporting of deferred income taxes
generally allowing for recognition of deferred tax assets in the current period
for future benefit of net operating loss and research credit carryforwards as
well as items for which expenses have been recognized for financial statement
purposes but will be deductible in future periods. A valuation allowance is
recognized if, on the weight of available evidence, it is more likely than not
that some portion or all of the deferred tax assets will not be realized.
Income and Loss Per Common Share -- The Company computes per share data in
accordance with SFAS No. 128, "Earnings Per Share." SFAS 128 requires dual
presentation of basic and diluted earnings per share on the face of the income
statement. It also requires a reconciliation of the numerator and denominator of
the basic EPS computation to the numerator and denominator of the diluted EPS
computation. Basic income and loss per common share is computed by dividing net
income or loss available to common shareholders by the weighted average number
of common shares outstanding during each period presented. Diluted EPS is based
on the weighted average number of common shares outstanding as well as dilutive
potential common shares, which in the Company's case consist of convertible
securities outstanding, warrants to acquire common stock and shares issuable
under stock benefit plans. Potential common shares are not included in the
diluted loss per share computation if their effect would be anti-dilutive.
Stock-Based Compensation -- The Company follows SFAS No. 123, "Accounting for
Stock Based Compensation." SFAS No. 123 encourages, but does not require,
companies to record compensation cost for stock-based employee compensation. The
Company has chosen to continue to account for employee stock-based compensation
utilizing the intrinsic value method prescribed in Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees." Accordingly,
compensation cost for stock options issued to employees is measured as the
excess, if any, of the fair market price of the Company's stock at the date of
grant over the amount an employee must pay to acquire the stock. As required by
SFAS No. 123, the Company records compensation for stock options issued to
non-employees, in exchange for product or services, utilizing the fair value
method outlined in SFAS No. 123.
Foreign Currency Translation -- The functional currency of the foreign
subsidiary is the local currency. Accordingly, assets and liabilities of the
subsidiary are translated using the exchange rates in effect at the end of the
period, while income and expenses are translated at average rates of exchange
during the period. Gains and losses from translation of foreign operations are
included as other comprehensive income or loss and were not significant for any
of the periods presented.
Derivative Instruments -- In June 1998, the FASB issued SFAS No. 133,
"Accounting for Derivative Instruments and Hedging Activities." SFAS 133
provides a comprehensive and consistent standard for the recognition and
measurement of derivatives and hedging activities and requires all derivatives
to be recorded on the balance sheet at fair value. SFAS 133, as amended, is
effective for years beginning after June 15, 2000.
I-46
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
To date, we have not engaged in derivative and hedging activities, and
accordingly, the adoption of SFAS No. 133 has not had a material impact on our
results of operations, financial position or cash flows.
Recent Accounting Pronouncements -- In March 2000, the FASB issued FASB
Interpretation, or FIN No. 44, "Accounting for Certain Transactions Involving
Stock Compensation -- an Interpretation of APB Opinion No. 25." FIN 44 primarily
clarifies the definition of an employee for purposes of applying APB Opinion No.
25, the criteria for determining whether a plan qualifies as a noncompensatory
plan, the accounting consequences of various modifications to the terms of
previously fixed stock option awards, and the accounting for an exchange of
stock compensation awards in a business combination. The application of FIN 44
did not have a significant impact on our results of operations, financial
position or cash flows.
Reclassifications -- Certain prior period amounts have been reclassified to
conform to the current period presentation. These reclassifications had no
effect on net income (loss) or stockholders' equity.
C. Short-Term Investments
Short-term investments consist of the following available-for-sale securities:
UNREALIZED
------------------
AMORTIZED HOLDING HOLDING
COST MARKET VALUE GAINS LOSSES
---------- ------------ ------- -------
January 31, 2001:
Corporate bonds....................... $1,199,100 $1,203,800 $ 4,700 $ --
Medium and short-term notes........... 1,650,600 1,655,700 5,100 --
Euro dollar bonds..................... 3,918,200 3,934,900 16,700 --
---------- ---------- ------- -------
Total................................. $6,767,900 $6,794,400 $26,500 $ --
========== ========== ======= =======
January 31, 2000:
Corporate bonds....................... $2,038,700 $2,026,900 $ -- $11,800
Medium and short-term notes........... 2,426,600 2,419,600 -- 7,000
Euro dollar bonds..................... 3,764,800 3,757,200 -- 7,600
---------- ---------- ------- -------
Total................................. $8,230,100 $8,203,700 $ -- $26,400
========== ========== ======= =======
The corporate bonds, medium and short-term notes, and euro dollar bonds all
mature within one year. The Company realized no gains or losses on the sale of
short-term investments in 2001 and 2000.
D. Property and Equipment
Property and equipment of the Company consisted of the following components:
JANUARY 31,
--------------------------
2001 2000
----------- -----------
Manufacturing, engineering and plant equipment and
software................................................ $ 5,116,800 $ 3,856,000
Equipment held under capital lease........................ 240,200 240,200
Office furniture and fixtures............................. 740,000 347,700
Leasehold and building improvements....................... 327,100 185,800
----------- -----------
Total property and equipment.................... 6,424,100 4,629,700
Less: Accumulated depreciation............................ (4,088,900) (3,163,300)
----------- -----------
Net book value............................................ $ 2,335,200 $ 1,466,400
=========== ===========
I-47
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
Depreciation expense was $1,042,600, $437,600 and $416,800 for the fiscal years
ended January 31, 2001, 2000 and 1999, respectively.
E. Short-Term Debt
Short-term debt at January 31, 2000 of $779,700 consisted of borrowings under a
$5,000,000 line of credit with Coast Business Credit. The line of credit was
collateralized by substantially all of the assets of the Company and a guarantee
by Sorrento. Interest on related borrowings was at the bank's prime rate plus
2.5%, but not less than 8%. Advances under the line were limited to 80% of
eligible receivables and 30% of eligible inventory. The highest amount and
average amounts of debt outstanding were $4,021,500 and $2,277,100 during the
year ended January 31, 2000 and the weighted average interest rate for the year
ended January 31, 2000 was 10.4%. The Company terminated the line of credit with
Coast Business Credit shortly after January 31, 2000 and repaid the balance due.
On July 31, 2000 the Company obtained a $5,000,000 revolving line of credit with
a bank, which expires May 31, 2001, and is available to fund working capital.
Borrowings under the line of credit are secured by certain Company assets,
including inventory and accounts receivable, and bear interest at the prime rate
plus 0.25% (9.25% at January 31, 2001). The maximum available credit under the
revolving line of credit is equal to the lesser of $5,000,000 and the then
effective borrowing base, as defined in the bank agreement and calculated as a
percentage of accounts receivable. The agreement requires that the Company
maintain certain financial ratios among other restrictive covenants. There were
no borrowings under the revolving line during the fiscal year ended January 31,
2001.
F. Other Current Liabilities
Other current liabilities consisted of the following:
JANUARY 31,
------------------------
2001 2000
---------- ----------
Commissions and royalties................................... $ 410,300 $1,343,800
External product development costs.......................... 440,000 53,000
Compensation and benefits................................... 1,225,000 851,300
Other....................................................... 1,472,000 944,100
---------- ----------
Total............................................. $3,547,300 $3,192,200
========== ==========
G. Receivable from Officer and Affiliate Transactions
During fiscal year 2001, the Company's Chairman and Chief Executive Officer
signed two secured personal promissory notes, borrowing a total of $871,200 from
the Company. The notes accrue interest, commencing on their respective due
dates, at the rate of 8.0% per year, and are due in April and October 2001. The
notes are secured by personal assets owned by the Chairman and Chief Executive
Officer.
In the ordinary course of business a wholly-owned subsidiary of Sorrento,
Uni-Precision Industrial, Ltd., manufactured and assembled products for the
Company on a competitive bid basis. During the years ended January 31, 2001,
2000 and 1999 purchases from Uni-Precision were $74,800, $3,365,900 and
$1,557,200 of which $56,900 was unpaid at January 31, 2000. During fiscal year
2001, the Company began using an alternative sub-contractor and does not
currently conduct business with Uni-Precision.
During fiscal years 2000 and 1999, the Company had transactions with another
subsidiary of Sorrento. Charges to this subsidiary for manufactured goods and
other expenses, including charges related to the sale of
I-48
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
the Company's Stand-Alone Print Server Line, for the years ended January 31,
2000 and 1999 were approximately $1,893,800 and $1,410,500, respectively.
From time to time the Company had received non-interest bearing advances,
including payments of expenses on behalf of the Company, from Sorrento. As of
January 31, 1998, Sorrento began accruing interest on the outstanding balance at
prime rate plus 3% per year. Interest expense attributable to borrowings from
Sorrento amounted to $264,500 and $353,000 for the years ended January 31, 2000
and 1999, respectively. The amount due to Sorrento was repaid following the
Company's initial public offering in the fiscal year ended January 31, 2000.
H. Leases and Other Commitments
(i) Leases
Rental expense under operating leases was $622,500, $455,800 and $460,500 for
the years ended January 31, 2001, 2000 and 1999, respectively. The table below
sets forth minimum payments under operating leases with remaining terms in
excess of one year, at January 31, 2001:
OPERATING
LEASES
----------
2002..................................................... $ 793,300
2003..................................................... 776,000
2004..................................................... 150,600
----------
$1,719,900
==========
In July 1999, the Company entered into a capital lease for certain equipment
that expires in June 2002. At January 31, 2001 and 2000, the net book value of
the equipment under the capital lease amounted to $148,700 and $210,200,
respectively. The remaining capital lease obligation is $10,400 at January 31,
2001.
(ii) Employment Contracts
The Company has employment agreements with certain executives. An agreement with
the Vice President, Industrial Automation, Embedded Markets Europe provides for
a base annual salary of $125,000 subject to annual review by the Compensation
Committee and requires six months notice for termination without cause. An
agreement with the Vice President, Finance and Chief Financial Officer contains
provisions for the payment of one year's base annual salary and the vesting of
his unvested stock options if his employment is terminated without cause. The
Company has an agreement with the President and Chief Operating Officer that
provides for 18 months of base salary if his employment is terminated without
cause within the first twenty-four months of his employment. The Company also
has agreed with the Chief Executive Officer that if the Company is sold to, or
merges with, a company unaffiliated with the Company or Sorrento, all of his
stock options granted at the closing of the Company's initial public offering
would vest immediately.
I. Litigation
On August 31, 2000, Websprocket, LLC filed a suit against the Company in the
United States District Court for the Northern District of California
(Websprocket, LLC v. NetSilicon, Inc., Civil Action No. C-00-20915), claiming
breach of contract. The complaint alleges that the Company breached a technology
development contract that was executed between the Company and Websprocket, LLC
in December 1999. Websprocket, LLC seeks relief including alleged damages of
$2,000,000 plus attorney's fees, a declaration of its rights under the
technology development contract and an injunction requiring the Company to cease
using and return all property of Websprocket, LLC. The Company believes that it
has meritorious
I-49
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
defenses to the claims and intends to contest the lawsuit vigorously. On or
about October 31, 2000, the Company denied the allegations in Websprocket, LLC's
complaint and asserted counterclaims against Websprocket, LLC that included
breach of contract, fraud, and negligent misrepresentation. An unfavorable
resolution of the action could have a material adverse effect on the business,
results of operations or financial condition of the Company.
J. Stockholders' Equity
(i) The Company amended its articles of organization in August 1998 to authorize
the issuance of the following shares: 35,000,000 shares of Common Stock ($0.01
par value) 5,000,000 shares of Preferred Stock ($0.01 par value).
The Company's Board of Directors has discretion to issue preferred stock in such
series and with such preferences as it may designate without the approval of the
holders of common shares.
(ii) On June 30, 1999, the Company effected a 100,000-for-one stock split
resulting in 10,000,000 shares being issued and outstanding post-split. In
connection with the split, Sorrento exchanged its 10,000,000 shares of common
stock for 9,000,000 shares of non-voting and 1,000,000 shares of voting common
stock.
All shareholders' equity accounts have been retroactively restated to reflect
these changes.
(iii) The Company completed an initial public offering on September 15, 1999 in
which 6,037,500 million shares were offered at $7 per share (3,537,500 shares
sold by the Company and 2,500,000 shares sold by Sorrento). Proceeds to the
Company, net of offering costs, were approximately $22.2 million.
The Company has 6,810,100 shares of voting common stock outstanding and
6,972,700 shares of non-voting common stock held by Sorrento as of January 31,
2001.
(iv) On September 12, 2000, the Board of Directors of NetSilicon declared a
dividend of one preferred share purchase right (a "Right") for each share of
common stock outstanding on September 23, 2000 to the stockholders of record on
that date, as part of a rights plan designed to protect the Company's investors
against any potential takeover attempts that are coercive or unfair. The Rights
will be exercisable only if a person or group acquires or announces a tender or
exchange offer that would result in such person or group owning 15% or more of
the voting securities of the Company. Each Right entitles the registered holder
to purchase, at an exercise price of $200.00 per Right, Series A Junior
Participating Preferred Stock of the Company having a market value of $400.00.
The nature of the preferred shares' dividend, liquidation and voting rights are
such that the value of the Preferred Stock purchasable upon exercise of the
Right should approximate the value of a common share. The Rights will expire on
September 12, 2010 unless the expiration date is extended or the Rights redeemed
by the Company. The Company will generally be entitled to redeem the Rights at
$0.01 per Right at any time prior to the 10th day after a person or group has
acquired a 15% voting stock position.
K. Business Acquisitions and Other Capital Stock Transactions
On August 31, 2000, the Company completed the acquisition of the strategic
network technology assets (the "Purchased Assets") of Pacific Softworks
Technology, Inc. ("Pacific"), a subsidiary of PASW, Inc. (formerly Pacific
Softworks, Inc.). The Purchased Assets, which represented substantially all of
the assets of Pacific, will be used by the company to develop and license
embedded network protocols, software that enables electronic devices to
communicate over local and wide area networks.
I-50
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
The purchase price was allocated to the tangible and intangible assets acquired
and liabilities assumed on the basis of their respective estimated fair values
on the acquisition date, as follows:
Completed Technology..................................... $2,417,700
Workforce................................................ 228,700
Fixed Assets............................................. 103,700
Accounts Receivable...................................... 91,500
----------
Total purchase price..................................... $2,841,600
==========
The purchase price consisted of 90,000 shares of common stock of the Company,
valued at $2,271,600 and $570,000 of acquisition-related costs, including
$400,000 for investment banking fees and fees for legal, accounting and
consulting. The purchased completed technology and workforce assets are being
amortized over three years.
During the fourth quarter of fiscal year 2001, the Company recorded an
impairment charge of $957,000 related to a component of the completed technology
intangible asset resulting from the Company's decision to no longer sell or
market the underlying products.
The summary table below, prepared on an unaudited pro forma basis, combines the
results of operations of the Company with the results of operations of Pacific
as if the acquisition of the Purchased Assets had occurred at February 1, 1999.
The unaudited pro forma results are not necessarily indicative of what would
have occurred if the acquisition had been in effect for the periods presented
and are not necessarily indicative of future operating results.
YEAR ENDED JANUARY 31,
--------------------------
2001 2000
----------- -----------
Revenue................................................... $38,544,800 $34,083,400
Net loss.................................................. $(3,546,900) $(1,328,600)
Basic and diluted net loss per share...................... $ (0.26) $ (0.12)
L. Employee Retirement Savings Plan
In fiscal year 2001, the Company established an employee retirement savings plan
(the "Savings Plan") that is designed to qualify as a deferred salary
arrangement under Section 401(k) of the Internal Revenue code. Under the Savings
Plan, participating employees may defer a portion of their pre-tax earnings, up
to the Internal Revenue Service annual contribution limit ($10,500 for calendar
year 2001). Each Plan year, the Company may make discretionary matching
contributions of a percent, if any, of employee pretax contributions. As of
January 31, 2001, there were no discretionary matching contributions made by the
Company.
M. Stock Option Plans and Stock Award Plan
The Company adopted two stock option plans in August 1998: The 1998 Incentive
and Non-Qualified Stock Option Plan and the 1998 Director Option Plan. The
purpose of these plans is to attract, retain, motivate and reward officers,
directors, employees and consultants of the Company to maximize their
contribution towards the Company's success. All options are granted at prices
not less than fair market value at the date of grant and have exercise lives
varying up to 10 years and vest over 1.5 to 4 years. The Company's stock option
plans authorize the issuance of 6,800,000 shares of common stock for the grant
of stock options.
Additionally, certain employees of the Company held options to purchase Sorrento
common stock under Sorrento's stock option plans. All of these options were
granted prior to the Company's initial public offering in September 1999.
I-51
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
The following table summarizes the activity in the Company's stock option plans:
WEIGHTED AVERAGE
NUMBER OF SHARES EXERCISE PRICE
---------------- ----------------
Shares under option at January 31, 1999.............. -- --
Granted............................................ 3,320,778 $7.53
Exercised.......................................... -- --
Canceled........................................... (5,325) 7.00
---------
Shares under option at January 31, 2000.............. 3,315,453 7.53
Granted............................................ 2,549,030 15.53
Exercised.......................................... (155,280) 7.00
Canceled........................................... (658,054) 13.75
---------
Shares under option at January 31, 2001.............. 5,051,149 10.85
=========
Additional information about outstanding options to purchase the Company's
common stock held by at January 31, 2001 is as follows:
OUTSTANDING EXERCISABLE
----------------------------------------- --------------------------
WEIGHTED AVERAGE
----------------------------- WEIGHTED AVERAGE
EXERCISE PRICE PER SHARE SHARES LIFE (YEARS) EXERCISE PRICE SHARES EXERCISE PRICE
------------------------ --------- ------------ -------------- ------- ----------------
$ 3.08 to $ 6.94 903,730 9.83 $ 4.91 31,250 $ 6.35
$ 7.00 2,626,569 8.62 7.00 682,706 7.00
$12.44 to $18.00 893,650 9.07 17.51 59,063 15.10
$18.75 to $34.13 627,200 9.40 26.05 79,375 28.60
--------- -------
$ 3.08 to $34.13 5,051,149 9.02 10.85 852,394 9.55
========= =======
All stock options issued to employees have an exercise price not less than the
fair market value of the common stock on the date of grant, and in accordance
with the accounting for such options utilizing the intrinsic value method there
is no related compensation expense recorded in the Company's financial
statements. Had compensation cost for stock-based compensation related to the
grant of Company and Sorrento options been determined based on the fair value at
the grant dates in accordance with the method delineated in SFAS No. 123, the
Company's income (loss) and per share amounts for the years ended January 31,
2001, 2000 and 1999 would have been revised to the pro forma amounts presented
below:
JANUARY 31,
----------------------------------------
2001 2000 1999
----------- ---------- -----------
Net income (loss):
As reported................................ $(1,256,900) $2,017,600 $(2,422,200)
Pro forma.................................. (8,590,500) 734,200 (2,702,200)
Basic income (loss) per share:
As reported................................ $ (0.09) $ 0.18 $ (0.24)
Pro forma.................................. (0.63) 0.06 (0.27)
Diluted income (loss) per share:
As reported................................ $ (0.09) $ 0.17 $ (0.24)
Pro forma.................................. (0.63) 0.06 (0.27)
The fair value of option grants is estimated on the date of grant utilizing the
Black-Scholes option-pricing model with the following weighted average
assumptions for grants during the year ended January 31, 2001 and
I-52
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
2000, respectively: expected life of option 4.5 years and 4.5 years, expected
volatility of 80.0% and 45.8%, risk-free interest rate of 4.5% and 5.88% and a
0% dividend yield in both years. The fair value, at date of grant, using these
assumptions was $1.98 to $22.16 per option and the weighted average was $10.06
in fiscal year 2001. The fair value, at date of grant, using these assumptions
was $3.18 to $10.34 per option and the weighted average was $3.42 in fiscal year
2000.
The assumptions for grants of Sorrento options for the year ended January 31,
2000 and 1999 were: expected life of option 3 years, expected volatility of 45%,
risk-free interest rate of 5.28% and a 0% dividend yield. The fair value, at
date of grant, using these assumptions was $1.23 to $9.52 per option and the
weighted average was $5.57 in 2000 and $3.11 in 1999.
During fiscal year 2001, the Company issued warrants to purchase 20,000 shares
of common stock at a weighted average exercise price of $17.56 per share. The
warrants were issued in connection with a third party product development
agreement. The Company capitalized the fair value of the warrants, $75,000, as
capitalized software costs on the balance sheet. During the year ended January
31, 2000, the Company issued non-statutory options to non-employees for the
purchase of 25,000 shares of common stock at a weighted average exercise price
of $7.00 per share. Such options were granted for services provided during the
year. Accordingly, the Company recorded the $78,700 fair value of such awards as
an expense in the accompanying financial statements.
In April 2000, the Company's board of directors adopted the 2000 Employee Stock
Purchase Plan ("ESPP"). The aggregate number of shares which may be issued under
the plan is 500,000 and is subject to adjustment. The ESPP allows eligible
participating employees to purchase shares of common stock as determined at
specific dates at six month intervals. As of January 31, 2001, approximately
$104,000 of payroll deductions were withheld from employees for future purchases
under the plan.
N. Income Taxes
The Company's provision for taxes on income consists of the following:
YEARS ENDED JANUARY 31,
-----------------------
2001 2000 1999
----- ----- -----
Income taxes:
Current..................................................... $-- $-- $--
Deferred.................................................... -- -- --
-- -- --
Total....................................................... -- -- --
Allocation of tax expense to discontinued operations........ -- -- --
-- -- --
Income tax benefit.......................................... $-- $-- $--
== == ==
The Company's operations generate permanent and temporary differences for
depreciation, amortization and valuation allowances. The Company has recorded a
100% valuation allowance against its deferred tax assets, including net
operating loss and research credit carryforwards, in accordance with the
provisions of Statement of Financial Accounting Standards No. 109. Such
allowance is recognized if, based on the weight of available evidence, it is
more likely than not that some portion or all of the deferred tax assets will
not be realized.
I-53
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
Deferred income taxes reflect the impact of temporary differences between the
amount of assets and liabilities recognized for financial reporting purposes and
such amounts recognized for tax purposes. Deferred tax assets and liabilities
are comprised of the following:
JANUARY 31,
--------------------------
2001 2000
----------- -----------
Deferred tax assets:
Reserves and allowances................................. $ 741,700 $ 559,800
Research and development credits........................ 457,100 221,000
Tax loss carryforward................................... 1,927,500 1,480,900
Intangible assets....................................... 512,800 --
Fixed assets............................................ 207,400 --
Other................................................... -- 150,500
----------- -----------
Gross deferred tax assets............................ 3,846,500 2,412,200
Less: valuation allowance............................... (3,428,900) (2,087,400)
----------- -----------
Deferred tax asset........................................ 417,600 324,800
----------- -----------
Deferred tax liabilities:
Software developments costs............................. (417,600) (324,800)
----------- -----------
Deferred tax liabilities............................. (417,600) (324,800)
----------- -----------
Net deferred tax asset (liab)........................ $ -- $ --
=========== ===========
At January 31, 2001, the Company has federal net operating losses of
approximately $4,611,000 and research and development credits of $457,100 that
may be available to reduce future taxable income; these carryforwards expire at
various dates through 2022. The Internal Revenue Code of 1986, as amended,
reduces the extent to which NOLs and tax credit carryforwards may be utilized in
a single taxable year in the event there has been an ownership change of a
company as defined by applicable Code provisions. The acquisition of the Company
by Sorrento in September 1996 resulted in such an ownership change. Further
ownership changes, as defined by the Code, may reduce the extent to which any
net operating losses and credits may be utilized.
These carryforwards expire as follows:
NOL CREDITS
---------- --------
2008................................................. $ -- $ 54,800
2009................................................. -- 102,300
2010................................................. 384,800 63,900
2013................................................. 998,100 --
2014................................................. 2,130,500 --
2022................................................. 1,097,600 236,100
---------- --------
$4,611,000 $457,100
========== ========
I-54
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
The reconciliation between income tax expense and a theoretical United States
tax computed by applying a rate of 35% for the fiscal years ended January 31,
2001, 2000 and 1999 is as follows:
YEARS ENDED JANUARY 31,
----------------------------------------
2001 2000 1999
----------- ---------- -----------
Income (loss) before income taxes from
continuing operations...................... $(1,256,900) $2,017,600 $(2,132,400)
=========== ========== ===========
Theoretical tax expense (benefit) at 35%..... $ (439,900) $ 706,200 $ (746,300)
Taxable income absorbed by former parent..... -- (988,600) --
Impact of non-qualified stock options........ (353,900) -- (24,300)
Impact of state taxes and other taxes........ (159,900) 186,300 (284,900)
R & E tax credit............................. (457,100) -- --
Change in valuation allowance................ 1,341,500 96,100 1,055,500
Other........................................ 69,300 -- --
----------- ---------- -----------
Tax benefit.................................. $ -- $ -- $ --
=========== ========== ===========
The net change in the valuation allowance was an increase of $1,341,500 for the
fiscal year ending January 31, 2001 and an increase of $96,100 for the fiscal
year ending January 31, 2000. The valuation allowance of $3,428,900 at January
31, 2001 includes $426,200 related to deductions for non-qualified stock options
which will be credited to additional paid-in capital if realized.
O. Earnings Per Share Calculation
The following data show the amounts used in computing basic earnings per share:
YEARS ENDED JANUARY 31,
----------------------------------------
2001 2000 1999
----------- ---------- -----------
Net income (loss)............................ $(1,256,900) $2,017,600 $(2,422,200)
Less: preferred dividends.................... -- -- --
=========== ========== ===========
Net income (loss) available to common
shareholders used in basic EPS............. $(1,256,900) $2,017,600 $(2,422,200)
=========== ========== ===========
Average number of common shares used in basic
EPS........................................ 13,674,200 11,326,600 10,000,000
=========== ========== ===========
The Company had a net loss for the fiscal years ending January 31, 2001 and
1999. Accordingly, the effect of dilutive securities including warrants to
acquire common stock and stock options, vested and non-vested, are not included
in the calculations of EPS because their effect would be anti-dilutive. The
following data shows the effect on income and the weighted average number of
shares of dilutive potential common stock.
YEARS ENDED JANUARY 31,
-----------------------------------------
2001 2000 1999
----------- ----------- -----------
Net income (loss) available to common
shareholders used in basic EPS............ $(1,256,900) $ 2,017,600 $(2,422,200)
Adjustments................................. -- -- --
----------- ----------- -----------
Net income (loss) available to common
shareholders after assumed conversions of
dilutive securities....................... $(1,256,900) $ 2,017,600 $(2,422,200)
=========== =========== ===========
I-55
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
YEARS ENDED JANUARY 31,
-----------------------------------------
2001 2000 1999
----------- ----------- -----------
Average number of common shares used in
basic EPS................................. 13,674,200 11,326,600 10,000,000
Effect of dilutive securities:
Stock options............................. -- 651,600 --
----------- ----------- -----------
Average number of common shares and dilutive
potential common stock used in dilutive
EPS....................................... 13,674,200 11,978,200 10,000,000
=========== =========== ===========
The shares issuable upon exercise of options and warrants represent the
quarterly average of the shares issuable at exercise net of the shares assumed
to have been purchased, at the average market price for the period, with the
assumed exercise proceeds. Accordingly, options with exercise prices in excess
of the average market price for the period are excluded because their effect
would be anti-dilutive. For the year ended January 31, 2001 and 2000, 5,051,100
and 42,000 options, respectively, were excluded from the calculation of diluted
income per share, as their effect would be anti-dilutive.
P. Subsequent Events
On February 16, 2001, the Company purchased all of the equity securities of
Dimatech Corporation ("Dimatech") pursuant to a Stock Purchase Agreement, dated
as of February 16, 2001, among Dimatech, Hiroyuki Kataoka and the Company. Prior
to the acquisition, Dimatech was a major distributor of the Company's product in
Japan and Asia and Hiroyuki Kataoka was the President and owner of Dimatech.
Dimatech, under a new name, will continue to operate in Japan and Asia as a
distributor of the Company's products and will provide technical support and
other services to customers in the region. Hiroyuki Kataoka has joined
NetSilicon as Vice President of Intelligent Device Market for Japan.
The purchase price consisted of 241,667 shares of the common stock of the
Company, valued at $1,239,100, assumed liabilities of $835,000, $250,000 in cash
and $116,500 of acquisition related costs, including legal and accounting fees.
Q. Supplemental Cash Flow Disclosures
Cash paid for interest and income taxes are as follows:
YEARS ENDED JANUARY 31,
-------------------------------
2001 2000 1999
------- -------- --------
Interest............................................ $21,900 $898,400 $262,900
Income taxes........................................ $ -- $ -- $ --
Non-cash investing and financing activities are as follows:
YEARS ENDED JANUARY 31,
-------------------------------
2001 2000 1999
------- -------- --------
Unrealized gains (losses) on investments............ $52,900 $(26,400) $ --
Common stock options issued to non-employees........ $75,000 $ 78,700 $ --
Capital leases entered in during the year........... $ -- $240,200 $ --
I-56
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
R. Concentrations of Credit Risk
Financial instruments that potentially subject the Company to concentrations of
credit risk consist primarily of temporary cash investments and trade
receivables. The Company places its temporary cash investments with high credit
financial institutions.
Substantially all of the Company's OEM office imaging customers are
headquartered in Japan. The current economic conditions existing in many Asian
countries, including Japan, are uncertain and may have a significant effect on
the business operations of such OEM customers. Consequently, the Company's
dependence on its OEM office imaging customers in Japan and the uncertain
factors affecting Japan's economic condition could have a material adverse
effect on the Company's business, operating results, cash flows and financial
condition.
Although the Company is directly affected by the economic well being of its
significant customers listed in the following tables, management does not
believe that significant credit risk exists at January 31, 2001. The Company
performs ongoing credit evaluations of its customers' financial conditions and
does not require collateral.
The following data shows the customers accounting for more than 10% of net
receivables:
JANUARY 31,
------------
2001 2000
---- ----
Customer A.................................................. 17.1% 24.7%
Customer B.................................................. 11.0 3.4
Customer C.................................................. 6.9 15.3
Customer D.................................................. 6.7 11.0
The following data shows the net sales to major customers (customers who
represented 10% or more of net sales during any of the periods shown) as a
percentage of net sales:
YEARS ENDED JANUARY 31,
-----------------------
2001 2000 1999
----- ----- -----
Customer A.................................................. 23.2% 23.8% 9.6%
Customer B.................................................. 20.0 25.8 4.3
Customer E.................................................. 4.9 12.5 11.6
Customer D.................................................. 3.9 5.1 11.4
Customer F.................................................. 3.3 2.7 11.6
S. Discontinued Operation
Effective May 1, 1998 the Company sold its Stand-Alone Print Server Line to
Sorrento as described in Note A. The agreement provides for the terms and
conditions of the transfer by the Company to Sorrento of the right to
manufacture and sell Stand-Alone Print Server products. The agreement provides
that Sorrento shall have the right to manufacture and sell the Company's
Stand-Alone Print Servers to distributors who will then market such products
directly to the consumer. The Company has assigned accounts receivables accruing
after July 31, 1998, computer software and furniture, fixtures, equipment,
software licenses and trademarks to Sorrento. Sorrento will pay any future
licensing fees. Sorrento has the option to acquire inventory of Stand-Alone
Print Servers at the Company's cost during the period of the agreement. The
agreement requires the Company to provide certain engineering support to
Sorrento, for which Sorrento shall pay 100% of the actual cost of such support
to the Company. It also requires Sorrento to assign all its rights in the
trademark NET+ARM to the Company and requires Sorrento to use its best efforts
to obtain consent in writing from
I-57
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
ARM Limited to the assignment of the rights to NET+ARM. The agreement terminated
in 1999. Lastly, Sorrento has agreed to cause certain intellectual property
previously owned by Sorrento to be co-owned by the Company and Sorrento.
The Company entered into a supply agreement with Sorrento pursuant to which the
Company sells to Sorrento several products, including the NET+ARM chips for
fixed prices. The prices are subject to change consistent with any changes in
the Company's costs for such products. The agreement also provides that Sorrento
manufactures products for the Company at Sorrento's best price, as determined by
mutual agreement. The agreement has a term of five years and does not obligate
Sorrento to purchase any products from the Company or the Company to utilize
Sorrento for manufacturing.
The Company and Sorrento entered into a one-year sublease agreement for
approximately 6,000 square feet of office space at the Company's facilities for
an annual rental of $88,000 per year, payable quarterly. The sublease terminated
in September 1999.
T. Segment Information
Information in the tables below is presented on the same basis utilized by the
Company to manage its business. The Company manages its business primarily on a
geographic basis. The Company operates in one principle industry segment: the
development and marketing of embedded networking solutions. The Company's
primary products include integrated semiconductor and controller products and
are sold to customers in a broad array of markets including telecommunications
and telephony, industrial automation, office imaging, building automation and
control, home automation, data acquisition, point-of-sale, and wireless access.
The company licenses software products that are embedded into electronic devices
to enable Internet and Web-based communications. Revenue from these software
product licenses was 1% of total net sales in fiscal year 2001 and less than 1%
in fiscal year 2000. The company also receives revenue from royalty and
services, including technical support.
Summary information by geography is as follows:
Geographic:
YEARS ENDED JANUARY 31,
-----------------------------------------
2001 2000 1999
----------- ----------- -----------
Net sales:
United States............................. $16,669,100 $15,917,000 $ 6,604,600
Asia...................................... 15,090,900 14,153,100 5,277,400
Europe, Middle East, Africa............... 3,222,800 1,575,700 1,475,000
Other..................................... 2,399,300 195,100 16,000
----------- ----------- -----------
Total net sales................... $37,382,100 $31,840,900 $13,373,000
=========== =========== ===========
Export sales and certain income and expense items are reported in the geographic
area where the final sale to customers is made, rather than where the
transaction originates. Other net sales include sales to Australia, New Zealand,
Canada and South America for each period presented. The Company does not have
significant long-lived assets at foreign locations.
I-58
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
Summary information by product and service is as follows:
YEARS ENDED JANUARY 31,
-----------------------------------------
2001 2000 1999
----------- ----------- -----------
Net sales:
Semiconductor and controller products,
including development tools............ $35,101,900 $30,567,300 $12,597,400
Royalty, maintenance, service and other... 2,280,200 1,273,600 775,600
----------- ----------- -----------
Total net sales................... $37,382,100 $31,840,900 $13,373,000
=========== =========== ===========
U. Selected Quarterly Financial Data (Unaudited)
The following table sets forth certain unaudited quarterly results of operations
of the Company for the fiscal years ended January 31, 2001 and 2000. In the
opinion of management, this information has been prepared on the same basis as
the audited financial statements and includes all adjustments necessary for a
fair presentation of Company's operations. This quarterly information should be
read in conjunction with the audited financial statements and accompanying notes
included in this annual report on Form 10-K. Operating results for the quarterly
periods are not necessarily indicative of future results of operations. (In
thousands except per share data.)
FISCAL YEAR 2001 FISCAL YEAR 2000
----------------------------------- ----------------------------------
Q1-01 Q2-01 Q3-01 Q4-01 Q1-00 Q2-00 Q3-00 Q4-00
------ ------ ------- ------- ------ ------ ------- ------
Net sales.............................. $9,010 $9,857 $10,688 $ 7,827 $5,814 $7,515 $10,149 $8,363
Cost of sales.......................... 3,512 4,129 4,429 3,118 3,208 3,865 4,654 3,696
------ ------ ------- ------- ------ ------ ------- ------
Gross margin........................... 5,498 5,728 6,259 4,709 2,606 3,650 5,495 4,667
Operating expense...................... 4,941 5,223 5,805 8,364 2,352 3,167 4,522 4,153
------ ------ ------- ------- ------ ------ ------- ------
Operating income(loss)................. 557 505 454 (3,655) 254 483 973 514
Interest income (expense).............. 224 241 218 199 (238) (175) (68) 275
------ ------ ------- ------- ------ ------ ------- ------
Net income (loss)...................... $ 781 $ 746 $ 672 $(3,456) $ 16 $ 308 $ 905 $ 789
====== ====== ======= ======= ====== ====== ======= ======
Earnings per share:
Basic................................ $ 0.06 $ 0.05 $ 0.05 $ (0.25) $ 0.00 $ 0.03 $ 0.08 $ 0.06
Diluted.............................. $ 0.06 $ 0.05 $ 0.04 $ (0.25) $ 0.00 $ 0.03 $ 0.07 $ 0.05
Weighted shares outstanding:
Basic................................ 13,569 13,621 13,718 13,782 10,000 10,000 11,769 13,538
Diluted.............................. 15,865 15,928 15,813 13,782 10,000 10,000 12,435 15,410
The net loss in the fourth quarter of fiscal year 2001 was due primarily to
non-recurring asset impairment charges of $1.5 million and a decrease in revenue
resulting from an economic slowdown that affected our office imaging customers.
I-59
NetSilicon, Inc.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (Continued)
V. Valuation and Qualifying Accounts
Changes in the inventory valuation reserve were as follows:
Balance at January 31, 1998................................. $ 192,000
Additions charged to costs and expenses................... 131,800
Amounts used during year.................................. (199,200)
---------
Balance at January 31, 1999................................. 124,600
Additions charged to costs and expenses................... 554,500
Amounts used during year.................................. (54,100)
---------
Balance at January 31, 2000................................. 625,000
Additions charged to costs and expenses................... --
Amounts used during year.................................. (114,200)
---------
Balance at January 31, 2001................................. $ 510,800
=========
Changes in the accounts receivable and sales valuation reserves were as follows:
Balance at January 31, 1998................................. $ 17,100
Additions charged to costs and expenses................... 312,000
Amounts used during year.................................. (29,100)
--------
Balance at January 31, 1999................................. 300,000
Additions charged to costs and expenses................... 443,900
Amounts used during year.................................. (40,900)
--------
Balance at January 31, 2000................................. 703,000
Additions charged to costs and expenses................... --
Amounts used during year.................................. (32,000)
--------
Balance at January 31, 2001................................. $671,000
========
I-60
EXHIBIT INDEX
EXHIBIT
NO. DESCRIPTION OF EXHIBIT
------- ----------------------
3.1 Restated Articles of Organization of the Company, as amended
(filed as Exhibit 3.1 to the Company's Registration
Statement on Form S-1 File No. 333-62231, and incorporated
herein by reference)
3.2 Restated By-Laws of the Company, as amended (filed as
Exhibit 3.2 to the Company's Quarterly Report on Form 10-Q
filed on September 12, 2000, and incorporated herein by
reference)
4.1 Specimen of stock certificate for shares of common stock
(filed as Exhibit 4 to the Company's Registration Statement
on Form S-1, File No. 333-62231, and incorporated herein by
reference)
4.2 Rights Agreement, dated as of September 12, 2000, as
amended, between the Company and American Stock Transfer and
Trust Company (filed as Exhibit 4.1 to the Company's current
report on Form 8-K, filed September 13, 2000, and
incorporated herein by reference)
10.1 NetSilicon, Inc. Amended and Restated 1998 Incentive and
Non-qualified Stock Option Plan (filed as Exhibit 10.1 to
the Company's Registration Statement on Form S-1, File No.
333-62231, and incorporated herein by reference)
10.2 NetSilicon, Inc. Amended and Restated 1998 Director Stock
Option Plan (filed as Exhibit 10.2 to the Company's
Registration Statement on Form S-1, File No. 333-1328, and
incorporated herein by reference)
10.3 Supply Agreement between Osicom Technologies, Inc. and the
Company dated as of May 1, 1998 (filed as Exhibit 10.3 to
the Company's Registration Statement on Form S-1 File No.
333-62231, and incorporated herein by reference)
10.4 Intercompany Agreement between Osicom Technologies, Inc. and
the Company dated as of May 1, 1998 (filed as Exhibit 10.4
to the Company's Registration Statement on Form S-1 File No.
333-62231, and incorporated herein by reference)
10.5 Agreement of Sublease between Osicom Technologies, Inc. and
the Company dated as of August 1, 1998 (filed as Exhibit
10.5 to the Company's Registration Statement on Form S-1
File No. 333-62231, and incorporated herein by reference)
10.6 Loan and Security Agreement between the Company and Coast
Business Credit dated October 11, 1996, as amended (filed as
Exhibit 10.6 to the Company's Registration Statement on Form
S-1 File No. 333-62231, and incorporated herein by
reference)
10.7 Amendment No. 2 to the Loan and Security Agreement between
the Company and Coast Business Credit dated October 28, 1998
(filed as Exhibit 10.7 to the Company's Registration
Statement on Form S-1 File No. 333-62231, and incorporated
herein by reference)
10.8 Employment Agreement between the Company and Michael Evensen
dated October 1, 1998 (filed as Exhibit 10.8 to the
Company's Registration Statement on Form S-1 File No.
333-62231, and incorporated herein by reference)
10.10 Trademark License Agreement between ARM Limited and Sorrento
dated July 14, 1998 (filed as Exhibit 10.10 to the Company's
Registration Statement on Form S-1 File No. 333-62231, and
incorporated herein by reference)
10.11 Software License Agreement between Integrated Systems, Inc.
and Sorrento dated November 14, 1997, as amended (filed as
Exhibit 10.11 to the Company's Registration Statement on
Form S-1 File No. 333-62231, and incorporated herein by
reference)
10.12 License Agreement between Peerless Systems Corporation and
Sorrento, DPI Print Server Division for Peerless Standard
Input/Output (PSIO) dated August 10, 1998 (filed as Exhibit
10.12 to the Company's Registration Statement on Form S-1
File No. 333-62231, and incorporated herein by reference)
10.13 Novell Embedded Systems Technology Master Agreement between
Novell, Inc. and the Company (formerly Digital Products,
Inc.), dated December 1, 1995, as amended (filed as Exhibit
10.13 to the Company's Registration Statement on Form S-1
File No. 333-62231, and incorporated herein by reference)
10.14 Letter Agreement Amendment to Intercompany Agreement between
Sorrento and the Company (filed as Exhibit 10.14 to the
Company's Registration Statement on Form S-1 File No.
333-62231, and incorporated herein by reference)
I-61
EXHIBIT
NO. DESCRIPTION OF EXHIBIT
------- ----------------------
10.15 Letter Agreement between the Company and Cornelius Peterson
VIII (filed as Exhibit 10.15 to the Company's Registration
Statement on Form S-1 File No. 333-62231, and incorporated
herein by reference)
10.16 Employment Agreement, as amended, between the Company and
Michael Evensen dated as of October 1, 1998 and amended as
of June 19, 1999.
10.17 Letter Agreement between the Company and Daniel J. Sullivan
dated as of June 18, 1999.
23.1 Consent of BDO Seidman, LLP, independent accountants
I-62
EXHIBIT 23.1
CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS
NetSilicon, Inc.
Waltham, Massachusetts
We hereby consent to the incorporation by reference in the Registration
Statement on Form S-8 (including a Reoffer Prospectus on Form S-3)(No.
333-32368) and the Registration Statements on Form S-8 (No. 333-44818) and Form
S-3 (No. 333-47670) of our audit report dated February 23, 2001, relating to the
financial statements of NetSilicon, Inc. appearing in the Company's Annual
Report on Form 10-K for the year ended January 31, 2001.
BDO SEIDMAN, LLP
Boston, Massachusetts
May 1, 2001
I-63
NetSilicon, the NetSilicon logo, NET+Works, NET+OS and NET+Lx are trademarks of
NetSilicon, Inc. DecisioNet is a trademark of NCR Corporation. Palm is a
trademark of Palm, Inc. Linux is a registered trademark of Linus Torvalds. All
other trademarks are property of their respective owners.
I-64
ANNEX J
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
---------------------
FORM 10-Q
(MARK ONE)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED OCTOBER 27, 2001.
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO .
COMMISSION FILE NUMBER 0-26761
NETSILICON, INC.
(Exact name of registrant as specified in its charter)
MASSACHUSETTS 04-2826579
(State of incorporation) (I.R.S. Employer Identification No.)
411 WAVERLEY OAKS RD., BLDG. 227, WALTHAM, MASSACHUSETTS 02452
(Address of principal executive office)
(781) 647-1234
(Telephone number)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate the number of shares outstanding of each of the issuer's classes
of Common Stock, as of the latest practicable date.
7,093,700 shares of Voting Common Stock, $0.01 par value, as of December 6,
2001; 6,972,700 shares of Non-Voting Common Stock, $0.01 par value, as of
December 6, 2001.
--------------------------------------------------------------------------------
--------------------------------------------------------------------------------
J-1
NETSILICON, INC.
TABLE OF CONTENTS
PAGE
----
Part I. Financial Information
Item 1. Financial Statements........................................ J-3
Condensed Consolidated Balance Sheets October 27, 2001 and
January 31, 2001............................................ J-3
Condensed Consolidated Statements of Operations Three Months
and Nine Months Ended October 27, 2001 and October 28,
2000........................................................ J-4
Condensed Consolidated Statements of Cash Flows Nine Months
Ended October 27, 2001 and October 28, 2000................. J-5
Notes to Condensed Consolidated Financial Statements........ J-6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations................................... J-10
Item 3. Quantitative and Qualitative Disclosure About Market Risk... J-24
Part II. Other Information
Item 1. Legal Proceedings........................................... J-26
Item 2. Changes in Securities and Use of Proceeds................... J-26
Item 3. Defaults Upon Senior Securities............................. J-26
Item 4. Submission of Matters to a Vote of Security Holders......... J-26
Item 5. Other Information........................................... J-26
Item 6. Exhibits and Reports on Form 8-K............................ J-26
Signatures............................................................ J-27
J-2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
NETSILICON, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
OCTOBER 27, JANUARY 31,
2001 2001
------------ -----------
(UNAUDITED)
ASSETS
Current Assets
Cash and equivalents...................................... $ 8,423,000 $ 5,999,200
Short-term investments.................................... 2,350,600 6,794,400
Accounts receivable, net.................................. 3,355,200 4,660,300
Inventory, net............................................ 4,470,000 6,707,000
Prepaid expenses and other current assets................. 1,283,100 1,628,600
------------ -----------
Total Current Assets................................. 19,881,900 25,789,500
Property and Equipment, Net................................. 2,072,400 2,335,200
Intangible Assets, Net...................................... 1,512,200 1,351,800
Other Assets................................................ 2,618,700 1,924,600
------------ -----------
Total Assets......................................... $ 26,085,200 $31,401,100
============ ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Accounts payable.......................................... $ 2,612,600 $ 2,787,100
Deferred revenue.......................................... 418,700 343,000
Other current liabilities................................. 4,285,200 3,557,700
------------ -----------
Total Current Liabilities............................ 7,316,500 6,687,800
------------ -----------
Stockholders' Equity
Preferred stock, $0.01 par value; 5,000,000 authorized;
none issued............................................ -- --
Common stock, $0.01 par value; 35,000,000 authorized;
issued and outstanding:
Voting (7,093,700 and 6,810,100 shares)........... 70,900 68,100
Non-voting (6,972,700 shares)..................... 69,700 69,700
Additional paid-in capital................................ 29,575,400 28,187,400
Accumulated other comprehensive income.................... 9,200 26,500
Accumulated deficit....................................... (10,956,500) (3,638,400)
------------ -----------
Total Stockholders' Equity........................... 18,768,700 24,713,300
------------ -----------
Total Liabilities and Stockholders' Equity.................. $ 26,085,200 $31,401,100
============ ===========
See accompanying notes to condensed consolidated financial statements.
J-3
NETSILICON, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
THREE MONTHS ENDED NINE MONTHS ENDED
------------------------- -------------------------
OCTOBER 27, OCTOBER 28, OCTOBER 27, OCTOBER 28,
2001 2000 2001 2000
----------- ----------- ----------- -----------
(UNAUDITED)
Net Sales................................ $ 7,171,000 $10,687,700 $21,200,700 $29,554,600
Cost of Sales............................ 3,305,500 4,429,300 9,686,000 12,069,700
----------- ----------- ----------- -----------
Gross Margin............................. 3,865,500 6,258,400 11,514,700 17,484,900
----------- ----------- ----------- -----------
Operating Expenses
Selling and marketing.................. 2,290,700 2,819,200 7,659,700 8,151,300
Engineering, research and
development......................... 1,833,900 1,900,100 5,665,900 4,693,500
General and administrative............. 2,642,200 1,085,300 5,346,300 3,124,800
Amortization of intangibles............ 168,600 -- 473,400 --
----------- ----------- ----------- -----------
Total Operating Expenses.......... 6,935,400 5,804,600 19,145,300 15,969,600
----------- ----------- ----------- -----------
Operating Income (Loss).................. (3,069,900) 453,800 (7,630,600) 1,515,300
Interest income, net................... 79,700 218,200 351,600 683,100
----------- ----------- ----------- -----------
Income (Loss) Before Taxes on Income..... (2,990,200) 672,000 (7,279,000) 2,198,400
Taxes on income (benefit).............. (26,100) -- 39,100 --
----------- ----------- ----------- -----------
Net Income (Loss)........................ $(2,964,100) $ 672,000 $(7,318,100) $ 2,198,400
=========== =========== =========== ===========
Net Income (Loss) per Common Share
Basic............................... $ (0.21) $ 0.05 $ (0.52) $ 0.16
Diluted............................. $ (0.21) $ 0.04 $ (0.52) $ 0.14
Shares Used in per Share Calculation
Basic............................... 14,054,789 13,719,643 14,020,395 13,636,354
Diluted............................. 14,054,789 15,814,393 14,020,395 15,911,922
See accompanying notes to condensed consolidated financial statements.
J-4
NETSILICON, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED
--------------------------
OCTOBER 27, OCTOBER 28,
2001 2000
------------ -----------
(UNAUDITED)
Cash Flows from Operating Activities:
Net income (loss)....................................... $(7,318,100) $ 2,198,400
Adjustments to reconcile net income (loss) to net cash
used in operating activities:
Depreciation and amortization........................ 1,731,000 1,179,000
Other asset impairment charges....................... 58,000 --
Changes in operating assets and liabilities, net of
effects of acquisition:
Accounts receivable................................ 2,323,000 (3,189,900)
Inventories........................................ 2,291,600 (2,281,700)
Other current assets............................... (481,100) (40,200)
Accounts payable................................... (743,500) 1,545,000
Other current liabilities.......................... 472,500 (257,400)
Deferred revenue................................... 75,700 268,300
----------- -----------
Net Cash Used In Operating Activities........... (1,590,900) (578,500)
----------- -----------
Cash Flows from Investing Activities:
Proceeds from sale of short-term investments............ 4,433,300 170,000
Purchases of property and equipment..................... (671,500) (1,669,300)
Cash acquired (paid) in acquisition (net of cash paid
and direct acquisition costs of $347,800 in 2001).... 413,600 (439,700)
Software development costs.............................. (63,000) (426,900)
Other assets............................................ (213,000) (308,700)
----------- -----------
Net Cash Provided by (Used In) Investing
Activities.................................... 3,899,400 (2,674,600)
----------- -----------
Cash Flows from Financing Activities:
Issuance of notes receivable to officer................. -- (871,200)
Repayments of short-term debt........................... -- (779,700)
Payments of capital lease obligation.................... (10,900) (189,000)
Proceeds from issuance of stock......................... 133,000 --
Proceeds from exercise of stock options................. -- 1,087,700
----------- -----------
Net Cash Provided by (Used In) Financing
Activities.................................... 122,100 (752,200)
----------- -----------
Effect of Exchange Rate Changes on Cash and
Equivalents................................... (6,800) --
----------- -----------
Increase (Decrease) in Cash and Equivalents............... 2,423,800 (4,005,300)
Cash and Equivalents -- Beginning of Period............... 5,999,200 11,096,500
----------- -----------
Cash and Equivalents -- End of Period..................... $ 8,423,000 $ 7,091,200
=========== ===========
See accompanying notes to condensed consolidated financial statements.
J-5
NETSILICON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
1. BASIS OF PRESENTATION
In the opinion of management, the accompanying condensed consolidated
financial statements include all adjustments necessary for a fair presentation
of NetSilicon, Inc.'s (the "Company") financial position, results of operations
and cash flows for this interim period. This quarterly information should be
read in conjunction with the audited financial statements and accompanying notes
included in the Company's 2001 Form 10-K as filed with the Securities and
Exchange Commission ("SEC") on May 1, 2001.
The financial statements are prepared in conformity with generally accepted
accounting principles, which require management to make estimates that affect
the reported amounts of assets, liabilities, revenues and expenses, and the
disclosure of contingent assets and liabilities. Actual results could differ
from these estimates.
Certain prior period amounts have been reclassified to conform to the
current period presentation. These reclassifications had no effect on net income
(loss) or stockholders' equity.
Operating results for the interim period are not necessarily indicative of
results that may be expected for the entire fiscal year.
2. INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out) or
market. Cost is computed using standard costs, which approximate actual cost on
a first-in, first-out basis. Inventories consist of:
OCTOBER 27, 2001 JANUARY 31, 2001
---------------- ----------------
Raw material........................................... $4,318,300 $6,543,000
Work in process........................................ 18,600 118,100
Finished Goods......................................... 133,100 45,900
---------- ----------
Total Inventory........................................ $4,470,000 $6,707,000
========== ==========
3. EARNINGS PER SHARE CALCULATION
Basic earnings per share is computed based on the weighted average number
of shares outstanding during the period. Diluted earnings per share is computed
based on the weighted average number of shares outstanding during the period
increased by the effect of dilutive potential common shares which consist of
shares issuable under stock benefit plans and warrants.
J-6
NETSILICON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following is a reconciliation of the numerator and denominators of the
basic and diluted per share computations:
THREE MONTHS ENDED NINE MONTHS ENDED
------------------------- -------------------------
OCTOBER 27, OCTOBER 28, OCTOBER 27, OCTOBER 28,
2001 2000 2001 2000
----------- ----------- ----------- -----------
Net income (loss) available to
common shareholders, basic and
diluted........................ $(2,964,100) $ 672,000 $(7,318,100) $ 2,198,400
=========== =========== =========== ===========
Weighted-average number of common
shares used in basic earnings
per share...................... 14,054,789 13,719,643 14,020,395 13,636,354
Effect of dilutive
securities -- stock options.... -- 2,094,750 -- 2,275,568
----------- ----------- ----------- -----------
Weighted-average number of common
shares and dilutive potential
common stock used in dilutive
earnings per share............. 14,054,789 15,814,393 14,020,395 15,911,922
=========== =========== =========== ===========
The shares issuable upon exercise of options and warrants represent the
shares issuable at exercise net of the shares assumed to have been purchased, at
the average market price for the period, with the assumed exercise proceeds.
Accordingly, options and warrants with exercise prices in excess of the average
market price for the period are excluded because their effect would be
anti-dilutive. The Company had a net loss for the three and nine months ended
October 27, 2001. The effect of dilutive securities including stock options and
warrants to acquire common stock are not included in the calculation of earnings
(loss) per share for the periods ended October 27, 2001 because their effect
would be anti-dilutive.
4. ACQUISITION
On February 16, 2001, the Company purchased all of the equity securities of
Dimatech Corporation ("Dimatech") pursuant to a Stock Purchase Agreement, dated
as of February 16, 2001, by and among Dimatech, Hiroyuki Kataoka and the
Company. Prior to the acquisition, Dimatech was a major distributor of the
Company's products in Japan and Asia and Hiroyuki Kataoka was the President and
owner of Dimatech. Dimatech, under a new name, continues to operate in Japan and
Asia as a distributor of the Company's products and provides technical support
and other services to customers in the region. Hiroyuki Kataoka has joined
NetSilicon as Vice President of Intelligent Device Markets for Japan.
The purchase price was allocated to the tangible and intangible assets
acquired and liabilities assumed on the basis of their respective estimated fair
values on the acquisition date. The following represents a preliminary
allocation of the purchase price:
Cash........................................................ $ 761,400
Accounts receivable......................................... 1,017,900
Other tangible assets....................................... 161,900
Customer list............................................... 351,400
Workforce................................................... 148,000
Goodwill.................................................... 134,400
----------
Total purchase price........................................ $2,575,000
==========
J-7
NETSILICON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The purchase price consisted of 241,667 shares of the common stock of the
Company, valued at $1,239,100, assumed liabilities of $969,400, $250,000 in cash
and $116,500 of acquisition related costs, including legal and accounting fees.
5. COMPREHENSIVE INCOME (LOSS)
Comprehensive income (loss) is defined as a change in equity of a company
during a period from transactions and other events and circumstances excluding
transactions resulting from investments by owners and distributions to owners.
The difference between net income (loss) and comprehensive income (loss) for
NetSilicon results from foreign currency translation adjustments and unrealized
gains and losses on available-for-sale securities, net of taxes. Comprehensive
income (loss) consisted of the following:
THREE MONTHS ENDED NINE MONTHS ENDED
------------------------- -------------------------
OCTOBER 27, OCTOBER 28, OCTOBER 27, OCTOBER 28,
2001 2000 2001 2000
----------- ----------- ----------- -----------
Net Income (Loss)................... $(2,964,100) $672,000 $(7,318,100) $2,198,400
----------- -------- ----------- ----------
Foreign currency translation
adjustments....................... 61,400 -- (6,800) --
Unrealized gain (loss) on
investments....................... 16,300 11,100 (10,500) 34,400
----------- -------- ----------- ----------
Other comprehensive income (loss)... 77,700 11,100 (17,300) 34,400
----------- -------- ----------- ----------
Total comprehensive income (loss)... $(2,886,400) $683,100 $(7,335,400) $2,232,800
=========== ======== =========== ==========
6. CONTINGENCIES
On or about August 9, 2001, a purported securities class action lawsuit
captioned "Ellis Investments, Ltd. v. NetSilicon, Inc., et al." (01-CV-7281) was
filed in the United States District Court for the Southern District of New York.
Later in August, 2001, two additional, nearly identical complaints were filed in
the same Court in lawsuits captioned "Michael Rasner v. NetSilicon, Inc., et
al." (01-CV-7651) and "Walter Weitz v. NetSilicon, Inc. et al." (01-CV-8217).
The suits name as defendants the Company, certain of its officers and directors,
and certain underwriters involved in the Company's initial public offering
("IPO"). The Ellis Investments suit also names Osicom Technologies, Inc. as a
defendant. The complaints in these actions are allegedly brought on behalf of
purchasers of the Company's common stock during the period from September 15,
1999 to December 6, 2000, and assert, among other things, that the Company's IPO
prospectus and registration statement violated federal securities laws because
they contained material misrepresentations and/or omissions regarding the
conduct of the Company's IPO underwriters in allocating shares in the Company's
IPO to the underwriters' customers. The actions seek rescission or rescissory
and other damages, fees and costs associated with the litigation, and interest.
The Company understands that various plaintiffs have filed substantially similar
lawsuits against over a hundred other publicly traded companies in connection
with the underwriting of their initial public offerings. The Company and its
officers and directors believe that the allegations in the complaints are
without merit and intend to contest them vigorously. An unfavorable resolution
of the actions could have a material adverse effect on the business, results of
operations or financial condition of the Company.
Contingent on the Company's merger with Digi International, the Company has
agreed to forgive the payment obligations of two promissory notes in the
aggregate principal amount of $871,200 plus interest made by its Chairman of the
Board and Chief Executive Officer ("Chairman and CEO") and provide additional
payments as necessary to cover any taxes owed by the Chairman and CEO as a
result of the forgiveness and the additional payment. Also contingent on the
merger, the Chairman and CEO will receive a one-time payment of $740,000.
7. SUBSEQUENT EVENTS
Proposed Merger with Digi International -- On November 5, 2001, the Company
and Digi International Inc. ("Digi"), announced the signing of an Agreement and
Plan of Merger dated
J-8
NETSILICON, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
October 30, 2001 (the "Agreement") pursuant to which the Company will
effectively become a wholly-owned subsidiary of Digi. Under the terms of the
Agreement, each outstanding share of the Company's common stock would be
converted into the right to receive either cash, Digi common stock or a
combination of cash and Digi common stock at the election of the holder. The
Agreement provides that each holder of the Company's common stock may elect to
receive 0.6500 of a share of Digi common stock for each share of the Company's
common stock, or cash in the amount of 0.6500 multiplied by the average
per-share closing price of Digi common stock during the period of ten trading
days ending on the third trading day before the date of closing, or a
combination of both stock and cash, provided that the maximum amount of cash to
be paid by Digi will be $15 million. The merger is expected to close in the
first calendar quarter of 2002 and is subject to approval by the shareholders of
the Company and Digi and by regulators. The details of the proposed transaction
are discussed in the Company's Form 8-K filed with the Securities and Exchange
Commission on October 30, 2001.
Websprocket, LLC Legal Claims -- On November 2, 2001, the Company and
Websprocket, LLC entered into a Settlement Agreement and Mutual Release settling
all claims between the companies, including all claims and counterclaims
asserted in the litigation captioned Websprocket, LLC v. NetSilicon, Inc., Civil
Action No. C-00-20915 RMV pending in the United States District Court for the
Northern District of California. On November 13, 2001, the court approved and
entered a Stipulation of Dismissal With Prejudice, in which the Company and
Websprocket, LLC dismissed all claims in the litigation and waived all rights to
appeal. The Company has paid Websprocket, LLC approximately $162,000 as part of
the settlement agreement.
8. RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board finalized FASB
Statement No. 141, "Business Combinations ("SFAS 141"), and No. 142, Goodwill
and Other Intangible Assets ("SFAS 142"). SFAS 141 requires the use of the
purchased method of accounting and prohibits the use of the pooling-of-interests
method of accounting for business combinations initiated after June 30, 2001.
SFAS 141 also requires that the Company recognize acquired intangible assets
apart from goodwill if the acquired intangible assets meet certain criteria.
SFAS 141 applies to all business combinations initiated after June 30, 2001 and
for purchase business combinations completed on or after July 1, 2001. Upon
adoption of SFAS 142, it requires that the Company reclassify the carrying
amounts of intangible assets and goodwill based on the criteria in SFAS 141.
SFAS 142 requires, among other things, that companies no longer amortize
goodwill, but instead test goodwill for impairment at least annually. In
addition, SFAS 142 requires that the Company identify reporting units for the
purposes of assessing potential future impairments of goodwill, reassess the
useful lives of other existing recognized intangible assets, and cease
amortization of intangible assets with an indefinite useful life. An intangible
asset with an indefinite useful life should be tested for impairment in
accordance with the guidance in SFAS 142. SFAS 142 is required to be applied in
fiscal years beginning after December 15, 2001 to all goodwill and other
intangible assets recognized at that date, regardless of when those assets were
initially recognized. SFAS 142 requires the Company to complete a transitional
goodwill impairment test six months from the date of adoption. The Company is
also required to reassess the useful lives of other intangible assets within the
first interim quarter after adoption of SFAS 142.
The Company's previous business combinations were accounted for using the
purchase method. As of October 27, 2001, the net carrying amount of intangible
assets is $1.5 million. Amortization expense during the nine month period ended
October 27, 2001 was $473,000. Currently, the Company is assessing but has not
yet determined how the adoption of SFAS 141 and SFAS 142 will impact its
financial position and results of operations.
J-9
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
Some of the information in this discussion and analysis contains
forward-looking statements within the meaning of the federal securities laws.
These statements include, among others, statements regarding our financial
performance, expected future revenue, product development plans, projected
capital expenditures, liquidity and business strategy. Forward-looking
statements typically are identified by use of terms such as may, will, expect,
anticipate, estimate and similar words, although some forward-looking statements
are expressed differently. You should be aware that our actual results could
differ materially from those contained in the forward-looking statements due to
a number of factors, including delays in product introductions, interruptions in
supply and competitive product introductions. You should also consider carefully
the "Business" and "Risk Factors" sections contained in the Company's 2001 Form
10-K as filed with the SEC and the "Risk Factors" section contained herein,
which address additional factors that could cause our actual results to differ
from those set forth in the forward-looking statements.
You should read this discussion together with the unaudited financial
statements and other information included in this document.
OVERVIEW
We develop and market embedded Ethernet networking solutions, which combine
advanced microprocessors and software, to manufacturers building intelligent,
network-enabled devices. We commenced our operations in 1984 as Digital
Products, Inc. From our inception, we have developed and marketed networking
products for embedded systems that enable the connection of electronic devices
to networks.
In September 1996, Sorrento Networks Corporation, formerly Osicom
Technologies, Inc. ("Sorrento"), acquired all of our outstanding capital stock
from our stockholders. We were a wholly-owned subsidiary of Sorrento from the
date of the acquisition through our initial public offering in September of
1999.
RESULTS OF OPERATIONS
The following table sets forth information derived from our Statements of
Operations expressed as a percentage of net sales for the three and nine month
periods ended October 27, 2001 and October 28, 2000.
THREE MONTHS ENDED NINE MONTHS ENDED
------------------------- -------------------------
OCTOBER 27, OCTOBER 28, OCTOBER 27, OCTOBER 28,
2001 2000 2001 2000
----------- ----------- ----------- -----------
Net sales................................ 100.0% 100.0% 100.0% 100.0%
Cost of sales............................ 46.1 41.4 45.7 40.8
----- ----- ----- -----
Gross margin............................. 53.9 58.6 54.3 59.2
----- ----- ----- -----
Operating expenses:
Selling and marketing.................. 31.9 26.4 36.1 27.6
Engineering, research and
development......................... 25.6 17.8 26.7 15.9
General and administrative............. 36.8 10.2 25.2 10.6
Amortization of intangibles............ 2.4 -- 2.2 --
----- ----- ----- -----
Total operating expenses................. 96.7 54.4 90.2 54.1
----- ----- ----- -----
J-10
THREE MONTHS ENDED NINE MONTHS ENDED
------------------------- -------------------------
OCTOBER 27, OCTOBER 28, OCTOBER 27, OCTOBER 28,
2001 2000 2001 2000
----------- ----------- ----------- -----------
Operating income (loss).................. (42.8) 4.2 (35.9) 5.1
Interest income, net..................... 1.1 2.0 1.7 2.3
----- ----- ----- -----
Income (loss) before taxes on income..... (41.7) 6.2 (34.2) 7.4
Taxes on income (benefit)................ (0.4) -- 0.2 --
----- ----- ----- -----
Net income (loss)........................ (41.3)% 6.2% (34.4)% 7.4%
===== ===== ===== =====
THREE AND NINE MONTHS ENDED OCTOBER 27, 2001 COMPARED TO THREE AND NINE MONTHS
ENDED OCTOBER 28, 2000
Net sales. Net sales were $7.2 million for the three months ended October
27, 2001 compared to $10.7 million for the three months ended October 28, 2000,
representing a decrease of 32.9%. Net sales decreased to $21.2 million for the
nine months ended October 27, 2001 from $29.6 million for the nine months ended
October 28, 2000, a decrease of 28.3%.
The decrease in net sales in the three and nine month periods was due
primarily to an economic slowdown that has affected our imaging customers.
Revenue from our imaging customers was $5.7 million and $16.9 million for the
three and nine month periods, respectively, ended October 27, 2001 compared to
$8.5 million and $24.1 million for the three and nine month periods,
respectively, ended October 28, 2000. Backlog for our products and service was
approximately $3.3 and $4.8 million at October 27, 2001 and October 28, 2000,
respectively, all of which was scheduled to be shipped within 12 months.
Our embedded networking semiconductor and controller products accounted for
88.5% and 89.0% of total net sales for the nine months ended October 27, 2001
and October 28, 2000, respectively. Software development tools and development
boards accounted for 4.5% of total net sales for the nine months ended October
27, 2001 and 5.4% of total net sales for the prior year nine month period.
Royalty, maintenance and service revenue was 7.0% and 5.6% of total net sales
for the nine months ended October 27, 2001 and October 28, 2000, respectively.
During the nine months ended October 27, 2001, international sales
accounted for 53.6% of net sales compared to 55.0% of net sales for the nine
month period ended October 28, 2000.
Cost of sales; gross margin. Costs of goods sold consists principally of
the cost of raw material components and subcontractor labor assembly from
outside manufacturers and suppliers. Cost of sales also includes amortization of
software development costs. Gross margin decreased to $3.9 million, or 53.9% of
net sales, for the three months ended October 27, 2001 from $6.3 million, or
58.6% of net sales, for the three months ended October 28, 2000, representing a
decrease of 38.2%. Gross margin decreased 34.1% to $11.5 million, or 54.3% of
net sales, for the nine months ended October 27, 2001 from $17.5 million, or
59.2% of net sales, for the nine months ended October 28, 2000.
The decrease in gross margin percent for the three and nine month periods
ended October 27, 2001 from the prior year periods was due primarily to (i) a
decrease in high-margin sales of development kits; (ii) a decrease in royalty
revenue; and (iii) the overall decrease in sales which were offset in part by
increased sales of high-margin software products and decreases in overhead
spending, including freight costs.
Selling and marketing expenses. Selling and marketing expenses consist
mainly of employee-related expenses, commissions to sales representatives, trade
shows, publicity and travel expenses. Selling and marketing expenses decreased
from $2.8 million, or 26.4% of net sales, for the three months ended October 28,
2000 to $2.3 million, or 31.9% of net sales, for the three months ended October
27, 2001, representing a decrease of 18.7%. Selling and marketing expenses were
$7.7 million, or 36.1% of net sales, for the nine month period ended October 27,
2001 compared to $8.2 million, or 27.6% of net sales, for the nine month period
ended October 28, 2000.
J-11
The decrease in selling and marketing expenses for the three and nine
months ended October 27, 2001 compared to the three and nine months ended
October 28, 2000 was the result of (i) a decrease in commission to sales
representatives due to the decrease in revenue; (ii) the absence of commission
payable to Dimatech Corporation, our former distributor in Japan that we
acquired in February 2001; and (iii) decreases in several discretionary costs
due to our cost reduction initiatives. These decreased costs were offset in part
by (i) additional payroll costs related to the expansion of our direct sales and
marketing teams, including those costs related to our acquisition of Dimatech
Corporation and certain assets of Pacific Softworks, Inc. and (ii) payroll
recruiting and other costs associated with investments made to expand our
customer support department.
Engineering, research and development. Engineering, research and
development expenses consist primarily of salaries and the related costs of
employees engaged in research, design and development activities. Engineering,
research and development expenses decreased to $1.8 million, or 25.6% of net
sales, for the three months ended October 27, 2001 from $1.9 million, or 17.8%
of net sales, for the three months ended October 28, 2000, representing a
decrease of 3.5%. Engineering, research and development expenses increased 20.7%
to $5.7 million, or 26.7% of net sales, for the nine months ended October 27,
2001 from $4.7 million, or 15.9% of net sales, for the nine months ended October
28, 2000.
The decrease in engineering, research and development expenses for the
three month period ended October 27, 2001 from the prior year period is
attributable to decreases in several discretionary costs due to our cost
reduction initiatives. The increase in engineering, research and development
expenses for the nine month period ended October 27, 2001 from the prior year
period is due to the addition of approximately 10 engineers acquired in
connection with our purchase of certain assets of Pacific Softworks in August
2000.
General and administrative expenses. General and administrative expenses
consist mainly of salaries, employee-related expenses, legal expenses, audit
fees and reserves for accounts receivable allowances. General and administrative
expenses increased to $2.6 million, or 36.8% of net sales, for the three months
ended October 27, 2001 from $1.1 million, or 10.2% of net sales, for the three
months ended October 28, 2000, an increase of 143.5%. General and administrative
expenses increased 71.1% to $5.3 million, or 25.2% of net sales, for the nine
months ended October 27, 2001 from $3.1 million, or 10.6% of net sales, for the
nine months ended October 28, 2000.
The increase in general and administrative expenses is attributable to
increased legal costs related to the proposed merger with Digi International and
the Websprocket, LLC and IPO class action lawsuits. The increase in general and
administrative expenses is also due to an increase in rent expense related to
our new facilities in California and Japan and vacated space at our headquarters
in Massachusetts, increases in accounting and insurance costs, and increases in
employee-related expenses including severance costs for terminated employees.
These increases were offset in part by decreases in several discretionary costs
due to our cost reduction initiatives.
Amortization of intangibles. Amortization of intangible assets consists of
the amortization of intangible assets acquired in connection with the purchase
of certain assets of Pacific Softworks, Inc. in August 2000 and our acquisition
of Dimatech Corporation in February 2001. Amortization of intangibles increased
to $169,000, or 2.4% of net sales, and $473,000, or 2.2% of net sales, for the
three and nine months ended October 27, 2001, respectively, from $0 for the
three and nine months ended October 28, 2000.
Interest income, net. Interest income includes interest earned on cash and
short-term investment balances. Net interest income was $80,000, or 1.1% of net
sales, and $218,000, or 2.0% of net sales, for the three months ended October
27, 2001 and October 28, 2000, respectively. Net interest income was $352,000,
or 1.7% of net sales, and $683,000, or 2.3% of net sales, for the nine months
ended October 27, 2001 and October 28, 2000, respectively. The decrease in
interest income is due to a decrease in cash and short-term investments.
J-12
Provision for income taxes. The tax benefit for the three months ended
October 27, 2001 totaled $26,000, or 0.4% of net sales, and the income tax
provision for the nine months ended October 27, 2001 totaled $39,000, or 0.2% of
net sales, and both related to foreign taxes for our Japanese subsidiary. There
was no net provision for U.S. income taxes for the three and nine months ended
October 28, 2000 due to the utilization of available net operating loss
carryforwards.
LIQUIDITY AND CAPITAL RESOURCES
Prior to our public offering in September 1999, we financed our operations
through advances from Sorrento and borrowings under our short-term bank line of
credit. The Company received proceeds, net of offering costs, of approximately
$22.2 million as a result of the initial public offering and sale of our stock.
At October 27, 2001, we had working capital of $12.6 million, cash and cash
equivalents of $8.4 million and short-term investments of $2.4 million.
Our operating activities used cash of $1.6 million and $579,000 for the
nine months ended October 27, 2001 and October 28, 2000, respectively. Cash used
by operating activities in the nine month period ended October 27, 2001 was
attributable to the net loss and a decrease in accounts payable, offset in part
by decreases in accounts receivable and inventory and the non-cash impact of
depreciation and amortization. The decrease in accounts receivable is due to the
decrease in sales and strong collection efforts and the decrease in inventory is
attributable to a decrease in purchasing activity and the consumption of
electronic components that were previously purchased in large volumes to
decrease the risk to our operations of the sharp fluctuations in market supply
of the components. Cash used during the nine months ended October 28, 2000 was
attributable to an increase in accounts receivable and inventory, offset in part
by net income, an increase in accounts payable and the non-cash impact of
depreciation and amortization.
Our sales and marketing expenses, engineering, research and development
expenses and general and administrative expenses each may increase in the fiscal
year ending January 31, 2002 and thereafter compared to the amounts of such
expenses in the fiscal year ending January 31, 2001. Due in part to an economic
slowdown affecting our imaging customers, we anticipate a decline in imaging
revenue growth in fiscal year 2002, from fiscal year 2001, which will adversely
effect our results of operations and financial condition and may result in
operating losses for all or part of fiscal year 2002. There can be no assurance
that our available cash and cash flow from operations will be sufficient to fund
such additional expenses.
Our standard payment terms are net 30 days. While we actively pursue
collection within that time, receivables have frequently taken longer to collect
in part because we sell products to large companies in Asia.
Our investing activities provided cash of $3.9 million and used cash of
$2.7 million during the nine months ended October 27, 2001 and October 28, 2000,
respectively. Cash provided by investing activities during the nine months ended
October 27, 2001 related primarily to proceeds of $4.4 million from short-term
investments and net cash acquired in the acquisition of Dimatech Corporation of
$414,000, offset in part by purchases of property and equipment of $672,000.
Cash used in investing activities during the nine months ended October 28, 2000
related primarily to purchases of $1.7 million of property and equipment,
software development costs of $427,000, and cash payments of $440,000 related to
our acquisition of certain assets of Pacific Softworks.
On August 31, 2000, we issued 90,000 shares of common stock, valued at $2.3
million and incurred $570,000 of acquisition-related costs in connection with
the acquisition of the strategic network technology assets of Pacific Softworks,
Inc. The total purchase price was $2.8 million and was allocated to the tangible
and intangible assets acquired. On February 16, 2001, we issued 241,667 shares
of common stock valued at $1.2 million, paid cash of $250,000, incurred $116,500
of acquisition-related costs and assumed $969,400 of liabilities in connection
with the acquisition of Dimatech Corporation. The total purchase price was $2.6
million and was allocated to the tangible and intangible assets acquired.
J-13
Cash provided by financing activities was $122,000 and cash used by
financing activities was $752,000 during the nine months ended October 27, 2001
and October 28, 2000, respectively. Cash provided by financing during the period
ended October 27, 2001 related to proceeds from the issuance of stock. Cash used
in financing activities in the period ended October 27, 2000 was attributable to
repayments of short term debt of $780,000 and loans to an officer of the Company
in the amount of $871,000, offset in part by proceeds from the exercise of stock
options of $1.1 million.
We anticipate that our available cash resources will be sufficient to meet
our presently anticipated capital requirements through the next 12 months.
Nonetheless, we may elect to sell additional equity securities or obtain
additional credit. Our future capital requirements may vary materially from
those now planned and will depend on many factors, including, but not limited
to, the levels at which we maintain inventory and accounts receivable; the
market acceptance of our products; the levels of promotion and advertising
required to launch products or enter markets and attain a competitive position
in the marketplace; volume pricing concessions; our business, product, capital
expenditure and research and development plans and technology roadmap; capital
improvements to new and existing facilities; technological advances; the
response of competitors to our products; and our relationships with suppliers
and customers. In addition, we may require an increase in the level of working
capital to accommodate planned growth, hiring and infrastructure needs.
Additional capital may be required for consummation of any acquisitions of
businesses, products or technologies. We may need to raise additional funds
through public or private financings or borrowings if existing resources and
cash generated from operations are insufficient to fund our future activities.
No assurance can be given that additional financing will be available or that,
if available, such financing can be obtained on terms favorable to our
shareholders and us. If additional funds are raised through the issuance of
equity securities, the percentage ownership of then current stockholders of us
will be reduced and such equity securities may have rights, preferences or
privileges senior to those of holders of our common stock. If adequate funds are
not available to satisfy short- or long-term capital requirements, we may be
required to limit our operations significantly.
IMPACT OF RECENT ACCOUNTING PRONOUNCEMENTS
In June 2001, the Financial Accounting Standards Board finalized FASB
Statement No. 141, "Business Combinations ("SFAS 141"), and No. 142, Goodwill
and Other Intangible Assets ("SFAS 142"). SFAS 141 requires the use of the
purchased method of accounting and prohibits the use of the pooling-of-interests
method of accounting for business combinations initiated after June 30, 2001.
SFAS 141 also requires that the Company recognize acquired intangible assets
apart from goodwill if the acquired intangible assets meet certain criteria.
SFAS 141 applies to all business combinations initiated after June 30, 2001 and
for purchase business combinations completed on or after July 1, 2001. Upon
adoption of SFAS 142, it requires that the Company reclassify the carrying
amounts of intangible assets and goodwill based on the criteria in SFAS 141.
SFAS 142 requires, among other things, that companies no longer amortize
goodwill, but instead test goodwill for impairment at least annually. In
addition, SFAS 142 requires that the Company identify reporting units for the
purposes of assessing potential future impairments of goodwill, reassess the
useful lives of other existing recognized intangible assets, and cease
amortization of intangible assets with an indefinite useful life. An intangible
asset with an indefinite useful life should be tested for impairment in
accordance with the guidance in SFAS 142. SFAS 142 is required to be applied in
fiscal years beginning after December 15, 2001 to all goodwill and other
intangible assets recognized at that date, regardless of when those assets were
initially recognized. SFAS 142 requires the Company to complete a transitional
goodwill impairment test six months from the date of adoption. The Company is
also required to reassess the useful lives of other intangible assets within the
first interim quarter after adoption of SFAS 142.
The Company's previous business combinations were accounted for using the
purchase method. As of October 27, 2001, the net carrying amount of intangible
assets is $1.5 million. Amortization expense during the nine month period ended
October 27, 2001 was $473,000. Currently, the Company is assessing but has not
yet determined how the adoption of SFAS 141 and SFAS 142 will impact its
financial position and results of operations.
J-14
RISK FACTORS
You should carefully consider the following risks before investing in our
common stock. These are not the only risks facing our company. Additional risks
may also impair our business operations. If any of the following risks come to
fruition, our business, results of operations or financial condition could be
materially adversely affected. In that case, the trading price of our common
stock could decline, and you may lose all or part of your investment. You should
also refer to the other information set forth in this document, including our
financial statements and the accompanying notes.
WE HAVE A HISTORY OF LOSSES AND AN ACCUMULATED DEFICIT THAT MAKE FUTURE
OPERATING RESULTS AND PROFITABILITY DIFFICULT TO PREDICT.
We incurred net losses from continuing operations for the fiscal years
ended January 31, 1997, 1998, 1999 and 2001. At January 31, 2001, we had an
accumulated deficit of $3.6 million. There can be no assurance that we will be
able to achieve profitability on a quarterly or annual basis in the future. In
addition, revenue growth is not necessarily indicative of future operating
results and there can be no assurance that we will be able to sustain revenue
growth. We continue to invest significant financial resources in product
development, marketing and sales, and a failure of such expenditures to result
in significant increases in revenue could have a material adverse effect on us.
Due to the limited history and undetermined market acceptance of our new
products, the rapidly evolving nature of our business and markets, potential
changes in product standards that significantly influence many of the markets
for our products, the high level of competition in the industries in which we
operate and the other factors described elsewhere in these Risk Factors, there
can be no assurance that our investment in these areas will result in increases
in revenue or that any revenue growth that is achieved can be sustained. Our
history of losses, coupled with the factors described below, make future
operating results difficult to predict. We and our future prospects must be
considered in light of the risks, costs and difficulties frequently encountered
by emerging companies. As a result, there can be no assurance that we will be
profitable in any future period.
THE UNPREDICTABILITY OF OUR QUARTERLY RESULTS MAY ADVERSELY AFFECT THE TRADING
PRICE OF OUR COMMON STOCK.
Our net sales and operating results have in the past and may in the future
fluctuate substantially from quarter to quarter and from year to year. These
results have varied significantly due to a number of factors, including:
- market acceptance of and demand for our products and those of our
customers;
- unanticipated delays or problems in the introduction of our products;
- the timing of large customer orders;
- the timing and success of our customers' development cycles;
- our ability to introduce new products in accordance with customer design
requirements and design cycles;
- new product announcements or product introductions by us and our
competitors;
- availability and cost of manufacturing sources for our products;
- the volume of orders that are received and can be filled in a quarter;
- the rescheduling or cancellation of orders by customers;
- changes in product mix;
- timing of "design wins" with our customers and related revenue; and
- changes in currency exchange rates.
J-15
Our operating results could also be harmed by:
- the growth rate of markets into which we sell our products;
- changes in the mix of sales to customers and sales representatives;
- costs associated with protecting our intellectual property; and
- changes in product costs and pricing by us and our competitors.
We budget expenses based in part on future revenue projections. We may be
unable to adjust spending in a timely manner in response to any unanticipated
declines in revenues.
As a result of these and other factors, investors should not rely solely
upon period-to-period comparisons of our operating results as an indication of
future performance. It is likely that in some future period our operating
results or business outlook will be below the expectations of securities
analysts or investors, which would likely result in a significant reduction in
the market price of the shares of our common stock.
OUR FAILURE TO INCREASE SALES TO MANUFACTURERS OF INTELLIGENT, NETWORK-ENABLED
DEVICES AND OTHER EMBEDDED SYSTEMS WILL ADVERSELY AFFECT OUR FINANCIAL RESULTS.
Our financial performance and future growth is dependent upon our ability
to sell our products to manufacturers of intelligent, network-enabled devices
and other embedded systems in various markets, including markets in which
networking solutions for embedded systems have not historically been sold, such
as the industrial automation equipment, data acquisition and test equipment,
Internet devices and security equipment markets. A substantial portion of our
recent development efforts have been directed toward the development of new
products for markets that are new and rapidly evolving. There can be no
assurance that:
- the additional intelligent device markets targeted by us for our products
and services will develop;
- developers within each market targeted by us will choose our products and
services to meet their needs;
- we will successfully develop products to meet the industry-specific
requirements of developers in our targeted markets or that design wins
will result in significant sales; or
- developers in our targeted markets will gain market acceptance for their
devices which incorporate our products.
We have limited experience in designing our products to meet the
requirements of developers in these industries. Moreover, our products and
services have, to date, achieved limited acceptance in these industries.
WE ARE DEPENDENT ON THE IMAGING MARKET FOR A LARGE PORTION OF OUR REVENUES.
The imaging market has historically accounted for substantially all of our
revenues. In the fiscal years ended January 31, 2001, 2000 and 1999, 79%, 95%
and 95%, respectively, of our revenues were generated from customers in the
imaging market. Our success has been and continues to be dependent on the
continued success of the imaging market. Many of our customers face competition
from larger, more established companies which may exert competitive or other
pressures on them. Any decline in sales to the imaging market would have a
material adverse effect on our business, results of operations and financial
condition.
Due in part to an economic slowdown affecting our imaging customers, we
anticipate a decline in imaging revenue growth in fiscal year 2002, from fiscal
year 2001, which will adversely affect our results of operations and financial
condition.
J-16
The imaging market is characterized by declining prices of existing
products and a transition from higher priced network interface cards to
semiconductor devices. Therefore, continual improvements in manufacturing
efficiencies and the introduction of new products and enhancements to existing
products are required for us to maintain our gross margins. In response to
customer demands or competitive pressures, or to pursue new product or market
opportunities, we may take certain pricing or marketing actions, such as price
reductions or volume discounts. These actions could have a material adverse
effect on us.
A significant amount of our customers in the imaging market are
headquartered in Japan. Our customers are subject to declines in their local
economies, which have affected them from time to time in the past and may affect
them in the future. The success of our customers affects their purchases from
us.
OUR HIGHLY CONCENTRATED CUSTOMER BASE INCREASES THE POTENTIAL ADVERSE EFFECT ON
US FROM THE LOSS OF ONE OR MORE CUSTOMERS.
Our products have historically been sold into the imaging markets for use
in products such as printers, scanners, fax machines, copiers and multi-function
peripherals. This market is highly concentrated. Accordingly, our sales are
derived from a limited number of customers, with our top five OEM customers
accounting for 55%, 72% and 52% of total revenues for the fiscal years ended
2001, 2000 and 1999, respectively. In particular, sales to Dimatech, which we
acquired in February 2001, and Ricoh accounted for 23% and 20% of total
revenues, respectively, for the fiscal year ended January 31, 2001. We expect
that a small number of customers will continue to account for a substantial
portion of our total revenues for the foreseeable future. All of our sales are
made on the basis of purchase orders rather than under long-term agreements, and
therefore, any customer could cease purchasing our products at any time without
penalty. The decision of any key customer to cease using our products or a
material decline in the number of units purchased by a significant customer
would have a material adverse effect on us.
THE LONG AND VARIABLE SALES CYCLE FOR OUR PRODUCTS MAKES IT MORE DIFFICULT FOR
US TO PREDICT OUR OPERATING RESULTS AND MANAGE OUR BUSINESS.
The sale of our products typically involves a significant technical
evaluation and commitment of capital and other resources by potential customers,
as well as delays frequently associated with customers' internal procedures to
deploy new technologies within their products and to test and accept new
technologies. For these and other reasons, the sales cycle associated with our
products is typically lengthy, lasting nine months or longer, and is subject to
a number of significant risks, including customers' internal acceptance reviews,
that are beyond our control. Because of the lengthy sales cycle and the large
size of customer orders, if orders forecasted for a specific customer for a
particular quarter are not realized in that quarter, our operating results for
that quarter could be materially adversely affected.
OUR RELATIVELY LOW LEVEL OF BACKLOG INCREASES THE POTENTIAL VARIABILITY OF OUR
QUARTERLY OPERATING RESULTS.
Our backlog at the beginning of each quarter typically is not sufficient to
achieve expected sales for the quarter. To achieve our sales objectives, we are
dependent upon obtaining orders during each quarter for shipment during that
quarter. Furthermore, our agreements with our customers typically permit them to
change delivery schedules.
Non-imaging customers may cancel orders within specified time frames
(typically 30 days or more prior to the scheduled shipment date under our
policies) without significant penalty. Our customers have in the past built, and
may in the future build, significant inventory in order to facilitate more rapid
deployment of anticipated major products or for other reasons. Decisions by such
customers to reduce their inventory levels have led and could lead to reductions
in their purchases from us. These reductions, in turn, have caused and could
cause adverse fluctuations in our operating results.
J-17
OUR DEPENDENCE ON NEW PRODUCT DEVELOPMENT AND THE RAPID TECHNOLOGICAL CHANGE
THAT CHARACTERIZES OUR INDUSTRY MAKE US SUSCEPTIBLE TO LOSS OF MARKET SHARE
RESULTING FROM COMPETITORS' PRODUCT INTRODUCTIONS AND SIMILAR RISKS.
The semiconductor and networking industries are characterized by rapidly
changing technologies, evolving industry standards, frequent new product
introductions, short product life cycles and rapidly changing customer
requirements. The introduction of products embodying new technologies and the
emergence of new industry standards can render existing products obsolete and
unmarketable. Our future success will depend on our ability to enhance our
existing products, to introduce new products to meet changing customer
requirements and emerging technologies, and to demonstrate the performance
advantages and cost-effectiveness of our products over competing products. Any
failure by us to modify our products to support new local-area network, or LAN,
wide-area network, or WAN, and Internet technologies, or alternative
technologies, or any failure to achieve widespread customer acceptance of such
modified products could have a material adverse effect on us.
We have in the past and may in the future experience delays in developing
and marketing product enhancements or new products that respond to technological
change, evolving industry standards and changing customer requirements. There
can be no assurance that we will not experience difficulties that could delay or
prevent the successful development, introduction and marketing of these products
or product enhancements, or that our new products and product enhancements will
adequately meet the requirements of the marketplace and achieve any significant
or sustainable degree of market acceptance in existing or additional markets.
Failure by us, for technological or other reasons, to develop and introduce new
products and product enhancements in a timely and cost-effective manner would
have a material adverse effect on us. In addition, the future introductions or
announcements of products by us or one of our competitors embodying new
technologies or changes in industry standards or customer requirements could
render our then-existing products obsolete or unmarketable. There can be no
assurance that the introduction or announcement of new product offerings by us
or one or more of our competitors will not cause customers to defer the purchase
of our existing products. Such deferment of purchases could have a material
adverse effect on us.
OUR FAILURE TO EFFECTIVELY MANAGE PRODUCT TRANSITIONS COULD HAVE A MATERIAL
ADVERSE EFFECT ON US.
From time to time, we or our competitors may announce new products,
capabilities or technologies that may replace or shorten the life cycles of our
existing products. Announcements of currently planned or other new products may
cause customers to defer or stop purchasing our products until new products
become available. Furthermore, the introduction of new or enhanced products
requires us to manage the transition from older product inventories and ensure
that adequate supplies of new products can be delivered to meet customer demand.
Our failure to effectively manage transitions from older products could have a
material adverse effect on our business, results of operations and financial
condition.
OUR FAILURE TO COMPETE SUCCESSFULLY IN OUR HIGHLY COMPETITIVE MARKET COULD
RESULT IN REDUCED PRICES AND LOSS OF MARKET SHARE.
The markets in which we operate are intensely competitive and characterized
by rapidly changing technology, evolving industry standards, declining average
selling prices and frequent new product introductions. A number of companies
offer products that compete with one or more elements of our products. We
believe that the competitive factors affecting the market for our products
include product performance, price and quality, product functionality and
features, the availability of products for existing and future platforms, the
ease of integration with other hardware and software components of the
customer's products, and the quality of support services, product documentation
and training. The relative importance of each of these factors depends upon the
specific customer involved. There can be no assurance that we will be able to
compete successfully against current and future competitors, or that competitive
factors faced by us will not have a material adverse effect on us.
J-18
We primarily compete with the internal development departments of large
manufacturing companies that have developed their own networking solutions, as
well as established developers of embedded systems software and chips such as
Axis Communications, Echelon, Emulex, Hitachi, Intel, Milan Technology, a
division of Digi International, Motorola, Peerless Systems, Samsung and Wind
River. In addition, we are aware of certain companies which have recently
introduced products that address the markets targeted by us. We have experienced
and expect to continue to experience increased competition from current and
potential competitors, many of which have substantially greater financial,
technical, sales, marketing and other resources, as well as greater name
recognition and larger customer bases than ours. In particular, established
companies in the networking or semiconductor industries may seek to expand their
product offerings by designing and selling products using competitive technology
that could render our products obsolete or have a material adverse effect on our
sales. Increased competition may result in further price reductions, reduced
gross margins and loss of market share.
WE DEPEND ON THIRD-PARTY SOFTWARE THAT WE USE UNDER LICENSES THAT MAY EXPIRE.
We rely on certain software that we license from third parties, including
software that is integrated with internally developed software and used in our
products to perform key functions. These software license agreements are with
Express Logic, Inc., Allegro Software Development Corporation and Wind River,
each of which terminates only if we default under the respective agreement; with
Novell, Inc., which is renewable annually at the option of both parties; with
InterNiche Technologies, Inc., which renews until terminated by either party;
and with Peerless Systems Corporation, which expires in 2004 and is subject to
year-to-year renewals thereafter at the option of both parties. These
third-party software licenses may not continue to be available to us on
commercially reasonable terms, and the related software may not continue to be
appropriately supported, maintained or enhanced by the licensors. The loss of
licenses to use, or the inability of licensors to support, maintain, and enhance
any of such software, could result in increased costs, delays or reductions in
product shipments until equivalent software is developed or licensed, if at all,
and integrated.
WE DEPEND ON MANUFACTURING, ASSEMBLING AND PRODUCT TESTING RELATIONSHIPS AND ON
LIMITED SOURCE SUPPLIERS, AND ANY DISRUPTIONS IN THESE RELATIONSHIPS MAY CAUSE
DAMAGE TO OUR CUSTOMER RELATIONSHIPS.
We do not have our own semiconductor fabrication assembly or testing
operations or contract manufacturing capabilities. Instead, we rely upon
independent contractors to manufacture our components, subassemblies, systems
and products. Currently, all of our semiconductor devices are being
manufactured, assembled and tested by Atmel Corporation in the United States and
Europe, and we expect that we will continue to rely upon Atmel, or a similar
manufacturer, to manufacture, assemble and test a significant portion of our
semiconductor devices in the future. In the past, we experienced a delay in the
introduction of one of our products due to a problem with Atmel's design tools.
While we are in the process of qualifying other suppliers, any qualification and
pre-production periods could be lengthy and may cause delays in providing
products to customers in the event that the sole source supplier of the
semiconductor devices fails to meet our requirements. For example, Atmel uses
its manufacturing facilities for its own products as well as those it
manufactures on a contract basis. There is no assurance that Atmel will have
adequate capacity to meet the needs of its contract manufacturing customers. In
addition, semiconductor manufacturers generally experience periodic constraints
on their manufacturing capacity.
We also rely upon limited-source suppliers for a number of other components
used in our products. There can be no assurance that these independent
contractors and suppliers will be able to meet our future requirements for
manufactured products, components and subassemblies in a timely fashion. We
generally purchase limited-source components under purchase orders and have no
guaranteed supply arrangements with these suppliers. In addition, the
availability of many of these components to us is dependent in part on our
ability to provide our suppliers with accurate forecasts of our future
requirements. Any extended interruption in the supply of any of the key
components currently obtained from limited sources would
J-19
disrupt our operations and have a material adverse effect on our business,
results of operations and financial condition.
Delays or lost sales have been and could be caused by other factors beyond
our control, including late deliveries by vendors of components, changes in
implementation priorities or slower than anticipated growth in the market for
networking solutions for embedded systems. Operating results in the past have
also been adversely affected by delays in receipt of significant purchase orders
from customers. In addition, we have experienced delays as a result of the need
to modify our products to comply with unique customer specifications. In
general, the timing and magnitude of our revenues are highly dependent upon our
achievement of design wins, the timing and success of our customers' development
cycles, and our customers' product sales. Any of these factors could have a
material adverse effect on our business, results of operations and financial
condition.
THE CYCLICALITY OF THE SEMICONDUCTOR INDUSTRY MAY RESULT IN SUBSTANTIAL
PERIOD-TO-PERIOD FLUCTUATIONS.
Our semiconductor products provide networking capabilities for intelligent,
network-enabled devices and other embedded systems. The semiconductor industry
is highly cyclical and subject to rapid technological change and has been
subject to significant economic downturns at various times, characterized by
diminished product demand, accelerated erosion of average selling prices and
production overcapacity. The semiconductor industry also periodically
experiences increased demand and production capacity constraints. As a result,
we may experience substantial period-to-period fluctuations in future operating
results due to general semiconductor industry conditions, overall economic
conditions or other factors.
OUR ABILITY TO COMPETE COULD BE JEOPARDIZED IF WE ARE UNABLE TO PROTECT OUR
INTELLECTUAL PROPERTY RIGHTS.
Our ability to compete depends in part on our proprietary rights and
technology. We have one patent and rely on a combination of copyright and
trademark laws, trade secrets, confidentiality procedures and contract
provisions to protect our proprietary rights.
We generally enter into confidentiality agreements with our employees, and
sometimes with our customers and potential customers and limit access to the
distribution of our software, hardware designs, documentation and other
proprietary information. There can be no assurance that the steps taken by us in
this regard will be adequate to prevent the misappropriation of our technology.
Our patent may be circumvented by our competitors and our current and future
patent applications may be denied. Furthermore, there can be no assurance that
others will not develop technologies that are superior to ours. Despite our
efforts to protect our proprietary rights, unauthorized parties may attempt to
copy aspects of our products or to obtain and use information that we regard as
proprietary. In addition, the laws of some foreign countries do not protect our
proprietary rights as fully as do the laws of the United States. There can be no
assurance that our means of protecting our proprietary rights in the United
States or abroad will be adequate or that competing companies will not
independently develop similar technology. Our failure to adequately protect our
proprietary rights could have a material adverse effect on our business, results
of operations and financial condition.
We exclusively license the right to use the NET+ARM trademark from ARM
Limited according to a royalty-free agreement expiring in 2008. We depend on ARM
to enforce its rights to the trademark against third-party infringement. There
can be no assurance that ARM will promptly and adequately enforce these rights
which could have a material adverse effect on our business, results of
operations and financial condition.
WE COULD BECOME SUBJECT TO CLAIMS AND LITIGATION REGARDING INTELLECTUAL PROPERTY
RIGHTS, WHICH COULD SERIOUSLY HARM US AND REQUIRE US TO INCUR SIGNIFICANT COSTS.
The semiconductor and networking industries are characterized by frequent
litigation regarding patent and other intellectual property rights. Although we
have not been notified that our products infringe any
J-20
third-party intellectual property rights, there can be no assurance that we will
not receive such notification in the future. Any litigation to determine the
validity of third-party infringement claims, whether or not determined in our
favor or settled by us, would at a minimum be costly and divert the efforts and
attention of our management and technical personnel from productive tasks, which
could have a material adverse effect on our business, results of operations and
financial condition. There can be no assurance that any infringement claims by
third parties or any claims for indemnification by customers or end users of our
products resulting from infringement claims will not be asserted in the future
or that such assertions, if proven to have merit, will not materially adversely
affect our business, results of operations or financial condition. In the event
of an adverse ruling in any such matter, we would be required to pay substantial
damages, cease the manufacture, use and sale of infringing products, discontinue
the use of certain processes or be required to obtain a license under the
intellectual property rights of the third party claiming infringement. There can
be no assurance that a license would be available on reasonable terms or at all.
Any limitations on our ability to market our products, or delays and costs
associated with redesigning our products or payments of license fees to third
parties, or any failure by us to develop or license a substitute technology on
commercially reasonable terms could have a material adverse effect on our
business, results of operations and financial condition.
WE FACE RISKS ASSOCIATED WITH OUR INTERNATIONAL OPERATIONS AND EXPANSION THAT
COULD IMPAIR OUR ABILITY TO GROW OUR REVENUES ABROAD.
In the fiscal years ended January 31, 2001, 2000 and 1999, international
sales constituted approximately 55%, 50% and 51% of our net sales and
approximately 68%, 77% and 46% of our domestic sales were to customers
headquartered in Asia, respectively.
We believe that our future growth is dependent in part upon our ability to
increase sales in international markets, and particularly to manufacturers
located in Japan, which sell their products worldwide. These sales are subject
to a variety of risks, including fluctuations in currency exchange rates,
tariffs, import restrictions and other trade barriers, unexpected changes in
regulatory requirements, longer accounts receivable payment cycles and
potentially adverse tax consequences and export license requirements. In
addition, we are subject to the risks inherent in conducting business
internationally, including political and economic instability and unexpected
changes in diplomatic and trade relationships. In particular, the economies of
certain countries in the Asia-Pacific region are experiencing considerable
economic instability and downturns. Because our sales to date have been
denominated in United States dollars, increases in the value of the United
States dollar could increase the price in local currencies of our products in
non-US markets and make our products more expensive than competitors' products
denominated in local currencies. In addition, an integral part of our business
strategy is to form strategic alliances for the manufacture and distribution of
our products with third parties, including foreign corporations. There can be no
assurance that one or more of the factors described above will not have a
material adverse effect on our business, results of operations and financial
condition.
We intend to expand our presence in Europe to address new markets. One
change resulting from the formation of a European Economic and Monetary Union
("EMU") required EMU member states to irrevocably fix their respective
currencies to a new currency, the euro, as of January 1, 1999. Business in the
EMU member states will be conducted in both the existing national currency such
as the French franc or the Deutsche mark, and the euro through 2002. As a
result, companies operating or conducting business in EMU member states will
need to ensure that their financial and other software systems are capable of
processing transactions and properly handling these currencies, including the
euro. There can be no assurance that the conversion to the euro will not have a
material adverse effect on our business, results of operations and financial
condition.
IF WE LOSE KEY PERSONNEL IT COULD PREVENT US FROM EXECUTING OUR BUSINESS
STRATEGY.
Our business and prospects depend to a significant degree upon the
continuing contributions of our executive officers and our key technical
personnel. Competition for such personnel is intense, and there can be no
assurance that we will be successful in attracting and retaining qualified
personnel. Our stock price
J-21
and the number of options outstanding with exercise prices in excess of their
market price could make it more difficult to attract and retain key personnel.
Failure to attract and retain key personnel could result in our failure to
execute our business strategy and have a material adverse effect on us. We have
employment contracts with our Vice President, Intelligent Device Markets Europe;
Vice President, Imaging; Executive Vice President, Finance & Operations, and
Chief Financial Officer; and the Chairman and Chief Executive Officer. We do not
maintain any key-man life insurance policies.
ANY FAILURE TO COMPLY WITH SIGNIFICANT REGULATIONS AND EVOLVING INDUSTRY
STANDARDS COULD DELAY INTRODUCTION OF OUR PRODUCTS.
The market for our products is subject to a significant number of
communications regulations and industry standards, some of which are evolving as
new technologies are deployed. In the United States, our products must comply
with various regulations defined by the Federal Communications Commission and
standards established by Underwriters' Laboratories. Some of our products may
not comply with current industry standards, and this noncompliance must be
addressed in the design of those products. Standards for networking are still
evolving. As the standards evolve, we may be required to modify our products or
develop and support new versions of our products. The failure of our products to
comply or delays in compliance, with the various existing and evolving industry
standards could delay introduction of our products, which could have a material
adverse effect on our business, results of operations and financial condition.
ANY MATERIAL PRODUCT DEFECTS COULD RESULT IN LOSS OF MARKET SHARE, DELAY OF
MARKET ACCEPTANCE OR PRODUCT LIABILITY CLAIMS OR LOSSES.
Complex products such as those offered by us may contain undetected or
unresolved defects when first introduced or as new versions are released. The
occurrence of material errors in the future could, and the failure or inability
to correct such errors would, result in the loss of market share, the delay or
loss of market acceptance of our products, material warranty expense, diversion
of engineering and other resources from our product development efforts, the
loss of credibility with our customers or product recall. The use of our
products for applications in devices that interact directly with the general
public, where the failure of the embedded system could cause property damage or
personal injury, could expose us to significant product liability claims.
Although we have not experienced any product liability or economic loss claims
to date, the sale and support of our products may entail the risk of such
claims. Any of such occurrences could have a material adverse effect upon our
business, results of operations and financial condition.
IF WE DO NOT SUCCESSFULLY MANAGE OUR GROWTH, IT COULD HAVE A MATERIAL ADVERSE
EFFECT ON US.
We have limited internal infrastructure and any significant growth would
place a substantial strain on our financial and management personnel and
information systems and controls. Such growth would require us to implement new
and enhance existing financial and management information systems and controls
and add and train personnel to operate such systems effectively. Our intention
to continue to pursue our growth strategy through efforts to increase sales of
existing products and new products can be expected to place even greater
pressure on our existing personnel and compound the need for increased
personnel, expanded information systems, and additional financial and
administrative control procedures. There can be no assurance that we will be
able to successfully manage expanding operations. Our inability to manage our
expanded operations effectively could have a material adverse effect on our
business, results of operations and financial condition.
A SUBSTANTIAL NUMBER OF SHARES OF OUR COMMON STOCK COULD BE SOLD INTO THE PUBLIC
MARKET, WHICH COULD DEPRESS OUR STOCK PRICE.
Sales of a substantial number of shares of common stock in the public
market could adversely affect the market price for our common stock and could
make it more difficult for us to raise funds through equity offerings in the
future.
J-22
Subject to applicable federal and securities laws and the restrictions set
forth below, Sorrento Networks Corporation, formerly Osicom Technologies, Inc.
("Sorrento"), a holder of 6,972,700 shares of our non-voting common stock, may
sell any and all of the shares of common stock beneficially owned by it or
distribute any or all such shares of common stock to its stockholders. Sales or
distributions by Sorrento of substantial amounts of common stock in the public
market or to its stockholders, or the perception that such sales or distribution
could occur, could adversely affect the prevailing market prices for the common
stock. Sorrento is not subject to any obligation to retain its shares in
NetSilicon. As a result, there can be no assurance concerning the period of time
during which Sorrento will maintain its beneficial ownership of our common
stock. Moreover, there can be no assurance that, in any transfer by Sorrento of
a controlling interest in us, any holders of common stock will be able to
participate in such transaction or will realize any premium with respect to
their shares of common stock.
At January 31, 2001, options to purchase an aggregate of 5,051,149 shares
of our common stock were outstanding. Of these options, 852,394 were exercisable
as of January 31, 2001, with additional vesting to occur from time to time.
ANY ACQUISITIONS WE HAVE MADE OR WILL MAKE COULD DISRUPT OUR BUSINESS AND
SERIOUSLY HARM OUR FINANCIAL CONDITION.
We continue to consider investments in complementary companies, products or
technologies. We may buy businesses, products or technologies in the future. In
the event of any future purchases, we could:
- issue stock that would dilute our current stockholders' percentage
ownership;
- incur debt;
- assume liabilities;
- incur amortization expenses related to goodwill and other intangible
assets; or
- incur large and immediate write-offs.
FAILURE TO COMPLETE THE MERGER WITH DIGI INTERNATIONAL, INC. COULD NEGATIVELY
IMPACT OUR STOCK PRICE AND FUTURE BUSINESS OPERATIONS.
If the proposed merger with Digi International, Inc. is not completed for
any reason, we may be subject to the following risks:
- if the merger is terminated and our board of directors determines to seek
another business combination, we may not be able to find a partner willing
to pay an equivalent or more attractive price than the price to be paid in
the proposed merger;
- various costs related to the merger, including legal, accounting, and
financial advisory fees, must be paid by us even if the merger is not
completed; and
- the price of our common stock may decline to the extent that the current
market price reflects an assumption that the merger will be completed.
OUR OPERATION OF ANY ACQUIRED BUSINESS WILL ALSO INVOLVE NUMEROUS RISKS,
INCLUDING:
- problems combining the purchased operations, technologies or products;
- unanticipated costs;
- diversion of management's attention from our core business;
- difficulties integrating businesses in different countries and cultures;
- adverse effects on existing business relationships with suppliers and
customers;
- risks associated with entering markets in which we have no or limited
prior experience; and
J-23
- potential loss of key employees, particularly those of the purchased
organizations.
We cannot assure you that we will be able to successfully integrate any
businesses, products, technologies or personnel that we have acquired or that we
might acquire in the future and any failure to do so could disrupt our business
and seriously harm our financial condition.
BECAUSE THE NASDAQ NATIONAL MARKET IS LIKELY TO EXPERIENCE EXTREME PRICE AND
VOLUME FLUCTUATIONS, THE PRICE OF OUR COMMON STOCK MAY DECLINE.
The market price of our shares is likely to be highly volatile and could be
subject to wide fluctuations in response to numerous factors, including the
following:
- actual or anticipated variations in our quarterly operating results or
those of our competitors;
- announcements by us or our competitors of new products or technological
innovations;
- introduction and adoption of new industry standards;
- changes in financial estimates or recommendations by securities analysts;
- changes in the market valuations of our competitors;
- announcements by us or our competitors of significant acquisitions or
partnerships; and
- sales of our common stock.
Many of these factors are beyond our control and may negatively impact the
market price of our common stock, regardless of our performance. In addition,
the stock market in general, and the market for technology companies in
particular, has been highly volatile. Our common stock may not trade at the same
levels of shares as that of other technology companies and shares of technology
companies, in general, may not sustain their current market prices. In the past,
securities class action litigation has often been brought against a company
following periods of volatility in the market price of its securities. We may be
the target of similar litigation in the future. Securities litigation could
result in substantial costs and divert management's attention and resources,
which could seriously harm our business and operating results.
PROVISIONS OF OUR CHARTER DOCUMENTS, OUR SHAREHOLDER RIGHTS PLAN AND LAW MAY
HAVE ANTI-TAKEOVER EFFECTS THAT COULD PREVENT A CHANGE OF CONTROL.
Provisions of our amended and restated articles of organization, bylaws,
our shareholder rights plan, and of Massachusetts law could make it more
difficult for a third party to acquire us, even if doing so would be beneficial
to our stockholders. Operating alone or together, the above provisions or
statutes may render more difficult or discourage a merger, consolidation or
tender offer, the assumption of control by a holder of a large block of our
shares, and the removal of incumbent management.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
We own financial instruments that are sensitive to market risks as part of
our investment portfolio. The investment portfolio is used to preserve our
capital until it is required to fund operations, including our research and
development activities. None of these market-risk sensitive instruments are held
for trading purposes. We do not own derivative financial instruments in our
investment portfolio. The investment portfolio contains instruments that are
subject to the risk of a decline in interest rates.
Investment Rate Risk. Our investment portfolio includes debt instruments
that primarily have durations of less than one year. These bonds are subject to
interest rate risk, and could decline in value if interest rates fluctuate. Our
investment portfolio also at times includes certain commercial paper which is
also subject to interest rate risk. Due to the short duration and conservative
nature of these instruments, we do not believe that we have a material exposure
to interest rate fluctuations.
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We have foreign operations in Europe and Japan. As a result, we are exposed
to fluctuations in foreign exchange rates. However, we do not expect that
changes in foreign exchange rates will have a significant impact on our results
of operations, financial position or cash flows. We plan to continue to expand
our operations globally which may increase our exposure to foreign exchange
fluctuations.
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PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
On or about August 9, 2001, a purported securities class action lawsuit
captioned "Ellis Investments, Ltd. v. NetSilicon, Inc., et al." (01-CV-7281) was
filed in the United States District Court for the Southern District of New York.
Later in August, 2001, two additional, nearly identical complaints were filed in
the same Court in lawsuits captioned "Michael Rasner v. NetSilicon, Inc., et
al." (01-CV-7651) and "Walter Weitz v. NetSilicon, Inc. et al." (01-CV-8217).
The suits name as defendants the Company, certain of its officers and directors,
and certain underwriters involved in the Company's initial public offering
("IPO"). The Ellis Investments suit also names Osicom Technologies, Inc. as a
defendant. The complaints in these actions are allegedly brought on behalf of
purchasers of the Company's common stock during the period from September 15,
1999 to December 6, 2000, and assert, among other things, that the Company's IPO
prospectus and registration statement violated federal securities laws because
they contained material misrepresentations and/or omissions regarding the
conduct of the Company's IPO underwriters in allocating shares in the Company's
IPO to the underwriters' customers. The actions seek rescission or rescissory
and other damages, fees and costs associated with the litigation, and interest.
The Company understands that various plaintiffs have filed substantially similar
lawsuits against over a hundred other publicly traded companies in connection
with the underwriting of their initial public offerings. The Company and its
officers and directors believe that the allegations in the complaints are
without merit and intend to contest them vigorously. An unfavorable resolution
of the actions could have a material adverse effect on the business, results of
operations or financial condition of the Company.
On November 2, 2001, the Company and Websprocket, LLC entered into a
Settlement Agreement and Mutual Release settling all claims between the
companies, including all claims and counterclaims asserted in the litigation
captioned Websprocket, LLC v. NetSilicon, Inc., Civil Action No. C-00-20915 RMV
pending in the United States District Court for the Northern District of
California. On November 13, 2001, the court approved and entered a Stipulation
of Dismissal With Prejudice, in which the Company and Websprocket, LLC dismissed
all claims in the litigation and waived all rights to appeal. The Company has
paid Websprocket, LLC approximately $162,000 as part of the settlement
agreement.
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
None
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
None
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None
ITEM 5. OTHER INFORMATION
None
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
Reports on 8-K
November 5, 2001 -- Form 8-K filed relating to the Agreement and Plan
of Merger dated as of October 30, 2001 by and among NetSilicon, Inc., Dove
Sub, Inc. and Digi International, Inc. and the Second Amendment, dated
October 30, 2001, to the Rights Agreement, dated as of September 30, 2000
between NetSilicon, Inc. and American Stock Transfer and Trust Company.
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SIGNATURES
Pursuant to the requirements of the Securities and Exchange Act of 1934,
the registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
NETSILICON, INC.
--------------------------------------
(Registrant)
By /s/ CORNELIUS PETERSON, VIII
------------------------------------
(Cornelius Peterson, VIII,
Chairman and Chief Executive
Officer)
December 11, 2001
By /s/ DANIEL J. SULLIVAN
------------------------------------
(Daniel J. Sullivan,
Executive Vice President,
Finance and Operations)
December 11, 2001
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