-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, M1S0lTHE4GQUYMJwktNL5WJkXP9IKbyEUyqpfBjGBVJT/5Be8mfx5gUuipYjLcaV +C1yhU7kXwCsFGeuk0pdqg== 0000891618-98-001346.txt : 19980330 0000891618-98-001346.hdr.sgml : 19980330 ACCESSION NUMBER: 0000891618-98-001346 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980327 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: LSI LOGIC CORP CENTRAL INDEX KEY: 0000703360 STANDARD INDUSTRIAL CLASSIFICATION: SEMICONDUCTORS & RELATED DEVICES [3674] IRS NUMBER: 942712976 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: SEC FILE NUMBER: 001-10317 FILM NUMBER: 98575845 BUSINESS ADDRESS: STREET 1: 1551 MCCARTHY BLVD STREET 2: MS D 106 CITY: MILPITAS STATE: CA ZIP: 95035 BUSINESS PHONE: 4084334039 MAIL ADDRESS: STREET 1: 1551 MCCARTHY BLVD STREET 2: MS D 106 CITY: MILPITAS STATE: CA ZIP: 95035 10-K405 1 FORM 10-K FOR THE PERIOD ENDED DECEMBER 31, 1997 1 ================================================================================ 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 DECEMBER 31, 1997 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: 0-11674 LSI LOGIC CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 94-2712976 (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
1551 MCCARTHY BOULEVARD MILPITAS, CALIFORNIA 95035 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (408) 433-8000 SECURITIES REGISTERED PURSUANT TO SECTION 12(B) OF THE ACT:
NAME OF EACH EXCHANGE TITLE OF EACH CLASS ON WHICH REGISTERED ------------------- --------------------- Common Stock, $0.01 par value New York Stock Exchange Preferred Share Purchase Rights New York Stock Exchange
SECURITIES REGISTERED PURSUANT TO SECTION 12(G) OF THE ACT: NONE (TITLE OF CLASS) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirement 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 the definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendments to this Form 10-K. [X] The aggregate market value of the voting stock held by non-affiliates of the registrant, based upon the closing price of the Common Stock on March 13, 1998 as reported on the New York Stock Exchange, was approximately $3,139,233,330. Shares of Common Stock held by each executive officer and director and by each person who owns 5% or more of the outstanding Common Stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes. As of March 13, 1998, registrant had 140,281,283 shares of Common Stock outstanding. DOCUMENTS INCORPORATED BY REFERENCE Parts of the following documents are incorporated by reference into Parts I, II, III and IV of this Form 10-K Report: (1) Proxy Statement for registrant's 1998 Annual Meeting of Stockholders, and (2) registrant's 1997 Annual Report to Stockholders. ================================================================================ 2 PART I ITEM 1. BUSINESS GENERAL LSI Logic Corporation (the "Company") is a leader in the design, development, manufacture and marketing of high performance application specific integrated circuits ("ASICs") and application specific standard products ("ASSPs"). The Company uses advanced process technology and design methodology to design, develop and manufacture highly complex circuits. The Company's submicron process technologies, combined with its product libraries, including CoreWare(R) libraries, provide the Company with the ability to integrate system level solutions on a single chip. The Company's product marketing approach is to focus primarily on original equipment manufacturers in the consumer, communications and computer products markets. The Company offers products and services for a variety of applications in each of these markets, including digital video disc ("DVD"), digital broadcasting, digital image processing and personal entertainment applications for the consumer products market; networking, telecommunications and wireless communication for the communications market; and personal computer, server, storage solutions and office automation applications for the computer products market. The Company targets its marketing and selling efforts toward acknowledged industry leaders in these markets. The Company has developed and uses complementary metal oxide semiconductor ("CMOS") process technologies to manufacture integrated circuits implementing submicron processes. The Company's 0.25 micron(1) G10(TM) process, for example, allows for up to 49,000,000 usable transistors on a single chip. The Company's G11(TM) process technology, which is currently expected to begin volume production in 1998, features a 0.18 micron gate length, allows for up to 64,000,000 usable transistors. During the first quarter of 1998, the Company announced its 0.13 micron G12(TM) process technology. These advanced technologies allow for greater density and increased functionality on a single chip. The Company's CoreWare design methodology and submicron process technologies permit customers to combine microprocessor "engines", predefined logic blocks (including industry standard functions), and memory along with a customer's proprietary logic on a single chip. This allows the customer to differentiate its product, optimize its application and shorten product development cycles. The Company was incorporated in California on November 6, 1980, and reincorporated in Delaware on June 11, 1987. Its principal offices are located at 1551 McCarthy Boulevard, Milpitas, California 95035, and its telephone number at that location is (408) 433-8000. Except where otherwise indicated, references to the "Company" mean LSI Logic Corporation and its majority and wholly-owned subsidiaries. This Annual Report on Form 10-K 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. Actual results could differ materially from those projected in the forward-looking statements as a result of a number of risks and uncertainties, including the risk factors set forth below and elsewhere in this Report. See "Risk Factors" below and "Management's Discussion and Analysis of Financial Condition and Results of Operations" which is incorporated by reference to Item 7 of Part II hereof. Statements made herein are as of the date of the filing of this Form 10-K with the Securities and Exchange Commission, and should not be relied upon as of any subsequent date. The Company expressly disclaims any obligation to update information presented herein, except as may otherwise be required by law. - --------------- (1) All references to gate length measurement reflect effective gate length unless otherwise indicated. 2 3 BUSINESS STRATEGY The Company's objective is to design and manufacture highly integrated, complex semiconductor devices that provide its customers with system level solutions on silicon thereby allowing customers to get to market rapidly with differentiated systems and products. To achieve this objective, the Company has implemented a business strategy incorporating the following key elements: - Emphasize CoreWare Methodology and System-on-a-Chip Capability. The Company's design methodology makes use of its CoreWare product libraries and its deep submicron process technologies to permit system level integration of microprocessors, logic blocks (including industry standard functions), memory and customer specific proprietary logic functions on a single chip. This methodology enables customers to improve the performance and reliability of their products and differentiate their products while shortening product development cycles and lowering development costs. The Company has utilized its design methodology to develop a line of targeted proprietary ASSPs that provide standard off-the-shelf solutions in areas including DVD, digital camera, digital video broadcasting and wireless communications. - Target Growth Markets and Selected Customers. The Company directs its marketing and selling efforts toward selected customers in the consumer, communications and computer products markets. The Company targets high growth end-markets characterized by increasingly shortened product cycles and ongoing changes in technological standards and performance requirements. As a result, customers in these markets tend to benefit from the flexibility of the Company's customized ASIC design methodology to help differentiate their products while still complying with existing and emerging global industry standards. - Promote Highly Integrated Design and Manufacturing Technology. The Company uses a mix of internally developed proprietary software and third party electronic design automation ("EDA") software which is highly integrated with the Company's manufacturing process requirements and designed to provide high predictability that the product's performance will mirror the computer simulation of the chip. The Company's sophisticated design tools and strategies, advanced process technology and submicron manufacturing capability are intended to provide customers with highly integrated solutions that work right the first time. The Company's design environment includes expanded interface capabilities to a range of third party EDA tools from leading vendors such as Cadence Design Systems, Inc., Mentor Graphics Corporation, Synopsys, Inc., and Ambit Design Systems, Inc. The Company continues to expand its expertise in the areas of system architecture and system level design verification. - Provide Flexibility in Design Engineering. The Company provides customers with a comprehensive approach and a continuum of solutions for the design and manufacture of ASICs. This allows customers substantial flexibility in how they proceed with an ASIC design project. A customer may implement product specifications in a particular chip design through its own engineers, on a "turn-key" basis using the Company's engineers, or through a collaborative effort. The Company's extensive, worldwide network of design and engineering professionals allows for effective interaction with customer management and engineering staff throughout the design process. - Maintain High-Quality and Cost-Effective Manufacturing. The Company believes that owning its wafer manufacturing facilities improves quality, cost-effectiveness, responsiveness to customers, implementation of leading-edge process technology and time-to-market advantages. The Company's manufacturing operations are located in the United States, Japan and Hong Kong. The Company performs substantially all of its packaging, assembly and final test operations through third party subcontractors in various locations. The Company's production operations in the U.S. and Japan, as well as all of its assembly and test subcontractors in the Far East, are ISO 9002 certified, an important international measure for quality. - Offer Worldwide Services. The Company markets its products and services on a worldwide basis through its direct sales, marketing and field technical staff of approximately 929 employees (including 3 4 U.S. and subsidiaries in Europe, Canada, Japan and elsewhere in the Asia Pacific region), as well as through independent sales representatives and distributors. The Company operates 42 design centers throughout the world to assist customers in product design activities. The Company's extensive, worldwide network of design centers allows the Company to provide customers with highly experienced engineers to interact with customer engineering management and system architects to develop designs for new products and to provide continuing after-sale customer support. PRODUCTS AND SERVICES Engineering The Company's product marketing and sales strategy is to focus on original equipment manufacturers ("OEMs") in the consumer, communications and computer products markets. The Company seeks to engage with leaders in these markets with the objective of providing technical support to customers early in their new system product development process. In executing its engineering strategy, the Company offers a wide variety of engineering design services, allowing the customer to determine the level of participation which it will have in the design process. The Company may provide complete "turn-key" engineering support for design projects where the customer provides high level functional objectives. This type of engineering support is well suited for a customer's system level design project in which the Company is engaged to utilize one or more of its CoreWare library elements for delivering a system on a single chip. However, the customer may also perform substantial design activity on its own. In either case, the Company's design environment offers system level design capability featuring hardware/software co-verification and includes an expanded interface to various third party EDA vendors' design tools. In 1997, the Company acquired Mint Technology, Inc. ("Mint Technology"), an engineering services company headquartered near Boston, Massachusetts, which offers design engineering and related consulting services and provides expertise in the areas of system architecture and system level design simulation verification and synthesis used in the development of complex integrated circuits. The acquisition is intended to complement and expand the Company's engineering design capabilities. The Company makes available various library elements (including macrocells, the basic silicon structures used in the design of logic circuits, and the larger predefined functional building blocks, "megacells" and "megafunctions"), technology databases and design automation software programs. The most complex of the Company's library elements are called cores which are comprised of predefined and pretested cells of generally recognized industry standard functions, protocols and interfaces. The Company's software design tool environment supports and automatically performs key elements of the design process from circuit concept through physical layout of the circuit design and preparation of pattern generation tapes from which the semiconductor "masks" or production tooling is made. The system also produces a test tape which is readable by standard industry semiconductor testing equipment. After completion of the engineering design effort, the Company produces and tests prototype circuits for shipment to the customer. Thereafter, the Company will commence volume production of integrated circuits that have been developed through one or more of the arrangements described above in accordance with the customer's quantity and delivery requirements. The Company generally does not have long term volume production contracts with its customers. Whether any specific customer design will result in volume production orders and, if so, the quantities included in any such orders, are factors beyond the control of the Company. Insufficient orders could result in underutilization of the Company's manufacturing facilities which could have an adverse impact on the Company's operating results and financial condition. Components The Company's vertical market focus on the consumer, communications and computer products markets permits it to dedicate engineering resources to develop component products and systems expertise directed at particular markets. This system level expertise and design methodology in conjunction with a wide range of 4 5 component product offerings, including the Company's CoreWare libraries and ASSPs, offer customers the opportunity to realize rapid time to market system-on-a-chip solutions. The Company's CoreWare design methodology offers a complete design approach for creating a system on a chip efficiently, predictably and rapidly to address the performance, cost and time-to-market goals of the customer. CoreWare library elements are complex, very large scale integration ("VLSI") or large system level, predefined building blocks of integrated circuit logic functions which are either developed by the Company or acquired under technology transfer or licensing agreements. CoreWare elements are highly integrated for use with the Company's proprietary and third party EDA design tool environment and those advanced manufacturing processes to which individual cores are targeted. The Company's CoreWare libraries are based upon functions, protocols and interfaces generally recognized as industry standards and are positioned to be useful in a wide variety of systems applications. The Company's CoreWare libraries include implementations of functions targeted for a particular market, such as switched Ethernet for networking and communications; fibre channel, IEEE 1394 and a PCI bus for computer products; and MPEG2 and Reed-Solomon encoder/decoder functions for the consumer market. Others, such as the Company's MiniRISC(R) family of MIPS-based RISC (reduced instruction set computing) CPU (central processing unit) cores, the Gigablaze(TM) Serial Transceiver, the ARM(R) CPU core and the OakDSPCore(R) digital signal processor, are useful in more than one product market. The Company's CoreWare libraries can be coupled with other CoreWare components, with memory and with customer proprietary logic to realize system level applications on a single chip. In addition, the Company offers a line of standard off-the-shelf, single chip solutions that perform a variety of high-speed digital signal and image processing operations and support a wide range of applications. The Company's ASSP offerings include a DVD decoder solution, a programmable single chip GSM baseband processor, an image processing solution for digital still camera and printer products, and a transport demultiplexer for set-top box applications. Standard products developed by the Company generally are implementations of emerging industry standard functions and may also be targeted for inclusion in its CoreWare library. The Company also offers a range of reference design modules to aid in the development of customers' products, such as the Scenario(TM) MPEG2/AC3 reference design module and the Integra(TM) SDP1100 platform for set top box applications, and hardware reference designs for DVD and digital still camera applications. The Company's CoreWare libraries are designed to be used with the customer's proprietary logic in cell-based designs based upon the Company's design methodology. The Company continues to emphasize engineering development and integration of CoreWare libraries into its ASIC design capabilities in the Company's transition from manufacturing products substantially based on the customer's proprietary logic design to emphasizing opportunities that utilize the Company's CoreWare libraries and system-on-a-chip design capabilities. There can be no assurance, however, that the cores selected for investment of the Company's financial and engineering resources will enjoy market acceptance or that such cores can be successfully integrated into the Company's design environment on a timely basis. Similarly, the Company's selection of ASSP offerings is based on its forecasts and assessments of emerging markets and technologies, availability and quality of supporting software and opportunities for customer differentiation. There can be no assurance that shifts in end-user markets or the inability of customers to implement differentiating features will not adversely affect market acceptance of the Company's ASSPs. The Company's component product offerings are based primarily upon its cell-based technology which allows the customer to combine standard cells, memories (such as fully static random access memory (RAM), static multi-port RAM and metal programmable read only memory (ROM)) and other dedicated VLSI building blocks called "megacells" on a single chip. Through combinations of these various cell-based structures, the Company can provide the customer with customized solutions to a wide variety of digital design problems. Cell based technology offers customers higher density and enhanced performance as compared to gate array technology. Gate array technology, in which a standard base matrix of uncommitted transistors is customized only in the later stages of manufacture, is a lower cost alternative offered by the Company in less 5 6 advanced process technologies. The Company offers a wide variety of die sizes and functionality configurations that are available in different feature sizes and are based on different process technologies. MANUFACTURING The Company's manufacturing operations convert a customer's design into packaged silicon chips and support customer volume production requirements. Manufacturing begins with fabrication of custom diffused wafers (for cell-based ASICs) or uncommitted wafers (for gate array ASICs). Although base layers for cell-based designs are themselves customized, gate array wafers are not and therefore may be inventoried by the Company pending customization accomplished in the metallization stage of fabrication. In the next stage of manufacture (metallization) layers of metal interconnects are diffused onto the wafer using customized masks. Wafers are then tested, cut into die and sorted. The die that have passed initial test are then assembled (embedded in and connected to one of a wide variety of packages) and encapsulated. The finished devices then undergo additional tests before shipment. Currently, the Company's manufacturing facilities are located in the United States, Japan and Hong Kong. Management and control of manufacturing operations is performed by the Company's Hong Kong affiliate. Substantially all of the Company's wafers are manufactured at its two wafer fabrication facilities in Japan, although the Company's new facility in Gresham, Oregon, is currently scheduled to begin production in 1998. Final assembly and test operations are conducted by the Company's Hong Kong affiliate through independent subcontractors, and at the Company's Fremont, California facility. Some of the Company's assembly and test subcontractors are located in the Philippines, Malaysia, Korea and Hong Kong. There can be no assurance that regional economic problems and exchange rate fluctuations currently being experienced in Asia will not affect the operations of those subcontractors or the prices they charge for services. The inability of the Company to obtain a minimum level of qualified assembly and test capacity would have a material adverse impact on the Company's operating results and financial condition. In July 1997, Hong Kong came under the complete control of the government of the People's Republic of China ("PRC"). Although the PRC control has resulted in no problems to date, there can be no assurance that the Company and its affiliates will not experience a disruption in the flow of products in the future which could result in a material adverse impact on the Company's operations. In addition to the reversion of Hong Kong to PRC control, any political or economic disruptions in the countries where the subcontractors are located could result in a material adverse impact on the Company's operating results and financial condition. The Company utilizes various high performance CMOS process technologies in the volume manufacture of its products. The Company's two facilities in Tsukuba, Japan utilize advanced process technologies in conjunction with computer integrated manufacturing to produce mainly 0.38 micron and G10 (0.25 micron) products. The Company's new facility in Gresham, Oregon, is equipped for production of eight-inch G10 and G11 (0.18 micron) products beginning in 1998. Each of these facilities has a highly automated production line, providing greater productivity, product quality and production management flexibility, and offering customers a high-volume, reliable source for manufacturing. The Company utilizes highly specialized chemical mechanical polishing ("CMP") equipment in its manufacturing facilities. CMP increases manufacturing yields and allows for higher levels of chip customization. The Company has in the past and will in the future consider developing foundry relationships with certain other semiconductor manufacturers whereby the Company may purchase quantities of wafers that are manufactured to the Company's specifications. The new Gresham, Oregon, site, located on approximately 325 acres near Portland, is equipped for state-of-the-art manufacturing operations as well as for other purposes. The site is planned to accommodate expansion requirements the Company may have in the foreseeable future. The Company spent approximately $317 million on the facility in 1997 and expects to spend an additional $123 million in the first three quarters of 1998 to bring the facility to operational status. The level of capital expenditures necessary to enable the Company to remain competitive results in a relatively high level of fixed costs. If demand for the Company's products does not absorb the additional capacity, the increase in fixed costs and operating expenses related to increases in production capacity may result in a material adverse impact on the Company's operating results 6 7 and financial condition. The Greshman facility is a sophisticated, highly complex, state-of-the-art factory whose production rates depend upon the reliable operation and effective integration of a variety of hardware and software components. There can be no assurance that all of these components will be fully functional or successfully integrated within the currently projected ramping schedule or that the facility will not fail to achieve the forecasted yield targets. Failure of the facility to achieve an acceptable level of production capacity during test phase and ramp-up or to maintain acceptable levels during production could have a material adverse impact on the Company's operating results and financial condition. In the assembly process, the fabricated circuit is encapsulated into ceramic or plastic packages. The Company has developed a network of offshore third-party assembly and final test subcontractors for plastic packaging. The Company has benefited from the cost savings associated with these third-party subcontractors. The Company performs ceramic package assembly for its products at its Fremont, California facility. Ceramic packaging is primarily utilized in applications involving the need to protect the circuit against a potentially harsh operating environment. The Fremont assembly line has been specially equipped to support such high reliability packaging needs. The proportion of ceramic packaging capable of being done by independent assembly plants continues to increase and the Company subcontracts some ceramic packaging offshore. The Company utilizes a high-density Flip Chip interconnect packaging technology which essentially replaces wires that connect the edge of the die to a package with solder bumps spread over the entire external surface of the die. This technology enables the Company to reach exceptional performance and lead count levels in packages required for process technologies of 0.18 micron and below. The Company has also introduced a mini ball grid array package which offers a smaller package size without sacrificing electrical and thermal performance. Testing includes final test and final quality assurance acceptance. Dedicated computer systems are used in this comprehensive testing sequence. The test programs utilize the basic functional test criteria from the design simulation which was generated and approved by the customers' design engineers. Most product testing operations are currently conducted in close proximity to the particular facility where assembly activities are performed. The Company intends to continue its use of independent assembly plants to test its products. The semiconductor industry is capital intensive. In order to remain competitive, the Company must continue to make significant investments in new facilities and capital equipment. The Company spent approximately $513 million on capital additions in 1997, net of retirements, and expects to spend approximately $400 million in 1998. The Company believes that existing liquid resources and funds generated from operations combined with its ability to borrow funds will be adequate to meet its operating and capital requirements and obligations through the foreseeable future. The Company believes that its level of resources is an important factor in its industry. Accordingly, the Company may from time to time seek additional equity or debt financing. However, there can be no assurance that such additional financing will be available when needed or, if available, will be on favorable terms. Any future equity financing will decrease existing stockholders' percentage equity ownership and may, depending on the price at which the equity is sold, result in dilution. Disruption of operations at any of the Company's primary manufacturing facilities, or at any of its subcontractors for any reason, including work stoppages, fire, earthquake, flooding or other natural disasters, would cause delays in shipments of the Company's products. There can be no assurance that alternate capacity would be available on a timely basis or at all, or that, if available, it could be obtained on favorable terms, thereby potentially resulting in a loss of customers. The disruption of operations for these and other reasons could have a material adverse impact on the Company's operating results and financial conditions. The Company has in the past, and will in the future, consider developing foundry relationships with certain other semiconductor manufacturers whereby the Company may purchase quantities of wafers that are manufactured to the Company's specifications. The semiconductor industry historically has been characterized by wide fluctuations in product supply and demand. From time to time the industry also has experienced significant downturns, often in connection with, or in anticipation of, maturing product cycles (of both the semiconductor companies and their customers) and declines in general economic conditions. These downturns have been characterized by various factors such as abrupt fluctuations in product demand, production overcapacity and subsequent accelerated 7 8 erosion of average selling prices, and in some cases have lasted for more than a year. The Company may experience substantial period-to-period fluctuations in future operating results due to general industry conditions or events occurring in the general economy, and the Company's business could be materially and adversely impacted by a significant industry-wide downturn. The semiconductor industry also has been characterized by periods of rapid expansion of production capacity. Even if customers' aggregate demand might not decline, the availability of additional capacity can adversely impact pricing levels, which can also depress revenue levels. Also, during such periods, customers benefiting from shorter lead times may delay some purchases into future periods. To remain competitive, the Company must develop and implement new process technologies in order to reduce semiconductor die size, increase device performance and improve manufacturing yields, to adapt products and processes to technological changes and adopt emerging industry standards. The Company continues to evaluate its worldwide manufacturing operations to effect additional cost savings and technological improvements. Nevertheless, if the Company is not able to successfully implement new process technologies and to achieve volume production of new products at acceptable yields using new manufacturing processes, the Company's operating results and financial condition may be adversely impacted. Development of advanced manufacturing technologies in the semiconductor industry frequently requires that critical selections be made as to those vendors from which essential equipment (including future enhancements) and after-sales services and support will be purchased. Similarly, procurement of certain types of materials required by the Company's manufacturing technologies are closely linked with certain equipment selections. When the Company implements specific technology choices, it may become dependent upon certain sole-source vendors. Accordingly, the Company's capability to switch to other technologies and vendors may be substantially restricted and may involve significant expense and delay in the Company's technology advancements and manufacturing capabilities. The semiconductor equipment and materials industries also include a number of vendors that are relatively small and have limited resources. Several of these vendors provide equipment and or services to the Company. The Company does not have long-term supply or service agreements with many vendors of certain critical items, and shortages could occur in various essential materials due to interruption of supply or increased demand in the industry. Additionally, there can be no assurance that disruptions in these vendors' ability to perform will not occur. Should the Company experience such disruptions, the Company's operations could be materially and adversely impacted, which could have a material adverse impact on its operating results and financial condition. The Company's operations also depend upon a continuing adequate supply of electricity, natural gas and water. To date, the Company has experienced no significant difficulty in obtaining the necessary raw materials. The Company has international subsidiaries which operate and sell the Company's products in various global markets. The Company purchases a substantial portion of its raw materials and equipment from foreign suppliers, and incurs labor and other operating costs, particularly in its Japanese manufacturing facilities, in foreign currencies. As a result, the Company is exposed to international factors such as changes in foreign currency exchange rates or weak economic conditions of the respective countries in which the Company operates. The Company also has borrowings and operating lease obligations denominated in yen, which totaled approximately 29 billion yen (approximately $224 million) at December 31, 1997. Such transactions and borrowings expose the Company to exchange rate fluctuations for the period of time from inception of the transaction until it is settled. In recent years, the yen has fluctuated substantially against the U.S. dollar. The Company utilizes forward exchange, currency swap and option contracts to manage its exposure associated with currency fluctuations on intercompany transactions and certain foreign currency denominated commitments. There can be no assurance that such hedging transactions will minimize exposure to currency rate fluctuations or that fluctuations in currency exchange rates in the future will not have a material adverse impact on the Company's operating results and financial condition. In addition, there can be no assurance that inflation rates in countries where the Company conducts operations will not have a material adverse impact on the Company's operating results and/or financial condition in the future. Both manufacturing and sales of the Company's products may be adversely impacted by political and economic conditions abroad. Protectionist trade legislation in either the United States or foreign countries, 8 9 such as a change in the current tariff structures, export compliance laws or other trade policies, could affect adversely the Company's ability to manufacture or sell in foreign markets. YEAR 2000 The Company uses a significant number of computer software programs and operating systems in its internal operations, including applications used in its financial, product development, order management and manufacturing systems. The inability of computer software programs to accurately recognize, interpret and process date codes designating the year 2000 and beyond could cause systems to yield inaccurate results or encounter operating problems, including interruption of the business operations such systems control. The Company is in the process of analyzing its internal computer-based systems to identify potential vulnerabilities and implement corrections or changes that may be required. Based on information currently available, the Company believes that its internal systems currently are or, by such time as is necessary to avoid material adverse impact on the Company, will be capable of functioning without year 2000 problems. Also based on information thus far available to the Company, the Company does not believe it will incur expenditures in dealing with year 2000 issues that will have a material adverse impact on the Company's operating results or financial condition. The Company may also be exposed to risks from computer systems of parties with whom the Company transacts business. Were problems to develop with such other parties' systems, they could have a material adverse impact on the Company. In response to this, the Company is taking steps, including contacting its strategic suppliers and large customers, to determine the extent to which the Company may be vulnerable to those parties' failure to remedy their own year 2000 issues and to ascertain what actions, if needed, may be taken by the Company in response to such risks. The Company has expended and will continue to expend appropriate resources to address this issue on a timely basis. The analysis is not complete, however, and there can be no assurances that unknown costs ultimately necessary to update systems or address potential system interruptions will not have a material adverse impact on the Company's business, financial condition or results of operations. To date, the Company has not identified any loss contingencies related to the year 2000 issues for products it has sold. MARKETING AND CUSTOMERS The Company has focused its marketing efforts primarily on the consumer, communications and computer products industries. Within those markets, the Company emphasizes digital broadcasting, personal entertainment, wireless communication, networking, public telecommunications, storage, workstations, personal computer and office automation applications. The Company's strategy is to leverage its systems level ASIC strength to the benefit of acknowledged leaders in those product markets. The Company, however, expects that this strategy will result in the Company becoming increasingly dependent on a limited number of customers for a substantial portion of its revenues. The Company markets its products and services through its worldwide direct sales and marketing and field engineering organizations which consist of approximately 929 employees at 42 locations throughout the world, and through independent sales representatives and distributors. Each of the Company's customer design centers also includes a direct sales office. See "Properties." For information concerning foreign operations, see Note 10 of Notes to Consolidated Financial Statements in the Company's 1997 Annual Report to Stockholders, which is incorporated by reference herein. International sales are subject to risks common to export activities, including governmental regulations, trade barriers, tariff increases and currency fluctuations. To date, the Company has not experienced any material difficulties because of these risks. In 1997, Sony Corporation accounted for approximately 22% of the Company's revenues. In 1996 and 1995, Sony Corporation accounted for approximately 14% and 12%, respectively, of the Company's net revenues. Although the Company does not currently foresee any reduction in volume of products ordered by Sony, there can be no assurance that a significant decline in product orders, significant changes in scheduled deliveries or a significant decrease in product price would not have a material adverse impact on the Company's operating results and financial condition. 9 10 BACKLOG Generally, the Company's customers are not subject to long-term contracts, but instead use purchase orders that are subject to acceptance by the Company. Quantities of the Company's products to be delivered and delivery schedules under purchase orders outstanding from time to time are frequently revised to reflect changes in customer needs. In addition, the timing of the performance of design services included in the Company's backlog at any particular time is generally within the control of the customer, not the Company. For these reasons, the Company's backlog as of any particular date is not a meaningful indicator of future sales. COMPETITION The Company's competitors include many large domestic and foreign companies which have substantially greater financial, technical and management resources than the Company, as well as emerging companies attempting to sell products to specialized markets such as those addressed by the Company. Representative examples include major diversified electronics companies such as Fujitsu Corporation, Toshiba Corporation, NEC Corporation, SGS Thomson Microelectronics, S.A., and a number of United States semiconductor manufacturers, including Lucent Technologies, Inc., IBM Corporation and VLSI Technology, Inc. In addition, the Company faces competition from some companies whose strategy is to provide a portion of the products and services which the Company offers. For example, these competitors may offer semiconductor design services, may license design tools, and/or may provide support for obtaining products at an independent foundry. In addition, there is no assurance that certain large customers, some of whom the Company has licensed to use elements of its process and product technologies, will not develop internal design and production operations to produce their own ASICs. The principal factors on which competition in the ASIC market is based include design capabilities (including the software design tool features, compatibility with industry standard design tools, CoreWare library and the skills of the design team), quality, delivery time and price. In addition, ASSP offerings compete on quality of system integration, existence and accessibility of differentiating features and quality and availability of supporting software. The Company believes that it presently competes favorably with respect to these factors, and that its success will depend on its continued ability to provide its customers with a complete range of design services, products and manufacturing capabilities on competitive terms. There can be no assurance, however, that other custom design approaches or competing system level products will not be developed by others which could have a material adverse impact on the Company's operating results and financial condition. The Company is increasingly emphasizing its CoreWare design methodology and ASSP product offerings. This strategy may present new business opportunities for which the Company believes it has a present competitive advantage. Although there are other companies that offer similar types of products and related services, the Company believes it currently offers different, and generally more complete, capabilities than those companies. As the markets for the CoreWare approach and ASSPs grow, the Company's competitors will increasingly offer alternative solutions and competition will intensify. There can be no assurance that the Company's CoreWare product approach and product offerings will continue to receive market acceptance, that a competitor's approach will not achieve greater acceptance or that as competition intensifies, the Company's future operating results and financial condition will not be adversely impacted. Important competitive factors will include the content, quantity and quality of CoreWare library elements available, the quality of process technology, the ability of a company to offer its customers systems level expertise, the ability of a customer to customize and differentiate its product and the availability and quality of software to support system-level integration. There can be no assurance that the Company will be able to compete favorably in these areas. RESEARCH AND DEVELOPMENT The semiconductor industry is characterized by rapid changes in both product and process technologies. Because of continual improvements in these technologies, the Company believes that its future success will 10 11 depend, in part, upon its ability to continue to improve its product and process technologies and to develop new technologies in a cost effective manner in order to maintain the performance advantages of its products and processes relative to competitors, to adapt products and processes to technological changes and to adopt emerging industry standards. If the Company is not able to successfully implement these new process technologies and to achieve volume production of new products at acceptable yields using new manufacturing processes, there will be a material adverse impact on the Company's operating results and financial condition. The Company's research and development emphasizes the development of new advanced products, improvements in process technologies, enhancements of design automation software capabilities, and cost reduction of existing products. During 1997, 1996 and 1995, the Company expended $226,219,000, $184,452,000 and $123,892,000, respectively, on its research and development activities, representing 18%, 15% and 10%, respectively, as a percentage of revenues. The Company expects to continue to make significant investments in research and development activities and believes such investments are critical to its ability to continue to compete with other ASIC manufacturers. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" at page 11 of the Company's 1997 Annual Report to Stockholders, incorporated herein by reference. PATENTS, TRADEMARKS AND LICENSES The Company owns various United States and international patents and has additional patent applications pending relating to certain of its products and technologies. The Company also maintains trademarks on certain of its products and services. Although the Company believes that patent and trademark protection have value, the rapidly changing technology in the semiconductor industry makes the Company's future success dependent primarily upon the technical competence and creative skills of its personnel rather than on patent and trademark protection. As is typical in the semiconductor industry, the Company has from time to time received, and may in the future receive, communications from other parties asserting patent rights, mask work rights, copyrights, trademark rights or other intellectual property rights that such other parties allege cover certain of the Company's products, processes, technologies or information. Several such assertions relating to patents are in various stages of evaluation. The Company is considering whether to seek licenses with respect to certain of these claims. Based on industry practice, the Company believes that licenses or other rights, if necessary, could be obtained on commercially reasonable terms. Nevertheless, no assurance can be given that licenses can be obtained, or if obtained will be on acceptable terms or that litigation or other administrative proceedings will not occur. The inability to obtain licenses or other rights or to obtain such licenses or rights on favorable terms or litigation arising out of such other parties' assertions could have a material adverse impact on the Company's future operating results and financial condition. Litigation that arose with respect to one such assertion was finally resolved in 1997 in favor of the Company. See "Legal Proceedings". The Company has also entered into certain cross license agreements, which generally provide for the non-exclusive licensing of design and product manufacturing rights and for cross-licensing of future improvements developed by either party. ENVIRONMENTAL REGULATION Federal, state and local regulations impose various environmental controls on the use and discharge of certain chemicals and gases used in semiconductor processing. The Company's facilities have been designed to comply with these regulations, and the Company believes that its activities conform to present environmental regulations. However, increasing public attention has been focused on the environmental impact of electronics and semiconductor manufacturing operations. While the Company to date has not experienced any materially adverse impact on its business from environmental regulations, there can be no assurance that such regulations will not be amended so as to impose expensive obligations on the Company. In addition, violations of environmental regulations or unpermitted discharges of hazardous substances could result in the necessity for additional capital improvements to comply with such regulations or to restrict discharges, liability to Company employees and/or third parties, and business interruptions as a consequence of permit suspensions or 11 12 revocations or as a consequence of the granting of injunctions requested by governmental agencies or private parties. EMPLOYEES At December 31, 1997, the Company and its subsidiaries had approximately 4,443 employees, including approximately 611 in field engineering and sales, approximately 318 in product marketing, approximately 1,116 in research and development activities, approximately 1,966 in manufacturing and approximately 432 in executive and administrative activities. The Company's future success depends in large part on the continued service of its key technical and management personnel and on its ability to continue to attract and retain qualified employees, particularly those highly skilled design, process and test engineers involved in the manufacture of existing products and the development of new products and processes. The competition for such personnel is intense, and the loss of key employees or the inability to hire such employees when needed could have a material adverse impact on the Company. The Company has never had a work stoppage, slow-down or strike, and no United States employees are represented by a labor organization. The Company considers its employee relations to be good. RISK FACTORS In addition to the following risk factors, reference is made to those risk factors described elsewhere in this Form 10-K Report, as well as in the other documents incorporated by reference in this Form 10-K Report. Dependence on New Process Technologies and Products. The Company believes that its future success depends, in part, on its ability to improve its existing technologies and to develop and implement new process technologies in order to continue to reduce semiconductor die size, improve device performance and manufacturing yields, adapt products and processes to technological changes and adopt emerging industry standards. If the Company is not able to successfully implement new process technologies and achieve volume production of new products at acceptable yields using new manufacturing processes, the Company's operating results and financial condition will be adversely impacted. In addition, the Company must continue to develop and introduce new products that compete effectively on the basis of price and performance and that satisfy customer requirements. New product development often requires long-term forecasting of market trends, development and implementation of new processes and technologies and a substantial capital commitment. The Company intends the CoreWare library elements and ASSPs it offers to be based upon industry standard functions, protocols and interfaces, thereby positioning them to be useful in a wide variety of systems applications. The Company continues to emphasize engineering development and acquisition of CoreWare building blocks and integration of CoreWare libraries into its design capabilities. There can be no assurance, however, that the standard product offerings or cores selected for investment of the Company's financial and engineering resources will be developed or acquired in a timely manner or will enjoy market acceptance. Manufacturing Risks. Disruption of operations at any of the Company's primary manufacturing facilities, particularly the Company's Japanese facilities, or any of its subcontractors for any reason, including work stoppages, fire, earthquake, flooding or other natural disasters, would cause delays in shipments of the Company's products. There can be no assurance that alternate capacity, particularly wafer production capacity, would be available on a timely basis or at all, or that if available, it could be obtained on favorable terms, thereby potentially resulting in a loss of customers. The disruption of operations for those or other reasons could result in a material adverse impact on the Company's operating results and financial condition. The Company generally does not have long-term volume production contracts with its customers. Whether any specific ASIC design or ASSP offering will result in volume production orders and, if so, the quantities included in any such orders, are factors beyond the control of the Company. Insufficient orders will result in underutilization of the Company's manufacturing facilities which would adversely impact the Company's operating results and financial condition. The Company's new wafer fabrication facility in Gresham, Oregon, is currently scheduled to begin production in 1998. The Gresham facility is a sophisticated, highly complex, state-of-the-art factory whose production rates depend upon the reliable operation and effective integration of a variety of hardware and 12 13 software components. There can be no assurance that all of these components will be fully functional or successfully integrated within the currently projected ramping schedule or that the facility will not fail to achieve the forecasted yield targets. Failure of the facility to achieve an acceptable level of production capacity during test phase and ramp-up or to maintain acceptable levels during production could have a material adverse impact on the Company's operating results and financial condition. Capital Needs. The semiconductor industry is capital intensive. In order to remain competitive, the Company must continue to make significant investments in new facilities and capital equipment. The Company spent $513 million in 1997 on capital additions and expects to spend approximately $400 million during 1998. Significant capital expenditures are expected in subsequent years, as well. The Company believes that existing liquid resources and funds generated from operations combined with its ability to borrow funds will be adequate to meet its operating and capital requirements and obligations through the foreseeable future. The Company believes that its level of resources is an important factor in its industry. Accordingly, the Company may from time to time seek additional equity or debt financing. However, there can be no assurance that such additional financing will be available when needed or, if available, will be on favorable terms. Any future equity financing will decrease existing stockholders' percentage equity ownership and may, depending on the price at which the equity is sold, result in dilution. In addition, the level of capital expenditures necessary to enable the Company to remain competitive results in a relatively high level of fixed costs. If demand for the Company's products does not absorb the additional capacity, the increase in fixed costs and operating expenses related to increases in production capacity could have a material adverse impact on the Company's operating results and financial condition. Fluctuations in Operating Results. The Company believes that its future operating results will continue to be subject to quarterly variations based upon a wide variety of factors, including the cyclical nature of both the semiconductor industry and the markets addressed by the Company's products, the availability and extent of utilization of manufacturing capacity, price erosion, competitive factors, the timing of new product introductions and the ability to develop and implement new technologies. The Company's operating results could also be impacted by sudden fluctuations in customer requirements, currency exchange rate fluctuations and other economic conditions affecting customer demand and the cost of operations in one or more of the global markets in which the Company does business. As a participant in the semiconductor industry, the Company operates in a technologically advanced, rapidly changing and highly competitive environment. The Company predominantly sells custom products to customers operating in a similar environment. Accordingly, changes in the conditions of any of the Company's customers may have a greater impact on the Company than if the Company predominantly offered standard products that could be sold to many purchasers. While the Company cannot predict what effect these various factors may have on its financial results, the aggregate effect of these and other factors could result in significant volatility in the Company's future performance and stock price. To the extent the Company's performance may not meet expectations published by external sources, public reaction could result in a sudden and significantly adverse impact on the market price of the Company's securities, particularly on a short-term basis. Competition. The semiconductor industry in general and the markets in which the Company competes in particular are intensely competitive, exhibiting both rapid technological changes and continued price erosion. The Company's competitors include many large domestic and foreign companies which have substantially greater financial, technical and management resources than the Company, as well as smaller specialized and emerging companies attempting to sell products in particular markets which are also targeted by the Company. Several major diversified electronics companies offer ASIC products and/or other products which are competitive to the product lines of the Company. In addition, the Company faces competition from some companies whose strategy is to provide a portion of the products and services which the Company offers. For example, these competitors may offer semiconductor design services, may license design tools, and/or may provide support for obtaining products at an independent foundry. In addition, there is no assurance that certain large customers, some of whom have licensed elements of the Company's process and product technologies, will not develop internal design and production operations to produce their own ASICs. There can be no assurance that the Company will be able to continue to compete effectively with its existing or new competitors. 13 14 The principal factors on which competition in the ASIC market is based include design capabilities (including the software design tool features, compatibility with industry standard design tools, CoreWare library and the skills of the design team), quality, delivery time and price. In addition ASSP offerings compete on quality of system integration, existence and accessibility of differentiating features and quality and availability of supporting software. The Company believes that it presently competes favorably with respect to these factors, and that its success will depend on its continued ability to provide its customers with a complete range of design services, products and manufacturing capabilities on competitive terms. There can be no assurance, however, that other custom logic design approaches and system-level products will not be developed by others which could have a material adverse impact on the Company's operating results and financial condition in the future. Currency Risks. The Company has international subsidiaries which operate and sell the Company's products in various global markets. The Company purchases a substantial portion of its raw materials and equipment from foreign suppliers, and incurs labor and other operating costs, particularly in its Japanese manufacturing facilities, in foreign currencies. As a result, the Company is exposed to international factors such as changes in foreign currency exchange rates or weak economic conditions of the respective countries in which the Company operates. The Company also has borrowings and operating lease obligations denominated in yen, which totaled approximately 29 billion yen (approximately $224 million) at December 31, 1997. Such transactions and borrowings expose the Company to exchange rate fluctuations for the period of time from inception of the transaction until it is settled. In recent years, the yen has fluctuated substantially against the U.S. dollar. The Company utilizes forward exchange, currency swap and option contracts to manage its exposure associated with currency fluctuations on intercompany transactions and certain foreign currency denominated commitments. There can be no assurance that such hedging transactions will minimize exposure to currency rate fluctuations or that fluctuations in currency exchange rates in the future will not have a material adverse impact on the Company's operating results or financial condition. In addition, there can be no assurance that inflation rates in countries where the Company conducts operations will not have a material adverse impact on the Company's operating results and/or financial condition in the future. Both manufacturing and sales of the Company's products may be adversely impacted by political and economic conditions abroad. Protectionist trade legislation in either the United States or foreign countries, such as a change in the current tariff structures, export compliance laws or other trade policies, could adversely impact the Company's ability to manufacture or sell in foreign markets. Customer Concentration. As a result of the Company's strategy to direct its marketing and selling efforts toward selected customers, the Company expects that it will become increasingly dependent on a limited number of customers for a substantial portion of its net revenues. During 1997, approximately 56% of the Company's net revenues were from sales to its top ten customers including Sony Corporation, which accounted for 22% of net revenues. Loss of new product design wins or cancellation of business from any of these major customers, significant changes in scheduled deliveries to any of these customers or decreases in the prices of products sold to any of these customers could have a material adverse impact on the Company's operating results and financial condition. Intellectual Property and Litigation. Although the Company believes that the protection afforded by its patents, patent applications and trademarks has value, the rapidly changing technology in the semiconductor industry makes the Company's future success dependent primarily upon the technical competence and creative skills of its personnel rather than on patent and trademark protection. As is typical in the semiconductor industry, the Company has from time to time received, and may in the future receive, communications from other parties asserting patent rights, mask work rights, copyrights, trademark rights or other intellectual property rights that such other parties allege cover certain of the Company's products, processes, technologies or information. Several such assertions relating to patents are in various stages of evaluation. The Company is considering whether to seek licenses with respect to certain of these claims. Based on industry practice, the Company believes that licenses or other rights, if necessary, could be obtained on commercially reasonable terms for such existing or future claims. Nevertheless, no assurance can be given that licenses can be obtained, or if obtained will be on acceptable terms or that litigation or other administrative proceedings will not occur. The inability to obtain certain licenses or other rights or to obtain such licenses or 14 15 rights on favorable terms, or litigation arising out of such other parties' assertions, both existing and future, could have a material adverse impact on the Company's operating results and financial condition. Cyclical Nature of the Semiconductor Industry. The semiconductor industry is characterized by rapid technological change, rapid product obsolescence and price erosion, and wide fluctuations in product supply and demand. From time to time the industry also has experienced significant downturns, often in connection with, or in anticipation of, maturing product cycles (of both the semiconductor companies and their customers) and declines in general economic conditions. These downturns have been characterized by abrupt fluctuations in product demand, production overcapacity and subsequent accelerated erosion of average selling prices, and in some cases, have lasted for more than a year. The Company may experience substantial period-to-period fluctuations in future operating results due to general industry conditions or events occurring in the general economy, and the Company's operating results and financial condition could be materially and adversely impacted by a significant industry-wide downturn. The semiconductor industry also has been characterized by periods of rapid expansion of production capacity. Even if customers' aggregate demand were not to decline, the availability of additional capacity can adversely impact pricing levels, which can also depress revenue levels. Also, during such periods, customers benefiting from shorter lead times may delay some purchases into future periods. There can be no assurance the Company will not experience such downturns in the future, which could have a material impact on the Company's operating results and financial condition. Acquisitions and Investment Alliances. The Company's strategy of providing leading edge products and services requires a wide variety of technology and capabilities and the ability quickly to adapt to emerging changes in technology. Although the Company invests significant resources in research and development activities, the complexity and rapidity of changes make it difficult for the Company to pursue development of all technological solutions on its own. Acquisitions and investment alliances in complementary technology and capabilities may enable the Company to act quickly to offer to its customers and potential customers a full range of complete solutions that would be expected to meet current and emerging technological standards. The ultimate success of the acquisitions and investment alliances in achieving the purposes for which they were undertaken depends on a variety of factors, some of which are beyond the control of the Company, including the difficulties encountered in assimilating the operations, technologies and products of the acquired company, the degree to which management of both companies will become distracted from the normal operations of the business during and after the acquisition process, the risk of entering new markets with strong established competitors, the ability to retain key management and talent of the acquired company, and the ability of the acquiring company to manage the growth occasioned by the competition. In addition, investments in emerging technology present risks of loss of value of one or more of the investments due to failure of the technology to gain the predicted market acceptance or failure of the investment partner to successfully bring a product to market. There can be no assurances that failure to manage growth effectively and to successfully integrate acquisitions made by the Company would not have a material adverse impact on the Company's operating results or financial condition. 15 16 ITEM 2. PROPERTIES The following table sets forth certain information concerning the Company's principal facilities. Principal Locations
NO. OF LEASED/ TOTAL BUILDINGS LOCATION OWNED SQ. FT. USE - --------- -------- ------- ------- --- 7 Milpitas, CA Leased 609,410 Corporate Offices, Administration, Engineering 1 Fremont, CA Leased 74,000 Manufacturing 1 Fremont, CA Owned 65,000 Manufacturing 2 Santa Clara, CA Leased 83,290 Research and Development 1 Fremont, CA Leased 39,246 Logistics 3 Gresham, OR Owned 532,400 Executive Offices, Engineering, Manufacturing 1 Bracknell, United Kingdom Leased 70,000 Executive Offices, Design Center, Sales 1 Tokyo, Japan Leased 24,263 Executive Offices, Design Center, Sales 7 Tsukuba, Japan Owned 334,541 Executive Offices, Manufacturing 1 Etobicoke, Canada Leased 14,005 Design Center, Sales 1 Tsuen Wan, Hong Kong Owned 26,000 Manufacturing Control, Assembly & Test
16 17 The Company maintains leased regional office space for its field sales, marketing and design center offices at the locations described below. In addition, the Company maintains design centers at various distributor locations. United States International Atlanta, GA Etobicoke, Ontario, Canada Austin, TX Kanata, Ontario, Canada Beaverton, OR Montreal, Quebec, Canada Bellevue, WA Ballerup, Denmark Bethesda, MD Paris, France Billerica, MA (Mint Technology) Munich, Germany Boca Raton, FL Stuttgart, Germany Boulder, CO Netanya, Israel Bowling Green, KY Ramat Hasharon, Israel Dallas, TX Milan, Italy Edison, NJ Osaka, Japan Houston, TX Tokyo, Japan Irvine, CA Seoul, Korea Milpitas, CA Singapore Minneapolis, MN Madrid, Spain Mountain View, CA Kista, Sweden Raleigh, NC Taipei, Taiwan Roseville, CA Bracknell, U.K. Salt Lake City, UT San Diego, CA Santa Clara, CA (Mint Technology) Schaumburg, IL Victor, NY Waltham, M
Leased facilities described above are subject to operating leases which expire in 1998 through 2022. See Note 11 of Notes to Consolidated Financial Statements in the Company's 1997 Annual Report to Stockholders, incorporated herein by reference. Although the Company has plans to acquire additional equipment, the Company believes that its existing facilities and equipment are well maintained, in good operating condition and are adequate to meet its current requirements. ITEM 3. LEGAL PROCEEDINGS During the third quarter of 1995, the Company acquired all the remaining shares (45%) of its Canadian subsidiary LSI Logic Corporation of Canada, Inc., which it did not already own. Certain former shareholders, representing approximately 800,000 shares, or 3% of the previously outstanding shares, have exercised dissent and appraisal rights. An action is pending in the Court of Queen's Bench of Alberta, Judicial District of Calgary, for the adjudication of claims asserted by such former shareholders under the relevant provisions of the Canada Business Corporations Act. In addition, a separate action was filed by another former shareholder in the Court of Chancery of the State of Delaware in and for New Castle County, seeking an order that the acquisition of shares by the Company be enjoined, certification of a class and damages. Although the case originally was dismissed pursuant to a motion filed by the Company, on appeal the order of dismissal was reversed and the case was remanded to the Court of Chancery. The Company's renewed motion to dismiss was granted in January 1998 by the Court of Chancery, to which the plaintiff has filed a notice of intent to appeal to the Delaware Supreme Court. While no assurances can be given regarding either the ultimate determination of the Canadian court or the outcome of the action filed in Delaware, the Company believes that the final 17 18 outcome of the these matters will not have a material adverse effect on the Company's consolidated financial position or results of operations. The action filed by Texas Instruments, Inc. ("TI") in 1990 against the Company and other defendants alleging infringement of certain of TI's packaging patents was finally resolved in favor of the Company in May 1997 without payment of damages or other costs when the US Supreme Court denied TI's petition for a writ of certiorari. The $15 million reserve which had been set up against a contingency of liability in the case was reallocated in September 1996 (See Note 6 to the Consolidated Financial Statements contained in the Company's 1997 Annual Report to Stockholders.) The Company is a party to other litigation matters and claims which are normal in the course of its operations, and while the results of such litigation and claims cannot be predicted with certainty, the Company believes that the final outcome of such matters will not have a materially adverse effect on the Company's consolidated financial position or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS The information required by this Item is incorporated by reference from the chart under "Stock Information" on page 41 of the Company's 1997 Annual Report to Stockholders. As of March 13, 1998, there were 3,863 stockholders of record of the Company's common stock. The Company has never paid cash dividends on its common stock. It is presently the Company's policy to reinvest its earnings in the Company, and therefore the Company does not anticipate paying cash dividends in the foreseeable future. ITEM 6. SELECTED FINANCIAL DATA The information required by this Item is incorporated by reference to the table under the heading "Five Year Consolidated Summary" on page 37 of the Company's 1997 Annual Report to Stockholders. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The information required by this Item is incorporated by reference to the section of the same name on pages 9 through 15 of the Company's 1997 Annual Report to Stockholders. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The information required by this Item is incorporated by reference to the section entitled "Market Risk Disclosure" at page 15 of the Company's 1997 Annual Report to Stockholders. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The information required by this Item is incorporated by reference to the financial statements and notes thereto listed in Item 14(a)(1) hereof, which appear on the pages referenced therein, and to the table under the heading "Interim Financial Information (Unaudited)" on page 38 of the Company's 1997 Annual Report to Stockholders. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not applicable. 18 19 PART III Certain information required by Part III is omitted from this Report in that the registrant will file a definitive proxy statement within 120 days after the end of its fiscal year pursuant to Regulation 14A (the "Proxy Statement") for its Annual Meeting of Stockholders to be held May 12, 1998, and certain of the information included therein is incorporated herein by reference. ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information concerning the Company's directors required by this Item is incorporated by reference to "ELECTION OF DIRECTORS -- Nominees" in the Company's Proxy Statement. The executive officers of the Company, who are elected by and serve at the discretion of the Board of Directors, are as follows:
EMPLOYED NAME AGE POSITION SINCE ---- --- -------- -------- Wilfred J. Corrigan........ 60 Chairman and Chief Executive Officer 1981 Elias J. Antoun............ 41 Executive Vice President, Consumer Products 1991 John P. Daane.............. 34 Executive Vice President, Communications, Computer 1987 and ASIC Products W. Richard Marz............ 54 Executive Vice President, Geographic Markets 1995 R. Douglas Norby........... 62 Executive Vice President and Chief Financial 1996 Officer David E. Sanders........... 50 Vice President, General Counsel and Secretary 1986 Lewis C. Wallbridge........ 54 Vice President, Human Resources 1984 Joseph M. Zelayeta......... 51 Executive Vice President, Worldwide Operations 1981
Except as set forth below, all of the officers have been associated with the Company in their present position for more than the past five years. Elias J. Antoun was named Executive Vice President, Consumer Products in March 1998. Mr. Antoun joined the Company in 1991, and has served in senior management and executive positions including General Manager of Finance and, more recently, President of LSI Logic K.K. John P. Daane was named Executive Vice President, Communications, Computer and ASIC Products, in October 1997. A full-time employee of the Company since 1987, Mr. Daane has served in senior management positions with the Company since 1992, most recently as Vice President and General Manager of the Communication Products Division. W. Richard Marz was joined the Company in September 1995 as Senior Vice President, North American Marketing and Sales and was named Executive Vice President, Geographic Markets in May 1996. Before joining the Company, Mr. Marz was a long-time senior sales and marketing executive at Advanced Micro Devices, Inc., a semiconductor manufacturer. Mr. Norby has served joined the Company as Executive Vice President and Chief Financial Officer in November 1996. He has been a member of the Company's Board of Directors since 1993. From September 1993 until November 1996, Mr. Norby served as Senior Vice President and Chief Financial Officer of Mentor Graphics Corporation, an EDA company. From July 1992 until September 1993, Mr. Norby served as President and Chief Executive Officer of Pharmetrix Corporation, a health care company located in Menlo Park, California. Mr. Norby serves on the board of directors of Corvus International, Inc. a biopharmaceutical company. Joseph M. Zelayeta was named Executive Vice President, Worldwide Operations in September 1997. Employed with the Company since 1981, Mr. Zelayeta has held executive positions in research and development and manufacturing operations since 1986. The information concerning Section 16(a) reporting is incorporated by reference to "Section 16(a) Beneficial Ownership Reporting Compliance" in the Company's Proxy Statement. 19 20 ITEM 11. EXECUTIVE COMPENSATION The information required by this Item is incorporated by reference to "EXECUTIVE COMPENSATION" in the Company's Proxy Statement. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this Item is incorporated by reference to "SECURITY OWNERSHIP" in the Company's Proxy Statement. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Not applicable. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) THE FOLLOWING DOCUMENTS ARE FILED AS A PART OF THIS REPORT: 1. Financial Statements. The following Consolidated Financial Statements of LSI Logic Corporation and Report of Independent Accountants are incorporated by reference to the Company's 1997 Annual Report to Stockholders:
PAGE IN ANNUAL REPORT ------------- Consolidated Balance Sheets -- As of December 31, 1997 and 1996...................................................... 16 Consolidated Statements of Operations -- For the Three Years Ended December 31, 1997......................................... 17 Consolidated Statement of Stockholders' Equity -- For the Three Years Ended December 31, 1997....................... 18 Consolidated Statements of Cash Flows -- For the Three Years Ended December 31, 1997................................... 19 Notes to Consolidated Financial Statements.................. 20-35 Report of Independent Accountants........................... 36
Effective beginning 1990, the Company changed its fiscal year end from December 31 to the 52 or 53 week period which ends on the Sunday closest to December 31. Beginning in 1997, the Company reverted to a straight December 31 fiscal year end. For presentation purposes, the consolidated financial statements, notes and financial statement schedules for fiscal years 1990 through 1996 refer to December 31 as the year end. Fiscal 1996 was a 52-week year that ended on December 29, 1996; fiscal 1997 was a 53-week year. 2. Financial Statement Schedules. All schedules are omitted because they are not applicable or the required information is shown in the consolidated financial statements or notes thereto. 3. Exhibits: 2.1 Agreement and Plan of Merger between LSI Logic Corporation and Mint Technology, Inc., dated July 22, 1997. 3.1 Amended and Restated Certificate of Incorporation of Registrant.(1) 3.2 By-laws of Registrant.(2) 4.3 Preferred Shares Rights Plan dated November 16, 1988.(3) 10.1 Lease dated March 26, 1981 for 1601 McCarthy Boulevard between the Registrant and McCarthy Industrial Investors.(4)
20 21 10.1A First Amendment to Lease dated May 1, 1991 to Lease dated March 26, 1981 for 1601 McCarthy Boulevard between the Registrant and McCarthy Industrial Investors.(5) 10.2 Registrant's 1982 Incentive Stock Option Plan, as amended, and forms of Stock Option Agreement.(6)* 10.3 Registrant's Employee Stock Purchase Plan, as amended, and form of Subscription Agreement.(1)* 10.8 Lease Agreement dated November 22, 1983 for 48580 Kato Road, Fremont, California between the Registrant and Bankamerica Realty Investors.(7) 10.24 Registrant's 1986 Directors' Stock Option Plan and forms of Stock Option Agreements.(8)* 10.29 Form of Indemnification Agreement entered and to be entered into between Registrant and its officers, directors and certain key employees.(9)* 10.35 Amended and Restated LSI Logic Corporation 1991 Equity Incentive Plan.* 10.36 Lease Agreement dated February 28, 1991 for 765 Sycamore Drive, Milpitas, California between the Registrant and the Prudential Insurance Company of America.(9) 10.37 Stock Purchase Agreement dated as of January 20, 1995; Promissory Note dated January 26, 1995; Note Purchase Agreement dated as of January 26, 1995 in connection with the Company's purchase of the minority interest in one of its Japanese subsidiaries.(11) 10.38 1995 Director Option Plan.(12)* 10.39 Y25,000,000,000 Floating Rate Guaranteed Credit Facility dated as of December 27, 1995; Guaranty dated as of December 27, 1995.(12) 10.39A First Amendment to Y25,000,000,000 Floating Rate Guaranteed Credit Facility dated December 24, 1996; Amended and Restated Guaranty dated as of December 30, 1996.(13) 10.40 LSI Logic Corporation International Employee Stock Purchase Plan.(14)* 10.41 $300,000,000 Credit Agreement dated as of December 20, 1996 with ABN AMRO Bank, N.V.(13) 11.1 Statement Re: Computation of Earnings Per Share.(15) 13.1 Annual Report to Stockholders for the year ended December 31, 1997 (to be deemed filed only to the extent required by the instructions for Reports on Form 10-K). 21.1 List of Subsidiaries. 23.1 Consent of Independent Accountants (see page 24). 24.1 Power of Attorney (included on page 23). 27.1 Financial Data Schedule.
- --------------- (1) Incorporated by reference to exhibits filed with the Registrant's Registration Statement on Form S-8 (No. 333-34285) which became effective September 25, 1997. (2) Incorporated by reference to exhibits filed with the Registrant's Quarterly Report on Form 10-Q for the quarter ended June 26, 1988. (3) Incorporated by reference to exhibits filed with the Registrant's Form 8-A filed on November 21, 1988. (4) Incorporated by reference to exhibits filed with the Registrant's Registration Statement on Form S-1 (No. 2-83035) which became effective May 13, 1983. (5) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1992. (6) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1988. (7) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1983. 21 22 (8) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1986. (9) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1987. (10) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1991. (11) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1994. (12) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995. (13) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996. (14) Incorporated by reference to exhibits filed with the Registrant's Registration Statement on Form S-8 (No. 333-12887) which became effective September 27, 1996. (15) Incorporated by reference to the section entitled "Income per share" contained in Note 1 at page 23 of Exhibit 13.1 * Denotes management contract or compensatory plan or arrangement. (b) REPORTS ON FORM 8-K. During the fourth quarter ended December 31, 1997, the Company filed a Current Report on Form 8-K on November 12, 1997, pursuant to Item 8 to report the following event that occurred on October 27, 1997: Change in fiscal year end, as described above in Item 14(a)(1). (c) EXHIBITS. See Item 14(a)(3), above. (d) FINANCIAL STATEMENT SCHEDULES See Item 14(a)(2), above. TRADEMARK ACKNOWLEDGMENTS - The LSI Logic logo, ATMizer, CoreWare and MiniRISC are registered trademarks of the Company. - TinyRISC, Scenario, Integra, G10, G11 and G12 are trademarks of the Company. - OakDSPCore(R) is a registered trademark of DSP Group, Inc., used under license. ARM(R) is a registered trademark of Advanced RISC Machines Limited, used under license. - All other brand names or trademarks appearing in the Form 10-K are the property of their respective owners. 22 23 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. LSI LOGIC CORPORATION By: /s/ WILFRED J. CORRIGAN ------------------------------------ Wilfred J. Corrigan Chairman and Chief Executive Officer Dated: March 26, 1998 POWER OF ATTORNEY KNOW ALL MEN BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints Wilfred J. Corrigan and David E. Sanders, jointly and severally, his attorneys-in-fact, each with the power of substitution, for him in any and all capacities, to sign any amendments to this Report on Form 10-K, and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that each of said attorneys-in-fact, or his substitute or substitutes, may do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE --------- ----- -------------- /s/ WILFRED J. CORRIGAN Chairman of the Board and March 26, 1998 - -------------------------------------------------------- Chief Executive Officer (Wilfred J. Corrigan) (Principal Executive Officer) /s/ R. DOUGLAS NORBY Executive Vice President March 26, 1998 - -------------------------------------------------------- and Chief Financial Officer (R. Douglas Norby) (Principal Financial Officer and Principal Accounting Officer); Director /s/ T.Z. CHU Director March 26, 1998 - -------------------------------------------------------- (T.Z. Chu) /s/ MALCOLM R. CURRIE Director March 26, 1998 - -------------------------------------------------------- (Malcolm R. Currie) /s/ JAMES H. KEYES Director March 26, 1998 - -------------------------------------------------------- (James H. Keyes)
23 24 EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statements on Form S-8 (No. 2-86474, No. 2-91907, No. 2-98732, No. 33-6188, No. 33-6203, No. 33-13265, No. 33-17720, No. 33-30385, No. 33-30386, No. 33-36249, No. 33-41999, No. 33-42000, No. 33-53054, No. 33-66548, No. 33-66546, No. 33-55631, No. 33-55633, No. 33-55697, No. 33-59981, No. 33-59987, No. 333-12887, No. 333-34285) of LSI Logic Corporation of our report dated January 22, 1998, appearing on page 36 of the Annual Report to Stockholders, which is incorporated by reference in this Annual Report on Form 10-K. PRICE WATERHOUSE LLP San Jose, California March 25, 1998 24 25 INDEX TO EXHIBITS
ITEM NO. DESCRIPTION ------ ----------- 2.1 Agreement and Plan of Merger between LSI Logic Corporation and Mint Technology, Inc., dated July 22, 1997. 3.1 Amended and Restated Certificate of Incorporation of Registrant.(1) 3.2 By-laws of Registrant.(2) 4.3 Preferred Shares Rights Plan dated November 16, 1988.(3) 10.1 Lease dated March 26, 1981 for 1601 McCarthy Boulevard between the Registrant and McCarthy Industrial Investors.(4) 10.1A First Amendment to Lease dated May 1, 1991 to Lease dated March 26, 1981 for 1601 McCarthy Boulevard between the Registrant and McCarthy Industrial Investors.(5) 10.2 Registrant's 1982 Incentive Stock Option Plan, as amended, and forms of Stock Option Agreement.(6)* 10.3 Registrant's Employee Stock Purchase Plan, as amended, and form of Subscription Agreement.(1)* 10.8 Lease Agreement dated November 22, 1983 for 48580 Kato Road, Fremont, California between the Registrant and Bankamerica Realty Investors.(7) 10.24 Registrant's 1986 Directors' Stock Option Plan and forms of Stock Option Agreements.(8)* 10.29 Form of Indemnification Agreement entered and to be entered into between Registrant and its officers, directors and certain key employees.(9)* 10.35 Amended and Restated LSI Logic Corporation 1991 Equity Incentive Plan.* 10.36 Lease Agreement dated February 28, 1991 for 765 Sycamore Drive, Milpitas, California between the Registrant and the Prudential Insurance Company of America.(9) 10.37 Stock Purchase Agreement dated as of January 20, 1995; Promissory Note dated January 26, 1995; Note Purchase Agreement dated as of January 26, 1995 in connection with the Company's purchase of the minority interest in one of its Japanese subsidiaries.(11) 10.38 1995 Director Option Plan.(12)* 10.39 Y25,000,000,000 Floating Rate Guaranteed Credit Facility dated as of December 27, 1995; Guaranty dated as of December 27, 1995.(12) 10.39A First Amendment to Y25,000,000,000 Floating Rate Guaranteed Credit Facility dated December 24, 1996; Amended and Restated Guaranty dated as of December 30, 1996.(13) 10.40 LSI Logic Corporation International Employee Stock Purchase Plan.(14)* 10.41 $300,000,000 Credit Agreement dated as of December 20, 1996 with ABN AMRO Bank, N.V.(13) 11.1 Statement Re: Computation of Earnings Per Share. 13.1 Annual Report to Stockholders for the year ended December 31, 1997 (to be deemed filed only to the extent required by the instructions for Reports on Form 10-K). 21.1 List of Subsidiaries. 23.1 Consent of Independent Accountants (see page 23). 24.1 Power of Attorney (included on page 22). 27.1 Financial Data Schedule.
- --------------- (1) Incorporated by reference to exhibits filed with the Registrant's Registration Statement on Form S-8 (No. 333-34285) which became effective September 25, 1997. 26 (2) Incorporated by reference to exhibits filed with the Registrant's Quarterly Report on Form 10-Q for the quarter ended June 26, 1988. (3) Incorporated by reference to exhibits filed with the Registrant's Form 8-A filed on November 21, 1988. (4) Incorporated by reference to exhibits filed with the Registrant's Registration Statement on Form S-1 (No. 2-83035) which became effective May 13, 1983. (5) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1992. (6) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1988. (7) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1983. (8) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1986. (9) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1987. (10) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1991. (11) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1994. (12) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995. (13) Incorporated by reference to exhibits filed with the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996. (14) Incorporated by reference to exhibits filed with the Registrant's Registration Statement on Form S-8 (No. 333-12887) which became effective September 27, 1996. * Denotes management contract or compensatory plan or arrangement. EX-2.1 2 AGREEMENT AND PLAN OF MERGER DATED JULY 22, 1997 1 EXHIBIT 2.1 AGREEMENT AND PLAN OF MERGER BY AND AMONG LSI LOGIC CORPORATION LSI MERGER SUBSIDIARY, INC. MINT TECHNOLOGY, INC. AND MARY ALBANESE DATED AS OF JULY 27, 1997 2 TABLE OF CONTENTS
PAGE ARTICLE I - THE MERGER...........................................................................2 1.1 The Merger........................................................................2 1.2 Effective Time....................................................................2 1.3 Effect of the Merger..............................................................2 1.4 Articles of Incorporation; Bylaws.................................................2 1.5 Directors and Officers............................................................2 1.6 Capital Stock Contribution by Holder..............................................3 1.7 Escrow of Portion of Cash Consideration...........................................3 1.8 Effect on Capital Stock...........................................................3 1.9 No Further Ownership Rights in Mint Capital Stock.................................4 1.10 Conversion of Capital Stock of Merger Sub.........................................4 1.11 Taking of Necessary Action; Further Action........................................4 ARTICLE II - REPRESENTATIONS AND WARRANTIES OF MINT AND HOLDER...................................5 2.1 Representations and Warranties of Mint and Holder.................................5 ARTICLE III -REPRESENTATIONS AND WARRANTIES OF THE HOLDER.......................................17 3.1 Additional Representations and Warranties of the Holder..........................17 ARTICLE IV - REPRESENTATIONS AND WARRANTIES OF LSI AND MERGER SUB...............................18 4.1 Representations and Warranties of LSI and Merger Sub.............................18 ARTICLE V - COVENANTS OF THE HOLDER AND MINT....................................................19 5.1 Operation of Business............................................................19 5.2 Preservation of Business.........................................................20 5.3 Satisfaction of Conditions; General..............................................20 5.4 Full Access......................................................................20 5.5 Notice of Developments...........................................................20 5.6 Exclusivity; Acquisition Proposals...............................................20 5.7 Confidentiality..................................................................21 5.8 Expenses.........................................................................21 5.9 Public Announcements.............................................................21 5.10 FIRPTA Certificates..............................................................21 5.11 Option Plan......................................................................21
-i- 3 5.12 Contribution to Capital..........................................................22 5.13 Exercise of Options..............................................................22 5.14 Grant of Options. ...............................................................22 5.15 Bonus Plan.......................................................................22 5.16 Tax Matters......................................................................22 5.17 S Status.........................................................................23 5.18 After Tax Earnings...............................................................23 5.19 Shareholder Consent..............................................................23 5.20 Cooperation......................................................................23 ARTICLE VI - COVENANTS OF LSI...................................................................23 6.1 Satisfaction of Conditions; General..............................................23 6.2 Confidentiality..................................................................24 6.3 Expenses.........................................................................24 6.4 Registration Statement on Form S-8...............................................24 6.5 Public Announcement..............................................................24 6.6 NYSE Listing.....................................................................24 6.7 Notice of Developments...........................................................24 ARTICLE VII - CONDITIONS PRECEDENT..............................................................25 7.1 Conditions to Each Party's Obligations to Effect the Acquisition.................25 7.2 Conditions to Obligations of LSI.................................................25 7.3 Conditions to Obligations of Mint and the Holder.................................26 ARTICLE VIII - INDEMNIFICATION..................................................................27 8.1 Survival of Representations, Warranties, Covenants and Agreements................27 8.2 Indemnification of LSI...........................................................27 8.3 Indemnification of Holder........................................................28 8.4 Indemnification Threshold and Limitations........................................28 8.5 Escrow Fund......................................................................28 8.6 Escrow Period....................................................................29 8.7 Procedures with Respect to Third-Party Claims....................................29 8.8 Procedure For Indemnification....................................................30 8.9 Objections to Claims.............................................................30 8.10 Resolution of Conflicts; Arbitration.............................................30 8.11 Order of Distribution of Funds...................................................31
-ii- 4 ARTICLE IX - GENERAL PROVISIONS.................................................................31 9.1 Termination, Amendment and Waiver................................................31 9.2 Effect of Termination............................................................31 9.3 Amendment........................................................................32 9.4 Extension; Waiver; Delay or Omission.............................................32 9.5 Notices..........................................................................32 9.6 Counterparts.....................................................................33 9.7 Entire Agreement.................................................................33 9.8 No Transfer......................................................................33 9.9 Severability.....................................................................33 9.10 Other Remedies...................................................................34 9.11 Further Assurances...............................................................34 9.12 Absence of Third-Party Beneficiary Rights........................................34 9.13 Mutual Drafting..................................................................34 9.14 Governing Law....................................................................34
-iii- 5 INDEX OF SCHEDULES
SCHEDULE DESCRIPTION - -------- ----------- 2.1 Exceptions to Representations and Warranties of Mint 2.1(b) Capital Stock Ownership 2.1(d) Consents 2.1(i) Material Adverse Change 2.1(j) Liabilities of Mint 2.1(l) Benefit Plans 2.1(m) Major Contracts 2.1(p) Technology; Intellectual Property 2.1(q) Leases; Equipment 2.1(s) Insurance 2.1(u) Key Employees 4.1 Exceptions to Representations and Warranties of LSI and Merger Sub 5.18 After Tax Earnings
-iv- 6 TABLE OF CONTENTS (CONTINUED) PAGE INDEX OF EXHIBITS
EXHIBIT DESCRIPTION Exhibit A Escrow Agreement Exhibit B Albanese Employment and Non-competition Agreement Exhibit C Proprietary Information and Invention Agreement Exhibit D Key Employees' Employment and Non-competition Agreement Exhibit E Consent to Amendment of Option Agreement
-v- 7 AGREEMENT AND PLAN OF MERGER This AGREEMENT AND PLAN OF MERGER (this "Agreement") is made and entered into as of July ____, 1997 by and among LSI Logic Corporation, a Delaware corporation ("LSI"); LSI Merger Subsidiary, Inc., a Massachusetts corporation and a wholly-owned subsidiary of LSI ("Merger Sub"); Mint Technology, Inc., a Massachusetts corporation ("Mint"); and Mary Albanese, the sole shareholder of Mint and a signatory hereto (the "Holder"). RECITALS A. The Boards of Directors of each of Mint, LSI and Merger Sub believe it is in the best interests of each company and their respective shareholders that LSI acquire Mint through the statutory merger of Merger Sub with and into Mint (the "Merger") and, in furtherance thereof, have approved the Merger. B. Pursuant to the Merger, among other things, and subject to the terms and conditions of this Agreement, Holder will contribute prior to the Closing (as defined below) 381,818 shares of the issued and outstanding shares of capital stock of Mint held by Holder to the capital of Mint ("Capital Stock Contribution"). C. Pursuant to the Merger, among other things, and subject to the terms and conditions of this Agreement, LSI will acquire all of the issued and outstanding shares of capital stock of Mint ("Mint Capital Stock") for cash in the amount of $7,000,000 (the "Cash Consideration") through a reverse subsidiary merger of Merger Sub with and into Mint. D. All outstanding options, warrants and other rights to acquire or receive shares of Mint Capital Stock shall be converted into the right to receive shares of Common Stock of LSI ("LSI Common Stock") in amounts determined in accordance with the Exchange Ratio (as defined in Section 1.8(c)). E. A portion of the Cash Consideration otherwise paid by LSI in connection with the Merger shall be placed in escrow by LSI, the release of which amount shall be contingent upon certain events and conditions, all as set forth in this Agreement and the Escrow Agreement attached hereto as Exhibit A. F. Mint, LSI, Merger Sub, and the Holder desire to make certain representations and warranties and other agreements in connection with the Merger. NOW, THEREFORE, in consideration of the covenants, promises and representations set forth herein, and for other good and valuable consideration, intending to be legally bound hereby the parties agree as follows: 8 ARTICLE I THE MERGER 1.1 The Merger. At the Effective Time (as defined in Section 1.2) and subject to and upon the terms and conditions of this Agreement and the applicable provisions of the Massachusetts General Laws ("Massachusetts Law"), Merger Sub shall be merged with and into Mint, the separate corporate existence of Merger Sub shall cease and Mint shall continue as the surviving corporation and as a wholly-owned subsidiary of LSI. Mint as the surviving corporation after the Merger is hereinafter sometimes referred to as the "Surviving Corporation". 1.2 Effective Time. Unless this Agreement is earlier terminated pursuant to Section 9.1, the closing of the Merger (the "Closing") will take place as promptly as practicable, but no later than five (5) business days, following satisfaction or waiver of the conditions set forth in Article VII, at the offices of Wilson Sonsini Goodrich & Rosati, 650 Page Mill Road, Palo Alto, California, unless another place or time is agreed to by LSI and Mint. The date upon which the Closing actually occurs is herein referred to as the "Closing Date". On the Closing Date, the parties hereto shall cause the Merger to be consummated by filing an Agreement of Merger (or like instrument) with the Secretary of State of the Commonwealth of Massachusetts (the "Agreement of Merger"), in accordance with the relevant provisions of applicable law (the time of acceptance by the Secretary of State of the Commonwealth of Massachusetts of such filing being referred to herein as the "Effective Time"). 1.3 Effect of the Merger. At the Effective Time, the effect of the Merger shall be as provided in the applicable provisions of Massachusetts Law. Without limiting the generality of the foregoing, and subject thereto, at the Effective Time, all the property, rights, privileges, powers and franchises of Mint and Merger Sub shall vest in the Surviving Corporation, and all debts, liabilities and duties of Mint and Merger Sub shall become the debts, liabilities and duties of the Surviving Corporation. All parties to the Agreement intend that this transaction shall be treated as a taxable purchase of Mint stock by LSI for cash through a reverse subsidiary merger. 1.4 Articles of Organization; Bylaws. (a) Unless otherwise determined by LSI prior to the Effective Time, at the Effective Time, the Articles of Organization of Mint shall be the Articles of Organization of the Surviving Corporation until thereafter amended as provided by law and such Articles of Organization. (b) The Bylaws of Mint, as in effect immediately prior to the Effective Time, shall be the Bylaws of the Surviving Corporation until thereafter amended. 1.5 Directors and Officers. The director(s) of Merger Sub immediately prior to the Effective Time shall be the initial director(s) of the Surviving Corporation, each to hold office in accordance with the Articles of Organization and Bylaws of the Surviving Corporation. The officers of Merger Sub immediately prior to the Effective Time shall be the initial officers of the Surviving Corporation, each to hold office in accordance with the Bylaws of the Surviving Corporation. -2- 9 1.6 Capital Stock Contribution by Holder. Prior to the Closing Date, Holder shall make the Capital Stock Contribution and shall own 318,182 shares of the Common Stock of Mint following such capital contribution and at the Closing Date, which shall constitute all of the outstanding shares of Mint at the Closing Date. 1.7 Escrow of Portion of Cash Consideration. Ten percent (10%) of the Cash Consideration (i.e. $700,000) shall be held in escrow, pursuant to the Escrow Agreement, for a period of 12 months following the Closing Date to indemnify LSI for all Damages covered by the indemnities provided in Section 8.2 hereof. 1.8 Effect on Capital Stock. Subject to the terms and conditions of this Agreement, as of the Effective Time, by virtue of the Merger and without any action on the part of Merger Sub, Mint or the Holder, the following shall occur: (a) Conversion of Mint Capital Stock. Each share of Mint Capital Stock issued and outstanding immediately prior to the Effective Time (other than any shares of Mint Capital Stock to be cancelled pursuant to the Capital Stock Contribution) shall be converted into the right to receive $22.00 per share (the "Purchase Price"), with 10% of such per share amount (an aggregate of $700,000) being deposited pursuant to and subject to the Escrow Agreement (as defined herein) pursuant to Article VIII below (the "Cash Escrow Fund"). The foregoing Purchase Price shall be adjusted to reflect fully the effect of any stock split, reverse stock split, stock dividend, reorganization, recapitalization or other like change with respect to Mint Capital Stock occurring after the date hereof and prior to the Effective Time. (b) Stock Options. LSI acknowledges that Mint has granted or will grant prior to Closing to Holder a nonqualified stock option to purchase 424,242 shares of the Common Stock of Mint at an exercise price of $5.50 per share (the "Albanese Option"). The Albanese Option vests in equal portions over three years, with one-third vesting on each of the first, second and third anniversaries of the Closing Date; provided however, that if Holder is involuntarily terminated by LSI as an employee of LSI without Cause (as defined in the Albanese Employment and Non-Competition Agreement attached hereto as Exhibit B) or due to Death or Disability (as defined in that agreement), the Albanese Option shall fully vest and become exercisable immediately. At the Effective Time, all options (including the Albanese Option and the options issued pursuant to Section 5.14 hereof) to purchase Mint Common Stock (each a "Mint Option") then outstanding under Mint's 1996 Stock Option Plan as amended (the "Option Plan"), or otherwise, shall be assumed by LSI in accordance with provisions described below. (1) Each Mint Option so assumed by LSI under this Agreement shall continue to have, and be subject to, the same terms and conditions set forth in the Option Plan and/or as provided in the respective option agreements governing such Mint Option immediately prior to the Effective Time, except that (A) such Mint Option shall be exercisable for that number of whole shares of LSI Common Stock equal to the product of the number of shares of Mint Common Stock that were issuable upon exercise of such Mint Option immediately prior to the Effective Time multiplied by the Exchange Ratio (as defined below), rounded down to the nearest whole number of -3- 10 shares of LSI Common Stock and (B) the per share exercise price for the shares of LSI Common Stock issuable upon exercise of such assumed Mint Option shall be equal to the quotient determined by dividing the exercise price per share at which such Mint Option was exercisable immediately prior to the Effective Time by the Exchange Ratio, rounded to the nearest whole cent. (2) The "Exchange Ratio" shall be 0.6286. (3) It is the intention of the parties that the Mint Options (other than the Albanese Options) assumed by LSI qualify following the Effective Time as incentive stock options as defined in Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"), to the extent the Mint Options were granted as incentive stock options and qualified as incentive stock options immediately prior to the Effective Time. (4) Promptly following the Effective Time, LSI will issue to each holder of an outstanding Mint Option a document evidencing the foregoing assumption of such Mint Option by LSI. (5) At the Effective Time, Mint shall assign to LSI any and all rights of repurchase pertaining to shares of Mint Capital Stock, if any, issued upon exercise of stock options, pursuant to stock purchase agreements, or otherwise. 1.9 No Further Ownership Rights in Mint Capital Stock. All Cash Consideration, stock options of LSI, and other consideration issued upon the surrender or exchange of shares of Mint Capital Stock or options to purchase Mint Capital Stock in accordance with the terms hereof shall be deemed to have been issued in full satisfaction of all rights pertaining to such shares of Mint Capital Stock. 1.10 Conversion of Capital Stock of Merger Sub. At and as of the Effective Time, all of the shares of outstanding stock of Merger Sub shall be converted into one share of Common Stock of the Surviving Corporation. 1.11 Taking of Necessary Action; Further Action. If, at any time after the Effective Time, any such further action is necessary or desirable to carry out the purposes of this Agreement and to vest the Surviving Corporation with full right, title and possession to all assets, property, rights, privileges, powers and franchises of Mint and Merger Sub, the officers and directors of Mint and Merger Sub are hereby fully authorized in the names of their respective corporations or otherwise to take, and will take, all such lawful and necessary action. -4- 11 ARTICLE II REPRESENTATIONS AND WARRANTIES OF MINT AND HOLDER 2.1 Representations and Warranties of Mint and Holder. Except as disclosed in Schedule 2.1 or in the other schedules referred to below and delivered to LSI, Mint and Holder hereby represent and warrant to LSI that: (a) Organization, Standing and Power. Mint is a corporation duly organized, validly existing and in good standing under the laws of the jurisdiction of its organization, and has all requisite power and authority to own, operate and lease its properties and to carry on its business as now being conducted. Mint is duly qualified as a foreign corporation and is in good standing in each jurisdiction in which the failure to so qualify would have an Adverse Business Effect on Mint. For purposes of this Agreement, an "Adverse Business Effect" shall mean a material adverse effect on the business, financial condition, results of operations, assets and prospects of Mint considered as a whole. Mint has delivered to LSI complete and correct copies of its Articles of Organization and Bylaws, as amended to the date hereof; and has delivered or made available minutes of all of Mint's directors' and shareholders' meetings, and stock certificate books correctly setting forth the record ownership of all outstanding shares of Mint capital stock. (b) Capital Structure. The authorized capital stock of Mint consists of: (1) Common Stock. 1,200,000 shares of Common Stock, $0.01 par value ("Mint Common Stock"), of which 700,000 shares are issued and outstanding and owned, beneficially and of record, as set forth in Schedule 2.1(b) (all but 318,182 of which will be contributed to capital pursuant to the Capital Stock Contribution prior to Closing); (2) Options. Except for a total of 1,100,00 shares of Common Stock reserved for issuance pursuant to Mint's Option Plan of which 735,742 shares are presently subject to outstanding options as set forth in Schedule 2.1(b), and 364,258 of which remain available for future issuance under the Option Plan as set forth in this Agreement, there are no outstanding options, warrants, rights (including conversion or preemptive rights) or agreements for the purchase or acquisition from Mint of any shares of its capital stock. Schedule 2.1(b) sets forth for each outstanding Mint Option the name of the holder of such option, the domicile address of such holder, the number of shares of Common Stock subject to such option, the exercise price and the vesting schedule of such option, including the extent vested to date. Except as described in Schedule 2.1(b), there are no options, warrants, calls, rights, commitments or agreements of any character, written or oral, to which Mint is a party or by which it is bound obligating Mint to issue, deliver, sell, repurchase or redeem, or cause to be issued, delivered, sold, repurchased or redeemed, any shares of the capital stock of Mint. Except as described in Schedule 2.1(b) or in Sections 1.8(c), 5.11 and 5.14 hereof, there are no options, warrants, calls, rights, commitments or agreements of any character, written or oral, to which Mint is a party or by which it is bound obligating Mint to grant, extend, accelerate the vesting of, change the price of, otherwise amend or enter into any such option, warrant, call, right, commitment or agreement. The holders of Mint options or any other options or rights set forth in Schedule 2.1(b) have been or will be given, or shall have properly waived, any -5- 12 required notice prior to the Merger and any right to exercise option shares not previously vested in the event of and after consummation of the Merger. As a result of the Merger, all Mint Capital Stock will be canceled and extinguished. Mint is not a party or subject to any agreement or understanding, and, to Mint's knowledge, there is no agreement or understanding between any persons and/or entities, which affects or relates to the voting or giving of written consents with respect to any security of Mint or by a director of Mint; and (3) Preemptive Rights. All outstanding shares of Mint Common Stock are duly authorized, validly issued, fully paid and non-assessable and not subject to preemptive rights created by statute, the Articles of Organization or Bylaws of Mint or any agreement to which Mint is a party or by which it is bound. (c) Subsidiaries. Mint has no subsidiaries or any direct or indirect interest in any corporation, partnership, trust or other business association or entity. (d) Authority. (1) Mint has all requisite power and authority to enter into this Agreement and to perform its respective obligations hereunder, and to consummate the transactions contemplated hereby. The execution and delivery of this Agreement by Mint and the performance by Mint of its obligations hereunder, and the consummation of the transactions contemplated hereby, have been preceded by all corporate action necessary to execute and deliver this Agreement and to consummate the transactions contemplated hereby. This Agreement has been duly executed and delivered by each of Mint and Holder and is the legal, valid and binding obligation of each of Mint and Holder and is enforceable against each such party in accordance with its terms, except to the extent that such enforcement may be limited by applicable bankruptcy, insolvency and other similar laws affecting creditors' rights generally and by general principles of equity. (2) Other than as set forth in the Schedule 2.1(d), the execution and delivery of this Agreement by Mint does not, and, as of the Effective Time, the consummation of the transactions contemplated hereby will not, conflict with, or result in any violation of, or default under (with or without notice or lapse of time, or both), or give rise to a right of termination, cancellation or acceleration of any obligation or loss of any benefit under (any such event, a "Conflict") (i) any provision of the Articles of Organization or Bylaws of Mint or (ii) any material mortgage, indenture, lease, contract or other agreement or instrument, permit, concession, franchise, license, judgment, order, decree, statute, law, ordinance, rule or regulation applicable to Mint or to which Mint is a party or to which it is bound or to which any of its properties or assets is subject. No consent, waiver, approval, order or authorization of, or registration, declaration or filing with, any court, administrative agency or commission or other federal, state, county, local or foreign governmental authority, instrumentality, agency or commission ("Governmental Entity") or any third party (so as not to trigger any Conflict), is required by or with respect to Mint in connection with the execution and delivery of this Agreement or the consummation of the transactions contemplated hereby, except for (i) the filing of the Certificates of Merger and Agreement of Merger with the Secretaries of State of the Commonwealth of Massachusetts and the State of Delaware, (ii) such consents, waivers, approvals, orders, authorizations, registrations, declarations and filings as may be -6- 13 required under applicable federal and state securities laws and (iii) such other consents, waivers, authorizations, filings, approvals and registrations which are set forth on Schedule 2.1(d). (e) Financial Statements. Mint has furnished or made available to LSI audited financial statements of Mint for each of the fiscal years ended on December 31, 1994, December 31, 1995 and December 31, 1996 (consisting of balance sheets, statements of income and retained earnings, statements of cash flows and notes related thereto) (collectively, "Mint Audited Financial Statements"), the related management letters, and its unaudited balance sheet as of May 31, 1997 ("Mint Unaudited Balance Sheet") and the related unaudited statements of income and retained earnings and statement of cash flow for the five months ended May 31, 1997 (together with the Mint Unaudited Balance Sheet, the "Mint Unaudited Financial Statements"). The Mint Audited Financial Statements and the Mint Unaudited Financial Statements (collectively, "Mint Financial Statements") have been prepared in accordance with generally accepted U.S. accounting principles ("GAAP") consistently applied and fairly present the financial condition and operating results of Mint as at the dates thereof and the results of its operations and cash flows for the periods then ended, except that the Mint Unaudited Financial Statements have no notes and are subject to normal year-end adjustments, which will not be material in amount or significance. Mint has delivered or made available to LSI correct and complete copies of all correspondence prepared by its counsel for Mint's independent public accountants in connection with the completed audits of Mint's Financial Statements and any such correspondence since the date of the last such audit. (f) Compliance with Law. Mint is in compliance with, and has conducted its business so as to comply with all laws, rules and regulations, judgments, decrees or orders of any Governmental Entity applicable to its operations or with respect to which compliance is a condition of engaging in the business thereof, except to the extent that failure to comply would, individually or in the aggregate, not have had and is not expected to have an Adverse Business Effect. There are no material judgments or orders, injunctions, decrees, stipulations or awards (whether rendered by a court or administrative agency or by arbitration) against Mint or against any of Mint's properties or assets. (g) No Defaults. Mint is not and has not received notice that it is or would be with the passage of time, (a) in violation of any provision of its Articles of Organization or Bylaws or other charter documents, as applicable, or (b) in default or violation of any term, condition or provision of (i) any judgment, decree, order, injunction or stipulation applicable to Mint or (ii) any agreement, note, mortgage, indenture, contract, lease or instrument, permit, concession, franchise or license to which Mint is a party or by which Mint or its properties or assets may be bound, which violation or default would, individually or in the aggregate, have an Adverse Business Effect. (h) Litigation. There is no action, suit, proceeding, claim, arbitration or investigation pending or, to Mint's knowledge, threatened against Mint or Holder which would be reasonably likely to, individually or in the aggregate, have an Adverse Business Effect or which in any manner challenges or seeks to prevent, enjoin, alter or materially delay any of the transactions contemplated hereby as the case may be. Neither Mint nor Holder is the plaintiff or petitioner in any litigation or proceeding relating to the business of Mint which could, individually or in the aggregate, have an Adverse Business Effect. -7- 14 (i) No Material Adverse Change. Except as set forth on Schedule 2.1(i), since May 31, 1997, the date of the Mint Unaudited Financial Statements, Mint has conducted business in the ordinary course and, except as contemplated herein, there has not occurred: (1) Any material adverse change in the business condition of Mint; (2) Any transaction by Mint except in the ordinary course of business as conducted on that date and consistent with past practices; (3) Any amendments or changes in the Articles of Organization or Bylaws of Mint; (4) Any damage, destruction or loss, whether covered by insurance or not, after giving effect to any insurance proceeds received as a result of such loss, materially and adversely affecting any of the properties or assets of Mint; (5) Except for the Capital Stock Contribution and as contemplated by Section 5.14 hereof and the Albanese Option referred to in Section 1.8(c) hereof and except for option grants in connection with newly hired employees in the ordinary course of business, any issuance, redemption, repurchase or other acquisition of shares of capital stock of Mint, or any options, warrants or rights to acquire capital stock of Mint, or except for the distribution contemplated by Section 5.19, any declaration, setting aside or payment of any dividend or other distribution (whether in cash, stock or property) with respect to the capital stock of Mint; (6) Any increase in or modification of the compensation or benefits payable or to become payable by Mint to any of its directors, officers or employees, except in the ordinary course of business consistent with past practice; (7) Any increase in or modification of any bonus, pension, insurance or other employee benefit plan, payment or arrangement (including, but not limited to, the granting of stock options, restricted stock awards or stock appreciation rights) made to, for or with any of Mint's employees, except for the Albanese Option or pursuant to Section 5.14 hereof except for the distribution contemplated by Section 5.19 and option grants in connection with any newly hired employees or in the ordinary course of business consistent with past practice; (8) Any sale of the property or assets of Mint individually in excess of $20,000 or in the aggregate in excess of $50,000, except in the ordinary course of business; -8- 15 (9) Any alteration in any term of any outstanding security of Mint (excluding for such purpose the amendment to the Option Plan and related agreements required by Section 5.11); (10) Any (A) incurrence, assumption or guarantee by Mint of any debt for borrowed money, (B) issuance or sale of any securities convertible into or exchangeable for debt securities of Mint; or (C) issuance or sale of options or other rights to acquire from Mint directly or indirectly, debt securities of Mint or any securities convertible into or exchangeable for any such debt securities; (11) Any creation or assumption by Mint of any mortgage, pledge, security interest or lien or other encumbrance on any asset (other than liens arising under existing lease financing arrangements, liens arising by operation of law, liens arising in the ordinary course of Mint's businesses which in the aggregate are not material and liens for taxes not yet due and delinquent); (12) Any making of any loan, advance or capital contribution to, or investment in, any person in an aggregate amount which exceeds $30,000 outstanding at any time; (13) Any entry into, amendment of, relinquishment, termination or non-renewal by Mint of any contract, lease transaction, commitment or other right or obligation other than in the ordinary course of business; (14) Any transfer or grant of a right under the Mint Intellectual Property Rights (as defined in Section 2.1(p) hereof) other than those transferred or granted in the ordinary course of business; (15) Any labor dispute, other than routine individual grievances, or any activity or proceeding by a labor union or representative thereof to organize any employees of Mint; (16) Any violation of or conflict with any applicable laws, statutes, orders, rules and regulations promulgated or judgment entered by any Governmental Entity which, individually or in the aggregate would have an Adverse Business Effect; or (17) event or condition of any character that has or reasonably would be expected to have an Adverse Business Effect on Mint; or (18) agreement by Mint or any officer or employees thereof to do any of the things described in the preceding clauses (1) through (17) (other than negotiations with LSI and its representatives regarding the transactions contemplated by this Agreement). (j) Absence of Undisclosed Liabilities. Except as set forth in Schedule 2.1(j) or as to matters encompassed by other representations and warranties and in the schedules thereto, the Company does not have any liability, indebtedness, obligation, expense, claim, deficiency, guaranty or endorsement of any type, whether accrued, absolute, contingent, matured, unmatured or otherwise -9- 16 required to be reflected in financial statements in accordance with GAAP, except for (i) liabilities reflected in the Mint Unaudited Balance Sheet and/or (ii) liabilities which have arisen in the ordinary course of Mint's business since May 31, 1997 consistent in nature and amount with past practices. (k) Certain Agreements. Except as contemplated by this Agreement, neither the execution and delivery of this Agreement nor the consummation of the transactions contemplated hereby will (a) result in any payment (including, without limitation, severance, unemployment compensation, golden parachute, bonus, acceleration of vesting of opition shares or otherwise) becoming due to any director, officer or employee of Mint under any Plan (as defined in Section 2.1(k) hereof) or otherwise, (b) materially increase any benefits otherwise payable under any Plan, or (c) result in the acceleration of the time of payment or vesting of any such benefits. (l) Plans. Schedule 2.1(l) lists all employee benefit plans, programs, policies, commitments or other arrangements (whether or not set forth in a written document) covering any active, former or retired employee or consultant of Mint (the "Plans"). To the extent applicable, to Mint's knowledge, the Plans materially comply with the requirements of the Employee Retirement Income Security Act of 1974, as amended ("ERISA"), and the Internal Revenue Code of 1986, as amended (the "Code"), and any Plan intended to be qualified under Section 401(a) of the Code has either obtained a favorable determination letter as to its qualified status from the Internal Revenue Service or still has a remaining period of time under applicable Treasury Regulations or Internal Revenue Service pronouncements in which to apply for such determination letter and to make any amendments necessary to obtain a favorable determination. To the extent any Plan with an existing determination letter from the Internal Revenue Service must be amended to comply with the applicable requirements of the Tax Reform Act of 1986 and subsequent legislation, the time period for effecting such amendments will not expire prior to the Effective Time. The Holders have caused Mint to furnish or make available to LSI copies of the most recent Internal Revenue Service letters and Forms 5500 with respect to any such Plan. No Plan is covered by Title IV of ERISA or Section 412 of the Code. Neither Mint nor any officer or director of Mint has incurred any material liability or penalty under Sections 4975 through 4980 of the Code or Title I of ERISA. Each Plan has been maintained and administered in all material respects in compliance with its terms and with the requirements prescribed by any and all statutes, orders, rules and regulations, including but not limited to ERISA and the Code, which are applicable to such Plans. No suit, action or other litigation (excluding claims for benefits incurred in the ordinary course of Plan activities) has been brought, or to the knowledge of Mint is threatened, against or with respect to any such Plan. All contributions, reserves or premium payments required to be made or accrued as of the date hereof to the Plans have been made or accrued. (m) Major Contracts. Except as disclosed in Schedule 2.1(m) or as contemplated herein, Mint is not a party to: (1) Any union contract or any employment or consulting contract or arrangement providing for future compensation, written or oral, with any officer, consultant, director or employee which is not terminable by Mint (both under the terms of the contract and under the laws of the territory to which the contract relates) on thirty (30) days' notice or less without penalty or obligation to make payments related to such termination; -10- 17 (2) Any plan, contract or arrangement, whether written or oral, providing for bonuses, pensions, deferred compensation, severance pay or benefits, retirement payments, profit-sharing, or the like; (3) Any joint venture contract or arrangement or any other agreement which has involved or is expected to involve a sharing of profits with other persons; (4) Any individual customer purchase order for the sale of goods or services in excess of $50,000; (5) Any lease for real or personal property in which the amount of payments which Mint are required to make on an annual basis exceeds $10,000; (6) Except for trade indebtedness and employee expense reimbursements incurred in the ordinary course of business, any instrument evidencing or related in any way to indebtedness incurred in the acquisition of companies or other entities or indebtedness for borrowed money by way of direct loan, sale of debt securities, purchase money obligation, conditional sale, guarantee, leasehold obligations or otherwise; (7) Any material license agreement, either as licensor or licensee (excluding nonexclusive software licenses granted to customers or end-users in the ordinary course of business), excluding for such purposes, licenses granted by Governmental Entities; (8) Any insurance policy or fidelity or surety bond requiring the payment of a premium by Mint in excess of $10,000 per year; (9) Any agreement of indemnification (other than in purchase orders or sales agreements relating to sales of Mint's products); (10) Any agreement, contract or commitment involving payments individually in excess of $25,000; (11) Any other agreement, contract or commitment of Mint which is material to Mint. Each agreement, contract, mortgage, indenture, plan, lease, instrument, permit, concession, franchise, arrangement, license and commitment listed on Schedule 2.1(m) pursuant to this Section 2.1(m) is valid and binding on Mint, and is in full force and effect, and neither Mint, nor to the knowledge of Mint, any other party thereto, has materially breached, nor does Mint have any knowledge of any facts which would lead it to believe that it has breached, any provision of, or is in material default under the terms of, any such agreement, contract, mortgage, indenture, plan, lease, instrument, permit, concession, franchise, arrangement, license or commitment. To the knowledge of Mint, no such agreement, contract or commitment contains any material liquidated damages, penalty or similar provision. Mint has not received notice from any of the other parties to any such -11- 18 contract, agreement or instrument stating that such party intends to cancel, withdraw, modify or amend such contract, agreement or arrangement. (n) Taxes. (1) For purposes of this Agreement, "Tax" (and, with correlative meaning, "Taxes" and "Taxable") means (i) any net income, alternative or add-on minimum tax, gross income, gross receipts, sales, use, ad valorem, transfer, franchise, profits, license, withholding, payroll, employment, excise, severance, stamp, occupation, premium, property, environmental or windfall profit tax, custom, duty or other tax governmental fee or other like assessment or charge of any kind whatsoever, together with any interest or any penalty, addition to tax or additional amount imposed by any Governmental Entity (a "Taxing Authority") responsible for the imposition of any such tax (domestic or foreign), (ii) any liability for the payment of any amounts of the type described in (i) as a result of being a member of an affiliated, consolidated, combined or unitary group for any Taxable period and (iii) any liability for the payment of any amounts of the type described in (i) or (ii) as a result of any express or implied obligation to indemnify any other person. (2) All Tax returns, statements, reports and forms (including estimated Tax returns and reports and information returns and reports) required to be filed with any Taxing Authority with respect to any Taxable period ending on or before the Closing, by or on behalf of Mint (collectively, the "Mint Returns"), have been or will be filed when due (including any extensions of such due date), and all amounts shown due thereon on or before the Effective Time have been or will be paid on or before such date. The Mint Unaudited Balance Sheet (i) fully accrues all actual and contingent liabilities for Taxes (or for dividend distributions in respect of Taxes) with respect to all periods through May 31, 1997 and Mint will not incur any Tax liability in excess of the amount reflected on the Mint Unaudited Balance Sheet with respect to such periods, and (ii) properly accrues in accordance with GAAP all liabilities for Taxes (or for dividend distributions in respect of Taxes) payable with respect to all transactions and events occurring on or prior to such date. (3) No material Tax liability since May 31, 1997 has been incurred other than in the ordinary course of business and adequate provision has been made for all Taxes (or dividend distributions in respect of Taxes) since that date in accordance with GAAP on at least a quarterly basis. Mint has withheld and paid to the applicable financial institution or Taxing Authority all amounts required to be withheld. No Mint Return is currently under audit or examination by any Tax Authority. Mint has not agreed to any extension or waiver of any statute of limitation or applicable period of assessment for any Mint Return. Mint has not granted any extension or waiver of the limitation period applicable to any Mint Returns. (4) There is no material claim, audit, action, suit, proceeding, or investigation now pending or, to the knowledge of Mint, threatened against or with respect to Mint in respect of any Tax or assessment. No notice of deficiency or similar document of any Tax Authority has been received by Mint, and there are no liabilities for Taxes (including liabilities for interest, additions to tax and penalties thereon and related expenses) with respect to the issues that have been raised (and are currently pending) by any Tax Authority that would, if determined adversely to Mint, have an Adverse Business Effect. Neither Mint nor any other person on behalf of -12- 19 Mint, has entered into nor will enter into any agreement or consent pursuant to Section 341(f) of the Code. There are no liens for Taxes upon the assets of Mint. Except as may be required as a result of the transactions contemplated by this Agreement, Mint has not been and will not be required to include any material adjustment in Taxable income for any Tax period (or portion thereof) pursuant to Section 481 or 263A of the Code or any comparable provision under state or foreign Tax laws as a result of transactions, events or accounting methods employed prior to the Closing. (5) There is no contract, agreement, plan or arrangement, including but not limited to the provisions of this Agreement and agreements entered into in connection herewith, covering any employee or independent contractor or former employee or independent contractor of Mint that, individually or collectively, could give rise to the payment of any amount that would not be deductible pursuant to Section 280G or Section 162 of the Code. Other than pursuant to this Agreement, Mint is not a party to or bound by (and prior to the Effective Time will not become a party to or be bound by) any tax indemnity, tax sharing or tax allocation agreement (whether written, unwritten or arising under operation of federal law as a result of being a member of a group filing consolidated tax returns, under operation of certain state laws as a result of being a member of a unitary group, or under comparable laws of other states or foreign jurisdictions) which includes a party other than Mint. Mint has heretofore provided or made available to LSI true and correct copies of all material Tax Returns of Mint, and, as reasonably requested by LSI prior to or following the date hereof, information statements, reports, work papers, Tax opinions and memoranda and other Tax data and documents. (6) S Status. Mint has been an S Corporation within the meaning of Section 1361 of the Code since its formation. (o) Interests of Officers. None of Mint's officers or directors has any interest in any property, real or personal, tangible or intangible, used in or pertaining to Mint's business, including any interest in the Intellectual Property Rights, except for rights as a shareholder, and except for rights under any Plan. (p) Technology. (1) Mint owns, or is licensed or otherwise entitled to exercise, all rights under or with respect to all material patent rights, patents, trademarks, trade names, service marks, copyrights, and any applications therefor, formulae, processes, designs, schematics, compositions, ideas, technology, know-how and tangible or intangible proprietary information, trade secrets or material that is necessary to conduct the business of Mint as currently conducted (the "Intellectual Property Rights"). Schedule 2.1(p) lists all patents, trademarks, registered and unregistered copyrights, trade names and service marks, and any applications therefor included in the Intellectual Property Rights and specifies the jurisdictions in which each such Intellectual Property Right has been issued or registered or in which an application for such issuance and registration has been filed, including the respective registration or application numbers. Schedule 2.1(p) also lists all material licenses, sublicenses and other agreements as to which Mint is a party and pursuant to which Mint or any other person owns or is licensed or is otherwise authorized or obligated with respect to any Intellectual Property Right and includes the identity of all parties thereto. Mint is not, and as a result -13- 20 of the execution and delivery of this Agreement or the performance of the Holder's or Mint's obligations hereunder will not be, in violation of any license, sublicense or other agreement applicable to it, whether or not described in Schedule 2.1(p). Except to the extent disclosed in Schedule 2.1(p), Mint is the sole and exclusive owner or licensee of, with the right, title and interest in and to (free and clear of any liens or encumbrances), the Intellectual Property Rights described in Schedule 2.1(p), and has sole and exclusive rights and is not contractually obligated to pay any compensation to any third party in respect thereof. To the knowledge of Mint, no employee of Mint is obligated under any contract (including licenses, covenants or commitments of any nature) or other agreement, or subject to any judgment, decree or order of any court or administrative agency, that would interfere with the use of such employees' best efforts to promote the interests of Mint or that would conflict with the business of Mint as now conducted. Mint does not now, and does not currently believe it will in the future be necessary to utilize any inventions of any of its employees made prior to their employment or consulting which have not previously been assigned to Mint. (2) No claims with respect to the Intellectual Property Rights have been asserted or, to the knowledge of Mint after reasonable investigation, have been threatened by any person, nor does Mint know of any grounds for any claims now or in the future (i) to the effect that any business of Mint as currently conducted infringes on or misappropriates any Intellectual Property Rights in which a third party has any rights, or (ii) challenging the ownership, validity or effectiveness of any of the Intellectual Property Rights. To Mint's knowledge all Intellectual Property Rights are valid and subsisting and there is no material unauthorized use, infringement or misappropriation of any of the Intellectual Property Rights by any third party, including any employee or former employee of Mint. Mint has not been sued or charged in writing as a defendant in any claim, suit, action or proceeding that involves a claim of infringement or misappropriation that has not been finally terminated prior to the date hereof. Mint has no knowledge of any infringement liability with respect to, or infringement or misappropriation by, Mint of any patent, trademark, service mark or copyright of another. No Intellectual Property Right is subject to any outstanding order, judgment, decree, stipulation or agreement restricting in any manner the licensing or exploitation thereof by Mint. Mint has not entered into any agreement to indemnify any other person against any charge of infringement relating to any Intellectual Property Right. To Mint's knowledge, no employee of Mint is in violation of any term of any employment contract (whether written or verbal), patent disclosure agreement or any other contract or agreement relating to the relationship of any such employee with Mint or any other party (including prior employers) because of the nature of the business conducted or proposed to be conducted by Mint. (q) Title to Properties; Absence of Liens and Encumbrances; Condition of Equipment. (1) Mint does not own real property, and Schedule 2.1(q) lists all material real estate leases and, with respect to real estate leases, the aggregate annual rental or other recurring fees payable, the length of all real estate leases and the number of extensions available. (2) Mint has good and valid title to, or, in the case of leased properties and assets, valid leasehold interests in, all of its tangible properties and assets, real, personal and mixed, used in its business, free and clear of any liens (other than liens for taxes that are not yet delinquent), -14- 21 charges, pledges, security interests or other encumbrances, except as reflected in the Mint Financial Statements and except for such imperfections of title and encumbrances, if any, which are not substantial in character, amount or extent, and which do not materially detract from the value to Mint, or interfere with the present use by Mint, of the property subject thereto or affected thereby. (3) The equipment owned or leased by Mint (the "Equipment") is, (i) adequate for the conduct of the business of Mint consistent with their past practices, (ii) suitable for the uses to which it is currently employed, (iii) in good operating condition, subject to normal wear and tear, (iv) regularly and properly maintained, (v) not obsolete or in need of renewal or replacement, except for renewal or replacement in the ordinary course of business, and (vi) free from any defects, except, with respect to clauses (iii) through (vi) of this Section 2.1(q)(3), as would not have an Adverse Business Effect. (r) Environmental Matters. (1) Mint has received no notice that it is liable for any cost to undertake remedial measures or investigate, and is not aware of any violation with respect to any substance that is regulated by any Governmental Entity or that has been designated by any Governmental Entity to be radioactive, toxic, hazardous or otherwise a danger to health or the environment (a "Hazardous Material"), with respect to, or that is present in, on or under any property that Mint has at any time owned, operated, occupied or leased. (2) Mint has not transported, stored, used, manufactured, released or exposed its employees or any other person to any Hazardous Material in violation of any applicable statute, rule, regulation, order or law, except where such violation would not have an Adverse Business Effect. (3) Mint has obtained all permits, consents, waivers, exemptions, licenses, approvals and other authorizations ("Environmental Permits") required to be obtained by it under the laws of any Governmental Entity relating to land use, public and employee health and safety, pollution or protection of the environment (collectively, "Environmental Laws"), except where the failure to obtain such Environmental Permit would not have an Adverse Business Effect. Mint (i) is in compliance in all material respects with all terms and conditions of the Environmental Permits and (ii) is in compliance in all material respects with all other limitations, restrictions, conditions, standards, prohibitions, requirements, obligations, schedules and timetables contained in the Environmental Laws or contained in any regulation, code, plan, order, decree, judgment, notice or demand letter issued, entered, promulgated or approved thereunder. Mint has not received any notice nor is it aware of any past or present condition or practice of the businesses conducted by Mint which forms or is reasonably likely to form the basis of any material claim, action, suit, proceeding, hearing or investigation against Mint under the Environmental Laws arising out of the manufacture, processing, distribution, use, treatment, storage, spill, disposal, transport, or handling, or the emission, discharge, release or threatened release into the environment, of any Hazardous Material by Mint. -15- 22 (s) Insurance. Schedule 2.1(s): (i) lists and summarizes all insurance policies and fidelity bonds covering the assets, business, equipment, properties, operations, employees, officers and directors of Mint; (ii) sets forth the amounts of coverage under each such policy and bond of Mint; and (iii) lists any claim by Mint under any such policy (or predecessor policy) during the last three (3) years in an amount exceeding $10,000. Within the last four (4) years, Mint has not been refused any requested coverage or denied renewal of any then existing policy or bond. There is no claim by Mint pending under any of such policies or bonds as to which coverage has been questioned, denied or disputed by the underwriters of such policies or bonds. All premiums payable under all such policies and bonds have been paid and Mint is in material compliance with the terms of such policies and bonds (or other policies and bonds providing substantially similar insurance coverage). Such policies of insurance and bonds are of the type and in amounts customarily carried by persons conducting businesses similar to those of Mint. Mint has not received any notice or threat of termination of, or of a material premium increase with respect to, any of such policies. (t) Labor Matters. Mint is in compliance in all material respects with all currently applicable laws and regulations respecting employment, discrimination in employment, terms and conditions of employment and wages and hours and occupational safety and health and employment practices, and is not engaged in any unfair labor practice. Mint has not received any notice from any Governmental Entity, and to the knowledge of Mint there has not been asserted before any Governmental Entity, any claim, action or proceeding to which Mint is a party or involving Mint, and there is neither pending nor to the knowledge of Mint threatened, any investigation or hearing concerning Mint arising out of or based upon any such laws, regulations or practices. (u) Key Employees. Schedule 2.1(u) is a list identifying all key employees of Mint, including all officers of Mint (the "Key Employees"), and setting forth the job title of each such employee, total compensation paid to each such employee during the fiscal year ended December 31, 1996, and the first five (5) months of the current fiscal year. None of such Key Employees has delivered notice to Mint indicating a present intention to resign or retire. (v) Restrictions on Business Activities. There is no agreement (noncompete or otherwise), judgment, injunction, order or decree to which Mint is a party or otherwise binding upon Mint which has or reasonably would be expected to have the effect of prohibiting or impairing any business practice of Mint, any acquisition of property (tangible or intangible) by Mint or the conduct of business by Mint. Without limiting the foregoing, Mint has not entered into any agreement under which Mint is restricted from selling, licensing or otherwise distributing any of its products or services to any class of customers, in any geographic area, during any period of time or in any segment of the market. (w) Disclosure. No representation or warranty made by Mint or Holder in this Agreement contains or will contain any untrue statement of a material fact, or omits or will omit to state a material fact necessary to make the statements or facts contained herein or therein not misleading in light of the circumstances under which they were made. (x) Brokers or Finders. No agent, broker, investment banker or other firm or person is or will be entitled to any broker's or finder's fee or any other commission or similar fee in -16- 23 connection with any of the transactions contemplated by this Agreement except for fees of Adams, Harkness & Hill which are to be paid by Mint pursuant to Section 5.8 and 5.18 hereof. ARTICLE III REPRESENTATIONS AND WARRANTIES OF THE HOLDER 3.1 Additional Representations and Warranties of the Holder. The Holder hereby individually represents and warrants as follows: (a) Title. Holder has and at the Closing will have good, marketable and valid title to all of the outstanding shares of capital stock of Mint. (b) Authority. Holder has all requisite capacity, power and authority to enter into this Agreement and to perform her obligations hereunder, and to consummate the transactions contemplated hereby. The execution and delivery of this Agreement by Holder and the performance by Holder of her obligations hereunder, and the consummation of the transactions contemplated hereby, have been preceded by all action necessary to execute and deliver this Agreement and to consummate the transactions contemplated hereby. This Agreement is the legal, valid and binding obligation of the Holder and is enforceable against Holder in accordance with its terms, except to the extent that such enforcement may be limited by applicable bankruptcy, insolvency and other similar laws affecting creditors' rights generally and by general principles of equity. (c) No Default. The consummation by Holder of the transaction contemplated herein and the fulfillment by Holder of the terms hereof do not and will not result in a breach of or violation of any of the terms and provisions of, or constitute a default under, any indenture, mortgage, deed of trust or other agreement or instrument to which Holder is a party. (d) Governmental Consents. Other than as stated in this Section 3.1(d), in Section 2.1 or the Schedules hereto or thereto, no consent, approval, order or authorization of, or registration, qualification, designation, declaration or filing with, any Governmental Entity on the part of the Holder is required in connection with the valid execution, delivery or performance of this Agreement, or agreements or documents evidenced as exhibits hereto. -17- 24 ARTICLE IV REPRESENTATIONS AND WARRANTIES OF LSI AND MERGER SUB 4.1 Representations and Warranties of LSI and Merger Sub. Except as disclosed in Schedule 4.1 referring specifically to the representations and warranties in this Agreement and delivered to the Holder, LSI and Merger Sub represent and warrant to the Holder and Mint that: (a) Organization; Standing and Power. LSI is a corporation validly existing and in good standing under the laws of Delaware and has all requisite corporate power and authority to own, lease and operate its properties and to carry on its businesses as now being conducted. Merger Sub is a corporation validly existing and in good standing under the laws of Massachusetts and has all requisite corporate power and authority to own, lease and operate its properties and to carry on its business as now being conducted. (b) Authority. (1) LSI and Merger Sub have all requisite corporate power and authority to enter into this Agreement and to perform their obligations hereunder, and to consummate the transactions contemplated hereby. The execution and delivery of this Agreement by LSI and Merger Sub and the performance of their obligations hereunder, and the consummation of the transactions contemplated hereby have been duly authorized by all necessary corporate action on the part of LSI and Merger Sub. This Agreement has been duly executed and delivered by each of Mint and Holder and is the legal, valid and binding obligation of each of LSI and Merger Sub and is enforceable against each of such parties in accordance with its terms, except to the extent that such enforcement may be limited by applicable bankruptcy, insolvency and other similar laws affecting creditors' rights generally and by general principles of equity. (2) Other than as set forth in Schedule 4.1, the execution and delivery of this Agreement by LSI and Merger Sub does not, and, as of the Effective Time, the consummation of the transactions contemplated hereby will not result in a Conflict under (i) any provision of the Articles of Incorporation or Organization or Bylaws of LSI or Merger Sub or (ii) any material mortgage, indenture, lease, contract or other agreement or instrument, permit, concession, franchise, license, judgment, order, decree, statute, law, ordinance, rule or regulation applicable to which LSI or Merger Sub is a party by which either is bound or to which any of their properties or assets are subject. Other than as set forth in Schedule 4.1, no consent, waiver, approval, order or authorization of, or registration, declaration or filing with, any Governmental Entity is required by or with respect to LSI or Merger Sub in connection with the execution and delivery of this Agreement by LSI and Merger Sub or the consummation by LSI and Merger Sub of the transactions contemplated hereby, except for (i) the filing of the Certificates of Merger and the Agreement of Merger with the Secretaries of State of the Commonwealth of Massachusetts and the State of Delaware, which will be effected as set forth in Section 1.2 hereof, (ii) such consents, waivers, approvals, orders, authorizations, registrations, declarations and filings as may be required under applicable federal and state securities laws and (iii) filings with the New York Stock Exchange. -18- 25 (c) Purchase Entirely for Own Account. LSI hereby confirms that the capital stock to be received by LSI will be acquired for investment for LSI's own account, not as a nominee or agent, and not with a view to the resale or distribution of any part thereof, and that LSI has no present intention of selling, granting any participation in, or otherwise distributing the same. By executing this Agreement, LSI and Merger Sub further represent that LSI and Merger Sub do not have any contract, undertaking, agreement or arrangement with any person to sell, transfer or grant participation to such person or to any third person, with respect to any of the capital stock. (d) Brokers or Finders. No agent, broker, investment banker or other firm or person is or will be entitled to any broker's or finder's fee or any other commission or similar fee in connection with any of the transactions contemplated by this Agreement. (e) SEC Documents; LSI Financial Statements. LSI has furnished or made available to Mint and Holder true and complete copies of all reports filed by it with the U.S. Securities and Exchange Commission (the "SEC") under the Securities Exchange Act of 1934 (the "Exchange Act") for all periods subsequent to December 31, 1995, all in the form so filed (all of the foregoing being collectively referred to as the "SEC Documents"). As of their respective filing dates, the SEC Documents complied in all material respects with the requirements of the Exchange Act, and none of the SEC Documents contained any untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statements made therein, in light of the circumstances in which they were made, not misleading, except to the extent corrected by a document subsequently filed with the SEC. The financial statements of LSI, including the notes thereto, included in the SEC Documents (the "LSI Financial Statements") comply as to form in all material respects with applicable accounting requirements and with the published rules and regulations of the SEC with respect thereto, have been prepared in accordance with GAAP consistently applied (except as may be indicated in the notes thereto) and present fairly the consolidated financial position of LSI at the dates thereof and of its operations and cash flows for the periods then ended (subject, in the case of unaudited statements, to normal audit adjustments). There has been no change in LSI accounting policies except as described in the notes to the LSI Financial Statements. Since the last filing with the SEC by LSI, there has been no material adverse change in the business or financial condition of LSI. ARTICLE V COVENANTS OF THE HOLDER AND MINT 5.1 Operation of Business. During the period from the date hereof and continuing until the earlier of the termination of this Agreement or the Effective Time, without the prior written consent of LSI, neither the Holder nor Mint will engage in any practice, take any action or enter into any transaction outside the ordinary course of business except for the transactions contemplated by this Agreement. Without limiting the generality of the foregoing, neither the Holder nor Mint will, nor cause Mint to (a) declare, set aside or pay any dividend or make any distribution with respect to its capital stock or redeem, purchase or otherwise acquire any of its capital stock or the capital stock of Mint (other than dividends in respect of taxes and as contemplated in this Agreement), (b) sell, -19- 26 transfer or otherwise dispose of any material amount of its inventory, supplies or personal property outside of the ordinary course of business (except for sales of obsolete assets at fair market value), or (c) otherwise engage in any practice, take any action or enter into any transaction of the type described in Section 2.1(i) (other than as contemplated in this Agreement). Mint shall not agree to any material audit assessment by any Tax Authority, make any material Tax election or file any material Tax return without first allowing LSI reasonable opportunity to review and comment on same. 5.2 Preservation of Business. Holder and Mint will use reasonable efforts to keep the business and properties of Mint substantially intact, including Mint's present operations, physical facilities, working conditions, and goodwill and relationships with lessors, licensors, suppliers, customers and employees. 5.3 Satisfaction of Conditions; General. Subject to Sections 7.1 and 7.3 hereof, Holder and Mint will use all reasonable efforts (a) to fulfill the conditions set forth in Sections 7.1 and 7.2 of this Agreement and (b) to take all actions and to do all things necessary, proper or advisable in order to consummate the transactions contemplated by this Agreement, including (i) giving any notices to third parties, (ii) using all reasonable efforts to obtain any third-party consents, (iii) giving any notices to, making any filings with and using all reasonable efforts to obtain any required authorizations, consents and approvals of Government Entities and (iv) removing any injunctions or other impediments or delays, legal or otherwise. 5.4 Full Access. The Holder and Mint will permit representatives of LSI to have full access at all reasonable times, and in a manner so as not to interfere with the normal business operations of Mint, to all premises, properties, personnel, books, records (including Tax records), contracts and documents of Mint. The Holder and Mint will promptly furnish to LSI such information in the possession of the Holder or Mint concerning the operations of Mint as LSI may reasonably request. 5.5 Notice of Developments. Mint and Holder will give prompt written notice to LSI of any adverse development causing a material breach of any of the representations and warranties in Article II or Article III, respectively. No notice of any adverse development shall be deemed to waive any condition to the Closing under Article VII. 5.6 Exclusivity; Acquisition Proposals. Unless and until this Agreement shall have been terminated by either party pursuant to Section 9.1 hereof, neither the Holder nor Mint shall, directly or indirectly, through any officer, director, agent or otherwise, (a) solicit, initiate or encourage submission of proposals or offers from any person relating to (1) any acquisition or purchase of all or substantially all of the assets of, or any equity interest in, Mint or any merger, consolidation, business combination or similar transaction with Mint, or (2) any other material transaction incompatible with this Agreement (including, without limitation, a joint venture or other similar transaction), or (b) participate in any discussions or negotiations regarding, furnish to any other person any confidential information with respect to, or otherwise cooperate in any way with, or participate in, facilitate or encourage, any effort or attempt by any other person to do or seek any of the foregoing. In the event the Holder or Mint prior to termination of this Agreement receive from -20- 27 any third party any offer or indication of interest regarding any of the transactions referred to in the foregoing sentence, or any request for information about Mint with respect to any of the foregoing, then such indication of interest, or request, including the identity of the third party, shall be communicated promptly to LSI. 5.7 Confidentiality. Holder, Mint and its accountants, attorneys, employees, and other agents each agrees to treat and protect as such all of the LSI Confidential Information (as defined below) in the same manner in which it treats and protects its own confidential information, to refrain from using any of the LSI Confidential Information except in connection with this Agreement and the transactions contemplated hereby and to deliver promptly to LSI or to destroy, at LSI's option and request, all tangible embodiments (and all copies) of the LSI Confidential Information which are in its possession in the event that this Agreement is terminated and the transactions contemplated hereby are not consummated. For the purposes of this Agreement, "LSI Confidential Information" means any written or oral information concerning (a) the business and affairs of LSI or any of its affiliates or (b) the negotiation of this Agreement and the transactions relating to this Agreement, which, in any case, is not already generally available to the public. This Section 5.7 shall survive indefinitely, whether or not the transactions contemplated by this Agreement are consummated. 5.8 Expenses. All costs and expenses incurred by the Holder or Mint in connection with this Agreement and the transactions contemplated hereby shall be paid by Mint or Holder. 5.9 Public Announcements. Mint and Holder will consult in advance with LSI concerning the timing and content of any announcements, press releases and public statements concerning the transactions contemplated by this Agreement and will not make any such announcement, release or statement without LSI's consent; provided, however, that Holder or Mint may make any public statement concerning the transactions contemplated by this Agreement without the consent of LSI if, in the reasonable opinion of counsel for Holder or Mint, such statement or announcement is required to comply with applicable law. 5.10 FIRPTA Certificates. At the Closing, Mint agrees to deliver to LSI a statement executed on its behalf by its chief executive officer or president in such form as reasonably requested by counsel for LSI conforming to the requirements of Treasury Regulation Section 1.897-2(h)(1)(i). Mint further agrees to provide in a timely manner such notification to the Internal Revenue Service pursuant to Treasury Regulation Section 1.897-2(h)(2), if any, as may be requested by LSI. 5.11 Option Plan. Prior to the Closing, Mint shall amend the Option Plan and shall obtain the written consent to such amendment from the Holder as well as substantially all persons holding options granted under such Option Plan, to provide that the vesting of the options granted thereunder shall not be accelerated by virtue of the Merger and the closing of the transactions contemplated hereby. In addition, the Option Plan shall be amended (and the approval of the Board of Directors of Mint and the shareholders of Mint shall be obtained) to reserve an additional number of shares sufficient to allow for the grant of options to Holder and the other Mint employees in accordance with Section 5.14 below. -21- 28 5.12 Contribution to Capital. Prior to the Closing, Holder shall make the Capital Stock Contribution. 5.13 Exercise of Options. Mint shall not permit any optionee or warrantholder to exercise any outstanding option between the date of the Term Sheet and the Closing Date. As of the Closing Date, there shall be outstanding 318,182 shares of Mint Common Stock and options to purchase no more than an aggregate of 311,500 shares of Mint Common Stock (excluding the options granted pursuant to Section 5.14 below, the Albanese Option and options granted in connection with new hires in the ordinary course of business). 5.14 Grant of Options. Immediately prior to the Closing, Mint shall grant options to purchase Mint Common Stock pursuant to the Option Plan to the employees of Mint, contingent upon and effective immediately prior to the Closing (the "Contingent Options"), in such numbers, on such terms and to such persons as reasonably agreed by the management of Mint and LSI, so that upon multiplication of the total numbers of shares subject to such grants by the Exchange Ratio, the total number of shares of LSI Common Stock purchasable on exercise of such options would be equal to 200,500 shares of LSI Common Stock, with an exercise price equal to the fair market value of LSI Common Stock immediately prior to the Closing Date (after dividing the exercise price of the Contingent Options by the Exchange Ratio), such options to be assumed by LSI in the Merger. 5.15 Bonus Plan. Prior to the Closing, Mint shall establish a bonus plan, on terms reasonably acceptable to LSI, which shall provide for the payment of cash bonuses in the aggregate amount of $2,500,000 to be awarded to the employees of Mint in individual amounts determined by management of Mint, with the approval of LSI. Such bonuses will be payable over three years after the Closing Date. One quarter will be payable on the next regular payday following the Closing Date, with one quarter becoming payable on each of the next three anniversaries of the Closing Date, provided that the employee remains an employee of the Surviving Corporation, LSI or any of LSI's affiliates on and as of each such payment date. 5.16 Tax Matters. (a) Tax Returns. The Holder and Mint shall be responsible for timely filing all federal and state income tax returns of Mint for taxable periods ending on or prior to the Closing Date and shall have paid or will pay all income taxes attributable to the income of Mint for such periods. Such returns will be prepared and filed in accordance with applicable law and in a manner consistent with past practices and shall be subject to review and approval LSI. After the Closing Date, LSI and the Surviving Corporation, on the one hand, and the Holder, on the other hand, will make available to the other, as reasonably requested, all information, records or documents relating to the liability for Taxes of Mint for all periods ending on or prior to the Closing Date and will preserve such information, records or documents until the expiration of any applicable statute of limitations or extensions thereof. (b) Election Under Section 338(h)(10). Holder shall join with LSI in making a joint election on Form 8023-A for Mint under Section 338(h)(10) of the Code, under Treasury Regulation Section 1.338(h)(10)-1(d) and under any applicable similar provisions of state law with -22- 29 respect to the purchase of the Shares ("Section 338 Election"), if LSI chooses to make such election. LSI shall timely prepare IRS Form 8023-A (and any required attachments) and any similar state and local tax forms (and any required attachments) required to make the Section 338 Election. (c) Liability for Taxes. Holder shall bear any and all tax liabilities (of whatever nature) of Mint occurring prior to and up to and including the close of the transaction. Holder and the respective option holders shall each individually bear their own income and capital gains tax consequences as a result of this transaction. Mint, Holder and LSI will cooperate to minimize tax consequences of the parties hereto in the aggregate to the greatest extent allowable. 5.17 S Status. The Holder and Mint shall maintain Mint's tax status as an S Corporation up to the Closing Date, and the Holder and Mint shall not revoke or otherwise terminate the election of Mint to be treated as an S Corporation. 5.18 After Tax Earnings. All after tax earnings of Mint as of June 30, 1997, as set forth in the attached Schedule 5.18, on an accrual basis (the "After Tax Earnings"), shall be paid to Holder prior to the Closing Date without taking into account any gain arising from the sale of assets. Brokers' fees, accountant's fees and fees of counsel to Mint related to this transaction shall be paid by Mint and shall be deducted from the After Tax Earnings before being paid to Holder. 5.19 Shareholder Consent. By signing this Agreement, Holder, as sole shareholder of Mint, consents to the Merger as contemplated by this Agreement and the related agreements, consents to the Escrow as set forth in the Escrow Agreement, and consents to all other transactions contemplated by this Agreement and necessary to effect the Merger. 5.20 Cooperation. From time to time on or before the first anniversary of the Effective Time, Holder shall cooperate with LSI and Mint by providing information reasonably requested by LSI or Mint regarding certain issues arising out of the conduct of the business of Mint which are identified prior to the first anniversary of the Effective Time but which, by their nature, will not be resolvable prior to the first anniversary of the Effective Time, to mitigate the adverse impact of such issues on LSI, Merger Sub or Mint. Holder agrees that failure to cooperate reasonably in providing such information to mitigate such issues will result in damage to LSI, Merger Sub and Mint compensable in accordance with Section 8.2 hereof to the extent of the estimated potential liability resulting from such issues as determined by an independent certified public accountant. ARTICLE VI COVENANTS OF LSI 6.1 Satisfaction of Conditions; General. Subject to Sections 7.1 and 7.2 hereof, LSI will use all reasonable efforts (a) to fulfill the conditions set forth in Article VII of this Agreement and (b) to take all action and to do all things necessary, proper or advisable in order to consummate and make effective the transactions contemplated by this Agreement, including (i) giving any notices to third parties, (ii) using all reasonable efforts to obtain any third party consents and (iii) giving any -23- 30 notice to, making any filings with and using all reasonable efforts to obtain any authorizations, consents and approvals of Government Entities. 6.2 Confidentiality. LSI and its accountants, attorneys, employees and other agents agree to treat and protect as such all of Mint's Confidential Information (as defined below) in the same manner in which it treats and protects its own confidential information, to refrain from using any of Mint's Confidential Information except in connection with this Agreement and the transactions contemplated hereby and to deliver promptly to Mint or to destroy, at Mint's option and request, all tangible embodiments (and all copies) of Mint's Confidential Information which are in its possession in the event that this Agreement is terminated and the transactions contemplated hereby are not consummated. For the purposes of this Agreement, "Mint's Confidential Information" means any written or oral information concerning (a) the business and affairs of Mint or (b) the negotiation of this Agreement, which, in any case, is not already generally available to the public. This Section 6.2 will survive indefinitely, whether or not the transactions contemplated by this Agreement are consummated. 6.3 Expenses. All costs and expenses incurred by LSI in connection with this Agreement and the transactions contemplated hereby shall be paid by LSI. 6.4 Registration Statement on Form S-8. Following the Closing but in no event later than sixty (60) days thereafter, LSI shall take all such actions as shall be necessary to register the LSI shares of Common Stock issuable on exercise of the Mint Options under the Securities Act of 1933, as amended. 6.5 Public Announcement. LSI will consult in advance with Mint concerning the timing and content of any announcements, press releases and public statements concerning the transactions contemplated by this Agreement and will not make any such announcement, release or statement without Mint's consent, which shall not unreasonably be withheld; provided, however, that LSI may make any public statement concerning the transactions contemplated by this Agreement without the consent of the Holder or Mint if, in the reasonable opinion of counsel for LSI, such statement or announcement is required to comply with applicable law. 6.6 NYSE Listing. LSI shall authorize for listing on the New York Stock Exchange the shares of LSI Common Stock issuable upon exercise of the Mint Options assumed in the Merger, upon official notice of issuance. 6.7 Notice of Developments. LSI will give prompt written notice to Mint Holder of any adverse developments causing a material breach of any of the representations and warranties in Article IV. No notice of any adverse development shall be deemed to waive any condition to the Closing under Article VII. -24- 31 ARTICLE VII CONDITIONS PRECEDENT 7.1 Conditions to Each Party's Obligations to Effect the Acquisition. The respective obligations of each party to effect the transactions contemplated by this Agreement shall be, at the election of either party (except where the fulfillment of a condition is exclusively within the control of one party in which case only the noncontrolling party's obligation at its election, shall be), subject to the fulfillment at or prior to the Closing of the following conditions: (a) Orders. No order shall have been entered, and not vacated, by a court or administrative agency of competent jurisdiction, in any action or proceeding which enjoins, restrains or prohibits consummation of the Agreement or the transactions contemplated hereby. (b) Securities and Antitrust Laws. Except for the Certificates of Merger and Agreement of Merger and all related documents required to be filed with the Secretaries of State of the Commonwealth of Massachusetts and the State of Delaware, LSI, Merger Sub, Mint and the Holder shall have received any and all permits, authorizations, approvals, consents and orders required to be obtained by such parties under all applicable state and foreign securities laws, antitrust laws, statutes, codes, ordinances, rules and regulations in order to consummate the transactions contemplated by this Agreement, and all such filings, registrations, permits, authorizations, consents and approvals shall be in full force and effect at the Closing. (c) Proceedings. There shall be no litigation pending or threatened by any regulatory body or private party in which (i) an injunction is or may be sought against the transactions contemplated hereby, or (ii) relief is or may be sought against any party hereto as a result of this Agreement, and in which, in the good faith judgment of the Board of Directors of either LSI or Mint (relying on the advice of their respective legal counsel), such regulatory body or private party has a reasonable possibility of prevailing and such relief would have a material adverse effect upon either party. 7.2 Conditions to Obligations of LSI. The obligation of LSI to effect the transactions contemplated by this Agreement shall be, at the election of LSI (except where the fulfillment of a condition is exclusively within the control of such party), subject to the fulfillment at or prior to the Closing of the following conditions: (a) Representations and Warranties. The representations and warranties of Mint and the Holder contained in Article II and in Article III as modified by the applicable schedules shall be true in all material respects on and as of the Closing. (b) Performance. Mint and the Holder shall have performed and complied in all material respects with all agreements, obligations, covenants and conditions contained in this Agreement that are required to be performed or complied with by it on or before the Closing. -25- 32 (c) Compliance Certificate. Mint and Holder shall cause to be delivered to LSI at the Closing a certificate certifying that the conditions specified in Sections 7.2(a) and 7.2(b) have been fulfilled. (d) Consents. Mint shall have procured all of the third party consents material to the business or operations of Mint that are necessary, proper or advisable in order to consummate the transactions contemplated by this Agreement, including the consents of any Governmental Entity listed in Schedule 2.1, or an opinion that no such consents are required. (e) Opinion of Counsel. LSI shall have received from Ropes & Gray, counsel for the Holder and Mint, an opinion, dated as of the Closing, in form and substance reasonably satisfactory to LSI. (f) Proprietary Information and Invention Agreement. Each employee of Mint shall have executed a Proprietary Information and Invention Agreement in substantially the form attached hereto as Exhibit C. (g) Employment Agreements. On or prior to the Closing, Holder and each of the Key Employees shall have entered into employment and non-competition agreements, in substantially the forms attached hereto as Exhibit B and Exhibit D respectively; and Holder and all Key Employees shall have thereby committed to remain with LSI. (h) Employment Commitments. On or prior to the Closing, at least 90% of the employees of Mint who are not Key Employees shall have committed in a manner reasonably acceptable to LSI to remain with LSI and Merger Sub as of the Closing Date. (i) Option Amendment. On or prior to the Closing, all of the employees of Mint at the Closing Date who have been granted options shall have consented to amendment of their option agreement letter in substantially the form attached hereto as Exhibit E. (j) Escrow Agreement. On or prior to the Closing, the Holder shall have entered into the Escrow Agreement in substantially the form attached hereto as Exhibit A (the "Escrow Agreement"). (k) Mint Stock Certificate. On or prior to the Closing, the Holder shall have transferred to LSI all stock certificates evidencing outstanding shares of Mint Capital Stock, duly endorsed for transfer, for the purpose of cancellation. 7.3 Conditions to Obligations of Mint and the Holder. The obligation of Mint and the Holder to effect the transactions contemplated by this Agreement shall be, at the election of the Holder (except where the fulfillment of a condition is exclusively within the control of such party), subject to the fulfillment at or prior to the Closing of the following conditions: (a) Representations and Warranties. The representations and warranties of LSI contained in Article IV shall be true in all material respects on and as of the Effective Time. -26- 33 (b) Performance. LSI shall have performed and complied in all material respects with all agreements, obligations and conditions contained in this Agreement that are required to be performed or complied with by it on or before the Closing. (c) Payment of Purchase Price. LSI shall have delivered with respect to the Mint Common Stock, the Cash Consideration, net of the Cash Escrow Fund, to the Holder in cash or by check, and deposited the Cash Escrow Funds with the Escrow Agent under the Escrow Agreement. (d) Compliance Certificate. LSI shall cause to be delivered to Mint and Holder at the Closing a certificate certifying that the conditions specified in Sections 7.3(a) and 7.3(b) have been fulfilled. (e) Opinion of Wilson Sonsini Goodrich & Rosati. Mint shall have received from Wilson Sonsini Goodrich & Rosati, counsel for LSI, an opinion, dated as of the Closing, in form and substance reasonably satisfactory to Mint and Holder. (f) Escrow Agreement. On or prior to the Closing, LSI and Merger Sub shall have entered into the Escrow Agreement in substantially the form attached hereto as Exhibit A. (g) Employment Agreements. On or prior to the Closing, Holder and each of the Key Employees shall have entered into employment and non-competition agreements in substantially the forms attached hereto as Exhibit B and Exhibit D respectively. ARTICLE VIII INDEMNIFICATION 8.1 Survival of Representations, Warranties, Covenants and Agreements. (a) Notwithstanding any investigation conducted at any time with regard thereto by or on behalf of any party, and except as otherwise provided herein, all representations, warranties, covenants, and agreements in this Agreement or in any instruments delivered pursuant to this Agreement, shall be conditions of the transactions contemplated hereby and survive the execution, delivery, and performance of this Agreement, and the transactions consummated hereby, until the first anniversary of the Effective Time. All representations and warranties set forth in this Agreement shall be deemed to have been made again at and as of the Closing. (b) As used in this Article VIII, except as otherwise indicated in this Article VIII, any reference to a representation, warranty, agreement, or covenant contained in any section of this Agreement shall include the schedule relating to such section. 8.2 Indemnification of LSI. Holder hereby agrees to indemnify and hold harmless LSI and its affiliates against any and all losses, liabilities, damages, demands, claims, suits, actions, judgments, causes of action, assessments, costs, and expenses, including, without limitation, -27- 34 attorneys' fees, any and all expenses incurred in investigating, preparing, and defending against any litigation, commenced or threatened, and any claim whatsoever, and any and all amounts paid in settlement of any claim or litigation which settlement was either (i) approved in writing in advance by Holder, or (ii) if such settlement is not agreed upon by the parties, then in accordance with the decision of the arbitrator pursuant to Section 8.10 hereof (including any award of fees and expenses pursuant to such Section) (collectively, "Damages"), asserted against, resulting from, imposed upon, or incurred or suffered by LSI or its affiliates, or by Mint, directly or indirectly, as a result of or arising from any inaccuracy in or breach or nonfulfillment of any of the representations, warranties, covenants, or agreements made by Mint or Holder contained herein or from any Tax liability of the Holder or Mint arising from the transactions contemplated in this Agreement or any Employment Agreement entered into with Holder or Key Employees pursuant to this Agreement; any inaccuracy in or breach or nonfulfillment of any certificate, instrument, schedule, exhibit or document delivered by Mint or Holder in connection with this Agreement or the Merger; or any inaccuracy in or breach or nonfulfillment of any of the representations and warranties, covenants or agreements made by such Holder in Article III of this Agreement, or any facts or circumstances constituting such an inaccuracy, breach, or nonfulfillment (all of which shall be referred to as "Indemnifiable Claims"). 8.3 Indemnification of Holder. LSI hereby agrees to indemnify and hold harmless the Holder against any and all losses, liabilities, damages, demands, claims, suits, actions, judgments, causes of action, assessments, costs, and expenses, including, without limitation, attorneys' fees, any and all expenses incurred in investigating, preparing, and defending against any litigation, commenced or threatened, and any claim whatsoever, and any and all amounts paid in settlement of any claim or litigation which settlement was either (i) approved in writing in advance by LSI, or (ii) if such settlement is not agreed upon by the parties, then in accordance with the decision of the arbitrator pursuant to Section 8.10 (including any award of fees and expenses pursuant to such Section) (collectively, also "Damages"), asserted against, resulting from, imposed upon, or incurred or suffered by any of the Holder directly or indirectly, as a result of or arising from any inaccuracy in or breach or nonfulfillment of any of the representations, warranties, covenants, or agreements made by LSI in this Agreement or from any Tax liability of LSI or any of its affiliates arising from the transactions contemplated in this Agreement (all of which shall also be referred to as "Indemnifiable Claims"). 8.4 Indemnification Threshold and Limitations. All Indemnifiable Claims must be asserted prior to or upon the termination of the Cash Escrow Period (as hereinafter defined). Notwithstanding Section 8.2 hereof, the Holder shall have no liability under this Article VIII unless and until the aggregate amount of Damages exceeds $25,000, in which event the Holder shall be liable for the full amount of the Damages. 8.5 Escrow Fund. Upon compliance with the terms hereof, LSI shall be entitled to obtain (and shall be required first to seek) indemnity from the Cash Escrow Fund (as hereinafter defined) for all Damages covered by the indemnity provided for in Section 8.2. As security for such indemnity, LSI shall retain and deposit $700,000 with Marshall & Ilsley Trust Company (or other institution selected by LSI with the reasonable consent of the Holder), as escrow agent (the "Escrow Agent"), and thereby establish an escrow fund (the "Cash Escrow Fund") to be governed by the terms set forth herein and in the Escrow Agreement. -28- 35 8.6 Escrow Period. The escrow period for the cash deposited in the Cash Escrow Fund shall terminate on the first anniversary of the Effective Time (the "Cash Escrow Period"). 8.7 Procedures with Respect to Third-Party Claims. (a) If LSI or any of its affiliates determines to seek indemnification under this Article VIII with respect to Indemnifiable Claims resulting from the assertion of liability by third parties, LSI shall promptly give written notice to the Holder within ten (10) days of receipt of actual notice of such third party claim; the notice shall set forth such material information with respect thereto as is then reasonably available to LSI. In case any such liability is asserted against LSI or its affiliates, and LSI notifies the Holder thereof, the Holder will be entitled, if such Holder so elects by written notice delivered to LSI within thirty (30) days after receiving LSI's notice, to assume the defense thereof with counsel satisfactory to LSI. Notwithstanding the foregoing, (i) LSI or its affiliates shall also have the right to employ their own counsel in any such case, but the fees and expenses of such counsel shall be at the expense of LSI unless (A) LSI and Holder shall have mutually agreed to the retention of such counsel, (B) the named parties to any such proceeding (including any impleaded parties) include LSI and Holder and LSI reasonably determines that representation of both parties by the same counsel would be inappropriate due to actual or potential differing interests between them and (C) LSI reasonably determines that there is or may be legal defenses available to LSI different from or in addition to those available to the Holder in each case the fees and expenses of such counsel will be paid out of the Cash Escrow Fund as additional Damages, (ii) LSI shall have no obligation to give any notice of any assertion of liability by a third party unless such assertion is in writing (provided that LSI may not collect any sum from the Cash Escrow Fund without giving written notice to the Holder), and (iii) the rights of LSI or any of its affiliates to be indemnified hereunder in respect of Indemnifiable Claims resulting from the assertion of liability by third parties shall not be adversely affected by their failure to promptly give notice pursuant to the foregoing unless, and, if so, only to the extent that Holder is materially prejudiced by the delay in giving such notice. With respect to any assertion of liability by a third party that results in an Indemnifiable Claim, the parties hereto shall make available to each other all relevant information in their possession material to any such assertion. Notwithstanding anything to the contrary herein, it is understood that Holder shall not, in connection with any proceeding or related proceedings, be liable for the reasonable fees and expenses of more than one separate counsel for LSI. (b) In the event that the Holder, within thirty (30) days after receipt of the aforesaid notice of an Indemnifiable Claim fails to assume the defense of LSI or any of its affiliates against such Indemnifiable Claim, LSI or any of its affiliates shall have the right to undertake the defense, compromise, or settlement of such action on behalf of and for the account, expense, and risk of Holder. (c) Notwithstanding anything in this Article VIII to the contrary, if there is a reasonable probability that an Indemnifiable Claim may materially adversely affect LSI or any of its affiliates, LSI, or any of its affiliates shall have the right to participate, at their expense, in such defense, compromise, or settlement and Holder shall not, without LSI's written consent (which consent shall not be unreasonably withheld), settle or compromise any Indemnifiable Claim or -29- 36 consent to entry of any judgment in respect thereof unless such settlement, compromise, or consent includes as an unconditional term thereof the giving by the claimant or the plaintiff to LSI a release from all liability in respect of such Indemnifiable Claim. 8.8 Procedure For Indemnification. In the event that LSI asserts the existence of a claim giving rise to Damages, it shall give written notice to the Holder and the Escrow Agent on or before the last day of the Escrow Period (1) stating that LSI has paid, or properly accrued Damages in an aggregate stated amount in respect of which LSI is entitled to indemnity pursuant to this Agreement, and (2) specifying in reasonable detail the individual items of such Damages included in the amount so stated, the date each such item was paid, or properly accrued, the nature of the misrepresentation, breach of the representation, warranty or covenant to which such item is related. Such written notice shall state that it is being given pursuant to this Section 8.8, specify the nature and amount of the claim asserted and indicate the date on which such assertion shall be deemed accepted and the amount of the claim which shall be deemed a valid claim if not disputed as described below (such date to be established in accordance with the next sentence). If the Holder, within 30 days after the mailing of notice by LSI, shall not give written notice to LSI and the Escrow Agent announcing its intent to contest such assertion of LSI, such assertion shall be deemed accepted and the amount of claim shall be deemed a valid claim. The Escrow Agent shall deliver to LSI out of the Cash Escrow Fund, as promptly as practicable following such thirty-day period, cash held in the Cash Escrow Fund having a value equal to such Damages. 8.9 Objections to Claims. In the event, however, that the Holder contests the assertion of a claim by giving written notice to LSI and the Escrow Agent within said period, then the parties shall act in good faith to reach agreement regarding such claim. If the parties hereto, acting in good faith, cannot reach agreement with respect to such claim within twenty (20) days after notice thereof, such claim will be submitted to and settled by arbitration pursuant to Section 8.10 hereof. 8.10 Resolution of Conflicts; Arbitration. (a) In case the Holder shall object in writing to the indemnity of LSI in respect of any claim or claims made in accordance with this Article VIII, the Holder and LSI shall attempt in good faith to agree upon the rights of the respective parties with respect to each of such claims. If the Holder and LSI should so agree, a memorandum setting forth such agreement shall be prepared and signed by both parties. (b) If no such agreement can be reached after good faith negotiation, either LSI or the Holder may demand arbitration of the matter unless the amount of the Damages is at issue in pending litigation with a third party, in which event arbitration shall not be commenced until such amount is ascertained or both parties agree to arbitration; and in either such event the matter shall be settled by arbitration conducted by one arbitrator to be selected by the mutual agreement of LSI and the Holder. The decision of the arbitrator so selected as to the validity and amount of any claim made pursuant to this Article VIII shall be binding and conclusive upon the parties to this Agreement. -30- 37 (c) Judgment upon any award rendered by the arbitrators may be entered in any court having jurisdiction. Any such arbitration shall be held under the commercial rules then in effect of the American Arbitration Association. The fees of each arbitrator and the administrative fees of the American Arbitration Association shall be paid out of the Cash Escrow Fund only if LSI wins the judgment, otherwise such fees shall be paid by LSI. The arbitrator shall have discretion to allocate payment of all other expenses, including but not limited to reasonable attorney's fees, between the parties. 8.11 Order of Distribution of Funds. Funds from the Cash Escrow Fund shall be distributed in the following order of priority until such funds are fully distributed: (a) First, from the Cash Escrow Fund by instruction of the arbitrator, in payment of the arbitrator's fees and the administrative fees of the American Arbitration Association if permitted by Section 8.10(c) hereof; (b) Second, in payment of (i) all claims for Damages by LSI in uncontested notices; (ii) all claims for Damages by LSI accepted by written agreement of LSI and the Holder; and (iii) all claims for Damages by LSI awarded and as instructed by the arbitrator; (c) Third, in payment of all expenses and fees of the Holder; and (d) Fourth, in payment to the Holder. ARTICLE IX GENERAL PROVISIONS 9.1 Termination, Amendment and Waiver. This Agreement may be terminated at any time prior to the Effective Time: (a) by mutual agreement of LSI, Mint and the Holder; (b) by LSI, Mint or the Holder if (i) the Effective Time shall not have occurred on or prior to August 31, 1997; (ii) there shall be a nonappealable order of a federal or state court in effect preventing consummation of the transactions contemplated by this Agreement, or (iii) there shall be any non-appealable action taken, or any statute, rule, regulation or order enacted, promulgated or issued or deemed applicable to the transactions contemplated by this Agreement by any Governmental Entity that would make consummation of the transactions contemplated by this Agreement illegal. 9.2 Effect of Termination. In the event of termination of this Agreement by either LSI, Mint or the Holder pursuant to Section 9.1, this Agreement shall (except for the provisions of Sections 2.1(x), 4.1(d), 5.7, 5.9, 6.2 and 6.5) forthwith become void. -31- 38 9.3 Amendment. This Agreement may not be amended except by an instrument in writing signed by LSI, Mint and the Holder. 9.4 Extension; Waiver; Delay or Omission. At any time prior to the Effective Time, the parties hereto may (i) extend the time for the performance of any of the obligations or other acts of the other parties hereto, (ii) waive any inaccuracies in the representations and warranties contained herein or in any document delivered pursuant hereto, and (iii) waive compliance with any of the agreements or conditions contained herein. Any agreement on the part of a party hereto to any such extension or waiver shall be valid if set forth in an instrument in writing signed on behalf of such party. It is agreed that no delay or omission to exercise any right, power or remedy accruing to any party to this Agreement upon any breach or default of another party under this Agreement shall impair any such right, power or remedy, nor shall it be construed to be a waiver of or acquiescence in any such breach or default or any similar breach or default thereafter occurring; nor shall any waiver of any single breach or default be deemed a waiver of any other breach or default theretofore or thereafter occurring. 9.5 Notices. All notices and other communications hereunder shall be in writing and shall be deemed given if (i) delivered personally, upon delivery, or (ii) if mailed by registered or certified mail (return receipt requested) postage prepaid, upon the date that is seven (7) days after deposit, 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 LSI, to: LSI Logic Corporation 1551 McCarthy Boulevard Milpitas, CA 95035 Telephone No.: (408) 433-8000 Attn: Elissa Wellikson with a copy to: Wilson Sonsini Goodrich & Rosati 650 Page Mill Road Palo Alto, CA 94304 Telephone No.: (415) 493-9300 Attn: Judith M. O'Brien (b) if to the Holder to: Mary Albanese 336 Beacon Street Boston, MA 02116 Telephone No.: (617) 267-5032 -32- 39 with a copy to: Ropes & Gray One International Place Boston, MA 02110-2624 Attn: David Walek, Esq. Telephone No.: (617) 951-7000 (c) if to Mint to: Mint Technology, Inc. 6 Fortune Drive Billerica, MA 01821 Attn: Mary Albanese Telephone No.: (508) 663-0225 with a copy to: Ropes & Gray One International Place Boston, MA 02110-2624 Attn: David Walek Telephone No.: (617) 951-7000 9.6 Counterparts. This Agreement may be executed in one or more counterparts, all of which shall be considered one and the same agreement and shall become effective when one or more counterparts have been signed by each of the parties and delivered to the other party. 9.7 Entire Agreement. This Agreement and the documents and instruments and other agreements among the parties delivered pursuant hereto constitute the entire agreement among the parties with respect to the subject matter hereof and supersede all prior agreements and understandings, both written and oral, among the parties with respect to the subject matter hereof and are not intended to confer upon any other person any rights or remedies hereunder except as otherwise expressly provided herein. 9.8 No Transfer; Binding Effect. This Agreement and the rights and obligations set forth herein may not be transferred or assigned by operation of law or otherwise without the consent of each party hereto. This Agreement is binding upon and will inure to the benefit of the parties hereto and their respective successors and permitted assigns. 9.9 Severability. If any provision of this Agreement, or the application thereof, will for any reason and to any extent be invalid or unenforceable, the remainder of this Agreement and application of such provision to other persons or circumstances will be interpreted so as reasonably to effect the intent of the parties hereto. The parties further agree to replace such void or -33- 40 unenforceable provision of this Agreement with a valid and enforceable provision that will achieve, to the extent possible, the economic, business and other purposes of the void or unenforceable provision. 9.10 Other Remedies. Except as otherwise provided herein, any and all remedies herein expressly conferred upon a party will be deemed cumulative with and not exclusive of any other remedy conferred hereby or by law or equity on such party, and the exercise of any one remedy will not preclude the exercise of any other; provided that Article VIII sets forth LSI's, Mint's and the Holder's exclusive remedy for damages arising from Indemnifiable Claims. 9.11 Further. Each party agrees to cooperate fully with the other parties and to execute such further instruments, documents and agreements and to give such further written assurances as may be reasonably requested by any other party to evidence and reflect the transactions described herein and contemplated hereby and to carry into effect the intents and purposes of this Agreement. 9.12 Absence of Third-Party Beneficiary Rights. No provision of this Agreement is intended, nor will be interpreted, to provide to create any third party beneficiary rights or any other rights of any kind in any client, customer, affiliate, stockholder, employee, partner or any party hereto or any other person or entity unless specifically provided otherwise herein, and, except as so provided, all provisions hereof will be personal solely between the parties to this Agreement. 9.13 Mutual Drafting. This Agreement is the joint product of LSI, Mint and the Holder and each provision hereof has been subject to the mutual consultation, negotiation and agreement of LSI, Mint and the Holder and shall not be construed for or against any party hereto. 9.14 Governing Law. This Agreement shall be governed in all respects, including validity, interpretation and effect, by the laws of the State of California (without giving effect to its choice of law principles). -34- 41 IN WITNESS WHEREOF, LSI, Merger Sub, Mint and Holder have caused this Agreement to be signed, respectively, by an officer thereunto duly authorized, and Holder has signed this Agreement, all as of the date first written above. LSI LOGIC CORPORATION a Delaware corporation By ---------------------------------------- Its --------------------------------------- LSI MERGER SUBSIDIARY a Massachusetts corporation By ---------------------------------------- Its --------------------------------------- MINT TECHNOLOGY, INC., a Massachusetts corporation By ---------------------------------------- Its --------------------------------------- HOLDER ------------------------------------------ Mary Albanese -35- EX-10.35 3 AMENDED AND RESTATED 1991 EQUITY INCENTIVE PLAN 1 EXHIBIT 10.35 LSI LOGIC CORPORATION 1991 EQUITY INCENTIVE PLAN AMENDED AND RESTATED 1. Purpose of the Plan. The purpose of the LSI Logic Corporation 1991 Equity Incentive Plan (the "Plan") is to enable LSI Logic Corporation (the "Company") to provide an incentive to eligible employees, including officers, and consultants whose present and potential contributions are important to the continued success of the Company, to afford them an opportunity to acquire a proprietary interest in the Company, and to enable the Company to enlist and retain in its employ the best available talent for the successful conduct of its business. It is intended that this purpose will be effected through the granting of stock options. 2. Definitions. As used herein, the following definitions shall apply: (a) "Award" means any Option granted. (b) "Board" means the Board of Directors of the Company. (c) "Code" means the Internal Revenue Code of 1986, as amended. (d) "Committee" means the Committee or Committees referred to in Section 5 of the Plan. If at any time no Committee shall be in office, then the functions of the Committee specified in the Plan shall be exercised by the Board. (e) "Common Stock" means the Common Stock, $0.01 par value (as adjusted from time to time), of the Company. (f) "Company" means LSI Logic Corporation, a corporation organized under the laws of the state of Delaware, or any successor corporation. (g) "Consultant" means any person, including an advisor, who is engaged by the Company or any Parent or Subsidiary to render services for its benefit and is compensated for such services, provided the term Consultant shall not include directors who are not compensated for their services or are paid only a director's fee by the Company. (h) "Director" means a member of the Board. (i) "Disability" means a disability, whether temporary or permanent, partial or total, as defined in Section 22(e)(3) of the Code. -1- 2 (j) "Employee" means any person, including officers and directors, employed by the Company or any Subsidiary, provided the term Employee shall not include non-employee directors and the payment of directors' fees by the Company shall not be sufficient to constitute "employment" by the Company. (k) "Exchange Act" means the Securities Exchange Act of 1934, as amended. (l) "Fair Market Value" means, as of any date, the value of Common Stock determined as follows: (i) if such Common Stock shall then be listed on a national securities exchange, the closing sales price (or the closing bid, if no sales were reported) as quoted on the principal national securities exchange on which the Common Stock is listed or admitted to trading, or (ii) the closing sales price (or the closing bid, if no sales were reported) as quoted on the NASDAQ National Market System, or (iii) if such Common Stock shall not be quoted on such National Market System nor listed or admitted to trading on a national securities exchange, then the average of the closing bid and asked prices, as reported by The Wall Street Journal for the over-the-counter market, or (iv) if none of the foregoing is applicable, then the Fair Market Value of a share of Common Stock shall be determined by the Board of Directors of the Company in its discretion. (m) "Incentive Stock Option" means an Option intended to be and designated as an "Incentive Stock Option" within the meaning of Section 422 of the Code. (n) "Nonstatutory Stock Option" means any Option that is not an Incentive Stock Option. (o) "Option" means any option to purchase shares of Common Stock granted pursuant to Section 7 below. (p) "Optionee" means any holder of an Option. (q) "Outside Director" means a Director who is not an Employee of the Company. -2- 3 (r) "Plan" means this 1991 Equity Incentive Plan, as hereinafter amended from time to time. (s) "Senior Management Employees" means Employees who are executive officers or vice presidents of the Company. (t) "Subsidiary" means a corporation, domestic or foreign, of which not less than 50% of the voting shares are held by the Company or by a Subsidiary, whether or not such corporation now exists or is hereafter organized or acquired by the Company or by a Subsidiary. In addition, the terms "Tax Date" and "Insiders" shall have meanings set forth in Section 8. 3. Eligible Participants. Any Employee or Consultant of the Company or of a Subsidiary whom the Committee deems to have the potential to contribute to the future success of the Company shall be eligible to receive Awards under the Plan; provided, however, that any Options intended to qualify as Incentive Stock Options shall be granted only to Employees of the Company or its Subsidiaries. 4. Stock Subject to the Plan. Subject to Sections 9 and 10, the total number of shares of Common Stock reserved and available for distribution pursuant to the Plan shall be 18,000,000 shares. Subject to Sections 9 and 10 below, if any shares of Common Stock that have been optioned under an Option cease to be subject to such Option Award granted hereunder are forfeited or repurchased or any such award otherwise terminates without a payment being made to the participant in the form of Common Stock, such shares shall again be available for distribution in connection with future Awards under the Plan. 5. Administration. (a) Procedure. The Plan shall be administered by the Board or a Committee designated by the Board to administer the Plan, which Committee shall be constituted to permit the Plan to comply with Rule 16b-3 promulgated under the Exchange Act, or any successor rule thereto ("Rule 16b-3"). If permitted by Rule 16b-3, the Plan may be administered by different bodies with respect to Employees who are Directors, Senior Management Employees, or Employees who are neither directors nor officers and Consultants. Once appointed, a Committee shall continue to serve until otherwise directed by the Board. From time to time the Board may change the size of a Committee, appoint additional members thereof, remove members (with or without cause), appoint new members in substitution therefor, fill vacancies, however caused -3- 4 and remove all members of a Committee and thereafter directly administer the Plan, all to the extent permitted by Rule 16b-3. As used herein, except in Sections 10, 12 and 17, reference to Committee shall mean such Committee or the Board, whichever is then acting with respect to the Plan. (b) Authority. Subject to the general purposes, terms, and conditions of the Plan, and to the direction of the Board, the Committee, if there be one, shall have full power to implement and carry out the Plan including, but not limited to, the following: (i) to select the Employees and Consultants of the Company and/or its Subsidiaries to whom Options may from time to time be granted hereunder; (ii) to determine whether and to what extent Options are to be granted hereunder; (iii) to determine the number of shares of Common Stock to be covered by each such Award granted hereunder; (iv) to approve forms of agreement for use under the Plan; (v) to determine the terms and conditions, not inconsistent with the terms of the Plan, of any Award granted hereunder (including, but not limited to, the share price and any restriction or limitation, or any vesting acceleration or waiver of forfeiture restrictions regarding any Option and/or the shares of Common Stock relating thereto, based in each case on such factors as the Committee shall determine, in its sole discretion); (vi) to determine whether and under what circumstances an Option may be settled in cash instead of Common Stock; (vii) to determine the form of payment that will be acceptable consideration for exercise of an Option granted under the Plan; (viii) to determine whether, to what extent and under what circumstances Common Stock and other amounts payable with respect to an Award under this Plan shall be deferred either automatically or at the election of the participant (including providing for and determining the amount (if any) of any deemed earnings on any deferred amount during any deferral period); -4- 5 Shareholder approval shall required to reduce the exercise price of any Option. For grants of Incentive Stock Options only, any other material amendments to the Plan shall require shareholder approval. The Committee shall have the authority to construe and interpret the Plan, to prescribe, amend and rescind rules and regulations relating to the Plan, and to make all other determinations necessary or advisable for the administration of the Plan. 6. Duration of the Plan. The Plan shall remain in effect until terminated by the Board under the terms of the Plan, provided that in no event may Incentive Stock Options be granted under the Plan later than March 8, 2001, 10 years from the date the Plan was adopted by the Board. 7. Stock Options. The Committee, in its discretion, may grant Options to eligible participants and shall determine whether such Options shall be Incentive Stock Options or Nonstatutory Stock Options. Each Option shall be evidenced by a written Option agreement which shall expressly identify the Option as an Incentive Stock Option or as a Nonstatutory Stock Option, and shall be in such form and contain such provisions as the Committee shall from time to time deem appropriate. Option agreements shall contain the following terms and conditions: (a) Option Price; Number of Shares. The Option price, which shall be approved by the Committee, may not be less than the Fair Market Value of the Common Stock at the time the Option is granted. The Option agreement shall specify the number of shares of Common Stock to which it pertains. (b) Waiting Period until Option Vesting and Exercise Dates. At the time an Option is granted, the Committee will determine the terms and conditions to be satisfied before shares may be purchased, including the dates on which the right to purchase shares subject to the Option will vest and such shares may first be purchased. The Committee may specify that an Option may not be exercised until the completion of the waiting period specified at the time of grant. (Any such period is referred to herein as the "Initial Vesting Period.") At the time an Option is granted, the Committee shall fix the period within which such Option may be exercised, which shall not be less than the Initial Vesting Period, if any, nor, in the case of an Incentive Stock Option, more than 10 years from the date of grant. (c) Form of Payment. The consideration to be paid for the shares of Common Stock to be issued upon exercise of an Option, including the method of payment, shall be determined by the Committee (and, in the case of an Incentive Stock Option, shall be determined at the time of grant) and may consist entirely of (i) cash, -5- 6 (ii) check, (iii) promissory note, (iv) other shares of Common Stock which (x) either have been owned by the Optionee for more than six months on the date of surrender or were not acquired, directly or indirectly, from the Company, and (y) have a Fair Market Value on the date of surrender equal to the aggregate exercise price of the shares as to which said Option shall be exercised, (v) delivery of a properly executed exercise notice together with irrevocable instructions to a broker to promptly deliver to the Company the amount of sale or loan proceeds required to pay the exercise price, (vi) delivery of an irrevocable subscription agreement for the shares which obligates the option holder to take and pay for the shares not more than 12 months after the date of delivery of the subscription agreement, (vii) any combination of the foregoing methods of payment, or (viii) such other consideration and method of payment for the issuance of shares to the extent permitted under the Delaware General Corporation Law. (d) Effect of Termination of Employment or Death or Disability of Employee Participants. (i) Termination of Employment in General. In the event that an Optionee during his or her lifetime ceases to be an Employee of the Company or of any Subsidiary for any reason, other than misconduct of the Optionee, including retirement, any Option, including any unexercised portion thereof, which was otherwise exercisable on the date of termination of employment, shall expire in accordance with the following provisions: (A) Non-statutory Options shall expire unless exercised within such time period as is determined by the Committee; which shall be ninety (90) days from the date the Optionee ceases to be an Employee unless the Committee has specified another time period prior to the expiration of such ninety (90) day period; and (B) Incentive Stock Options shall expire unless exercised within a period of ninety (90) days from the date on which the Optionee ceased to be an Employee (or such lesser period as is set out in Option agreement), Notwithstanding the foregoing, the period of exercisability provided for above, as applicable shall in no event continue after the expiration of the term of such Option as set forth in the Option agreement. (ii) Misconduct: If in any case the Committee shall determine that an Employee or Consultant shall have been discharged due to the Employee's or Consultant's misconduct (as defined below) such Employee or Consultant, as the case may be, shall not thereafter have any rights under the Plan or any Option that shall have been granted to him or her under the Plan. For purposes of the Plan, "misconduct" means conduct for which the Company's determines to terminate the employment of an Employee or to terminate any Consultant's arrangements with the -6- 7 Company that constitutes (i) willful breach or neglect of duty; (ii) failure or refusal to work or to comply with the Company's rules, policies, and practices; (iii) dishonesty; (iv) insubordination; (v) being under the influence of drugs (except to the extent medically prescribed) or alcohol while on duty or on Company premises; (vi) conduct endangering, or likely to endanger, the health or safety of another Employee, any other person or the property of the Company; or (vii) conviction of a felony. (iii) Termination of Employment due to Disability or Death. In the event of the death or permanent, total Disability of an Optionee during the period of employment, that portion of the Option which had become exercisable as of the date of death or permanent, total Disability shall be exercisable by the employee or his or her personal representatives, heirs, or legatees within 12 months of the date of death or permanent, total Disability or such time period as is determined by the Committee (but in the case of an Incentive Stock Option, in no event no more than 12 months after the date of death or permanent, total Disability or after the expiration of the term of such Option as set forth in the Option agreement.) In the event of the death of an Optionee within three months after termination of employment, that portion of the Option which had become exercisable as of the date of termination shall be exercisable by his or her personal representatives, heirs, or legatees within six months of the date of death or such time period as is determined by the Committee (but in the case of an Incentive Stock Option, in no event after the expiration of the term of such Option as set forth in the Option agreement.) In the event that an Optionee ceases to be an Employee of the Company or of any Subsidiary for any reason, including death, Disability or retirement, prior to the lapse of the Initial Vesting Period, if any, his or her Option shall terminate and be null and void to the extent the requirement for such Initial Vesting Period has not been satisfied. (e) Leave of Absence. The employment relationship shall not be considered interrupted in the case of: (i) sick leave, military leave or any other leave of absence approved by the Board; provided that any such leave is for a period of not more than 90 days, unless reemployment upon the expiration of such leave is guaranteed by contract, statute or pursuant to formal policy adopted from time to time by the Company and issued and promulgated to Employees in writing, or (ii) in the case of transfer between locations of the Company or between the Company, its Subsidiaries or its successor. In the case of any Employee on an approved leave of absence, the Committee may make such provisions respecting suspension of vesting of the Option while on leave from the employ of the Company or a Subsidiary as it may deem appropriate, if any, except that in no event shall an Option be exercised after the expiration of the term set forth in the Option agreement. (f) Acceleration of Vesting or Initial Vesting Period. The Committee may accelerate the earliest date on which outstanding Options (or any installments thereof) are exercisable. -7- 8 (g) Special Incentive Stock Option Provisions. In addition to the foregoing, Options granted to Employees under the Plan which are intended to be Incentive Stock Options under Section 422 of the Code shall be subject to the following terms and conditions: (i) Dollar Limitation. To the extent that the aggregate Fair Market Value of the shares of Common Stock with respect to which Options designated as Incentive Stock Options become exercisable for the first time by any individual during any calendar year (under all plans of the Company) exceeds $100,000, such Options shall be treated as Nonstatutory Stock Options. For purposes of the preceding sentence, (i) Options shall be taken into account in the order in which they were granted and (ii) the Fair Market Value of the shares shall be determined as of the time the Option with respect to such shares was granted. (ii) 10% Stockholder. If any person to whom an Incentive Stock Option is to be granted pursuant to the provisions of the Plan is, on the date of grant, the owner of Common Stock (as determined under Section 425(d) of the Code) possessing more than 10% of the total combined voting power of all classes of stock of the Company or of any Subsidiary, then the following special provisions shall be applicable to the Option granted to such individual: (A) The Option price per share of the Common Stock subject to such Incentive Stock Option shall not be less than 110% of the Fair Market Value of the Common Stock on the date of grant; and (B) The Option shall not have a term in excess of five years from the date of grant. Except as modified by the preceding provisions of this Subsection 7(g) and except as otherwise required by Section 422 of the Code, all of the provisions of the Plan shall be applicable to the Incentive Stock Options granted hereunder. (h) Other Provisions. Each Option granted under the Plan may contain such other terms, provisions, and conditions not inconsistent with the Plan as may be determined by the Committee. (i) Options to Consultants. Except as set forth in Section 7(d)(ii), Options granted to Consultants shall not be subject to Section 7(d) of the Plan, but shall have such terms and conditions pertaining to the Initial Vesting Period (if any), exercise date, and effect of termination of the consulting relationship as the Committee shall determine in each case. Unless otherwise stated, termination of the consulting -8- 9 relationship shall be deemed to have occurred at the completion of the consulting project for which Consultant was engaged at the time of the grant or termination of the Consulting Agreement, if earlier. (j) Buyout Provisions. The Committee may at any time offer to buy out for a payment in cash or Common Stock, an Option previously granted, based on such terms and conditions as the Committee shall establish and communicate to the Optionee at the time that such offer is made. (k) Rule 16b-3. Options granted to persons subject to Section 16(b) of the Exchange Act must comply with Rule 16b-3 and shall be deemed to contain such additional conditions or restrictions as may be required thereunder to qualify for the maximum exemption from Section 16 of the Exchange Act with respect to Plan transactions. (l) Limits. The following limitations shall apply to grants of Options to employees: (i) No employee shall be granted, in any fiscal year of the Company, Options to purchase more than 750,000 Shares. (ii) The foregoing limitations shall be adjusted proportionately in connection with any change in the Company's capitalization or organization as described in Sections 9 and 10. (iii) If an Option grant made under the Plan is canceled in the same fiscal year of the Company in which it was granted (other than in connection with a transaction described in Section 9 or Section 10), the canceled Option grant will be counted against the limit set forth in Section 7(l)(i), above. For this purpose, if the exercise price of an Option grant is reduced, the transaction will be treated as a cancellation of the Option grant and the grant of a new Option. 8. Withholding Taxes; Stock Withholding to Satisfy Withholding Tax Obligations. Whenever, under the Plan, shares are to be issued in satisfaction of Options granted hereunder, the Company shall have the right to require the recipient to remit to the Company an amount sufficient to satisfy federal, state, and local withholding tax requirements prior to the delivery of any certificate or certificates for such shares. Whenever, under the Plan, payments are to be made in cash, such payment shall be net of an amount sufficient to satisfy federal, state, and local withholding tax requirements. -9- 10 When a participant incurs tax liability in connection with the exercise or vesting of any Option, which tax liability is subject to tax withholding under applicable tax laws, and the participant is obligated to pay the Company an amount required to be withheld under applicable tax laws, the participant may satisfy the withholding tax obligation by electing to have the Company withhold from the shares to be issued that number of shares having a Fair Market Value equal to the amount required to be withheld determined on the date that the amount of tax to be withheld is to be determined (the "Tax Date"). All elections by participant to have shares withheld for this purpose shall be made in writing in a form acceptable to the Committee and shall be subject to the following restrictions: (i) the election must be made on or prior to the applicable Tax Date; (ii) once made, the election shall be irrevocable as to the particular shares as to which the election is made; (iii) all elections shall be subject to the disapproval of the Committee; and (iv) if the participant is an officer or Director of the Company or other person whose transactions in Common Stock are subject to Section 16(b) of the Exchange Act (collectively "Insiders"), the election may not be made during such time or times, if any, as are restricted by Rule 16b-3 or any successor provision. 9. Recapitalization. In the event that dividends are payable in Common Stock or in the event there are splits, subdivisions, or combinations of shares of Common Stock, the number of shares available under the Plan shall be increased or decreased proportionately, as the case may be, and the number of shares of Common Stock deliverable in connection with any Option theretofore granted shall be increased or decreased proportionately, as the case may be, without change in the aggregate purchase price (where applicable). 10. Reorganization. In case the Company is merged or consolidated with another corporation and the Company is not the surviving corporation, or in case the property or stock of the Company is acquired by another corporation, or in case of separation, reorganization, or liquidation of the Company, then the Board, or the board of directors of any corporation assuming the obligations of the Company hereunder, shall, as to outstanding Options either (a) make appropriate provision for the protection of any such outstanding Options by the assumption or substitution on an equitable -10- 11 basis of appropriate stock of the Company or of the merged, consolidated, or otherwise reorganized corporation which will be issuable in respect to the shares of Common Stock, provided that in the case of Incentive Stock Options, such assumption or substitution comply with Section 424 of the Code, or (b) upon written notice to the participant, provide that the Option must be exercised within 30 days of the date of such notice or it will be terminated. In any such case, the Board or the Committee may, in its discretion, advance the lapse of vesting periods, Initial Vesting Periods, and exercise dates. 11. Employment Relationship. Nothing in the Plan or any Award made hereunder shall be construed as a contract for employment or consulting for any period or shall interfere with or limit in any way the right of the Company or of any Subsidiary to terminate any recipient's employment or consulting relationship at any time, with or without cause, nor confer upon any recipient any right to continue in the employ or service of the Company or any Subsidiary. 12. General Restriction. Each Award shall be subject to the requirement that, if, at any time, the Board shall determine, in its discretion, that the listing, registration, or qualification of the shares subject to such Award upon any securities exchange or under any state or federal law, or the consent or approval of any government regulatory body, is necessary or desirable as a condition of, or in connection with, such Award or the issue or purchase of shares thereunder, such Award may not be exercised in whole or in part unless such listing, registration, qualification, consent, or approval shall have been effected or obtained free of any conditions not acceptable to the Board. 13. Rights as a Stockholder. The holder of an Option shall have no rights as a stockholder with respect to any shares covered by the Option until the date of exercise. Once an Option is exercised by the holder thereof, the participant shall have the rights equivalent to those of a stockholder, and shall be a stockholder when his or her holding is entered upon the records of the duly authorized transfer agent of the Company. Except as otherwise expressly provided in the Plan, no adjustment shall be made for dividends or other rights for which the record date is prior to the date such stock certificate is issued. 14. Nonassignability of Awards. Awards made hereunder shall not be assignable or transferable by the recipient in accordance with their terms, except to the extent permitted by the tax and securities laws, including by will or by the laws of descent and distribution, and as otherwise consistent with the specific Plan provisions relating thereto. 15. Nonexclusivity of the Plan. Neither the adoption of the Plan by the Board, the submission of the Plan to the stockholders of the Company for approval, nor any provision of the Plan shall be construed as creating any limitations on the power of the -11- 12 Board to adopt such additional compensation arrangements as it may deem desirable, including, without limitation, the granting of stock options otherwise than under the Plan, and such arrangements may be either generally applicable or applicable only in specific cases. 16. Amendment, Suspension, or Termination of the Plan. The Board may at any time amend, alter, suspend, or discontinue the Plan, but no amendment, alteration, suspension, or discontinuation shall be made which would impair the rights of any participant in the Plan without his or her consent. In addition, to the extent necessary and desirable to comply with Rule 16b-3 under the Exchange Act or under Section 423 of the Code (or any other applicable law or regulation), the Company shall obtain stockholder approval of any Plan amendment in such a manner and to such a degree as required. 17. Effective Date of the Plan. The Amended and Restated Plan is effective upon adoption by the Board and shall be subject to stockholder approval within 12 months of adoption by the Board. Options may be granted and exercised under the Plan only after there has been compliance with all applicable federal and state securities laws. -12- EX-13.1 4 ANNUAL REPORT TO STOCKHOLDERS 1 EXHIBIT 13.1 1997 Financial Data Contents 9 Management's discussion and analysis of financial condition and results of operations 16 Consolidated financial statements 20 Notes to consolidated financial statements 36 Report of independent accountants 37 Five year consolidated summary 38 Interim financial information 39 Corporate information 40 Corporate directory 41 Stock information CHART DESCRIPTORS: Revenues Net Income Net Income Per Diluted Share Gross Profit Margin SG&A Expenses R&D Funding Operating Profit Margin Debt-to-Equity Ratio Total Assets Stockholders' Equity 2 The System on a Chip Company(R)1997 Annual Report 3 CORPORATE PROFILE LSI Logic Corporation, The System on a Chip Company, is a leading provider of high-performance semiconductor solutions. The Company enables customers in the consumer, communications and computer markets to increase the performance, lower the cost and accelerate the time to market of their system products. LSI Logic is headquartered in Milpitas, California. The Company's stock is traded on the New York Stock Exchange under the symbol LSI. 4 EXECUTIVE LETTER TO OUR SHAREHOLDERS In a year during which the global semiconductor industry began a slow recovery from a mild yet protracted downturn, LSI Logic's revenues increased in line with the industry's modest growth rate. We made significant investments in research and development programs and introduced key new products and processes that increased our penetration of consumer, communications and computer markets. We also invested in our manufacturing operations to ensure we have leading-edge capacity available to meet increased customer requests in the future. We believe these activities place LSI Logic in a position of strength in a marketplace that industry observers believe is poised to resume its historical growth rates. For the year ended December 31, 1997, LSI Logic reported record revenues of $1.29 billion, a 4% increase compared to revenues of $1.24 billion in 1996. Net income for the year was $159 million, or $1.11 per share, up from net income of $147 million, or $1.07 per share in the previous year. LSI Logic grew profitably in 1997, recording an after-tax net income of 12% and maintaining gross margins of 48%. The Company ended the year with a solid balance sheet, highlighted by a cash and short-term investment balance of $491 million. The year also marked the first time in LSI Logic's history that international sales represented more than 50% of revenues. Equally significant, revenue levels derived from our three principal vertical markets--consumer electronics, communications and computer products--were evenly balanced, reflecting the success of our long-term strategy to diversify across a wider range of high-growth markets in the worldwide electronics industry. For 1997, consumer electronics represented 33% of LSI's revenues, communications increased to 32% and computer market revenues accounted for 31%, with the remaining 4% derived from other market categories. 5 INVESTING IN THE FUTURE LSI Logic's results were noteworthy in light of the fact that, during a slow growth period in the industry, we invested in our future by increasing our research and development expenditures. R&D spending of $226 million in 1997 represented 18% of revenues, compared to corresponding expenditures of $184 million--or 15% of revenues--in 1996. Our R&D efforts directly led to the introduction of a number of important new system-on-a-chip products in 1997, including single-chip solutions for digital video disc (DVD) players and computer applications, digital still cameras and GSM-based wireless communications devices. On the technology front, LSI Logic invested in advanced process technology to support the Company's system-on-a-chip strategy. We introduced our 0.18-micron G11(TM) process technology, enabling us to deliver products with substantially higher integration and performance, at lower power consumption levels. We also invested in a new state-of-the-art eight-inch wafer fabrication plant in Gresham, Oregon, which is scheduled to begin production in 1998. The first phase of this manufacturing facility will utilize LSI's G10(TM) and G11 deep submicron process technologies. During 1997, we extended LSI Logic's system design capabilities by acquiring Mint Technology, Inc., an engineering services company with expertise in the areas of system architecture and system-level design verification used in the development of complex integrated circuits. This acquisition marks an important step forward in LSI's ongoing efforts to respond to customer needs by enhancing the service aspects of our business. 6 EXPANDING OUR PRODUCT PORTFOLIO In 1997, LSI Logic introduced new products that target high-growth areas within our major markets. The first of these areas, consumer electronics, is a rapidly expanding market for the Company. Adding to our strong position in the video game arena, we announced a system-on-a-chip image processing solution--the DCAM(TM)-101--that will improve the picture quality and reduce the cost of next-generation digital still cameras. In another emerging market that industry research firms forecast will grow rapidly over the next several years, LSI Logic introduced a DVD decoding engine for use in digital video disc players and computer applications. Both the DCAM-101 and DVD chips are expected to enter volume production in 1998. We also rounded out our offerings for satellite and cable television set-top boxes during 1997 by entering into an agreement with the British Broadcasting Corporation (BBC) to develop a single-chip demodulator for digital terrestrial television (DTT) applications. This chip is a key component for DTT set-top boxes, and paves the way for LSI's participation in the emerging digital television market. The Company's accomplishments in the consumer market were matched by a number of important advances in communications, LSI Logic's fastest growing target market in 1997. We have a strong position in networking, where LSI is the marketshare leader in supplying switched Ethernet system-on-a-chip cores and ASIC (application-specific integrated circuit) solutions. We're supplying Cisco Systems with seven custom ASICs for its next-generation router, and we're providing custom and standard products to help Compaq Computer expand into the networking arena. We extended our telecommunications presence by delivering the world's first single-chip GSM baseband processor--a unique solution that integrates a microprocessor, digital signal processing, and mixed-signal capabilities on a chip to meet the needs of a range of cellular and wireless communications applications. 7 In the computer marketplace, LSI expanded beyond the workstation and server markets that have traditionally been areas of focus for the Company with strategic initiatives targeted at high-end storage devices and printer applications. Our GigaBlaze(TM) high-speed data transfer technology today leads the way in providing Fibre Channel products to the industry, and during 1997 we strengthened our storage presence by announcing a high-performance core optimized for PCI bus applications. In the printer market, LSI's CoreWare(R) library of high-performance MIPS processor, Ethernet, USB and PCI cores are being offered to provide system-on-a-chip printer solutions. LOOKING AHEAD While 1997 was a relatively low-growth year for LSI Logic, it was a period of significant accomplishments in strengthening the Company for the future. We increased penetration of our target markets, introduced new products that are expected to fuel growth in 1998, and moved ahead with plans to add state-of-the-art manufacturing capacity. There will be challenges, of course, but we're confident that LSI Logic enters 1998 well-positioned to take advantage of the industry's projected return to its historical growth rates for the balance of the decade. On behalf of everyone at the Company, I look forward to these challenges, and I thank all of our shareholders, customers and partners for their support. Wilfred J. Corrigan Chairman and Chief Executive Officer Wilfred J. Corrigan Chairman and CEO 8 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Overview Revenues for LSI Logic increased 4% to $1.29 billion in 1997 from $1.24 billion in 1996. Income from operations increased 1.5% to $195 million in 1997 compared to $192 million in 1996. Net income for 1997 was $159 million, an 8% increase over the $147 million of net income in 1996. Diluted earnings per share increased to $1.11 per share in 1997 from $1.07 per share in 1996. Net income in 1997 would have been $1.4 million or $0.01 per share higher on a diluted basis but for the cumulative effect of the change in accounting principle during 1997. While management believes that the discussion and analysis in this report is adequate for a fair presentation of the information, it is recommended that this discussion and analysis be read in conjunction with the remainder of the Company's Annual Report on Form 10-K for the year ended December 31, 1997. On October 27, 1997, the Company changed its fiscal year from a 52-53 week year to a year ending December 31. In 1996 and 1995, the year ended on the Sunday closest to December 31. Fiscal year 1997 was a 53-week year. Fiscal years 1996 and 1995 were 52-week years. Statements in this discussion and analysis contain forward looking information and involve known and unknown risks and uncertainties which may cause the Company's actual results in future periods to be materially different from any future performance suggested herein. See additional discussion contained in - -Risk Factors,' set forth in Part I of the Company's Annual Report on Form 10-K. Results of Operations Revenue--The Company operates in one industry segment in which it designs, develops, manufactures and markets integrated circuits, including application-specific integrated circuits (ASICs), application-specific standard products (ASSPs) and related products and services. Design and service revenues include engineering design services, licensing of LSI Logic's advanced design tools software, and technology transfer and support services. LSI Logic's customers use these services in the design of increasingly advanced integrated circuits characterized by increased functionality and performance. The proportion of revenues from ASIC design and related services compared to component product sales varies among customers depending upon their specific requirements. The following table describes revenues from component products and design and services as a percentage of total revenues:
1997 1996 1995 ---- ---- ---- Component products 95% 94% 94% Design and services 5% 6% 6% --- --- --- 100% 100% 100%
Total revenues increased to $1.29 billion in 1997 from $1.24 billion in 1996. The increase in revenues during 1997 primarily reflects an increase in demand for the Company's component products utilized in consumer and communication applications, offset in part by declines in demand for the Company's component products utilized in computer applications and lower average selling prices during 1997 when expressed in dollars as 9 compared to 1996. Design and service revenues remained relatively consistent as compared to 1996. During 1997, one customer represented 22% of the Company's consolidated revenues. Total revenues declined to $1.24 billion in 1996 from $1.27 billion in 1995. The decrease in revenues for 1996 was primarily attributable to a slowdown in new orders for the Company's component products utilized in computer applications and was partially offset by increases in demand for its products utilized in consumer and communication applications. The Company's average selling prices for component products did not fluctuate significantly during 1996 compared to 1995. Design and service revenues during 1996 were consistent with 1995. During 1996 and 1995, one customer represented 14% and 12% of the Company's consolidated revenues, respectively. Operating costs and expenses--Key elements of the consolidated statements of operations, expressed as a percentage of revenues, were as follows:
1997 1996 1995 ---- ---- ---- Gross profit margin 48% 44% 47% Research and development expense 18% 15% 10% Selling, general and administrative expense 15% 13% 13% Income from operations 15% 16% 25%
Gross margin--The gross margin percentage for 1997 increased to 48% of revenues, compared with 44% in 1996. The increase was primarily related to increased manufacturing yields, largely attributable to the installation of chemical mechanical polishing equipment by the Company during the fourth quarter of 1996 and improvement in capacity utilization during 1997 as compared to 1996, partially offset by lower average selling prices. The gross margin percentage for 1996 declined to 44% of revenues, compared with 47% in 1995. The decline was primarily attributable to lower factory utilization during 1996 which was compounded by the Company's increase in its production capacity throughout 1995, resulting primarily from the expansion of its Japanese wafer manufacturing. The impact of lower factory utilization on gross margin was offset in part by improvements in manufacturing yields and favorable pricing negotiations with assembly and test subcontractors. Additionally, the gross margin was favorably impacted in the fourth quarter of 1996 by the effects of the shutdown of the Company's Milpitas, California manufacturing facility during the second quarter of 1996. The Company's operating environment combined with the resources required to operate in the semiconductor industry requires managing a variety of factors such as product mix, factory capacity and utilization, manufacturing yields, availability of certain raw materials, terms negotiated with third-party subcontractors and foreign currency fluctuations. Accordingly, there can be no assurance that such or other factors will not have a material effect on the Company's gross margin in future periods. Changes in the relative strength of the yen may have a greater impact on the Company's gross margin than other foreign exchange fluctuations due to the Company's large wafer fabrication operations in Japan. Although the yen weakened (the average yen exchange rate for 1997 decreased 11% from 1996), the effect on gross margin and net income was not material as the Company's yen denominated sales offset a substantial portion of its yen denominated costs during those periods, and the Company hedged a portion of its remaining yen exposure (see Note 3 of Notes to Consolidated Financial Statements). However, there can be no assurance 10 that future changes in the relative strength of the yen or mix of foreign denominated revenues and costs will not have a material effect on gross margins or operating results. Research and development--Total research and development (R&D) expenses increased $42 million and $61 million in 1997 and 1996, respectively, from previous years' R&D spending. As a percentage of revenues, R&D expenses increased to 18% in 1997 from 15% and 10% in 1996 and 1995, respectively. The increases in 1997 and 1996 are primarily attributed to increased compensation and staffing levels and expansions of the Company's product development centers as the Company continues to develop higher technology sub-micron products and the related manufacturing, packaging and design processes. The Company continues to be committed to technological leadership in the high-performance semiconductor market and anticipates maintaining its investment in R&D at a rate of approximately 18-19% of revenues in 1998. This investment is expected to be primarily for development of new advanced products, development of advanced manufacturing processes and enhancements of the Company's electronic design automation software capability. Selling, general and administrative--Selling, general and administrative (SG&A) expenses increased $24 million and $7 million in 1997 and 1996, respectively, from previous years' SG&A spending. SG&A expenses as a percentage of revenue increased to 15% in 1997 from 13% in 1996 and 1995, respectively. The increases during 1997 and 1996 are primarily attributable to increased information technology costs related to upgrading the Company's business systems and infrastructure. The Company expects that SG&A expenses will continue to increase in absolute dollars, although such expenses may fluctuate as a percentage of revenue on a quarterly basis. Acquired in-process research and development--In July 1997, the Company acquired all issued and outstanding shares of the common stock of Mint Technology, Inc. (Mint) for $9.5 million in cash and options to purchase approximately 681,726 shares of common stock with an intrinsic value of $11.3 million. The acquisition was accounted for as a purchase (see Note 5 of Notes to the Consolidated Financial Statements). Approximately $2.9 million of the purchase price was allocated to in-process research and development and was expensed in the third quarter of 1997. Interest expense--Interest expense decreased to $1.5 million in 1997 compared to $14 million and $16 million in 1996 and 1995, respectively. The decrease is primarily attributable to the conversion of all of the Company's $144 million, 51/2% Convertible Subordinated Notes to common stock on March 24, 1997 (see Note 7 of Notes to the Consolidated Financial Statements) and the capitalization of interest as part of the construction at the new manufacturing facility in Gresham, Oregon. Interest and other income--Interest and other income increased $4 million in 1997 compared to 1996. The increase is primarily attributable to a decrease in foreign exchange losses from $7 million in 1996 to $2 million in 1997, which related primarily to reduced foreign exchange exposure at the Company's European sales affiliate. In addition, the Company received other income from insurance settlement proceeds, the disposal of land owned by a European affiliate and other miscellaneous gains. These gains were offset in part by losses on the final sale of equipment from the Company's Milpitas wafer manufacturing facility (see Note 4 of Notes to Consolidated Financial Statements), additional Milpitas reserves for operating expenses and other miscellaneous losses. Interest and other income decreased $6 million in 1996 compared with 1995. The decrease is primarily attributable to foreign currency exchange losses totaling approximately $7 million during 1996, which related primarily to U.S. dollars held by the Company's European sales affiliate. 11 Provision for income taxes--In 1997, 1996 and 1995, the Company's effective tax rate was 28%. The tax rate was lower than the U.S. statutory rate primarily due to earnings of the Company's foreign subsidiaries taxed at lower rates and the utilization of prior loss carryovers and other tax credits. Minority interest--The changes in minority interest in 1997 and 1996 were primarily attributable to the composition of earnings and losses among certain of the Company's international affiliates for each of the respective years. The changes in minority interest in 1996 and 1995 were primarily attributable to the purchase of minority held shares of LSI Logic Japan Semiconductor, Inc. (JSI), formerly known as Nihon Semiconductor, Inc., LSI Logic Corporation of Canada, Inc., LSI Logic K.K. and LSI Logic Europe, Ltd. (formerly known as LSI Logic Europe, PLC) in 1996 and 1995 (see Notes 5 and 11 of Notes to Consolidated Financial Statements). Cumulative effect of change in accounting principle--On November 21, 1997, the Emerging Issues Task Force issued EITF 97-13 -Accounting for costs incurred in connection with a consulting contract or an internal project that combines business process re-engineering and information technology transformation." EITF 97-13 required that the Company expense, in the fourth quarter of 1997, all costs previously capitalized in connection with business process re-engineering activities as defined by the statement. The Company recorded a charge of $1.4 million, net of related tax of $0.6 million, during the fourth quarter of 1997 (see Note 1 of Notes to Consolidated Financial Statements). Restructuring--The Company implemented a restructuring plan in the third quarter of 1992 revising its global manufacturing strategy, streamlining operations, discontinuing certain commodity products and focusing its product strategy on high-end technology solutions. By the end of 1996, all reserves established under the restructuring plan had been utilized. As a result of a favorable appellate court decision in September 1996 in connection with the Texas Instruments litigation (see Note 11 of Notes to Consolidated Financial Statements), $15 million of restructuring reserves became available for the write-down of the Milpitas wafer manufacturing equipment (see Note 4 of Notes to Consolidated Financial Statements). The following table sets forth the Company's 1992 restructuring expense and charges taken from the date the restructuring commenced through December 31, 1997.
1992 Restructuring Balance Balance Balance (In thousands) Expense Utilized* Adjusted 12/31/96 12/31/97 - -------------- ------- --------- -------- -------- -------- Write-down of manufacturing facility (a) $ 14,700 $ (28,700) $ 14,000 $ -- $ -- Other fixed asset related charges (b) 35,500 (38,700) 3,200 -- -- phase-down and consolidation of manufacturing facilities (b) 13,500 (13,500) -- -- -- Payments to employees for severance (c) 8,000 (7,200) (800) -- -- Write-down of inventories (a) 10,900 (8,800) (2,100) -- -- Relocation, lease terminations and other (b) 19,200 (4,900) (14,300) -- -- Total $ 101,800 $(101,800) $ -- $ -- $ --
* Net of cumulative currency translation adjustments. (a) Amounts utilized represent non-cash charges. (b) Amounts utilized represent both cash and non-cash charges. Cumulative cash charges totaled $17 million. (c) Amounts utilized represent cash payments related to the severance of approximately 550 employees. 12 Factors that May Affect Future Operating Results The Company believes that its future operating results will continue to be subject to quarterly variations based upon a wide variety of factors, including the cyclical nature of both the semiconductor industry and the markets addressed by the Company's products, the availability and extent of utilization of manufacturing capacity, price erosion, competitive factors, the timing of new product introductions, changes in product mix, fluctuations in manufacturing yields, product obsolescence and the ability to develop and implement new technologies. The Company's operating results could also be impacted by sudden fluctuations in customer requirements, currency exchange rate fluctuations and other economic conditions affecting customer demand and the cost of operations in one or more of the global markets in which the Company does business. As a participant in the semiconductor industry, the Company operates in a technologically advanced, rapidly changing and highly competitive environment. The Company predominantly sells custom products to customers operating in a similar environment. Accordingly, changes in the conditions of any of the Company's customers may have a greater impact on the Company than if the Company predominantly offered standard products that could be sold to many purchasers. While the Company cannot predict what effect these various factors may have on its financial results, the aggregate effect of these and other factors could result in significant volatility in the Company's future performance. To the extent the Company's performance may not meet expectations published by external sources, public reaction could result in a sudden and significantly adverse impact on the market price of the Company's securities, particularly on a short-term basis. The Company has international subsidiaries which operate and sell the Company's products in various global markets. The Company purchases a substantial portion of its raw materials and equipment from foreign suppliers, and incurs labor and other operating costs, particularly at its Japanese manufacturing facilities, in foreign currencies. As a result, the Company is exposed to international factors such as changes in foreign currency exchange rates or weak economic conditions of the respective countries in which the Company operates. The Company utilizes forward exchange, currency swap and option contracts to manage its exposure associated with currency fluctuations on intercompany transactions and certain foreign currency denominated commitments. There were no foreign currency hedge contracts outstanding as of December 31, 1997 as the contracts were closed out on the last day of the month (see Note 3 of Notes to Consolidated Financial Statements). At December 31, 1996, the Company had currency swap and option contracts outstanding. These contracts hedged intercompany loans, a portion of the Company's yen denominated commitments and net asset and liability exposure in nonfunctional currencies at certain of the Company's affiliates for the first quarter of 1997. The Company's corporate headquarters and some of its manufacturing facilities are located near major earthquake faults. As a result, in the event of a major earthquake, the Company could suffer damages which could materially and adversely affect the operating results and financial condition of the Company. Year 2000 disclosure The Company uses a significant number of computer software programs and operating systems in its internal operations, including applications used in its financial, product development, order management and manufacturing systems. The inability of computer software programs to accurately recognize, interpret and process date codes designating the year 2000 and beyond could cause systems to yield inaccurate results or encounter operating problems, including interruption of the business operations such systems control. The Company is in the process of analyzing its internal computer-based systems to identify potential vulnerabilities and implement corrections or changes that may be required. Based on information currently available, the Company believes that its internal systems currently are or, by such time as is necessary to avoid a material adverse effect upon the Company, will be capable of functioning without year 2000 problems. Also based on information thus far available to the Company, the Company does not 13 believe it will incur expenditures in dealing with year 2000 issues that will have a material adverse effect on the financial condition of the Company. The Company also may be exposed to risks from computer systems of parties with which the Company transacts business. Were problems to develop with such other parties' systems, they could have a material adverse effect on the Company. In response to this, the Company is taking steps, including contacting its strategic suppliers and large customers, to determine the extent to which the Company may be vulnerable to those parties' failure to remedy their own year 2000 issues and to ascertain what actions, if needed, may be taken by the Company in response to such risks. The Company has expended and will continue to expend appropriate resources to address this issue on a timely basis. The analysis is not complete, however, and no estimate of the expected total cost of this effort can be made at this time. Furthermore, there can be no assurances that unknown costs ultimately necessary to update systems or address potential system interruptions will not have a material adverse effect on the Company's business, financial condition or results of operations. To date the Company has not identified any loss contingencies related to the year 2000 issues for products it has sold. Financial Condition and Liquidity Cash, cash equivalents and short-term investments decreased $226 million in 1997 to $491 million from $717 million at December 31, 1996. The decrease is primarily attributable to capital additions, increases in the repayment of debt obligations, net of borrowings, and repurchases of the Company's common stock, offset in part by an increase in cash from operations and proceeds received from employee stock transactions. During 1997, the Company generated $399 million of cash and cash equivalents from its operating activities, compared to $352 million during 1996. The increase in cash and cash equivalents provided from operations as compared to 1996 was primarily attributable to increases in accounts payable and net income before depreciation and amortization, partially offset by increases in inventories, prepaids and other assets and accounts receivable. Increased sales and manufacturing activities in response to higher customer demand contributed to increases in accounts receivable, accounts payable and inventories. Cash and cash equivalents used in investing activities were $346 million during 1997 compared to $433 million in 1996. The primary investing activities, other than short-term investment in available-for-sale debt and equity securities, included purchases of property and equipment, acquisition of Mint Technology, Inc. (see Note 5 of Notes to Consolidated Financial Statements) and additional investment in non-marketable shares of other technology companies. During 1996, primary investing activities included purchases of property and equipment and increased investment in debt and equity securities. The Company believes that maintaining technological leadership in the highly competitive worldwide semiconductor industry requires substantial ongoing investment in advanced manufacturing capacity. Capital additions were $513 million and $362 million, net of retirements and refinancings during 1997 and 1996, respectively. The additions were primarily for costs related to construction of the new eight-inch wafer manufacturing facility in Gresham, Oregon. The Company expects to spend approximately $123 million during the first three quarters of 1998 to bring this facility to operational status. Cash and cash equivalents used in financing activities totaled $91 million. This is attributable to the repayment of debt obligations totaling $55 million, net of borrowings, and $60 million used to repurchase shares of the Company's stock, partially offset by proceeds received from employee stock transactions of $24 million (see Note 8 of Notes to Consolidated Financial Statements). In February 1997, the Company called for redemption of its $144 million, 51/2% Convertible Subordinated Notes (Notes). The holders of the Notes elected to convert the Notes to common stock at a conversion price of $12.25 per share. The conversion 14 resulted in the issuance of 11.7 million shares of common stock (see Note 7 of Notes to Consolidated Financial Statements). In December 1996, the Company entered into a $300 million revolving line of credit with several banks (see Note 7 of Notes to Consolidated Financial Statements). As of December 31, 1997, there were no borrowings outstanding under this credit agreement. Additionally, the Company's Japanese manufacturing subsidiary has a credit facility with adjustable interest rates. As of December 31, 1997, the Company had 14 billion yen ($109 million) outstanding under the facility (see Note 7 of Notes to Consolidated Financial Statements). Each of the Company's significant foreign affiliates has lines of credit available for local currency borrowings. These other foreign bank lines of credit were not material as of December 31, 1997. The Company believes that its level of financial resources is an important competitive factor in its industry. Accordingly, the Company may, from time to time, seek additional equity or debt financing. The Company believes that existing liquid resources and funds generated from operations combined with funds from such financing and its ability to borrow funds will be adequate to meet its operating and capital requirements and obligations through the foreseeable future. There can be no assurance that such additional financing will be available when needed or, if available, will be on favorable terms. Any future equity financing will decrease existing stockholders' percentage equity ownership and may, depending on the price at which the equity is sold, result in dilution. Market Risk Disclosure The Company has foreign subsidiaries which operate and sell the Company's products in various global markets. As a result, the Company's cash flow and earnings are exposed to fluctuations in interest rates and foreign currency exchange rates. The Company attempts to limit these exposures through operational strategies and financial market instruments. The Company utilizes various hedge instruments, primarily forward contracts (with maturities of six months or less), currency swaps and currency option contracts, to manage its exposure associated with firm intercompany and third-party transactions and net asset and liability positions denominated in nonfunctional currencies. The Company also utilizes interest rate swap contracts to manage its interest rate risk on yen denominated debt obligations (see Note 3 of Notes to Consolidated Financial Statements). The Company does not purchase or hold derivative financial instruments for trading purposes. Interest rate sensitivity--The Company is subject to interest rate risk on its investment portfolio, outstanding debt and interest rate swap contracts. A 57 basis point move in interest rates (10% of the Company's weighted average investment yield), affecting the Company's interest sensitive investments, would have an immaterial effect on the Company's financial position, results of operations and cash flows over the next fiscal year. The Company manages interest rate risk on yen denominated debt obligations by entering into interest rate swap contracts. Any fluctuations in the underlying interest rate have an equal and opposite effect on the yen debt obligations and the interest rate swaps hedging the obligations. An 8 basis point move in interest rates (10% of the underlying yen LIBOR rate) on the yen denominated debt and/or interest rate swap contracts would have an immaterial effect on the Company's financial position, results of operations and cash flows over the next fiscal year. Foreign currency exchange risk--Based on the Company's overall currency rate exposure at December 31, 1997, including derivative financial instruments and nonfunctional currency denominated receivables and payables, a near-term 10% appreciation or depreciation of the U.S. dollar would have an immaterial effect on the Company's financial position, results of operations and cash flows over the next fiscal year. 15 CONSOLIDATED BALANCE SHEETS
December 31st (In thousands, except per-share amounts) 1997 1996 Assets Cash and cash equivalents $ -104,571 $ -147,059 Short-term investments 386,369 570,223 Accounts receivable, less allowance for doubtful accounts of $2,597 and $3,116 210,141 184,977 Inventories 102,267 90,410 Prepaid expenses and other current assets 67,113 58,385 Total current assets 870,461 1,051,054 Property and equipment, net 1,123,909 811,659 Other assets 132,542 90,001 Total assets $ 2,126,912 $ 1,952,714 Liabilities and Stockholders' Equity Accounts payable $ 211,135 $ 104,109 Accrued salaries, wages and benefits 38,422 26,000 Other accrued liabilities 56,802 67,921 Income taxes payable 87,257 77,696 Current portion of long-term obligations 44,615 69,612 Total current liabilities 438,231 345,338 Long-term obligations and deferred income taxes 117,511 286,043 Minority interest in subsidiaries 5,197 5,114 Commitments and contingencies -- -- Stockholders' equity: Preferred shares; $.01 par value; 2,000 shares authorized -- -- Common stock; $.01 par value; 450,000 shares authorized; 140,161 and 129,006 shares outstanding 1,401 1,290 Additional paid-in capital 965,422 837,151 Retained earnings 611,622 452,374 Cumulative translation adjustment (12,472) 25,404 Total stockholders' equity 1,565,973 1,316,219 Total liabilities and stockholders' equity $ 2,126,912 $ 1,952,714
See Notes to Consolidated Financial Statements 16 CONSOLIDATED STATEMENTS OF OPERATIONS
Year Ended December 31st ------------------------------------------------- 1997 1996 1995 ----------- ------------ ------------ (In thousands, except per share amounts) Revenues $ 1,290,275 $ 1,238,694 $ 1,267,657 Costs and expenses: Cost of revenues 675,153 695,002 665,673 Research and development 226,219 184,452 123,892 Selling, general and administrative 190,680 166,823 159,393 Acquired in-process research and development 2,850 -- -- Total costs and expenses 1,094,902 1,046,277 948,958 Income from operations 195,373 192,417 318,699 Interest expense (1,497) (13,610) (16,349) Interest income and other 30,287 26,308 32,593 Income before income taxes, minority interest and cumulative effect of change in accounting principle 224,163 205,115 334,943 Provision for income taxes 62,748 57,432 93,781 Income before minority interest and cumulative effect of change in accounting principle 161,415 147,683 241,162 Minority interest in net income of subsidiaries 727 499 3,042 Income before cumulative effect of change in accounting principle 160,688 147,184 238,120 Cumulative effect of change in accounting principle (1,440) -- -- Net income $ 159,248 $ 147,184 $ 238,120 Basic earnings per share: Income before cumulative effect of change in accounting principle $ 1.16 $ 1.14 $ 1.92 Cumulative effect of change in accounting principle $ (0.01) $ -- $ -- Net income $ 1.15 $ 1.14 $ 1.92 Diluted earnings per share: Income before cumulative effect of change in accounting principle $ 1.12 $ 1.07 $ 1.75 Cumulative effect of change in accounting principle $ (0.01) $ -- $ -- Net income $ 1.11 $ 1.07 $ 1.75 Shares used in computing per share amounts: Basic 138,576 128,899 123,960 Dilutive 144,027 142,983 139,768
See Notes to Consolidated Financial Statements 17
Additional Cumulative Common Stock Paid-in Retained Translation Shares Amount Capital Earnings Adjustment Total ------- ---------- ----------- ---------- ----------- ----------- (In thousands) Balances at December 31, 1994 114,287 $ 1,143 $ 401,268 $ 67,070 $ 75,425 $ 544,906 Issuance of common stock under public offerings 12,075 121 404,745 404,866 Issuance to employees under stock option and purchase plans 2,941 29 18,625 18,654 Tax benefit of employee stock transactions 28,900 28,900 Aggregate adjustment from translation of financial statements into U.S. dollars (19,200) (19,200) Net Income 238,120 238,120 Balances at December 31, 1995 129,303 1,293 853,538 305,190 56,225 1,216,246 Purchase of common stock under stock repurchase program (2,077) (21) (46,817) (46,838) Issuance to employees under stock option and purchase plans 1,780 18 19,680 19,698 Tax benefit of employee stock transactions 10,750 10,750 Aggregate adjustment from translation of financial statements into U.S. dollars (30,821) (30,821) Net Income 147,184 147,184 Balances at December 31, 1996 129,006 1,290 837,151 452,374 25,404 1,316,219 Purchase of common stock under stock repurchase program (2,400) (24) (59,857) (59,881) Issuance to employees under stock option and purchase plans 1,820 18 24,054 24,072 Tax benefit of employee stock transactions 11,200 11,200 Issuance of stock from conversion of Convertible Subordinated Notes, net of deferred offering costs 11,735 117 141,591 141,708 Intrinsic value of options issued in conjunction with the acquisition of Mint Technology, Inc. 11,283 11,283 Aggregate adjustment from translation of financial statements into U.S. dollars (37,876) (37,876) Net Income 159,248 159,248 Balances at December 31, 1997 140,161 $ 1,401 $ 965,422 $ 611,622 $ (12,472) $1,565,973
See Notes to Consolidated Financial Statements 18
Year Ended December 31st ------------------------------------------------- 1997 1996 1995 ----------- ------------ ------------ (In thousands) Operating activities: Net income $ 159,248 $ 147,184 $ 238,120 Adjustments: Depreciation and amortization 166,396 147,465 135,197 Minority interest in net income of subsidiaries 727 499 3,042 Write-off of acquired in-process research and development 2,850 -- -- Changes in: Accounts receivable (32,014) 42,268 (81,343) Inventories (16,714) 46,675 (31,164) Prepaid expenses and other assets (30,528) 8,494 (45,226) Accounts payable 111,310 (55,255) 3,054 Accrued and other liabilities 38,128 18,472 81,190 Accrued restructuring costs -- (3,873) (8,376) Net cash provided by operating activities 399,403 351,929 294,494 Investing activities: Purchase of debt and equity securities available-for-sale (1,134,838) (1,117,885) (613,703) Maturities and sales of debt and equity securities available-for-sale 1,319,823 1,055,183 302,060 Purchase of non-marketable equity securities (10,704) (6,252) (13,966) Purchases of property and equipment, net of retirements (513,298) (361,776) (232,723) Acquisition of Mint Technology, Inc., net of cash acquired (6,863) -- -- Acquisition of stock from minority interest holders (2,757) (171,843) Net cash used in investing activities (345,880) (433,487) (730,175) Financing activities: Proceeds from borrowings 34,193 142,832 83,294 Repayment of debt obligations (89,362) (54,185) (110,126) Purchase of common stock under repurchase program (59,881) (46,838) -- Issuance of common stock, net 24,077 19,698 423,520 Net cash (used in)/provided by financing activities (90,973) 61,507 396,688 Effect of exchange rate changes on cash and cash equivalents (5,038) (5,670) (12,730) Decrease in cash and cash equivalents (42,488) (25,721) (51,723) Cash and cash equivalents at beginning of period 147,059 172,780 224,503 Cash and cash equivalents at end of period $ 104,571 $ 147,059 $ 172,780 Schedule of non-cash transactions: Conversion of subordinated debentures to common stock $ 141,708 $ -- $ -- Tax benefit of employee stock transactions $ 11,200 $ 10,750 $ 28,900
See Notes to Consolidated Financial Statements 19 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS Note 1 - Significant Accounting Policies Nature of business--LSI Logic Corporation (the Company) designs, develops and manufactures high-performance integrated circuits, including application-specific integrated circuits (ASICs), application-specific standard products (ASSPs) and related products and services, which it markets primarily to original equipment manufacturers in the electronic data processing, consumer electronics, telecommunications and certain office automation industries worldwide. Basis of presentation--The consolidated financial statements include the accounts of the Company and all of its subsidiaries. Intercompany transactions and balances have been eliminated in consolidation. Assets and liabilities of certain foreign operations are translated to U.S. dollars at current rates of exchange, and revenues and expenses are translated using weighted average rates. Accounts denominated in foreign currencies have been remeasured into functional currencies before translation into U.S. dollars. Foreign currency transaction gains and losses are included as a component of interest income and other. Gains and losses from foreign currency translation are included as a separate component of stockholders' equity. Minority interest in subsidiaries represents the minority stockholders' proportionate share of the net assets and results of operations of the Company's majority-owned subsidiaries. Sales of common stock of the Company's subsidiaries and purchases of such shares may result in changes in the Company's proportionate share of the subsidiaries' net assets. The Company reflects such changes as an element of additional paid-in-capital. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. On October 27, 1997, the Company changed its fiscal year from a 52-53 week year to a year ending December 31. In 1996 and 1995, the year ended on the Sunday closest to December 31. For presentation purposes, the consolidated financial statements and notes refer to December 31 as year end. Fiscal year 1997 was a 53-week year. Fiscal years 1996 and 1995 were 52-week years. Cash equivalents and short-term investments--All highly liquid investments purchased with an original maturity of ninety days or less are considered to be cash equivalents and are classified as held-to-maturity. Marketable short-term investments are accounted for as available-for-sale. Management determines the appropriate classification of debt and equity securities at the time of purchase and reassesses the classification at each reporting date. Investments in debt and equity securities classified as held-to-maturity are reported at amortized cost and securities available-for-sale are reported at fair value with unrealized gains and losses, net of related tax, if any, reported as a separate component of stockholders' equity. Unrealized gains and losses at December 31, 1997 and 1996 were not material. Realized gains and losses are based on the book value of specific securities at the time of sale. Realized gains and losses are included in interest income and other and were immaterial during 1997, 1996 and 1995. Concentration of credit risk of financial instruments--Financial instruments which potentially subject the Company to credit risk consist of cash equivalents, short-term investments and accounts receivable. Cash 20 equivalents and short-term investments are maintained with high quality institutions, the composition and maturities of which are regularly monitored by management. A majority of the Company's trade receivables are derived from sales to large multinational computer, communication and consumer electronics manufacturers, with the remainder distributed across other industries. Amounts due from the Company's largest customer accounted for 26% and 16% of trade receivables at December 31, 1997 and 1996, respectively. During 1997 and 1996, the Company sold approximately $177 million and $41 million (discounted at short-term yen borrowing rates, averaging 0.4% and 0.5%), respectively, of its Japanese sales affiliate's accounts receivable through financing programs with certain Japanese banks. Related transaction costs were not material. Concentrations of credit risk with respect to all other trade receivables are considered to be limited due to the quantity of customers comprising the Company's customer base, and their dispersion across industries and geographies. The Company performs ongoing credit evaluations of its customers' financial condition and requires collateral as considered necessary. Write-offs of uncollectible amounts have not been material. Fair value disclosures of financial instruments--The estimated fair value amounts have been determined by the Company, using available market information and valuation methodologies considered to be appropriate. However, considerable judgment is required in interpreting market data to develop the estimates of fair value. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that the Company could realize in a current market exchange. The use of different market assumptions and/or estimation methodologies could have a material effect on the estimated fair value amounts. The estimated fair value of financial instruments at December 31, 1997 and 1996 was not materially different from the values presented in the consolidated balance sheets. At December 31, 1996, the estimated fair value ~of the Company's long-term debt was $511 million. Inventories--Inventories are stated at the lower of cost or market. Cost is determined on a first-in, first-out basis for raw materials and is computed on a currently adjusted standard basis (which approximates first-in, first-out) for work-in-process and finished goods. Property and equipment--Property and equipment is recorded at cost and includes interest on funds borrowed to finance construction. Depreciation and amortization are calculated based on the straight-line method. Depreciation of equipment and buildings, in general, is computed using the assets' estimated useful lives as presented below:
Buildings and improvements 20-40 years Equipment 2-5 years Furniture and fixtures 3-6 years
Amortization of leasehold improvements is computed using the shorter of the remaining term of the Company's facility leases or the estimated useful lives of the improvements. Depreciation for income tax purposes is computed using accelerated methods. Preproduction engineering costs--Incremental costs incurred in connection with developing major production capabilities at new manufacturing plants, including facility carrying costs and costs to qualify production processes, are capitalized and amortized over the expected useful lives of the manufacturing processes utilized in the plants, generally four years. Amortization commences when the manufacturing plant is capable of volume production, which is generally characterized by meeting certain reliability, defect density and service cycle time criteria defined by management. Note that while the current accounting treatment is representative of generally accepted accounting principles, the Accounting Standards Executive Committee (AcSEC) has 21 released for exposure a proposed Statement of Position (SOP) which covers the reporting on costs of start-up activities. If the proposed SOP is issued in its current form, all costs incurred or unamortized in connection with start-up activities will be expensed as incurred. Software--The Company capitalizes substantially all external costs related to the purchase and implementation of software projects used for business operations and engineering design activities. Capitalized software costs primarily include purchased software and consulting fees. Capitalized software projects are amortized over the estimated useful life of the project, typically a two to five year period. The Company had $47 million and $34 million of capitalized software costs, net of amortization, included in other assets at December 31, 1997 and 1996, respectively. Software amortization totaling $15 million, $16 million and $9 million was included in the Company's results of operations during 1997, 1996 and 1995, respectively. On November 21, 1997, the Emerging Issues Task Force issued EITF 97-13 -Accounting for costs incurred in connection with a consulting contract or an internal project that combines business process re-engineering and information technology transformation." EITF 97-13 required that the Company change its accounting policy to expense, in the fourth quarter of 1997, all costs previously capitalized in connection with business process re-engineering activities as defined by the statement. The Company recorded a charge of $1.4 million, net of related tax of $0.6 million, during the fourth quarter of 1997. The charge reduced basic and diluted earnings per share by one cent for the quarter and year ended December 31, 1997. Other assets--Goodwill of approximately $35 million and $29 million, and related accumulated amortization of $14 million and $9 million, are included in other assets at December 31, 1997 and 1996, respectively, and was generated from the acquisition of Mint Technology, Inc. and the purchase of common stock from minority stockholders (see Note 5). The acquisitions were accounted for as purchases, and the excess of the purchase price over the fair value of assets acquired was allocated to goodwill which is being amortized over four to seven years. Goodwill is evaluated for impairment based on estimated undiscounted cash flows of the acquired entity. At December 31, 1997 and 1996, the Company had $20 million invested in restricted shares of Chartered Semiconductor Manufacturing Pte. Ltd. (CSM). Transfer of the shares is restricted for five years or until the listing of CSM stock upon a recognized stock exchange, whichever occurs sooner. The Company invested an additional $11 million in a number of other non-public technology companies in 1997. All the investments are recorded as long-term assets at cost and the Company believes that the fair value of the instruments is greater than the carrying value at December 31, 1997 and 1996. Revenue recognition--Revenue from component products is recognized upon shipment. Revenue from the licensing of the Company's design and manufacturing technology is recognized when the significant contractual obligations have been fulfilled. Royalty revenue is recognized upon the sale of products subject to royalties. The Company uses the percentage-of-completion method for recognizing revenues on fixed-fee design arrangements. One customer accounted for 22%, 14% and 12% of consolidated revenues in 1997, 1996 and 1995, respectively. Stock-based compensation--The Company accounts for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion (APB) No. 25, -Accounting for Stock Issued to Employees," and related Interpretations. Compensation cost for stock options, if any, is recognized ratably over the vesting period. The Company's policy is to grant options with an exercise price equal to the quoted market price of the Company's stock on the grant date. Accordingly, no compensation cost has been recognized in the Company's statements of operations with the exception of $0.6 million related to 22 options issued to the stockholders of Mint Technology, Inc. The Company provides additional pro forma disclosures as required under Statement of Financial Accounting Standard (SFAS) No. 123, -Accounting for Stock-Based Compensation" (see Note 8). Income per share--The Company adopted Statement of Accounting Standard (SFAS) No. 128, -Earnings Per Share (EPS),+ which was issued in February 1997, which requires presentation of both basic and diluted EPS on the face of the income statement for all periods presented. Basic EPS is computed by dividing net income available to common stockholders (numerator) by the weighted average number of common shares outstanding (denominator) during the period. Diluted EPS is computed using the weighted-average number of common and potential common shares outstanding during the period. In computing diluted EPS, the average stock price for the period is used in determining the number of shares assumed to be purchased from the exercise of stock options. All prior years' data in this report have been restated to reflect the requirements of SFAS No. 128. SFAS No. 128 requires a reconciliation of the numerators and denominators of the basic and diluted per share computations as follows (in thousands, except per share amounts):
Year Ended December 31st ---------------------------------------------------------------------------------------------- 1997 1996 1995 --------- --------- -------- Per-Share Per-Share Per-Share Income* Shares Amount Income* Shares Amount Income* Shares Amount Basic EPS: Net income before cumulative effect of change in accounting principle $ 160,688 138,576 $ 1.16 $147,184 128,899 $ 1.14 $238,120 123,960 $1.92 Cumulative effect of change in accounting principle (1,440) 138,576 $(0.01) -- -- --
23
Net income available to common stockholders 159,248 138,576 $ 1.15 147,184 128,899 $ 1.14 238,120 123,960 $1.92 Effect of dilutive securities Stock options 2,701 2,349 4,073 51/2% Convertible Subordinated Notes 1,279 2,750 6,166 11,735 6,166 11,735 Diluted EPS: Net income before cumulative effect of change in accounting principle (adjusted for assumed conversion of debt) 161,967 144,027 $ 1.12 153,350 142,983 $ 1.07 244,286 139,768 $1.75 Cumulative effect of change in accounting principle (1,440) 144,027 $(0.01) -- -- -- -- Net income available to common stockholders $ 160,527 144,027 $ 1.11 $ 153,350 142,983 $ 1.07 $ 244,286 139,768 $1.75
*Numerator-- Denominator Options to purchase approximately 3,156,000, 2,160,000 and 1,100,000 were outstanding at December 31, 1997, 1996 and 1995 respectively, but not included in the computation because the exercise prices were greater than the average market price of common shares in each respective year. The exercise price ranges of these options were $32.00 to $58.13, $30.50 to $58.13, and $43.00 to $58.13 at December 31, 1997, 1996 and 1995, respectively. 24 New accounting pronouncements--In June, 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (SFAS) No. 130, - -Reporting Comprehensive Income," and Statement of Financial Accounting Standards (SFAS) No. 131, "Disclosures about Segments of an Enterprise and Related Information." The adoption of both standards is required for fiscal years beginning after December 15, 1997. Under SFAS 130, the Company is required to report comprehensive income in the financial statements, in addition to net income. For the Company, the primary difference between net income and comprehensive income will be from foreign currency translation adjustments. SFAS 131 requires that the Company report separately, in the financial statements, certain financial and descriptive information about operating segments. It also establishes standards for related disclosures about products and services, geographic areas and major customers. The Company is in the process of evaluating whether the requirements of SFAS 131 will have an impact to the Company's financial statements. Note 2 - Cash and Investments Cash and cash equivalents and short-term investments included the following debt and equity securities at December 31:
1997 1996 --------- --------- (In thousands) Cash and cash equivalents Overnight deposits $ -30,724 $-40,513 Commercial paper 11,955 61,123 Corporate debt securities 10,384 -- Time deposits 5,409 13,483 Other 8,319 10,941 Total held-to-maturity 66,791 126,060 Cash 37,780 20,999 Total cash and cash equivalents $104,571 $147,059 Short-term investments Corporate debt securities $138,143 $273,912 Time deposits 102,165 36,182 U.S. government and agency securities 69,294 91,716 Commercial paper 44,735 34,554 Bank notes 18,207 51,689 Auction rate preferred 13,825 82,170 Total available-for-sale $386,369 $570,223
Cash and cash equivalents and short-term investments held at December 31, 1997 and 1996 approximate fair market value. As of December 31, 1997, contractual maturities of available-for-sale securities are within one year. Note 3 - Financial Instruments The Company has foreign subsidiaries which operate and sell the Company's products in various global markets. As a result, the Company is exposed to changes in interest rates and foreign currency exchange rates. The Company utilizes various hedge instruments, primarily forward exchange, currency swap, interest rate swap and currency option contracts, to manage its exposure associated with firm intercompany and 25 third-party transactions and net asset and liability positions denominated in nonfunctional currencies. The Company does not hold derivative financial instruments for trading purposes. As of December 31, 1997, the Company had several interest rate swap contracts outstanding which convert the interest associated with 14 billion yen ($109 million) of borrowings by the Company's Japanese manufacturing subsidiary from adjustable to fixed rates (ranging from 1.75% to 2.46%). The interest rate swaps cover payments to be made under term borrowings through 2001. Current period gains and losses associated with the interest rate swaps are included in interest expense, or as other gains and losses at such time as related borrowings are terminated. The Company enters into forward contracts, currency swaps and currency options to hedge firm commitment, intercompany and third-party exposures. There were no foreign exchange related hedge contracts outstanding as of December 31, 1997. As of December 31, 1996, currency swap contracts, expiring January 1997, were held to hedge firm obligations to the Company's Japanese manufacturing subsidiary. Premiums associated with the Company's option contracts are amortized over the life of the contracts. The following table summarizes by major currency the forward exchange and currency swap contracts outstanding. The "buy" amounts represent U.S. dollar equivalent of commitments to purchase foreign currencies, and the "sell" amounts represent the U.S. dollar equivalent of commitments to sell foreign currencies. Foreign currency amounts are translated at rates current at the reporting date.
December 31st -------------------- 1997 1996 ------ ------- (In thousands) Buy/(Sell): Japanese yen $ -- $ 7,337 U.S. dollar -- (7,398) $ -- $ (61)
These forward exchange and currency swap contracts are considered identifiable hedges and realized and unrealized gains and losses are deferred until settlement of the underlying commitments. They are recorded as other gains or losses when a hedged transaction is no longer expected to occur. At December 31, 1996, the Company had a purchased currency option which expired in March of 1997. The option had a nominal value of $20 million and was purchased to hedge net dollar balance sheet exposure at a European affiliate. Deferred foreign exchange gains and losses were not material at December 31, 1997 and 1996. Foreign currency transaction losses included in interest income and other were $2 million and $7 million in 1997 and 1996, respectively; foreign currency transaction gains and losses were not material in 1995. 26 Note 4 - Balance Sheet Detail
December 31st ------------------------------ 1997 1996 ---------- ----------- (In thousands) Inventories: Raw materials $ 19,892 $ 19,540 Work-in-process 58,621 53,785 Finished goods 23,754 17,085 $ 102,267 $ 90,410 Property and equipment: Land $ 39,885 $ 42,861 Buildings and improvements 145,297 166,862 Equipment 856,745 817,144 Leasehold improvements 46,839 54,573 Preproduction engineering 58,972 27,222 Furniture and fixtures 35,460 32,512 Construction in progress 557,350 208,203 1,740,548 1,349,377 Accumulated depreciation and amortization (616,639) (537,718) $1,123,909 $ 811,659
The Company had $34 million and $1 million of unamortized preproduction engineering costs at December 31, 1997 and 1996, respectively, associated with the construction of a new manufacturing facility in Gresham, Oregon. This new facility is expected to become operational during the third quarter of 1998, at which time capitalized preproduction will be amortized over the expected useful life of the manufacturing technology of approximately four years. Accumulated amortization for preproduction engineering was $25 million and $20 million at December 31, 1997 and 1996, respectively. Capitalized interest included within property and equipment totaled $17 million and $12 million at December 31, 1997 and 1996, respectively. Accumulated amortization of capitalized interest was $7 million and $5 million at December 31, 1997 and 1996, respectively. During 1996, the Company completed the shutdown of its Milpitas wafer manufacturing facility and determined that the majority of the equipment for that facility was no longer needed for current or future capacity requirements. Accordingly, the equipment was made available for sale and was written down by $15 million to its estimated net realizable value. The Company utilized $15 million of its restructuring reserves, which became available as a result of a favorable court decision (see Notes 6 and 11), and therefore, the writedown did not necessitate a charge to the income statement. During 1997, the Company dispositioned assets held for sale with a carrying amount of $15 million that were associated with the 1996 shutdown of the Milpitas wafer manufacturing facility. In August 1997, approximately $5.6 million of the Milpitas equipment held for sale was transferred to another facility within the Company as it was determined that the equipment could be used to meet current capacity requirements. In October 1997, approximately $9.4 million of the Milpitas equipment held for sale was sold for $6.7 million. The loss on the sale of $2.7 million was included in other expense. Assets held for sale at December 31, 1997 are fully reserved. Assets held for sale were $15.6 million at December 31, 1996. 27 Note 5 - Acquisitions In July 1997, the Company acquired all issued and outstanding shares of common stock of Mint Technology, Inc. (Mint). Mint provides engineering services on a contract basis to help customers ensure timely and cost-effective completion of their design programs. Mint's consulting services specialize in the architectural specification, implementation and test of complex application-specific integrated circuits and field programmable gate array based system designs. The acquisition was accounted for as a purchase. The acquisition price consisted of $9.5 million in cash and options to purchase approximately 681,726 shares of common stock with an intrinsic value of $11.3 million. The intrinsic value of the stock is being expensed over the vesting period of the options. Approximately $2.9 million of the purchase price was allocated to in-process research and development and was expensed in the third quarter of 1997. Total goodwill recorded as part of the acquisition was $5.7 million and is being amortized over four years. Pro forma results of operations have not been presented as the amounts would not significantly differ from the Company's historical results. During 1996, the Company acquired 117,000 common shares of its Japanese sales affiliate from its minority interest shareholders for approximately $0.7 million. In December 1996, the Company acquired the remaining minority shares outstanding of its European sales affiliate, LSI Logic Europe, Ltd. (formerly LSI Logic Europe, PLC) for $2 million. These acquisitions were accounted for as purchases and the excess of the purchase price over the fair value of the assets acquired of $2 million was allocated to goodwill and is being amortized over seven years. As of December 31, 1997 and 1996, the Company owned approximately 92% of the Japanese affiliate and 100% of the U.K. affiliate. There were no minority interest purchases during 1997. Note 6 - Restructuring The Company implemented a restructuring plan in the third quarter of 1992 revising its global manufacturing strategy, streamlining operations, discontinuing certain commodity products and focusing its product strategy on high-end technology solutions. By the end of 1996, all reserves established under the restructuring plan had been utilized. As a result of a favorable appellate court decision in September 1996 in connection with the Texas Instruments litigation (see Note 11), $15 million of restructuring reserves became available for the write-down of the Milpitas wafer manufacturing equipment (see Note 4). The following table sets forth the Company's 1992 restructuring expense and charges taken from the date the restructuring commenced through December 31, 1997.
1992 Restructuring Balance Balance Expense Utilized* Adjusted 12/31/96 12/31/97 -------------- ----------- ---------- --------- --------- (In thousands) Write-down of manufacturing facility (a) $ -14,700 $ (28,700) $ 14,000 $ -- $ -- Other fixed asset related charges (b) 35,500 (38,700) 3,200 -- -- Other provisions for phase-down and consolidation of manufacturing facilities (b) 13,500 (13,500) -- -- -- Payments to employees for severance (c) 8,000 (7,200) (800) -- -- Write-down of inventories (a) 10,900 (8,800) (2,100) -- -- Relocation, lease terminations and other (b) 19,200 (4,900) (14,300) -- -- Total $ 101,800 $(101,800) $ -- $ --% $ --
* Net of cumulative currency translation adjustments. (a) Amounts utilized represent non-cash charges. (b) Amounts utilized represent both cash and non-cash charges. Cumulative cash charges totaled $17 million. (c) Amounts utilized represent cash payments related to the severance of approximately 550 employees. 28 Note 7 - Debt
December 31st --------------------------- 1997 1996 --------- ---------- (In thousands) Senior: Notes payable to banks $ 111,242 $ 183,531 Capital lease obligations 673 605 Subordinated: 5 1/2% Convertible Subordinated Notes, (redeemed in 1997) -- 143,750 111,915 327,886 Current portion of long-term debt, capital lease obligations and short-term borrowings (44,615) (69,612) Long-term debt and capital lease obligations $ 67,300 $ 258,274
In February 1997, the Company called for redemption of its $144 million, 5 1/2% Convertible Subordinated Notes (Notes) which were outstanding at December 31, 1996. In March of 1997, the Notes were converted at a price of $12.25 per share resulting in the issuance of 11,735,000 shares of common stock. The redeemed value of the Notes of $142 million, net of deferred offering costs, was recorded as part of stockholders' equity. In December 1996, the Company entered into a credit arrangement with several banks for a $300 million revolving line of credit expiring in December 1999. The agreement allows for borrowings at an adjustable rate. Interest payments are due quarterly. The agreement calls for financial covenants relating to senior debt ratio, quick ratio, debt service ratio, subordinated debt and tangible net worth. At December 31, 1997, the Company was in compliance with these covenants and had no borrowings outstanding under this credit agreement. In December 1995, the Company's Japanese manufacturing subsidiary, JSI, entered into a 25 billion yen credit facility with adjustable interest rates. The availability under the facility expired December 31, 1996 as the Company elected not to extend the availability period. Borrowings outstanding under the credit facility are for a term of five years with principal payments due semiannually beginning in July 1997. The Company must comply with certain financial covenants relating to profitability, tangible net worth, working capital, senior and total debt leverage and subordinated indebtedness. At December 31, 1997, the Company was in compliance with these covenants. As of December 31, 1997 JSI had 14 billion yen ($109 million) outstanding under the facility. Additionally, the Company has entered into several five year interest rate swap agreements to convert the adjustable interest rate per the credit arrangement to fixed rates (ranging from 1.75% to 2.46%). JSI also had borrowings outstanding of approximately 225 million yen ($1.7 million) at December 31, 1997. Aggregate principal payments required on outstanding debt and capital lease obligations are $45 million, $43 million and $24 million for 1998, 1999 and 2000, respectively, and none thereafter. The Company paid $9 million, $17 million and $18 million in interest during 1997, 1996 and 1995, respectively. 29 Note 8 - Common Stock The following summarizes all shares of common stock reserved for issuance as of December 31, 1997:
Number of Shares ---------------- (In thousands) Issuable upon: Exercise of stock options, including options available for grant 15,825 Purchase under Employee Stock Purchase Plan 1,623 17,448
The Company's Board of Directors approved an action which authorizes management to acquire up to 5 million and 4 million shares of its own stock in the open market at current market prices in August 1997 and February 1996, respectively. Accordingly, the Company repurchased 2.4 million and 2.0 million shares of its common stock from the open market for approximately $60 million and $47 million in 1997 and 1996, respectively. The transactions were recorded as reductions to common stock and additional paid-in capital. Stock option plans--The Company's 1982 Incentive Stock Option Plan (1982 Option Plan) is administered by the Board of Directors. Terms of the 1982 Option Plan required that the exercise price of options be no less than the fair value at the date of grant and required that options be granted only to employees or consultants of the Company. Generally, options granted vest in annual increments of 25% per year commencing one year from the date of grant and have a term of ten years. During 1992, the 1982 Option Plan expired by its terms. Accordingly, no further options may be granted thereunder. Certain options previously granted under the 1982 Option Plan remained outstanding at December 31, 1997. The 1991 Equity Incentive Plan, as amended July 30, 1997, enables the Company to grant stock options to its officers, employees or consultants. Stock options may be granted with an exercise price no less than the fair value of the stock on the date of grant. The term of each option is determined by the Board of Directors and is generally ten years. Options generally vest in annual increments of 25% per year commencing one year from the date of grant. A total of 18 million shares have been reserved for issuance under this plan, including 3 million shares approved by the Company's Board of Directors and stockholders in 1997. In May 1995, the stockholders approved the 1995 Director Option Plan (Director Plan), which replaced the 1986 Directors' Stock Option Plan, and reserved 500,000 shares for issuance thereunder. Terms of the Director Plan provide for an initial option grant to new directors and subsequent automatic option grants each year thereafter. The option grants generally have a ten year term and vest in equal increments over four years. The exercise price of options granted is the fair market value of the stock on the date of grant. In connection with the acquisition of Mint Technology, Inc. (Mint) (see Note 5), each outstanding stock option under Mint's Stock Option Plan (Mint Plan) was converted to an option for the Company's common stock at a ratio of .6286. As a result, outstanding options to purchase 681,726 shares were assumed. No further options may be granted under the Mint Plan as a result of the acquisition. At December 31, 1997 shares available for grant under all stock option plans were 2,100,000. 30 The following table summarizes the Company's stock option share activity and related weighted average exercise price within each category for each of the years ended December 31, 1997, 1996 and 1995 (share amounts in thousands):
1997 1996 1995 Shares Price Shares Price Shares Price ------ ------- ------- -------- ------ --------- Options outstanding at January 1 10,812 $ 20.77 9,065 $ 20.26 7,354 $ -7.28 Options assumed 682 16.71 Options canceled (1,120) (26.66) (4,402) (34.46) (397) (13.59) Options granted 4,506 30.87 7,263 27.71 4,354 33.64 Options exercised (1,155) (9.36) (1,114) (7.73) (2,246) (4.90) Options outstanding at December 31 13,725 $ 24.36 10,812 $ 20.77 9,065 $ 20.26 Options exercisable at December 31 4,249 $ 17.72 2,840 $ 11.29 2,001 $ 12.51
On August 16, 1996 the Company canceled options to purchase 2,853,000 shares of common stock with exercise prices ranging from $32.13 to $58.13, previously granted to employees, excluding certain executive officers, and reissued all such options at an exercise price of $22.38, the fair market value of the stock on August 16, 1996. The reissued options have a ten year term and vest in equal increments over four years from the date of reissuance. Significant option groups outstanding at December 31, 1997 and related weighted average exercise price and contractual life information is as follows (share amounts in thousands):
ptions with exercise prices ranging from: Outstanding Exercisable Remaining - -------------------- ---------------------------- --------------------- Shares Price Shares Price Life (years) ----- ----- ------ ----- ------------ $2.75 to $10.00 1,902 $-6.01 1,494 $ -5.37 5.5 $10.01 to $20.00 518 12.52 353 12.59 6.1 $20.01 to $30.00 6,706 23.41 1,881 23.87 8.4 $30.01 to $40.00 3,717 32.39 458 31.11 9.1 greater than $40.00 882 44.18 63 57.95 9.1 13,725 $24.36 4,249 $17.72
All options were granted at an exercise price equal to the market value of the Company's common stock at the date of grant with the exception of $0.6 million related to options issued to the stockholders of Mint Technology, Inc. The weighted average estimated grant date fair value, as defined by SFAS 123, for options granted during 1997, 1996 and 1995 was $14.94, $16.86 and $17.66 per option, respectively. The estimated grant date fair value disclosed by the Company is calculated using the Black-Scholes model. The Black-Scholes model, as well as other currently accepted option valuation models, was developed to estimate the fair value of freely tradable, fully transferable options without vesting restrictions, which significantly differ from the Company's stock option awards. These models also require highly subjective assumptions, including future stock price volatility and expected time until exercise, which greatly affect the calculated grant date 31 fair value. The following weighted average assumptions are included in the estimated grant date fair value calculations for the Company's stock option awards:
1997 1996 1995 ----- ----- ----- Expected life (years) 4.57 5.25 5.25 Risk-free interest rate 5.99% 6.10% 6.60% Volatility 56% 55% 51% Dividend yield 0% 0% 0%
Stock purchase plan--Since 1983, the Company has offered an Employee Stock Purchase Plan (Employee Plan) under which rights are granted to purchase shares of common stock at 85% of the lesser of the fair market value of such shares at the beginning of a 24-month offering period or the end of each six-month segment within such offering period. Sales under the Employee Plan in 1997, 1996 and 1995 were 666,000, 666,000 and 695,000 shares of common stock at an average price of $19.71, $17.33 and $12.95 per share, respectively. During 1997, the Company's Board of Directors approved an amendment to the Company's Employee Plan to increase the number of shares reserved for issuance by 500,000 shares. Additionally in 1997, the stockholders approved an amendment to the Company's Employee Plan to increase the number of shares of common stock reserved for issuance pursuant to the Employee Plan on the first day of each fiscal year, beginning fiscal 1998 by 1.15% of the shares of the Company's common stock issued and outstanding on the last day of the immediately preceding fiscal year, less the number of shares available for future option grants under the Employee Plan on the last day of the preceding fiscal year. Shares available for future purchase under the Employee Plan were 1,623,000 at December 31, 1997. Compensation cost (included in pro forma net income and net income per share amounts) for the grant date fair value of the purchase rights granted under the Employee Plan was calculated using the Black-Scholes model. The following weighted average assumptions are included in the estimated grant date fair value calculations for rights to purchase stock under the Company's Employee Plan:
1997 1996 1995 ---- ---- ---- Expected life (years) 1.25 1.25 1.25 Risk-free interest rate 5.82% 5.70% 6.20% Volatility 58% 54% 32% Dividend yield 0% 0% 0%
The weighted average estimated grant date fair value, as defined by SFAS 123, of rights to purchase stock under the Employee Plan granted in 1997, 1996 and 1995 were $12.99, $10.84 and $12.59 per share, respectively. Stock purchase rights--In November 1988, the Company implemented a plan to protect stockholders' rights in the event of a proposed takeover of the Company. Under the plan, each share of the Company's outstanding common stock carries one Preferred Share Purchase Right (Right). Each Right entitles the holder, under certain circumstances, to purchase one-thousandth of a share of Preferred Stock of the Company or its acquiror at a discounted price. The Rights are redeemable by the Company and expire in 1998. Pro forma net income and net income per share--Had the Company recorded compensation costs based on the estimated grant date fair value, as defined by SFAS 123, for awards granted under its stock option 32 plans and stock purchase plan, the Company's net income and earnings per share would have been reduced to the pro forma amounts below for the years ended December 31, 1997, 1996 and 1995:
1997 1996 1995 -------- -------- -------- Pro forma net income Basic $129,728 $128,069 $233,031 Diluted $131,007 $132,508 $237,470 Pro forma net income per share Basic $---0.94 $---0.99 $---1.88 Diluted $---0.93 $---0.94 $---1.71
The pro forma effect on net income and net income per share for 1997, 1996 and 1995 is not representative of the pro forma effect on net income in future years because it does not take into consideration pro forma compensation expense related to grants made prior to 1995. Note 9 - Income Taxes The provision for taxes consisted of the following:
1997 1996 1995 -------- -------- -------- (In thousands) Current: Federal $ 12,626 $ 29,111 $ 35,181 State 4,172 6,969 12,893 Foreign 43,106 19,398 43,836 Total 59,904 55,478 91,910 Deferred liability (benefit): Federal 7,164 (2,437) 6,663 State 1,575 (6,635) 1,460 Foreign (5,895) 11,026 (6,252) Total 2,844 1,954 1,871 Total $ 62,748 $ 57,432 $ 93,781
The domestic and foreign components of income before income taxes, minority interest and cumulative effect of change in accounting principle were as follows.
1997 1996 1995 -------- -------- -------- (In thousands) Domestic $-65,250 $ 82,882 $129,085 Foreign 158,913 122,233 205,858 Income before income taxes, minority interest and cumulative effect of change in accounting principle $224,163 $205,115 $334,943
Undistributed earnings of the Company's foreign subsidiaries for which no U.S. income taxes have been provided aggregate to approximately $385 million at December 31, 1997. Undistributed earnings of the 33 Company's foreign subsidiaries, which reflect full provision for foreign income taxes, are indefinitely reinvested in foreign operations or will be remitted substantially free of additional tax. Accordingly, no material provision has been made for taxes that might be payable upon remittance of such earnings, nor is it practicable to determine the amount of this liability. At December 31, 1997 and 1996 management believed that realization of deferred assets is more likely than not due to carryback capacity. Significant components of the Company's deferred tax assets and liabilities as of December 31, were as follows:
1997 1996 -------- -------- (In thousands) Deferred tax assets: Net operating loss carryforwards $ 656 $ 2,473 Tax credit carryovers 2,380 2,380 Nondeductible reserves and other 45,745 55,359 Total deferred tax assets 48,781 60,212 Deferred tax liabilities - depreciation and amortization (37,659) (46,246) Total net deferred tax assets $ 11,122 $ 13,966
Differences between the Company's effective tax rate and the federal statutory rate were as follows:
1997 1996 1995 ------------------- ------------------ ------------------- (In thousands) Federal statutory rate $ 78,457 35% $ 71,790 35% $ 117,230 35% State taxes, net of federal benefit 3,937 2% 6,517 3% 12,190 4% Difference between U.S. and foreign tax rates (22,453) (10%) (12,358) (6%) (32,772) (10%) Nondeductible expenses 2,847 1% 4,693 2% 17,529 5% Foreign tax credits (1,195) (1%) (11,260) (5%) -- -- Research and development tax credit (4,500) (2%) (4,243) (2%) -- -- Change in valuation allowance -- -- (3,400) (2%) (15,964) (5%) Other 5,655 3% 5,693 3% (4,432) (1%) Effective tax rate $ 62,748 28% $ 57,432 28% $ 93,781 28%
The Company paid $31 million, $53 million and $31 million for income taxes in 1997, 1996 and 1995, respectively. The IRS is currently auditing the Company's federal income tax returns for fiscal years 1991, 1992, 1993 and 1994. The Company received a notice of proposed tax deficiency for the years 1991 and 1992 and filed a tax protest letter with the IRS in response to the notice. Final proposed adjustments have not been received for these years. Management believes sufficient taxes have been provided in prior years and that the ultimate outcome of the IRS audits will not have a material adverse impact on the Company's financial position or results of operations. Note 10 - Segment Reporting and Foreign Operations The Company operates in one industry segment in which it designs, develops, manufactures and markets application-specific integrated circuits, application-specific standard products and related products and services. 34 Revenues from affiliates, which are eliminated in consolidation, consist of sales between geographic areas. Such sales are primarily recorded at amounts which are in excess of cost and consistent with rules and regulations of governing tax authorities. General corporate expenses include certain administrative expenses. Corporate assets include all cash, short-term investments and prepaid income taxes. During 1995, the Company significantly expanded its manufacturing operations in the Pacific Rim. Pacific Rim revenues are primarily derived from transactions with the Company and its other subsidiaries which are eliminated in consolidation. The Company's other significant operations outside the United States include manufacturing facilities, design centers and sales offices in Japan, Europe and Canada. The following is a summary of operations by entities located within the indicated geographic areas for 1997, 1996 and 1995. United States revenues include export sales.
1997 1996 1995 ----------- ----------- ----------- (In thousands) Revenues: United States $ 1,176,710 $ 1,201,674 $ 1,005,351 Pacific Rim 1,107,172 996,429 720,372 Japan 632,318 537,504 532,421 Europe 266,051 225,071 204,385 Canada 8,985 54,345 60,589 Revenues from affiliates (1,900,961) (1,776,329) (1,255,461) Consolidated $ 1,290,275 $ 1,238,694 $ 1,267,657 Revenues from affiliates: United States $ (559,358) $ (539,845) $ (313,507) Pacific Rim (1,042,867) (946,787) (659,180) Japan (265,810) (273,188) (282,774) Europe (25,802) (12,661) -- Canada (7,124) (3,848) -- Consolidated $(1,900,961) $(1,776,329) $(1,255,461) Operating income (loss): United States $ 43,351 $ 65,612 $ 116,917 Pacific Rim 105,983 84,773 150,378 Japan 33,669 29,762 23,652 Europe 12,846 9,365 22,501 Canada 3,083 7,373 6,822 General corporate expenses (3,559) (4,468) (1,571) Consolidated $ 195,373 $ 192,417 $ 318,699 Identifiable assets: United States $ 963,900 $ 521,326 $ 418,776 Pacific Rim 99,934 234,994 90,253 Japan 453,909 529,383 523,847 Europe 73,163 52,484 59,208 Canada 13,174 15,434 44,811 General corporate 522,832 599,093 712,692 Consolidated $ 2,126,912 $ 1,952,714 $ 1,849,587
35 Note 11 - Commitments and Contingencies The Company leases the majority of its facilities and certain equipment under non-cancelable operating leases which expire in 1998 through 2022. The facilities lease agreements typically provide for base rental rates which are increased at various times during the terms of the leases and for renewal options at the fair market rental value. In June 1995, the Company, through its Japanese subsidiary, entered into a master lease agreement and a master purchase agreement with a group of leasing companies (Lessor) for up to 15 billion yen ($145 million). Each Lease Supplement pursuant to the transaction will have a lease term of one year with four consecutive annual renewal options. The Company may at the end of any lease term return or purchase at a stated amount all the equipment. Upon return of the equipment, the Company must pay the Lessor a terminal adjustment amount. The Lessor also has entered into a remarketing agreement with a third party to remarket and sell any equipment returned pursuant to which the third party is obligated to reimburse the Company a guaranteed residual value. The lease line was fully utilized as of December 31, 1997. There were no significant gains or losses from these leasing transactions. Minimum rental payments under these operating leases, including option periods are $21 million for each of the years 1998 and 1999 and $14 million for 2000. The terminal adjustment which the Company would be required to pay upon cancellation of all leases and return of the equipment would be as follows: 1998 - $55 million; 1999 - $38 million; 2000 - - $20 million; or 2001 - $2 million. Future minimum payments under other lease agreements are as follows: 1998 - $31 million; 1999 - $27 million; 2000 - $21 million; 2001 - $17 million; 2002 - $13 million; 2003 and thereafter - $36 million. Total rental expense, including month-to-month rentals was $58 million, $62 million and $44 million in 1997, 1996 and 1995, respectively. An action fled by Texas Instruments, Inc. (-TI+) in 1990 against the Company and other defendants alleging infringement of certain TI packaging patents was finally resolved in favor of the Company in May 1997 without payment by the Company of damages or other costs when the United States Supreme Court denied TI's petition for a writ of certiorari. The $15 million reserve which had been set up against a contingency of liability in the case was reallocated in September 1996 (see Note 6). During the third quarter of 1995, the Company acquired all the remaining shares (45%) of its Canadian subsidiary LSI Logic Corporation of Canada, Inc., which it did not already own. Certain former shareholders, representing approximately 800,000 shares, or 3% of the previously outstanding shares, have exercised dissent and appraisal rights. An action is pending in the Court of Queen's Bench of Alberta, Judicial District of Calgary, for the adjudication of claims asserted by such former shareholders under the relevant provisions of the Canada Business Corporations Act. In addition, a separate action was fled by another former shareholder in the Court of Chancery of the State of Delaware in and for New Castle County, seeking an order that the acquisition of shares by the Company be enjoined, certification of a class and damages. Although that case originally was dismissed pursuant to a motion fled by the Company, on appeal to the Supreme Court of Delaware the order of dismissal was reversed and the case was remanded to the Court of Chancery. The Company's renewed motion to dismiss was granted in January 1998 by the Court of Chancery, to which the plaintiff has filed a notice of intent to appeal to the Delaware Supreme Court. While no assurances can be given regarding either the ultimate determination of the Canadian court or the outcome of the action fled in Delaware, the Company believes that the final outcome of the matters will not have a material effect on the Company's consolidated financial position or results of operations. The Company is a party to other litigation matters and claims which are normal in the course of its operations, and while the results of such litigations and claims cannot be predicted with certainty, the Company believes that the final outcome of such matters will not have a materially adverse effect on the Company's consolidated financial position or results of operations. 36 REPORT OF INDEPENDENT ACCOUNTANTS To the Stockholders and Board of Directors of LSI Logic Corporation In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, stockholders' and its subsidiaries at December 31, 1997 and 1996, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1997, in conformity with generally accepted accounting principles. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. San Jose, California January 22, 1998 37 FIVE YEAR CONSOLIDATED SUMMARY
Year Ended December 31st ----------------------------------------------------------------------------------- 1997 1996 1995 1994 1993 ----------- ----------- ----------- ---------- ---------- (In thousands, except per share amounts) Revenues $ 1,290,275 $ 1,238,694 $ 1,267,657 $- 901,830 $- 718,812 Costs and expenses Cost of revenues 675,153 695,002 665,673 520,150 438,523 Research and development 226,219 184,452 123,892 98,978 78,995 Selling, general and administrative 190,680 166,823 159,393 124,936 117,452 Acquired in-process research and development 2,850 -- -- -- -- Total costs and expenses 1,094,902 1,046,277 948,958 744,064 634,970 Income from operations 195,373 192,417 318,699 157,766 83,842 Interest expense (1,497) (13,610) (16,349) (18,455) (9,621) Interest income and other 30,287 26,308 32,593 16,858 6,500 Income before income taxes, minority interest and cumulative effect of change in accounting principle 224,163 205,115 334,943 156,169 80,721 Provision for income taxes 62,748 57,432 93,781 43,679 24,221 Income before minority interest and cumulative effect of change in accounting principle 161,415 147,683 241,162 112,490 56,500 Minority interest in net income of subsidiaries 727 499 3,042 3,747 2,750 Income before cumulative effect of change in accounting principle 160,688 147,184 238,120 108,743 53,750 Cumulative effect of change in accounting principle (1,440) -- -- -- -- Net income $ 159,248 $ 147,184 $ 238,120 $ 108,743 $ 53,750 Basic earnings per share: Income before cumulative effect of change in accounting principle $ -1.16 $ -1.14 $ -1.92 $ -1.02 $ -0.56 Cumulative effect of change in accounting principle $ -(0.01) -- -- -- -- Net income $ 1.15 $ 1.14 $ 1.92 $ 1.02 $ 0.56 Diluted earnings per share: Income before cumulative effect of change in accounting principle $ 1.12 $ 1.07 $ 1.75 $ 0.93 $ 0.53 Cumulative effect of change in accounting principle $ (0.01) -- -- -- -- Net income $ 1.11 $ 1.07 $ 1.75 $ 0.93 $ 0.53 Year-end status: Total assets $ 2,126,912 $ 1,952,714 $ 1,849,587 $ 1,270,374 $ 859,010 Long-term debt $ 67,300 $ 258,274 $ 199,543 $ 262,730 $ 220,005 Stockholders' equity $ 1,565,973 $ 1,316,219 $ 1,216,246 $*-544,906 $ 292,434
The Company's fiscal years ended on December 31 in 1997, and the Sunday closest to December 31 in 1996, 1995, 1994 and 1993. For presentation purposes, the Consolidated Financial Statements refer to December 31 as year end. 38 (In thousands, except per share amounts) YEAR ENDED DECEMBER 31, 1997 Quarter
First Second Third Fourth -------- -------- -------- ----------- Revenues $308,388 $332,004 $326,847 $ 323,036 Gross profit 144,268 163,005 163,118 144,731 Income before cumulative effect of change in accounting principle 38,407 45,799 44,318 32,164 Cumulative effect of change in accounting principle -- -- -- (1,440) Net income 38,407 45,799 44,318 30,724 Basic earnings per share: Income before cumulative effect of change in accounting principle $ .30 $ .32 $ .31 $ .23 Cumulative effect of change in accounting principle -- -- -- $ (.01) Net income $ .30 $ .32 $ .31 $ .22 Diluted earnings per share: Income before cumulative effect of change in accounting principle $ .28 $ .32 $ .31 $ .23 Cumulative effect of change in accounting principle -- -- -- $ (.01) Net income $ .28 $ .32 $ .31 $ .22 YEAR ENDED DECEMBER 31, 1996 Revenues $311,352 $325,359 $300,195 $ 301,788 Gross profit 134,503 148,905 125,121 135,163 Net income 42,284 46,496 27,743 30,661 Basic net income per share $ .33 $ .36 $ .22 $ .24 Diluted net income per share $ .31 $ .34 $ .21 $ .23
The Company's fiscal years ended on December 31 in 1997 and the Sunday closest to December 31 in 1996. For presentation purposes, the Consolidated Financial Statements refer to December 31 as year end. 39 CORPORATE INFORMATION Headquarters Address LSI Logic Corporation 1551 McCarthy Blvd Milpitas CA 95035 Registrar & Transfer Agent Bank of Boston c/o Boston EquiServe, LP Investor Relations Department Mail Stop 45.02.09 PO Box 644 Boston MA 02102.0644 1.800.730.6001 www.equiserve.com Independent Accountants Price Waterhouse LLP 150 Almaden Blvd San Jose CA 95113 Legal Counsel Wilson, Sonsini, Goodrich & Rosati 650 Page Mill Road Palo Alto CA 94304 Financial literature Publications of interest to current and potential investors, including copies of the Company's current 10-K fled with the Securities and Exchange Commission, are available without charge by calling 1.800.574.4286. Outside the U.S. and Canada, phone 408.433.7700 or call 32.11.300351 within Europe for multilingual operators. Financial information is also available over the World Wide Web at http://www.lsilogic.com and by fax at 1.800.457.4286. Stockholder Inquiries To notify LSI Logic of address changes, lost certificates or transfers of stock, stockholders of record should contact the Company's Registrar and Transfer Agent, Bank of Boston. Stockholders of record who receive more than one copy of this annual report can contact the Bank of Boston to arrange to have their accounts consolidated. Stockholders who own LSI Logic stock through a brokerage can contact their broker to request consolidation of their accounts. Inquiries concerning the company. Questions regarding LSI Logic's operations, historical performance or recent results may be directed to: LSI Logic Corporation Investor Relations Department 1551 McCarthy Blvd Milpitas CA 95035 408.954.4710 LSI Logic logo design, The System on a Chip Company, CoreWare, SeriaLink and MiniRISC are registered trademarks; and G10, G11, DCAM, GigaBlaze and Merlin are trademarks of LSI Logic Corporation. All other brand and product names may be trademarks of their respective companies. We gratefully acknowledge and thank Bosch, Brocade Communications, Canon Information Systems Research Australia (CISRA), Cisco Systems, Inc., Quantum Corporation, and Sun Microsystems, Inc. for granting permission to include photographs of their products in this annual report. (C)1998, LSI Logic Corporation Printed in U.S.A. 40 CORPORATE DIRECTORY Board of Directors Wilfred J. Corrigan Chairman Chief Executive Officer R. Douglas Norby Executive Vice President Chief Financial Officer T.Z. Chu Retired President Hoefer Pharmacia Biotech, Inc. Dr. Malcolm R. Currie President Chief Executive Officer Currie Technologies, Inc. James H. Keyes Chairman Chief Executive Officer Johnson Controls, Inc. Executive Officers Wilfred J. Corrigan Chairman Chief Executive Officer John P. Daane Executive Vice President Communications, Computer and ASIC Products Moshe N. Gavrielov Executive Vice President Consumer Products W. Richard Marz Executive Vice President Geographic Markets R. Douglas Norby Executive Vice President Chief Financial Officer David E. Sanders Vice President General Counsel & Secretary Lewis C. Wallbridge Vice President Human Resources Joseph M. Zelayeta Executive Vice President Worldwide Operations Vice Presidents Maniam B. Alagaratnam Package Development Mary E. Albanese President, Mint Technology, Inc. Elias J. Antoun President LSI Logic K.K. Norman L. Armour 41 General Manager Gresham Operations Thomas Daniel ASIC Technology John J. D'Errico General Manager Pan Asia Simon P. Dolan Consumer Products Marketing W. Hugh Durdan General Manager Computer Products Division Bruce L. Entin Worldwide Customer Marketing Geographic Markets Donald J. Esses U.S. Manufacturing Amnon Fisher Consumer Technology Engineering Jeffrey L. Hilbert Methodology and Customer Engineering James W. Hively Memory & Mixed Signal Engineering Dan King Quality & Reliability Charles E. Laughlin General Manager LSI Logic Japan Semiconductor, Inc. Theodore Leno Assembly and Test Operations Bryon Look Corporate Development & Strategic Planning R. Gregory Miller Corporate Controller Marlon R. Murzello MIPS Engineering Pierre Nadeau General Manager LSI Logic Europe, Ltd. Willsie H. Nelson Worldwide Logistics King F. Pang Digital Video Engineering Ranko L. Scepanovic Advanced Development Labs Richard D. Schinella Wafer Process R&D and Santa Clara Operations Giuseppe Staffaroni General Manager Communication Products Division Chiaki Terada Industrial Engineering Frank Tornaghi North America Sales 42 Lam H. Truong Information Technology & Chief Information Officer Dean J. Westman Operations, Consumer Products 43 STOCK INFORMATION Symbol: LSI Where traded: NYSE Actual shares outstanding at 12/31/97: 140,161,431 Average daily volume for 1997: 2,297,881 Stock Price Range
1997 1996 First Quarter $25.88-38.25 $22.50-38.88 Second Quarter $32.00-46.88 $24.50-39.63 Third Quarter $28.38-36.75 $17.00-27.00 Fourth Quarter $18.63-32.69 $21.38-33.88 Year $18.63-46.88 $17.00-39.63
At December 31, 1997, there were approximately 3,755 owners of record of the Company's common stock. The Company has never paid cash dividends on its common stock. It is presently LSI Logic's policy to reinvest its earnings in the Company and therefore LSI Logic does not anticipate paying any dividends for the foreseeable future. Stock Price Movement-Chart Trading Volume-Chart 44 LSI logic Europe, Ltd. Greenwood House London Road Bracknell Berkshire RG12 20B United Kingdom Tel: 441.344.426544 Fax: 441.344.481039 LSI logic K.K. 4-1-8 Konan Minato-Ku Tokyo 108 Japan Tel: 81.3.5463.7811 Fax: 81.3.5463.7825 LSI logic corporation of Canada, inc. 401 The West Mall Suite 1110 Etobicoke Ontario M9C 5J5 Canada Tel: 416.620.7400 Fax: 416.620.5005 LSI logic Japan semiconductor, inc. 10 Kitahara Tsukuba-shi Ibaraki-ken 300-32 Japan Tel: 81.298.64.7229 Fax: 81.298.64.3362 LSI logic Hong Kong, Limited 7/F Southeast Industrial Building 611-619 Castle Peak Road Tsuen Wan Hong Kong Tel: 852.2405.8600 Fax: 852.2412.7820 LSI logic corporation 1551 McCarthy Blvd Milpitas CA 95035 United States Tel: 408.433.8000 Fax: 408.954.3220 EX-21.1 5 LIST OF SUBSIDIARIES 1 Exhibit 21.1 LIST OF SUBSIDIARIES LSI Logic Leasing Company (Nevada) LSI Logic Asia, Inc. (Delaware) LSI Logic International Services, Inc. (California) LSI Logic Netherlands, B.V. (The Netherlands) LSI Logic Export Sales Corporation (U.S. Virgin Islands) Mint Technology, Inc. (Delaware) LSI Logic Japan Semiconductor, Inc. (Japan) LSI Logic Corporation of Korea (Korea) LSI Logic Europe Ltd. (UK) LSI Logic Netherlands Antilles, B.V. (The Netherlands) LSI Logic HK Holdings (Cayman) LSI Logic Hong Kong Ltd. (Hong Kong) LSI Logic KK (Japan) LSI Logic Corporation of Canada, Inc. (Canada) LSI Logic Singapore PTE, Ltd. (Singapore) LSI Logic Export Ltd. (UK) LSI Logic Israel Ltd. (Israel) LSI Logic GmbH (Germany) LSI Logic S.A. (France) LSI Logic S.P.A. (Italy) LSI Logic A.P. (Sweden) LSI Logic S.A. (Spain) EX-27.1 6 FINANCIAL DATA SCHEDULE
5 1000 12-MOS DEC-31-1997 DEC-31-1997 104,571 386,369 210,141 2,597 102,267 870,461 1,740,548 616,639 2,126,912 438,231 0 0 0 1,401 1,564,572 2,126,912 1,290,275 1,290,275 675,153 675,153 419,749 0 1,497 223,436 62,748 160,688 0 0 1,440 159,248 1.15 1.11
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