-----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, HlMWjvKGtn3uV04YEeM3nld1zUuGVjrhP/JmIIlVMZQyHK+rDQWmvQrUrf81hCVD a8+7rwrFnzOKJTa41V7qwg== 0000897101-96-000098.txt : 19960311 0000897101-96-000098.hdr.sgml : 19960311 ACCESSION NUMBER: 0000897101-96-000098 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 11 CONFORMED PERIOD OF REPORT: 19951231 FILED AS OF DATE: 19960308 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: CNS INC /DE/ CENTRAL INDEX KEY: 0000814258 STANDARD INDUSTRIAL CLASSIFICATION: ELECTROMEDICAL & ELECTROTHERAPEUTIC APPARATUS [3845] IRS NUMBER: 411580270 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-16612 FILM NUMBER: 96533106 BUSINESS ADDRESS: STREET 1: 1250 PARK RD CITY: CHANHASSEN STATE: MN ZIP: 55317 BUSINESS PHONE: 6124747600 MAIL ADDRESS: STREET 2: 1250 PARK RD CITY: CHANHASSEN STATE: MN ZIP: 55317-9260 10-K 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K (MARK ONE) |X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [FEE REQUIRED] For the fiscal year ended December 31, 1995 OR |_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the Transition period from _________ to __________ COMMISSION FILE NUMBER: 0-16612 CNS, INC. (Exact name of registrant as specified in its charter) DELAWARE 41-1580270 (State or other jurisdiction (I.R.S. Employer of incorporation or organization) Identification No.) P.O. BOX 39802 MINNEAPOLIS, MN 55439 (Address of principal executive offices and zip code) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (612) 820-6696 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: TITLE OF EACH CLASS COMMON STOCK, PAR VALUE OF $.01 PER SHARE SERIES A JUNIOR PARTICIPATING PREFERRED STOCK, PAR VALUE OF $.01 PER SHARE Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YES _X_ NO ___ Indicate by check mark if disclosure of delinquent filers pursuant to Rule 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] As of March 5, 1996, assuming as market value the price of $20.75 per share, the closing sale price of the Company's Common Stock on the Nasdaq National Market, the aggregate market value of shares held by non-affiliates was $317,598,587. As of March 5, 1996, the Company had outstanding 17,436,052 shares of Common Stock of $.01 par value per share. Documents Incorporated by Reference: The Company's Proxy Statement for its Annual Meeting of Shareholders to be held in April 1996, a definitive copy of which will be filed with the Commission within 120 days of December 31, 1995, is incorporated by reference into Part III of this Form 10-K. TABLE OF CONTENTS
Page PART I Item 1. Business........................................................................................3 Item 2. Properties....................................................................................... Item 3. Legal Proceedings................................................................................ Item 4. Submission of Matters to a Vote of Security Holders.............................................. PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters............................ Item 6. Selected Financial Data.......................................................................... Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations...................................................................... Item 8. Financial Statements and Supplementary Data...................................................... Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure........................................................................... PART III Item 10. Directors and Executive Officers of the Registrant............................................... Item 11. Executive Compensation........................................................................... Item 12. Security Ownership of Certain Beneficial Owners and Management................................... Item 13. Certain Relationships and Related Transactions................................................... PART IV Item 14. Exhibits, Financial Statement Schedules and Reports on Form 8-K............................................................................ SIGNATURES................................................................................................... FINANCIAL STATEMENTS.........................................................................................F-1 FINANCIAL STATEMENT SCHEDULES................................................................................S-1
This 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 significantly from those projected in the forward-looking statements as a result, in part, of the risk factors set forth in the Company's Registration Statement on Form S-3 filed with the Commission on March 8, 1996 (the "Form S-3"). In connection with the forward-looking statements which appear in these disclosures, investors should carefully review the factors set forth in the Form S-3 under "Risk Factors." PART I ITEM 1. BUSINESS BREATHE RIGHT NASAL STRIPS CNS, Inc., (the "Company") manufactures and markets the Breathe Right nasal strip, which is a nonprescription single-use disposable device that can reduce or eliminate snoring by improving nasal breathing and temporarily relieve nasal congestion. Broad consumer marketing of the Breathe Right nasal strip began in September 1994. Net sales of the Breathe Right nasal strip grew from $2.8 million in 1994 with a pre-tax loss of $2.6 million, to $48.6 million in 1995 with pre-tax income of $13.3 million. According to data collected by Information Resources, Inc., Breathe Right nasal strips became a leading sales volume producer during 1995 in the OTC cough, cold and allergy section of drug, grocery and mass merchant stores nationwide. The Breathe Right nasal strip has two embedded plastic strips. When folded down onto the sides of the nose, the Breathe Right nasal strip lifts the side walls of the nose outward to open the nasal passages. The product improves nasal breathing upon application and does not include any medication, thereby avoiding any medicinal side effects. The Company has received 510(k) clearances from the FDA to market the Breathe Right nasal strip for improvement of nasal breathing (October 1993), reduction or elimination of snoring (November 1995) and temporary relief of nasal congestion (February 1996). The Company believes that the Breathe Right nasal strip is the only non-prescription product in wide retail distribution that the FDA has cleared to market for the reduction or elimination of snoring. The Breathe Right nasal strip is offered in three sizes (junior/small, small/medium and medium/large) to accommodate the range of nose sizes from a child's nose to an adult's nose. The Breathe Right nasal strip is packaged for the OTC market in quantities of 10 or 30 strips per box and for sporting goods retailers in quantities of eight strips per box. Product is sold to retailers or wholesalers in cases of 24 or 96 boxes per size or in a variety of display configurations ranging from 12 to 60 boxes each. The Company believes that the Breathe Right nasal strip is priced comparably to medicinal decongestants on a daily or nightly dosage basis at suggested retail prices of $4.99 for a box of ten, $11.99 for a box of 30 and $4.99 for an eight count sports pack that includes a plastic case to protect the strips. MARKETS The Company currently sells the Breathe Right nasal strip in the consumer OTC market, the professional medical market and the athletic market. Because a substantial number of people may be included in more than one market, the number of potential customers for the Breathe Right nasal strip does not equal the aggregate population of these markets. CONSUMER OTC MARKET. The nose accounts for half of the total airway resistance involved in the respiratory system (i.e., half of the energy required for breathing). If the effort to breathe through the nose during sleep is excessive, the person will resort to mouth breathing, promoting snoring, dry mouth, sore throat and mini-awakenings which disrupt sleep. In addition, nasal breathing difficulties during sleep are often caused by nasal congestion found in people with allergies, sinusitis and the common cold and by nasal obstruction due to a deviated nasal septum. The Company believes that people with deviated septa or other structural problems or chronic conditions such as snoring may be more predisposed to use the Breathe Right nasal strip on a regular or daily basis while seasonal sufferers would use the Breathe Right nasal strip as needed. People with the aforementioned conditions are currently the primary users of the product and are the primary targets of the Company's advertising. SNORING. The Company is currently concentrating the majority of its marketing efforts on the snoring market. In November 1995, the FDA cleared the Breathe Right nasal strip for marketing for the reduction or elimination of snoring. The Breathe Right nasal strip reduces nasal airflow resistance and therefore can reduce or eliminate snoring. Market research commissioned by the Company indicates that, in the U.S., approximately 78% of all households have at least one snorer, approximately 37 million people snore regularly (every night) and 50 million people snore occasionally. In a clinical study conducted at the Sleep Disorders Center in Cincinnati, Ohio, Breathe Right nasal strips were effective in reducing snoring loudness or eliminating snoring in 75% of the participants in the study. Additional clinical studies show that Breathe Right nasal strips may improve the quality of sleep. The Company believes that the Breathe Right nasal strip is the only non-prescription product in wide retail distribution that the FDA has cleared to market for the reduction or elimination of snoring. NASAL CONGESTION/OBSTRUCTION. The Company is also focusing its marketing efforts on the nasal congestion market. In February 1996, the FDA cleared the Breathe Right nasal strip for marketing for the temporary relief from the symptoms of nasal congestion. The Company believes the Breathe Right nasal strip can in many cases benefit those people who suffer from nasal congestion, stuffy nose and nasal obstruction resulting from the following conditions: (i) the common cold; (ii) allergies and sinus disease -- 35 million people in the U.S.; and (iii) deviated nasal septum and other nasal structural deficiencies -- 12 million people in the U.S. Clinical studies at the Oklahoma Allergy Clinic in Oklahoma City, Oklahoma and at Park Nicollet Clinic in Minneapolis, Minnesota have shown that the product relieves some of the symptoms associated with nasal congestion caused by allergies, and a clinical study at Mount Sinai Hospital, Toronto, Ontario has shown that the product relieves some of the symptoms of nasal obstruction due to septal deviation. The Company has submitted applications to the FDA to obtain clearance to market the product as a treatment for nasal obstruction associated with a deviated septum. For nasal congestion applications, the Company believes that the Breathe Right nasal strip is often used as either an alternative or adjunct to decongestant drugs (including nasal sprays and oral decongestants). PROFESSIONAL MEDICAL MARKET. In 1996, the Company plans to increase its marketing efforts in the professional medical market. The Company will continue its program to educate physicians such as pulmonologists, otolaryngologists and allergists on the advantages of using the Breathe Right nasal strip for patients receiving various treatments for sleep apnea and chronic lung disease. The Company believes that these patients may become regular users of the product if it is recommended to them by their physicians. The Company believes that there are over one million sleep apnea and chronic lung disease patients receiving treatments and an additional 15 million chronic lung disease sufferers that may benefit from use of the Breathe Right nasal strip. The Company also believes that awareness of the product by physicians will increase their recommendations of the product for other applications. The Company is currently evaluating special packaging requirements to reach the hospital and home health care markets and is exploring how to reach these markets through OEM sales arrangements with medical products companies. As an alternative, the Company may establish an independent representative sales force to penetrate these markets. ATHLETIC MARKET. The Company has begun to market the Breathe Right nasal strip for use during athletic activity. The Company believes that the product may make nasal breathing more comfortable and may improve endurance during athletic activity, particularly when a mouth guard is used. Clinical studies are being conducted to establish the benefit of use during athletic activity. The use of the Breathe Right nasal strip has been increasingly observed in football, and to a lesser extent in hockey, baseball and basketball, at the professional and collegiate levels. In addition, many recreational athletes, including runners and bikers have begun using the product regularly during their sports activities. The Company believes the use of the Breathe Right nasal strip will grow in recreational sports and has initially targeted the running market (approximately 9.6 million Americans are frequent runners according to Runners World magazine) and biking market (approximately 3.3 million cyclists in the U.S. ride at least 80 miles per month according to Bicycling magazine). Since the introduction of the product in October 1993, the Company has received publicity as a result of professional athletes wearing the Breathe Right nasal strip. The Company uses athletes to endorse the Breathe Right nasal strip to increase the visibility of the product, which thereby leads to awareness of the product for not only its athletic applications, but also for snoring, nasal congestion and other applications. BUSINESS STRATEGY The Company's strategy for increasing sales of its Breathe Right nasal strip and expanding its product line consists of: INCREASING NEW CONSUMER PRODUCT TRIAL. The Company uses a combination of advertising, promotions and celebrity endorsements to increase consumer awareness of the Breathe Right nasal strip and its benefits and to encourage initial consumer trial of the product. The Company has implemented an advertising campaign which utilizes widely distributed magazines, nationally syndicated radio programs and network and cable television to establish the Breathe Right nasal strip as a leading OTC branded product for the relief of snoring and nasal congestion. A research study commissioned by the Company indicates that, of the persons surveyed in March 1995 and January 1996, total consumer awareness of a device used over the nose to improve nasal breathing and reduce snoring increased from 32% to 53% and household trial of the product increased from 1% to 5%. INCREASING REPEAT USAGE. According to research data collected by an independent, nationally recognized consumer market research firm, approximately 28% of those who try Breathe Right nasal strips in the U.S. purchase additional product. To encourage repeat usage, the Company introduced a 30 count box, which carries a suggested retail price that is 20% less per strip than the 10 count box. At the end of 1995, the 30 count box was in 30% of the stores that carried the 10 count box, however the 30 count box accounted for approximately 25% of the Company's retail sales volume. The Company plans to increase the retail distribution of the 30 count box in 1996 and emphasize the 30 count box using in-box promotions and couponing programs to help encourage repeat usage. EXPANDING PRESENCE IN INTERNATIONAL MARKETS. In August 1995, the Company signed an exclusive international distribution agreement with 3M to market the Breathe Right nasal strip outside the U.S. and Canada. 3M has begun the product introduction in several countries and expects the product to be available at retail in more than 12 international markets by the end of 1996. EXPANDING PRESENCE IN OTHER MARKETS. The Company seeks to increase its presence in the professional medical market, which includes patients receiving various treatments for sleep apnea and chronic lung disease. The Company will educate physicians and pharmacists as to the efficacy and various applications of the Breathe Right nasal strip to gain their recommendations of the product for treatment of patients in this market as well as for relief from snoring and nasal congestion. In addition, largely as a result of NFL exposure, many sporting goods retailers have expressed an interest in carrying the product. The Company has developed special packaging for the sports market and plans to continue to leverage its high profile athletic endorsers to increase sales in the athletic market. MARKETING NEW PRODUCTS THAT LEVERAGE DISTRIBUTION CHANNELS. The Company has established a strong brand identity for the Breathe Right name and strong distribution channels. As a result of its visibility and success to date, the Company is regularly presented with and evaluates new products. The Company plans to leverage its marketing and distribution strengths by acquiring or licensing the rights to those products that it believes have merit and attempt to bring them to market. There can be no assurance that any of these products will ever be marketed by the Company. MARKETING STRATEGY The Company began broad consumer marketing of the Breathe Right nasal strip in September 1994. According to data collected by Information Resources, Inc. ("IRI"), the Breathe Right nasal strip became a leading sales volume producer during 1995 in the cough, cold and allergy section of drug, grocery and mass merchant stores nationwide. In September 1995, the Company received two REX (retail excellence) awards from Drug Stores News magazine. The first award named the Breathe Right nasal strip as the best new product in the cough, cold and allergy section in U.S. drug stores. The second award named the product the "market maker of the year," the single most important product which disproportionately increased traffic and profits in U.S. drug stores. The Company's marketing efforts are primarily directed to the OTC market. After receiving FDA clearance in November 1995 to market the Breathe Right nasal strip for the reduction or elimination of snoring, the Company's advertising focused on the snoring application for the product. The Company currently plans to begin advertising for the treatment of nasal congestion in the fall of 1996 coincident with the cold season. The Company primarily uses a mix of consumer and trade promotions and magazine, radio and television advertising to market the Breathe Right nasal strip. Marketing communications are generally designed to promote trial of the Breathe Right nasal strip by increasing consumer awareness of the product's benefits. The Company's print ads have featured full face photos of familiar faces (Jerry Rice, the Statue of Liberty, the Mona Lisa) wearing a Breathe Right nasal strip as well as a photo of the box and a description of the benefits of the product. The Company's radio campaign includes advertising on the nationally syndicated radio programs of Rush Limbaugh, Paul Harvey and Dr. Dean Edell. The Company recently launched its national cable television advertising program and advertised on network television during Super Bowl XXX. The Company's paid advertising programs have been enhanced by media coverage of unsolicited use of Breathe Right nasal strips by professional athletes, including Herschel Walker of the New York Giants and Kirby Puckett of the Minnesota Twins. In addition, a number of radio and television personalties, including Rush Limbaugh, have provided unsolicited endorsements of the product on national radio and television programs. The Company has also entered into endorsement agreements pursuant to which the following athletes will provide the Company with endorsement services:
NAME TEAM/SPORT ---- ---------- Jerry Rice San Francisco 49ers football team Peter Bondra Washington Capitals hockey team Michael Andretti Race car driver Luke and Murphy Jensen Tennis players Ann Marie Lauck U.S. Olympic marathon runner The Volvo/Cannondale Mountain bike racers Mountain Bike Team Manuel Lagos Minnesota Thunder soccer team Eddy Matzger In-line speed skater
The Company believes that use by professional athletes increases the visibility of the product, which thereby leads to greater awareness of the product for not only its athletic applications but also for snoring, nasal congestion and other applications, and also makes it more acceptable for consumers to wear the highly visible product. The Company also uses product promotion programs, such as coupons, and public relations activities to encourage product trial and repeat purchases. Typically, coupons for the Breathe Right nasal strip appear three to four times each year in free standing inserts (FSIs) that are included in Sunday newspapers and are often tied to a holiday or special event theme such as Super Bowl, Fathers Day, or the Christmas holidays (stocking stuffer). To increase consumer product awareness, the Company also uses public relations programs associated with "special events," such as sponsoring marathons, providing product to certain professional athletic teams and sponsoring radio station contests in conjunction with certain holidays. The Company also has a program aimed at educating pharmacists and physicians as to the efficacy of the product for various applications and the drug free nature of the product in order to gain their recommendations of the product. The Company believes that educating the professional medical market will lead to both recommendations for use of the product in that market and for other applications, such as for snoring and nasal congestion. Because the Breathe Right nasal strip is sold as an OTC product, sales of the product will depend in part upon the degree to which the consumer is aware of the product and is satisfied with its use, which also influences repeat usage and word of mouth referrals. A research study commissioned by the Company indicates that approximately 5% of households in the U.S. include a person that has tried Breathe Right nasal strips, and research data collected by a nationally recognized consumer market research firm indicates that approximately 28% of those who have tried Breathe Right nasal strips purchased additional product. The Company conducted consumer awareness surveys in March 1995, September 1995 and January 1996 in which 1,000 consumers over the age of 18 were surveyed by telephone. Unaided product awareness, where respondents identified a nasal strip as a product designed to help people breathe more easily or provide relief from snoring, increased from 6% in March 1995 to 16% in January 1996. Aided product awareness, where the respondents were asked if they were aware of a product worn across the nose which is designed to help people breathe and can also be used to reduce snoring, increased from 26% in March 1995 to 37% in January 1996. Therefore, as of January 1996, 53% of the consumers surveyed had some level of awareness of a nasal strip product. Unaided awareness of the Breathe Right brand name increased from 2% in March 1995 to 7% in January 1996. DOMESTIC DISTRIBUTION OTC MARKET. The Breathe Right nasal strip is sold as an OTC product in drug stores, grocery stores and mass merchant chain stores. In addition, product distribution has recently begun to military base stores and convenience stores in the U.S. The Company sells product to these retailers through a network of independent sales representatives referred to in the industry as non-food general merchandise brokers. Presently, the Company uses eight broker groups who call on the chain drug, grocery and mass merchant accounts and the wholesalers who serve primarily the independent drug stores and many of the grocery stores in the U.S. Another broker calls on U.S. military base commissaries and post exchanges, and the Company has a master broker to market to the convenience store market. The Company regularly uses IRI InfoScan data to determine market penetration of Breathe Right nasal strips. IRI measures the all commodity volume ("ACV") distribution of the Breathe Right nasal strip, which is the total sales volume of stores in which the Breathe Right nasal strip is sold as a percentage of total sales volume of all stores in that category. The following table shows ACV distribution of the Breathe Right nasal strip for the four-week periods ended:
1/1/95 3/26/95 7/16/95 10/8/95 12/31/95 Drug store ACV 65% 86% 94% 98% 98% Grocery store ACV 20% 33% 53% 61% 71% Mass merchant ACV 10% 85% 94% 97% 99%
While the Company believes that it has widespread distribution, the 30 count box that was first distributed to retailers in August 1995 was only available in stores which accounted for approximately 40% of the total drug store sales volume, 5% of the total grocery store sales volume and 60% of the total mass merchant sales volume by the end of 1995. The Company intends to emphasize increasing the distribution (and availability to the consumer) of the 30 count box during 1996. Since the 30 count box carries a suggested retail price that is 20% lower per strip than the strips in the 10 count box, the Company believes that increased availability of the 30 count box will help encourage repeat usage. Although the Company's advertising currently focuses on the snoring application, the Breathe Right nasal strip is typically positioned in the cough, cold and allergy section of the store because Breathe Right nasal strips provide benefits similar to those obtained with decongestant products. There is typically no section in stores for snoring relief products. Due to the strong sales levels of the Breathe Right nasal strip and its rapid sales growth, many store managers have also placed the product in secondary locations, such as on the pharmacy counter or in special sections located at the end of an aisle reserved for better selling products. The Company believes that the Breathe Right nasal strip is priced competitively with decongestant drugs (including nasal sprays and oral decongestants) on a per dose basis. The Company's OTC customers for the Breathe Right nasal strip include national drug store, grocery store and mass merchant chains such as Walgreens, Eckerd, REVCO, Kroger, Safeway, Wal-Mart, Kmart and Target, as well as regional and independent stores in the same store categories. In 1995, no OTC customer represented more than 3% of the retail stores that carried the product, and one retailer accounted for approximately 13% of Breathe Right nasal strip sales. The loss of this customer or any other large retailer would require the Company to replace the lost sales through other retail outlets and could temporarily disrupt distribution of the Breathe Right nasal strip. PROFESSIONAL MEDICAL MARKET. The Company believes that establishing a strong presence in the professional medical market will not only increase sales to this market, but will also result in physicians recommending the product for other applications. The Company has sold the product to this market in small quantities either directly or through a few small respiratory specialty distributors. The Company is currently evaluating special packaging requirements to reach the hospital and home health care markets and is exploring how to reach these markets through OEM sales arrangements with medical products companies. As an alternative, the Company may establish an independent representative sales force to penetrate these markets. ATHLETIC MARKET. Largely as a result of the exposure that the Breathe Right nasal strips received when NFL football players began wearing them, many sporting goods retailers expressed an interest in carrying the product. A special package has been developed for this market and the Company has contracted with E-Z Gard, Inc. (a mouth guard manufacturer) to act as master broker to provide sales and distribution to the sporting goods retailer market in the U.S. and Canada. The Breathe Right nasal strips sports package was first available in September 1995 and is distributed to sporting goods stores and mass merchant sports departments. In addition, many drug stores carry the sports package in their sports medicine section. INTERNATIONAL DISTRIBUTION The Company executed an international distributor agreement with 3M in August 1995 pursuant to which 3M has the exclusive right to distribute the Breathe Right nasal strip outside of the U.S. and Canada. 3M has operations in over 60 foreign countries. The product is marketed internationally under the co-brand of "3M Breathe Right nasal strips" in order to benefit from both 3M's brand name and the publicity that the Breathe Right brand name has received. Under the terms of the agreement, 3M buys product from the Company either in finished form in 3M boxes or in bulk quantities to be packaged by 3M's international subsidiaries. All sales to 3M are denominated in U.S. dollars. 3M is responsible for obtaining all necessary regulatory approvals outside of the U.S. and for all marketing and selling expenses. The agreement contains certain minimum performance objectives and breakup provisions. 3M began training its international sales force on the Breathe Right nasal strip product line in October 1995. Package designs for several countries were completed and initial product orders were placed by the end of 1995. The Company expects that product will be on retail shelves in Japan and several European countries by March 31, 1996 and in a total of at least 12 foreign countries by the end of 1996. In 1995, the Company arranged with LOCIN Industries, a Canadian dental floss company, to establish distribution in the Canadian market. During 1995, LOCIN distributed the product to drug stores in Canada. During 1996, LOCIN may purchase product in bulk and package it at its facility and assume responsibility for cooperative advertising programs. POTENTIAL LINE EXTENSIONS AND NEW PRODUCTS BREATHE RIGHT NASAL STRIP ENHANCEMENTS AND LINE EXTENSIONS. The Company is currently evaluating a number of enhancements to the existing Breathe Right nasal strip product line. These enhancements include a modification that would increase the dilating force of the strip without diminishing the strip's ability to stay in place, an enhancement that would reduce the potential for irritation over the top of the nose and production of nasal strips with different colors, insignias and cartoon or other characters, and scented nasal strips. NEW PRODUCTS. As a result of the Company's established distribution channels and highly visible success with the Breathe Right nasal strip, the Company is frequently approached by individuals and smaller companies to explore the possibility of partnering with the Company to manufacture and market new product ideas. The Company routinely evaluates the merit of these products, and from time to time may acquire or license the rights to innovative products which it believes could successfully be sold through the Company's established distribution channels. The Company has entered into contractual arrangements for a number of products which are in various stages of evaluation and testing prior to potential market launch. The Company plans to incur costs of approximately $1.0 million relating to evaluation and test marketing of these products in 1996 and expects to launch one product, the TheraPatch in 1996. Most, if not all, of these products are regulated to varying degrees by the FDA and some will require extensive clinical studies and regulatory approvals prior to marketing. There can be no assurance that any required regulatory approvals will be obtained or, other than the TheraPatch, that the Company will market any of these products. Products currently being evaluated by the Company include: THERAPATCH EXTERNAL ANALGESIC PATCH. The TheraPatch is a 2" by 3" external analgesic patch designed for temporary relief of pain from arthritis, simple backaches and muscular aches and strains. The patch is coated with a proprietary hydrogel formulation which, when placed on the skin, creates a cutaneous sensation that interferes with the sensation of pain. The Company believes that the TheraPatch design allows it to provide longer lasting relief (four to six hours) than similar patches or external analgesic creams (60 to 90 minutes) currently on the market. The Company, however, will not be able to make any claims as to duration without FDA approval. The Company is planning to test market the patch in late spring and summer 1996, with broad scale product marketing dependent upon favorable test market results and compliance with applicable FDA requirements. The FDA has issued a deferment letter to the product's manufacturer which allows the product to be marketed and defers the product's regulatory status until the FDA publishes a Final Monograph on External Analgesics. After the Final Monograph is published, the Company will have one year to comply with the FDA's requirements listed in the Final Monograph. POLLEN-GUARD GEL. The Company has the right to enter into an exclusive, worldwide license agreement covering the patent and pending patent applications on the Pollen-Guard Gel, which is an ionized gel product that can be applied around the nostrils. The gel dries clear, colorless and odorless and creates a local electrostatic field. The product has been the subject of favorable preliminary laboratory and clinical tests, and a Company-sponsored clinical study is currently in progress. The Company believes that this product reduces the inhalation of airborne contaminants such as pollen, mold spores and dust, which will thereby reduce allergic symptoms. The Company is not aware of similar competitive products. SMOKING CESSATION AND APPETITE SUPPRESSANT PRODUCTS. The Company plans to perform clinical tests on two products that utilize a chemical compound that is used as a common food additive found in cereals, milk, dairy products and other common foods and is listed on the Flavor and Extract Manufacturers Generally Regarded As Safe List. The compound is naturally found in the Virginia tobacco leaf and is used as an additive in the manufacture of cigarettes. The Company believes that the compound, when inhaled, may be effective as an adjunct to assist in stopping smoking or as a smoking substitute product, and may also be useful in suppressing appetite, resulting in weight loss, but the Company has not completed any clinical studies on these products to date. The licensor of the product obtained a patent on the appetite suppressant product in 1985 and on the smoking cessation product in 1994 and the Company has licensed the rights to the patents. The Company intends to proceed with formal clinical studies, and if they are successful the Company will attempt to gain FDA clearance to market both products. FDA clearance of such products will require filing a new drug application and completion of extensive clinical studies, the protocols and results of which must be satisfactory to the FDA. The Company is aware of one competitive product for smoking cessation that is currently being distributed in Europe. LARYNGOSCOPE DENTAL WARNING SYSTEM. A laryngoscope is a medical device used in the process of intubation, which involves insertion of a breathing tube into a patient's trachea by passing it through the mouth and throat. During the process of intubation, the laryngoscope's blade has a tendency to be pressed against the patient's top teeth, at times causing damage to those teeth or to adjacent bridge work. The laryngoscope dental warning system uses a disposable warning circuit embedded into a thin plastic strip placed on the bottom of the laryngoscope's blade to warn the user when the blade makes contact with the teeth, allowing the physician to avoid damaging the patient's teeth. Approximately 19 million surgeries are performed each year in the U.S., which are preceded by intubations. The reported incidence of dental damage is approximately one per 1,000 cases. The licensor of the product has a patent application pending with the U.S. Patent Office. The Company intends to finalize the design of the product, manufacture and test the product and submit an application with the FDA to obtain regulatory clearance to market the product by the fall of 1996. The Company is not aware of any similar devices on the market. MANUFACTURING AND OPERATIONS The Company currently sub-contracts with five manufacturers (and has qualified two additional manufacturers), known as converters, to produce the Breathe Right nasal strip and does no in-house fabrication. Three of the converters are capable of providing full turnkey service and ship product to the Company that is completely packaged ready to be sold to retailers. The others provide semi-finished goods to the Company that require final packaging. To complete these products, the Company has the ability to wrap individual strips in the paper sleeve in-house and subcontracts the final packaging out to one of seven qualified packaging subcontractors. Each of these converters builds the product to the Company's specifications using materials specified by the Company and, for the major materials, places orders against a supply agreement negotiated by the Company with the material manufacturer. The converters have all entered into confidentiality agreements with the Company to protect the Company's intellectual property rights. Company quality control and operations personnel periodically visit the converters to observe processes and procedures. Finished goods are inspected at the Company to insure that they meet quality requirements. The Company inspects its converters on a regular basis and is not aware of any material violation of FDA Good Manufacturing Practice Standards. The Company works closely with its material vendors and converters to reduce scrap and waste, improve efficiency, and improve yields to reduce the manufacturing costs of the product. These efforts, combined with volume efficiencies, have resulted in higher gross margins. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." To ensure consistent quality and favorable pricing, the Company has entered into a multi-year material supply agreement with 3M for the major components of the Breathe Right nasal strip. Although similar materials are currently available from other suppliers, the Company believes that 3M's materials are of superior quality. Although the Company believes that this relationship will not be disrupted or terminated, the inability to obtain sufficient quantities of these components or the need to develop alternative sources in a timely and cost effective manner, if and as required in the future, could adversely affect the Company's operations until new sources of these components become available, if at all. In addition, while the Company does not expect 3M to do so, 3M has the right to discontinue its production or sale of these products at any time with 90 days notice to the Company. In the first quarter of 1995, a rapid increase in demand for the product resulted in the Company being unable to secure delivery of sufficient raw materials to avoid large back orders and out of stock situations at the retail level. It took until the end of the second quarter of 1995 for the Company to eliminate the back orders and to begin building inventory. The Company believes that its converters can produce sufficient quantities of product to meet the Company's current and projected requirements. The Company plans to use a portion of the net proceeds of this offering to supplement the manufacturing capacity of its packaging subcontractors and converters with its own manufacturing capabilities. The Company believes that this will allow it to be more flexible and responsive to changes in the mix of final packaging requirements while managing both product costs and inventory levels. COMPETITION The Company believes that the market for decongestant products is highly competitive while the market for products for the reduction or elimination of snoring may become more competitive in the future. The Company's competition in the OTC market for decongestant products and other cold, allergy and sinus relief products consist primarily of pharmaceutical products and products similar to the Breathe Right nasal strip. Products that compete with the Breathe Right nasal strip in the OTC market for snoring remedies consist primarily of internal nasal dilators and products similar to the Breathe Right nasal strip. Many of the manufacturers of the pharmaceutical products that compete with the Breathe Right nasal strip have significantly greater financial and operating resources than the Company. In addition, these competitors may develop products which are able to circumvent the Company's patents. GOVERNMENT REGULATION As a manufacturer and marketer of medical devices, the Company is subject to regulation by, among other governmental entities, the FDA and the corresponding agencies of the states and foreign countries in which the Company sells its products. The Company must comply with a variety of regulations, including the FDA's Good Manufacturing Practice regulations, and is subject to periodic inspections by the FDA and applicable state and foreign agencies. If the FDA believes that its regulations have not been fulfilled, it may implement extensive enforcement powers, including the ability to ban products from the market, prohibit the operation of manufacturing facilities and effect recalls of products from customer locations. The Company believes that it is currently in compliance with applicable FDA regulations. FDA regulations classify medical devices into three classes that determine the degree of regulatory control to which the manufacturer of the device is subject. In general, Class I devices involve compliance with labeling and record keeping requirements and are subject to other general controls. Class II devices are subject to performance standards in addition to general controls. Class III devices are those devices, usually invasive, for which pre-market approval (as distinct from pre-market notification) is required before commercial marketing to assure the products' safety and effectiveness. The Breathe Right nasal strip has not yet been classified. Before a new medical device can be introduced into the market, the manufacturer generally must obtain FDA clearance through either a 510(k) pre-market notification or a pre-market approval application ("PMA"). A 510(k) clearance will be granted if the submitted data establish that the proposed device is "substantially equivalent" to a legally marketed Class I or II medical device, or to a Class III medical device for which the FDA has not called for PMAs. The PMA process can be expensive, uncertain and lengthy, frequently requiring from one to several years from the date the PMA is accepted. In addition to requiring clearance for new products, FDA rules may require a filing and waiting period prior to marketing modifications of existing products. The Company has received 510(k) approvals to market the Breathe Right nasal strip as a device that can (i) reduce or eliminate snoring, (ii) temporarily relieve the symptoms of nasal congestion and stuffy nose and (iii) improve nasal breathing by reducing nasal airflow resistance. In addition to the Company's medical device products, the Company has entered into an agreement to manufacture and market a smoking substitute and appetite suppressant product that the FDA may classify as a "New Drug." The FDA must approve safety and effectiveness for each labeled use before a New Drug can be sold. As part of the requirements for obtaining approval of a New Drug, the Company will be required to conduct extensive preclinical studies to determine the safety and efficacy of the drug. Upon completion of these studies, the Company will submit an Investigational New Drug application ("IND") to the FDA, which permits the Company to begin clinical trials. These clinical trials of the products must be conducted and the results submitted to the FDA as part of a New Drug Application ("NDA"). The FDA must approve the NDA before pharmaceutical products may be sold in the U.S. The grant of regulatory approvals often takes a number of years and may involve the expenditure of substantial resources. There is no assurance that NDAs will be approved for the Company's products if any are required. Even after initial FDA approval has been granted, further studies may be conducted to provide additional data on safety or efficacy or to obtain approval for marketing the drug as a treatment for disease indications in addition to those originally approved. In addition, the FDA can revoke its approval even after it has initially been given. Sales of the Company's products outside the U.S. are subject to regulatory requirements governing human clinical trials and marketing approval for drugs, and such requirements vary widely from country to country. Under its agreement with the Company, 3M is responsible for obtaining all necessary regulatory approvals outside the U.S. The Company believes it has provided 3M with the necessary documentation to enable 3M to obtain the "CE" mark, an international symbol of quality and compliance with applicable European medical device directives, and 3M is affixing the CE mark on the Company's products in Europe. No assurance can be given that the FDA or state or foreign regulatory agencies will give on a timely basis, if at all, the requisite approvals or clearances for additional applications for the Breathe Right nasal strip or for any of the Company's products which are under development. Moreover, after clearance is given, the Company is required to advise the FDA and these other regulatory agencies of modifications to its products. These agencies have the power to withdraw the clearance or require the Company to change the device or its manufacturing process or labeling, to supply additional proof of its safety and effectiveness or to recall, repair, replace or refund the cost of the medical device if it is shown to be hazardous or defective. The process of obtaining clearance to market products is costly and time-consuming and can delay the marketing and sale of the Company's products. Furthermore, federal, state and foreign regulations regarding the manufacture and sale of medical devices are subject to future change. The Company cannot predict what impact, if any, such changes might have on its business. The Company is also subject to substantial federal, state and local regulation regarding occupational health and safety, environmental protection, hazardous substance control and waste management and disposal, among others. PATENTS, TRADEMARKS AND PROPRIETARY RIGHTS The Company entered into a license agreement in 1992 (the "License Agreement") pursuant to which the Company acquired from the licensor (the "Licensor") the exclusive rights to manufacture and sell the Breathe Right nasal strip. Pursuant to the License Agreement, the Company has the exclusive right to manufacture, sell and otherwise practice any invention, including the Breathe Right nasal strip, claimed in the Licensor's patent applications related thereto and all patents issued in any country which correspond to those applications. The Company must pay royalties to the Licensor based on sales of the Breathe Right nasal strip including certain minimum royalty amounts to maintain its exclusivity. The Company is also responsible for all costs and expenses incurred in obtaining and maintaining patents related to the Breathe Right nasal strip. The Licensor has filed patent applications with the U.S. Patent and Trademark Office seeking patent protection for different aspects of the Breathe Right nasal strip technology. The Licensor has received notice of allowance from the U.S. Patent and Trademark Office in two of its patent applications covering the Breathe Right nasal strip, including one with claims that cover the single-body construction of the Breathe Right nasal strip. A third patent application has issued as a patent, and a fourth application has received notice of allowance covering structural changes to the product. A fifth application pending has just recently been filed and remains pending. The Licensor has also obtained patent protection on the Breathe Right nasal strip in two foreign countries and has applications pending which seek patent protection in 23 additional countries. In addition to its patent position, the Company believes that its position as the first entrant in the market and the design knowledge, which the Company has protected as trade secrets, will provide the Company with advantages over possible competition. If the Licensor obtains additional patents covering the Breathe Right nasal strip, there can be no assurance that they, or the patent already issued, will effectively foreclose the development of competitive products or that the Company will have sufficient resources to pursue enforcement of any patents issued. The Company intends to aggressively enforce the patents covering the Breathe Right nasal strip, when and if they are issued. In order to enforce any patents issued covering the Breathe Right nasal strip, the Company may have to engage in litigation, which may result in substantial cost to the Company and counterclaims against the Company. Any adverse outcome of such litigation could have a negative impact on the Company's business. The Company believes its trademarks are important as protection for the Company's names and advertising. The Company has initiated opposition proceedings in the U.S. Patent and Trademark Office against two competitors that are attempting to register trademarks that are substantially similar to "Breathe Right" and has filed a trademark infringement suit against one of them. There can be no assurance that the Company's technology will not be challenged on the grounds that the Company's products infringe on patents, copyrights or other proprietary information owned or claimed by others or that others will not successfully utilize part or all of the Company's technology without compensation to the Company. The Company will attempt to protect its technologies and proprietary information as trade secrets. EMPLOYEES At March 1, 1996, the Company had 37 full-time employees, of whom 13 were engaged in operations, 12 in general administration, 10 in marketing and sales and two in new products and business development. There are no unions representing Company employees. Relations with its employees are believed to be good and there are no pending or threatened labor employment disputes or work interruptions. EXECUTIVE OFFICERS OF THE COMPANY The following table sets forth the names and ages of the Company's Executive Officers together with all positions and offices held with the Company by such Executive Officers. Officers are appointed to serve until the meeting of the Board of Directors following the next Annual Meeting of Shareholders and until their successors have been elected and have qualified. Name and Age Office ------------ ------ Daniel E. Cohen, M.D. (43) Chairman of the Board, Chief Executive Officer, Treasurer and Director Richard E. Jahnke (47) President, Chief Operating Officer and Director M. W. Anderson, Ph.D. (45) Vice President of Clinical and Regulatory Affairs David J. Byrd (42) Vice President of Finance and Chief Financial Officer William Doubek (40) Vice President of Operations Rihab FitzGerald (44) Vice President of Consumer Sales Kirk P. Hodgdon (36) Vice President of Consumer Marketing Gerhard Tschautscher (39) Vice President of International and Professional Medical Marketing Daniel E. Cohen, M.D. has served as the Company's Chairman of the Board since 1993, its Chief Executive Officer since 1989 and a director and the Treasurer since 1982 . Dr. Cohen was a founder of the Company and is a board-certified neurologist. Richard E. Jahnke has served as the Company's President and Chief Operating Officer and as a director since 1993. From 1991 to 1993, he was Executive Vice President and Chief Operating Officer of Lemna Corporation, which manufactures and sells waste water treatment systems. From 1986 to 1991, Mr. Jahnke was general manager of the government operations division of ADC Telecommunications, an electronic communications systems manufacturer. From 1982 to 1986, he was Director of Marketing and Business and Technical Development at BMC Industries, Inc. From 1972 to 1982, he held various positions of increasing responsibility in engineering, sales and marketing management at 3M Company. M. W. Anderson, Ph.D. has served as the Company's Vice President of Clinical and Regulatory Affairs and Vice President of Research and Development since 1990. He has served in various capacities since joining the Company in 1984, including Director of Applications Research and Director of Research and Development. Prior to joining the Company in 1984, Dr. Anderson was an Assistant Professor at the University of Minnesota's College of Pharmacy. David J. Byrd has served as the Company's Vice President of Finance and Chief Financial Officer since February 1996. Prior to joining the Company, Mr. Byrd was Chief Financial Officer and Treasurer of Medisys, Inc., a health care services company, since 1991. From 1975 to 1991, Mr. Byrd was employed by Coopers & Lybrand, where he was a partner from 1986 to 1991. Mr. Byrd is a certified public accountant. William Doubek has served as the Company's Vice President of Operations since 1990, Director of Operations from 1986 to 1990 and was the Company's Senior Engineer from 1982 to 1986. Prior to joining the Company in 1982, Mr. Doubek served as Senior Project Engineer at Medtronic, Inc., a manufacturer of medical devices, Senior Engineer at Micro Control Company, a manufacturer of computer testing equipment, and Electrical Engineer at Palico Instrument Company, a manufacturer of computer testing equipment. Rihab Fitzgerald has served as the Company's Vice President of Consumer Sales since August 1993, Vice President of Sales and Marketing from 1990 to August 1993 and Director of Marketing from 1985 to 1990. Prior to joining the Company in 1984, Ms. Fitzgerald was employed in sales and marketing with Nicolet Instrument Corporation, a medical devices manufacturer. Kirk P. Hodgdon has been the Company's Vice President of Marketing since February 1994. Prior to joining the Company, Mr. Hodgdon served as: Vice President-Management Supervisor at Gage Marketing Communications, a marketing services company, from 1993 to February 1994; Vice President - Account Supervisor at U.S. Communications, a marketing agency, from 1989 to 1993; and Marketing Manager at Land O'Lakes, Inc., a consumer foods cooperative, from 1988 to 1989. Gerhard Tschautscher has served as the Company's Vice President of International and Professional Medical Marketing since January 1994 and as a Company Product Director and as the International Sales Marketing and Sales Director between 1988 and December 1993. ITEM 2. PROPERTIES The Company leases approximately 80,000 square feet of office, manufacturing and warehouse space in Bloomington, Minnesota. The lease expires in December 2000. ITEM 3. LEGAL PROCEEDINGS Except as otherwise disclosed in this Form 10-K, no material legal proceedings are pending or known to be contemplated to which the Company is a party or to which any of its property is subject, and the Company knows of no material legal proceedings pending or threatened, or judgments against any director or officer of the Company in his or her capacity as such. In October 1995, an individual commenced a lawsuit against the Company in U.S. District Court for the Northern District of Ohio claiming that the Breathe Right nasal strip infringes the plaintiff's patents relating to a facial cleanser. The plaintiff is seeking an undefined amount of monetary damages from the Company and an order enjoining the Company from infringing on his patents. The plaintiff's patents cover a facial cleanser for a person's nose. The facial cleanser consists of an elongated strip which can be bent and which is formed of material suitable for scraping one's skin. The facial cleanser has gripping means in the form of indentations at the ends of the strips and an absorbent pad which is impregnated with a topically effective agent for application to the surface of the skin being cleansed. The Company believes that the suit is completely without merit and has denied all material allegations in the complaint and is vigorously defending itself based upon what it considers meritorious defenses. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not Applicable. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS PRICE RANGE OF COMMON STOCK The Common Stock of the Company has been traded under the symbol "CNXS" on the Nasdaq National Market since April 8, 1994 and was traded on the Nasdaq SmallCap Market prior to April 8, 1994. The following table sets forth the high and low bid prices of the Company's Common Stock for the periods for which it was traded on the SmallCap Market and sets forth the high and low last sale prices for the periods for which it has been traded on the National Market. The Nasdaq SmallCap Market bid quotations represent interdealer prices, without retail mark-ups, mark-downs or commissions, and may not necessarily represent actual transactions. The prices prior to June 23, 1995 have been adjusted to reflect the Company's two-for-one stock split. High Low 1994 First Quarter.................................. 4-3/4 2-15/16 Second Quarter................................. 4 2-5/8 Third Quarter.................................. 4-1/16 2-1/4 Fourth Quarter................................. 4-13/16 2-7/8 1995 First Quarter.................................. 9-5/8 4-7/16 Second Quarter ................................ 19 9-15/16 Third Quarter.................................. 24-1/4 13-1/8 Fourth Quarter................................. 17-3/8 9-1/2 On March 1, 1996, the last sale price of the Common Stock as reported on the Nasdaq National Market was $18.875. As of March 1, 1996, there were approximately 2,000 owners of record of Common Stock. DIVIDEND POLICY The Company has never paid any dividends on its Common Stock. The Company currently intends to retain any earnings for use in its operations and does not anticipate paying any cash dividends in the foreseeable future. The payment of dividends, if any, in the future will be at the discretion of the Board of Directors and will depend upon, among other things, future earnings, capital requirements, restrictions in future financing agreements, the general financial condition of the Company and general business considerations. ITEM 6. SELECTED FINANCIAL DATA SELECTED FINANCIAL DATA (Dollars in thousands, except per share data)
YEAR ENDED DECEMBER 31, 1991 1992 1993 1994 1995 (IN THOUSANDS, EXCEPT PER SHARE DATA) STATEMENTS OF OPERATIONS DATA (1): Net sales $ -- $ -- $ 93 $ 2,798 $48,632 Cost of goods sold -- -- 49 1,790 17,555 Gross profit -- -- 44 1,008 31,077 Operating expenses: Marketing and selling -- -- -- 3,100 16,695 General and administrative -- -- 440 666 1,984 Total operating expenses -- -- 440 3,766 18,679 Operating income (loss) -- -- (396) (2,758) 12,398 Other income, net -- -- 97 200 572 Income (loss) from continuing -- -- (299) (2,558) 12,970 operations before income taxes Income tax benefit -- -- -- -- 341 Income (loss) from continuing -- -- (299) (2,558) 13,311 operations Loss from operations of (840) (808) (1,132) (309) (460) discontinued sleep division Gain on sale of sleep division -- -- -- -- 1,226 Net income (loss) $ (840) $ (808) $(1,431) $(2,867) $14,077 Net income (loss) per common and common equivalent share: From continuing operations -- -- (.02) (.16) .72 From discontinued operations (.08) (.07) (.09) (.02) .04 Net income (loss) $ (.08) $ (.07) $ (.11) $ (.18) $ .76 Weighted average number of common and common equivalent shares outstanding 10,065 12,276 13,145 15,755 18,376
DECEMBER 31, 1991 1992 1993 1994 1995 (IN THOUSANDS) BALANCE SHEET DATA (1): Working capital $3,233 $5,201 $3,717 $10,790 $25,855 Total assets 3,233 5,201 3,872 11,613 32,341 Stockholders' equity 3,233 5,201 3,872 11,207 26,885
(1) Until June 1995, the Company manufactured and marketed diagnostic devices for sleep disorders. This line of business was sold in June 1995 and is reported as discontinued operations. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion of the financial condition and results of operations should be read in conjunction with the Company's audited financial statements and notes thereto appearing elsewhere in this Form 10-K. In the opinion of the Company's management, the quarterly unaudited information set forth below has been prepared on the same basis as the audited financial information, and includes all adjustments (consisting only of normal, recurring adjustments) necessary to present this information fairly when read in conjunction with the Company's Financial Statements and Notes thereto contained elsewhere in this Form 10- K. OVERVIEW The Company was founded in 1982. From 1987 until 1995, the Company designed, manufactured and marketed computer-based diagnostic devices for sleep disorders. In 1995, the Company focused on the Breathe Right nasal strip and divested itself of the assets related to its sleep disorders business. Unless otherwise noted, the following discussion of financial condition and results of operations relate only to continuing operations of the Company. The Company's revenues are derived from the manufacture and sale of the Breathe Right nasal strip. Revenue from sales is recognized when earned, generally at the time products are shipped. The Company obtained the license to manufacture and sell the Breathe Right nasal strip in 1992 and received FDA clearance in October 1993 to market the Breathe Right nasal strip as a product which improves nasal breathing. In September 1994, the Company launched its consumer marketing program which was enhanced by broad media coverage of the use of Breathe Right nasal strips by professional football players. At the same time, a number of radio and television personalities provided unsolicited endorsements of the product on national radio and television. In the first quarter of 1995, a rapid increase in demand for the product resulted in the Company being unable to secure delivery of sufficient raw materials to avoid large back orders and out of stock situations at the retail level. It took until the end of the second quarter of 1995 for the Company to eliminate the back orders and to begin building inventory. During 1995, the Company continued its marketing efforts and also focused on expanding its distribution network both domestically and internationally. In August 1995, the Company signed an exclusive international distribution agreement with 3M to market Breathe Right nasal strips outside the U.S. and Canada. At the end of 1995, Breathe Right nasal strips were available in stores which account for approximately 98% of total drug store sales volume, 99% of total mass merchant sales volume and 71% of total grocery store sales volume in the U.S. In November 1995, the Company received FDA clearance to market the Breathe Right nasal strip for the reduction or elimination of snoring and began marketing programs emphasizing the snoring benefits of the product. In February 1996, the Company received FDA clearance to market the Breathe Right nasal strip for the temporary relief of nasal congestion and thereafter launched a media program to increase consumer awareness of the benefits of the product for this application. OPERATING RESULTS The table below sets forth certain selected financial information of the Company for the periods indicated.
THREE MONTHS ENDED YEAR ENDED MAR 31, JUN 30, SEP 30, DEC 31, DEC 31, 1994 1994 1994 1994 1994 (IN THOUSANDS) STATEMENTS OF OPERATIONS DATA: Net sales $ 344 $ 529 $ 682 $ 1,243 $ 2,798 Cost of goods sold 248 364 368 809 1,790 Gross profit 96 165 314 434 1,008 Operating expenses: Marketing and selling 387 517 839 1,357 3,100 General and administrative 140 182 184 160 666 Total operating expenses 527 699 1,023 1,517 3,766 Operating income (loss) (431) (534) (709) (1,083) (2,758) Other income, net (3) 60 78 64 200 Income (loss) from continuing operations before income taxes $(434) $(474) $ (631) $(1,019) $(2,558)
THREE MONTHS ENDED YEAR ENDED MAR 31, JUN 30, SEP 30, DEC 31, DEC 31, 1995 1995 1995 1995 1995 STATEMENTS OF OPERATIONS DATA: Net sales $7,459 $18,818 $10,288 $12,066 $48,632 Cost of goods sold 2,850 7,072 3,513 4,119 17,555 Gross profit 4,609 11,746 6,775 7,947 31,077 Operating expenses: Marketing and selling 2,140 3,788 4,836 5,931 16,695 General and administrative 300 384 642 657 1,984 Total operating expenses 2,440 4,172 5,478 6,588 18,679 Operating income (loss) 2,169 7,574 1,297 1,359 12,398 Other income, net 84 124 214 149 572 Income (loss) from continuing operations before income taxes $2,253 $ 7,698 $ 1,511 $ 1,508 $12,970
The table below sets forth the percentage of net sales represented by certain items included in the Company's statement of operations for the periods indicated.
THREE MONTHS ENDED YEAR ENDED MAR 31, JUN 30, SEP 30, DEC 31, DEC 31, 1994 1994 1994 1994 1994 STATEMENTS OF OPERATIONS DATA: Net sales 100.0% 100.0% 100.0% 100.0% 100.0% Cost of goods sold 72.1 68.8 54.0 65.1 63.9 Gross profit 27.9 31.2 46.0 34.9 36.1 Operating expenses: Marketing and selling 112.5 97.7 123.0 109.1 110.8 General and administrative 40.7 34.4 27.0 12.9 23.8 Total operating expenses 153.2 132.1 150.0 122.0 134.6 Operating income (loss) (125.3) (100.9) (104.0) (87.1) (98.5) Other income, net (0.9) 11.3 11.5 5.1 7.1 Income (loss) from continuing operations before income taxes (126.2)% (89.6)% (92.5)% (82.0)% (91.4)%
THREE MONTHS ENDED YEAR ENDED MAR 31, JUN 30, SEP 30, DEC 31, DEC 31, 1995 1995 1995 1995 1995 STATEMENTS OF OPERATIONS DATA: Net sales 100.0% 100.0% 100.0% 100.0% 100.0% Cost of goods sold 38.2 37.6 34.2 34.1 36.1 Gross profit 61.8 62.4 65.8 65.9 63.9 Operating expenses: Marketing and selling 28.7 20.1 47.0 49.2 34.3 General and administrative 4.0 2.1 6.2 5.4 4.1 Total operating expenses 32.7 22.2 53.2 54.6 38.4 Operating income (loss) 29.1 40.2 12.6 11.3 25.5 Other income, net 1.1 0.7 2.1 1.2 1.2 Income (loss) from continuing operations before income taxes 30.2% 40.9% 14.7% 12.5% 26.7%
1995 COMPARED TO 1994 NET SALES. Net sales increased to $48.6 million for 1995 from $2.8 million for 1994. Breathe Right nasal strip sales increased as a result of expanded consumer advertising and an increase in the number of retail outlets selling the product. In the first quarter of 1995, a rapid increase in demand for the product resulted in the Company being unable to avoid large back orders and out of stock situations. As a result, net sales for the three months ended June 30, 1995 included approximately $7 million of back orders received in the prior quarter. The Company believes that much of the product sold during the nine months ended September 30, 1995 represented an increase in inventory levels at existing and new retail outlets and initial stocking of inventory of additional box and size configurations of the product. As a result, the Company does not expect that the quarterly sales patterns for the first three quarters of 1996 will be directly comparable to the first three quarters of 1995. GROSS PROFIT. Gross profit was $31.1 million for 1995 compared to $1.0 million for 1994. Gross profit as a percentage of net sales improved to 63.9% for 1995 and 65.9% for the three months ended December 31, 1995 compared to 36.1% for 1994, primarily as a result of efficiencies realized from the higher level of Breathe Right nasal strip sales and cost reduction programs initiated by the Company. The Company is continuing efforts to reduce the manufacturing costs of the product and improve gross profit margins on domestic sales. The Company obtains lower gross profit margins on international sales because the Company sells product to 3M at a price lower than its sales price in domestic markets. In connection with these international sales, 3M is responsible for substantially all of the operating expenses and a portion of the packaging costs. MARKETING AND SELLING EXPENSES. Marketing and selling expenses were $16.7 million for 1995 compared to $3.1 million for 1994. This increase resulted primarily from the marketing expenses associated with a full year of consumer advertising for the Breathe Right nasal strip. The Company anticipates that the total dollar amount spent on marketing and selling will increase in 1996, in part as a result of increased television advertising. Marketing and selling expenses as a percentage of net sales decreased to 34.3% in 1995 from 110.8% in 1994 as a result of the higher level of sales. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses were $2.0 million for 1995 compared to $666,000 for 1994. This increase resulted from the additional personnel and systems required to support growth of the Breathe Right nasal strip business. The Company intends to increase expenditures for the development of new products and on information systems personnel during 1996. General and administrative expenses as a percentage of net sales decreased to 4.1% in 1995 from 23.8% in 1994 primarily as a result of the higher level of sales. OTHER INCOME, NET. Other income, net was $572,000 for 1995 compared to $200,000 for 1994, resulting from investment of funds from the sale of the Company's sleep disorder diagnostic products business. INCOME TAX BENEFIT. The income tax benefit for 1995 of $341,000 resulted from the recognition of the benefit of net operating losses and credit carry forwards from prior years and the elimination of the valuation allowance on reinstatement of deferred tax assets due to the Company's expected future taxable income. There are no net operating loss carry forwards available for future years. 1994 COMPARED TO 1993 NET SALES. Net sales for 1994 were $2.8 million compared to $93,000 for 1993. During the fourth quarter of 1994, sales of the Breathe Right nasal strip increased significantly due to an increase in consumer awareness of the product from its use by professional athletes in several sports. In addition, the Company commenced national consumer advertising in newspapers and magazines and expanded its distribution network. GROSS PROFIT. Gross profit for 1994 was $1.0 million compared to $44,000 for 1993. The increase in gross profit was due to increased sales of the Breathe Right nasal strip in 1994. MARKETING AND SELLING EXPENSES. Marketing and selling expenses related to the Breathe Right nasal strip were $3.1 million in 1994 compared to no expenses in 1993. These expenses resulted from the marketing expenses associated with establishing distribution channels, trade advertisements, consumer advertisements, and other product roll-out items for the Breathe Right nasal strip. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses for 1994 were $666,000 compared to $440,000 for 1993. This increase resulted from additional personnel and systems required to support the Breathe Right nasal strip. OTHER INCOME, NET. Other income, net was $200,000 in 1994 compared to $97,000 in 1993 reflecting the increased cash available for investment and higher interest rates during 1994. SEASONALITY The Company began marketing the Breathe Right nasal strip on a broad scale in September 1994. Given the short time frame since introduction of the Breathe Right nasal strip and the rapid revenue growth experienced by the Company in 1995, it is difficult to ascertain what, if any, impact seasonality has had on sales of the Breathe Right nasal strip during 1995. The Company believes that sales of the product for the temporary relief of nasal congestion may be higher during the fall and winter seasons because of increased use during the cold season. If such seasonality occurs, the Company expects its net sales and operating income to be relatively higher in the first and fourth quarters. In November 1995, the Company received FDA clearance to market the Breathe Right nasal strip for the reduction or elimination of snoring. The Company believes that sales of the product for the snoring application may be marginally higher during the allergy seasons, which occur during the second and third quarters. Accordingly, the Company is unable to predict the extent to which its business will be affected by seasonality. LIQUIDITY AND CAPITAL RESOURCES At December 31, 1995, the Company had cash, cash equivalents and marketable securities of $10.5 million, working capital of $25.9 million and a $1.25 million line of credit with a bank, subject to certain borrowing base restrictions. OPERATING ACTIVITIES. The Company used cash for operations of approximately $1.5 million for 1995 compared with a use of cash of $4.2 million for 1994. The improved cash flow was due to an increase in income from continuing operations offset by increases in accounts receivable and inventories resulting from higher sales levels. INVESTING ACTIVITIES. The Company purchased $384,000 of property and equipment in 1995 compared to $229,000 in 1994 to support increases in sales of the Breathe Right nasal strip. Capitalized patent and trademark costs were approximately $73,000 in 1995 compared to $91,000 in 1994. The Company currently expects to spend up to an aggregate of $7.5 million on capital expenditures in 1996 and 1997 in order to among other things supplement its in-house manufacturing capability and to expand and upgrade management information systems. The Company has not yet finalized its plans for these expenditures or received bids on these projects. The final amount of the expenditures as well as the timing of the expenditures may be subject to change. FINANCING ACTIVITIES. In June 1995, the Company sold all the assets of its sleep disorder diagnostic products business. Proceeds from the sale included $5.0 million cash and a note receivable of $596,000 that was collected later in 1995. The Company also received $1.1 million in 1995 from the exercise of stock options and warrants. In 1994 the Company completed a public offering of common stock for $9.7 million and received $507,000 from the exercise of stock options and warrants. At December 31, 1995, the Company had a $1.25 million bank line of credit. Borrowings are due on demand, bear interest at 1% over a defined base rate (8.5% at December 31, 1995), are secured by substantially all assets of the Company and are subject to certain restrictive covenants. Borrowings are limited to the lesser of $1.25 million or 75% of eligible accounts receivable. There were no borrowings against this line of credit as of December 31, 1995. The credit line expires on March 31, 1996. The Company believes that its existing funds and funds generated from operations, together with any proceeds received in its pending public offering of Common Stock, will be sufficient to support its planned operations for the foreseeable future. RECENT ACCOUNTING PRONOUNCEMENTS In March 1995, the Financial Accounting Standards Board issued Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of (SFAS No. 121). SFAS No. 121 prescribes accounting and reporting standards when circumstances indicate that the carrying amount of an asset may not be recoverable. The Company adopted SFAS No. 121 during 1995 and it had no impact on the Company's financial statements. In October 1995, the Financial Accounting Standards Board issued Statement No. 123, Accounting for Stock-Based Compensation. In 1996, the Company intends to adopt the disclosure provisions of this Statement while continuing to account for options and other stock-based compensation using the intrinsic value based method. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA See Item 14 for a listing of the financial information filed with this Form 10-K. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not applicable. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT Certain information required under this Item with respect to directors is contained in the Section "Election of Directors" in the Company's Proxy Statement for the Annual Meeting of Shareholders to be held in April 1996 (the "1996 Proxy Statement"), a definitive copy of which will be filed with the Commission within 120 days of the close of the past fiscal year, and is incorporated herein by reference. Information concerning executive officers is set forth in the Section entitled "Executive Officers of the Company" in Part I of this Form 10-K pursuant to Instruction 3 to paragraph (b) of Item 401 of Regulation S-K. ITEM 11. EXECUTIVE COMPENSATION Information required under this item is contained in the section entitled "Executive Compensation" in the 1996 Proxy Statement and is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information required under this item is contained in the section entitled "Security Ownership of Principal Shareholders and Management" in the Company's 1996 Proxy Statement and is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Not applicable. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K a. Documents filed as part of this Report: 1. Financial Statements. At page F-1, see Index to Financial Statements which are attached hereto beginning at page F-2. 2. Financial Statement Schedules. At page S-1, see Index to Financial Statement Schedules which are attached hereto beginning on page S-2. 3. Exhibits. See "Exhibit Index" on the page following the Financial Statement Schedules. b. Reports on Form 8-K. The Company did not file a report on Form 8-K during the fourth quarter ended December 31, 1995. 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. CNS, INC. ("Registrant") Dated: March 8, 1996 By /s/ Daniel E. Cohen, M.D. -------------------------- Daniel E. Cohen, M.D. Chairman of the Board, Chief Executive Officer, Treasurer and Director Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed by the following persons on March 8, 1996 on behalf of the Registrant in the capacities indicated. (Power of Attorney) Each person whose signature appears below constitutes and appoints DANIEL E. COHEN, M.D. and PATRICK DELANEY as his true and lawful attorneys-in-fact and agents, each acting alone, with the full power of substitution and resubstitution, for him and in his name, place and stead, in any and all capacities, to sign any or all amendments to this Annual Report on Form 10-K and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, each acting alone, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming all said attorneys-in-fact and agents, each acting alone, or his substitute or substitutes, may lawfully do or cause to be done by virtue thereof. /s/ Daniel E. Cohen, M.D. Daniel E. Cohen, M.D. Chairman of the Board and Chief Executive Officer, Treasurer and Director (Principal Executive Officer) /s/ Richard E. Jahnke Richard E. Jahnke Director, President and Chief Operating Officer /s/ David J. Byrd David J. Byrd Vice President of Finance and Chief Financial Officer (Principal Financial and Accounting Officer) /s/ Patrick Delaney Patrick Delaney Director /s/ R. Hunt Greene R. Hunt Greene Director /s/ Andrew J. Greenshields Andrew J. Greenshields Director /s/ Richard W. Perkins Richard W. Perkins Director CNS, INC. INDEX TO FINANCIAL STATEMENTS
PAGE Independent Auditors' Report F-2 Balance Sheets as of December 31, 1994 and 1995 F-3 Statements of Operations for the Years Ended December 31, 1993, 1994, and 1995 F-4 Statements of Stockholders' Equity for the Years Ended December 31, 1993, 1994, and 1995 F-5 Statements of Cash Flows for the Years Ended December 31, 1993, 1994, and 1995 F-6 Notes to Financial Statements F-7
INDEPENDENT AUDITORS' REPORT The Board of Directors and Stockholders CNS, Inc.: We have audited the accompanying balance sheets of CNS, Inc. as of December 31, 1994 and 1995 and the related statements of operations, stockholders' equity, and cash flows for each of the years in the three-year period ended December 31, 1995. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of CNS, Inc. as of December 31, 1994 and 1995 and the results of its operations and its cash flows for each of the years in the three-year period ended December 31, 1995 in conformity with generally accepted accounting principles. KPMG Peat Marwick LLP Minneapolis, Minnesota January 26, 1996 CNS, INC. BALANCE SHEETS DECEMBER 31, 1994 AND 1995 ASSETS
1994 1995 Current assets: Cash and cash equivalents $ 783,704 $ 8,551,919 Marketable securities 5,240,662 1,950,354 Accounts receivable, net of allowance for doubtful accounts 936,279 7,830,793 of $55,000 in 1994 and $201,000 in 1995 Inventories 1,125,009 11,100,909 Prepaid expenses and other current assets 245,619 997,674 Deferred income taxes 0 879,000 Net assets of discontinued operations 2,865,520 0 Total current assets 11,196,793 31,310,649 Property and equipment, net 303,574 558,999 Patents and trademarks, net 112,504 126,887 Certificate of deposit, restricted 0 320,000 Deferred income taxes 0 24,000 $ 11,612,871 $32,340,535 LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 272,039 $ 3,778,077 Accrued expenses 134,297 1,169,116 Accrued income taxes 0 508,000 Total current liabilities 406,336 5,455,193 Stockholders' equity: Common stock--$.01 par value: Authorized 50,000,000 shares; issued and outstanding 170,416 173,878 17,041,656 shares in 1994 and 17,387,852 shares in 1995 Additional paid-in capital 24,229,583 25,828,434 Retained earnings (deficit) (13,193,464) 883,030 Total stockholders' equity 11,206,535 26,885,342 Commitments (notes 10 and 11) $ 11,612,871 $32,340,535
The accompanying notes are an integral part of the financial statements. CNS, INC. STATEMENTS OF OPERATIONS YEARS ENDED DECEMBER 1993, 1994, AND 1995
1993 1994 1995 Net sales $ 93,352 $ 2,798,174 $48,631,855 Cost of goods sold 48,512 1,789,545 17,554,413 Gross profit 44,840 1,008,629 31,077,442 Operating expenses: Marketing and selling 0 3,099,806 16,695,428 General and administrative 440,394 666,459 1,983,928 Total operating expenses 440,394 3,766,265 18,679,356 Operating income (loss) (395,554) (2,757,636) 12,398,086 Other income (expense): Interest income 21,801 207,480 583,919 Interest expense (15,000) (7,945) (12,500) Other income 90,000 0 0 Other income, net 96,801 199,535 571,419 Income (loss) from continuing operations (298,753) (2,558,101) 12,969,505 before income taxes Income tax benefit 0 0 341,000 Income (loss) from continuing operations (298,753) (2,558,101) 13,310,505 Loss from operations of discontinued sleep division (1,132,020) (309,314) (459,901) (less applicable income tax benefit of $0, $0, and $259,000 in 1993, 1994, and 1995, respectively) Gain on sale of sleep division (less applicable 0 0 1,225,890 income taxes of $0, $0, and $690,000 in 1993, 1994, and 1995, respectively) Net income (loss) $(1,430,773) $(2,867,415) $14,076,494 Net income (loss) per common and common equivalent share: From continuing operations $ (0.02) $ (0.16) $ 0.72 From discontinued operations (0.09) (0.02) 0.04 Net income (loss) per share $ (0.11) $ (0.18) $ 0.76 Weighted average number of common and common equivalent shares outstanding 13,145,276 15,754,586 18,375,525
The accompanying notes are an integral part of the financial statements. CNS, INC. STATEMENTS OF STOCKHOLDERS' EQUITY YEARS ENDED DECEMBER 31, 1993, 1994, AND 1995
COMMON STOCK ADDITIONAL RETAINED TOTAL NUMBER PAR PAID-IN EARNINGS STOCKHOLDERS' OF SHARES VALUE CAPITAL (DEFICIT) EQUITY Balance at December 31, 1992 13,124,202 $131,242 $13,964,561 $ (8,895,276) $ 5,200,527 Stock issued in connection with 21,502 216 32,165 0 32,381 Employee Stock Purchase Plan Stock options exercised 57,400 574 68,797 0 69,371 Net loss for the year 0 0 0 (1,430,773) (1,430,773) Balance at December 31, 1993 13,203,104 132,032 14,065,523 (10,326,049) 3,871,506 Proceeds from public stock 3,450,000 34,500 9,627,382 0 9,661,882 offering less issuance costs of $1,119,368 Stock issued in connection with 15,552 154 33,676 0 33,830 Employee Stock Purchase Plan Stock options exercised 133,000 1,330 163,352 0 164,682 Warrants exercised 240,000 2,400 339,600 0 342,000 Warrants issued 0 0 50 0 50 Net loss for the year 0 0 0 (2,867,415) (2,867,415) Balance at December 31, 1994 17,041,656 170,416 24,229,583 (13,193,464) 11,206,535 Stock issued in connection with 5,365 54 22,377 0 22,431 Employee Stock Purchase Plan Stock options exercised 129,870 1,299 379,034 0 380,333 Tax benefit from stock options 0 0 485,000 0 485,000 exercised Warrants exercised, less 210,961 2,109 712,440 0 714,549 issuance costs of $35,438 Net income for the year 0 0 0 14,076,494 14,076,494 Balance at December 31, 1995 17,387,852 $173,878 $25,828,434 $ 883,030 $26,885,342
The accompanying notes are an integral part of the financial statements. CNS, INC. STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31, 1993, 1994 AND 1995
1993 1994 1995 Operating activities: Net income (loss) $(1,430,773) $(2,867,415) $14,076,494 Adjustments to reconcile net income (loss) to net cash used in operating activities: Net gain on sale of assets of discontinued 0 0 (1,915,890) operations Depreciation and amortization 3,886 59,707 184,135 Deferred income taxes 0 0 (418,000) Loss on sale of fixed assets 0 0 3,293 Changes in operating assets and liabilities: Accounts receivable (191,727) (744,552) (6,894,514) Inventories (407,383) (717,626) (9,975,900) Prepaid expenses and other current assets (50,135) (195,484) (752,055) Net assets of discontinued operations 890,745 205,433 (814,201) Accounts payable 235,879 36,160 3,506,038 Accrued expenses 115,502 18,795 1,034,819 Accrued income taxes 0 0 508,000 Net cash used in operating activities (834,006) (4,204,982) (1,457,781) Investing activities: Change in marketable securities 0 (5,240,662) 3,290,308 Payments for purchases of property and equipment (99,215) (229,414) (383,810) Payments for patents and trademarks (60,136) (90,906) (73,426) Purchase of certificate of deposit, restricted 0 0 (320,000) Net proceeds from promissory note 0 0 595,611 Net cash provided by (used in) investing activities (159,351) (5,560,982) 3,108,683 Financing activities: Net proceeds from sale of discontinued operations 0 0 5,000,000 Net proceeds from public stock offering 0 9,661,932 0 Proceeds from the issuance of common stock 32,381 33,830 22,431 under Employee Stock Purchase Plan Proceeds from the exercise of stock options 69,371 164,682 380,333 Proceeds from exercise of common stock warrants 0 342,000 714,549 Net cash provided by financing activities 101,752 10,202,444 6,117,313 Net (decrease) increase in cash and (891,605) 436,480 7,768,215 cash equivalents Cash and cash equivalents: Beginning of year 1,238,829 347,224 783,704 End of year $ 347,224 $ 783,704 $ 8,551,919 Supplemental disclosure of cash flow information: Cash paid during the year for interest $ 10,000 $ 12,945 $ 12,500
Supplemental schedule of noncash operating and investing activities: A note receivable of $595,611 was obtained in 1995 as a result of the sale of the Sleep Products Disorder Diagnostic Division. The accompanying notes are an integral part of the financial statements. CNS, INC. NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 1994 AND 1995 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BUSINESS CNS, Inc. (the "Company"), designs, manufactures and markets consumer products, primarily the Breathe Right nasal strip. The Breathe Right nasal strip is a nonprescription, single use, disposable device that can reduce or eliminate snoring by improving nasal breathing and temporarily relieve nasal congestion. The Breathe Right nasal strip is sold over-the-counter in retail outlets, including drug, grocery and mass merchant stores, primarily in the U.S. During 1995, the Company signed an international distribution agreement with 3M Company to market Breathe Right nasal strips outside the U.S. and Canada. REVENUE RECOGNITION Revenue from sales is recognized at the time products are shipped. ACCOUNTING ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. FAIR VALUE OF FINANCIAL INSTRUMENTS Statement of Financial Accounting Standards No. 107, Disclosures about Fair Value of Financial Instruments requires disclosure of the fair value of all financial instruments to which the company is a party. All financial instruments are carried at amounts that approximate estimated fair value. CASH EQUIVALENTS Cash equivalents at December 31, 1995 consist primarily of U.S. Treasury bills. For purposes of the statements of cash flows, the Company considers all highly liquid debt instruments purchased with a maturity of three months or less to be cash equivalents. MARKETABLE SECURITIES The Company classifies its marketable debt securities as available-for-sale and records these securities at fair market value. Net realized and unrealized gains and losses are determined on the specific identification cost basis. Any unrealized gains and losses are reflected as a separate component of stockholders' equity. A decline in the market value of any available-for-sale or held-to-maturity security below cost that is deemed other than temporary, results in a charge to operations resulting in the establishment of a new cost basis for the security. INVENTORIES Inventories are valued at the lower of cost (determined on a first-in, first-out basis) or market. PROPERTY AND EQUIPMENT Property and equipment are stated at cost. Equipment is depreciated using the straight-line method over five years. Leasehold improvements are amortized over the lesser of the estimated useful life of the improvement or the term of the lease. PATENTS AND TRADEMARKS Patents and trademarks are stated at cost and are amortized over three years using the straight-line method. FOREIGN SALES Foreign sales are made in U.S. dollars only. There are no currency conversions. ADVERTISING The Company adopted Statement of Position No. 93-7, Reporting on Advertising Costs, January 1, 1995. This SOP requires that all advertising costs be expensed as incurred or the first time the advertising takes place, except for direct response advertising, which can be capitalized and written off over the period during which the benefits are expected. The adoption did not have a material effect on the financial statements of the Company. INCOME TAXES The Company accounts for income taxes in accordance with Statement of Financial Accounting Standards No. 109, Accounting for Income Taxes. Under this method, deferred tax liabilities and assets and the resultant provision for income taxes are determined based on the difference between the financial statement and tax bases of assets and liabilities using enacted tax rates in effect for the year in which the differences are expected to reverse. NET INCOME (LOSS) PER SHARE Net income per share has been computed based upon the weighted average number of common and common equivalent shares outstanding during the year. Net loss per common share has been computed using the weighted average number of common shares outstanding during the year. All share and per share amounts in the accompanying financial statements have been retroactively adjusted to reflect a two-for-one stock split to stockholders of record on June 1, 1995, which was distributed on June 22, 1995. The par value remained at $.01 per share. RECENT ACCOUNTING PRONOUNCEMENTS In March 1995 the Financial Accounting Standards Board issued Statement No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of (SFAS No. 121). SFAS No. 121 prescribes accounting and reporting standards when circumstances indicate that the carrying amount of an asset may not be recoverable. The Company adopted SFAS No. 121 during 1995, which had no impact on the financial statements. In October 1995 the Financial Accounting Standards Board issued Statement No. 123, Accounting for Stock-Based Compensation. In 1996 the Company intends to adopt the disclosure provisions of the statement while continuing to account for options and other stock-based compensation using the intrinsic value-based method. 2. SALE OF DIVISION On June 1, 1995 the Company completed the sale of all the assets of its Sleep Disorder Diagnostic Products Division ("Sleep"). Net sale proceeds of $5,000,000 cash and a note receivable of $595,611 resulted in a gain on the sale of discontinued operations of $1,915,890. The net loss of this operation is shown on the statement of operations as the loss from discontinued operations. The net assets of Sleep were $2,865,520 at December 31, 1994. 3. MARKETABLE SECURITIES Marketable securities consist of U.S. Treasury bills and a U.S. Government money market fund. Investments are recorded at cost plus accrued interest earned. Due to the short-term maturity of the Company's marketable securities, the market value approximates their carrying value. 4. ADVERTISING The Company expenses the production costs of advertising the first time the advertising takes place. At December 31, 1994 and 1995 $226,969 and $561,493, respectively, of advertising costs were reported as assets. Advertising expense was $0, $2,429,205, and $11,839,033 in 1993, 1994, and 1995, respectively. 5. DETAILS OF SELECTED BALANCE SHEET ACCOUNTS
DECEMBER 31, 1994 1995 Inventories: Finished goods $ 932,407 $ 9,364,102 Work in process 171 199,765 Raw materials and component parts 192,431 1,537,042 Total inventories $1,125,009 $11,100,909 Property and equipment: Production equipment $ 248,368 $ 526,717 Office equipment 68,135 127,491 Leasehold improvements 12,126 46,105 328,629 700,313 Less accumulated depreciation and 25,055 141,314 amortization Property and equipment, net $ 303,574 $ 558,999 Patents and trademarks: Patents and trademarks $ 151,042 $ 224,468 Less accumulated amortization (38,538) (97,581) Patents and trademarks, net $ 112,504 $ 126,887 Accrued expenses: Royalty and commissions (draws) $ (10,901) $ 643,008 Promotions 29,950 385,657 Vacations 61,692 102,221 Other 53,556 38,230 Total accrued expenses $ 134,297 $ 1,169,116
6. LINE OF CREDIT The Company has a $1.25 million bank line of credit. Borrowings are due on demand, bear interest at 1% over a defined base rate (8.5% at December 31, 1995), are secured by substantially all assets of the Company, and are subject to certain restrictive covenants. Borrowings are limited to $1,250,000 or 75% of eligible accounts receivable. There were no borrowings against this line of credit as of December 31, 1995. The line of credit expires on March 31, 1996. 7. STOCKHOLDERS' EQUITY STOCK OPTIONS The Company's stock option plans allow for grant of options to officers, directors, and employees to purchase up to 2,200,000 shares of common stock at exercise prices not less than 100% of fair market value on the dates of grant. The term of the options may not exceed ten years. Stock option activity under these plans is summarized as follows:
OPTION PRICE AVAILABLE PER SHARE OUTSTANDING FOR GRANT Balance at December 31, 1992 $ 1.155 - 2.125 353,400 717,222 Granted 1.3125 - 2.3125 386,000 (386,000) Exercised 1.155 - 2.125 (57,400) 0 Balance at December 31, 1993 1.155 - 2.3125 682,000 331,222 1994 plan - 0 1,000,000 Granted 3.095 - 4.125 530,000 (530,000) Exercised 1.155 - 2.3125 (133,000) 0 Canceled 1.47 - 2.3125 (31,400) 31,400 Balance at December 31, 1994 1.155 - 3.50 1,047,600 832,622 Granted 4.50 - 16.125 698,000 (698,000) Exercised 1.155 - 11.375 (129,870) 0 Canceled 2.125 - 5.50 (107,430) 107,430 Balance at December 31, 1995 $ 1.155 - 16.125 1,508,300 242,052
Currently exercisable options aggregated 263,040 shares and 653,000 shares of common stock at December 31, 1994 and 1995, respectively. The 1990 stock option plan allows for the grant of shares of restricted common stock. No shares of restricted common stock have been granted under this plan as of December 31, 1995. EMPLOYEE STOCK PURCHASE PLAN The Employee Stock Purchase Plan allows eligible employees to purchase shares of the Company's common stock through payroll deductions. The purchase price is the lower of 85% of the fair market value of the stock on the first or last day of each six-month period during which an employee participated in the plan. The Company has reserved 200,000 shares under the plan of which 135,493 shares have been purchased by employees as of December 31, 1995. WARRANTS During 1995 warrants to purchase 200,000 shares at $3.75 were exercised. The warrants had been issued in 1994 to the underwriter of the Company's 1994 public stock offering. In connection with an agreement to license a product to be marketed as the Breathe Right device, the licenser was issued a warrant to purchase 100,000 shares of the Company's common stock exercisable at a price of $2.75 per share which expires March 1997. During 1995 a total of 12,500 shares were exercised. During 1994 warrants to purchase 240,000 shares at $1.425 were exercised. The warrants had been issued in 1992 to the underwriter of the Company's 1992 public stock offering. PREFERRED STOCK At December 31, 1995, the Company is authorized to issue 1,000,000 shares of Series A Junior Participating Preferred Stock upon a triggering event under the Company's stockholders' Rights Plan and 7,483,589 shares of undesignated preferred stock. 8. INCOME TAXES Income tax expense (benefit), from continuing operations, for the three years ended December 31, 1995, excluding tax on discontinued operations, is as follows (in thousands):
CURRENT DEFERRED TOTAL 1995: Federal $532 $(853) $(321) State 30 (50) (20) $562 $(903) $(341)
There was no tax expense in 1994 and 1993. Income tax expense (benefit) attributable to income from continuing operations differed from the amounts computed by applying the U.S. federal income tax rate of 35% as a result of the following (in thousands):
DECEMBER 31, 1993 1994 1995 Computed tax expense (benefit) $(105) $(895) $ 4,539 State taxes, net of federal benefit 0 0 389 Change in income tax benefit resulting from tax benefit of 105 895 0 net operating loss not recognized for financial statement purposes Change in deferred tax asset valuation allowance 0 0 (5,439) Other 0 0 170 Actual tax expense (benefit) $ 0 $ 0 $ (341)
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities calculated using an effective tax rate of 40% and 37% for 1994 and 1995, respectively, are presented below (in thousands):
DECEMBER 31, 1994 1995 Deferred tax assets: Inventory items $ 214 $275 Accounts receivable allowance 53 74 Property and equipment 0 25 Accrued expenses 120 213 Deferred maintenance 113 0 contracts Tax credits 312 316 Net operating loss 4,686 0 5,498 903 Less valuation allowance 5,439 0 59 903 Deferred tax liabilities: Property and equipment (59) 0 Net deferred tax assets $ 0 $903
A valuation allowance is provided when there is some likelihood that all or a portion of a deferred tax asset may not be realized. The Company has determined that establishing a valuation allowance for the deferred tax assets as of December 31, 1995 is not required since it is more likely than not that the deferred tax assets will be realized principally through future taxable income. Based on tax rates in effect at December 31, 1995 approximately $2,500,000 of future taxable income is required prior to December 31, 2009 for full realization of the net deferred tax asset. The Company has federal and state tax credit carryforwards of $316,000 at December 31, 1995 which are available to reduce income taxes payable in future years and expire between 1999 and 2009. 9. SALES The Company had two significant customers who accounted for approximately 37% of Breathe Right product sales for the year ended December 31, 1994 and had one significant customer who accounted for approximately 13% of Breathe Right product sales for the year ended December 31, 1995. Accounts receivable from these customers as of December 31, 1994 and 1995 were $388,386 and $1,319,137, respectively. Foreign sales were not significant in 1993, 1994 or 1995. 10. LICENSE AGREEMENT On January 30, 1992 the Company entered into an agreement to exclusively license a product to be marketed as the Breathe Right device. Royalties due under this agreement are based on a sliding percentage of sales beginning at 5% and declining to 3%. Future royalties will be at 3%. To maintain the Company's license, it must make minimum royalty payments of $160,000 in 1996; $300,000 in 1997; and $450,000 each year thereafter until the patent for the product expires. Royalty expense in 1993, 1994, and 1995 was $20,000, $110,844, and $1,458,473, respectively. 11. OPERATING LEASES The Company leases equipment and office space under noncancelable operating leases which expire over the next five years. Future minimum lease payments due in accordance with these leases as of December 31, 1995 are as follows:
YEAR ENDING DECEMBER 31, AMOUNT 1996 $ 319,028 1997 402,410 1998 402,410 1999 402,410 2000 368,876 $1,895,134
Total rental expense for operating leases was $351,659 in 1993, $350,859 in 1994, and $376,873 in 1995. The Company's office space lease requires a $320,000 letter of credit to remain with the lessor. The letter of credit is secured by a $320,000 certificate of deposit which bears interest at 5.75% per annum and matures on April 30, 1998. CNS, INC. INDEX TO FINANCIAL STATEMENT SCHEDULES Schedule Designation (if applicable) Description Page - --------------- ----------- ---- Independent Auditors' S-2 Report on Financial Statement Schedules II Valuation and Qualifying S-3 Accounts All other schedules are omitted as the required information is inapplicable or the information is presented in the financial statements or related notes. INDEPENDENT AUDITORS' REPORT ON FINANCIAL STATEMENT SCHEDULE The Board of Directors and Stockholders CNS, Inc.: Under date of January 26, 1996, we reported on the balance sheets of CNS, Inc. as of December 31, 1995 and 1994, and the related statements of operations, stockholders' equity and cash flows, for each of the years in the three-year period ended December 31, 1995, as contained in the 1995 annual report on Form 10-K to stockholders. These financial statements and our report thereon are included in the 1995 annual report on Form 10-K. In connection with our audits of the aforementioned financial statements, we also have audited the related financial statement schedule as listed in the accompanying index. This financial statement schedule is the responsiblity of the Company's management. Our responsiblity is to express an opinion on this financial statement schedule based on our audits. In our opinion, such financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. KPMG Peat Marwick LLP Minneapolis, Minnesota January 26, 1996 Schedule II CNS, INC. VALUATION AND QUALIFYING ACCOUNTS
Balance Balance at the Additions at the beginning charged to end of period expense Deductions of period --------- ------- ---------- --------- Year ended December 31, 1993: Allowance for doubtful accounts $ 0 0 0 $ 0 Year ended December 31, 1994: Allowance for doubtful accounts $ 0 54,600 0 $ 54,600 Year ended December 31, 1995: Allowance for doubtful accounts $54,600 154,502 8,113 $200,989
CNS, INC. EXHIBIT INDEX Exhibit No. Description 3.1 Company's Certificate of Incorporation as amended to date. 3.1.1 Certificate of Retirement for the Preferred Stock of the Company which was redeemed and converted to Common Stock on April 16, 1992 (incorporated by reference to Exhibit 3.1.1 to the Company's Registration Statement on Form S-2 filed with the Commission on March 2, 1994 (the "1994 Form S-2")). 3.1.2 Certificate of Designation, Preferences and Rights of Series A Junior Participating Preferred Stock (incorporated by reference to Exhibit 1 to the Company's Form 8-A dated July 21, 1995). 3.2 Company's Amended By-Laws (incorporated by reference to Exhibit 3.2 to the Company's Annual Report on Form 10-K for the year ended December 31, 1991 (the "1991 Form 10-K")). 10.1 CNS, Inc. 1987 Employee Incentive Stock Option Plan (incorporated by reference to Exhibit 10.1 to the Company's Registration Statement on Form S-18, Commission File No. 33-14052C (the "Form S-18")). 10.2 Employment Agreement between the Company and Dr. Daniel E. Cohen dated February 13, 1984 (incorporated by reference to Exhibit 10.6 to the Form S-18.) 10.2.1 Memorandum dated February 7, 1991 amending Employment Agreement between the Company and Dr. Daniel E. Cohen (incorporated by reference to Exhibit 10.5.1 to the 1991 Form 10-K). 10.2.2 Amendment dated as of January 1, 1994 to Employment Agreement between the Company and Dr. Daniel E. Cohen (incorporated by reference to Exhibit 10.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1995 (the "March 31, 1995 Form 10- Q)). 10.3 Loan Agreement with Riverside Bank dated March 31, 1995 (incorporated by reference to Exhibit 10.3 to the March 31, 1995 Form 10-Q). 10.4 CNS, Inc. 1989 Employee Stock Purchase Plan (incorporated by reference to Exhibit 10.9 to the Company's Registration Statement on Form S-8, Commission File No. 33-29454). 10.5 CNS, Inc. 1990 Stock Plan (incorporated by reference to Exhibit 10.11 to the Company's Annual Report on Form 10-K for the year ended December 31, 1990). 10.6 Employment Agreement dated February 22, 1988 between the Company and William Doubek (incorporated by reference to Exhibit 10.9 to the Company's Registration Statement on Form S-2, Commission File No. 33-46120 (the "1992 Form S-2")). 10.7 License Agreement dated January 30, 1992 between the Company and Creative Integration and Design, Inc. (incorporated by reference to Exhibit 10.11 to the 1992 Form S-2). 10.8 Employment Agreement dated March 8, 1993 between the Company and Richard E. Jahnke (incorporated by reference to Exhibit 10.16 to the Company's Annual Report on Form 10-K for the year ended December 31, 1992). 10.8.1 Amendment dated as of January 1, 1994 to Employment Agreement between the Company and Richard E. Jahnke (incorporated by reference to Exhibit 10.1 to the March 31, 1995 Form 10- Q). 10.9 Employment Agreement dated February 21, 1994 between the Company and Kirk Hodgdon (incorporated by reference to Exhibit 10.18 to the 1994 Form S-2). 10.10 CNS, Inc. 1994 Stock Plan (incorporated by reference to Exhibit 10.14 to the Company's Annual Report on Form 10-K for the year ended December 31, 1994). 10.11 Distribution Agreement dated August 2, 1995 between the Company and Minnesota Mining and Manufacturing Company (certain information has been omitted from this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2). 10.12 Supply Agreement dated May 17, 1995 between the Company and Minnesota Mining and Manufacturing Company (certain information has been omitted from this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2). 10.13 Asset Purchase Agreement dated May 8, 1995 between the Company and Aequitron Medical, Inc. (incorporated by reference to Exhibit 10.4 to the March 31, 1995 Form 10-Q). 10.14 Non-Exclusive Distributorship Agreement dated May 8, 1995 between the Company and Aequitron Medical, Inc. (incorporated by reference to Exhibit 10.5 to the March 31, 1995 Form 10-Q). 10.15 License Agreement dated January 24, 1996 between the Company and Ronald S. Nietupsky (certain information has been omitted from this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2). 10.16 License Agreement dated February 26, 1996 between the Company and Scott Dahlbeck, M.D. (certain information has been omitted from this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2). 10.17 Option Agreement dated October 5, 1995 between the Company and TruTek Corp. (certain information has been omitted from this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2). 10.18 Marketing and Distribution Agreement dated as of January 11, 1996 between the Company, Natus Corporation and LecTec Corporation (certain information has been omitted from this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2). 11 Computation of Net Earnings (Loss) Per Share of Common Stock. 23.1 Consent of KPMG Peat Marwick LLP. 24 Powers of Attorney (included on the signature page hereof). 27 Financial Data Schedule. EX-3.1 2 Exhibit 3.1 CERTIFICATE OF INCORPORATION OF CNS, INC. AS AMENDED ARTICLE I NAME 1.1) The name of the corporation is CNS, Inc. ARTICLE 2 REGISTERED OFFICE 2.1) The address of its registered office in the State of Delaware is Corporation Trust Center, 1209 Orange Street, in the City of Wilmington, County of New Castle. The name of its registered agent at such address is The Corporation Trust Company. ARTICLE 3 PURPOSES 3.1) The nature of the business or purposes to be conducted or promoted is: To engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of Delaware. ARTICLE 4 CAPITAL STOCK 4.1) Authorized Capital Stock. The total number of shares of stock which the corporation shall have authority to issue is Fifty-Eight Million, Four Hundred Eighty-Three Thousand Five Hundred Eighty-Nine (58,483,589) shares, divided into Fifty Million (50,000,000) shares of Common Stock, $.01 par value per share, and Eight Million Four Hundred Eighty-Three Thousand Five Hundred Eighty-Nine (8,483,589) shares of Preferred stock, $.01 par value per share. The designations and the powers, preferences and rights, and the qualifications, limitations or restrictions of the corporation's capital stock are to be determined by resolution of the Board of Directors and a certificate setting forth such resolutions and the number of shares of such class or series must be filed and recorded pursuant to Delaware law. 4.2) Voting Rights. Each holder of record of the common stock of the corporation shall be entitled to one (1) vote for each share of common stock held by him or her at each meeting of the shareholders and in respect to any matter on which the shareholders have a right to vote. The right to vote shall be subject to the provisions of the by-laws of the corporation in effect and fixing a record date for the determination of shares entitled to vote. 4.3) Preemptive Rights. Unless otherwise provided by the Board of Directors, the shareholders of the corporation shall not have the preemptive right of subscription to any shares of common stock of preferred stock of the corporation to be issued or sold, or hereafter authorized, or any obligations or securities exchangeable for or convertible into stock of the corporation which has not yet been authorized. 4.4) Stock Rights and Options. The Board of Directors shall have the power to create and issue rights, warrants, or options entitling the holders thereof to purchase from the corporation any shares of its capital stock of any class or series, upon such terms and conditions and at such times and prices as the Board of Directors may provide, which terms and conditions shall be incorporated in an instrument or instruments evidencing such rights. 4.5) Dividends. The holders of the common stock and preferred stock shall be entitled to receive, when and as declared by the Board of Directors, out of earnings or surplus legally available therefor, dividends, payable either in cash, in property, or in shares of the capital stock of the corporation. ARTICLE 5 INCORPORATOR 5.1) The name and mailing address of each incorporator is as follows: NAME MAILING ADDRESS Daniel E. Cohen, M.D. 7090 Shady Oak Road Eden Prairie, MN 55344 ARTICLE 6 INCORPORATOR 6.1) The corporation is to have perpetual existence. ARTICLE 7 DIRECTORS 7.1) In furtherance and not in limitation of the powers conferred by statute, the Board of Directors is expressly authorized to make, alter or repeal by by-laws of the corporation. 7.2) Elections of directors need not be by written ballot unless the by-laws of the corporation shall so provide. ARTICLE 8 EXCULPATION AND INDEMNIFICATION 8.1) A director of this corporation shall not be liable to the corporation or the stockholders of this corporation for monetary damages for a breach of the fiduciary duty of care as a director, except to the extent such exception from liability or limitation thereof is not permitted under the Delaware General Corporation Law as the same currently exists or hereafter is amended. The corporation shall, to the fullest extent permitted under Delaware Corporation Law as the same currently exists or hereafter is amended, indemnify the directors of this corporation. ARTICLE 9 AMENDMENT OF CERTIFICATE 9.1) The corporation reserves the right to amend, alter, change or repeal any provision contained in this Certificate of Incorporation, in the manner now or hereafter prescribed by statute, and all rights conferred upon stockholders herein are granted subject to this reservation. ARTICLE 10 STOCKHOLDERS MEETING AND BOOKS 10.1) Meetings of stockholders may be held within or without the State of Delaware, as the by-laws may provide. The books of the corporation may be kept (subject to any provisions contained in the statutes) outside the State of Delaware at such place or places as may be designated from time to time by the Board of Directors or in the by-laws of the corporation. I, THE UNDERSIGNED, being the incorporator hereinbefore named, for the purpose of forming a corporation pursuant to the General Corporation Law of the State of Delaware, do make this Certificate, hereby declaring and certifying that this is my act and deed, and the facts herein stated are true, and accordingly have hereunto set my hand this 5th day of March, 1987. /s/ Daniel E. Cohen, M.D. Daniel E. Cohen, M.D. STATE OF MINNESOTA ) ) ss. COUNTY OF HENNEPIN ) On this 5th of March, 1987, before me, a notary public, within and for said county, personally appeared Daniel E. Cohen, M.D., to me known to be the person described and who executed the foregoing instrument and acknowledged that he executed the same as his free act and deed. /s/ Glen H. Brown Notary Public EX-10.11 3 Exhibit 10.11 (Certain information has been omitted from this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2) 3M - CNS DISTRIBUTION AGREEMENT EFFECTIVE DATE: AUGUST 2, 1995 1. Parties A. Minnesota Mining and Manufacturing Company Consumer and Professional Health Care Medical-Surgical Markets Division 275-5SW 3M Center St. Paul, MN 55144 B. CNS, Inc. 1250 Park Road Chanhassen, MN 55317 2. Purpose A. 3M will be CNS's exclusive distributor of CNS's nasal dilator outside of the US and Canada. B. CNS will provide product with 3M's label, either in bulk or packaged in 3M's packaging. C. 3M will license the 'Breathe Right' trademark but will use 3M trade dress. 3. Term and Termination A. Term Initial term: 5 years. After 5 years, the agreement continues until terminated. B. Termination for cause Either 3M or CNS may terminate this agreement if the other materially breaches it by giving 90 days' written notice within 90 days opportunity to cure the breach. C. Termination without cause 1) CNS may a. terminate the EXCLUSIVITY of this agreement without cause after the third year of the initial term by giving one year written notice. Notice may be given prior to the end of the third year. i. As of the termination date, 3M will no longer be the exclusive distributor outside the United States and Canada, and will no longer have a license to use the Breathe Right trademark; ii. However, 3M may continue to sell product with the Breathe Right trademark which was manufactured prior to the termination date and use its inventory of packaging with the Breathe Right trademark; iii. All other terms and conditions of this agreement will continue to apply, except for the minimum purchase requirements, which will no longer apply; AND/OR b. terminate this agreement after the fifth year of the initial term by i. giving one year written notice. Notice may be given prior to the end of the fifth year; AND ii. paying to 3M. [Confidential Treatment Requested] iii. 3M will give to CNS information about its sales of Product by customer after it receives the payment described above. iv. NONCOMPETE. 3M will not sell other nasal dilator devices for two years after the date of termination. 3M may sell non-mechanical nasal dilators, such as pharmaceutical nasal dilators. 2) 3M. 3M may terminate this agreement without cause after the initial term by giving one year written notice. Notice may be given prior to the end of the initial term. a NONCOMPETE. 3M will not sell other nasal dilator devices for three years from the date the agreement is terminated. 3M may sell non-mechanical nasal dilators, such as pharmaceutical nasal dilators. 4. Product CNS's nasal dilator packaged with 3M's labeling ('Product'). Product and package specifications stated in Exhibit A. 3M may not alter Products or change its package specifications without CNS's approval. CNS will not withhold its approval unreasonably. 5. Prices A. Exhibit B. Prices in US $. FOB CNS or assignee facility. B. Prices will be effective for 1995 and 1996. After 1996, CNS may change its prices as follows: 1) 3M components. CNS may increase its prices at anytime by the amount of any increase in prices of 3M components. 2) All other costs. CNS may increase its prices once per calendar year after 1996 to reflect an increase in the cost of producing the Products, excluding the cost of 3M components, by giving 3M 90 days' written notice of the price change. a. CNS will not increase the price by more than the increase in the consumer price index for the previous year times [1 minus the fraction whose numerator is 3M component costs and whose denominator is the price]. C. Cost reductions. 3M and CNS will establish targets for cost reductions and identify possible sources of reductions. CNS will determine feasibility of the cost reduction projects before implementing. CNS will lower its prices to reflect cost reductions achieved through joint cost reduction programs. D. Competitive prices. 3M and CNS will discuss price reductions to meet competitive situations in specific countries. 6. Markets A. 3M is the exclusive distributor of CNS's nasal dilator outside of the US (including its territories, such as Puerto Rico) and Canada. 3M will use reasonable efforts to promote the Product. ("Reasonable efforts" shall mean efforts consistent with 3M's efforts relating to other products in the Consumer and Professional Health Care business unit.) CNS will not sell the nasal dilator to customers outside the US and Canada directly or through other another party. B. 3M will comply with all material laws and regulations applicable to the sale of the Product outside of the US and Canada. 3M is responsible for obtaining appropriate approvals to sell the Product in countries outside of the US and Canada. It will obtain those approvals in 3M's name. CNS will reasonably cooperate at its own expense. C. 3M will not manufacture similar nasal dilators or purchase them from other vendors during this agreement, unless CNS is unable to supply at least 75% of 3M's forecasted quantities for any reason for more than 90 days. 3M may manufacture or purchase similar nasal dilators only during the period that CNS is unable to supply them. D. 3M and CNS will cooperate to prevent the resale of 1) CNS's nasal dilator (under any label besides 3M's) outside of the US and Canada; and 2) the Product (under 3M's label) in the US or Canada. E. CNS may request that 3M discontinue selling Product within a country in which a claim has been made that the Product infringes anyone else's intellectual property rights. If 3M continues to sell Product within that country, it shall be in default hereunder and shall waive its right to indemnification (see paragraph 12) for its sales subsequent to CNS's request. 7. Minimum Purchases A. Minimum purchases: See Exhibit B. 1) The minimums stated in Exhibit B will be appropriately reduced if CNS a. does not use reasonable efforts to defend its patents or tradenames; b. does not have certifications (e.g. CE mark) needed to market the product competitively; or where 3M cannot obtain timely regulatory or other governmental approval to sell the Product despite its reasonable efforts (as defined in 6.A.) to obtain the approvals, and these situations would have a material effect on 3M's ability to meet the minimums. 2) CNS's exclusive remedy in case 3M fails to meet its minimum purchases requirement is to terminate this agreement. It will not be entitled to any damages. 3) CNS must give 3M its notice of termination and opportunity to cure by January 31 of the year following 3M's failure to meet its minimum requirements. 3M will have 90 days to purchase the amount needed to meet the minimum. These quantities will not count toward the next year's minimum. B. 3M will roll-out sales globally as described in Exhibit B. 8. Forecasts, Orders, Deliveries A. Forecasts 1) 3M will give monthly 12 month rolling forecasts. The first three months of the forecast is 3M's order. In the next month's forecast, 3M may change the forecast for the second three months of the previous forecast by 5% and may change the previous forecast for the last six months by 15%. 2) For example, if in December 3M forecasts that it will purchase 100 units per month during the next twelve months, then a. The forecast for January, February and March are 3M's firm orders for those months; b. In the January forecast, i. The January forecast for February and March are firm orders from the December forecast; ii. the January forecast for April may be increased to 105 units, which becomes 3M's firm order; iii. the January forecast for May and June may be increased to 105 units, but these are not a firm orders; iv. the January forecast for July-December may be increased to 115 units per month, and these are not firm orders. 3) CNS will promptly notify 3M if it is unable to meet 3M's forecast. B. 3M will order using a blanket purchase order. The quantities stated are non-binding estimates. 3M will only be obligated for the first three months of each rolling forecast. C. Delivery by dates stated in purchase order releases. However, the delivery dates must give CNS reasonable time to acquire packaging. D. CNS will ship Product in containers that meet international shipping requirements. 3M will have the risk of loss when Product is delivered to its carrier at CNS's facility, except where damage is due to the use of containers that do not meet international shipping requirements. E. Payment due net 30 from the date of delivery. F. In case of backorder, CNS will allocate to 3M the same percent of production that 3M's sales represent of CNS's total sales of nasal dilators. 9. Manufacturing A. CNS will comply with all material laws and regulations, including FDA GMPs. B. CNS will use its best efforts to become certified where certification by authorities outside of the US is needed to market the product (e.g., CE mark in Europe). C. CNS will manufacture and package the Product in conformance with Product and packaging specifications. CNS will not change any specifications, processes, raw materials, or components that could affect the performance or appearance of the nasal dilator or its packaging without 3M's approval. 3M will not unreasonably withhold its approval. D. CNS will continue to use the 3M components it currently uses, unless 3M stops offering those components to CNS or if 3M is unable to supply CNS's requirements. E. 3M will provide camera-ready artwork for labels and packaging. F. Master file. CNS is responsible for maintaining master files and ensuring products are manufactured according to the documentation. G. Quality testing. CNS will certify that its products and packaging pass all QC tests. H. Audits. 3M may periodically audit procedures, processes, process controls, and manufacturing records of CNS and its subcontractors. CNS remains responsible for those functions and records. I. 3M suggestions. 3M may make suggestions regarding operations, quality assurance, cost reductions and other matters. CNS will independently determine whether to implement any of those suggestions and will be responsible for them. J. Inability to supply. CNS hereby grants to 3M a royalty-free license to make or have made the Product for sale outside the US and Canada for the duration of CNS's inability to supply at least 75% of 3M's forecast. 3M may exercise its rights under this license only if CNS is unable to supply 75% of 3M's forecasted quantities for any reason (other than 3M's inability to supply components) for more than 90 days. 10. Intellectual Property A. CNS trade name and patents. 1) CNS hereby licenses to 3M the use of the CNS "Breathe Right" trademark for use outside of the US and Canada during this agreement. 2) 3M will use the 'Breathe Right' trademark where it is registered and/or reasonable to do so until it receives notice of termination of 3M's exclusivity or this agreement. It will use another name where it is not reasonable to use "Breathe Right," for example, where another company claims it infringes their trademark, where "Breathe Right" cannot be protected as a trademark, or where "Breathe Right" is culturally inappropriate. From the time 3M receives notice of termination, 3M may continue to use the "Breathe Right" trademark or, at 3M's discretion, use another name for the Product. 3) 3M will discontinue the use of the 'Breathe Right' trade name at the end of this agreement. 4) 3M will notify CNS if it believes another party is infringing CNS's patents or trademarks in any country outside of the United States and Canada. CNS will promptly notify 3M whether it intends to defend its patents or trademarks. If it decides not to do so, 3M may defend them at its own cost. B. 3M trademarks, trade names and trade dress. 1) Packaging and labels will include 3M trademarks, trade names and trade dress. 2) CNS has no right or interest in 3M's trademarks, trade names or trade dress. It will only use them on packages it sells to 3M. It will discontinue using them at the end of this agreement or upon 3M's request. 11. Warranties and Remedies A. Warranty 1) CNS warrants that its products and packages a. are free from material defects in material and manufacture; b. are fit to be used as indicated in the Product labeling; c. meet all specifications and performance claims; d. are not adulterated or misbranded (as defined by the FDA). 2) CNS warrants that it has the exclusive license to make, use and sell the nasal dilator for the duration of the applicable patents in the countries where the patents apply. 3) CNS warrants that it has the exclusive right to use its trademark in those countries in which the trademark is registered. B. Remedies. If a product does not meet its warranty, CNS will repair, replace or refund 3M's purchase price, at CNS's cost. In case of a recall in any country, CNS will reimburse 3M for its reasonable costs in assisting in the recall, unless the recall is caused by defective components provided by 3M. C. Returned Goods. 3M will obtain CNS's authorization prior to returning any products. CNS has the right to appropriately inspect the returned goods. 12. Indemnification A. CNS will indemnify and defend 3M against any claim that its products infringe anyone else's intellectual property rights (e.g., patent, copyright, trademark). B. CNS will indemnify and defend 3M against any claim that its products caused personal injury or property damage, unless the injury or property damage is caused by components provided by 3M. C. CNS's obligations to indemnify and defend 3M are conditioned upon 3M giving CNS prompt notice of the claim, giving the defense of the claim to CNS and reasonably cooperating with CNS in the defense. D. 3M will indemnify and defend CNS against any claim that arises from statements 3M makes about the Product which are not approved by CNS. 3M's obligations to indemnify and defend CNS are conditioned upon CNS giving 3M prompt notice of the claim, giving the defense of the claim to 3M and reasonably cooperating with 3M in the defense. 13. No Consequential Damages A. 3M and CNS recognize that this agreement involves risk. Neither company guarantees that their efforts will be successful. B. Neither 3M nor CNS will be liable to the other for any consequential damages (for example, lost profits, business opportunities or investments) that arise as a result of this agreement or its termination. 14. Confidential Information A. 3M and CNS may exchange information each considers confidential ('Confidential Information'). B. Neither party will disclose Confidential Information it receives from the other that is in writing and labeled 'Confidential.' 1) marketing information: for one year from the date it receives the information; 2) process information: for three years from the date it receives the information. There is no restriction on the internal use of the Confidential Information. C. The obligation not to disclose does not apply to information that 1) is or becomes publicly available; 2) is in the possession of the receiving party prior to receipt; 3) is developed by the receiving party independently of the Confidential Information; 4) is given to the receiving party by someone else who has the right to do so. D. The CNS, Inc. Standard Confidential Disclosure Agreement, dated July 19, 1994, will continue to apply to Confidential Information CNS disclosed to 3M prior to the expiration of that agreement or the effective date of this agreement, whichever is earlier. The CNS, Inc. Standard Confidential Disclosure Agreement is attached as Exhibit C. 15. Notices 3M will send notices to: Richard E. Jahnke President and COO CNS, Inc. 1250 Park Road Chanhassen, MN 55317 cc: Patrick Delaney Lindquist & Vennum P.L.L.P. 4200 IDS Center Minneapolis, MN 55402 CNS will send notices to: David Reynolds-Gooch Consumer and Personal Health Care Medical-Surgical Markets Division Minnesota Mining and Manufacturing Company 275-5SW 3M Center St. Paul, MN 55144 16. CNS Discussions with other Parties. CNS will notify 3M if it enters any significant discussions with other parties regarding the sale of CNS or the nasal dilator business or assets. 17. Additional Terms and Conditions A. Force Majeure. Neither party is in breach if it cannot perform for reasons beyond its control. B. Independent Contractors. 3M and CNS are independent contractors. They are not agents of each other, partners, joint-venturers, or franchisor/franchisee. Neither has the right to bind or commit the other or act on the other's behalf. C. Assignment. Neither party will assign this agreement without the consent of the other, except to a successor of the nasal dilator business. D. Dispute resolution 1) Both parties will try to amicably resolve all disputes. 2) If they are unable to do so, a manager from each company with full authority to resolve the dispute will meet with a mediator. 3) If mediation is unsuccessful within 6 months from the date CNS or 3M requests mediation in writing, either party may initiate binding arbitration. If a party needs to preserve its rights by commencing arbitration prior to the end of the 6 month period, it may do so, but will continue the arbitration until the parties attempt to mediate the dispute. 4) Arbitration will be held in Minnesota before a single arbitrator selected by mutual agreement from the panel of the Center for Public Resources. It will be governed by the US Arbitration Act and held in accordance with the rules of the Center for Public Resources. The arbitrator will apply Minnesota law. 5) Judgment of the arbitrator may be entered by any court with appropriate jurisdiction. F. No waiver. Neither 3M nor CNS waives any of its rights provided by this agreement because it fails to enforce them. G. Entire agreement. This agreement and its exhibits are the entire agreement between 3M and CNS regarding the distribution of CNS's nasal dilator by 3M. They supersede all previous agreements. They may be modified only by written agreement. MINNESOTA MINING AND CNS, Inc. MANUFACTURING COMPANY By By /s/ Richard E. Jahnke J. David Berkley Richard E. Jahnke Title Vice President Title President and COO Medical Surgical Markets Division By /s/ Frederick J. Palensky Frederick J. Palensky Title Vice President Medical Products Technology Division Exhibit A: Products and package specs Exhibit B: Prices, minimum purchase requirements Exhibit C: CNS, Inc. Standard Confidential Disclosure Agreement 3M - CNS DISTRIBUTION AGREEMENT EXHIBIT A PRODUCT AND PACKAGING SPECIFICATIONS Product and Packaging specifications: CNS specifications for its current product and packaging. To be provided by CNS promptly after signing. All packaging (including shipping cartons) must meet international shipping requirements. CNS will supply to 3M results of tests validating that the packaging meets those requirements, upon request by 3M. EXHIBIT B PRICING [Confidential Treatment Requested] VOLUME COMMITMENTS
YEAR '95 '96 '97 '98 '99 2000 - ---- --- --- --- --- --- ---- Volume [Confidential Treatment Requested]
REGION ROLL-OUT PLAN: '95 [Confidential Treatment Requested] '96 PRICING 1995 1996 ---- ---- Bulk [Confidential Treatment Requested] Finished Goods* EXHIBIT C CNS, INC. STANDARD CONFIDENTIAL DISCLOSURE AGREEMENT This agreement and entered into as of this 19th day of July, 1994, by and between CNS, Inc., which has an office at 1250 Park Road, Chanhassen, Minnesota 55317 (hereinafter referred to as "CNS"), and 3M Company, which has an office at 3M Center, St. Paul, Minnesota, (hereinafter referred to as "Recipient"). WHEREAS, both parties for their mutual benefit, desire that CNS disclose certain technical and business information relating to CNS and its products. NOW, THEREFORE, it is agreed: Definition: Confidential and Proprietary Information - The term "Confidential and Proprietary (C/P) Information" shall mean information not generally known, including trade secrets, about CNS's methods, processes, and products, including but not limited to, information relating to such matters as research and development, manufacturing methods, regulatory matters, processes, techniques, applications for particular technologies, materials or designs, vendor names, customer lists, management systems, and sales and marketing plans. All information disclosed by CNS to the Recipient which is marked or described as C/P Information within 30 days of disclosure, shall be C/P Information. Handling of Confidential and Proprietary Information: Recipient agrees to treat such Confidential/Proprietary Information as such for a period of five years from the date received, and will handle such C/P Information with the same degree of care it uses to handle its own C/P Information, but with no less than a reasonable degree of care. There shall be no restrictions on the handling of information which is not Confidential/Proprietary Information, which includes information that: 1. was in possession of Recipient prior to receiving it from CNS, or 2. is or becomes part of the public knowledge or literature by acts other than those of Recipient after receiving it, or 3. is or becomes available to Recipient from a source other than CNS that is not under a duty of confidentiality to CNS, or 4. is or becomes available to a third party from CNS on an unrestricted basis, or 5. is transmitted by CNS after receiving notification in writing from Recipient that it does not desire to receive any further Proprietary Information, or 6. is independently developed by Recipient without the use of CNS's C/P Information, or 7. is transmitted after the expiration of this agreement. Limitation on Disclosure: Recipient shall not divulge, in whole or in part, such Confidential/Proprietary Information to any third party without the prior written consent of CNS, but only to the extent and during the period of time that such Information is to be treated as Confidential/Proprietary under the foregoing provisions of this Agreement. Limitation of Use: Recipient shall make no commercial use, in whole or in part, of any such Confidential/Proprietary Information without the prior written consent of CNS, but only to the Extent, and during the period, of time such information is to be treated as Confidential/Proprietary under the foregoing provisions of this Agreement. Recipient of C/P Information may retain in the offices of its legal counsel one copy of any written C/P Information for record purposes only. Term: The term of this Agreement shall be for an original period of one year commencing on the date recited in the first paragraph of this Agreement; however, Recipient's obligations with respect to Confidential/Proprietary Information disclosed to it prior to termination shall not be affected by the termination of this Agreement. Mutual Disclaimers: No rights or obligations other than those expressly recited herein are to be implied from this Agreement. In particular, no license is hereby granted directly or indirectly under any patent now held by, or which may be obtained by, or which is or may be licensable by either party. CNS, Inc. 3M By: /s/ Richard E. Jahnke By: /s/ J. David Berkley Title: President & COO Title: General Manager Date 7/22/94 Date 7/19/94 EX-10.12 4 Exhibit 10.12 (Certain information has been omitted from this exhibit and filed seperately with the SEC pursuant to a request for confidential treatment under Rule 24b-2) SUPPLY AGREEMENT 1. PARTIES: This Agreement is between the Medical Specialties Department of Minnesota Mining and Manufacturing Company ("3M") and CNS, Inc. ("CNS"). This Agreement only applies to Medical Specialties Department of 3M and does not bind any other part of 3M unless otherwise agreed to in writing by 3M. 2. PURPOSE: This Agreement authorizes CNS to (a) purchase the 3M products listed in Exhibit A ("Products") or (b) exclusively specify the components for assigned converters for the purposes set forth therein. Notwithstanding the foregoing language, this exclusivity requirement will not apply to the product application set forth on Exhibit A-1 until such time as 3M can provide said product or a comparable product. CNS shall have the right to deplete the inventory of the product application set forth on Exhibit A-1 before using the 3M product. Products will meet the product specifications attached thereto as Exhibit A-2. 3. EXCLUSIVITY; RIGHT OF FIRST REFUSAL: CNS agrees that during the term of this Agreement it will purchase all of its requirements of Product from 3M provided, however, that: a) If CNS is offered a product of substantially higher performance under similar terms and conditions and gives 3M written notice of the offer, then 3M shall notify CNS in writing within ninety (90) calendar days after receipt of the notice as follows: 1) 3M agrees to sell CNS a product of equal performance to the competitive product under similar terms and conditions; or 2) 3M will permit CNS to purchase the product from the third party while the substantially higher performance product is available. If 3M informs CNS that 3M is willing to sell Product or a product of equal performance to the competitive product offered to CNS, then CNS will agree to purchase Product or the new product from 3M. b) As long as CNS is purchasing Product exclusively from 3M, then 3M will not supply Product to any other company in the external nasal dilation market. Notwithstanding the foregoing language, 3M's obligation as set forth in the preceding sentence shall cease if 3M is presented with a product opportunity with a third party offering higher performance and greater value to the consumer. If 3M is offered said product opportunity, then CNS will be given the opportunity to respond to the product opportunity within ninety (90) days. Except as set forth herein, 3M reserves the right to sell the Products in any other lawful manner. c) If CNS is offered a substantially lower price, 3M will be given the opportunity to respond to the comparative value of 3M and the competitive offering within ninety (90) days. 4. TERM, NO AUTOMATIC RENEWAL: The term of this Agreement begins on the date 3M signs this Agreement and ends on December 31st of 2000. This Agreement can be renewed only if both parties agree in writing to the renewal. Both CNS and 3M understand that each party has the right, in its sole discretion, to decide whether to renew this Agreement. Both 3M and CNS will plan accordingly. 5. ORDER AFTER EXPIRATION: Any order placed and filled after the expiration of this Agreement is governed by the provisions of this Agreement, but the placing or filling of postexpiration orders does not otherwise extend the term of this Agreement. 6. PRODUCT IMPROVEMENT DEVELOPMENT: 3M will work with CNS to investigate and develop mutually agreed upon product component improvements in an effort to enhance performance, aesthetics, and/or cost reductions. 7. OTHER TERMS AND CONDITIONS: Other terms and conditions of sale (including prices, payment terms, F.O.B. Point, and return goods policy) are stated on Exhibit B. CNS acknowledges that it has received a copy of Exhibit B as of the date CNS signs this Agreement. 3M may change any part of Exhibit B by written notice at any time, but the change will not affect any order properly placed before the effective date of the change. Exhibit B is based upon forecasted volumes and quantity purchases as provided by CNS. 3M agrees to keep the price schedule, forecasted volumes and quantity purchases set forth in Exhibit B confidential during the term of the Agreement. 8. FORECASTS: CNS shall provide 3M monthly a "rolling" forecasted volume of Products for a six-month period into the future. Each month CNS will be providing specific purchase order releases detailing product/size breakdown and ship dates for requirements for the upcoming month. In the rolling forecast, the first three (3) months shall be considered as FIRM requirements and the subsequent three (3) months shall be viewed as forecasted quantities. Based on such firm forecasted requirements, CNS' purchase history and 3M's experience, 3M shall maintain an inventory of the Products which will be sufficient to meet the reasonably anticipated needs of CNS not to exceed five percent (5%) overage of the firm forecasted requirements. If 3M is unable to produce the forecasted volumes of Product in a timely manner, then CNS shall be free to seek an alternative source until such time as 3M shall be capable of meeting CNS's needs. 3M shall be given thirty (30) days to respond to any such Product concerns before CNS seeks the alternative source. 9. SHIPMENT DEADLINES; RISK OF LOSS; TITLE: 3M will make reasonable efforts to meet any shipping dates specified in CNS' purchase orders, but 3M does not guarantee to meet any particular shipping deadlines. Risk of loss passes to CNS at the point of shipment. For all Products contained in any single shipment, title passes to CNS only when CNS has fully paid for the shipment. 10. EXCUSABLE DELAY: 3M is not responsible for delays in production, shipping or delivery due to any cause beyond 3M's reasonable control. 11. WARRANTIES LIMITED: 3M warrants only that the Products will meet the specification set forth in Exhibit A-1 at the time of shipment to CNS. THIS WARRANTY IS MADE IN PLACE OF ANY OTHER WARRANTIES. 3M NEITHER EXPRESSES NOR IMPLIES ANY WARRANTIES OF FITNESS FOR A PARTICULAR PURPOSE. 12. LIMITATION OF REMEDIES: If properly and promptly notified (see Paragraph 13), 3M will, at its option, either replace any product which 3M determines was defective at the time of shipment or refund the purchase price paid by CNS and/or its assignee. THIS REPLACEMENT REMEDY IS CNS' AND/OR ITS ASSIGNEE'S EXCLUSIVE REMEDY AGAINST 3M FOR ANY DEFECT OR OTHER FAILURE IN THE PRODUCTS OR IN 3M'S PERFORMANCE. UNDER NO CIRCUMSTANCES IS 3M LIABLE FOR ANY DIRECT, INDIRECT, INCIDENTAL, SPECIAL OR CONSEQUENTIAL DAMAGES IN ANY WAY RELATED TO THE PRODUCTS OR TO THIS AGREEMENT. 13. CNS' AND/OR ITS ASSIGNEE'S DUTY TO INSPECT; RETURNS: CNS and/or its assignees will promptly inspect any shipment of Products received from 3M and will promptly notify 3M in writing to any defects. The notice must specify the defects in detail; any defect not specified is waived. Any goods not rejected within thirty (30) days of delivery are accepted. After sending the notice, CNS and/or its assignee will follow 3M's return goods policy then in effect, or any specific and reasonable instructions which 3M may issue. CNS and/or its assignee will allow 3M to inspect any allegedly defective goods at CNS' and/or its assignee's site. For any goods which 3M determines are defective, CNS and/or its assignee will follow 3M's instructions and either return the goods to 3M, with 3M responsible for the return freight, or dispose of the goods in a safe manner approved by 3M and at no charge to 3M. 14. PROPER USE OF PRODUCTS: CNS will not process or package the Products in any way which might compromise the Products' efficacy or safety. CNS will not misuse the Products or treat or deal with Products in any way which might prejudice 3M's reputation. 15. USE OF 3M NAME AND TRADEMARKS: CNS will not make use whatsoever of 3M's name without 3M's written permission. The decision to grant or withhold permission is within 3M's sole discretion. CNS will not use or reproduce any of 3M's trademarks in any manner without 3M's prior written approval. To request this approval CNS must forward to 3M a complete and accurate specimen copy of the proposed use. If in its sole discretion 3M chooses to approve the use, the use is subject to any revision which 3M may choose to make on the specimen. Any permitted use extends only to the identification of 3M materials included in CNS' composite product and not to the identification of the CNS composite product itself. 16. PRODUCT DISCONTINUANCE: 3M may discontinue its production or sale of any Products at any time during the term of this Agreement. 3M will give CNS at least ninety (90) days notice of discontinuing the sale of a Product, unless the discontinuance is due to an alleged health, safety or environmental risk. To the extent possible, 3M will exercise reasonable efforts to present a comparable substitute product; provided that such efforts will not require 3M to manufacture or develop a comparable substitute product. 17. TERMINATION FOR CAUSE: If CNS fails to fulfill any of the representations, promises or terms stated in this Agreement, 3M may terminate this Agreement on thirty (30) days written notice. If 3M fails to fulfill any of the representations, promises or terms stated in this Agreement, CNS may terminate this Agreement on thirty (30) days written notice. Either of the parties intending to terminate the Agreement under this section shall give written notice of its intention to do so to the other party stating its rationale and giving detailed description of the cause. The party giving notice shall grant the other party a reasonable period of time (but in no event more than thirty (30) days) to remedy the cause for termination. During this grace period, the parties shall make a good-faith effort to assist one another in the remedying of any problems surrounding this Agreement. Termination of this Agreement shall not terminate any obligation set forth in the Agreement which are incurred prior to such termination. 18. FORCE MAJEURE: Neither of the parties shall be responsible for any delay or failure of performance hereunder due to, including, but not limited to, strikes, lockout, shortage of labor or other labor disturbances, riots, invasion, war, fire, explosion, sabotage, storm, flood, earthquake, inability to obtain suitable material, fuel, power, or transportation, or any other causes whatsoever beyond the reasonable control of the parties. 19. NO ASSIGNMENT OR DELEGATION: CNS may not assign any of its rights or delegate any of its duties under this Agreement. 20. NOTICES: Any notice, order or other communication required by this Agreement must be in writing, sent by first class mail or faster written means, and addressed to the address listed on the signature page. A party may designate in writing a substitute address. 21. ENTIRE AGREEMENT; NO WAIVER; GOVERNING LAW: This Agreement and the exhibits hereto state the complete understanding between 3M and CNS on this subject and replace any previous statements, communications or understandings, whether oral or written. CNS may place orders under this Agreement using CNS' regular purchase order form. However, any provision of that form, or of any other CNS document, which conflicts with or differs from the provisions or intent of this Agreement or the most current issue of Exhibit B is void. This Agreement cannot be modified except by a writing signed by the party to be bound, or through 3M's revision of Exhibit B. A course of dealing or of performance does not effect a waiver or modification unless ratified in writing. A party's failure to exercise a right in one instance does not waive that party's right to later exercise that right. Any questions, claims or disputes concerning or related to this Agreement are governed by the laws of Minnesota. ACCEPTED AND AGREED TO: MEDICAL SPECIALTIES DEPARTMENT MINNESOTA MINING AND CNS, INC. MANUFACTURING COMPANY 1250 PARK ROAD 3M CENTER CHANHASSEN, MINNESOTA 55317 ST. PAUL, MINNESOTA 55144 By: /s/ Paul Quinlan By: /s/ William J. Doubek Title: Sales Marketing Manager Title: Vice President of Operations Date: 4/21/95 Date: 5/17/95 EXHIBIT A Products and Specifications (Confidential Treatment Requested) EXHIBIT B Other Terms and Conditions of Sale (Confidential Treatment Requested) EX-10.15 5 Exhibit 10.15 (Certain information has been omitted from the this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2.) LICENSE AGREEMENT AGREEMENT made and effective as of the 24th day of January, 1996, by and between CNS, Inc., a Delaware corporation ("Licensee"), and Ronald S. Nietupski ("Licensor"). R E C I T A L S WHEREAS, Licensor is now and has been engaged in developing certain Products (as defined in Subsection 1.1) for use as diet and/or smoking alternative/suppression/cessation aids; WHEREAS, the Products embody inventions and designs owned by Licensor and Licensor has available certain know-how relating to the Products; WHEREAS, Licensor owns or controls, or may hereafter own or control, certain know-how, trademarks, patents or patent applications relating to the Products; WHEREAS, Licensor desires to license to Licensee and Licensee desires to license from Licensor certain trademarks, know-how, patents and patent applications of Licensor relating to the Products. NOW, THEREFORE, in consideration of the premises, the mutual covenants and agreements hereinafter set forth and other good consideration, the receipt and sufficiency of which are hereby acknowledged, the parties agree as follows: 1. GENERAL DEFINITIONS. As used herein, the following terms shall be defined in the manner set forth below: 1.1 Products. The term "Products" shall mean (i) the diet aid known as "WILL- POWER" and any other diet aid developed by Licensor containing 2-Acetylpyridine and (ii) the smoking alternative/suppression/cessation aid known as "QUIT'M" and any other smoking alternative/suppression/cessation aid developed by Licensor containing 2-Acetylpyridine; the term "Products" shall also include all parts and components thereof. 1.2 Know-how. The term "Know-how" shall mean any and all tangible and intangible information, technology, documents and materials in the possession and control of Licensor, necessary in order to enable Licensee to utilize fully the rights granted by Licensor to Licensee hereunder and shall include, without limiting the foregoing, the ideas, concepts, confidential information, trade secrets and techniques, as well as all the materials, documents, manuals, schematics, blueprints, specifications, patterns, art work, bills of materials and technical specifications and other information of Licensor relating to the Products. 1.3 Licensed Patents. The Term "Licensed Patents" shall mean the following: (i) the United States patents listed on Exhibit 1.3 attached hereto; (ii) the rights, patents and patent applications, if any, in any country or jurisdiction in the world corresponding to the United States patents listed on Exhibit 1.3 attached hereto; and (iii) any division, continuation, continuation-in-part, divisional, reissued or extended letters patent, applications and petty patents, utility models, utility model conversions, inventor's certificates relating to any of the foregoing United States patents and patents pending and foreign patent rights, which may be developed, acquired or controlled by Licensor and which relate to the Products during the term of this Agreement and with respect to which Licensor shall have the right to grant the license hereinafter provided. 1.4 Contract Year and Quarter. The term "Contract Year" shall mean each period of twelve consecutive months commencing on January 1 of each year during the term of this Agreement. The term "Contract Quarter" shall mean each period of three consecutive months commencing January 1, April 1, July 1 and October 1 during the term of this Agreement. 1.5 Net Sales. The term "Net Sales" shall mean the net amount collected by Licensee from any end-user, sublicensee, assignee or other person relating to or arising from the sale of Products after the deduction of (i) any amounts repaid or credited by reason of rejections or returns and (ii) trade and quantity discounts actually allowed and taken. 1.6 Earned Royalty. The term "Earned Royalty" shall mean the royalty payable to Licensor on Products. 1.7 Licensed Trademarks. The term "Licensed Trademarks" shall mean Licensor's trademarks "WILL-POWER" and "QUIT'M". 2. GRANT OF LICENSES. 2.1 Patent, Trademark and Know-how License. Licensor hereby grants to Licensee an exclusive, worldwide, transferable (subject to the terms of Subsection 2.2) license to manufacture, have manufactured, use, sell and otherwise practice the Products, Licensed Patents, Licensed Trademarks and all Know-how and any invention disclosed or claimed in any of the Licensed Patents. 2.2 Sublicenses and Assignments. Subject to the further provisions of this Subsection 2.2, Licensee may sublicense and/or assign to any third party, including affiliates of Licensee, any and all rights granted hereunder. For any sublicense and/or assignment granting rights to sell Products to parties other than Licensee to be valid, Licensee shall, prior to any such assignment or sublicense, enter into a written assignment and/or sublicense agreement with such proposed sublicensee and/or assignee under which the assignee and/or sublicensee agrees (i) that payments of fees, royalties and other fixed payments shall be made 50% to Licensee and 50% to Licensor at commercially reasonable rates based upon the sale of Products, and (ii) to provide Licensee and Licensor records, data and other information necessary to verify the assignee's and/or sublicensee's performance of its obligations under such sublicense and/or assignment agreement. Licensee agrees that it shall take all such action as is reasonable in order to fully enforce the obligations of any such sublicensee and/or assignee under any such sublicense and/or assignment agreement. 2.3 Patent Costs. Licensor shall be responsible for and pay all patent costs and expenses to be incurred in obtaining, prosecuting, owning and maintaining any of the Licensed Patents issued or to be issued under the law of any jurisdiction, including filing, prosecution, working and maintenance costs and taxes; provided, however, that Licensee shall, at Licensor's request, be responsible for and pay all costs and expenses to be incurred in maintaining any of the Licensed Patents issued or to be issued in a foreign jurisdiction, which payments will be deducted from any future royalty payments on foreign sales of the Products. 2.4 Exploitation. Except as set forth in Section 8, Licensee shall not be under any obligation to use, exploit, develop or market any license under this Agreement. Licensee shall be entitled to use its sole business judgment in deciding the manner and extent, if any, of any exploitation of any licenses granted hereunder and in deciding whether to use any other products, devices, techniques or technology competing therewith in any field of use. 2.5 Right of First Refusal. In the event Licensor conceives of or develops any other product that is a medical device, Licensee shall have right of first refusal to manufacture and market such product. Licensor shall give written notice of such product to Licensee, and Licensee shall have three months to exercise its right by written notice to Licensor. If such right is exercised, Licensor and Licensee shall negotiate in good faith and enter into a license agreement for such product. If such right is not timely exercised, Licensor may manufacturer and market the product or enter into an agreement with a third party. 3. REPRESENTATIONS AND WARRANTIES. 3.1 Licensor's Representations and Warranties. Licensor hereby warrants and represents to Licensee as follows: (a) This Agreement has been duly authorized, executed and delivered by Licensor and constitutes a valid and binding obligation of Licensor, enforceable in accordance with its terms. The execution, delivery and performance of this Agreement by Licensor and the consummation of the transactions contemplated hereby do not and will not conflict with or result in any material breach of any of the provisions of, or constitute a material default under, or result in a material violation of, or require any authorization, consent or approval, under the provisions of any agreement or instrument to which Licensor is bound or affected, or any law, statute, rule, regulation, judgment order or decree to which Licensor is subject. (b) Licensor owns the exclusive rights to the Products, Licensed Patents, Licensed Trademarks and Know-how and Licensor has not previously granted any of such rights to a third party. (c) To Licensor's knowledge, the Products, Licensed Patents, Licensed Trademarks and Know-how do not infringe on any patent, trademark, copyright or other intellectual property right of any third party. (d) Licensor has not received notice of any claims, actions, suits or proceedings pending or threatened affecting Licensor, the Licensed Patents, the Licensed Trademarks or Knowhow, which, if adversely determined, would have an adverse effect upon Licensee's ability to manufacture, have manufactured, use or sell the Products or otherwise practice the rights and technology licensed to Licensee by Licensor under this Agreement, and to Licensor's knowledge, there is no reasonable basis for anyone to bring such claims, actions, suits or proceedings. (e) Licensor has not received any claim from any third-party proceedings relating to the Licensed Patents, Licensed Trademarks, Know-how, or the Products which are based upon infringement of any patent or trademark or misappropriation or misuse of trade secrets. (f) The Products are effective for their intended uses of appetite and smokingdesire suppressant and the concentrations of the active and inactive ingredients are at levels that the Flavor and Extract Manufacturers Association generally regards as safe, and, to Licensor's knowledge, the Products are safe for their intended uses. (g) Licensor has disclosed all information in its possession or control which, in his reasonable opinion, would be material to Licensee entering into this Agreement, and to the best of his information does not contain any untrue statements of a material fact or omit to state a material fact. 3.2 Licensee's Representations and Warranties. Licensee hereby warrants and represents to Licensor as follows: (a) Licensee is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware. (b) This Agreement has been duly authorized, executed and delivered by Licensee and constitutes a valid and binding obligation of Licensee, enforceable in accordance with its terms. The execution, delivery and performance of this Agreement by Licensee and the consummation of the transactions contemplated hereby do not and will not conflict with or result in any material breach of any of the provisions of, or constitute a material default under, or result in a material violation of, or require any authorization, consent or approval, under the provisions of Licensee's Certificate of Incorporation or Bylaws or any other agreement or instrument to which Licensee is bound or affected, or any law, statute, rule, regulation, judgment order or decree to which Licensee is subject. 4. CONSIDERATION AND REPORTS. 4.1 Fixed License Fees. Licensee agrees to pay to Licensor the following amounts: (a) $50,000 within ten (10) days of the execution of this Agreement; (b) $25,000 within ten (10) days of Licensee obtaining all necessary regulatory approvals to market the Product currently known as "WILL-POWER"; and (c) $25,000 within ten (10) days of Licensee obtaining all necessary regulatory approvals to market the Product currently known as "QUIT'M"; provided, however, that if "QUIT'M" is marketed as both an appetite and smoking suppressant, both the amounts due under (b) and (c) shall be due. 4.2 Stock Options. Within thirty (30) days after the execution of this Agreement, and in partial consideration of consulting services Licensor will provide to Licensee regarding the Products, Licensee shall execute and deliver to Licensor options to purchase an aggregate of 100,000 shares of Licensee's Common Stock in substantially the form and on the terms of the Non-Qualified Stock Options attached hereto as exhibit 4.2. 4.3 Royalties. Licensee agrees to pay to Licensor royalties at the rate of 6% of Net Sales on each Product (i.e., the WILL-POWER and QUIT'M Products) during the period commencing upon receiving all necessary regulatory approvals to market such Product and terminating upon the expiration or invalidation of the Licensed Patent applicable to such Product. The royalty provided for in this Section 4 shall be terminated as to a particular Product if and when the Licensed Patents relating to such product are invalidated or expire. The Earned Royalty due hereunder shall be payable each Contract Quarter as set forth in Subsection 4.5. 4.4 Minimum Royalties. To maintain its rights hereunder, Licensee shall pay to Licensor minimum royalties during the term Licensor is obligated to make royalty payments to Licensee for each Product under Section 4.3 above at the rate of [Confidential Treatment Requested] per Contract Year (or a pro-rated amount if the term is shorter than a Contract Year) for each Product (i.e., WILL-POWER and QUIT'M Products). Such royalties shall be paid each Contract Quarter as follows: (i) [Confidential Treatment Requested]; (ii) less the aggregate amount of Earned Royalties actually paid to Licensor for the Contract Quarter then ended; (iii) less the amount of royalties paid to Licensor in any Contract Quarter for that Contract Year which exceeded [Confidential Treatment Requested]; and (iv) less the aggregate amount of royalties paid by any sublicensee or assignee of this Agreement; provided, however, that in no event shall aggregate royalty payments to Licensor hereunder be less than [Confidential Treatment Requested] for any Contract Year. Licensee's failure to pay any and all amounts payable under the preceding sentence within forty-five (45) days after receipt of written notice from Licensor that such amounts have not been timely paid shall render the licenses granted hereunder void and thereupon, Licensee shall have no further rights or interests of any kind or nature with respect to the Products, Know-how, Licensed Trademarks or Licensed Patents and Licensee shall take any and all action that Licensor may request to further document the provisions hereof. In the event that Licensee complies with Section 4.3 but fails to pay the minimum royalties due under this Section 4.4, Licensor's exclusive remedy is to terminate this Agreement, and Licensor will not be entitled to any damages or injunctive or mandatory relief. 4.5 Quarterly Payments and Reports. All royalties due Licensor from Licensee hereunder shall be payable on a Contract Quarterly basis. Within thirty (30) days after the end of each Contract Quarter during the term of this Agreement, Licensee shall pay to Licensor the royalty due Licensor under Subsections 4.3 and 4.4 through the end of the preceding Contract Quarter and shall furnish Licensor with a written statement within forty-five days after the end of each Contract Quarter setting forth the number of Products sold and the Net Sales received during such Contract Quarter, and the resulting amount of the royalty due Licensor under Subsections 4.3 and 4.4. 4.6 Late Payment. Licensee shall pay a late payment fee to Licensor calculated at a variable rate of 2% over the prime per annum interest rate as set from time to time by Norwest Bank Minneapolis, N.A., Minneapolis, Minnesota (the "Interest Rate"), on any and all amounts that are at any time overdue and payable to Licensor under this Agreement, such interest being calculated on each such overdue amount from the date when such amount became due to the date of actual payment thereof. Such late payment fee shall be in addition to and not in lieu of any and all other rights or remedies that Licensor may have under this Agreement or law relating to a default by Licensee under this Agreement. 4.7 Records. During the term of this Agreement and for three (3) years after termination of this Agreement, Licensee shall at all times maintain accurate and up-to-date records containing complete data from which amounts due to Licensor under this Agreement may be readily calculated. Further, Licensee shall preserve and permit examination of such records by Licensor's representatives at reasonable intervals and under reasonable conditions during the term of this Agreement and for three (3) years thereafter and, upon request, shall supply to Licensor's representatives all information useful in making a proper audit and verification of Licensee's performance of its obligations under this Agreement. 5. INDEMNIFICATION. 5.1 Indemnification by Licensor. Licensor shall indemnify and hold Licensee harmless from and against any and all claims, damages, costs (including reasonable attorneys' fees), judgments and liabilities of any kind or nature arising out of the breach by Licensor of any of his warranties, representations and covenants under this Agreement. 5.2 Indemnification by Licensee. Licensee shall indemnify and hold Licensor harmless from and against any and all claims, damages, costs (including reasonable attorneys' fees), judgments and liabilities of any kind or nature (a) arising out of the breach by Licensee of any of its covenants under this Agreement or (b) arising out of or related to the use, development, manufacturing or marketing of the Products, Licensed Trademarks, Know-how or Licensed Patents, including but not limited to, product liability claims. 6. PROTECTION AGAINST INFRINGEMENT. In the event that either party becomes aware of activity on the part of any, or claim made by a, third party which may constitute or relate to an infringement of the Licensed Patents, or any other intellectual property rights with respect to which Licensee is granted a license hereunder, such party shall give the other party written notice thereof. At Licensee's sole discretion, Licensee may, at its sole expense, initiate and thereafter diligently maintain reasonable efforts to prevent and abate such infringement, including the initiation of an appropriate civil action for infringement and the taking of such other action as may be necessary or appropriate, to enforce the Licensed Patents or other intellectual property rights with respect to which Licensee is granted a license hereunder or to defend any similar action initiated by a third party. In such event, (i) Licensor will cooperate fully in all respects and permit the use of his name in, and as a party to, all such suits and execute all pleadings, documents and other papers necessary or appropriate in conjunction therewith and (ii) Licensee shall receive the full benefits of any action it takes pursuant to this subsection, including retaining all sums recovered in any such suit or in settlement thereof, and if such proceeds do not fully reimburse Licensee for its legal expenses incurred in connection with such litigation, Licensee may deduct such amount from future royalty payments to Licensor. Licensor may, at his option and his cost and expense, participate in meetings with Licensee and/or its counsel and receive all pleadings, documents and other related papers useful for the purpose of keeping Licensor informed of the status of any proceedings commenced by Licensee pursuant to this Section 6. Licensor may, at his option, join Licensee in the defense of the intellectual property rights by agreeing to pay Licensee a minimum of six percent of Licensee's legal costs; provided, however, that if Licensee and Licensor are successful in such joint defense, then any damages awarded shall be divided as follows: (a) reimbursement to Licensor and Licensee for legal expenses (pro rata to actual expenses in the event that the damages awarded or actually collected are insufficient to cover 100% of the parties' total legal expense); (b) if any award remains after such payments, Licensor shall receive six percent of the full amount of the award, but not to exceed amounts paid by Licensor to Licensee for legal expenses; and (c) if any award remains after such payments, such remaining amount shall be allocated 75% to Licensee and 25% to Licensor. 7. TERM AND TERMINATION. 7.1 Term. This Agreement shall commence on the effective date hereof and shall expire, unless earlier terminated pursuant to the terms of this Agreement, upon the expiration of the last of the Licensed Patents to expire. Notwithstanding the above, royalties shall not be due on any Product where any Licensed Patent covering such Product has expired. 7.2 Termination. (a) If either party defaults in any of its obligations under this Agreement, the other party shall have the right to terminate this Agreement by giving ninety (90) days' written notice of termination specifying the reason for termination, provided that such notice will be of no effect and termination will not occur if the specified default is cured prior to the expiration of said ninety (90) day notice period. (b) Upon the termination of any license granted under this Agreement, Licensee may, after the effective date of such termination, sell any of its (i) completed Products, (ii) Products then in the process of manufacture and (iii) Products with respect to which manufacture has been committed at the time of termination by reason of either (x) any contracts for the purchase of materials to be used in the manufacture of such Products or (y) any contract for the sale of such Products. All such sales and uses shall be subject to the royalty provisions of Section 4 of this Agreement as though the termination of this Agreement had not occurred. (c) Except as expressly provided in Subsection 7.2(b), after termination of this Agreement, Licensee may not use, develop, market or sell the Products, Licensed Trademarks, Know-how, or Licensed Patents in any way or manner and Licensee shall take any and all steps reasonably requested by Licensor to fully document the complete vesting of all rights licensed hereunder to Licensee in Licensor upon any such termination. 7.3 Continuing Obligations. Termination shall not relieve or release either party from its obligations to make any payment which may be owing to the other under the terms of this Agreement or from any other liability which either party may have to the other arising out of the terms of this Agreement. Additionally, notwithstanding anything contained herein to the contrary, Sections 3 and 5, and Subsections 4.3, 4.5, 4.6 and 4.7 shall survive termination of this Agreement and remain in full force and effect; provided, that Licensor and Licensee hereby acknowledge that they may not bring claims against one another based upon the representations and warranties contained in Section 3, except to the extent such representations and warranties are not accurate as of the date hereof. 8. ADDITIONAL AGREEMENTS. 8.1 Pre-IND Meeting. Licensee shall meet with the FDA to discuss procedures and specific requirements necessary to obtain approval to market the Product currently known as QUIT'M. 8.2 Preliminary Clinical Study. Licensee shall conduct at its expense a preliminary clinical study on the Product currently known as QUIT'M to determine its efficacy for smoking alternative/suppression/cessation as established by the FDA in the Pre-IND meeting and whether it achieves a minimum cessation success rate of 20%. Licensee shall commence such study no later than May 1, 1996. 8.3 Regulatory Filing. Upon successful completion of the preliminary clinical study referenced in Subsection 8.2 above, Licensee shall promptly conduct further clinical studies, if any such studies are necessary to obtain FDA approval, and prepare and submit at its expense the necessary regulatory filings to the FDA for the purpose of satisfying federal requirements before sale of the Products may begin. Licensor shall at Licensee's request provide any necessary background information, knowledge or test results in his possession to assist in this area. 8.4 Non-Compete. Licensor agrees to not manufacture, market or license the rights to manufacture and/or market to any other party any other product designed as a diet aid or smoking alternative/suppression/cessation aid during the term of this Agreement. 8.5 Cooperation. Licensor agrees to cooperate with and assist Licensee in developing and marketing the Products. Licensor shall enter into a Consulting Agreement in the form attached hereto as Exhibit 8.5. 9. MISCELLANEOUS. 9.1 Force Majeure. Neither party shall be responsible for any delay or failure in the performance of any obligation hereunder due to strikes, lockouts, fires, floods, acts of God, embargoes, wars, riots, or act or order of any government or governmental agency; provided, however, nothing set forth in this Subsection 9.1 shall be construed to relieve Licensee of the requirement that it pay minimum royalties pursuant to Subsection 4.4 hereof or suffer a loss of the licenses herein granted. 9.2 Waiver. The waiver or failure of either party to enforce the terms of this Agreement in one instance shall not constitute a waiver of said party's right under this Agreement with respect to other violations. 9.3 Remedies. Except as otherwise provided herein, the election by either party of any particular right or remedy shall not be deemed to exclude any other right or remedy and all rights and remedies of either party shall be cumulative. Except as otherwise provided herein, the parties agree that, in addition to any other relief afforded under the terms of this Agreement or by law, each party shall have the right to enforce this Agreement by injunctive or mandatory relief to be issued against the other party, it being understood that both damages and specific performance shall be proper modes of relief and are not to be considered as alternative remedies. 9.4 Notices. All notices and replies thereto required hereunder shall be in writing, signed by the party giving notice, placed in an envelope and either delivered by hand or sent by facsimile or registered mail, postage prepaid, return receipt requested, and properly addressed to the other party. Notices sent by mail shall be deemed received on the date of receipt indicated by the receipt verification provided by the United States Postal Service. Notices sent by facsimile shall be deemed received on the date indicated on the sender's confirmation report. Notice shall be given, mailed or sent to the other party at the following addresses or at such other address as may be given by proper notice: If to Licensor: Ronald S. Nietupski Ronald S. Nietupski 948 Monty Cristo Blvd. 16500 Spaniel Drive Tierra Verde, FL 33715 Lockport, IL 60441-9091 Fax No.: 813-866-8667 Fax No.: 708-301-3295 With a copy to: Gardner, Carton & Douglas 321 N. Clark St., Suite 3400 Chicago, IL 60610-4795 Attn: Todd S. Parkhurst Fax No.: 312-644-3381 If to Licensee: CNS, Inc. P.O. Box 39802 Minneapolis, MN 55439 Attn: Richard E. Jahnke Fax No.: 612-835-5229 With a copy to: Lindquist & Vennum P.L.L.P. 4200 IDS Center 80 South 8th Street Minneapolis, MN 55402-2205 Attn: Patrick Delaney Fax No.: 612-371-3207 Either party hereto may designate any other address for notices given hereunder by written notice to the other party given at least ten (10) days prior to the effective date of such change. 9.5 Entire Agreement. This Agreement represents the entire agreement between the parties with respect to the subject matter hereof; there are no oral promises, representations or warranties. No modification of this Agreement or waiver of any of its terms shall be binding upon the parties unless said modification or waiver is in writing, signed by both parties, and states that it is an amendment to this Agreement. 9.6 Parties in Interest. This Agreement shall inure to the benefit of, be binding upon, and be enforceable against the parties hereto, their respective heirs, successors and assigns. 9.7 Governing Law. This Agreement shall be governed by, construed and enforced under the internal laws (and not the laws of conflicts) of the State of Minnesota. 9.8 Severability. If any portion of this Agreement is held invalid by the final judgment of any court of competent jurisdiction, such portion shall be deemed revised or "blue lined" so that it is enforceable to the fullest extent possible under applicable law and the remaining provisions shall remain in full force and effect as if such invalid provision had not been included herein. IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the day and year first above written. CNS, INC. /s/ Ronald S. Nietupski By: /s/ Richard E. Jahnke Ronald S. Nietupski Its: President LIST OF EXHIBITS Number Description 1.3 Licensed Patents 4.2 Stock Option Agreement 8.5 Consulting Agreement EXHIBIT 1.3 LICENSED PATENTS 1. U.S. Patent No. 4,521,427 (for the product currently known as "WILL-POWER"). 2. U.S. Patent No. 5,336,680 (for the product currently known as "QUIT'M"). EXHIBIT 4.2 CNS, INC. NON-QUALIFIED STOCK OPTION AGREEMENT THIS OPTION AGREEMENT is made as of the ____ day of January, 1996, between CNS, INC., a Delaware corporation (the "Company"), and Ronald S. Nietupski, a non-employee consultant/advisor to the Company (the "Advisor"). Advisor will assist the Company in the development and marketing of the products currently known as "WILL-POWER" and "QUIT'M" (the "Products"). The Company desires to afford Advisor an opportunity to purchase shares of its common stock, of the par value of One Cent ($.01) per share (the "Common Stock"), as hereinafter provided. NOW, THEREFORE, in consideration of the mutual covenants hereinafter set forth and for other good and valuable consideration, the parties hereto have agreed, and do hereby agree, as follows: 1. Grant of Option. The Company hereby grants to the Advisor the right and option (the "Option") to purchase from the Company all or any part of an aggregate amount of 100,000 shares of the Common Stock of the Company on the terms and conditions herein set forth. 2. Purchase Price. The purchase price of the shares of the Common Stock covered by this Option shall be $____ per share. 3. Term of Option. The term of the Option shall be for a period of five (5) years from the date set forth above, subject to earlier termination as hereinafter provided. 4. Termination of License or Consulting Agreements. If the License Agreement dated the date hereof by and between the parties hereto (the "License Agreement") or the Consulting Agreement dated the date hereof between the parties hereto (the "Consulting Agreement") is terminated for any reason, the Option may be exercised (to the extent that Advisor shall have been entitled to exercise the Option under Paragraph 5 of this Agreement prior to the date of the termination of the License Agreement or Consulting Agreement) by the Advisor for a period of 12 months. 5. Exercise of Option. The Option may be exercised by the Advisor as set forth below: a. 50,000 shares upon the successful completion of a preliminary clinical study to confirm the efficacy for smoking cessation. The study will be deemed to be "successful" if (i) the Company, in its sole discretion, determines that the study is sufficient and (ii) the study satisfies the requirements of the Food and Drug Association (the "FDA") for such study, based upon the Company's Pre-IND meeting with the FDA. b. 25,000 shares upon the Company's marketing of or receipt of all necessary regulatory approvals to market either of the Products as a smoking alternative/suppression/cessation aid. c. 25,000 shares upon the Company's marketing of or receipt of all necessary regulatory approvals to market either of the Products as a dietary aid. Notwithstanding the foregoing, the Option shall be exercisable in full, without regard to any installment exercise provisions, for a period of sixty (60) days prior to or subsequent to the occurrence of any of the following events: (i) dissolution or liquidation of the Company other than in conjunction with a bankruptcy of the Company or any similar occurrence, (ii) any merger, consolidation, acquisition, separation, reorganization, or similar occurrence, where the Company will not be the surviving entity or (iii) the transfer of substantially all of the assets of the Company or 70% or more of the outstanding Common Stock of the Company. 6. Non-Transferability. The Option shall be transferable only by will or the laws of descent and distribution, and the Option may be exercised, during the lifetime of the Advisor, only by the Advisor. 7. Method of Exercising Option. Subject to the terms and conditions of this Option Agreement, the Option may be exercised by written notice to the Secretary of the Company at the principal office of the Company. Such notice shall (i) state the election to exercise the Option and the number of shares in respect of which it is being exercised, (ii) be signed by the person so exercising the Option, and (iii) be accompanied by payment of the full purchase price of such shares. The purchase price shall be payable in cash or by check or bank draft payable to the Company. In the event the Option shall be exercised by any person other than the Advisor, such notice shall be accompanied by appropriate proof of the right of such person to exercise the Option. All shares that shall be purchased upon the exercise of the Option as provided herein shall be fully paid and nonassessable. 8. General. The Company shall at all times during the term of the Option reserve and keep available such number of shares of Common Stock as will be sufficient to satisfy the requirements of this Option Agreement, shall pay all original issue and transfer taxes with respect to the issue and transfer of shares pursuant hereto and all other fees and expenses necessarily incurred by the Company in connection therewith, and laws and regulations which, in the opinion of counsel for the Company, shall be applicable thereto. Upon Advisor's exercise of the Option, the Company shall cause the Company's stock transfer agent to promptly issue to the Advisor certificates evidencing shares purchased by Advisor from time to time pursuant to this Option Agreement. 9. Status. Neither the Advisor nor the Advisor's executor, administrator, heirs, or legatees, shall be or have any rights or privileges of a shareholder of the Company in respect of the shares transferable upon exercise of the Option granted hereunder, unless and until certificates representing such shares shall be endorsed, transferred, and delivered and the transferee has caused the Advisor's name to be entered as the shareholder of record on the books of the Company. 10. Company Authority. The existence of the Option herein granted shall not affect in any way the right or power of the Company or its stockholders to make or authorize any or all adjustments, recapitalizations, reorganizations or other changes in the Company's capital structure of its business, or any merger or consolidation of the Company, or any issue of bonds, debentures, preferred or prior preference stock ahead of or affecting the Common Stock of the Company or the rights thereof, or dissolution or liquidation of the Company, or any sale or transfer of all or any part of its assets or business, or any other corporate act or proceeding, whether of a similar character or otherwise. 11. Disputes. As a condition of the granting of the Option herein granted, the Advisor agrees, for the Advisor and the Advisor's personal representatives and successors, that any dispute or disagreement which may arise under or as a result of or pursuant to this Agreement shall be determined by the Compensation Committee of the Board of Directors of the Company, in its sole discretion and acting in good faith, and that any interpretation by said Committee of the terms of this Agreement shall be final, binding and conclusive. 12. Taxes. Advisor shall, no later than the date as of which any part of the value of the Option first becomes includible as compensation in his gross income for Federal income tax purposes, pay to the Company, or make arrangements satisfactory to the Committee regarding payment of, any Federal, state, or local taxes of any kind required by law to be withheld with respect to the award. The obligations of the Company shall be conditional on such payment or arrangements and the Company shall, to the extent permitted by law, have the right to deduct any such taxes from any payment of any kind otherwise due to the participant. 13. Binding Effect. This Agreement shall be binding upon the heirs, executors, administrators and successor of the parties hereto. IN WITNESS WHEREOF, the Company and the Advisor have executed this Agreement as of the day and year first above written. CNS, INC. By:_____________________________ Its:__________________________ ADVISOR: _____________________________ Ronald S. Nietupski EXHIBIT 8.5 CONSULTING AGREEMENT THIS CONSULTING AGREEMENT ("Agreement") is made and entered into as of this ____ day of January, 1996 by and between CNS, Inc., a Delaware corporation ("CNS"), and Ronald S. Nietupski ("Consultant"). R E C I T A L S: A. Consultant has developed certain products containing 2-Acetylpyridine to be used as a dietary aid and a smoking alternative/suppression/cessation aid (the "Products"). B. CNS is acquiring, as of the effective date of this Agreement, a license to manufacture and sell the Products pursuant to a License Agreement between the parties hereto (the "License Agreement"). C. CNS and Consultant mutually desire to enter into an agreement whereby Consultant shall render consulting services as provided herein to CNS and CNS shall pay Consultant as provided herein. AGREEMENT In consideration of the foregoing and of the covenants and agreements hereinafter contained, CNS and Consultant agree as follows: i. CONSULTATION PERIOD. CNS hereby retains Consultant for the period commencing on the date hereof and terminating upon the termination of the License Agreement. Consultant accepts such consultancy upon the terms and conditions hereinafter set forth. ii. DUTIES OF CONSULTANT. Upon reasonable notice (not less than 21 days), Consultant will, at such times and places as requested by CNS, advise, consult with and render services and assistance to CNS in connection with the design, testing, manufacture, regulatory approval, marketing and sale of the Products, and the development of improvements and enhancements of the Products, all as further specified by CNS from time to time. At CNS's request, during any calendar year, Consultant shall devote up to thirty days to fulfilling his duties and responsibilities under this Agreement and shall arrange his schedule to be reasonably available to CNS upon reasonable notice during normal business hours during the term of this Agreement. iii. COMPENSATION. 3.1 As compensation for services rendered and performed and Consultant's other obligations hereunder, CNS shall grant Consultant an option to purchase 100,000 shares of the Common Stock of CNS at an option price equal to the closing price of CNS's stock on the Nasdaq National Market on the date hereof. 3.2 In addition, CNS shall pay Consultant $1,500 for the first day of services and $500 for each day of services thereafter as compensation for services rendered and performed by Consultant on assignments that require Consultant to travel outside of Tierra Verde, Florida or Lockport, Illinois. Such fees shall be payable within 30 days of receipt of Consultant's invoice for services rendered. 3.3 Consultant shall be responsible for all travel and other expenses incurred by Consultant in the performance of his services hereunder. iv. INDEPENDENT CONTRACTOR. It is understood and agreed by the parties that the consulting service hereunder shall be provided by Consultant as an independent contractor and not as an employee or agent of Partnership. v. CONFIDENTIALITY. 5.1 Consultant acknowledges that CNS holds as confidential certain information and knowledge respecting the intimate and confidential affairs of CNS in the various phases of its business, including, but not limited to, trade secrets, processes, formulae, data and know-how, improvements, inventions, techniques, marketing plans, strategy, forecasts and customer lists as it relates to the Products and its other products ("Proprietary Information"). Consultant acknowledges that CNS may disclose certain Proprietary Information to Consultant during the term of this Agreement to enable Consultant to perform Consultant's duties hereunder. To assure that CNS will disclose to Consultant all of the Proprietary Information necessary for Consultant to perform his duties hereunder, Consultant hereby agrees not to disclose to any person other than an employee of CNS, or use in other than CNS's business, any Proprietary Information or material relating to the business of CNS, such as, but not limited to, trade secrets, mailing lists, customer lists, pricing information, manufacturing processes, distribution systems, computer systems or programs, algorithms, etc., either during or after the termination of this Consulting Agreement, except with the express written permission of CNS which will detail the confidential information or material so authorized. Consultant also understands that information and materials received in confidence by Consultant from third parties either within or outside of CNS with regard to CNS or its business is included within the meaning of this paragraph. Upon termination, Consultant agrees not to disclose such confidential information or to make copies of such written confidential information or material and Consultant agrees to return all written confidential information to CNS. 5.2 Consultant represents that his performance of all of the terms of this Agreement as a Consultant to CNS does not and will not breach any agreement to keep in confidence Proprietary Information acquired by him in confidence or in trust prior to his engagement as a consultant by CNS. Consultant has not entered into, and agrees that he will not enter into, any agreement either written or oral in conflict herewith. 6. GENERAL PROVISIONS. 6.1 Waiver. The failure to enforce any provision of this Agreement shall not be construed as a waiver of any such provision nor prevent a party thereafter from enforcing that provision or any other provision of this Agreement. The rights granted the parties are cumulative, and the election of one shall not constitute a waiver of such party's right to assert all other legal and equitable remedies available under the circumstances. 6.2 Notices. All notices, requests, demands and other communications hereunder shall be in writing, and shall be deemed to have been duly given on the date of service if served personally on the party to whom notice is given or within seventy-two (72) hours after mailing if mailed, certified mail, first class, postage prepaid, as follows: TO CNS: CNS, Inc. P.O. Box 39802 Minneapolis, Minnesota 55439 Attention: Richard E. Jahnke Fax No.: 612-835-5229 COPY TO: Lindquist & Vennum P.L.L.P. 4200 IDS Center 80 South Eighth Street Minneapolis, MN 55402 Attention: Patrick Delaney Fax No.: 612-371-3207 TO CONSULTANT: Ronald S. Nietupski Ronald S. Nietupski 948 Monty Cristo Blvd. 16500 Spaniel Drive Tierra Verde, FL 33715 Lockport, IL 60441-9091 Fax No.: 813-866-8667 Fax No.: 708-301-3295 COPY TO: Gardner, Carton & Douglas 321 N. Clark St., Suite 3400 Chicago, IL 60610-4795 Attn: Todd S. Parkhurst Fax No.: 312-644-3381 6.3 Assignment. No rights or obligations under this Agreement shall be assignable or delegable by Consultant. The rights and duties under this Agreement may be assignable by CNS to its successor. Except as provided in the immediately preceding sentence, this Agreement shall be binding upon and shall inure to the benefit of the respective successors and assigns of the parties hereof. 6.4 Severability. The provisions of this Agreement are severable. If any provision of this Agreement shall be held to be invalid or otherwise unenforceable, in whole or in part, the remainder of the provisions or enforceable parts hereof shall not be affected thereby and shall be enforced to the fullest extent permitted by law. 6.5 Prior Agreements - Modifications. This Agreement supersedes all prior agreements and understandings between the parties, oral or written with respect to the subject matter hereof. No modification, termination or attempted waiver shall be valid unless in writing and signed by the party against whom such modification, termination or waiver is sought to be enforced. 6.6 Counterparts. This Agreement may be executed simultaneously in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument. 6.7 Attorneys' Fees. If any party to this Agreement shall bring any action for any relief against the other, declaratory or otherwise, arising out of this Agreement, the losing party shall pay to the prevailing party a reasonable sum for attorney fees incurred in bringing such suit and/or enforcing any judgment granted therein, all of which shall be deemed to have accrued upon the commencement of such action and shall be paid whether or not such action is prosecuted to judgment. Any judgment or order entered in such action shall contain a specific provision providing for the recovery of attorney fees and costs incurred in enforcing such judgment. For the purpose of this section, attorney fees shall include, without limitation, fees incurred in the following: (1) postjudgment motions; (2) contempt proceedings; (3) garnishment, levy, and debtor and third party examinations; (4) discovery; and (5) bankruptcy litigation. 6.8 Termination. CNS may terminate this Agreement in the event of death or disability of Consultant, or in the event Consultant breaches any provision of this Agreement and such breach remains uncured thirty (30) days after written notice from CNS explaining the nature of such breach. 6.9 Governing Law. This Agreement shall be construed and enforced in accordance with the substantive laws of the State of Minnesota, excluding its choice of law provisions. IN WITNESS WHEREOF, the parties hereto have executed this Agreement. CNS, INC. By:_____________________________ Its:__________________________ _____________________________ Ronald S. Nietupski EX-10.16 6 (Certain information has been omitted from this exhibit and filed separetly with the SEC pursuant to a request for confidential treatment under Rule 24b-2) Exhibit 10.16 LICENSE AGREEMENT AGREEMENT made and effective as of the 26th day of February, 1996, by and between CNS, Inc., a Delaware corporation ("Licensee"), and Scott Dahlbeck, M.D. ("Licensor"). R E C I T A L S WHEREAS, Licensor is now and has been engaged in developing certain Products (as defined in Subsection 1.1) for use in preventing dental damage; WHEREAS, the Products embody inventions and designs owned by Licensor and Licensor has available certain know-how relating to the Products; WHEREAS, Licensor owns or controls, or may hereafter own or control, certain know-how, patents or patent applications relating to the Products; WHEREAS, Licensor desires to license to Licensee and Licensee desires to license from Licensor certain know-how and patent applications of Licensor relating to the Products. NOW, THEREFORE, in consideration of the premises, the mutual covenants and agreements hereinafter set forth and other good consideration, the receipt and sufficiency of which are hereby acknowledged, the parties agree as follows: 1. GENERAL DEFINITIONS. As used herein, the following terms shall be defined in the manner set forth below: 1.1 Products. The term "Products" shall mean the Laryngoscope Dental Warning System and parts, and components therefor and related thereto, all improvements thereto, and any other products similar in function or purpose to such product developed by Licensor during the term of this Agreement using any Licensed Patents or Know-how. 1.2 Know-how. The term "Know-how" shall mean any and all tangible and intangible information, technology, documents and materials in the possession and control of Licensor, necessary in order to enable Licensee to utilize fully the rights granted by Licensor to Licensee hereunder and shall include, without limiting the foregoing, the ideas, concepts, confidential information, trade secrets and techniques, as well as all the materials, documents, manuals, schematics, blueprints, specifications, patterns, art work, bills of materials and technical specifications and other information of Licensor relating to the Products. 1.3 Licensed Patents. The Term "Licensed Patents" shall mean the following: (i) the United States patent applications listed on Schedule 1.3 attached hereto and any patents arising therefrom; (ii) the rights, patents and patent applications, if any, in any country or jurisdiction in the world corresponding to the United States patent applications listed on Schedule 1.3 attached hereto; and (iii) any division, continuation, continuation-in-part, divisional, reissued or extended letters patent, applications and petty patents, utility models, utility model conversions, inventor's certificates relating to any of the foregoing United States patents and patents pending and foreign patent rights, which may be developed, acquired or controlled by Licensor during the term of this Agreement and with respect to which Licensor shall have the right to grant the license hereinafter provided. 1.4 Contract Year and Quarter. The term "Contract Year" shall mean each period of twelve consecutive months commencing on January 1 of the year designated in Subsection 4.2. The term "Contract Quarter" shall mean each period of three consecutive months commencing each January 1, April 1, July 1 and October 1. 1.5 Net Sales. The term "Net Sales" shall mean the net amount collected by Licensee from any end-user, sublicensee, assignee or other person relating to or arising from the sale of Products after the deduction of (i) any amounts repaid or credited by reason of rejections or returns and (ii) trade and quantity discounts actually allowed and taken. 1.6 Earned Royalty. The term "Earned Royalty" shall mean the royalty payable to Licensor on Products. 2. GRANT OF LICENSES. 2.1 Patent and Know-how License. Licensor hereby grants to Licensee an exclusive, worldwide, transferable license to manufacture, have manufactured, use, lease, sell and otherwise practice the Products and all Know-how and any invention disclosed or claimed in any of the Licensed Patents. 2.2 Sublicenses and Assignments. Subject to the further provisions of this Subsection 2.2, Licensee may sublicense and/or assign to any third party, including affiliates of Licensee, any and all rights granted hereunder. For any sublicense and/or assignment granting rights to sell Products to parties other than Licensee to be valid, Licensee shall, prior to any such assignment or sublicense, enter into a written assignment and/or sublicense agreement with such proposed sublicensee and/or assignee under which the assignee and/or sublicensee agrees to (i) make payments of royalties to Licensee at commercially reasonable rates based upon the sale of Products, and (ii) provide Licensee records, data and other information necessary to verify the assignee's and/or sublicensee's performance of its obligations under such sublicense and/or assignment agreement. Licensee agrees that it shall take all such action as is reasonable in order to fully enforce the obligations of any such sublicensee and/or assignee under any such sublicense and/or assignment agreement. 2.3 Patent Costs. Licensor shall be responsible for and pay all patent costs and expenses to be incurred in obtaining, prosecuting, owning and maintaining any of the Licensed Patents issued or to be issued under the law of any jurisdiction, including filing, prosecution, working and maintenance costs and taxes; provided, however, that Licensee shall, at Licensor's request, be responsible for and pay all costs and expenses to be incurred in maintaining any of the Licensed Patents issued or to be issued in a foreign jurisdiction, which payments will be deducted from any future royalty payments on foreign sales of the Products. 2.4 Exploitation. Except as set forth in Section 8, Licensee shall not be under any obligation to use, exploit, develop or market any license under this Agreement. Licensee shall be entitled to use its sole business judgment in deciding the manner and extent, if any, of any exploitation of any licenses granted hereunder and in deciding whether to use any other products, devices, techniques or technology competing therewith in any field of use. 3. REPRESENTATIONS AND WARRANTIES. 3.1 Licensor hereby warrants and represents to Licensee as follows: (a) This Agreement has been duly authorized, executed and delivered by Licensor and constitutes a valid and binding obligation of Licensor, enforceable in accordance with its terms. The execution, delivery and performance of this Agreement by Licensor and the consummation of the transactions contemplated hereby do not and will not conflict with or result in any material breach of any of the provisions of, or constitute a material default under, or result in a material violation of, or require any authorization, consent or approval, under the provisions of any agreement or instrument to which Licensor is bound or affected, or any law, statute, rule, regulation, judgment order or decree to which Licensor is subject. (b) Licensor owns all the rights with respect to the Products, Licensed Patents and Know-how. (c) To Licensor's knowledge, there is no reason that enforceable patents will not issue in the United States from the applications listed on Schedule 1.3, or in any other jurisdiction where corresponding rights are sought. (d) To Licensor's knowledge, the Products, Licensed Patents and Know-how do not infringe on any patent, copyright or other intellectual property right of any third party. (e) Licensor has not received notice of any claims, actions, suits or proceedings pending or threatened effecting Licensor, the Licensed Patents or Know-how, which, if adversely determined, would have a material adverse effect upon Licensee's ability to manufacture, have manufactured, use or sell the Products or otherwise practice the rights and technology licensed to Licensee by Licensor under this Agreement, and to Licensor's knowledge, there is no reasonable basis for anyone to bring such claims, actions, suits or proceedings. (f) Licensor has not received any claim from any third-party proceedings relating to the Licensed Patents, Know-how, or the Products which are based upon infringement of any patent or misappropriation or misuse of trade secrets. 3.2 Licensee hereby warrants and represents to Licensor as follows: (a) Licensee is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware. (b) This Agreement has been duly authorized, executed and delivered by Licensee and constitutes a valid and binding obligation of Licensee, enforceable in accordance with its terms. The execution, delivery and performance of this Agreement by Licensee and the consummation of the transactions contemplated hereby do not and will not conflict with or result in any material breach of any of the provisions of, or constitute a material default under, or result in a material violation of, or require any authorization, consent or approval, under the provisions of Licensee's Certificate of Incorporation or Bylaws or any other agreement or instrument to which Licensee is bound or affected, or any law, statute, rule, regulation, judgment order or decree to which Licensee is subject. 4. CONSIDERATION AND REPORTS. 4.1 Fixed License Fees. Licensee agrees to pay to Licensor the following amounts: (a) $15,000 upon the execution of this Agreement; and (b) $35,000 upon receiving clearance to market the Products from the Food and Drug Administration, which amount will be credited as a prepayment of royalties. 4.2 Royalties. Licensee agrees to pay to Licensor royalties as follows based on the Net Sales of Products: (a) 5% of Net Sales of the Products; and (b) 3% of Net Sales of any disposable blade products which are manufactured by Licensee and which incorporate the Product into the blade. The royalty provided for in this Section 4 shall be terminated if and when the Licensed Patents are invalidated or expire. The Earned Royalty due hereunder shall be payable each Contract Quarter as set forth in Subsection 4.4. 4.3 Minimum Royalties. To maintain its rights hereunder, Licensee shall pay to Licensor minimum royalties beginning in the first complete calendar quarter after FDA approval of the Products. Within forty-five (45) days after the end of each Contract Quarter after the commencement of the minimum royalties and during the remaining term of this Agreement, Licensee shall pay Licensor the minimum royalties specified on Schedule 4.3 less (i) the aggregate amount of Earned Royalties actually paid to Licensor for the Contract Quarter ended, (ii) the amount of royalties paid to Licensor in any Contract Quarter for that Contract Year which exceeded the minimum royalties for that Contract Quarter (iii) the aggregate amount of royalties paid by any sublicensee or assignee of this Agreement. Licensee's failure to pay any and all amounts payable under the preceding sentence within forty-five (45) days after receipt of written notice from Licensor that such amounts have not been timely paid shall render the licenses granted hereunder void, and thereupon Licensee shall have no further rights or interests of any kind or nature with respect to the Products, Knowhow, Licensed Trademarks or Licensed Patents and Licensee shall take any and all action that Licensor may request to further document the provisions hereof. In the event that Licensee complies with Section 4.2 but fails to pay the minimum royalties due under this Section 4.3, Licensor's exclusive remedy is to terminate this Agreement, and Licensor will not be entitled to any damages or injunctive or mandatory relief relating to Licensee's obligations under this Section 4.3. 4.4 Quarterly Payments. All royalties due Licensor from Licensee hereunder shall be payable on a Contract Quarterly basis. Within forty-five (45) days after the end of each Contract Quarter during the term of this Agreement, Licensee shall pay to Licensor the royalty due Licensor under Subsections 4.2 and 4.3 through the end of the preceding Contract Quarter and shall furnish Licensor with a written statement setting forth the number of Products sold and the Net Sales received during such Contract Quarter, and the resulting amount of the royalty due Licensor under Subsections 4.2 and 4.3. 4.5 Late Payment. Licensee shall pay a late payment fee to Licensor calculated at a variable rate of 2% over the prime per annum interest rate as set from time to time by Norwest Bank Minneapolis, N.A., Minneapolis, Minnesota (the "Interest Rate"), on any and all amounts that are at any time overdue and payable to Licensor under this Agreement, such interest being calculated on each such overdue amount from the date when such amount became due to the date of actual payment thereof. Such late payment fee shall be in addition to and not in lieu of any and all other rights or remedies that Licensor may have under this Agreement or law relating to a default by Licensee under this Agreement. 4.6 Records. During the term of this Agreement and for three (3) years after termination of this Agreement, Licensee shall at all times maintain accurate and up-to-date records containing complete data from which amounts due to Licensor under this Agreement may be readily calculated. Further, Licensee shall preserve and permit examination of such records by Licensor's representatives at reasonable intervals and under reasonable conditions during the term of this Agreement and for three (3) years thereafter and, upon request, shall supply to Licensor's representatives all information useful in making a proper audit and verification of Licensee's performance of its obligations under this Agreement. 5. INDEMNIFICATION. 5.1 Indemnification by Licensor. Licensor shall indemnify and hold Licensee harmless from and against any and all claims, damages, costs (including reasonable attorneys' fees), judgments and liabilities of any kind or nature arising out of the breach by Licensor of any of its warranties, representations and covenants under this Agreement. 5.2 Indemnification by Licensee. Licensee shall indemnify and hold Licensor harmless from and against any and all claims, damages, costs (including reasonable attorneys' fees), judgments and liabilities of any kind or nature: (a) arising out of the breach by Licensee of any of its covenants under this Agreement; or (b) arising out of or related to the use, development, manufacturing or marketing of the Products, Know-how or Licensed Patents, including but not limited to, product liability claims. 6. PROTECTION AGAINST INFRINGEMENT. In the event that either party becomes aware of activity on the part of any, or a claim made by a, third party which may constitute or relate to infringement of the Licensed Patents, or any other intellectual property rights with respect to which Licensee is granted a license hereunder, that party shall give the other party written notice thereof. Licensee shall, at its option and at its sole expense, initiate and thereafter diligently maintain reasonable efforts to prevent and abate such infringement, including the initiation of an appropriate civil action for infringement and the taking of such other action as may be necessary or appropriate, to enforce the Licensed Patents or other intellectual property rights with respect to which Licensee is granted a license hereunder. In such event, (i) Licensor will permit the use of its name in, and as a party to, all such suits and execute all pleadings, documents and other papers necessary or appropriate in conjunction therewith and (ii) Licensee shall receive the full benefits of any action it takes pursuant to this subsection, including retaining all sums recovered in any such suit or in settlement thereof after paying Licensor the Earned Royalties which shall be calculated from the amount of Net Sales, if any, imputed to support any award of compensatory damages (as opposed to punitive or any other damages). Licensor may, at its option and its cost and expense, participate in meetings with Licensee and/or its counsel and receive all pleadings, documents and other related papers useful for the purpose of keeping Licensor informed of the status of any proceedings commenced by Licensee pursuant to this Section 6. 7. TERM AND TERMINATION. 7.1 Term. This Agreement shall commence on the effective date hereof and shall expire, unless earlier terminated pursuant to the terms of this Agreement, upon the expiration of the last of the Licensed Patents to expire. 7.2 Termination. (a) If either party defaults in any of its obligations under this Agreement, the other party shall have the right to terminate this Agreement by giving ninety (90) days' written notice of termination specifying the reason for termination, provided that such notice will be of no effect and termination will not occur if the specified default is cured prior to the expiration of said ninety (90) day notice period. (b) Upon the termination of any license granted under this Agreement, Licensee may, after the effective date of such termination, sell any of its (i) completed Products, (ii) Products then in the process of manufacture and (iii) Products with respect to which manufacture has been committed at the time of termination by reason of either (x) any contracts for the purchase of materials to be used in the manufacture of such Products or (y) any contract for the sale of such Products. All such sales and uses shall be subject to the royalty provisions of Section 4 of this Agreement as though the termination of this Agreement had not occurred. (c) Except as expressly provided in Subsection 7.2(b), after termination of this Agreement, Licensee may not use, develop, market or sell the Products, Licensed Trademarks, Know-how, or Licensed Patents in any way or manner and Licensee shall take any and all steps reasonably requested by Licensor to fully document the complete vesting of all rights licensed hereunder to Licensee from Licensor upon any such termination. 7.3 Continuing Obligations. Termination shall not relieve or release either party from its obligations to make any payment which may be owing to the other under the terms of this Agreement or from any other liability which either party may have to the other arising out of the terms of this Agreement. Additionally, notwithstanding anything contained herein to the contrary, Sections 3 and 5, and Subsections 4.2, 4.3, 4.4, 4.5 and 4.6 shall survive termination of this Agreement and remain in full force and effect; provided, that Licensor and Licensee hereby acknowledge that they may not bring claims against one another based upon the representations and warranties contained in Section 3, except to the extent such representations and warranties are not accurate as of the date hereof. 8. REGULATORY APPROVALS. Licensee shall submit a 510(k) notification filing to the FDA, prior to June 30, 1996, for the purpose of satisfying the required premarket notification before sale of the Products may begin. 9. MISCELLANEOUS. 9.1 Force Majeure. Neither party shall be responsible for any delay or failure in the performance of any obligation hereunder due to strikes, lockouts, fires, floods, acts of God, embargoes, wars, riots, or act or order of any government or governmental agency; provided, however, nothing set forth in this Subsection 9.1 shall be construed to relieve Licensee of the requirement that it pay minimum royalties pursuant to Subsection 4.3 hereof or suffer a loss of the licenses herein granted. 9.2 Waiver. The waiver or failure of either party to enforce the terms of this Agreement in one instance shall not constitute a waiver of said party's right under this Agreement with respect to other violations. 9.3 Remedies. Except as otherwise provided herein, the election by either party of any particular right or remedy shall not be deemed to exclude any other right or remedy and all rights and remedies of either party shall be cumulative. Except as otherwise provided herein, the parties agree that, in addition to any other relief afforded under the terms of this Agreement or by law, each party shall have the right to enforce this Agreement by injunctive or mandatory relief to be issued against the other party, it being understood that both damages and specific performance shall be proper modes of relief and are not to be considered as alternative remedies. 9.4 Notices. All notices and replies thereto required hereunder shall be in writing, signed by the party giving notice, placed in an envelope and either delivered by hand or sent by facsimile or registered mail, postage prepaid, return receipt requested, and properly addressed to the other party. Notices sent by mail shall be deemed received on the date of receipt indicated by the receipt verification provided by the United States Postal Service. Notices sent by facsimile shall be deemed received on the date indicated on the sender's confirmation report. Notice shall be given, mailed or sent to the other party at the following addresses or at such other address as may be given by proper notice: If to Licensor: Dr. Scott Dahlbeck 716 Logan Holdrege, Nebraska 68949 Fax No.:______________ With a copy to: Nawrocki, Rooney & Sivertson 3433 Broadway Street N.E. Suite 401 Minneapolis, MN 55413 Attn: John L. Rooney Fax No.: 612-331-2239 If to Licensee: CNS, Inc. Box 39802 Minneapolis, MN 55439 Attn: Richard E. Jahnke Fax No.: 612-835-5229 With a copy to: Lindquist & Vennum P.L.L.P. 4200 IDS Center 80 South 8th Street Minneapolis, MN 55402-2205 Attn: Patrick Delaney Fax No.: 612-371-3207 Either party hereto may designate any other address for notices given hereunder by written notice to the other party given at least ten (10) days prior to the effective date of such change. 9.5 Entire Agreement. This Agreement represents the entire agreement between the parties with respect to the subject matter hereof; there are no oral promises, representations or warranties. No modification of this Agreement or waiver of any of its terms shall be binding upon the parties unless said modification or waiver is in writing, signed by both parties, and states that it is an amendment to this Agreement. 9.6 Parties in Interest. This Agreement shall inure to the benefit of, be binding upon, and be enforceable against the parties hereto, their respective successors and assigns. 9.7 Governing Law. This Agreement shall be governed by, construed and enforced under the internal laws (and not the laws of conflicts) of the State of Minnesota. 9.8 Severability. If any portion of this Agreement is held invalid by the final judgment of any court of competent jurisdiction, such portion shall be deemed revised or "blue lined" so that it is enforceable to the fullest extent possible under applicable law and the remaining provisions shall remain in full force and effect as if such invalid provision had not been included herein. IN WITNESS WHEREOF, the parties hereto have executed this Agreement as of the day and year first above written. CNS, INC. /s/ Scott Dahlbeck By: /s/ Richard E. Jahnke Scott Dahlbeck, M.D. Its: President SCHEDULE 4.3
MINIMUM ROYALTIES Minimum Royalties Period Per Quarter 1. All Contract Quarters prior to completion $[Confidential Treatment Requested] of the first full Contract Year of royalty payments. 2. Contract Quarters during second Contract $[Confidential Treatment Requested] Year of royalties. 3. Contract Quarters during third Contract $[Confidential Treatment Requested] Year of royalties. 4. All Contract Quarters after third Contract $[Confidential Treatment Requested] Year and prior to termination of the Agreement
EX-10.17 7 OPTION AGREEMENT Certain information has been omitted from this exhibit and filed seperately with the SEC pursuant to a request for confidential treatment under Rule 24b-2. Exhibit 10.17 This Agreement is entered into on this 5th day of October, 1995 between CNS, Inc. having its place of business at 1250 Park Road, in Chanhassen, Minnesota 55317 hereinafter referred to as "CNS", and Trutek Corp. having its place of business at c/o Kenneth P. Glynn, Esq., Suite 201 (Plaza One), Rte. 12 West, in Flemington, New Jersey, 08022 hereinafter referred to as "Trutek". 1. CNS agrees to pay Trutek a sum of $50,000.00 upon execution of this Option Agreement, and, in exchange, Trutek grants to CNS an exclusive option to take out a license on the property described in the patents and applications attached hereto as Exhibit A, under the License Agreement attached hereto as Exhibit B. 2. This option shall run for a period of six (6) months form the date set forth above. It may be extended for one period of three (3) additional months beyond the initial six (6) month period, by payment of $25,000.00 payment must be received by Trutek at the above address before the expiration of the previous option period, or this option shall immediately and irrevocably expire. 3. During the aforesaid option period, Trutek shall refrain from licensing the property covered hereunder to any third party. 4. During this six (6) month option period, Trutek agrees to procure or perform the following: (a) Single Blind Efficacy Tests from Dr. Jalaj on approximately 10 to 18 of his patients; (b) Double Blind Efficacy Tests from RTL on 12 patients; (c) Safety Tests from Laberco, as follows: (i) Acute Oral Toxicity (ii) Primary Eye Irritation (iii) Primary Skin Irritation (iv) Oral Mucosal with Guinea Pigs or Hamsters (abraded and non-abraded); (d) FDA opinion letter from consultant Sidney Rubinstein; (e) Cover U.S. Patent Fees, International Patent Fees and drawing costs through February 15, 1996; and, (f) Provide copies to CNS. 5. CNS may exercise its option to license hereunder by executing the License Agreement attache hereto as Exhibit B and sending same, along with the initial payment set forth herein, by Certified Mail, Express Mail or Federal Express, to Trutek, before the expiration of the option period. 6. This Agreement is governed by the Laws of the State of New Jersey. CNS, Inc Trutek Corp. By: /s/ Daniel E. Cohen By: /s/ Ashok L. Wahi Dr. Daniel Cohen, President Ashok L. Wahi, President Date: 10/5/95 Date: 10/6/95 EXHIBIT A U.S. CASES: (Attorney Docket No. ALW-101A) Title: Electrostatically Charged Nasal Application Product and Method U.S. Serial No. 08/080,775 Filing Date: June 24, 1993 Status: Issue Fee Paid - - - - - - - - - - - - - - (Attorney Docket No. ALW-102C) Title: Electrostatically Charged Nasal Application Product and Method (Divisional of U.S. Serial No. 08/080,775) U.S. Serial No. 08/443,906 Filing Date: May 17, 1995 Status: Pending INTERNATIONAL CASE: (Attorney Docket No. ALW-101F/PCT) Title: Electrostatically Charged Nasal Application Product and Method International Application No. PCT/US94/06740 Filing Date: June 13, 1994 Status: Pending EXHIBIT B LICENSE AGREEMENT THIS AGREEMENT, made and effective this 1st day of April, 1996 by and between CNS, Inc. having its principal place of business at 1250 Park Road, Chanhassen, Minnesota 55317, hereinafter "CNS", and Trutek Corp., a New Jersey corporation, having its principal place of business at c/o Kenneth P. Glynn, Esq., Suite 201 (Plaza One), One Route 12 West, Flemington, New Jersey 08822 ("TRUTEK"). W I T N E S S E T H: WHEREAS, CNS is currently engaged in manufacturing, distributing and selling certain Breathe Right nasal strips (the "Products"); WHEREAS, TRUTEK has developed a number of inventions and improvements of Electrostatically Charged Nasal Application Product and Method and has filed for Untied States Patent protection for many such developments and, more specifically, has applied for United States patent applications on "Electrostatically Charged Nasal Application Product and Method" (ALW-101A) and its U.S. Divisional application counterpart and its PTC international application counterpart (hereinafter "Patent Assets"); and WHEREAS, CNS desires to obtain an exclusive license under the Patent Assets and TRUTEK is willing to grant such a license to CNS, upon the terms and conditions hereinafter set forth; NOW, THEREFORE, in consideration of the mutual promises and covenants contained herein and for other good and valuable consideration, the receipt and legal sufficiency of which is hereby acknowledged, CNS and TRUTEK agree as follows: ARTICLE 1 - DEFINITIONS 1.01 The following terms as used in this AGREEMENT shall have the meanings set forth in this Article: (a) "Patent Assets" shall mean the United States Patent Application known as "Electrostatically Charged Nasal Application Product and Method", Docket No. ALW-101A, Serial No. 08/080,775, filed on June 24, 1993, allowed and about to be issued as a United States Patent, and the United States Patent Application known as "Electrostatically Charged Nasal Application Product and Method", Docket No. ALW-102C, Serial No. 08/443,906, filed on May 17, 1995, and all continuing, continuation-in-part, divisional and foreign counterparts thereof. (b) "Valid Claim" shall mean a claim in an unexpired TRUTEK Patent which has not been disclaimed, held invalid by a court of competent jurisdiction from which no appeal has been or can be taken, or held unpatentable through any reissue, reexamination and/or interference proceeding in the United States Patent and Trademark Office and any other similar process or opposition proceeding in any foreign Patent Office which is affirmed or sustained by any panel or court of competent jurisdiction from which no appeal has been or can be taken. (c) "Licensed Product" shall mean Products covered by a Valid Claim of the Patent. (d) "Anniversary Royalty Date" shall mean one year from the date of the Agreement and each Anniversary date thereafter. (e) "Affiliate" shall mean: (i) an organization of which fifty percent (50%) or more of the voting stock is controlled or owned, directly or indirectly, by either party; (ii) an organization which directly or indirectly owns or controls fifty percent (50%) or more of the voting stock of either party; (iii) an organization, the majority ownership of which is directly or indirectly common to the majority ownership of either party; or (iv) an organization under (i), (ii), or (iii) above wherein the amount of said ownership is less than fifty percent (50%) and that amount is the maximum amount of ownership allowed pursuant to the laws governing the ownership of said organization. (f) "Gross Revenue" shall mean gross amount collected by CNS from any end user, sublicensee, or any other person relating to or arising form the sale of products after deduction of (i) any amounts repaid and accredited by reason of the returns, and (ii) trade and quantity discounts actually allowed and taken. If Licensed Products are sold by a sublicensee of CNS who did not purchase such products from CNS pursuant to the rights granted to CNS hereunder and if CNS collects a fee directly from such sublicensee as a result of the sale, then CNS shall be deemed to have received Gross Revenues from the sale equal to the gross amount actually paid to sub sublicensee for such products after deduction of any amounts paid or credited by licensee by reason of rejection or return and tarde quantity discounts actually allowed and taken. Notwithstanding the foregoing, if the Licensed Products are incorporated by a sublicensee, who did not purchase the Licensed Products from CNS, into an existing product or into a product where a Licensed Product functions as a value added item in the sublicensee's product, such sale shall not be considered Gross Revenue, but instead shall be subject to a royalty as set forth in paragraph 3.02(c). (g) "Know-How" shall mean all formulations, constituents, percentage, full disclosure of samples made and of samples tested, testing techniques, toxicology and efficiency test results relating to Licensed Product. (h) "Royalty Year" shall mean a twelve (12) month period commencing with each Anniversary Royalty Date. (i) "United States" shall mean the United States, its territories and its possessions, and the Commonwealth of Puerto Rico. ARTICLE 2 - GRANT 2.01 TRUTEK hereby grants CNS a worldwide, sole and exclusive right and license for the term of this AGREEMENT under the TRUTEK Patent Assets to make, have made, use, and sell the Licensed Product, including the right to grant sublicenses. The sole and exclusive right and license granted by TRUTEK to CNS shall be exclusive even as to TRUTEK. 2.02 (a) Subject to further provisions hereof, CNS may sublicense any and all rights granted hereunder. For any sublicense of any rights to sell Licensed Products to parties other than CNS to be valid, CNS shall, prior to the sublicense, enter into a written sublicense agreement with the proposed sublicensee under which the sublicensee agrees to make payments or royalties to CNS at commercially reasonable rates based upon the sale of Licensed Products and provide CNS records, data and other information necessary to verify the sublicensee's performance and its obligations under such sublicense. (b) CNS agrees that it shall take all such actions that are reasonable in order to fully enforce the obligations of any such sublicensee under any sub sublicense agreement. The sublicense shall further specifically recognize that TRUTEK is a third party beneficiary of such sublicense agreement. (c) TRUTEK agrees at CNS's written request to grant a direct license under the TRUTEK Patent Assets under the terms and conditions of this AGREEMENT to any affiliate of CNS outside of North American and CNS guarantees the performance of all obligations imposed on such Affiliate by such license. ARTICLE 3 - CONSIDERATION 3.01 On the effective date of this AGREEMENT, CNS shall pay TRUTEK a first Annual Minimum Royalty of [Confidential Treatment Requested] and shall pay that same amount on all subsequent Anniversary Royalty Dates. All Annual Minimum Royalty payments shall be fully creditable against running royalties, but only against such running royalties as may accrue within the twelve months following the Anniversary Royalty Date upon which a payment is made. All initial and minimum annual payments from all sub-licenses shall be shared 50/50 between CNS and TRUTEK. 3.02 (a) If TRUTEK believes that CNS has not made the payments due under this AGREEMENT, TRUTEK may give written notice to CNS requesting CNS to make such payment. If CNS does not make payment within 30 days, TRUTEK will have the right to obtain the review of CNS's relevant books and records by an independent certified public accountant to be appointed by agreement of the parties, which agreement shall not be unreasonably withheld. If CNS fails to make such payment as the independent certified public accountant determines to be due within 30 days of written notice to CNS of such amount, then this AGREEMENT shall terminate. Either party shall have the right to dispute the amount of the royalty in a court of competent jurisdiction following the written notice of the amount the independent certified public accountant has determined is due. (b) CNS shall pay TRUTEK a royalty of 5% of Gross Revenue of Licensed Products sold, except for Licensed Products not sold by CNS to a sublicensee which are incorporated into a sublicensee's existing product or where the Licensed Product functions as a value added item in the sublicensee's product. Such royalty shall accrue at the time the Licensed Product is sold by CNS, its sublicensees or Affiliates as provide din the AGREEMENT and become payable as provided in paragraph 4.01. (c) If Licensed Products are incorporated by a sublicensee, who did not purchase the Licensed Products form CNS, into an existing product or where the Licensed Product functions as a value added item in the sublicensee's product, CNS shall pay TRUTEK a royalty of 50% of the royalty received from the sublicensee by CNS. 3.03 The obligation to pay royalties to TRUTEK under this AGREEMENT is imposed only once with respect to the same unit of Licensed Product. Royalties due pursuant to Section 3.02 shall accrue when the Licensed Product is shipped or billed to a third party, whichever first occurs. 3.04 If CNS terminates this AGREEMENT under Article 89 hereof, CNS shall be relieved of the obligation to make any further payments under this AGREEMENT accruing after receipt by TRUTEK of the notice of termination. ARTICLE 4 - REPORTS AND PAYMENT TIMING 4.01 Within thirty (30) days after the close of each quarter of a Royalty Year, CNS shall submit to TRUTEK a payment where applicable, along with an accounting report of said quarter year as to quantities of Licensed Product sold by CNS, its Affiliates and sublicensees which are subject under this AGREEMENT to the royalty @ 5% of Gross Revenue, as set forth herein. 4.02 CNS shall keep and maintain such books and records as are required to accurately enable the determination and verification of the payments made by CNS under this AGREEMENT. Such records shall be retained by CNS and abstracts of those records which relate to the Licensed Product shall be made available upon ten (10) days prior notice and at a reasonably acceptable time to CNS for the purpose of verifying the amount of payments made hereunder. Such books and records shall be retained, and such right of examination shall continue, for two (2) years from the date of their origin, or one (1) year after the date of termination of this AGREEMENT, whichever occurs first. Such books and records shall be considered proprietary information and treated in accordance with Article 9 of this AGREEMENT. 4.03 Payments due pursuant to this AGREEMENT shall be paid to TRUTEK in U.S. Dollars at its address as noted in Article 13 hereof or such other address as TRUTEK may designate. ARTICLE 5 - KNOW-HOW 5.01 Promptly following the effective date of this AGREEMENT, TRUTEK shall disclose to CNS the Know-How by furnishing copies and documentation thereof to the extent it has not done so previously. CNS, and any of its sublicensees, shall be free to use such Know-How free of charge in any manner it so desires. ARTICLE 6 - MAINTENANCE AND ENFORCEMENT OF LICENSED PATENTS 6.01 TRUTEK shall maintain, at its expense, any pending and issued U.S. patents and any pending and issued foreign Patents. If TRUTEK elects not to maintain any such application or patent, it shall first give CNS sixty (60) days advance notice, and CNS may opt by notice to TRUTEK to finance same, to protect its interests herein; and any such payment so made by CNS shall be fully creditable against any remaining royalties obligations. However, under such circumstances, TRUTEK shall remain owner of all such patent applications and patents. 6.02 If either party has knowledge of any infringement of a claim of any TRUTEK Patent which covers the making, use or sale of a Licensed Product, such party shall promptly inform the other party of such infringement. CNS and TRUTEK shall thereafter discuss what action should be taken, including whether any legal proceeding should be instituted. If CNS and TRUTEK mutually agree on the course of action to be taken, they shall jointly select on the course of action to be taken, they shall jointly select counsel and equally share any expenses; any settlement or recovery shall be shared by CNS and TRUTEK. If TRUTEK determined to take action, but CNS does not desire to do so, TRUTEK may take action at TRUTEK's expense and through counsel of TRUTEK's choice; any settlement or recovery shall belong solely to TRUTEK. If CNS determines to take action, but TRUTEK does not desire to do so, CNS may take action at CNS's expense and through counsel of CNS's choice and may joint TRUTEK as a plaintiff or defendant in such action. CNS, after deduction of all its expense in the litigation, shall pay TRUTEK the lesser of 50% of the amount remaining after such deduction or 50% of the payments which under Article 3 would have been due on the sales of the infringer had they been sublicensed by CNS hereunder. 6.03 If one party institutes and carries on a legal proceeding to enforce a TRUTEK Patent Asset against an alleged infringer, the other party shall fully cooperate with and supply all assistance reasonably requested by the party instituting and carrying on such proceedings. The party which institutes such a proceeding shall have control over the proceeding, shall bear all costs incurred in connection with such proceeding, including court costs, counsel's fees, expenses and disbursements and shall hold the other party harmless against and from all such cots other than fees and disbursements of such other party's own counsel if such other party elects to be separately represented in such proceeding. No settlement, compromise or other disposition of any such proceeding which concerns the validity of the TRUTEK Patent Assets shall be entered into without the other party's prior written consent, which consent shall not be unreasonably withheld. 6.04 Should CNS, its Affiliates or sublicensee be required either by judgment, award of decree, or by settlement consented to by TRUTEK, which consent shall not be unreasonably withheld, to make royalty payments to a third party as a consequence of CNS's, its Affiliates' or its sublicensees, marketing Licensed Product in the United States, it is agreed that the payments due to TRUTEK under this AGREEMENT for sales of Licensed Product in the United States, whether or not already paid to TRUTEK, shall be reduced by an amount equal to that which CNS, its Affiliates or its sublicensees are required to pay said third party. ARTICLE 7 - EFFECTIVE DATE AND TERM 7.01 This AGREEMENT shall become effective on the date first above written, subject to Section 1.01(d) and, unless terminated sooner under Articles 3 or 8, shall expire upon the expiration of the TRUTEK Patent Assets. Notwithstanding the foregoing, royalties shall not be due on any Licensed Product where any patent covering the Licenced Product has expired. In addition, no royalties will be paid on sales of Licensed Products in the event that a patent covering that product is declared invalid or unenforceable by a court of competent jurisdiction. However, should a decision be rendered on appeal finding such patent valid and enforceable then the obligation of CNS to pay royalties shall apply as if no adverse decision on invalidity or unenforceability has been rendered. ARTICLE 8 - TERMINATION 8.01 Except as provided in paragraph 3.02(a) above, if either party fails to comply with any material obligation or condition of this AGREEMENT, the other party shall give the party in default written notice that such default be cured. If such default is not cured within ninety (90) days after receipt of such notice by the party in default, the notifying party shall be entitled to terminate this AGREEMENT in its entirety by giving further written notice t the party in default. Termination shall take effect upon receipt of such further written notice. The right of either party to terminate this AGREEMENT in its entirety as provided in this paragraph 8.01 shall not be affected by any wavier of, or failure to take action with respect to, any previous default. 8.02 Upon termination of this AGREEMENT, CNS shall within thirty (30) days notify TRUTEK of all stock of Licensed Product which CNS, its sublicensee, and its Affiliate have on hand. CNS, its sublicensees and Affiliates shall thereafter have a nonexclusive license to sell such stock of Licensed Product; provided that CNS shall pay royalties to TRUTEK on such sales a the rate and at the time provided for in this AGREEMENT. 8.03 CNS may relinquish the rights and license granted to CNS under this AGREEMENT for any reason at any time prior to any Anniversary Royalty Date or any fixed payment due date by giving TRUTEK written notice of its desire to do so at least thirty (30) days prior to the date on which the rights an license are to terminate. Should CNS relinquish all of the rights and license granted hereunder, CNS shall be relieved of the obligation to make any and all further payments to TRUTEK which have not yet been made or accrued as of termination. 8.04 Termination of this AGREEMENT for any reason shall be without prejudice to: (1) those rights and obligations under this AGREEMENT which expressly survive termination; and (2) any remedies which either party may then or thereafter have under this AGREEMENT. ARTICLE 9 - PROPRIETARY INFORMATION 9.01 (a) Except as otherwise provided herein, any proprietary information conveyed by either party to the other party hereunder shall be treated as that party would treat its own proprietary information. The providing party of such proprietary information shall designate it as such at the time it is conveyed and the recipient of such proprietary information may not disclose such proprietary information to any third parties without the express written consent of the other party; provided, however, that CNS may communicate proprietary information of TRUTEK to third parties if such communication is reasonably necessary in the ordinary course of business for the purpose of making or marketing the Licensed Product. (b) The recipient shall be relieved of its obligations under Section 9.01(a) to the extent that: (1) such information was already in the recipient's possession prior to disclosure by the other party; (2) such information is, or becomes, publicly known through no fault or omission attributable to the recipient; or (3) such information is lawfully given to the recipient by a third party having a right to do so. ARTICLE 10 - FORCE MAJEURE 10.01 Neither CNS nor TRUTEK shall be liable for the failure to perform any of its obligations under this AGREEMENT if such failure is occasioned by a contingency beyond its reasonable control including but not limited to occurrences such as strikes, or other labor disturbances, lock out, riot, war, default by a common carrier, fire, flood, storm, earthquake, or act or failure to act by a government agency or instrumentality. Each party will notify the other party in writing immediately if any such contingency occurs. ARTICLE 11 - WARRANTIES 11.01 Each of TRUTEK and CNS warrants and represents to the other that it has the full right, authority, and power to enter into this AGREEMENT, and that is not aware of any impediment which would inhibit its ability to perform the terms and conditions imposed on it by this AGREEMENT. 11.02 TRUTEK warrants and represents that it has the entire right, and interest in and to the TRUTEK Patent Assets; that to the best of its knowledge there are no known outstanding claims or licenses or other encumbrances upon such TRUTEK Patent Assets; that the TRUTEK Patent Assets is the only patent, or patent applications now owned or controlled by TRUTEK which covers the Licensed Products and/or the making, using or selling of the Licensed Product throughout the United States; and that it is not in the possession of any information which would, in its opinion, render any claims of the TRUTEK Patent Assets invalid and/or unenforceable. 11.03 TRUTEK warrants and represents that it has no knowledge of the existence of any patent or patent application, U.S. or foreign, other than the TRUTEK Patent Assets, owned or controlled by anyone which (1) covers the Licensed Product and/or (2) would prevent CNS from taking, using or selling the Licensed Product in the United States. 11.04 TRUTEK warrants and represents that it has full right and authority fully to disclose all present Know-How to CNS hereunder and to grant to CNS the right to use said present KnowHow in the United States; and TRUTEK further warrants that it is aware of no claim in or to the Know-How or any residuary rights therein by any third party whether governmental agency, educational institution, corporation (including subsidiaries or parent companies thereof), or private person, nor any impediment to its agreement to disclose and to grant to CNS the right to use future Know-How. 11.05 TRUTEK warrants and represents that it has disclosed all information in its possession ro control which, in its opinion, would be material to CNS entering into this AGREEMENT, and to the best of its knowledge such information does not contain any untrue statements of a material fact or omit to state a material fact. ARTICLE 12 - MISCELLANEOUS 12.01 This AGREEMENT sets forth the entire agreement and understanding between TRUTEK and CNS and supersedes all previous agreements whether written or oral. No modification or amendment of this AGREEMENT shall be of any force or effect unless it is in writing and signed by both TRUTEK and CNS. 12.02 Neither party may sell, assign, transfer, or otherwise coney any of its rights or delegate any of its duties under this AGREEMENT without the prior written consent of the other, which consent will not be unreasonably withheld, except to a corporation which has succeeded to substantially all the business and assets of the assignor and assumed in writing its obligations under this AGREEMENT or to a corporation surviving a merger or consolidation to which the party to this AGREEMENT is a party. This AGREEMENT shall be binding upon and inure to the benefit of the parties hereto and such respective successors and assigns. Any attempted sale, assignment, transfer, conveyance, or delegation ion violation of this Section 12.02 shall be null and void. 12.03 This AGREEMENT does not entitle a party to use of the trademarks of the other without proper authorization from the other party. 12.04 If a court of competent jurisdiction holds that a particular provision or requirement of this AGREEMENT is in violation of any law or otherwise invalid or unenforceable and from which no appeal has been taken or can be taken, such provision or requirement shall not be enforced to the extent that it is in violation of such law or is otherwise invalid or unenforceable; and all other provisions and requiremets of this AGREEMENT shall remain in full force and effect. 12.05 This AGREEMENT shall be governed by, and construed in accordance with, the laws of the State of New Jersey. 12.06 This AGREEMENT has been prepared jointly and shall not be strictly construed against either party hereto. 12.07 All titles and captions in this AGREEMENT are for convenience only and shall not be of any meaning or substance. ARTICLE 13 - NOTICES 13.01 Any legal notice required or permitted hereunder shall be considered properly given if in writing and sent by registered or certified mail, return receipt requested, or delivered personally to the party being notified at the respective address of such party as follows: If to TRUTEK: TRUTEK CORP. c/o Kenneth P. Glynn, Esq. Suite 201 (Plaza One) One Route 12 West Flemington, NH 08822 If to CNS: CNS, Inc. 1250 Park Road Chanhassen, MN 55317 Attention: Dr. Daniel Cohen Such notice shall be effective upon receipt. IN WITNESS WHEREOF, this AGREEMENT has been executed in duplicate by duly authorized representatives of CNS and TRUTEK upon the dates set forth below. CNS, INC. TRUTEK CORP. By: _________________________ By: _________________________ Dr. Daniel Cohen, Ashok L. Wahi, President President Date: _______________________ Date: _______________________ EX-10.18 8 (certain information has been omitted from this exhibit and filed separately with the SEC pursuant to a request for confidential treatment under Rule 24b-2). Exhibit 10.18 MARKETING AND DISTRIBUTION AGREEMENT THIS AGREEMENT is made and entered into as of the 11th day of January, 1996 between CNS, Inc., a Delaware corporation ("Distributor"), Natus Corporation, a Minnesota corporation ("Natus"), and LecTec Corporation, a Minnesota corporation ("LecTec") (Natus and LecTec are collectively referred to herein as "Manufacturer"). B A C K G R O U N D LecTec manufactures the Product (as defined below) and Natus has certain rights to the Product. Manufacturer is the owner of the Product. Distributor is in the business of manufacturing and marketing consumer medical products and has established sales channels for such products. Manufacturer desires to enter into a marketing and distribution agreement for the Product on the terms and conditions set forth in this Agreement. TERMS AND CONDITIONS NOW THEREFORE, in consideration of the mutual promises contained herein, the parties hereto agree as follows: 1. DEFINITIONS. For purposes of this Agreement, the following terms shall be defined in the manner set forth below: 1.1 "Product" shall mean Manufacturer's topical analgesic pain relief patch containing any of the active ingredients methyl salicylate, menthol and camphor, and all alterations of and improvements to such Product; provided, however, that Manufacturer may not alter the Product without Distributor's approval, which approval shall not be unreasonably withheld. 1.2 "Territory" shall mean the United States of America and Canada, and all of their possessions and territories. 1.3 "Exclusive Market" shall mean all retail stores in the Territory and all wholesalers serving those retail stores. 1.4 "Non-Exclusive Market" shall mean those retail channels in the Territory other than the channels in the Exclusive Market; provided, however, that the Non-Exclusive Market shall not include (i) direct response infommercials and electronic retailing through television-based shopping programs such as (but not limited to) QVC and HSN, or (ii) direct person to person marketing, including multi-level distributorships. 1.5 "Growth Factor" for any one calendar year shall mean the product of Distributor's minimum purchase obligation for the prior year and the total growth in the United States' retail topical analgesic market for such prior year as measured by Information Resources, Inc. ("IRI") or Nielson Rating Services ("Nielson") scanner data. 2. APPOINTMENT OF DISTRIBUTOR. 2.1 Subject to the terms and conditions contained herein, Manufacturer grants to the Distributor, and the Distributor hereby accepts, the rights and responsibilities of (i) an exclusive distributor of the Product in the Exclusive Market in the Territory and (ii) a non-exclusive distributor of the Product in the Non-Exclusive Market in the Territory. Distributor is prohibited from selling the Product outside the Exclusive Market or Non-Exclusive Market or to any customer who is not in the Territory. In addition, Distributor is hereby granted a right of first refusal to act as exclusive distributor in the Exclusive Market of any analgesic patch developed by the Manufacturer other than the Product. Such right of first refusal shall expire on the first anniversary of the commencement of test marketing of the Product hereunder. 2.2 Beginning on January 1, 1996 and during the Term of this Agreement, Manufacturer shall maintain Distributor's exclusivity in the Exclusive Market in the Territory by not appointing any sales representatives or distributors, or selling directly through other outlets in the Exclusive Market in the Territory. Nothing contained herein shall in any manner restrict or limit Manufacturer in regard to appointing another distributor for the Product or in regard to selling directly or through other outlets in the Non-Exclusive Market. Distributor acknowledges that Manufacturer has granted to a third party certain rights to sell the Product in the Exclusive Market under the trademark "Natus Patch," which rights are terminable by Manufacturer, and that on January 1, 1996 Manufacturer will give notice to such party to terminate such third party's rights to sell the Product in the Exclusive Market effective January 30, 1996. 2.3. Each of the parties is an independent contractor and nothing contained herein shall be deemed or construed to create the relationship of an agency, partnership, joint venture, franchise or any other association or relationship between the parties except that of a marketing and distributor relationship. Distributor is not granted any right or authority to assume or create any obligations or responsibilities, express or implied, on behalf, or in the name of, Manufacturer or to bind Manufacturer in any manner or thing whatsoever, without the prior written approval and acceptance by Manufacturer in each instance. 3. PURCHASE ORDERS. 3.1 No purchase orders of Distributor shall be binding upon Manufacturer until accepted by Manufacturer in writing. Except as otherwise agreed in writing by Manufacturer, an order may not be canceled by Distributor after it has been accepted. 3.2 All sales of Product by Manufacturer to Distributor hereunder shall be subject to the provisions of this Agreement and shall not be subject to the terms and conditions contained in any purchase order of Distributor or confirmation of Manufacturer, except insofar as any such purchase order or confirmation establishes (i) the quantity of Product to be sold or (ii) the shipment date of Product. 4. SHIPMENT OF PRODUCT. 4.1 Subject to delay due to force majeure, Manufacturer will ship Product on the date indicated in Distributor's purchase order if such order is within the then current sales projection of Distributor. If such order is beyond the projection, Manufacturer will use commercially reasonable efforts to meet such order and will not unreasonably withhold or delay its acceptance of the order. 4.2 All Product sold by Manufacturer to Distributor hereunder will be shipped by Manufacturer F.0.B. LecTec's loading dock ("Shipping Point"). 4.3 Distributor shall assume all risk of loss for Product upon delivery by Manufacturer of the Product to the Shipping Point. 4.4 Distributor will pay all loading, freight, shipping, insurance, forwarding and handling charges, taxes, storage, and all other charges applicable to the Product after it is delivered by Manufacturer to the Shipping Point. 5. PRICE AND PAYMENT. 5.1 Manufacturer agrees to sell the Product to Distributor F.O.B. Shipping Point at the price set forth on Exhibit A. Prices may not be changed without Distributor's prior approval and changes will be based on the national consumer price index. 5.2 The parties agree to renegotiate in good faith the price paid by Distributor for the Product in the following situations: (i) for specified packout configurations, for which different prices will be based on any cost savings or increases that Manufacturer incurs as a result of such packout changes; (ii) in the event price elasticity or competitive pricing pressures impact Distributor's ability to effectively penetrate the market, in which case the new prices will be negotiated in good faith; and (iii) to share manufacturing cost reductions with Distributor in the event that unit sales of the Product reach sufficient sustainable volume to generate manufacturing economies of scale, in which case the new prices will be negotiated in good faith with the understanding that the parties will take into consideration any cost saving experienced by Distributor in connection with its marketing efforts. 5.3 Manufacturer agrees that it will not (i) sell comparably-sized Product to any other party in the Non-Exclusive Market at a price less than the price paid by Distributor or (ii) sell comparably-sized Product to any other party at a price less than the price paid for the Product by Distributor. The restriction in Section 5.3(ii) shall not apply to sales under (a) agreements existing as of the date of this Agreement or (b) agreements for sales through direct person to person marketing, including multi-level distributorships. 5.4 Except as otherwise provided in this Agreement, Distributor shall pay Manufacturer for each shipment of Product within thirty (30) days of the date of the invoice issued by Manufacturer in conjunction with such shipment. 6. RETURNED GOODS POLICY. Distributor may return Product to Manufacturer upon Manufacturer's prior written approval if such Product deviated from Distributor's packaging specifications or if the Product or packaging does not meet the warranties contained in Section 13.1. Complaints concerning conditions of any Product or packaging must be made within fifteen (15) days of receipt by Distributor of such Product. Manufacturer shall pay all freight charges incurred in connection with any return of Product pursuant to this returned goods policy. 7. MANUFACTURER'S RESPONSIBILITIES. 7.1 In support of Distributor's sales efforts to promote Product in the Territory, Manufacturer will furnish, at no cost to Distributor, (i) to the extent known and available to Manufacturer, medical literature regarding or relating to the Product, including abstracts of clinical studies and medical journal articles, (ii) sales and promotional materials as may be developed by Manufacturer, limited to technical data and technical journal reprints, and (iii) samples of Product in reasonable quantities, as requested by Distributor and agreed to by Manufacturer, each acting in good faith. Manufacturer will furnish information to aid in the orientation and training of Distributor's service and sales personnel. 7.2 Manufacturer will package the Product in conformance with the packaging specifications provided by Distributor. Distributor will provide camera-ready artwork for labels and packaging. 7.3 Manufacturer shall take such actions as are necessary (such as cutting off supply of Product) to prevent any domestic or foreign entity from distributing or selling, directly or indirectly, the Product in the Exclusive Market in the Territory. 7.4 Manufacturer shall, with the exception of an IND, underwrite the cost of any clinical studies necessary to support the Citizens Petition or other similar FDA filings. Distributor and Manufacturer shall jointly underwrite the cost of any mutually agreed upon clinical studies intended to broaden Product claims beyond the monograph. Neither party shall be obligated to file an IND or perform any clinical studies with respect to the Product. 7.5 Manufacturer shall give Distributor 180 days' written notice prior to discontinuing the manufacture of the Product and shall not discontinue manufacturing the Product prior to December 31, 1997 without Distributor's written approval, unless the Food and Drug Administration forbids production or distribution of the Product. 7.6 Manufacturer shall maintain a 30-day inventory of Product to meet Distributor's forecasted volume requirements provided to Manufacturer pursuant to Section 8.2. 8. DISTRIBUTOR'S RESPONSIBILITIES. In addition to the duties and responsibilities outlined elsewhere in this Agreement, Distributor agrees as follows: 8.1 Distributor will vigorously promote the sale and acceptance of Product throughout the Territory. Distributor shall provide its customers with all necessary and appropriate training and support regarding the use of the Product. 8.2 Distributor shall furnish to Manufacturer a written four-month rolling forecast for the Product, which forecast shall be given to Manufacturer on or before the 10th day of each month. 8.3 Distributor shall underwrite the cost of any comparative clinical studies for the Product. Distributor and Manufacturer shall jointly underwrite the cost of any clinical studies intended to broaden Product claims beyond the monograph, which are mutually agreed upon by the parties. 8.4 Claims language in all advertising or promotional materials utilized by Distributor, its agents or employees in conjunction with the sale of Product, other than such sales literature as is furnished to Distributor by Manufacturer, shall be approved, in writing, by Manufacturer prior to their use or dissemination. 8.5 Distributor shall cooperate fully with Manufacturer in dealing with customer complaints concerning the Product and shall take such action to resolve such complaints as may be requested by Manufacturer. 8.6 Distributor agrees, during the term of this Agreement, to comply with all FDA regulations applicable to the Product. Distributor shall not, in any way, misrepresent the nature or indications for use of the Product or, except by prior written approval of Manufacturer, alter the Product. 9. MINIMUM PURCHASE OBLIGATIONS AND RETAIL STORE PLACEMENTS. 9.1 During the term of this Agreement, Distributor shall purchase a minimum number of Product from Manufacturer per calendar year and shall have the Product placed in a minimum number of retail stores as of December 31 of each year, as set forth below. 9.1.1 Year Number of Patches ---- ----------------- 1996 1997 [Confidential 1998 Treatment Thereafter Requested] 9.1.2 Year Number of Stores ---- ----------------- 1996 [Confidential 1997 Treatment Thereafter Requested] The above minimums assume that test marketing of the Product will begin by May 1, 1996. If test marketing begins later, the parties shall renegotiate the minimums in good faith. 9.2 The minimum purchase obligation for 1997 may be satisfied by achieving a combined volume of [Confidential Treatment Requested] patches during 1996 and 1997. 9.3 During years 1996, 1997 and 1998, Distributor's obligations under this Section 9 may be satisfied by achieving either the Product minimums or retail store minimums, determined through IRI or Nielson data and store purchase data, records of which may be reviewed by Manufacturer. 9.4 In the event that Manufacturer loses its Product deferral with the FDA and, as a consequence, Distributor is prohibited from selling the Product, the minimum requirements set forth above shall be waived. 9.5 In the event Distributor shall fail to meet any minimum requirements as set forth in this Section 9, Distributor shall have defaulted under this Agreement, and Manufacturer's exclusive remedy is to terminate this Agreement pursuant to Section 10; provided, however, that after 1998, Distributor shall not be in breach of this Section 9 and Manufacturer may not terminate this Agreement until (i) Distributor shall have failed to meet any of its minimum requirements, (ii) Manufacturer has given Distributor a 30-day written notice of such failure, and (iii) Distributor fails to meet the minimum requirements after an additional six-month period to cure. 9.6 The minimums stated above will be appropriately reduced by good faith negotiation of the parties (i) if Manufacturer does not use reasonable efforts to defend its patents, (ii) if Manufacturer does not obtain or maintain the necessary governmental or regulatory approvals to sell the Product or (iii) where the parties are unable to agree on the price of the Product pursuant to in paragraph 5.2(ii) hereof. 10. TERM OF AGREEMENT; TERMINATION. 10.1 This Agreement shall commence on the date hereof and terminate on the later of (i) expiration of the last of Manufacturer's United States patents on the Product issued or pending as of the date of this Agreement and (ii) any other patent issued or pending or application filed on the Product after the date hereof. 10.2 Either party may terminate this Agreement by giving thirty (30) days' written notice to the other party of any material breach provided that as of the expiration of said thirty (30) day notice period and an additional sixty (60) days' cure period such breach remains uncured (other than as set forth in Section 9.5)(iii)). 10.3 Either party may terminate this Agreement immediately upon written notice to the other party if the other party shall: (i) file a voluntary petition in bankruptcy or be the subject of an involuntary petition in bankruptcy which is not dismissed within thirty (30) days of the date of filing; (ii) be voluntarily or involuntarily dissolved; or (iii) have a receiver, trustee or other court officer appointed for its property in connection with any such bankruptcy proceeding, liquidation or insolvency proceeding. 10.4 Termination of this Agreement shall not relieve Manufacturer of its obliga tions to deliver all Product ordered by Distributor and accepted by Manufacturer prior to such termination; nor will such termination relieve Distributor of its obligation to accept and pay for all Product ordered by Distributor under purchase orders issued by Distributor and accepted by Manufacturer prior to the date of such termination. Termination shall not relieve or release either party from its obligation to make any other payments which may be owing to the other party under the terms of this Agreement or from any other liability which either party may have to the other arising out of this Agreement or the breach of this Agreement. Following notice of termination, Manufacturer shall have no obligation to accept any orders for Product from Distributor. 10.5 Upon termination of this Agreement for breach by Manufacturer or for breach by Distributor of its minimum purchase obligations or minimum store placements hereunder, Distributor shall have the right, but not the obligation, to cause Manufacturer to repurchase all Product having at least 50% of its original shelf life in possession of Distributor, at the lower of Distributor's original invoice purchase price or the then current invoice price, provided, that such Product is new, unused and not materially damaged. Manufacturer agrees to buy said Product from Distributor for said price should Distributor exercise this right. 10.6 Upon termination of this Agreement for breach by Distributor (other than a breach by Distributor of its minimum purchase obligations or minimum store placements hereunder), Manufacturer shall have no obligation to repurchase Distributor's inventory of Product, and shall have the right, but not the obligation, to cause Distributor to purchase, at the then current price, Manufacturer's 30 day inventory of Product as required to be held by Manufacturer pursuant to Section 7.6, having at least 50% of its original shelf life in Manufacturer's possession, provided, that such Product is new, unused and not materially damaged. Distributor agrees to buy said Product from Manufacturer for said price should Manufacturer exercise this right. 10.7 Notwithstanding anything contained herein to the contrary, Sections 12, 13 and 19 of this Agreement shall survive termination of this Agreement and shall remain in full force and effect. 11. WAIVER OF BREACH. The waiver or failure of either party to enforce the terms of this Agreement in one instance shall not constitute a waiver of said party's rights under this Agreement with respect to other violations. 12. MANUFACTURER'S WARRANTIES AND REPRESENTATIONS; INDEMNIFICATION. 12.1 Manufacturer warrants that the Product and its packaging (i) are free from defects in material and manufacture, (ii) are fit to be used as indicated in the Product labeling, (iii) meet all specifications and performance claims, and (iv) are not adulterated or misbranded (as defined by the FDA). If a Product or the packaging does not meet its warranty, Manufacturer shall replace such Product or packaging or refund Distributor's purchase price. In case of a recall, Manufacturer shall reimburse Distributor for its reasonable costs in assisting in the recall. THE WARRANTIES SET FORTH ABOVE ARE IN LIEU OF ALL OTHER WARRANTIES, EXPRESS OR IMPLIED, WHICH ARE HEREBY DISCLAIMED AND EXCLUDED BY MANUFACTURER, INCLUDING WITHOUT LIMITATION ANY WARRANTY OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE OF USE, EXCEPT AS EXPRESSED ABOVE IN PARAGRAPH 12.1. 12.2 Manufacturer will comply with all material laws and regulations, including FDA GMPs with respect to the manufacturing, packaging and labeling of the Products. Distributor may periodically audit procedures, processes, process controls and manufacturing records of Manufacturer. 12.3 Each of LecTec and Natus has been duly incorporated and is validly existing as a corporation in good standing under the laws of the State of Minnesota and the undersigned has been duly authorized to execute this Agreement on behalf of the Manufacturer, and when so executed, this Agreement will constitute the valid and binding obligation of Manufacturer, enforceable in accordance with its terms. 12.4 Manufacturer has the exclusive right, under the applicable patents related to the Product, to manufacture the Product, for the duration of such patents, in the United States and Canada and Manufacturer has obtained clearance to market the Product in the United States from the FDA. It will use commercially reasonable efforts to obtain clearance from the Ministry of Health to market the Product in Canada taking into account the costs of obtaining such clearance and the anticipated market for the Products in Canada. 12.5 LecTec and Natus shall jointly and severally save Distributor, its directors, officers and employees from and against and indemnify them from any and all claims, liabilities, costs and expenses of any nature (including attorney's fees) caused by reason of claims that the Product caused personal injury or property damage; provided, however, that Manufacturer's indemnification obligations are conditioned upon Distributor giving Manufacturer prompt written notice of any such claims and allowing Manufacturer to participate in its own defense with its own counsel. 12.6 Manufacturer shall maintain product liability insurance coverage in the amount of $2 million per occurrence which will be renewed annually and which shall name Distributor as an additional named insured. 12.7 No party shall be liable to another party for any consequential damages (e.g., lost profits, business opportunities or investments) that arise as a result of this Agreement or its termination. 13. DISTRIBUTOR'S REPRESENTATIONS; INDEMNIFICATION. 13.1 Distributor shall not make any statements concerning the Product which are not approved by Manufacturer, and any such statements by Distributor shall be the sole responsibility of Distributor and Distributor shall save Manufacturer, its directors, officers and employees harmless against and indemnify them from the liability, costs, and expenses of any nature (including attorneys' fees) which Manufacturer may incur as the result of any such statements; provided, however, that Distributor's indemnification obligations are conditioned upon Manufacturer giving Distributor prompt written notice of any such claims and allowing Distributor to participate in its own defense with its own counsel. 13.2 Distributor has been duly incorporated and is validly existing as a corporation in good standing under the laws of the State of Delaware and the undersigned has been duly authorized to execute this Agreement on behalf of the Distributor, and when so executed, this Agreement will constitute the valid and binding obligation of Distributor, enforceable in accordance with its terms. 14. TRADEMARKS AND TRADE NAMES. 14.1 Manufacturer hereby grants to Distributor the exclusive license to use the "TheraPatch(TM)" trade name for use in the Territory in connection with the advertising and sale of the Product. If at any time Distributor markets the Product under a trade name other than "TheraPatch," the exclusive license granted pursuant to this Section 14.1 shall terminate. Distributor will discontinue the use of such trade name at the end of this Agreement. If Distributor uses the TheraPatch name in connection with the advertising and sale of the Product, Distributor shall indicate on package labeling of the Product that the product is manufactured by LecTec and that "TheraPatch" is a trademark of the Manufacturer." 14.2 Distributor is hereby granted the first right of negotiation to acquire the trade name "TheraPatch." Such right of negotiation shall expire on the first anniversary of the commencement of test marketing of the Product hereunder. 14.3 Distributor shall not remove, cover, change, or add to the labels affixed by Manufacturer to Product without first receiving Manufacturer's written approval. 15. PATENT OR TRADEMARK INFRINGEMENT.. 15.1 If a patent infringement action is commenced or threatened against Manufacturer as to any Product and Manufacturer elects to, as a result, discontinue the sale of the Product in any part or all of the Territory, Distributor shall discontinue its efforts to sell said Product in any such part or all of the Territory immediately upon receipt of written notice thereof from Manufacturer. LecTec and Natus shall jointly and severally save Distributor, its directors, officers and employees harmless from and against and indemnify them from any and all claims, liabilities, costs and expenses of any nature (including attorney's fees) caused by reason of claims that the Product infringes the intellectual property rights of others (e.g., patent, copyright , trademark, trade name, etc.); provided, however, that Manufacturer's indemnification obligations are conditioned upon Distributor giving Manufacturer prompt written notice of any such claims and giving the defense of the claim to Manufacturer and reasonably cooperating with Manufacturer in the defense. Distributor shall have a right to cooperate in its own defense with its own counsel. 15.2 Distributor shall promptly notify Manufacturer in the event Distributor becomes aware of any activities of a third party that may constitute infringement of the Manufacturer's patents or pending patents on the Product or trademarks. 16. RECALL. Distributor shall maintain complete and accurate records of all Product sold by Distributor, its agents or employees (including without limitation a complete and current list of all customers who have purchased, the date of such purchases and the lot numbers of the units purchased). In the event of a recall of any of the Product, Distributor will cooperate fully with Manufacturer in effecting such recall, including without limitation, promptly contacting any purchasers Manufacturer desires be contacted during the course of any such recall, and promptly communicating to such purchasers such information or instructions as Manufacturer may desire be transmitted to such purchasers. 17. TRACEABILITY. Distributor agrees to comply with all traceability programs in effect at any time as initiated by Manufacturer. Manufacturer may examine and make transcripts of any records required as part of a traceability program at reasonable times during business hours. 18. APPOINTMENT OF SUBDISTRIBUTORS. In the event Distributor appoints any subdistributors or sales representatives in the Territory in connection with the performance of this Agreement, such appointment shall be made only in the name and for the account of Distributor and shall be for a term no greater than the term of this Agreement. Distributor shall not grant to the subdistributors and/or sales representatives any rights greater than those which are granted by Manufacturer to Distributor under this Agreement. Distributor shall also impose on the subdistributors and/or sales representatives the same obligations as Manufacturer has imposed on Distributor under this Agreement. 19. CONFIDENTIAL INFORMATION. Manufacturer and Distributor may exchange information each considers confidential ("Confidential Information"). "Confidential Information" shall include any information that is not generally known, including trade secrets, outside of that disclosing party and that is proprietary to that party, relating to any phase of that party's existing or reasonably forseeable business which is disclosed to the receiving parties during the term of this Agreement. "Confidential Information" does not include information that (i) is or becomes publicly available through no fault of the receiving parties, (ii) is in the possession of the receiving parties prior to the receipt from the disclosing party, (iii) is developed by the receiving party independently of the Confidential Information, or (iv) is given to the receiving party by someone else who has the right to do so. Each party hereto specifically agrees to keep confidential and not to disclose to others any and all Confidential Information. Upon the request of the disclosing party, or in the event of the expiration or other termination of this Agreement, the receiving parties shall promptly return all such Confidential Information to the disclosing party. Each party hereto agrees not to use any such Confidential Information except in conjunction with the purposes of this Agreement. The duty not to disclose or use (other than in conjunction with the performance of this Agreement) such Confidential information shall survive the termination of this Agreement. 20. FORCE MAJEURE. Neither Manufacturer nor Distributor shall be in breach of this Agreement for a failure to perform or be liable to the other for any failure to perform under this Agreement if such failure is caused, in whole or in part, directly or indirectly, by strikes, lockouts, or any other labor troubles, fires, floods, acts of God, accidents, embargoes, war, riots, act or order of any government or governmental agency, delay in the delivery of raw material, parts, or completed merchandise by the supplier thereof, or any other cause beyond the control of, or occurring without the fault of, such party. 21. NOTICE. All notices under this Agreement shall be in writing, and may be delivered by hand or sent by mail or facsimile transaction. Notices sent by mail shall be sent by registered mail, return receipt requested, and shall be deemed received on the date of receipt indicated by the receipt verification provided by the United States postal service. Notices delivered by hand or facsimile transaction shall be effective upon receipt. Notices shall be given, mailed, or sent to the parties at the following addresses: If to LecTec: With a copy to: LecTec Corporation Dorsey & Whitney P.L.L.P. 10701 Red Circle Drive Pillsbury Center South Minnetonka, MN 55343 220 South 6th Street Attn: Thomas E. Brunnelle, Ph.D. Minneapolis, MN 55402 Phone: (612) 933-2291 Attn: Karin Keitel Fax: (612) 933-1068 Phone: (612) 340-8809 Fax: (612) 340-8738 If to Natus: With a copy to: Natus Corporation Dorsey & Whitney P.L.L.P. 4550 W. 77th Street Pillsbury Center South Edina, MN 55435 220 South 6th Street Attn: Kathleen A. Billings Minneapolis, MN 55402 Phone: (612) 835-4626 Attn: Karin Keitel Fax: (612) 835-2317 Phone: (612) 340-8809 Fax: (612) 340-8738 If to Distributor: With a copy to: CNS, Inc. Lindquist & Vennum P.L.L.P. P.O. Box 39802 4200 IDS Center Minneapolis, MN 55439 80 South 8th Street Attn: Richard E. Jahnke Minneapolis, MN 55402 Phone: (612) 820-6696 Attn: Patrick Delaney Fax: (612) 820-6697 Phone: (612) 371-3281 Fax: (612) 371-3207 Any party hereto may designate any other address for notices given it hereunder for written notice to the other party given at least ten (10) days prior to the effective date of such change. 22. ENTIRE CONTRACT. There are no oral or other agreements or understandings between the parties affecting this Agreement or relating to the selling or purchase of Product. This Agreement supersedes all previous oral and written arrangements between the parties, including their letter of intent dated October 10, 1995, and is intended as a complete and exclusive statement of the terms of their understanding. 23. AMENDMENTS. Amendments, if any, shall be in writing and valid only when signed by all parties. 24. ASSIGNABILITY. No party may assign this Agreement without the written consent of the other parties; provided, however, that either party may assign this Agreement without such consent to any majority-owned or controlled affiliate or subsidiary. 25. SEVERABILITY. In the event that any provision of this Agreement is held invalid by the final judgment of any court of competent jurisdiction, the remaining provisions shall remain in full force and effect as if such invalid provision had not been included herein. 26. REMEDIES. The parties acknowledge that money damages may not be an adequate remedy for any breach of the provisions of this Agreement and that, in addition to any other relief afforded by law, an injunction against such violation may be issued against it and every other person concerned thereby, it being understood that both damages and an injunction shall be proper modes of relief and are not to be considered mutually exclusive remedies. In the event of any such violation, the parties agrees to pay, in addition to the actual damages sustained by the other parties as a result thereof, the reasonable attorneys' fees incurred by such party in pursuing any of its rights under this Agreement. 27. ACTION FOR BREACH. The time within which Manufacturer or Distributor may bring an action for breach of this Agreement shall be one year from the date of knowledge of such breach. No action may be commenced after that one-year period. 28. DISPUTES; APPLICABLE LAW AND FORUM SELECTION. Except as altered or expanded by this Agreement, the substantive law (and not the law of conflicts) of the State of Minnesota shall govern this Agreement in all respects as to the validity, interpretation, construction and enforcement of this Agreement and all aspects of the relationship between the parties hereto. Any disputes between the parties hereto relating to any provision hereof shall be settled by submission for arbitration at the Minneapolis, Minnesota office of the American Arbitration Association under the then current rules of the American Arbitration Association. Notwithstanding the foregoing, nothing herein shall prevent a party from seeking and obtaining equitable relief in a court of competent jurisdiction solely for the purpose of protecting such party's rights, pending a final decree of the arbitrator. IN WITNESS WHEREOF, the parties have hereunto set their hands ^l as of the day and year first above written. LECTEC CORPORATION NATUS CORPORATION By /s/ Thomas E. Brunelle By /s/ Kathleen A. Billings Thomas E. Brunelle, Ph.D., Kathleen A. Billings, Chairman, President and CEO President and CEO CNS, INC. By /s/ Richard E. Jahnke Richard E. Jahnke, President and COO Exhibit A PRICES The initial price for the Product shall be $[Confidential Treatment Requested] per patch based on packaging of five patches per box. The price shall be subject to change based on future negotiations. EX-11 9 EXHIBIT 11 CNS, INC. COMPUTATION OF NET EARNINGS (LOSS) PER SHARE OF COMMON STOCK
Year ended December 31, ------------------------------------------ 1995 1994 1993 ----------- ------------ ------------ NET INCOME (LOSS): Income (loss) from continuing operations $13,310,505 $ (2,558,101) $ (298,753) Income (loss) from discontinued operations 765,989 (309,314) (1,132,020) ----------- ------------ ------------ Net income (loss) $14,076,494 $ (2,867,415) $ (1,430,773) =========== ============ ============ PRIMARY EARNINGS PER SHARE: Average number of common and common equivalent shares outstanding: Average common shares outstanding 17,220,709 15,754,586 13,145,276 Incentive stock options 663,338 0 0 Non qualified stock options 391,990 0 0 Warrants 70,301 0 0 ----------- ------------ ------------ 18,346,338 15,754,586 13,145,276 =========== ============ ============ Earnings per share from continuing operations $ .73 $ (.16) $ (.02) Earnings per share from discontinued operations .04 (.02) (.09) ----------- ------------ ------------ Primary earnings (loss) per share $ .77 $ (.18) $ (.11) =========== ============ ============ FULLY DILUTED EARNINGS PER SHARE Average number of common and common equivalent shares outstanding: Average common shares outstanding 17,220,709 15,754,586 13,145,276 Incentive stock options 680,013 0 0 Non qualified stock options 403,206 0 0 Warrants 71,597 0 0 ----------- ------------ ------------ 18,375,525 15,754,586 13,145,276 =========== ============ ============ Earnings per share from continuing operations $ .72 $ (.16) $ (.02) Earnings per share from discontinued operations .04 (.02) (.09) ----------- ------------ ------------ Fully diluted earnings (loss) per share $ .76 $ (.18) $ (.11) =========== ============ ============
EX-23.1 10 EXHIBIT 23.1 INDEPENDENT AUDITORS' CONSENT The Board of Directors CNS, Inc.: We consent to incorporation by reference in the registration statements (Nos. 33-19044, 33-29454, 33-42971 and 33-59719) on Form S-8 of CNS, Inc. of our reports dated January 26, 1996, relating to the balance sheets of CNS, Inc. as of December 31, 1995 and 1994, and the related statements of operations, stockholders' equity, cash flows, and related financial statement schedule for each of the years in the three-year period ended December 31, 1995, which reports appear in the December 31, 1995 annual report on Form 10-K of CNS, Inc. KPMG Peat Marwick LLP Minneapolis, Minnesota March 8, 1996 EX-27 11
5 YEAR DEC-31-1995 JAN-01-1995 DEC-31-1995 8,551,919 1,950,354 8,031,793 201,000 11,100,909 31,310,649 700,313 141,314 32,340,535 5,455,193 0 0 0 26,002,312 0 32,340,535 48,631,855 48,631,855 17,554,413 17,554,413 0 0 12,500 12,969,505 (341,000) 13,310,505 765,989 0 0 14,076,494 .76 .76
-----END PRIVACY-ENHANCED MESSAGE-----