-----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, EAdL8jwPDYZpbkFihFfOVnYrWSt/+d5LurNcZLkItTY6R8QrOx4bmccwJ9wO1gnH Fs4yRjNYbKagLGFrKWoquw== 0000912057-00-014938.txt : 20000331 0000912057-00-014938.hdr.sgml : 20000331 ACCESSION NUMBER: 0000912057-00-014938 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000330 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ZORAN CORP \DE\ CENTRAL INDEX KEY: 0001003022 STANDARD INDUSTRIAL CLASSIFICATION: SEMICONDUCTORS & RELATED DEVICES [3674] IRS NUMBER: 942794449 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-27246 FILM NUMBER: 586678 BUSINESS ADDRESS: STREET 1: 3112 SCOTT BOULEVARD STREET 2: SUITE 255 CITY: SANTA CLARA STATE: CA ZIP: 95054 BUSINESS PHONE: 4089194111 MAIL ADDRESS: STREET 1: 3112 SCOTT BOULEVARD STREET 2: SUITE 255 CITY: SANTA CLARA STATE: CA ZIP: 95054 10-K 1 10-K - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K (MARK ONE) /X/ Annual report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the fiscal year ended DECEMBER 31, 1999 / / Transition report pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from to
COMMISSION FILE NUMBER: 0-27246 ------------------------ ZORAN CORPORATION (Exact Name of registrant as specified in its charter) DELAWARE 94-2794449 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.)
3112 SCOTT BOULEVARD, SANTA CLARA, CALIFORNIA 95054 (Address of principal executive offices) (Zip code) (408) 919-4111 (Registrant's telephone number, including area code) Securities registered pursuant to Section 12(b) of the Act:
TITLE OF EACH CLASS NAME OF EXCHANGE ON WHICH REGISTERED ------------------- ------------------------------------ NONE NONE
Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, $.001 PAR VALUE (Title of Class) ------------------------ Indicate by check mark whether registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes /X/ No / / Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. / / The aggregate market value of registrant's voting stock held by non-affiliates of registrant based upon the closing sale price of the Common Stock on March 17, 2000, as reported on the Nasdaq National Market, was approximately $778,000,000. Shares of Common Stock held by each officer, director and holder of 10% or more of the outstanding Common Stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes. Outstanding shares of registrant's Common Stock, $0.001 par value, as of March 17, 2000: 14,067,015 DOCUMENTS INCORPORATED BY REFERENCE Parts of the definitive proxy statement for registrant's 2000 Annual Meeting of Stockholders to be filed with the Commission pursuant to Regulation 14A not later than 120 days after the end of the fiscal year covered by this Report are incorporated by reference into Part III of this Report. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- PART I THIS REPORT INCLUDES A NUMBER OF FORWARD-LOOKING STATEMENTS WHICH REFLECT THE COMPANY'S CURRENT VIEWS WITH RESPECT TO FUTURE EVENTS AND FINANCIAL PERFORMANCE. THESE FORWARD-LOOKING STATEMENTS ARE SUBJECT TO CERTAIN RISKS AND UNCERTAINTIES, INCLUDING THOSE DISCUSSED IN "ITEM 7 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS--FUTURE PERFORMANCE AND RISK FACTORS" AND ELSEWHERE IN THIS REPORT, THAT COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM HISTORICAL RESULTS OR THOSE ANTICIPATED. IN THIS REPORT, THE WORDS "ANTICIPATES," "BELIEVES," "EXPECTS," "INTENDS," "FUTURE" AND SIMILAR EXPRESSIONS IDENTIFY FORWARD-LOOKING STATEMENTS. READERS ARE CAUTIONED NOT TO PLACE UNDUE RELIANCE ON THESE FORWARD-LOOKING STATEMENTS, WHICH SPEAK ONLY AS OF THE DATE HEREOF. ITEM 1. BUSINESS. INTRODUCTION We develop and market integrated circuits, integrated circuit cores and embedded software used by original equipment manufacturers, or OEMs, in digital audio and video products for commercial and consumer markets. We also provide complete, copy-ready system reference designs based on our technology that help our customers produce commercial and consumer products more quickly and cost-effectively. Our integrated circuits are used in a variety of products, including digital versatile disc, or DVD, players, Super Video CD players, digital speakers and audio systems, filmless digital cameras, and professional and consumer video editing systems. INDUSTRY BACKGROUND Historically, video images and audio soundtracks have been transmitted, edited and stored almost exclusively using analog formats. More recently, however, advances in technology have allowed audio and video to be processed and stored in digital form. Unlike analog formats, which are inherently unstable and difficult to edit and enhance, digital formats permit the manipulation of audio and video signals through digital signal processing and offer a number of fundamental advantages over analog technologies. Through complex digital signal processing operations, digital audio and video signals may be compressed, providing significant storage and transmission efficiencies. They also may be filtered, allowing for noise reduction, and they may be transmitted and reproduced without perceptible image or sound degradation. Digital formats also provide users with additional benefits, including random access to data, superior editing capabilities and enhanced security features such as protection against unauthorized copying and controlled and secure access. One of the most significant barriers to the widespread adoption of digital technology has been the huge amount of data required to represent images and sounds in a digital format, making cost-effective storage or transmission impractical. For example, storage of a two-hour movie in uncompressed digital form would require approximately 200 video CDs. Through digital compression techniques a substantial number of the redundancies inherent in audio and video data can be identified and eliminated, significantly reducing the overall amount of data which needs to be retained. Compression techniques introduced in the early 1990s allowed the same two-hour movie which required 200 video CDs to be compressed and stored on only two video CDs with video resolution comparable to that of a standard VHS tape. More recent techniques allow the storage of a full-length movie of more than three hours on a single DVD, with substantially improved audio and video quality and the incorporation of additional data, such as additional languages, scenes and director and actor commentary. Additionally, digital compression of video data allows previously unmanageable amounts of data to be stored in the memory of a standard personal computer, thereby permitting the data to be accessed and edited easily. Digital audio compression allows efficient storage and delivery of multi-channel audio, making possible high-quality special effects such as multi-channel surround sound, virtual surround sound and wireless audio delivery via two speakers or headphones. In the field of still photography, digital compression 2 allows dozens or hundreds of digital pictures to be stored on a single memory card, depending on the resolution desired. To drive the implementation and speed the adoption of products based on digital formats, industry participants organized committees to define international compression standards. The principal standards in use today include: - The Joint Photographic Experts Group, or JPEG, standard for the high quality compression of still images and the real-time, low-cost compression and decompression of moving images; - The MPEG 1 standard, adopted by the Moving Pictures Experts Group, or MPEG, for the compression of both audio and video data at the high compression ratios necessary for the limited storage capacity of the CD-ROM format; - The MPEG 2 standard, subsequently adopted by the Motion Pictures Expert Group, for the compression of both audio and video data, designed to provide improved quality in broadcast and video playback applications; and - Dolby AC-3, also known as Dolby Digital, developed by Dolby Laboratories, an industry standard for the compression of audio for use in multi-channel digital surround sound systems. These industry standard techniques have enabled the dramatic growth in a variety of digital multimedia markets, including: - DVD PLAYERS. DVD players use MPEG 2 video compression and Dolby Digital audio technology to provide significantly higher quality playback than is possible with VCR or video CD technology. According to Understanding & Solutions, a market research firm, worldwide sales of DVD players are expected to grow from 2.0 million units in 1998 to 52.4 million units in 2003, a compounded annual growth rate of 92.2%. - DIGITAL AUDIO SYSTEMS. Dolby Digital and other audio compression techniques are used in multi-channel surround sound products including movie theater sound systems, audio/video receivers and digital speakers. According to Forward Concepts, a market research firm, the demand for digital audio systems is expected to grow from 1.7 million units in 1998 to 93.3 million units in 2003, a compounded annual growth rate of 122.8%. - FILMLESS DIGITAL CAMERAS. Filmless digital cameras use JPEG compression technology to capture high resolution images that can be viewed, edited and stored on a computer system and transmitted over telephone lines and computer networks. According to Cahners In-Stat Group, a market research firm, sales of digital cameras are expected to grow from 3.8 million units in 1998 to 29.0 million units in 2003, a compounded annual growth rate of 50.1%. - PC VIDEO SYSTEMS. JPEG-based PC video systems are used to capture and "cut and paste" video sequences and add special audio and video effects. According to International Data Corporation, sales of video editing systems are expected to grow from 964,000 units in 1998 to 9.2 million units in 2002, a compounded annual growth rate of 75.8%. Additional products and markets are developing based on these established compression standards as well as emerging compression technologies such as MLP, a new standard for DVD audio, and MP3, a compression standard for the download of audio recordings from the Internet. These established and emerging compression standards specify data formats in which compressed data must be presented in order to enable products from different vendors to interact and permit the capture, transmission, storage and display of audio and video data in digital format. These standards do not specify the compression methodologies to be employed or additional functionality which may be used to enhance or manipulate digital signals. These standards, therefore, do not determine image or sound quality or compression efficiency. For example, data compression may comply with relevant 3 standards despite being poorly processed and containing artifacts which result in image degradation in video applications or poor sound quality in audio applications. As a result there can be significant differences in overall image or sound quality between two solutions based on the same standard. Therefore, integrated circuit manufacturers can differentiate their products on the basis of the quality of their compression solution. Historically, as system vendors sought compression solutions, the cost, complexity, and time required to compress and decompress data have imposed significant limitations on the use of digital compression. Over the last several years, as cost-effective compression solutions have emerged, product manufacturers have increasingly sought to design and market lower-cost digital audio and video systems and products to address high volume consumer applications. In addition, product manufacturers are facing competitive pressure to introduce their products more rapidly. To address these issues, OEMs seek to integrate multiple functions on individual chips in order to reduce their costs, speed time-to-market and produce smaller products with reduced power consumption. They also seek solutions that can be easily integrated into their commercial and consumer products. The current challenge to manufacturers of compression integrated circuits is, therefore, to provide product manufacturers with high-quality, cost-effective, standards-based solutions that deliver flexible control, image enhancement, audio effects and other functions in addition to high quality compression solutions. THE ZORAN SOLUTION We provide feature-rich, cost-effective, standards-based solutions for a broad range of digital audio and video applications. We were a pioneer in the development of high performance digital signal processor products, and have developed expertise in digital signal processing, integrated circuit design, mathematical algorithms and software development, as well as proprietary digital signal processing, audio and video compression technologies. We apply our multi-disciplinary expertise and proprietary technologies to the development of fully-integrated solutions for high-growth multimedia markets. The key elements of our solution are: STANDARDS-PLUS METHODOLOGY. We have leveraged our broad multi-disciplinary expertise and proprietary digital signal processing and compression technologies to develop what we refer to as "standards-plus" solutions. We have enabled OEMs to improve image and sound quality and deliver superior products to endusers by adding more features around compression standards, such as more efficient use of memory, processing and communication resources, as well as audio and image enhancement algorithms. We have also provided OEMs the ability to include OEM-programmable effects, as well as variable compression ratios for video. These "standards-plus" features allow our customers to differentiate their products from those of their competitors. EXPANDABLE AND PROGRAMMABLE ARCHITECTURE. We design our integrated circuits to enable easy adaptation for a broad range of specific applications. We can vary the architecture of our chips by adding or deleting modules, and we can also modify the software embedded in the chips themselves to address specific applications. We also license ready-to manufacture "cores"--building blocks of integrated circuits--that can be integrated into our customers' chips. Combined with the enhanced functionality of our "standards-plus" technology, our expandable and programmable architecture facilitates product design, upgrades and customization, substantially accelerating our customers' time to market with differentiated products. INTEGRATED SYSTEM SOLUTIONS. We help our customers meet their total system requirements by providing integrated products that combine hardware and software to address required system functions and features on a single integrated circuit or chip set, reducing the number of integrated circuits, and in some cases providing a complete solution on a single chip. As a result, our customers' total system cost can be reduced and they can concentrate on differentiating their products from those of their competitors. For example, we recently introduced the Camera On A CHip, or COACH, which includes 4 most of the electronics of a filmless digital camera. By delivering a camera on a chip, we enable our customers to reduce the costs of their products and focus on providing products that meet the needs of their end users. COST-EFFECTIVE PRODUCTS. We focus on reducing the feature size, power requirements and number of integrated circuits necessary to perform required system functions, including compression functions. This reduces our customers' manufacturing costs for their products which incorporate our integrated circuits, and also reduces the operating costs for these products, enabling the use of our products in a broader range of high volume applications. The modular nature of our architecture reduces our new product development costs, and enables our design engineers to meet our customers' new product specification and cost parameters. COPY-READY SYSTEM REFERENCE DESIGNS. We provide our customers with a broad range of engineering reference boards and products complete with device driver software, embedded software and detailed schematics. These products substantially shorten our customers' product design time. STRATEGY We provide cost-effective, high-performance digital audio and video solutions addressing selected high-growth applications enabled by compression in evolving multimedia markets. Key elements of our strategy include: FOCUS ON HIGH-GROWTH APPLICATIONS. Our strategy is to focus on providing digital audio and video solutions for emerging high-growth consumer electronics, PC and communications applications. Our current focus markets include DVD players and Super Video CD players, digital speakers and audio systems, filmless digital cameras and professional and consumer video editing systems. LEVERAGE EXISTING TECHNOLOGY AND EXPERTISE. We intend to continue to identify those markets that we believe have the highest growth potential for our products and to actively pursue those markets. Our proprietary digital signal processing and compression technologies can be used to serve emerging markets for digital audio and video. Potential markets include Internet audio and video appliances, digital television and television set-top boxes, as well as personal digital audio and video devices. FURTHER PENETRATE KEY INTERNATIONAL MARKETS. During 1998, we opened an office in Shenzhen, China, and have begun volume shipments of our integrated circuits to that market. We believe that emerging markets, such as China, Taiwan and Korea present significant market opportunities for consumer electronic products, and we intend to further extend our international operations to address these emerging markets. EXTEND TECHNOLOGICAL LEADERSHIP. Our years of experience in the fields of digital signal processing, integrated circuit design, algorithms and software development have enabled us to become a leader in the development of digital audio and video solutions enabled by compression. Using our multi-disciplinary expertise, we have developed new technologies for compression of digital audio and video. For example, we believe that our proprietary bit rate control technology has helped us provide reliable and inexpensive JPEG-based video compression and our proprietary Virtual Multi-Channel Digital, or VMD, technology enables high-quality surround-sound effects from two low-cost audio speakers, rather than the four or five speakers required by other technologies. We intend to continue to invest in research and development in order to maintain our technological leadership. EXPAND STRATEGIC PARTNERSHIPS. We work closely in the product development process with leading manufacturers of products that incorporate our integrated circuits. We also work closely with key customers and provide them early access to our technologies. Potential products are designed to meet customer-driven product requirements defined jointly by us and our partners with the partner providing technological input and, in selected cases, a portion of the development funding. This strategy has 5 enabled us to develop products with substantial financial and other assistance while retaining ownership of the technology and ensuring an established customer for the product once development is completed. In some cases, our strategic partners also provide sales and marketing support. We have also established long-term relationships with strategic partners that provide manufacturing capacity and will seek to develop additional strategic relationships with manufacturers. MARKETS AND APPLICATIONS Our products are currently used in a variety of consumer multimedia and PC applications. VIDEO PLAYBACK SYSTEMS Currently, three types of digital video playback systems are available for consumer video applications: video CD players, Super Video CD players and DVD players. Video CD players are essentially CD audio players with MPEG 1 decoders and a video output. Video CD players offer video playback of near-VCR quality and two-channel stereo audio playback. Compression enables 60 to 70 minutes of video to be stored on a single CD. Video CD players can also play karaoke titles and are particularly popular in China, which we believe will continue to be the primary market for these products. We formerly sold MPEG 1-based products to manufacturers of stand-alone video CD players but are no longer selling these products for this market. In 1998, the Chinese government adopted the Super Video CD standard. By utilizing MPEG 2 compression technology as well as graphics, Super Video CD offers substantially higher audio and video quality than is possible with a video CD player. The Super Video CD standard is replacing video CD in China. DVD players, the latest generation of video playback systems, use MPEG 2 video compression and Dolby Digital or similar audio technology to provide significantly higher quality playback than is possible with VCRs, Video CD or Super Video CD players. DVD players are sold as stand-alone products and are also included in place of CD-ROM drives in some newer PCs, where they are referred to as DVD-ROMs. DVD-ROMs are also sold as upgrade products. The recent growth in the DVD market is demonstrated by the rapidly growing sales of DVD players, the increasing number of models and manufacturers, and the increasing number of DVD titles available for purchase and rent. DIGITAL AUDIO SYSTEMS Digital audio facilitates enhanced audio playback with features such as multi-channel surround sound and virtual surround sound utilizing two channel technology. Many standards have emerged for the digital compression of audio. Current digital audio compression standards in use include Dolby Digital, DTS, MLP and MP3. Dolby Digital and DTS are competing standards of audio compression for use in multi-channel digital surround sound systems in movie theaters and at home. MLP was developed for audio compression in DVD audio. MP3 is one of the compression standards recognized for the download of audio recordings over the Internet. Our audio integrated circuits incorporate all of these standards. The principal products using compressed digital audio in the consumer market are DVD players, PCs incorporating DVD-ROMs, digital speakers and portable MP3 players. FILMLESS DIGITAL CAMERAS Filmless digital cameras allow the capture of high resolution images, the viewing, editing and storage of such images on a computer system and their transmission over telephone lines and computer networks. High quality copies of these images can be printed using color printers. In addition, digital cameras can be connected directly to a PC for downloading of pictures and to a television for displaying pictures. The original digital cameras were developed for the professional market and 6 currently sell at prices of $3,000 to $10,000. As technology has advanced and manufacturing costs have decreased, digital cameras for the consumer market have been introduced in the $100 to $1,000 price range. Compression technology has also enabled the development of digital video security cameras and low cost digital video cameras for use with PCs. PC VIDEO SYSTEMS Historically, professional video editing systems have been comprised of expensive pieces of analog audio and video equipment. Compression technology allows video images to be stored in a computer's memory in sufficient volume to enable capture and "cut and paste" editing to be performed through random access to stored images. As the cost of compression technology has declined, a number of manufacturers have designed low cost digital video capture and editing systems that run on PCs, creating a new category of users in the corporate, education and government markets. The availability of universal serial bus, or USB, connectors on most PCs currently being manufactured creates an opportunity for the development of low-cost external video capture and editing accessories that can be easily installed by consumers. We believe that enhanced support of the USB port by the Windows98 operating system and the success of the USB equipped Apple iMac computer will encourage the development of products of this type. OTHER APPLICATIONS Other existing and potential applications for our audio and video compression technologies include Internet audio and video appliances, digital television and television set-top boxes, as well as personal digital audio and video devices. TECHNOLOGY IMAGE AND VIDEO TECHNOLOGY THE JPEG STANDARD. In 1991, the Joint Photographic Experts Group, or JPEG, Committee of the International Standards Organization completed a technical specification for a standard to compress individual digitized images which may consist of still images or consecutive frames of video data. JPEG has been widely adopted for video editing applications, since each frame in the video is individually compressed, allowing cutting and pasting of sequences as well as modification of individual frames. Images are compressed through elimination of spatial redundancies within an image and the filtering of high frequency areas to which the eye is less sensitive. Using these techniques, the JPEG compression standard is able to reduce the data necessary to represent an image without significant degradation of image quality. Still images or motion video can be compressed to varying degrees using JPEG, with greater compression resulting in lower quality. Typically, four-to-one or five-to-one compression yields broadcast image quality while 20-to-1 compression is similar to VHS quality. ZORAN JPEG TECHNOLOGY. Our JPEG technology incorporates a proprietary bit rate control algorithm that enables our JPEG-based products to compress any image to a predetermined size while optimizing video quality using pre-selected parameters. Without this feature, the JPEG compression process results in compressed data files of various sizes based on the actual content of the original image given a constant degree of compression. An image with large amounts of visual detail will generate a larger data file than that generated from an image with less detail. Performance of many video applications is hampered by variability in the size of the compressed images in a video sequence, which can result in inefficient use of available memory, bus speed or communication channel capacity or even the loss of images. Our bit rate control is a "standards-plus" solution that uses real-time digital signal processing algorithms to optimize video quality based on pre-selected parameters, which can be programmed by OEMs, without the loss of any image or video frame. Our bit rate control has been incorporated in our JPEG-based devices that are used in video editing systems, filmless and tapeless 7 digital cameras, color scanners, PC-based security systems, video conferencing and other applications. Other features of our JPEG-based products include their ability to handle a wide range of compression ratios, to perform a "lossless" compression algorithm in the same JPEG device and to rapidly scan or browse a large number of images. We implement these functions in a single integrated circuit while we believe most other manufacturers either offer fewer functions or require multiple chips, resulting in higher manufacturing costs and greater power consumption. THE MPEG STANDARDS. In 1991, the Moving Pictures Expert Group, or MPEG, Committee of the International Standards Organization completed a technical specification for a standard to compress moving audio and video into a single data stream. Like JPEG, MPEG 1 removes spatial redundancies from single frames of video data. MPEG 1 improves on JPEG by also removing redundancies that occur between consecutive video frames. Because video represents movement, it is possible to detect and estimate the movement of similar picture elements between video frames, a process called motion estimation. MPEG motion estimation uses the content of previous and future frames to predict the content of the current frame without using its full content. MPEG 1 implements audio compression by exploiting psycho-acoustic masking, taking advantage of the fact that the ear is less sensitive to a quiet note at one frequency when a much louder note is present at a nearby frequency. MPEG 1 often achieves audio compression ratios of six-to-one and video compression ratios of over 100-to-1. MPEG 1 is particularly suitable for low-cost CD-ROM applications due to its low-cost implementation. In 1993, the MPEG 2 video committee completed a technical specification to address the more stringent requirements of the broadcast industry. MPEG 2 provides more sophisticated prediction techniques, enabling a compression solution to comprehend video as interlaced fields of data, rather than individual frames. MPEG 2 also allows for operation at higher resolution and at higher bit rates than MPEG 1, resulting in improved image quality for high motion, high detail video. MPEG 2 typically achieves compression ratios of 50-to-1. Because of its higher bit rate, MPEG 2 technology cannot be used in standard CD-ROM applications, but can be used in DVD players. ZORAN MPEG TECHNOLOGY. Beginning in 1997, we established ourselves as a leading provider of MPEG 2 technology for DVD and Super Video CD applications. We introduced the first DVD decoder device integrating digital video with multi-channel digital audio and programmable audio effects for use in DVD players. We also introduced new MPEG compression chip cores that can be integrated into chips manufactured by OEM customers, enabling these customers to reduce the cost of custom chip design and accelerate the time-to-market of their products. AUDIO TECHNOLOGY THE DOLBY DIGITAL STANDARD. In 1992, Dolby Laboratories launched Dolby Digital, an audio compression technique which has emerged as an industry standard. Dolby Digital was developed as a successor to Dolby's Pro-Logic analog technique for use in multi-channel digital surround sound systems. It is currently used in movie theaters comprising over 24,000 screens worldwide and is also used in home theater and computer multimedia applications. Digital compression of audio data allows the storage of full quality multi-channel audio playback in the limited space allocated for audio in video-oriented formats. It also facilitates the seamless integration of sound with compressed video. The Dolby Digital audio compression standard is currently the principal audio compression technique used in DVD players. Dolby Digital has also been adopted as a standard for use in high-definition television and digital cable systems. OTHER AUDIO STANDARDS. Other digital audio compression standards currently in use include DTS, an audio compression standard that competes with Dolby Digital, MLP, a compression standard for DVD audio, and MP3, used for the download of audio recordings from the Internet. 8 ZORAN AUDIO TECHNOLOGY. Working closely with Dolby Laboratories, we have developed a programmable audio digital signal processing engine with an architecture optimized for Dolby Digital and other demanding audio applications and we were the first to develop a single-chip solution for Dolby Digital decoding. Zoran's Vaddis DVD decoders and audio processors now incorporate this engine to allow systems manufacturers to replace system components with software modules, differentiate their products from their competition, use our SILICONSOFTWARE library of advanced audio algorithms, and reduce system costs and time to market. In addition to Dolby Digital, our DVD decoders and audio processors implement all principal audio compression standards, including DTS, MLP and MP3. Our integrated circuits also include additional functions such as Virtual Multi-Channel Digital, surround sound for headphones, High-Definition CD, karaoke processing and speaker equalization. PRODUCTS Our multimedia product line consists of four principal product families: - DVD/Super Video CD--audio and video decompression products based on MPEG, Dolby Digital and DTS; - Digital Audio--audio decompression products for use in products using MPEG, Dolby Digital, DTS, MLP, MP3 and other audio technologies; - Filmless Digital Cameras--video compression and decompression products based on JPEG technology; and - PC Video--video compression and decompression products based on JPEG technology. 9 The following table lists our principal multimedia integrated circuits currently in production, including the months in which initial production units were first made available to customers: - ---------------------------------------------------------------------------------------------- INITIAL PRODUCT COMMERCIAL PRINCIPAL FAMILY PRODUCTS SHIPMENT APPLICATIONS - ---------------------------------------------------------------------------------------------- DVD and Vaddis DVD decoder December 1997 DVD players Super Video CD (ZR36700) Vaddis III Integrated August 1998 DVD decoder (ZR36710) Vaddis IV Integrated June 1999 DVD decoder (ZR36730) SupraAV I Super Video August 1998 Super Video CD players CD decoder (ZR36205) SupraAV II Super Video September 1998 CD decoder (ZR36215) - ---------------------------------------------------------------------------------------------- Digital Audio 6-channel Dolby December 1994 Home theater Digital decoder (ZR38500) Programmable Digital December 1998 Digital speakers for audio processor home theater, (ZR38601) computers and gaming consoles Multi-standard December 1998 Audio/video receivers, Programmable Digital 3D headphones audio processor (ZR38650) - ---------------------------------------------------------------------------------------------- Filmless Digital Filmless digital February 1999 Filmless digital Cameras camera cameras, security processor--COACH (ZR36400) Filmless digital September 1999 camera processor--COACH-XL (ZR36410) - ---------------------------------------------------------------------------------------------- PC Video JPEG codec (ZR36050) April 1993 PC video editing, office automation Integrated converter February 1995 Color scanners and (ZR36016)* printers JPEG codec (ZR36060) February 1997 PC video editing, security JPEG PCI multimedia September 1997 PC video editing controller (ZR36067) PCI multimedia March 1997 PC video capture controller (ZR36125) - ----------------------------------------------------------------------------------------------
* Designed and manufactured by a third party and sold by us under our name pursuant to a non-exclusive license. See "Proprietary Rights and Licenses." 10 DVD/SUPER VIDEO CD PRODUCTS. In 1997, we introduced the first member of our Vaddis line of DVD decoders, the Vaddis I. During 1998, we introduced the Vaddis II and Vaddis III, and in 1999 we introduced the Vaddis IV. Our Vaddis decoders perform all the audio and video decoding and display requirements of the DVD specification, including MPEG 2 audio and video decoding, Dolby Digital, DTS and MLP audio decoding, on-screen display, decryption required for copyright protection and presentation of graphic information. The Vaddis has additional computation power that can be utilized for customer differentiation features. For example, it can incorporate virtual surround sound algorithms without the addition of hardware. This allows the user to enjoy the theater-like sound obtained from six speakers using a system that includes only two speakers and the Vaddis. The Vaddis IV incorporates a more powerful audio digital signal processor that enables the support of advanced audio algorithms like MPEG 5.1, DTS and audio DVD, which are needed in today's DVD player systems. Vaddis decoders are being used in DVD players manufactured by Sharp, Toshiba and others. The SupraAV is our single chip solution for the Super Video CD market. This single chip performs all of the audio and video decoding required by the Super Video CD standard and also allows additional features, like karaoke, to be implemented without any additional hardware. We provide a full reference design of a Super Video CD player, based on the SupraAV ZR36215, that helps our customers accelerate their time to market for their players. DIGITAL AUDIO PRODUCTS. The ZR38601, a single-chip digital audio processor designed to support the growing PC and home theater digital speaker market, takes advantage of most of the advanced audio algorithms included in our SILICONSOFTWARE library. Its eight channel output architecture supports the latest home theater applications, including Dolby Surround EX 6.1 channel sound. The ZR38601's ability to accept six individual channels of audio input also makes it the ideal processor for today's four channel Direct Sound computer games. The ZR38650, a true multi-standard digital audio processor, takes advantage of our complete SILICONSOFTWARE library. It is designed to support the large mid and low range audio/video receiver market, while providing features previously available only on more expensive models. FILMLESS DIGITAL CAMERA PRODUCTS. Our JPEG technology is used in filmless digital cameras. In September 1999, we introduced the Camera On A CHip, or COACH--an integrated system on a chip solution that includes most of the electronics of a filmless digital camera. The COACH can be connected directly to a high-resolution (up to 4 mega pixel) CCD or CMOS sensor, process the video information in real time, compress the captured image in real time to a Flash memory, interface an LCD or micro display and interface to all types of flash memory. Among the unique capabilities of the COACH is the ability to transfer in real-time, over a USB bus, high quality video to the PC and thus serve also as a PC video camera. The COACH also allows for direct connection to a printer, including color correction and special effects, for the non-PC consumer environment. The COACH is supplemented by a full filmless digital camera reference design, "Cam ON," shortening the time to market for COACH customers. PC VIDEO PRODUCTS. Our ZR36050 and ZR36060 codecs are compression/decompression devices used for real time encoding and decoding of JPEG video for editing applications. They are fully compliant with JPEG standards. The ZR36050 and ZR36060 utilize our proprietary bit rate control technology for high quality video capture. The ZR36050 also features a unique, embedded, "lossless" mode that allows customers to elect to use low compression ratio techniques that result in no data loss for applications where quality is the primary consideration. The ZR36050 and ZR36060 can be installed in a chipset that includes the ZR36067 motion controller for PCI board implementation or pre/ post-processing devices such as the ZR36016 integrated color space/raster-to-block converter. The ZR36060 integrates the functions of the ZR36050, ZR36015 and an additional SRAM device in a single chip. The ZR36067 is a PCI motion JPEG controller targeting consumer-priced but professional quality desktop PCI video editing systems. 11 INTEGRATED CIRCUIT CORES. We offer multimedia integrated circuit cores which can be incorporated into our customers' chips. For example, our latest generation programmable audio digital signal processor engine, the ZR39000, offers extended processing power and software compatibility with all previous generations of our digital audio processors, thus allowing it to use our extensive SILICONSOFTWARE library. The ZR39000 is designed to be integrated into DVD, television set-top box, home network, and Internet appliance system-on-a-chip applications. Our video decoder core, the ZR4VD1, can be used to reformat and process video from television-type analog format to digital format, enabling video processing by PCs, digital televisions and other video systems. Our video encoder core, the ZR4VE2, enables the conversion of various digital video formats for display on televisions and PC monitors, and can be integrated into graphics integrated circuits, digital televisions, television set-top boxes and digital cameras. CUSTOMERS The following table lists representative customers, as well as other OEMs who purchase our products through our distributors. Each of these customers and OEMs has purchased, directly or indirectly, at least $100,000 of our products from January 1, 1999 through December 31, 1999: - -------------------------------------------------------------------------------------------------- PRODUCT FAMILY CUSTOMERS OTHER OEMS - -------------------------------------------------------------------------------------------------- DVD/Super Video CD Cet Optibase Quisheng Fly Ring Marketa Semiconductor Sharp Digital Technology Newell Hong Kong Toshiba Fujifilm Xiaxin Holy Stone Enterprise - -------------------------------------------------------------------------------------------------- Digital Audio Acoustic Accessories Dolby Laboratories Denon Altec Lansing Fujifilm Hitachi Amega Technology Gallant Computer Antex Minton Optical Industry Boston Acoustics Vtech Communications Creative Technology Xiaxin - -------------------------------------------------------------------------------------------------- PC Video Alcom Electronics Matrox Avid Avermedia Technologies Newer Technology Lucent Technologies Avex Electronics Optibase Silicon Graphics Edge Electronics Pinnacle Systems Sony Electronics For Imaging SCI Manufacturing Inc. Flash Electronics Topas Electronic Fujifilm Unique Technologies Leadtek Research Inc. - -------------------------------------------------------------------------------------------------- Filmless Digital Camera Kinpo Electronics Ltd. Primax Electronics Ltd. - --------------------------------------------------------------------------------------------------
Fujifilm purchases our products primarily as a distributor and resells these products, in many cases under its own trade name. Fujifilm acts as our primary distributor in Japan and accounts for most of our product sales in Japan. During 1998, sales to Fujifilm accounted for 22.7% of our total revenues, including 26.5% of product sales, and sales to Pinnacle accounted for 14.3% of revenues, including 18.8% of product sales. During 1999, sales to Fujifilm accounted for 37.3% of our total revenues, including 41.0% of product sales. During 1998, our four largest customers accounted for 45.7% of our revenues, and during 1999, our four largest customers accounted for approximately 56.9% of our revenues. 12 RESEARCH AND DEVELOPMENT We believe that our future success depends on our ability to continue to enhance our existing products and to develop new products that maintain technological competitiveness and compliance with new standards in rapidly evolving consumer-oriented digital audio and video markets. We attempt to leverage our expertise in the fields of digital signal processing, integrated circuit design, algorithms and software development to maintain our position as a leader in the development of digital audio and video solutions enabled by compression. Accordingly, we devote a significant portion of our resources to maintaining and upgrading our products to reduce integrated circuit cost, feature size, power consumption and the number of integrated circuits required to perform compression and other functions necessary for the evolving digital audio and video application markets. In addition, we seek to design integrated circuits and cores, as well as copy-ready reference designs which can reduce the time needed by manufacturers to integrate our products into their own products. We have historically generated a significant percentage of our total revenues from development contracts with our strategic partners. These development contracts provide that we will receive payments upon reaching certain development milestones and that we will retain ownership of the intellectual property developed. Development contracts have enabled us to fund portions of our product development efforts, to respond to the feature requirements of our customers, to accelerate the incorporation of our products into our customers' products and to accelerate the time-to-market of our customers' products. We are currently developing new integrated circuits based on MPEG and Dolby Digital compression standards pursuant to a development contract with Fujifilm, under which Fujifilm is providing a portion of the development funding. Fujifilm has participated directly in product definition for these development programs and has the right to sell resulting products in Japan under its distribution agreement with us. Fujifilm also has the right to manufacture a portion of our requirements for which it has contributed significant funding. We are a party to research and development agreements with the Chief Scientist in Israel's Ministry of Industry and Trade and the Israel-United States Binational Industrial Research and Development Foundation. These organizations fund up to 50% of incurred project costs for approved projects up to contract maximums. The agreements require us to use our best efforts to achieve specified results and to pay royalties at rates of 3% to 5% of resulting product sales and up to 30% of resulting license revenues, up to a maximum of 100% to 150% of the total funding received. Reported research and development expenses are net of these grants, which fluctuate from period to period. Total grants earned in 1998 were $851,000 and in 1999 were $484,000. No grants were earned in 1997. The terms of Israeli Government participation also contain restrictions on the location of research and development activities, and the terms of the grants from the Chief Scientist prohibit the transfer of technology developed pursuant to these grants to any person without the prior written consent of the Chief Scientist. We are currently engaged in the development of improvements to our Camera On A CHip, or COACH, technology under grant from the Chief Scientist. Although we have received grants from the Chief Scientist and the Foundation in the past, we intend to fund future research and development efforts for new products primarily from our own funds and through research and development arrangements with our major OEM customers. As of December 31, 1999, we had a staff of 75 full-time and 27 part-time research and development personnel, 98 of whom are based in Israel. SALES AND MARKETING Our sales and marketing strategy is to focus on providing compression solutions for manufacturers seeking to design audio and video products for emerging high volume consumer applications. In cooperation with leading manufacturers of audio and video equipment in the commercial and consumer markets, we attempt to identify market segments which have the potential for substantial growth. To implement our strategy, we have established a direct sales force located at several sales and marketing 13 offices, and a worldwide network of independent sales representatives and distributors. In some cases, our strategic partners also provide sales and marketing support. We work closely in the product development process with strategic partners to incorporate our integrated circuits and software into their products. Potential products are designed to meet customer-specific product requirements defined jointly by us and our strategic partners with our partners providing technological input, and in some cases, a portion of the development funding. This strategy has permitted us to develop products with substantial financial and other assistance, while retaining ownership of the technology and ensuring an established customer for the product once development is completed. In addition, our application engineers assist customers in designing their products to incorporate our integrated circuits. Our sales are generally made pursuant to purchase orders received between one and six months prior to the scheduled delivery date. We sell our products primarily through our 12-person direct sales staff, of whom nine are located in the United States and three are located in Israel. Our United States sales staff is primarily responsible for sales in North America, South America and Asia, and our Israeli sales staff is primarily responsible for sales in Europe and the Middle East. In addition, we sell our products indirectly through 23 commissioned sales representatives as well as selected distributors. We typically warrant our products for a 12-month period. To date, we have not experienced material product returns or warranty expense. During 1998, we opened an office in Shenzhen, China as part of our effort to capture a leadership position in the Chinese digital audio and video markets. As of December 31, 1999, we had a staff of 18 employees in our China office, including sales, applications and customer support employees. We distribute our integrated circuit products in Japan primarily under an agreement with Fujifilm. Under this agreement, Fujifilm acts as the primary distributor in Japan of products developed by us under development contracts with Fujifilm. Fujifilm also sells some of these products in Japan under its own name. We may sell these products directly in Japan only to specified customers and must first buy the products from Fujifilm. Fujifilm also has a nonexclusive license to distribute most of our products outside of Japan. During 1997, we opened a representative office in Tokyo to help promote our products in Japan and to manage the sale of products not sold through Fujifilm, such as integrated circuit cores and certain JPEG products. We sell our Dolby Digital-based products under a perpetual, non-exclusive license from Dolby to sell products that incorporate the Dolby Digital algorithm. We are not required to pay license fees or royalties to Dolby under this agreement. Our customers enter into license agreements directly with Dolby, pursuant to which they pay royalties to Dolby. Under our agreement with Dolby, we may sell our Dolby Digital-based products only to customers who are licensees of Dolby. To date, most potential customers for our Dolby Digital-based products are licensees of Dolby. However, the failure or refusal of potential customers to enter into license agreements with Dolby in the future could harm our sales. BACKLOG Sales of our products are made pursuant to firm purchase orders. However, sometimes we allow customers to cancel or reschedule deliveries. In addition, purchase orders are subject to price renegotiations and to changes in quantities of products ordered as a result of changes in customers' requirements and manufacturing availability. Our business is characterized by short lead times and quick delivery schedules. As a result of these factors, we do not believe that backlog at any given time is a meaningful indicator of future sales. MANUFACTURING We contract our wafer fabrication, assembly and testing to independent foundries and contractors, which enables us to focus on our design strengths, minimize fixed costs and capital expenditures and 14 gain access to advanced manufacturing facilities. Our engineers work closely with our foundry partners and subcontractors to increase yields, lower manufacturing costs and assure quality. Our primary foundry is Taiwan Semiconductor Manufacturing Company, or TSMC, which has manufactured integrated circuits for us since 1987. TSMC is currently manufacturing our DVD, audio and JPEG products. In addition, Fujifilm and Samsung manufacture some integrated circuit products for us. Fujifilm is currently manufacturing our JPEG codec, our JPEG-based converter products and our MPEG 1 decoder. Samsung is currently manufacturing our COACH products. Our independent foundries fabricate products for other companies and may also produce products of their own design. All of our devices are currently fabricated using standard complementary metal oxide semiconductor process technology with 0.25 micron to 0.8 micron feature sizes. All of our semiconductor products are currently being assembled by one of three independent contractors, ASE, Amkor or ASAT, and tested by those contractors or other independent contractors. Our ZR36050 JPEG codec was developed jointly with Fujifilm and is currently manufactured by Fujifilm pursuant to an agreement that grants Fujifilm the right to manufacture up to 80% of our requirements for this product subject to Fujifilm's ability to manufacture the product on substantially the same or better terms and conditions as we could obtain from a third party. This agreement also grants Fujifilm marketing rights in Japan with respect to these products. See "Sales and Marketing." We currently purchase products from all of our foundries under individually negotiated purchase orders. Our agreement with Fujifilm entitles us to obtain wafer foundry services from Fujifilm on most favored pricing and availability terms, subject to Fujifilm's technological capabilities and reasonable limitations as to quality and delivery terms requested by us. We do not currently have a long-term supply contract with TSMC or Samsung, and therefore neither TSMC nor Samsung is obligated to manufacture products for us for any specific period, in any specific quantity or at any specified price, except as may be provided in a particular purchase order. COMPETITION Our existing and potential competitors include many large domestic and international companies that have substantially greater resources in the areas of: - finance; - manufacturing; - technology; - marketing; and - distribution. These competitors also have broader product lines and longer standing relationships with customers than we do. Some of our principal competitors maintain their own semiconductor foundries and may therefore benefit from capacity, cost and technical advantages. In the market for JPEG-based products for desktop video editing applications, our principal competitors are C-Cube Microsystems and LSI Logic. Cirrus Logic (Crystal Semiconductor), Fujitsu, Motorola, STMicroelectronics and Yamaha are currently shipping Dolby Digital-based audio compression products. C-Cube, ESS, LSI Logic, LuxSonor, Matsushita, National Semiconductor, Oak Technology, STMicroelectronics, Sony and Winbond have introduced integrated audio and video devices for DVD and Super video CD applications. These manufacturers, as well as others, are licensed by Dolby to incorporate Dolby Digital technology in their products. In addition, some manufacturers, including Sony, incorporate compression technologies other than Dolby Digital in audio products that compete with products using our integrated circuits. In the markets for JPEG-based products for use in filmless digital cameras, our 15 principal competitors are in-house solutions developed and used by major Japanese OEMs. LSI Logic and Ricoh are providing system-on-a-chip solutions for filmless digital cameras to third parties. In the market for MPEG-based chip core products, our principal competitors are David Sarnoff Research Center and SICAN Microelectronics. We believe that our ability to compete successfully in the rapidly evolving markets for high performance audio and video compression technology depends on a number of factors, including: - price, quality, performance and features of our products; - the timing and success of new product introductions by us, our customers and our competitors; - the emergence of new industry standards; - our ability to obtain adequate foundry capacity; - the number and nature of our competitors in a given market; and - general market and economic conditions. The markets in which we compete are intensely competitive and are characterized by rapid technological change, declining average unit selling prices and rapid product obsolescence. We expect competition to increase in the future from existing competitors and from other companies that may enter our existing or future markets with solutions which may be less costly or provide higher performance or more desirable features than our products. The DVD market is just emerging, and additional competitors are expected to enter the market for integrated circuits used in DVD players. We believe that several large Japanese consumer electronics companies may be planning to enter this market and may attempt to develop MPEG 2 hardware or software to compete with our products. Some of these potential competitors may develop captive implementations for use only with their own PC and commercial and consumer electronics products. This increased competition may result in price reductions, reduced profit margins and loss of market share. Historically, average unit selling prices in the semiconductor industry in general, and for our products in particular, have decreased over the life of a particular product. We expect that the average unit selling prices of our products will continue to be subject to significant pricing pressures. In order to offset expected declines in the average unit selling prices of our products, we will likely need to reduce the cost of our products. We intend to accomplish this by implementing design changes that lower the cost of manufacture, assembly and testing, by negotiating reduced charges by our foundries as and if volumes increase, and by successfully managing our manufacturing and subcontracting relationships. Since we do not operate our own manufacturing, assembly or testing facilities, we may not be able to reduce our costs as rapidly as companies that operate their own facilities. If we fail to introduce lower cost versions of our products in a timely manner or to successfully manage our manufacturing, assembly and testing relationships our business would be harmed. PROPRIETARY RIGHTS AND LICENSES Our ability to compete successfully is dependent in part upon our ability to protect our proprietary technology and information. Although we rely on a combination of patents, copyrights, trademarks, trade secret laws and licensing arrangements to protect some of our intellectual property, we believe that factors such as the technological and creative skills of our personnel and the success of our ongoing product development efforts are more important in maintaining our competitive position. We generally enter into confidentiality or license agreements with our employees, distributors, customers and potential customers and limit access to our proprietary information. We currently hold several U.S. patents, and have additional patent applications pending, that pertain to technologies and processes relating to our current business. Our intellectual property rights, if challenged, may not be upheld as 16 valid, may not be adequate to prevent misappropriation of our technology or may not prevent the development of competitive products. Additionally, we may not be able to obtain patents or other intellectual property protection in the future. In particular, the existence of several consortiums that license patents relating to the MPEG standard has created uncertainty with respect to the use and enforceability of patents implementing that standard. Furthermore, the laws of certain foreign countries in which our products are or may be developed, manufactured or sold, including various countries in Asia, may not protect our products or intellectual property rights to the same extent as do the laws of the United States and thus make the possibility of piracy of our technology and products more likely in these countries. We sell our Dolby Digital-based products under a perpetual non-exclusive license from Dolby which permits us to incorporate the Dolby Digital algorithm into our products. Our customers enter into license agreements with Dolby pursuant to which they pay royalties directly to Dolby. Under our agreement with Dolby, we may sell our Dolby Digital-based products only to customers who are licensees of Dolby. To date, most potential customers for our Dolby Digital-based products are licensees of Dolby. However, the failure or refusal of potential customers to enter into license agreements with Dolby in the future could harm our business. The semiconductor industry is characterized by vigorous protection and pursuit of intellectual property rights, which have resulted in significant and often protracted and expensive litigation. We or our foundries from time to time are notified of claims that we may be infringing patents or other intellectual property rights owned by third parties. We have been subject to intellectual property claims and litigation in the past and we may be subject to additional claims in the future. In particular, given the uncertainty discussed above regarding patents relating to the MPEG standard, it is difficult for us to assess the possibility that our activities in the MPEG field may give rise to future patent infringement claims. Litigation by or against us relating to patent infringement or other intellectual property matters could result in significant expense to us and divert the efforts of our technical and management personnel, whether or not such litigation results in a determination favorable to us. In the event of an adverse result in any such litigation, we could be required to pay substantial damages, cease the manufacture, use and sale of infringing products, expend significant resources to develop non-infringing technology, discontinue the use of certain processes or obtain licenses to the infringing technology. Licenses may not be offered or the terms of any offered licenses may not be acceptable to us. If we fail to obtain a license from a third party for technology used by us we could incur substantial liabilities and to suspend the manufacture of products, or the use by our foundries of certain processes. EMPLOYEES As of December 31, 1999, we had 152 full-time and 37 part-time and contract employees, including 75 full-time and 27 part-time and contract employees primarily involved in research and development activities, 53 in marketing and sales, 24 in finance and administration and 10 in manufacturing control and quality assurance. We have 88 full-time employees and 29 part-time and contract employees based in Israel, including 98 employees who are primarily involved in engineering and research and development. There are 48 individuals at our facilities in Santa Clara, California. The remaining employees are located in our international offices in Canada, Japan and China. We believe that our future success will depend in large part on our ability to attract and retain highly-skilled, engineering, managerial, sales and marketing personnel. Competition for such personnel is intense. Our employees are not represented by any collective bargaining unit, and we have never experienced a work stoppage. We believe that our employee relations are good. 17 ITEM 2. PROPERTIES. Our executive offices, our principal administration, marketing and sales operations and a portion of our research and development operations are located in approximately 24,000 square feet of leased space in Santa Clara, California under a lease expiring in March 2000. We have completed negotiating a renewal of this lease that will expire in March 2003. Our principal research and development and engineering facilities and the balance of our administration, marketing and sales operations are located in approximately 20,000 square feet of leased space in an industrial park in Haifa, Israel under a lease expiring in 2004. The aggregate annual gross rent for our facilities was approximately $1,010,000 in 1999. We also lease sales offices in Tokyo, Japan and Shenzhen, China. See Note 7 of Notes to Consolidated Financial Statements. We believe that our current facilities are adequate for our needs for the foreseeable future and that, should it be needed, suitable additional space will be available to accommodate expansion of our operations on commercially reasonable terms. ITEM 3. LEGAL PROCEEDINGS. We are not a party to any pending legal proceedings which we believe will materially affect our financial condition or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. We did not submit any matters to a vote of security holders during the fourth quarter of the year ended December 31, 1999. EXECUTIVE OFFICERS The names of our executive officers and their ages as of December 31, 1999 are as follows:
NAME AGE POSITION - ---- -------- ------------------------------------------------------------ Levy Gerzberg, Ph.D............ 54 President, Chief Executive Officer and Director Aharon Aharon.................. 46 Senior Vice President and Chief Operating Officer Isaac Shenberg, Ph.D........... 49 Senior Vice President, Business and Strategic Development Bruce Renouard................. 39 Vice President, Worldwide Sales Paul R. Goldberg............... 54 Vice President, Audio Products and Intellectual Properties Karl Schneider................. 45 Vice President, Finance and Chief Financial Officer Shmuel Farkash, Ph.D........... 43 Vice President, Video Products Alon Ironi..................... 36 Vice President, Engineering, General Manager, Israel
LEVY GERZBERG was a co-founder of Zoran in 1981 and has served as our President and Chief Executive Officer since December 1988 and as a director since 1981. Dr. Gerzberg also served as our President from 1981 to 1984 and as our Executive Vice President and Chief Technical Officer from 1985 to 1988. Prior to co-founding Zoran, Dr. Gerzberg was Associate Director of Stanford University's Electronics Laboratory. Dr. Gerzberg holds a Ph.D. in Electrical Engineering from Stanford University and an M.S. in Medical Electronics and a B.S. in Electrical Engineering from the Technion-Israel Institute of Technology in Haifa, Israel. AHARON AHARON joined Zoran as Vice President, Engineering--Haifa Operations in February 1997 and was elected Vice President, Engineering in August 1997 and Senior Vice President and Chief Operating Officer in October 1998. From 1983 to February 1997, Mr. Aharon was employed by IBM in a variety of engineering and management positions, including Senior Manager of VLSI Design Tools from 1993 to February 1997 and Design Automation Manager from 1989 to 1993. Mr. Aharon holds a B.S. and M.S. in Electrical Engineering from the Technion. 18 ISAAC SHENBERG has served as Vice President, Sales and Marketing of Zoran since January 1995 and as Senior Vice President, Business and Strategic Development since October 1998. From August 1990 to January 1995, Dr. Shenberg served as our Product Line Business Manager. Dr. Shenberg holds a Ph.D. in Electrical Engineering from Stanford University and a B.S. and M.S. in Electrical Engineering from the Technion. BRUCE RENOUARD joined Zoran as Vice President, Worldwide Sales in September 1999. From August 1997 to September 1999, Mr. Renouard served as Director of Worldwide Market Development for IDT/Centour, a semiconductor company. From December 1995 to August 1997, Mr. Renouard served as National Distribution Sales Manager of Cyrix Corporation, a semiconducter company. From April 1993 to December 1995, Mr. Renouard served as District Sales Manager for Cyrix. Mr. Renouard holds a B.S.E.E. in Electrical Engineering from Southern Methodist University. PAUL R. GOLDBERG joined Zoran as Vice President, Systems Solutions in June 1996 and was elected Vice President, Audio Products in October 1998. From April 1991 to June 1996, Mr. Goldberg was employed as film products group leader at Dolby Laboratories, Inc. From 1988 to 1990, Mr. Goldberg was Director of the Tandy Electronic Research Center. From 1979 to 1988, Mr. Goldberg was employed by Wavetek Incorporated and its spin-off, Advanced Image Data, most recently as Vice President of Research and Development and Market Development of AID. Prior thereto, Mr. Goldberg was employed by Smith Kline Instruments, most recently as Director of Biomedical Research and Development. Mr. Goldberg holds a B.S. in Electrical Engineering from the University of Minnesota. KARL SCHNEIDER joined Zoran as Corporate Controller in January 1998 and was elected Vice President, Finance and Chief Financial Officer in July 1998. From September 1996 through 1997, Mr. Schneider served as Controller for the Film Measurement and Robotics and Integrated Technologies divisions of KLA-Tencor, a semiconductor equipment company. Mr. Schneider served as the Corporate Controller for SCM Microsystems, Inc. from October 1995 to September 1996, Controller for Reply Corporation from January 1994 to September 1995, Director of Finance for Digital F/X from October 1992 to January 1994 and Controller for Flextronics from September 1987 through June 1991. Mr. Schneider holds a B.S. in Business Administration from San Diego State University. SHMUEL FARKASH joined Zoran in March 1992 as a senior research and development engineer. In February 1994 Dr. Farkash became our marketing and sales manager for Europe. In June 1996 Dr. Farkash became Director of Marketing for the JPEG product line. In July 1998, Dr. Farkash was elected Vice President, Video Products, with responsibilities for the JPEG and DVD product lines. Dr. Farkash holds a Ph.D., M.S., and a B.S. in Electrical Engineering from the Technion. ALON IRONI joined Zoran as a system engineer in March 1993. Mr. Ironi subsequently served as our Manager, System Engineering and Manager, Architecture and Algorithms. Mr. Ironi was elected Vice President, Engineering, Israel in January 1999. From March 1990 to March 1993, Mr. Ironi served as a DSP software engineer for the DSP Group. Mr. Ironi holds a B.S. in Electrical Engineering from the Technion. 19 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS. We effected our initial public offering of our common stock on December 15, 1995. Since that date, our common stock has been quoted on the Nasdaq National Market under the symbol "ZRAN." The following table sets forth the high and low closing sales price of our common stock as reported as The Nasdaq National Market for the periods indicated:
HIGH LOW -------- -------- 1999: First Quarter............................................... $20.00 $11.88 Second Quarter.............................................. $17.50 $ 8.88 Third Quarter............................................... $35.81 $17.06 Fourth Quarter.............................................. $55.75 $21.00 1998: First Quarter............................................... $18.25 $12.50 Second Quarter.............................................. $14.75 $ 9.50 Third Quarter............................................... $12.06 $ 5.88 Fourth Quarter.............................................. $18.00 $ 5.19
As of December 31, 1999, there were 271 holders of record of our common stock. We have never paid cash dividends on our capital stock. It is our present policy to retain earnings to finance the growth and development of our business and, therefore, we do not anticipate paying any cash dividends in the foreseeable future. 20 ITEM 6. SELECTED FINANCIAL DATA. The following selected consolidated financial data should be read in conjunction with the consolidated financial statements and the notes thereto included elsewhere herein.
YEAR ENDED DECEMBER 31, ---------------------------------------------------- 1999 1998 1997 1996 1995 -------- -------- -------- -------- -------- (In thousands, except per share data) CONSOLIDATED STATEMENT OF OPERATIONS DATA: Revenues: Product sales................................ $52,887 $33,465 $32,717 $35,503 $18,086 Software, licensing and development.......... 8,787 10,760 12,210 8,606 5,378 ------- ------- ------- ------- ------- Total revenues............................. 61,674 44,225 44,927 44,109 23,464 ------- ------- ------- ------- ------- Costs and expenses: Cost of product sales........................ 28,523 19,036 16,032 20,262 9,306 Research and development..................... 12,651 13,548 13,787 8,954 5,916 Selling, general and administrative.......... 14,251 11,551 11,209 10,739 6,748 Merger and related........................... -- -- -- 2,153 -- ------- ------- ------- ------- ------- Total costs and expenses................... 55,425 44,135 41,028 42,108 21,970 ------- ------- ------- ------- ------- Operating income............................... 6,249 90 3,899 2,001 1,494 Interest and other income (expense), net....... 1,585 1,071 1,258 1,027 (147) ------- ------- ------- ------- ------- Income before income taxes..................... 7,834 1,161 5,157 3,028 1,347 Provision for income taxes..................... 1,175 232 928 665 399 ------- ------- ------- ------- ------- Net income..................................... $ 6,659 $ 929 $ 4,229 $ 2,363 $ 948 ======= ======= ======= ======= ======= Basic net income per share(1).................. $ 0.61 $ 0.09 $ 0.45 $ 0.27 $ 0.35 ======= ======= ======= ======= ======= Diluted net income per share(1)................ $ 0.54 $ 0.08 $ 0.38 $ 0.22 $ 0.11 ======= ======= ======= ======= ======= Shares used to compute basic net income per share(1)..................................... 10,844 10,042 9,412 8,802 2,391 ======= ======= ======= ======= ======= Shares used to compute diluted net income per share(1)..................................... 12,249 11,119 11,072 10,661 8,397 ======= ======= ======= ======= =======
DECEMBER 31, ---------------------------------------------------- 1999 1998 1997 1996 1995 -------- -------- -------- -------- -------- (In thousands) CONSOLIDATED BALANCE SHEET DATA: Cash, cash equivalents and short-term investments.............................. $145,632 $ 19,175 $ 22,376 $ 23,419 $ 21,438 Working capital............................ 157,583 30,830 28,582 24,673 19,753 Total assets............................... 182,468 49,170 50,944 41,382 31,264 Long-term debt, less current portion....... -- -- -- -- 601 Accumulated deficit........................ (37,517) (44,176) (45,105) (49,334) (51,697) Total stockholders' equity................. 163,445 36,186 34,286 28,530 20,917
- ------------------------ (1) See Note 2 of Notes to Consolidated Financial Statements for a description of the computation of the number of shares and net income per share. 21 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. OVERVIEW From our inception in 1981 through 1991, we derived the substantial majority of our revenue from digital filter processors and vector signal processors used principally in military, industrial and medical applications. In 1989, we repositioned our business to develop and market data compression products for the evolving multimedia markets and discontinued development of digital filter processor and vector signal processor products. In 1994, we discontinued production of these products. Our current lines of digital audio and video products include integrated circuits and related products used in digital versatile disc players, movie and home theater systems, filmless digital cameras and video editing systems. In December 1996, we expanded our compression based product offerings through the acquisition of CompCore Multimedia, a provider of software-based compression products and cores for audio and video decoder integrated circuits. We derive most of our revenues from the sale of our integrated circuit products. Historically, average selling prices in the semiconductor industry in general, and for our products in particular, have decreased over the life of a particular product. Average selling prices for our hardware products have fluctuated substantially from period to period, primarily as a result of changes in our customer mix of original equipment manufacturer, or OEM, sales versus sales to distributors and the transition from low-volume to high-volume production. During 1997 and 1998, we reduced the prices of some of our products in order to better penetrate the consumer market. We believe that, as our product lines continue to mature and competitive markets evolve, we are likely to experience further declines in the average selling prices of our products, although we cannot predict the timing and amount of such future changes with any certainty. Our cost of product sales consists primarily of fabrication costs, assembly and test costs, and the cost of materials and overhead from operations. If we are unable to reduce our cost of product sales to offset anticipated decreases in average selling prices, our product gross margins will decrease. Our product gross margin is also dependent on product mix and on the percentage of products sold directly to our OEM customers versus indirectly through our marketing partners who purchase our products at lower prices but absorb most of the associated marketing and sales support expenses, maintain inventories and provide customer support and training. Lower gross margins on sales to distributors are partially offset by reduced selling and marketing expenses related to such sales. Product sales in Japan are primarily made through Fujifilm, our strategic partner and distributor in Japan. Fujifilm provides more sales and marketing support than our other distributors. We expect both product and customer mix to continue to fluctuate in future periods, causing further fluctuations in margins. We also derive revenue from licensing our software and other intellectual property. Licensing revenue includes one-time license fees and royalties based on the number of units distributed by the licensee. In addition, we have historically generated a significant percentage of our total revenues from development contracts, primarily with key customers, although development revenue has declined as a percentage of total revenues over the past several years. These development contracts have provided us with partial funding for the development of some of our products. These development contracts provide for license and milestone payments which are recorded as development revenue. We classify all development costs, including costs related to these development contracts, as research and development expenses. We retain ownership of the intellectual property developed by us under these development contracts. While we intend to continue to enter into development contracts with certain strategic partners, we expect development revenue to continue to decline as a percentage of total revenues. Our research and development expenses consist of salaries and related costs of employees engaged in ongoing research, design and development activities and costs of engineering materials and supplies. We are also a party to research and development agreements with the Chief Scientist in Israel's 22 Ministry of Industry and Trade and the Israel-United States Binational Industrial Research and Development Foundation, which fund up to 50% of incurred project costs for approved products up to specified contract maximums. These agreements require us to use our best efforts to achieve specified results and require us to pay royalties at rates of 3% to 5% of resulting product sales, and up to 30% of resulting license revenues, up to a maximum of 100% to 150% of total funding received. Reported research and development expenses are net of these grants, which fluctuate from period to period. We believe that significant investments in research and development are required for us to remain competitive and we expect to continue to devote significant resources to product development, although such expenses as a percentage of total revenues may fluctuate. Our selling, general and administrative expenses consist primarily of employee-related expenses, royalties, sales commissions, product promotion and other professional services. We expect that selling, general and administrative expenses will continue to increase to support our anticipated growth. We conduct a substantial portion of our research and development and certain sales and marketing and administrative operations in Israel through our wholly-owned Israeli subsidiary. As a result, some of our expenses are incurred in New Israeli Shekels. To date, substantially all of our product sales and our development and licensing revenue have been denominated in U.S. dollars and most costs of product sales have been incurred in U.S. dollars. We expect that most of our sales and costs of sales will continue to be denominated and incurred in U.S. dollars for the foreseeable future. We have not experienced material losses or gains as a result of currency exchange rate fluctuations and have not engaged in hedging transactions to reduce our exposure to such fluctuations. We may in the future elect to take appropriate action to reduce our foreign exchange risk. Our effective income tax rate has benefited from the availability of net operating losses which we have utilized to reduce taxable income for U.S. federal income tax purposes and by our Israeli subsidiary's status as an "Approved Enterprise" under Israeli law, which provides a ten-year tax holiday for income attributable to a portion of our operations in Israel. Our U.S. federal net operating losses expire at various times between 2000 and 2009, and the benefits from our subsidiary's Approved Enterprise status expire at various times beginning in 2003. In June 1999, we sold to MGI Software of Canada the intellectual property related to our SoftDVD product line and transferred to MGI certain related software development and support resources in exchange for cash, MGI common stock and future royalties. Our results for the second quarter of 1999 include a $732,000 gain realized from this transaction which is reported as part of interest and other income or expense. In connection with this transaction, we also recorded a charge that reduced software, licensing and development revenue for the quarter by $517,000 for possible issues related to receivables associated with the SoftDVD product line. The net impact of the MGI transaction on our operating results was an after-tax gain of $172,000, or $0.01 per share on a diluted basis. This gain does not reflect the potential future economic benefit that may be derived from this transaction and realized in future periods in the form of royalties. We do not currently expect, however, that these royalties will have a material impact on quarterly revenues for the foreseeable future. In addition, the shares of MGI stock received by us as part of this transaction are subject to future appreciation or depreciation. Our software revenues have declined significantly as a result of the sale of the SoftDVD product line. 23 RESULTS OF OPERATIONS The following table sets forth certain consolidated statement of operations data as a percentage of total revenues for the periods indicated:
YEAR ENDED DECEMBER 31, ------------------------------------ 1999 1998 1997 -------- -------- -------- Revenues: Product sales...................................... 85.8% 75.7% 72.8% Software, licensing and development................ 14.2 24.3 27.2 ----- ----- ----- Total revenues................................... 100.0 100.0 100.0 ----- ----- ----- Costs and expenses: Cost of product sales.............................. 46.3 43.0 35.7 Research and development........................... 20.5 30.7 30.7 Selling, general and administrative................ 23.1 26.1 24.9 ----- ----- ----- Total costs and expenses......................... 89.9 99.8 91.3 ----- ----- ----- Operating income..................................... 10.1 0.2 8.7 Interest and other income (expense), net............. 2.6 2.4 2.8 Income before income taxes........................... 12.7 2.6 11.5 Provision for income taxes........................... 1.9 0.5 2.1 ----- ----- ----- Net income........................................... 10.8% 2.1% 9.4% ===== ===== =====
YEAR ENDED DECEMBER 31, 1999 COMPARED TO YEAR ENDED DECEMBER 31, 1998 REVENUES. Total revenues increased by 39.5% to $61.7 million in 1999 from $44.2 million in 1998. Product sales increased by 58.0% to $52.9 million in 1999 from $33.5 million in 1998. The increase in product sales resulted primarily from increased unit sales of DVD and Super Video CD products. Software, licensing and development revenues decreased by 18.3% to $8.8 million in 1999 from $10.8 million in 1998. This decrease was principally due to a decline in software licensing revenues following the sale of our SoftDVD product line in June 1999 and, to a lesser degree, a decline in development revenue. These decreases were partially offset by increased revenues from licenses of our integrated circuit cores. PRODUCT GROSS MARGIN. Product gross margin increased to 46.1% for 1999 compared to 43.1% for 1998. The increase was due to a shift in product mix to a higher percentage of higher-margin products, a shift in customer mix to a greater percentage of direct sales to OEM customers and lower per-unit manufacturing costs as a result of increased unit sales. RESEARCH AND DEVELOPMENT. Research and development ("R&D") expenses decreased by 6.6% to $12.7 million in 1999 from $13.5 million in 1998. R&D expenses in 1999 were net of reimbursements in the amounts of $484,000 under product development agreements with the Chief Scientist. For 1998, Chief Scientist reimbursements were $851,000. Gross R&D expenses decreased as a result of a decline in software development activities in the second half of the year following the sale of our SoftDVD product line in June 1999. R&D expenses decreased as a percentage of total revenues to 20.5% in 1999, compared to 30.6% in 1998. SELLING, GENERAL AND ADMINISTRATIVE. Selling, general and administrative ("SG&A") expenses increased by 23.4% to $14.3 million in 1999 from $11.5 million in 1998. The increase was primarily due to increased sales and marketing expenses related to product market development and to support planned revenue growth in China. 24 INTEREST AND OTHER INCOME (EXPENSE), NET. Net interest and other income increased by 48.0% to $1.6 million in 1999 from $1.1 million in 1998. The increase resulted primarily from a $732,000 gain realized from the sale of our SoftDVD product line in the second quarter of 1999. PROVISION FOR INCOME TAXES. Our estimated effective tax rate decreased to 15.0% for 1999 from 20.0% in 1998. The decrease reflects our income tax expectation going forward based on increasing foreign operations taxed at lower rates. YEAR ENDED DECEMBER 31, 1998 COMPARED TO YEAR ENDED DECEMBER 31, 1997 REVENUES. Total revenues decreased by 1.6% to $44.2 million in 1998 from $44.9 million in 1997. Product sales increased by 2.3% to $33.5 million in 1998 from $32.7 million in 1997. The increase in product sales resulted primarily from increased unit sales of DVD and Super Video CD products. Software, licensing and development revenues decreased by 11.9% to $10.8 million in 1998 from $12.2 million in 1997. This decrease was due to a reduction in royalties from our SoftPEG product. PRODUCT GROSS PROFIT. Product gross margin decreased by 15.5% to 43.1% in 1998, compared to 51.0% in 1997. The decrease was due to a product sales mix that included an increased percentage of lower margin products, and higher manufacturing costs during 1998. RESEARCH AND DEVELOPMENT. R&D expenses decreased by 1.7% to $13.5 million in 1998 from $13.8 million in 1997. R&D expenses in 1998 were net of reimbursements in the amounts of $851,000 under product development agreements with the Chief Scientist. There were no such reimbursements during 1997. Gross R&D expenses increased as a result of our planned enhancement to our technology and development capabilities. R&D expenses decreased as a percentage of total revenues to 30.6% in 1998, compared to 30.7% in 1997. SELLING, GENERAL AND ADMINISTRATIVE. SG&A expenses increased by 3.1% to $11.5 million in 1998 from $11.2 million in 1997. The increase was primarily due to increased sales and marketing expenses related to product market development and to support planned revenue growth in China. INTEREST AND OTHER INCOME (EXPENSE), NET. Net interest and other income decreased by 14.9% to $1.1 million in 1998 from $1.3 million in 1997. The decrease resulted primarily from decreased interest income as a result of lower balances of cash, cash equivalents and short-term investments. PROVISION FOR INCOME TAXES. Our estimated effective tax rate increased to 20.0% for 1998 from 18.0% in 1997. LIQUIDITY AND CAPITAL RESOURCES During 1999 and 1998, our capital requirements were satisfied primarily by cash flows from operations. In December 1999, we received net proceeds of $112.9 million from a public offering of our common stock. At December 31, 1999, we had $12.7 million of cash and cash equivalents, $133.0 million of short-term investments and $157.6 million of working capital. Our operating activities provided cash of $7.0 million during the twelve months ended December 31, 1999, primarily due to net income. An increase in accounts receivable, due to the increase in revenues during 1999, was offset by increases in accrued expenses, accounts payable and by the non-cash impact of depreciation and amortization. Cash used in investing activities was $118.2 million during the twelve months ended December 31, 1999. Capital equipment expenditures accounted for $2.8 million of the cash used while the purchase of short-term investments used $115.4 million. 25 Cash provided by financing activities was $115.6 million for the twelve months ended December 31, 1999 and primarily consisted of net proceeds of $112.9 million from our public offering of common stock in December 1999. Net proceeds are what we received after paying the underwriting discount and other expenses for this offering. Cash provided by financing activities also consisted of proceeds from the issuance of common stock under our incentive stock option and employee stock purchase plans. We believe that our current balances of cash, cash equivalents and short-term investments, and anticipated cash flow from operations, will satisfy our anticipated working capital and capital expenditure requirements at least through 2000. Nonetheless, our future capital requirements may vary materially from those now planned and will depend on many factors including, but not limited to: - the levels at which we maintain inventory and accounts receivable; - the market acceptance of our products; - the levels of promotion and advertising required to launch our new products or to enter markets and attain a competitive position in the marketplace; - our business, product, capital expenditure and research and development plans and technology roadmap; - volume pricing concessions; - capital improvements to new and existing facilities; - technological advances; - the response of competitors to our products; and - our relationships with our suppliers and customers. In addition, we may require an increase in the level of working capital to accommodate planned growth, hiring and infrastructure needs. Additional capital may also be required for consummation of any acquisitions of businesses, products or technologies. To the extent that our existing resources and cash generated from operations, are insufficient to fund our future activities, we may need to raise additional funds through public or private financings or borrowings. If additional funds are raised through the issuance of debt securities, these securities could have rights, preferences and privileges senior to holders of common stock, and the terms of this debt could impose restrictions on our operations. The sale of additional equity or convertible debt securities could result in additional dilution to our stockholders. We cannot be certain that additional financing will be available in amounts or on terms acceptable to us, if at all. If we are unable to obtain this additional financing, we may be required to reduce the scope of our planned product development and sales and marketing efforts, which could harm our business, financial condition and operating results. STOCK OPTION REPRICING In August 1998, our employees were offered the opportunity to reprice their options. Repricing was conditional on employees accepting the restart of their vesting schedule. The vesting schedule would however, revert back to the original schedule if we meet significant performance goals. At the end of 1999, the Company did, in fact, meet these performance goals and vesting schedules of the repriced stock options reverted to their original vesting timetable. Substantially all options with an exercise price in excess of $5.94 were cancelled and replaced with new options having an exercise price of $5.94, the market price on the date that the employees accepted the repricing. A total of 924,164 shares were repriced. 26 FUTURE PERFORMANCE AND RISK FACTORS Our future business operating results and financial condition are subject to various risks and uncertainties, including those described below: OUR QUARTERLY REVENUES AND OPERATING RESULTS FLUCTUATE DUE TO A VARIETY OF FACTORS, WHICH MAY RESULT IN VOLATILITY OR A DECLINE IN THE PRICE OF OUR STOCK. Our quarterly operating results have varied significantly due to a number of factors, including: - fluctuation in demand for our products; - the timing of new product introductions by us and our competitors; - the level of market acceptance of new and enhanced versions of our products and our customers' products; - the timing of large customer orders; - the length and variability of the sales cycle for our products; - the cyclical nature of the semiconductor industry; - the availability of development funding and the timing of development revenue; - changes in the mix of products sold; - seasonality in demand for our products; - competitive pricing pressures; and - the evolving and unpredictable nature of the markets for products incorporating our integrated circuits and embedded software. We expect that our operating results will continue to fluctuate in the future as a result of these factors and a variety of other factors, including: - the cost and availability of adequate foundry capacity; - fluctuations in manufacturing yields; - the emergence of new industry standards; - product obsolescence; and - the amount of research and development expenses associated with new product introductions. Our operating results could also be harmed by: - economic conditions generally or in various geographic areas where we or our customers do business; - other conditions affecting the timing of customer orders; or - a downturn in the markets for our customers' products, particularly the consumer electronics market. These factors are difficult or impossible to forecast. We place orders to purchase our products from independent foundries several months in advance of the scheduled delivery date, often in advance of receiving non-cancelable orders from our customers. If anticipated shipments in any quarter are canceled or do not occur as quickly as expected, expense and inventory levels could be disproportionately high. If anticipated license revenues in any quarter are canceled or do not occur, gross margins may be reduced. A significant portion of our expenses are relatively fixed, and the timing 27 of increases in expenses is based in large part on our forecast of future revenues. As a result, if revenues do not meet our expectations we may be unable to quickly adjust expenses to levels appropriate to actual revenues, which could harm our operating results. As a result of these factors, our operating results may vary significantly from quarter to quarter. Any shortfall in revenues or net income from levels expected by securities analysts could cause a decline in the trading price of our stock. OUR SUCCESS FOR THE FORESEEABLE FUTURE WILL BE DEPENDENT ON GROWTH IN DEMAND FOR INTEGRATED CIRCUITS FOR DIGITAL VERSATILE DISC, OR DVD, SUPER VIDEO CD, DIGITAL AUDIO, VIDEO EDITING AND FILMLESS DIGITAL CAMERA APPLICATIONS AND OUR ABILITY TO MARKET AND SELL OUR PRODUCTS TO MANUFACTURERS WHO INCORPORATE THOSE TYPES OF INTEGRATED CIRCUITS INTO THEIR PRODUCTS. In 1999, we derived a majority of our product revenues from the sale of integrated circuits for DVD and Super Video CD applications. We expect that sales of our products for DVD and Super Video CD applications, digital audio applications and video editing applications will continue to account for a significant portion of our revenues for the near future. Our ability to sell our recently introduced products for filmless digital camera applications will also have a significant impact on our financial performance for the foreseeable future. If the markets for these products and applications decline or fail to develop as expected, or we are not successful in our efforts to market and sell our products to manufacturers who incorporate integrated circuits into these products, our financial results will be harmed. OUR CUSTOMERS EXPERIENCE FLUCTUATING PRODUCT CYCLES AND SEASONALITY, WHICH CAUSES OUR SALES TO FLUCTUATE. Because the markets our customers serve are characterized by numerous new product introductions and rapid product enhancements, our operating results may vary significantly from quarter to quarter. During the final production of a mature product, our customers typically exhaust their existing inventory of our products. Consequently, orders for our products may decline in those circumstances, even if our products are incorporated into both mature products and replacement products. A delay in the customer's transition to commercial production of a replacement product would delay our ability to recover the lost sales from the discontinuation of the related mature product. Our customers also experience significant seasonality in the sales of their consumer products, which affects their orders of our products. Typically, the fourth calendar quarter represents a disproportionate percentage of sales for our customers due to the holiday period, and therefore a disproportionate percentage of our sales. We expect these sales fluctuations to continue for the foreseeable future. PRODUCT SUPPLY AND DEMAND IN THE SEMICONDUCTOR INDUSTRY IS SUBJECT TO CYCLICAL VARIATIONS. The semiconductor industry is subject to cyclical variations in product supply and demand. Downturns in the industry often occur in connection with, or anticipation of, maturing product cycles for both semiconductor companies and their customers and declines in general economic conditions. These downturns have been characterized by abrupt fluctuations in product demand, production over-capacity and accelerated decline of average selling prices. In some cases, these downturns have lasted more than one year. A downturn in the semiconductor industry could harm our sales and revenues if demand drops or our gross margins if average selling prices decline. 28 THE DEVELOPMENT AND EVOLUTION OF MARKETS FOR OUR INTEGRATED CIRCUITS IS DEPENDENT ON FACTORS SUCH AS INDUSTRY STANDARDS, OVER WHICH WE HAVE NO CONTROL; FOR EXAMPLE, IF MANUFACTURERS ADOPT NEW OR COMPETING INDUSTRY STANDARDS WITH WHICH OUR PRODUCTS ARE NOT COMPATIBLE, OUR EXISTING PRODUCTS WOULD BECOME LESS DESIRABLE TO THE MANUFACTURERS AND OUR SALES WOULD SUFFER. The emergence of markets for our products is affected by a variety of factors beyond our control. In particular, our products are designed to conform to current specific industry standards. Manufacturers may not continue to follow these standards, which would make our products less desirable to manufacturers and reduce our sales. Also, competing standards may emerge that are preferred by manufacturers, which could also reduce our sales and require us to make significant expenditures to develop new products. The emergence of new markets for our products is also dependent in part upon third parties developing and marketing content in a format compatible with commercial and consumer products that incorporate our products. If content compatible with commercial and consumer products that incorporate our products is not available, manufacturers may not be able to sell products incorporating our integrated circuits, and our sales to manufacturers would suffer. WE RELY ON INDEPENDENT FOUNDRIES AND CONTRACTORS FOR THE MANUFACTURE, ASSEMBLY AND TESTING OF OUR INTEGRATED CIRCUITS, AND THE FAILURE OF ANY OF THESE THIRD PARTIES TO DELIVER PRODUCTS OR OTHERWISE PERFORM AS REQUESTED COULD DAMAGE OUR RELATIONSHIPS WITH OUR CUSTOMERS AND HARM OUR SALES AND FINANCIAL RESULTS. We do not operate any manufacturing facilities, and we rely on independent foundries to manufacture substantially all of our products. These independent foundries fabricate products for other companies and may also produce products of their own design. From time to time there are manufacturing capacity shortages in the semiconductor industry. We do not have long-term supply contracts with any of our suppliers, including our principal supplier, Taiwan Semiconductor Manufacturing Company, or TSMC. Therefore, TSMC is not obligated to manufacture products for us for any specific period, in any specific quantity or at any specified price, except as may be provided in a particular purchase order. Our reliance on independent foundries involves a number of risks, including: - the inability to obtain adequate manufacturing capacity; - the unavailability of or interruption in access to certain process technologies necessary for manufacture of our products; - reduced control over delivery schedules; - reduced control over quality assurance; - reduced control over manufacturing yields and cost; and - potential misappropriation of our intellectual property. In addition, TSMC and some of our other foundries are located in areas of the world which are subject to natural disasters such as earthquakes. While the recent earthquake in Taiwan did not have a material impact on our independent foundries, a similar event centered near TSMC's facility could severely reduce TSMC's ability to manufacture our integrated circuits. The loss of any of our manufacturers as a supplier, our inability to expand the supply of our products in response to increased demand, or our inability to obtain timely and adequate deliveries from our current or future suppliers due to a natural disaster or any other reason could delay or reduce shipments of our products. Any of these circumstances could damage our relationships with current and prospective customers and harm our sales and financial results. 29 We also rely on independent contractors for the assembly and testing of our products. At present, all of our semiconductor products are assembled by one of three independent contractors: ASE, Amkor or ASAT. Our semiconductor products are tested by these contractors or other independent contractors. Our reliance on independent assembly and testing houses limits our control over delivery schedules, quality assurance and product cost. Disruptions in the services provided by our assembly or testing houses or other circumstances that would require us to seek alternative sources of assembly or testing could lead to supply constraints or delays in the delivery of our products. These constraints or delays could damage our relationships with current and prospective customers and harm our sales and financial results. BECAUSE FOUNDRY CAPACITY IS LIMITED WE MAY BE REQUIRED TO ENTER INTO COSTLY LONG-TERM SUPPLY ARRANGEMENTS TO SECURE FOUNDRY CAPACITY. If we are not able to obtain additional foundry capacity as required, our relationships with our customers would be harmed and our sales would likely be reduced. In order to secure additional foundry capacity, we have considered and will continue to consider various arrangements with suppliers, which could include, among others: - option payments or other prepayments to a foundry; - nonrefundable deposits with or loans to foundries in exchange for capacity commitments; - contracts that commit us to purchase specified quantities of silicon wafers over extended periods; - issuance of our equity securities to a foundry; - investment in a foundry; - joint ventures; or - other partnership relationships with foundries. We may not be able to make any such arrangement in a timely fashion or at all, and such arrangements, if any, may not be on terms favorable to us. Moreover, if we are able to secure foundry capacity, we may be obligated to utilize all of that capacity or incur penalties. Such penalties may be expensive and could harm our financial results. IF OUR INDEPENDENT FOUNDRIES DO NOT ACHIEVE SATISFACTORY YIELDS, OUR RELATIONSHIPS WITH OUR CUSTOMERS MAY BE HARMED. The fabrication of silicon wafers is a complex process. Minute levels of contaminants in the manufacturing environment, defects in photomasks used to print circuits on a wafer, difficulties in the fabrication process or other factors can cause a substantial portion of the integrated circuits on a wafer to be non-functional. Many of these problems are difficult to detect at an early stage of the manufacturing process and may be time consuming and expensive to correct. As a result, foundries often experience problems achieving acceptable yields, which are represented by the number of good integrated circuits as a proportion of the number of total integrated circuits on any particular wafer. Poor yields from our independent foundries would reduce our ability to deliver our products to customers, harm our relationships with our customers, and harm our business. TO BE SUCCESSFUL, WE MUST EFFICIENTLY DEVELOP NEW AND ENHANCED PRODUCTS TO MEET RAPIDLY CHANGING CUSTOMER REQUIREMENTS AND INDUSTRY STANDARDS. The markets for our products are characterized by: - rapidly changing technologies; 30 - evolving industry standards; - frequent new product introductions; and - short product life cycles. We expect to increase our product development expenses, and our future success will depend to a substantial degree upon our ability to develop and introduce, on a timely and cost-effective basis, new and enhanced products that meet rapidly changing customer requirements and industry standards. We may not successfully develop, introduce or manage the transition to new products. Delays in the introduction or shipment of new or enhanced products, lack of market acceptance for such products or problems associated with new product transitions could harm our sales and financial results. WE FACE COMPETITION OR POTENTIAL COMPETITION FROM COMPANIES WITH GREATER RESOURCES THAN OURS, AND IF WE ARE UNABLE TO COMPETE EFFECTIVELY WITH THESE COMPANIES, OUR MARKET SHARE MAY DECLINE AND OUR BUSINESS COULD BE HARMED. Competition in the compression technology market has historically been dominated by large companies such as STMicroelectronics and companies that develop and use their own integrated circuits, such as Sony. As this market continues to develop, we face competition from other large semiconductor vendors, including: - C-Cube Microsystems; - LSI Logic; - Cirrus Logic (Crystal Semiconductor); - Fujitsu; and - Motorola. For example, in the markets for JPEG-based products for use in filmless digital cameras, LSI Logic and Ricoh are providing system-on-a-chip solutions to third parties. We also face competition from internally-developed solutions developed and used by major Japanese original equipment manufacturers, who may also be our customers. Many of our existing and potential competitors have substantially greater resources than ours in many areas, including: - finances; - manufacturing; - technology; - marketing; and - distribution. Many of our competitors have broader product lines and longer standing relationships with customers than we do. Moreover, our competitors may foresee the course of market developments more accurately than we do and could in the future develop new technologies that compete with our products or even render our products obsolete. In addition, a number of private companies have announced plans for new products to address the same digital multimedia compression problems that our products address. If we are unable to compete successfully against our current and future competitors, we could experience price reductions, order cancellations and reduced gross margins, any one of which could harm our business. 31 The DVD market is just emerging, and additional competitors are expected to enter the market for DVD players and software. We believe that several large Japanese consumer electronics companies may be planning to enter this market and may, accordingly, attempt to develop MPEG 2 hardware or software that may be competitive with our products. Some of these potential competitors may develop captive implementations for use only with their own PC and consumer electronics products. It is also possible that application software vendors, such as Microsoft, may attempt to enter the DVD application market in the future. This increased competition may result in price reductions, reduced profit margins and loss of market share. OUR PRODUCTS ARE CHARACTERIZED BY AVERAGE SELLING PRICES THAT DECLINE OVER RELATIVELY SHORT TIME PERIODS; IF WE ARE UNABLE TO REDUCE OUR COSTS OR INTRODUCE NEW PRODUCTS WITH HIGHER AVERAGE SELLING PRICES, OUR FINANCIAL RESULTS WOULD SUFFER. Average selling prices for our products decline over relatively short time periods. Many of our manufacturing costs are fixed. When our average selling prices decline, our revenues decline unless we sell more units, and our gross margins decline unless we are able to reduce our manufacturing costs by a commensurate amount. Our operating results suffer when gross margins decline. We may experience these problems in the future and cannot predict when they may occur or their severity. WE DERIVE MOST OF OUR REVENUE FROM SALES TO A SMALL NUMBER OF LARGE CUSTOMERS, AND IF WE ARE NOT ABLE TO RETAIN THESE CUSTOMERS, OR THEY RESCHEDULE, REDUCE OR CANCEL ORDERS, OUR REVENUES WOULD BE REDUCED AND OUR FINANCIAL RESULTS WOULD SUFFER. Our largest customers account for a substantial percentage of our revenues. In 1999, sales to Fujifilm accounted for 37.3% of our total revenues and 41.0% of our product sales. Our four largest customers in 1999 accounted for approximately 56.9% of our total revenues. During 1998, our four largest customers accounted for approximately 45.7% of our revenues with Fujifilm accounting for 22.7% and Pinnacle 14.3%. Sales to these large customers have varied significantly from year to year and will continue to fluctuate in the future. These sales also may fluctuate significantly from quarter to quarter. We may not be able to retain our key customers or these customers may cancel purchase orders or reschedule or decrease their level of purchases from us. Any substantial decrease or delay in sales to one or more of our key customers could harm our sales and financial results. In addition, any difficulty in collecting amounts due from one or more key customers could harm our financial results. WE ARE DEPENDENT ON OUR RELATIONSHIP WITH FUJIFILM FOR A SIGNIFICANT PERCENTAGE OF OUR PRODUCT SALES, AND IF THIS RELATIONSHIP WERE TERMINATED, OUR BUSINESS WOULD BE HARMED. Fujifilm has been our largest customer in three of the last five years. Fujifilm purchases our products primarily as a distributor. Under our arrangement with Fujifilm, Fujifilm acts as the primary distributor in Japan of products developed by us under development contracts with Fujifilm. Fujifilm also sells some of these products in Japan under its own name. We may sell these products directly in Japan only to specified customers and must first buy the products from Fujifilm. Fujifilm provides more sales and marketing support than our other distributors. Fujifilm also has a nonexclusive license to distribute most of our products outside of Japan. Fujifilm has provided wafer manufacturing services on a most-favored terms basis to us since 1993 and has also provided funding to support our development efforts. If our relationship with Fujifilm were terminated, our business would be harmed. OUR PRODUCTS GENERALLY HAVE LONG SALES CYCLES AND IMPLEMENTATION PERIODS, WHICH INCREASES OUR COSTS IN OBTAINING ORDERS AND REDUCES THE PREDICTABILITY OF OUR EARNINGS. Our products are technologically complex. Prospective customers generally must make a significant commitment of resources to test and evaluate our products and to integrate them into larger systems. As a result, our sales process is often subject to delays associated with lengthy approval processes that 32 typically accompany the design and testing of new products. The sales cycles of our products often last for many months or even years. Longer sales cycles require us to invest significant resources in attempting to make sales and delay the generation of revenue. Long sales cycles also subject us to other risks, including customers' budgetary constraints, internal acceptance reviews and cancellations. In addition, orders expected in one quarter could shift to another because of the timing of customers' purchase decisions. The time required for our customers to incorporate our products into their own can vary significantly with the needs of our customers and generally exceeds several months, which further complicates our planning processes and reduces the predictability of our operating results. WE ARE NOT PROTECTED BY LONG-TERM CONTRACTS WITH OUR CUSTOMERS. We generally do not enter into long-term purchase contracts with our customers, and we cannot be certain as to future order levels from our customers. When we do enter into a long-term contract, the contract is generally terminable at the convenience of the customer. In the event of an early termination by one of our major customers, it is unlikely that we will be able to rapidly replace that revenue source, which would harm our financial results. WE ARE DEPENDENT UPON OUR INTERNATIONAL SALES AND OPERATIONS; ECONOMIC, POLITICAL OR MILITARY EVENTS IN A COUNTRY WHERE WE MAKE SIGNIFICANT SALES OR HAVE SIGNIFICANT OPERATIONS COULD INTERFERE WITH OUR SUCCESS OR OPERATIONS THERE AND HARM OUR BUSINESS. During 1999, 79.5% of our total revenues were derived from international sales. We anticipate that international sales will continue to represent a significant portion of our total revenues for the foreseeable future. In addition, substantially all of our semiconductor products are manufactured, assembled and tested outside of the United States by independent foundries and subcontractors. We are subject to the risks inherent in doing business internationally, including: - unexpected changes in regulatory requirements; - fluctuations in exchange rates; - political and economic instability; - imposition of tariffs and other barriers and restrictions; and - the burdens of complying with a variety of foreign laws. The majority of our research and development personnel and facilities and a significant portion of our sales personnel are located in Israel. Political, economic and military conditions in Israel directly affect our operations. Some of our officers and employees in Israel are obligated to perform up to 39 days of military reserve duty annually. The absence of these employees for significant periods during the work week may cause us to operate inefficiently during these periods. During 1998, we opened an office in Shenzhen, China. Our operations in China will be subject to the economic and political uncertainties affecting that country. For example, the Chinese economy has experienced significant growth in the past decade, but such growth has been uneven across geographic and economic sectors and has recently been slowing. This growth may continue to decrease and any slowdown may have a negative effect on our business. The Chinese economy is also experiencing deflation which may continue in the future. This deflation could result in devaluation of the Chinese Yuan, which could reduce our sales to the Chinese market. 33 THE PRICES OF OUR PRODUCTS MAY BECOME LESS COMPETITIVE DUE TO FOREIGN EXCHANGE FLUCTUATIONS. Foreign currency fluctuations may affect the prices of our products. Prices for our products are currently denominated in U.S. dollars for sales to our customers throughout the world. If there is a significant devaluation of the currency in a specific country, the prices of our products will increase relative to that country's currency and our products may be less competitive in that country. Also, we cannot be sure that our international customers will continue to be willing to place orders denominated in U.S. dollars. If they do not, our revenue and operating results will be subject to foreign exchange fluctuations. OUR ABILITY TO COMPETE COULD BE JEOPARDIZED IF WE ARE UNABLE TO PROTECT OUR INTELLECTUAL PROPERTY RIGHTS FROM CHALLENGES BY THIRD PARTIES. Our success and ability to compete depend in large part upon protecting our proprietary technology. We rely on a combination of patent, trade secret, copyright and trademark laws, non-disclosure and other contractual agreements and technical measures to protect our proprietary rights. These agreements and measures may not be sufficient to protect our technology from third-party infringement, or to protect us from the claims of others. Monitoring unauthorized use of our products is difficult and we cannot be certain that the steps we have taken will prevent unauthorized use of our technology, particularly in foreign countries where the laws may not protect our proprietary rights as fully as in the United States. The laws of certain foreign countries in which our products are or may be developed, manufactured or sold, including various countries in Asia, may not protect our products or intellectual property rights to the same extent as do the laws of the United States and thus make the possibility of piracy of our technology and products more likely in these countries. If competitors are able to use our technology, our ability to compete effectively could be harmed. WE COULD BECOME SUBJECT TO CLAIMS AND LITIGATION REGARDING INTELLECTUAL PROPERTY RIGHTS, WHICH COULD SERIOUSLY HARM OUR BUSINESS AND REQUIRE US TO INCUR SIGNIFICANT COSTS. In recent years, there has been significant litigation in the United States involving patents and other intellectual property rights. In the past, we have been subject to claims and litigation regarding alleged infringement of other parties' intellectual property rights. We could become subject to litigation in the future either to protect our intellectual property or as a result of allegations that we infringe others' intellectual property rights. Claims that our products infringe proprietary rights would force us to defend ourselves and possibly our customers or manufacturers against the alleged infringement. These claims and any resulting lawsuit, if successful, could subject us to significant liability for damages and invalidation of our proprietary rights. These lawsuits, regardless of their success, would likely be time-consuming and expensive to resolve and would divert management time and attention. Any potential intellectual property litigation could force us to do one or more of the following: - stop selling our products that incorporate the challenged intellectual property; - obtain from the owner of the infringed intellectual property right a license to sell or use the relevant technology, which license may not be available on reasonable terms or at all; - pay damages; or - redesign those products that use such technology. If we are forced to take any of the foregoing actions, our business could be severely harmed. 34 IF NECESSARY LICENSES OF THIRD-PARTY TECHNOLOGY ARE NOT AVAILABLE TO US OR ARE VERY EXPENSIVE, OUR PRODUCTS COULD BECOME OBSOLETE. From time to time we may be required to license technology from third parties to develop new products or product enhancements. Third party licenses may not be available to us on commercially reasonable terms, if at all. If we are unable to obtain any third-party license required to develop new products and product enhancements, we may have to obtain substitute technology of lower quality or performance standards or at greater cost, either of which could seriously harm the competitiveness of our products. IF WE ARE NOT ABLE TO APPLY OUR NET OPERATING LOSSES AGAINST TAXABLE INCOME IN FUTURE PERIODS, OUR FINANCIAL RESULTS WILL BE HARMED. Our future net income and cash flow will be affected by our ability to apply our net operating losses, which totaled approximately $48.0 million for federal tax reporting purposes as of December 31, 1999, against taxable income in future periods. Our net operating losses incurred prior to the consummation of our initial public offering in 1995 that we can use to reduce future taxable income for federal tax purposes are limited to approximately $3.0 million per year. Changes in tax laws in the United States may further limit our ability to utilize our net operating losses. Any further limitation on our ability to utilize our net operating losses could harm our financial condition. See Note 9 of Notes to Consolidated Financial Statements. ANY ACQUISITIONS WE MAKE COULD DISRUPT OUR BUSINESS AND SEVERELY HARM OUR FINANCIAL CONDITION. We intend to consider investments in complementary companies, products or technologies. While we have no current agreements to do so, we may acquire businesses, products or technologies in the future. In the event of any future acquisitions, we could: - issue stock that would dilute our current stockholders' percentage ownership; - incur debt; - assume liabilities; - incur amortization expenses related to goodwill and other intangible assets; or - incur large and immediate write-offs. Our operation of any acquired business will also involve numerous risks, including: - problems combining the purchased operations, technologies or products; - unanticipated costs; - diversion of management's attention from our core business; - adverse effects on existing business relationships with customers; - risks associated with entering markets in which we have no or limited prior experience; and - potential loss of key employees, particularly those of the purchased organizations. We may not be able to successfully integrate any businesses, products or technologies or personnel that we might acquire in the future and any failure to do so could disrupt our business and seriously harm our financial condition. 35 OUR PRODUCTS COULD CONTAIN DEFECTS, WHICH COULD REDUCE SALES OF THOSE PRODUCTS OR RESULT IN CLAIMS AGAINST US. We develop complex and evolving products. Despite testing by us and our customers, errors may be found in existing or new products. This could result in, among other things, a delay in recognition or loss of revenues, loss of market share or failure to achieve market acceptance. These defects may cause us to incur significant warranty, support and repair costs, divert the attention of our engineering personnel from our product development efforts and harm our relationships with our customers. The occurrence of these problems could result in the delay or loss of market acceptance of our products and would likely harm our business. Defects, integration issues or other performance problems in our products could result in financial or other damages to our customers or could damage market acceptance of our products. Our customers could also seek damages from us for their losses. A product liability claim brought against us, even if unsuccessful, would likely be time consuming and costly to defend. IF WE DO NOT MAINTAIN OUR CURRENT DEVELOPMENT CONTRACTS OR ARE UNABLE TO ENTER INTO NEW DEVELOPMENT CONTRACTS, OUR BUSINESS COULD BE HARMED. We historically have generated a significant percentage of our total revenues from development contracts, primarily with key customers. These development contracts have provided us with partial funding for the development of some of our products. Under these contracts, we receive payments upon reaching certain development milestones. If we fail to achieve the milestones specified in our existing development contracts, if our existing contracts are terminated or we are unable to secure future development contracts, our ability to cost-effectively develop new products would be reduced and our business would be harmed. WE MAY NEED ADDITIONAL FUNDS TO EXECUTE OUR BUSINESS PLAN, AND IF WE ARE UNABLE TO OBTAIN SUCH FUNDS, WE WILL NOT BE ABLE TO EXPAND OUR BUSINESS AS PLANNED. We may require substantial additional capital to finance our future growth, secure additional foundry capacity and fund our ongoing research and development activities beyond 2000. Our capital requirements will depend on many factors, including: - acceptance of and demand for our products; - the types of arrangements that we may enter into with our independent foundries; and - the extent to which we invest in new technology and research and development projects. To the extent that our existing sources of liquidity and cash flow from operations are insufficient to fund our activities, we may need to raise additional funds. If we raise additional funds through the issuance of equity securities, the percentage ownership of our existing stockholders would be reduced. Further, such equity securities may have rights, preferences or privileges senior to those of our common stock. Additional financing may not be available to us when needed or, if available, it may not be available on terms favorable to us. IF WE FAIL TO MANAGE OUR FUTURE GROWTH, IF ANY, OUR BUSINESS WOULD BE HARMED. We anticipate that our future growth, if any, will require us to recruit and hire a substantial number of new engineering, managerial, sales and marketing personnel. Our ability to manage our growth successfully will also require us to expand and improve our administrative, operational, management and financial systems and controls. Many of our key operations, including the major portion of our research and development operations and a significant portion of our sales and administrative operations, are located in Israel. A majority of our sales and marketing and certain of our research and development and administrative personnel, including our President and Chief 36 Executive Officer and other officers, are based in the United States. The geographic separation of these operations places additional strain on our resources and our ability to effectively manage our growth. If we are unable to manage growth effectively, our business would be harmed. WE RELY ON THE SERVICES OF OUR EXECUTIVE OFFICERS AND OTHER KEY PERSONNEL, WHOSE KNOWLEDGE OF OUR BUSINESS AND INDUSTRY WOULD BE EXTREMELY DIFFICULT TO REPLACE. Our success depends to a significant degree upon the continuing contributions of our senior management. The loss of key management personnel could delay product development cycles or otherwise harm our business. We may not be able to retain the services of any of our key employees. We believe that our future success will also depend in large part on our ability to attract, integrate and retain highly-skilled engineering, managerial, sales and marketing personnel, both in the United States and in Israel. Competition for such personnel is intense, and we may not be successful in attracting, integrating and retaining such personnel. Failure to attract, integrate and retain key personnel could harm our ability to carry out our business strategy and compete with other companies. THE ISRAELI RATE OF INFLATION MAY NEGATIVELY IMPACT OUR COSTS IF IT EXCEEDS THE RATE OF DEVALUATION OF THE NEW ISRAELI SHEKEL AGAINST THE U.S. DOLLAR. A portion of the cost of our operations, relating mainly to our personnel and facilities in Israel, is incurred in New Israeli Shekels. As a result, we bear the risk that the rate of inflation in Israel will exceed the rate of devaluation of the New Israeli Shekel in relation to the dollar, which will increase our costs as expressed in dollars. To date, we have not engaged in hedging transactions. In the future, we may enter into currency hedging transactions to decrease the risk of financial exposure from fluctuations in the exchange rate of the U.S. dollar against the New Israeli Shekel. These measures may not adequately protect us from the impact of inflation in Israel. THE GOVERNMENT PROGRAMS WE PARTICIPATE IN AND TAX BENEFITS WE RECEIVE REQUIRE US TO MEET SEVERAL CONDITIONS AND MAY BE TERMINATED OR REDUCED IN THE FUTURE, WHICH WOULD INCREASE OUR COSTS. In the year ended December 31, 1999, we received an aggregate of $484,000 in grants for research and development from the Chief Scientist in Israel's Ministry of Industry and Trade. To continue to be eligible for these grants, our development projects must be approved by the Chief Scientist on a case-by-case basis. If our development projects are not approved by the Chief Scientist, we will not receive grants to fund these projects, which would increase our research and development costs. We also receive tax benefits, in particular exemptions and reductions as a result of the "Approved Enterprise" status of our existing operations in Israel. To be eligible for these tax benefits, we must maintain our Approved Enterprise status by meeting conditions, including making specified investments in fixed assets located in Israel and investing additional equity in our Israeli subsidiary. If we fail to meet these conditions in the future, the tax benefits would be canceled and we could be required to refund the tax benefits already received. These tax benefits may not be continued in the future at their current levels or at any level. Israeli governmental authorities have indicated that the government may reduce or eliminate these benefits in the future, which would harm our business. WE HAVE ANTI-TAKEOVER PROVISIONS IN OUR CHARTER DOCUMENTS AND THERE ARE PROVISIONS OF DELAWARE LAW THAT COULD PREVENT OR DELAY A CHANGE IN CONTROL OF OUR COMPANY. Our certificate of incorporation, our bylaws and Delaware law contain provisions that could make it more difficult for a third party to acquire us, even if doing so would be beneficial to our stockholders. These include provisions: - prohibiting a merger with a party that has acquired control of 15% or more of our outstanding common stock, such as a party that has completed a successful tender offer, until three years after that party acquired control of 15% of our outstanding common stock; 37 - authorizing the issuance of up to 3,000,000 shares of "blank check" preferred stock; - eliminating stockholders' rights to call a special meeting of stockholders; and - requiring advance notice of any stockholder nominations of candidates for election to our board of directors. OUR STOCK PRICE HAS FLUCTUATED AND MAY CONTINUE TO FLUCTUATE WIDELY. The market price of our common stock has fluctuated significantly since our initial public offering in 1995. Between January 1, 1999 and December 31, 1999, the sale price of our common stock, as reported on the Nasdaq National Market, ranged from a low of $8.875 to a high of $55.75. The market price of our common stock is subject to significant fluctuations in the future in response to a variety of factors, including: - announcements concerning our business or that of our competitors or customers; - quarterly variations in operating results; - announcements of technological innovations; - the introduction of new products or changes in product pricing policies by us or our competitors; - proprietary rights or other litigation; - changes in analysts' earnings estimates; - general conditions in the semiconductor industry; and - developments in the financial markets. In addition, the stock market has, from time to time, experienced extreme price and volume fluctuations that have particularly affected the market prices for semiconductor companies or technology companies generally and which have been unrelated to the operating performance of the affected companies. Broad market fluctuations of this type may reduce the future market price of our common stock. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISKS. We are exposed to financial market risks including changes in interest rates and foreign currency exchange rates. The fair value of our investment portfolio or related income would not be significantly impacted by either a 10% increase or decrease in interest rates due mainly to the short-term nature of the major portion of our investment portfolio. A majority of our revenue and capital spending is transacted in U.S. dollars, although a portion of the cost of our operations, relating mainly to our personnel and facilities in Israel, is incurred in New Israeli Shekels. We have not engaged in hedging transactions to reduce our exposure to fluctuations that may arise from changes in foreign exchange rates. Based on our overall currency rate exposure at December 31, 1999 a near-term 10% appreciation or depreciation of the New Israeli Shekel would have an immaterial affect on our financial condition. 38 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTAL DATA. INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE -------- Report of Independent Accountants........................... 40 Consolidated Balance Sheets as of December 31, 1999 and 1998...................................................... 41 Consolidated Statements of Operations for the three years ended December 31, 1999......................................... 42 Consolidated Statements of Stockholders' Equity for the three years ended December 31, 1999......................................... 43 Consolidated Statements of Cash Flows for the three years ended December 31, 1999......................................... 44 Notes to Consolidated Financial Statements.................. 45 Supplemental Data: Selected Quarterly Financial Information (Unaudited)............................................... 60
39 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of Zoran Corporation In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, of stockholders' equity and of cash flows present fairly, in all material respects, the financial position of Zoran Corporation and its subsidiaries at December 31, 1999 and 1998, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1999, in conformity with accounting principles generally accepted in the United States. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. /s/ PricewaterhouseCoopers LLP San Jose, California January 25, 2000 40 ZORAN COPORATION CONSOLIDATED BALANCE SHEETS (In thousands, except share data)
DECEMBER 31, -------------------- 1999 1998 --------- -------- ASSETS Current Assets: Cash and cash equivalents................................. $ 12,665 $ 8,221 Short-term investments.................................... 132,967 10,954 Accounts receivable, net.................................. 21,869 15,558 Inventory................................................. 7,159 7,063 Prepaid expenses and other current assets................. 1,946 2,018 --------- -------- Total current assets.................................. 176,606 43,814 Property and equipment, net................................. 5,662 5,356 Other....................................................... 200 -- --------- -------- $ 182,468 $ 49,170 ========= ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Accounts payable.......................................... $ 7,987 $ 6,530 Accrued expenses and other liabilities.................... 11,036 6,454 --------- -------- Total current liabilities............................. 19,023 12,984 --------- -------- Commitments and Contingencies (Note 6) Stockholders' Equity: Common Stock: $0.001 par value; 20,000,000 shares authorized; 13,919,270 and 10,213,394 shares issued and outstanding............................................. 14 10 Additional paid-in capital................................ 195,269 79,635 Warrants.................................................. 717 717 Accumulated other comprehensive income.................... 4,962 -- Accumulated deficit....................................... (37,517) (44,176) --------- -------- Total stockholders' equity............................ 163,445 36,186 --------- -------- $ 182,468 $ 49,170 ========= ========
The accompanying notes are an integral part of these consolidated financial statements. 41 ZORAN COPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (In thousands, except per share data)
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- Revenues: Product sales............................................. $52,887 $33,465 $32,717 Software, licensing and development....................... 8,787 10,760 12,210 ------- ------- ------- Total revenues........................................ 61,674 44,225 44,927 ------- ------- ------- Costs and expenses: Cost of product sales..................................... 28,523 19,036 16,032 Research and development.................................. 12,651 13,548 13,787 Selling, general and administrative....................... 14,251 11,551 11,209 ------- ------- ------- Total costs and expenses.............................. 55,425 44,135 41,028 ------- ------- ------- Operating income............................................ 6,249 90 3,899 Interest and other income, net.............................. 1,585 1,071 1,258 ------- ------- ------- Income before income taxes.................................. 7,834 1,161 5,157 Provision for income taxes.................................. 1,175 232 928 ------- ------- ------- Net income.................................................. $ 6,659 $ 929 $ 4,229 ======= ======= ======= Basic net income per share.................................. $ 0.61 $ 0.09 $ 0.45 ======= ======= ======= Diluted net income per share................................ $ 0.54 $ 0.08 $ 0.38 ======= ======= ======= Shares used to compute basic net income per share........... 10,844 10,042 9,412 ======= ======= ======= Shares used to compute diluted net income per share......... 12,249 11,119 11,072 ======= ======= =======
The accompanying notes are an integral part of these consolidated financial statements. 42 ZORAN CORPORATION CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (In thousands)
ACCUMULATED COMMON STOCK ADDITIONAL OTHER ------------------- PAID-IN COMPREHENSIVE ACCUMULATED SHARES AMOUNT CAPITAL WARRANTS INCOME DEFICIT TOTAL -------- -------- ---------- -------- ------------- ----------- -------- Balance at December 31, 1996........ 9,029 $ 9 $ 77,855 $ -- $ -- $(49,334) $ 28,530 Issuance of Common Stock, net....... 772 1 769 -- -- -- 770 Issuance of Warrant................. -- -- -- 717 -- -- 717 Amortization of deferred compensation...................... -- -- 40 -- -- -- 40 Net income.......................... -- -- -- -- -- 4,229 4,229 ------ --- -------- ---- ------ -------- -------- Balance at December 31, 1997........ 9,801 10 78,664 717 -- (45,105) 34,286 Issuance of Common Stock, net....... 412 -- 971 -- -- -- 971 Net income.......................... -- -- -- -- -- 929 929 ------ --- -------- ---- ------ -------- -------- Balance at December 31, 1998........ 10,213 10 79,635 717 -- (44,176) 36,186 Issuance of Common Stock, net....... 3,706 4 115,634 -- -- -- 115,638 Unrealized gain on securities available for sale................ -- -- -- -- 4,962 -- 4,962 Net income.......................... -- -- -- -- -- 6,659 6,659 ------ --- -------- ---- ------ -------- -------- Balance at December 31, 1999........ 13,919 $14 $195,269 $717 $4,962 $(37,517) $163,445 ====== === ======== ==== ====== ======== ========
The accompanying notes are an integral part of these consolidated financial statements. 43 ZORAN CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands)
YEAR ENDED DECEMBER 31, ------------------------------- 1999 1998 1997 --------- -------- -------- Cash flows from operating activities: Net income................................................ $ 6,659 $ 929 $ 4,229 Adjustments: Depreciation, amortization and other.................... 2,166 2,306 1,862 Amortization of deferred compensation................... -- -- 40 Changes in current assets and liabilities: Accounts receivable................................... (6,828) 951 (5,421) Deferred revenue...................................... 699 (112) 121 Inventory............................................. (96) (2,940) (2,324) Prepaid expenses and other current assets............. (108) 214 (356) Accounts payable...................................... 1,457 (3,042) 3,151 Accrued expenses and other liabilities................ 3,007 (700) 534 --------- ------- ------- Net cash provided by (used in) operating activities........................................ 6,956 (2,394) 1,836 --------- ------- ------- Cash flows from investing activities: Capital expenditures for property and equipment........... (2,775) (1,778) (3,649) Sales (Purchases) of short-term investments, net.......... (115,175) 1,519 (230) Purchases of long term investments........................ (200) -- -- --------- ------- ------- Net cash used in investing activities............... (118,150) (259) (3,879) --------- ------- ------- Cash flows from financing activities: Proceeds from issuance of Common Stock, net............... 115,638 971 770 --------- ------- ------- Net cash provided by financing activities........... 115,638 971 770 --------- ------- ------- Net increase (decrease) in cash and cash equivalents........ 4,444 (1,682) (1,273) Cash and cash equivalents at beginning of year.............. 8,221 9,903 11,176 --------- ------- ------- Cash and cash equivalents at end of year.................... $ 12,665 $ 8,221 $ 9,903 ========= ======= ======= Supplemental disclosures: Income taxes paid......................................... $ 506 $ -- $ 368 ========= ======= =======
The accompanying notes are an integral part of these consolidated financial statements. 44 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1--THE COMPANY: Zoran Corporation ("Zoran" or the "Company") was incorporated in California in December 1981 and reincorporated in Delaware in November 1986. Zoran develops and markets integrated circuits and software products for digital video and audio applications enabled by compression. The Company's integrated circuits and software products are used in a variety of video and audio products addressing PC and consumer multimedia markets. Current applications incorporating Zoran's products and IP include professional and consumer video editing systems, filmless digital cameras, standalone and PC-based DVD players, Super VCD players, digital speakers and audio systems. The Company operates predominantly in one industry segment. The Company performs research and development and generates a substantial portion of its sales from its operations located in the State of Israel. A significant number of the Company's full-time employees are located in Israel, including a majority of the Company's research and development personnel. Therefore, the Company is directly affected by the political, economic and military conditions to which that country is subject. The semiconductor business is highly cyclical and has been subject to significant downturns at various times that have been characterized by diminished product demand, production, overcapacity, and accelerated erosion of average selling prices. As such, the selling price that the Company is able to command for its products is highly dependent on industry-wide production capacity and demand. Both of these factors could result in rapid deviations in product pricing and therefore could adversely effect the Company's operating results. PRINCIPLES OF CONSOLIDATION AND BASIS OF PRESENTATION The consolidated financial statements include the accounts of Zoran and all of its subsidiaries. Intercompany transactions and balances have been eliminated in consolidation. NOTE 2--SIGNIFICANT ACCOUNTING POLICIES: Zoran has adopted accounting policies which are generally accepted in the industry in which it operates. The following is a summary of the Company's significant accounting policies. USE OF ESTIMATES The preparation of these financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates, although such differences are not expected to be material to the consolidated financial statements. TRANSLATION OF FOREIGN CURRENCIES ZML, an Israeli subsidiary, treats the U.S. dollar as its functional currency. In accordance with Statement of Financial Accounting Standards No. 52 ("SFAS 52"), gains and losses resulting from translation of accounts designated in other than the functional currency are reflected in results of operations and to date have been insignificant. To date, substantially all of the Company's product sales have been denominated in U.S. dollars and most costs of product sales have been incurred in U.S. dollars. The Company has not experienced material losses or gains as a result of currency exchange rate fluctuations and has not engaged in 45 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 2--SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) hedging transactions to reduce its exposure to such fluctuations. The Company may take action in the future to reduce its foreign exchange risk. REVENUE RECOGNITION Revenue from product sales is generally recognized upon shipment. A provision for estimated future returns and potential warranty liability is recorded at the time revenue is recognized. Development revenue under development contracts is recognized on the percentage-of-completion method. Under the percentage-of-completion method, revenue recognized is that portion of the total contract price equal to the ratio of costs expended to date to the anticipated final total costs, based on current estimates of the costs to complete the project. Amounts received in advance of performance under contracts are recorded as deferred revenue and are generally recognized within one year from receipt. Estimates are reviewed and revised periodically throughout the lives of the contracts. Any revisions are recorded in the accounting period in which the revisions are made. Costs associated with development revenues are included primarily in research and development expenses. Revenue resulting from the licensing of the Company's technology is recognized when significant contractual obligations have been fulfilled and the customer has indicated acceptance. The Company does not provide customers with product return or exchange rights in connection with the sale of software licenses. Periodic service and maintenance fees provide customers access to technical support and minor enhancements to licensed releases are recognized ratably over the service or maintenance period. Royalty revenue is recognized in the period licensed sales are reported to the Company. RESEARCH AND DEVELOPMENT COSTS Costs related to the conceptual formation and design of internally developed software are expensed as research and development as incurred. It is the Company's policy that certain internal software development costs incurred after technological feasibility has been demonstrated and which meet recoverability tests are capitalized and amortized over the estimated economic life of the product. To date, the Company has incurred no significant internal software development costs which meet the criteria for capitalization. FAIR VALUE OF FINANCIAL INSTRUMENTS For certain of Zoran's financial instruments, including cash and cash equivalents, accounts receivable, accounts payable, accrued expenses and other current liabilities, the carrying values approximate their fair values due to the relatively short maturity of these items. CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS All highly liquid investments purchased with an original maturity of 90 days or less are considered to be cash and cash equivalents. All of Zoran's investment portfolio is classified as available-for-sale and, therefore, is reported at fair value with unrealized gains and losses, net of related tax, if any, included as other comprehensive income, a component of stockholders' equity. Gains and losses on realized upon sales of all such securities are reported in interest and other income and have not been significant to date. 46 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 2--SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) At December 31, 1999, the Company's investment portfolio consisted primarily of commercial paper with maturities of less than one year and the stock acquired as a result of the MGI transaction (see Note 12). The unrealized gain on securities available for sale of $4,962,000 included in comprehensive income represents the unrealized gain on the stock at December 31, 1999. CONCENTRATION OF CREDIT RISK OF FINANCIAL INSTRUMENTS Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and cash equivalents, short-term investments and trade accounts receivable. The Company places its cash in banks and cash equivalents primarily in auction rate preferred, certificates of deposit and commercial paper. The Company, by policy, limits the amount of credit exposure through diversification and highly-rated securities. The Company has not experienced any significant losses on its cash equivalents or short-term investments. The Company markets integrated circuits and technology to manufacturers and distributors of electronic equipment primarily in North America, Europe and the Pacific Rim. The Company performs ongoing credit evaluations of its customers' financial condition and limits the amount of credit extended when deemed necessary, but generally does not require collateral. Management believes that any risk of loss is significantly reduced due to the diversity of its customers and geographic sales areas. The Company maintains a provision for potential credit losses, and write-offs of accounts receivable were insignificant in each of the three years in the period ended December 31, 1999. As of December 31, 1999, three customers accounted for approximately 33%, 12%, and 9% of the accounts receivable balance. As of December 31, 1998, five customers accounted for approximately 20%, 14%, 7%, 7%, and 5% of the accounts receivable balance. INVENTORY Inventories are stated at the lower of standard cost (which approximates actual cost on a first-in, first-out basis) or market. Market is based on estimated net realizable value. PROPERTY AND EQUIPMENT Property and equipment are recorded at cost. Depreciation is computed using the straight-line method over the estimated useful lives of three to five years. Leasehold improvements are amortized on a straight-line basis over the shorter of the estimated useful lives of the assets or the remaining term of the lease. INCOME TAXES The Company follows the liability method of accounting for income taxes which requires recognition of deferred tax liabilities and assets for the expected future tax consequence of temporary differences between the financial statement carrying amounts and the tax bases of assets and liabilities. For the twelve month periods ended December 31, 1999 and 1998 the provision for income taxes reflects the estimated annualized effective tax rate applied to earnings for the periods. The effective tax rate differs from the U.S. statutory rate due to utilization of net operating losses and State of Israel tax 47 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 2--SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) benefits on foreign earnings. The provision includes primarily taxes on income in excess of net operating loss carryover limitations and foreign withholding taxes. EARNINGS PER SHARE In accordance with Statement of Financial Accounting Standards No. 128 ("SFAS 128") Zoran reports Earnings per Share ("EPS"), both basic and diluted, on the statement of operations. Basic EPS is based upon the weighted average number of common shares outstanding. Diluted EPS is computed using the weighted average common shares outstanding plus any potential common stock, except when their effect is anti-dilutive. Potential common stock includes stock options and warrants. See Note 8. STOCK COMPENSATION The Company accounts for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25 ("APB 25"), "Accounting for Stock Issued to Employees" and related interpretations. Under APB No.25, compensation expense is recognized based on the difference, if any, on the date of grant between the fair value of the Company's stock and the amount an employee must pay to acquire the stock. The compensation expense is recognized over the periods the employee performs the related services, generally the vesting period of four years, consistent with the multiple option method described in FASB Interpretation No. 28 ("FIN28"). The Company provides additional pro forma disclosures as required under Statement of Financial Accounting Standards No. 123 ("SFAS 123"), "Accounting for Stock-Based Compensation." See Note 7. SEGMENT REPORTING In 1998, the Company adopted Statement of Financial Accounting Standards No. 131 ("SFAS 131"), "Disclosures about Segments of an Enterprise and Related Information." SFAS 131 supersedes SFAS 14 "Financial Reporting for Segments of a Business Enterprise," replacing the "Industry Segment" approach with the "Management" approach. The management approach designates the internal organization that is used by management for making operating decisions and assessing performance as the source of the Company's reportable segments. SFAS 131 also requires disclosures about products and services, geographic areas, and major customers. The Company operates in one industry segment comprising the development and marketing of integrated circuits and software products for use in a variety of video and audio products addressing PC and consumer multimedia markets. COMPREHENSIVE INCOME In 1998, the Company adopted Statement of Financial Accounting Standards No. 130 ("SFAS 130"), "reporting Comprehensive Income. 48 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 2--SIGNIFICANT ACCOUNTING POLICIES: (CONTINUED) The following are the components of comprehensive income (in thousands):
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- Net income.......................................... $ 6,659 $929 $4,229 Unrealized gain on short-term investment............ 4,962 -- -- ------- ---- ------ Comprehensive income................................ $11,621 $929 $4,229 ======= ==== ======
The components of accumulated other comprehensive income are as follows (in thousands):
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- Unrealized gain on short term-investment............ $4,962 -- --
RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, Accounting for Derivative Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 establishes a new model for accounting for derivatives and hedging activities and supercedes and amends a number of existing accounting standards. SFAS 133 requires that all derivatives be recognized in the balance sheet at their fair market value, and the corresponding derivative gains or losses be either reported in the statement of operations or as a deferred item depending on the type of hedge relationship that exists with respect to such derivative. Adopting the provisions of SFAS 133, which will be effective for the Company's fiscal year 2000, are not expected to have a material effect on the Company's consolidated financial statements. In July 1999, the Financial Accounting' Standards Board issued Statement of Financial Accounting Standards No. 137, "Accounting for Derivative Instruments and Hedging Activities--Deferral of the Effective Date of SFAS 133" ("SFAS 137"). SFAS 137 defers the effective date of SFAS 133 to fiscal quarters and years beginning after June 15, 2000. Adopting the provisions of SFAS 133 is not expected to have a material effect on the Company's consolidated financial statements. NOTE 3--BALANCE SHEET COMPONENTS (In thousands):
DECEMBER 31, ------------------- 1999 1998 -------- -------- ACCOUNTS RECEIVABLE, NET: Trade................................................... $22,367 $14,486 Unbilled................................................ 550 1,871 ------- ------- 22,917 16,357 Less: allowance......................................... (1,048) (799) ------- ------- $21,869 $15,558 ======= =======
49 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 3--BALANCE SHEET COMPONENTS (In thousands): (CONTINUED) Unbilled accounts receivable consists of both development revenue recognized, but not yet billed and research and development funding not yet received. Unbilled development revenue represents revenue recognized under the percentage-of-completion method prior to achievement of the related contract milestones. The Company bills development revenue when contract milestones are achieved. The Company recognizes research and development funding as reimbursable expenses, under research and development agreements, as incurred. This funding is offset against research and development expenses.
DECEMBER 31, ------------------- 1999 1998 -------- -------- INVENTORY: Work-in-process......................................... $ 1,135 $ 1,781 Finished goods.......................................... 6,024 5,282 ------- ------- $ 7,159 $ 7,063 ======= ======= PROPERTY AND EQUIPMENT: Computer equipment...................................... $10,265 $ 9,573 Office equipment and furniture.......................... 729 706 Machinery and equipment................................. 1,391 860 Leasehold improvements.................................. 567 544 ------- ------- 12,952 11,683 Less: accumulated depreciation and amortization......... (7,290) (6,327) ------- ------- $ 5,662 $ 5,356 ======= ======= ACCRUED EXPENSES AND OTHER LIABILITIES: Accrued payroll and related expenses.................... $ 2,880 $ 1,910 Accrued royalties....................................... 673 808 Taxes payable........................................... 3,682 1,592 Deferred revenue........................................ 1,051 352 Other accrued liabilities............................... 2,750 1,792 ------- ------- $11,036 $ 6,454 ======= =======
NOTE 4--RESEARCH AND DEVELOPMENT ARRANGEMENTS: The Company is a party to certain research and development agreements with the Chief Scientist in Israel's Ministry of Industry and Trade Department (the "Chief Scientist") and the Israel-United States Binational Industrial Research and Development Foundation ("BIRDF"), which fund up to 50% of incurred project costs for approved products up to specified contract maximums. The Company is not obligated to repay funding regardless of the outcome of its development efforts; however, these agreements require the Company to use its best efforts to achieve specified results and require the Company to pay royalties at rates of 3% to 5% of resulting products sales, and up to 30% of resulting license revenues, up to a maximum of 100% to 150% of the total funding received. Reported research and development expenses are net of these grants, which fluctuate from period to period. 50 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 4--RESEARCH AND DEVELOPMENT ARRANGEMENTS: (CONTINUED) Gross research and development expenses and the related grants are as follows:
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- (IN THOUSANDS) Research and development expenses: Gross research and development expenses........ $13,135 $14,399 $13,787 Less: grants earned............................ (484) (851) -- ------- ------- ------- $12,651 $13,548 $13,787 ======= ======= =======
Royalty expenses related to these grants were $5,000, $196,000, and $301,000 in 1999, 1998 and 1997, respectively. NOTE 5--DEVELOPMENT CONTRACTS: The Company has generated a portion of its total revenues from development contracts, primarily with key customers. These development contracts have provided the Company with partial funding for the development of certain of its products. The Company classifies costs related to these development contracts as research and development expenses. The Company is not obligated to repay funding regardless of the outcome of its development efforts; however, the agreements require the Company to use its best efforts to achieve specified results as per the agreements. The Company retains ownership of the intellectual property developed under the contracts; however, some contracts limit the product markets in which the Company may directly sell the developed product. Revenues generated under these contracts were $1,185,000, $2,960,000 and $1,752,000 in 1999, 1998 and 1997, respectively. NOTE 6--COMMITMENTS AND CONTINGENCIES: From time to time, the Company may have certain contingent liabilities that arise in the ordinary course of its business activities. The Company accrues contingent liabilities when it is probable that future expenditures will be made and such expenditures ca be reasonably estimated. In the opinion of management, there are no pending claims of which the outcome is expected to result in a material adverse effect in the financial position or results of operations of the Company. LEASE COMMITMENTS The Company rents facilities and equipment under various lease agreements expiring through 2004. Rent expense for 1999, 1998 and 1997 totaled approximately $1,010,000, $887,000 and $748,000 51 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 6--COMMITMENTS AND CONTINGENCIES: (CONTINUED) respectively. Future minimum lease payments required under noncancelable leases at December 31, 1999 are as follows:
YEAR ENDING DECEMBER 31, - ------------------------ 2000........................................................ $1,010,000 2001........................................................ 1,018,000 2002........................................................ 1,042,000 2003........................................................ 570,000 2004........................................................ 410,000 ---------- Total minimum lease payments................................ $4,050,000 ==========
NOTE 7--STOCKHOLDERS' EQUITY: COMMON STOCK In December 1995, the Company issued shares of Common Stock in conjunction with the Company's initial public offering ("IPO"). In January 1996, the underwriters exercised their over-allotment option to purchase additional shares of Common Stock. In December 1999, the Company issued 2,917,800 shares of Common Stock in conjunction with a follow-on public offering that also included underwriters' exercise of their over-allotment option. Gross proceeds from this offering were $119.6 million with underwriters' discount and offering expenses of $6.7 million. We expect to use the net proceeds of the 1999 offering for working capital and general corporate purposes, which may include the purchase of equipment and the expansion of facilities. We also may use a portion of the net proceeds to acquire or invest in businesses, technologies, products or services that are complementary to our business. From time to time we have discussed potential strategic acquisitions and investments with third parties. Pending our uses of the proceeds, the net proceeds have been invested primarily in short-term, investment-grade, interest-bearing instruments. WARRANTS In September 1997, in connection with a software license agreement, the Company issued a warrant to purchase 75,000 shares of its Common Stock at an exercise price of $24.31 per share. The warrant is exercisable for a period of four years from a date beginning one year after the issuance date of the warrant. The $717,000 estimated value of the warrant, is being amortized over the four-year period of the license agreement. The unamortized balance at December 31, 1999 of $297,000 is included in prepaid expenses and other current assets. STOCK OPTION PLANS 1993 STOCK OPTION PLAN The Company's 1993 Stock Option Plan (the "1993 Option Plan") was adopted by the Board of Directors of the Company and approved by the stockholders of the Company in July 1993. A total of 2,940,000 shares of Common Stock have been reserved for issuance under the 1993 Option Plan. The 1993 Option Plan provides for grants of options to employees, non-employee directors and consultants. The 1993 Option Plan is currently being administered by the Compensation Committee of the Board of 52 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 7--STOCKHOLDERS' EQUITY: (CONTINUED) Directors of the Company, which determines the optionees and the terms of the options granted, including the exercise price, number of shares subject to the option plan and the exercisability thereof. The option price for shares granted under the 1993 Option Plan is typically equal to the fair market value of the common stock at the date of grant. The 1993 Option Plan will terminate in July 2003, unless terminated sooner by the Board of Directors. Generally, options granted under the 1993 Option Plan are fully exercisable on and after the date of grant, subject to the Company's right to repurchase from an optionee, at the optionee's original per share exercise price, any unvested shares which the optionee has purchased and holds in the event of the termination of the Optionee's employment, with or without cause. The Company's right lapses as shares subject to the option become vested. Such shares generally vest in monthly installments over two or four years following the date of grant (as determined by the Compensation Committee of the Board of Directors), subject to the optionee's continuous service. Options expire ten years from the date of grant and an option shall generally terminate three months after termination of employment. In August 1998, substantially all options with an exercise price in excess of $5.94 were cancelled and replaced with new options having an exercise price of $5.94, the market price on the date that the employees accepted the repricing. A total of 924,164 shares were repriced. At December 31, 1999, shares available for grant under this plan were 133,000. 1995 OUTSIDE DIRECTORS STOCK OPTION PLAN The Company's Outside Directors Stock Option Plan (the "Directors Plan") was adopted by the Company's Board of Directors in October 1995, and was approved by its stockholders in December 1995. A total of 200,000 shares of Common Stock have been reserved for issuance under the Directors Plan. The Directors Plan provides for the grant of nonstatutory stock options to nonemployee directors of the Company. The Directors Plan provides that each new nonemployee director will automatically be granted an option to purchase 20,000 shares on the date the optionee first becomes a nonemployee director (the "Initial Grant"). Thereafter, on the date immediately following each annual stockholders' meeting, each nonemployee director who is reelected at the meeting to an additional term shall be granted an additional option to purchase 4,800 shares of Common Stock if, on such date, he or she shall have served on the Company's Board of Directors for at least six months (the "Annual Grant"). The Initial Grant is exercisable in four equal annual installments, and each Annual Grant shall become exercisable in full one year after the date of grant, subject to the director's continuous service. The exercise price of all stock options granted under the Directors Plan is equal to the fair market value of the Company's Common Stock on the date of grant. Options granted under the Directors Plan have a term of ten years. At December 31, 1999 shares available for future issuance under this plan was 35,000. 53 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 7--STOCKHOLDERS' EQUITY: (CONTINUED) The following table summarizes the Company's stock option activity for the years ended December 31, 1999, 1998 and 1997. The weighted average exercise price for each category presented is also shown in the table below:
YEAR ENDED DECEMBER 31, ------------------------------------------------------------------- 1999 1998 1997 -------------------- --------------------- -------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE EXERCISE SHARES PRICE SHARES PRICE SHARES PRICE --------- -------- ---------- -------- --------- -------- Outstanding at beginning of period......................... 2,226,265 $ 5.11 2,053,171 $ 8.62 2,164,208 $ 2.30 Granted.......................... 698,803 20.49 1,665,491 7.23 771,890 18.86 Exercised........................ (700,854) 2.87 (329,963) 0.56 (727,882) 0.39 Canceled......................... (291,658) 6.43 (1,162,434) 15.64 (155,045) 10.01 --------- ---------- --------- Options outstanding at period end............................ 1,932,556 11.22 2,226,265 5.11 2,053,171 8.62 ========= ========== ========= Options exercisable at period end............................ 1,926,549 =========
Significant option groups outstanding as of December 31, 1999 and the related weighted average exercise price and contractual life information, are as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE -------------------- -------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE EXERCISE EXERCISE CONTRACTUAL EXERCISE PRICE NUMBER PRICE NUMBER PRICE LIFE (YEARS) - -------------- --------- -------- --------- -------- ------------ $ 0.13 - $ 0.60 199,778 $ 0.15 199,778 $ 0.15 4.8 $ 1.57 - $ 4.69 25,542 4.49 19,535 4.43 6.5 $ 5.94 - $ 5.94 854,726 5.94 854,726 5.94 7.6 $ 8.50 - $20.38 653,110 17.66 653,110 17.66 8.9 $21.00 - $45.00 199,400 24.72 199,400 24.72 9.3 --------- --------- 1,932,556 11.22 1,926,549 11.24 7.9 ========= =========
The weighted average grant date fair value of options granted during the years ended December 31, 1999, 1998 and 1997 as defined by SFAS 123, were $17.05, $3.41 and $9.19 per share, respectively. 1995 EMPLOYEE STOCK PURCHASE PLAN The Company's 1995 Employee Stock Purchase Plan ("ESPP") was adopted by the Company's Board of Directors in October 1995, and approved by its stockholders in December 1995. The ESPP enables employees to purchase shares through payroll deductions at approximately 85% of the lesser of the fair value of Common Stock at the beginning of a 24-month offering period or the end of each six-month segment within such offering period. The ESPP is intended to qualify as an "employee stock purchase plan" under Section 423 of the U.S. Internal Revenue Code. During the years ended December 31, 1999 and 1998, 87,222 and 84,354 shares were purchased by employees under the terms 54 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 7--STOCKHOLDERS' EQUITY: (CONTINUED) of the plan agreements at a weighted average price of $8.73 and $9.57 per share, respectively. At December 31, 1999, 161,558 shares were reserved and available for issuance under this plan. The weighted average grant date fair value of rights granted during the year ended December 31, 1999, 1998 and 1997 as defined by SFAS 123, was $3.91, $3.55 and $3.64 per share, respectively. FAIR VALUE DISCLOSURES Had compensation cost for the Company's option and stock purchase plans been determined based on the fair value at the grant dates, as prescribed in FAS 123, the Company's net income (loss) and net income (loss) per share for each of the three years ended December 31, 1999 would have been as follows (in thousands, except per share data):
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- Net income (loss) As reported..................................... $ 6,659 $ 929 $4,229 Pro forma....................................... $ 1,212 $(4,144) $ 547 Net income (loss) per share: As reported Basic......................................... $ 0.61 $ 0.09 $ 0.45 Diluted....................................... $ 0.54 $ 0.08 $ 0.38 Pro forma Basic......................................... $ 0.11 $ (0.41) $ 0.06 Diluted....................................... $ 0.10 $ (0.41) $ 0.05
The fair value of each option grant is estimated on the date of grant using the Black Scholes model with the following assumptions used for options and purchase grants during the applicable period.
YEAR ENDED DECEMBER 31, ------------------------------------------ 1999 1997 1997 ------------ ------------ ------------ Dividend rate.................... 0.0% 0.0% 0.0% Risk-free interest rates......... 4.6% to 6.2% 4.2% to 5.6% 5.1% to 6.3% Volatility....................... 93.0% 61.0% 67.0% Expected life Option plans................... 5 years 5 years 5 years Purchase plan.................. 0.5 years 0.5 years 0.5 years
The pro forma amounts reflect compensation expense related to stock options and purchase rights granted during the years ended December 31, 1999, 1998 and 1997. 55 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 8--EARNINGS PER SHARE: A reconciliation of the numerators and the denominators of the basic and diluted per share computation are as follows (in thousands):
1999 1998 1997 ---------------------------------- ---------------------------------- ---------------------------------- PER PER PER INCOME SHARES SHARE INCOME SHARES SHARE INCOME SHARES SHARE (NUMERATOR) (DENOMINATOR) AMOUNT (NUMERATOR) (DENOMINATOR) AMOUNT (NUMERATOR) (DENOMINATOR) AMOUNT ----------- ------------- ------ ----------- ------------- ------ ----------- ------------- ------ Basic EPS: Net income........ $6,659 10,844 $0.61 $929 10,042 $0.09 $4,229 9,412 $0.45 ===== ===== ===== Effects of Dilutive Securities: Stock Options..... -- 1,405 -- 1,064 -- 1,539 Warrants.......... -- -- -- 13 -- 121 Diluted EPS: ------ ------ ---- ------ ------ ------ Net income........ $6,659 12,249 $0.54 $929 11,119 $0.08 $4,229 11,072 $0.38 ====== ====== ===== ==== ====== ===== ====== ====== =====
NOTE 9--INCOME TAXES: The components of income before income taxes are as follows:
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- (In thousands) U.S................................................. $2,156 $ 475 $1,925 Foreign............................................. 5,678 686 3,232 ------ ------ ------ $7,834 $1,161 $5,157 ====== ====== ======
The components of the provision for income taxes are as follows:
YEAR ENDED DECEMBER 31, ------------------------------------ 1999 1998 1997 -------- -------- -------- (In thousands) Current: U.S................................................ $ 50 $106 $360 State.............................................. 454 26 98 Foreign............................................ 671 100 470 ------ ---- ---- Total current.................................... 1,175 232 928 Deferred........................................... -- -- -- ------ ---- ---- Total........................................ $1,175 $232 $928 ====== ==== ====
The tax provision differs from the amounts obtained by applying the statutory U.S. Federal Income Tax Rate to income taxes as shown below. 56 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 9--INCOME TAXES: (CONTINUED) TAX PROVISION DIFFERENCE
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- (In thousands) Tax at U.S. statutory rate.......................... $ 2,663 $ 395 $1,753 Utilization of net operating loss carryovers........ (856) (35) (856) Foreign Earnings.................................... (1,612) (156) (213) State taxes net of federal benefit.................. 302 -- 65 Other differences not benefited..................... 513 -- -- Permanent differences............................... 85 -- -- Alternative minimum tax............................. 50 -- 50 Other............................................... 30 28 129 ------- ----- ------ $ 1,175 $ 232 $ 928 ======= ===== ======
Deferred income tax assets comprise the following:
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- (In thousands) Federal and state net operating loss carryforwards................................ $ 16,417 $ 12,279 $ 12,286 Capitalized research and development expenses..................................... 497 372 216 Nondeductible reserves and accruals............ 1,653 951 886 -------- -------- -------- Total deferred tax assets...................... 18,567 13,602 13,388 Deferred tax liabilities....................... -- -- -- -------- -------- -------- Net deferred tax assets........................ 18,567 13,602 13,388 Valuation allowance............................ (18,567) (13,602) (13,388) -------- -------- -------- $ -- $ -- $ -- ======== ======== ========
As of December 31, 1999, the Company has NOLs of approximately $48 million for federal tax reporting purposes. The federal NOLs expire on various dates between 2000 and 2009. Management has recorded a full valuation allowance against all U.S. deferred tax assets on the basis that significant uncertainty exists regarding the realizability of the assets. Pursuant to the Tax Reform Act of 1986, the amounts of and the benefit from NOLs that can be carried forward may be impaired or limited in certain circumstances, including a cumulative stock ownership change of more than 50% over a three-year period. The Company's IPO resulted in a cumulative change of ownership of greater than 50%. Accordingly, the Company's NOLs incurred prior to the completion of the IPO that can be utilized to reduce future taxable income for federal tax purposes will be limited to approximately $3.0 million per year. The Company's Israeli subsidiary has been granted the status of an "Approved Enterprise" pursuant to the Israeli law for the Encouragement of Capital Investments, 1959, as amended. The Company has four approved programs pursuant to this law. The first program was approved in 1984. 57 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 9--INCOME TAXES: (CONTINUED) Income subject to this program is taxed at an annual rate of 10% from the first year in which the enterprise generates taxable income (net of NOLs). Benefits under the first program expired in 1997. The second program was approved in 1991. Income subject to this program is exempt from tax for two years from the first year in which the Company has taxable income (net of NOLs) and is taxed at a rate of 10% thereafter. Benefits under the second program expire in 2003. The third program was approved in 1995. Income subject to this program is exempt from tax for four years from the first year in which the Company has taxable income (net of NOLs) and is taxed at a rate of 10% during the remaining period of six years. The fourth program was approved in 1997. Income subject to this program is exempt from tax for two years from the first year in which the Company has taxable income (net of NOLs) and is taxed at a rate of 10% during the remaining period of eight years. Benefits under the third and the fourth program are limited to fourteen years from approval or twelve years from commencement of production. The net impact of the tax holidays was an increase in net income of $1.6 million in fiscal 1999 and an increase in net income per share of $0.13. NOTE 10--SEGMENT REPORTING: The Company operates in one industry segment comprising the design, development, manufacture and sale of integrated circuits. The following is a summary of the Company's operations: Sales to customers located in:
YEAR ENDED DECEMBER 31, ------------------------------ 1999 1998 1997 -------- -------- -------- (In thousands) United States.................................... $12,671 $17,935 $25,480 Pacific Rim...................................... 41,870 15,850 9,825 Europe........................................... 7,133 10,440 9,622 ------- ------- ------- $61,674 $44,225 $44,927 ======= ======= =======
DECEMBER 31, ------------------- 1999 1998 -------- -------- (In thousands) Identifiable assets: U.S.................................................... $157,374 $38,509 Israel................................................. 25,094 10,661 -------- ------- Total................................................ $182,468 $49,170 ======== =======
58 ZORAN CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 10--SEGMENT REPORTING: (CONTINUED) Significant customers are as follows:
YEAR ENDED DECEMBER 31, ------------------------------------ 1999 1998 1998 -------- -------- -------- Customers comprising 10% or more of the Company's total revenues for the period indicated: A................................................... 37% 23% -- B................................................... -- -- 15% C................................................... -- 14% 15% D................................................... -- -- 15%
NOTE 11--SALE OF CERTAIN ASSETS: In June 1999, the Company sold to MGI Software of Canada the intellectual property related to its SoftDVD product line and transferred to MGI certain related software development and support resources in exchange for cash, MGI common stock and future royalties. The Company's results for the second quarter of 1999 include a $732,000 gain realized from this transaction which is reported as part of interest and other income or expense. In connection with this transaction, the Company also recorded a charge that reduced software, licensing and development revenue for the quarter by $517,000 for possible issues related to receivables associated with the SoftDVD product line. The net impact of the MGI transaction on the Company's results was an after-tax gain of $172,000, or $0.01 per share on a diluted basis. This gain does not reflect the potential future economic benefit that may be derived from this transaction and realized in future periods in the form of royalties. The Company does not currently expect, however, that these royalties will have a material impact on quarterly revenues for the foreseeable future. In addition, the shares of MGI stock received by the Company as part of this transaction are subject to future appreciation or depreciation. The Company believes that its software revenues will decline significantly as a result of the sale of the SoftDVD product line. NOTE 12--RELATED-PARTY TRANSACTIONS: In January 1996, the Company spun off its wholly-owned subsidiary, Oren Semiconductor, to the Company's stockholders. Two of the Company's directors are also members of Oren's board of directors. The Company has no ownership interest in Oren. In March 1999, the Company entered into a technology license agreement with Oren. Under the license arrangement Oren agreed to pay to the Company license and maintenance fees totalling $400,000 and royalties and maintenance fees based on related products sold by Oren. License fees of approximately $360,000 were recognized in the first quarter of 1999. In April 1999, the company loaned Oren $350,000. The loan plus interest, computed at 7% per year, was repaid by Oren in July 1999. The Company has no commitments or plans to loan additional amounts to Oren. 59 ZORAN CORPORATION SELECTED QUARTERLY FINANCIAL INFORMATION (UNAUDITED)
QUARTERS ENDED --------------------------------------------------------------------------------------- DEC 31, SEPT 30, JUNE 30, MARCH 31, DEC 31, SEPT 30, JUNE 30, MARCH 31, 1999 1999 1999 1999 1998 1998 1998 1998 -------- -------- -------- --------- -------- -------- -------- --------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Revenues: Product sales......................... $18,159 $14,519 $10,927 $ 9,282 $11,235 $ 8,986 $ 4,610 $ 8,634 Software, licensing and development... 1,896 1,577 2,704 2,610 2,901 2,860 2,465 2,534 ------- ------- ------- ------- ------- ------- ------- ------- Total revenues.................... 20,055 16,096 13,631 11,892 14,136 11,846 7,075 11,168 ------- ------- ------- ------- ------- ------- ------- ------- Cost and expenses: Cost of product sales................. 10,026 7,720 5,684 5,093 6,286 5,153 2,940 4,657 Research and development.............. 2,706 2,430 3,991 3,524 3,894 3,476 2,944 3,234 Selling, general and administrative... 4,019 3,683 3,302 3,247 3,240 2,877 2,686 2,748 ------- ------- ------- ------- ------- ------- ------- ------- Total costs and expenses.......... 16,751 13,833 12,977 11,864 13,420 11,506 8,570 10,639 ------- ------- ------- ------- ------- ------- ------- ------- Operating income (loss)................. 3,304 2,263 654 28 716 340 (1,495) 529 Interest and other income (expense), net................................... 359 249 878 99 375 176 275 245 ------- ------- ------- ------- ------- ------- ------- ------- Income (loss) before taxes.............. 3,663 2,512 1,532 127 1,091 516 (1,220) 774 Provision (benefit) for income taxes.... 342 502 306 25 218 103 (244) 155 ------- ------- ------- ------- ------- ------- ------- ------- Net income (loss)....................... $ 3,321 $ 2,010 $ 1,226 $ 102 $ 873 $ 413 $ (976) $ 619 ======= ======= ======= ======= ======= ======= ======= ======= Net income (loss) per share: Basic................................. $ 0.29 $ 0.19 $ 0.12 $ 0.01 $ 0.09 $ 0.04 $ (0.10) $ 0.06 ======= ======= ======= ======= ======= ======= ======= ======= Diluted............................... $ 0.26 $ 0.17 $ 0.10 $ 0.01 $ 0.08 $ 0.04 $ (0.10) $ 0.06 ======= ======= ======= ======= ======= ======= ======= ======= Shares used to compute basic net income (loss) per share...................... 11,404 10,681 10,436 10,278 10,154 10,064 9,975 9,856 ======= ======= ======= ======= ======= ======= ======= ======= Shares used to compute diluted net income (loss) per share............... 12,853 12,083 11,673 11,776 11,469 10,941 9,975 10,952 ======= ======= ======= ======= ======= ======= ======= =======
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Not applicable. 60 PART III Certain information required by Part III is omitted from this report in that the Company intends to file its definitive proxy statement pursuant to Regulation 14A (the "Proxy Statement") not later than 120 days after the end of the fiscal year covered by this report and certain information therein is incorporated herein by reference. ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. The information required by this Item is incorporated by reference to information set forth in the Proxy Statement under the heading "Proposal No. 1--Election of Directors" and in Part I of this Report under the heading "Executive Officers of the Registrant." The information required by this Item with respect to compliance with Section 16(a) of the Securities Exchange Act of 1934 is incorporated by reference to information set forth in the Proxy Statement under the heading "Section 16(a) Beneficial Ownership Reporting Compliance." ITEM 11. EXECUTIVE COMPENSATION. The information required by this Item is incorporated by reference to information set forth in the Proxy Statement under the heading "Executive Compensation." ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. The information required by this Item is incorporated by reference to information set forth in the Proxy Statement under the heading "Principal Stockholders and Share Ownership by Management." ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. The information required by this Item is incorporated by reference to information set forth in the Proxy Statement under the heading "Certain Transactions." PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K. (a) The following documents are filed as a part of this report: (1) Financial Statements: See Index to Consolidated Financial Statements at page 39 of this report. (2) Financial Statement Schedules: All financial statement schedules are omitted because they are not applicable or not required, or because the required information is included in the Consolidated Financial Statements and Notes thereto which are included herein. (3) Exhibits: The exhibits listed on the accompanying Exhibit Index are filed as part of, or are incorporated by reference into, this report. (b) Reports on Form 8-K during the quarter ended December 31, 1999: None 61 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. Dated: March 30, 2000 ZORAN CORPORATION By: /s/ LEVY GERZBERG ------------------------------------------ Levy Gerzberg, PRESIDENT AND CHIEF EXECUTIVE OFFICER
Pursuant to the requirements of the Security Exchange Act of 1934, this report has been signed by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE --------- ----- ---- /s/ LEVY GERZBERG President, Chief Executive -------------------------------------- Officer and Director March 30, 2000 Levy Gerzberg (Principal Executive Officer) Vice President, Finance and /s/ KARL SCHNEIDER Chief Financial Officer -------------------------------------- (Principal Financial and March 30, 2000 Karl Schneider Accounting Officer) /s/ UZIA GALIL -------------------------------------- Chairman of the Board of March 30, 2000 Uzia Galil Directors /s/ GEORGE T. HABER -------------------------------------- Director March 30, 2000 George T. Haber /s/ JAMES D. MEINDL -------------------------------------- Director March 30, 2000 James D. Meindl /s/ ARTHUR B. STABENOW -------------------------------------- Director March 30, 2000 Arthur B. Stabenow /s/ PHILIP M. YOUNG -------------------------------------- Director March 30, 2000 Philip M. Young
62 EXHIBIT INDEX
EXHIBIT NUMBER EXHIBIT TITLE - --------------------- ------------- 3.1(1) Form of Restated Certificate of Incorporation of the Registrant. 3.2(2) Amended Bylaws of the Registrant. 4.1(3) Amended and Restated Stock Rights Agreement dated July 30, 1993 among the Registrant and certain of its stockholders, as amended. *10.1(3) 1993 Stock Option Plan, as amended. *10.2(3) 1995 Outside Directors Stock Option Plan. *10.3(4) Amended and Restated 1995 Employee Stock Purchase Plan. *10.4(3) Form of Indemnity Agreement for officers and directors. +10.5(3) Agreement dated June 28, 1991 between the Registrant and Fujifilm Microdevices Co., Ltd. ("Fujifilm"), as amended. +10.6(3) Agreement dated July 27, 1992 between the Registrant and Fujifilm. 10.7(3) Letter Agreement dated December 16, 1991 between the Registrant and Dolby Laboratories Licensing Corporation, as amended. 10.11(3) Lease Agreement dated October 1, 1992 between the Registrant's subsidiary, Zoran Microelectronics Ltd. ("ZML"), and Matam-Haifa Scientific Industries Center Ltd. ("Matam") +10.12(3) License Agreement for ZR33891 Digital Filter Processor dated June 8, 1995 between the Registrant and Atmel Corporation ("Atmel"). +10.13(3) License Agreement for ZR34325 Vector Signal Processor dated June 8, 1995 between the Registrant and Atmel. +10.14(3) Cooperation and Project Funding Agreement dated June 16, 1991 between ZML and the Israel-United States Binational Industrial Research and Development Foundation ("BIRDF"). +10.15(3) Cooperation and Project Funding Agreement dated June 9, 1992 between ZML and BIRDF. 10.16(3) Note of Approval No. 17391 dated September 5, 1994 issued to ZML by the Office of Chief Scientist, Head of the Industrial Research and Development Administration of the Israeli Ministry of Industry and Trade (the "Chief Scientist"), together with ZML's Letter of Undertaking dated September 4, 1994. 10.17(3) Note of Approval No. 17337 dated September 5, 1994 issued to ZML by the Chief Scientist, together with ZML's Letter of Undertaking dated September 4, 1994. 10.18(3) Loan Agreements dated July 25, 1995, August 1, 1995, August 15, 1995, August 31, 1995 and November 1, 1995 between ZML and the Israel Discount Bank. 10.29(5) Summary of Discussion dated April 23, 1996 between ZML and Matam regarding Lease Agreement dated October 1, 1992 between ZML and Matam. 10.30(6) Memorandum of Understanding Dated April 23, 1996 between ZML and IBM Israel Ltd. regarding Lease Agreement dated October 1, 1992 between ZML and Matam. 10.33(7) Sub-Sublease dated April 1, 1997 between the Registrant and Integrated Silicon Solutions, Inc.
63
EXHIBIT NUMBER EXHIBIT TITLE - --------------------- ------------- *10.34(8) Confidential Separation Agreement dated August 4, 1997 between the Registrant and George T. Haber. 10.35(9) Agreement for Purchase and Sale of Assets between the Registrant and MGI Software Corp. dated June 15, 1999 10.36 Unprotected Tenancy Agreement dated September 16, 1997 between ZML and Matam together with Appendix Addendum to Unprotected Tenancy Agreement of 16.9.97. 21.1 List of subsidiaries of the Registrant. 23.1 Consent of PricewaterhouseCoopers LLP. 27 Financial Data Schedule.
- ------------------------ * Constitutes a management contact or compensatory plan required to be filed pursuant to Item 14(c) of Form 10-K. + Confidential treatment has been granted as to a portion of this Exhibit. (1) Incorporated by reference to Exhibit 3.2 to Registrant's Form SB-2 Registration Statement (No. 33-98630-LA), which became effective on December 14, 1995 (the "1995 Registration Statement"). (2) Incorporated by reference to Exhibit 3.3 to Registrant's Form 10-Q Quarterly Report for the quarter ended September 30, 1998. (3) Incorporated by reference to identically numbered exhibit to the 1995 Registration Statement. (4) Incorporated by reference to identically numbered exhibit to Registrant's Form 10-K Annual Report for the year ended December 31, 1995. (5) Incorporated by reference to Exhibit 10.1 to the Registrant's Form 10-Q Quarterly Report for the quarter ended June 30, 1996 (the "June 1996 Form 10-Q"). (6) Incorporated by reference to Exhibit 10.2 to the June 1996 Form 10-Q. (7) Incorporated by reference to identically numbered exhibit to Registrant's Form 10-Q Quarterly Report for the quarter ended March 31, 1997. (8) Incorporated by reference to Exhibit 10.34 to Registrant's Form 10-K Annual Report for the year ended December 31, 1997. (9) Incorporated by reference to identically numbered exhibit to Registrant's Form 10-Q Quarterly Report for the quarter ended June 30, 1999. 64 EX-10.36 2 EXHIBIT 10.36 REF: F:/ZORAN/TENANCY APP./SM/29/11/99 [TRANSLATED FROM THE HEBREW] APPENDIX ADDENDUM TO UNPROTECTED TENANCY AGREEMENT OF 16.9.97 Made and signed on the ___ day of __________ 1999 BETWEEN: MATAM - HAIFA INFORMATION INDUSTRIES CENTRE LTD PC 51-068740-3 (hereinafter referred to as "the Company") OF THE ONE PART AND: ZORAN MICROELECTRONICS LTD PC 51-094944-9 (hereinafter referred to as "the Tenant") OF THE OTHER PART WHEREAS in accordance with the unprotected tenancy agreement executed on 16th September 1997 (together with the appendices thereto), the Tenant is renting from the Company an area on the fifth floor and an area on the ground floor in a building known as building 30 (hereinafter referred to as "the building") in the Haifa Information Industries Centre (hereinafter referred to as "the agreement" and "the premises" respectively), all as provided in the agreement and the appendices thereto; AND WHEREAS the building contains an area which is located on the sixth floor as outlined in green on the drawing annexed hereto as appendix "A" and constituting an integral part hereof, including equipment which was installed therein by the Company (hereinafter referred to as "the additional area"); AND WHEREAS the Tenant wishes to rent the additional area from the Company in order that it be added to the area of the premises and to extend the tenancy term, for the consideration and on the terms and conditions set forth below; AND WHEREAS the Company agrees to the increase of the premises by the addition of the additional area and to the extension of the tenancy term, for the consideration and on the terms and conditions set forth below; ACCORDINGLY, IT IS PROVIDED, WARRANTED AND AGREED BETWEEN THE PARTIES AS FOLLOWS: 1. RECITALS AND APPENDICES The recitals and appendices hereto constitute an integral part hereof. 2. INCREASE OF THE PREMISES 2.1 The additional area shall be added from 1st February 2000, subject to the Company's obligation as provided in clause 3.1 below, to the area of the premises and all the parties' obligations pursuant to the agreement (as defined above), save for clause 5(a) (with regard to the tenancy term) shall apply mutatis mutandis to the area of the premises with the addition of the additional area (the premises and the additional area shall hereinafter jointly be referred to as the "increased premises"), including, and without derogating from the generality of the aforegoing, with regard to the Tenant's liability, increase in the contribution towards the dining room expenses and management and maintenance of the common areas, increase in the payments of taxes and levies, increase in the insurance cover and the like. Without derogating from the aforegoing, and for the avoidance of doubt, it is hereby expressed that in consequence of the addition of the additional area to the area of the premises, the number of designated parking bays that shall be placed at its disposal shall be increased relative to the increase in the area of the premises, that is to say, the Tenant shall be entitled to receive from the Company, during the tenancy term, a right to use a further nine designated parking bays on the same terms and conditions as laid down in the agreement. It is agreed that the tenancy term in respect of the increased premises shall come to an end on 31st May 2005 and not as provided in clause 5(a) of the agreement. 2.3 For the avoidance of doubt, it is hereby expressed that the area of the "additional area" (as defined above) for the purpose of computing the amount of the rent and the other payments for which the Tenant is liable pursuant to the agreement and this addendum, is the gross area of the "additional area", that is to say, 1,342 square metres, including the Tenant's proportional part of the common areas. The monthly rent which the Tenant shall pay in respect of the rental of the additional area shall be in a sum of US$12.74 for every square metre of the additional area for the purpose of payment of the rent together with due VAT and linkage as provided in clause 7(c)(1) of the agreement. The monthly rent in respect of the additional area shall be paid by the Tenant at the times and in the manner mentioned in clause 7 of the agreement. 3. ORGANISATION AND EXECUTION OF THE TENANT'S WORKS 3.1 The Company is granting the Tenant and Tenant is receiving from the Company a right to use the additional area two months prior to the date of delivering possession of the additional area, that is to say, for a period from 1st December 1999 until 1st February 2000 (hereinafter referred to as "the organisation period"). In the organisation period the Tenant's status in the additional area shall be that of borrower pursuant to the Hire and Loan Law, 5731-1971; however, subject to the Tenant's performance of all its obligations pursuant to the agreement and this addendum, the Company may not cancel its obligation to grant the organisation period. The Tenant acknowledges that the user right granted to it in the organisation period is limited solely to the execution of the Tenant's works in the additional area for the purpose of adapting it to its requirements and that in the organisation period it may not make any other use of the additional area. In the organisation period all the provisions of the agreement, save for the obligation to pay rent, shall apply to the Tenant in relation to the additional area, mutatis mutandis. 3.2 It is hereby agreed that in the organisation period the Tenant shall execute, at its expense and liability, the Tenant's works specified in appendix "C" hereto in accordance with detailed plans that shall be prepared by the Tenant pursuant to the aforementioned appendix and which shall be submitted for the Company's prior written approval. The Company shall approve and/or respond to the aforementioned detailed plans within seven days of receiving them. The Company warrants that it shall not object to the plans on unreasonable grounds. Once the Company has approved the detailed plans, the Tenant may commence executing the Tenant's works. The Company shall participate in financing the cost of executing the Tenant's works specified in appendix "C" pursuant to the plans approved by it as provided above (hereinafter referred to as "the finishing works"), which shall be executed by the Tenant, in an amount not exceeding a sum in NIS equal to US$200 (two hundred US dollars) for every square metre of the additional area gross (as specified above in sub-clause 2.3), in accordance with the representative rate of the US dollar last known on the date of the parties' execution hereof together with VAT and linkage to the building inputs index from the index last known on the date of the parties' execution hereof until the index last known on the date of effecting any payment of the contribution. The contribution towards financing the cost of executing the Tenant's works shall be paid to the Tenant on the terms and conditions and at the times specified below in sub-clause 3.3. 3.3 The Company shall pay the aforementioned contribution in instalments (to the Tenant and/or to a third party on its behalf pursuant to its written instruction) in accordance with the actual progress of the Tenant's works, within 30 days of receiving any invoice (interim and/or final) approved by the Tenant attesting to the expenses incurred by the Tenant in the execution of the Tenant's works. No later than the end of 90 days from the end of the execution of the Tenant's works, the Tenant undertakes to send the Company a report certified by an auditor confirming that the expenses in respect of which the Company will be requested to pay a contribution to the Tenant were indeed incurred by it in the actual execution of the Tenant's works. 3.4 During the organisation period, the Tenant shall execute the Tenant's works using experienced and qualified tradesmen and professionals after receiving, in addition to the aforegoing, all the approvals required therefor, to the extent necessary, from the competent authorities and after furnishing an engineer's certificate that the Tenant's works are not such as to cause irreversible damage to the additional area. 3.5 In order to clarify matters, it is agreed and warranted by the parties that the Company's approval as mentioned above and below in this clause is not such as to impose on the Company, directly and/or indirectly, expressly or impliedly, any liability in relation to the quality of the Tenant's works and/or their compliance with the conditions of the permit, the Israeli standard and/or the manner of their execution and full liability in respect thereof shall be borne by the Tenant and the Tenant hereby waives any plea and/or claim vis-a-vis the Company in such regard. 3.6 The Tenant shall act to the best of its ability to minimise disturbances and/or nuisances to the occupants of the building as a result of the Tenant's works. 3.7 The Tenant may not store or leave materials and/or equipment and/or waste outside the additional area without the Company's prior written approval. 3.8 The Tenant may not execute other works in the additional area that are not the Tenant's works pursuant to the specifications (appendix "C"), save with the Company's prior written approval. The Company shall not refuse the Tenant's request to execute other works as aforesaid on unreasonable grounds. 3.9 The Tenant shall be liable for any damage or loss occasioned, if at all, directly or indirectly, in the course and/or in consequence of the execution of the Tenant's works to any person and/or property and/or the additional area and/or the Centre and/or their surroundings and/or contents. Without prejudice to the generality of the aforegoing, in such regard the approval of the specifications by the Company shall not impose any obligation or liability on it, [and] shall not constitute a waiver of any right of the Company, and the Tenant hereby exempts the Company from any liability in connection with approval of the specifications (appendix "C") and/or deriving from such approval. 3.10 The Tenant undertakes to repair any damage and/or loss occasioned in consequence of the execution of the Tenant's works to the additional area and/or the building and/or the Centre or their contents or to works executed on other premises or the common areas within a reasonable time in accordance with the type of the damage. If the Tenant does not act as aforesaid - the Company may, after giving the Tenant written notice, immediately effect the necessary repairs instead of the Tenant and at its expense, and the Tenant shall indemnify the Company immediately upon demand in respect of any expense borne by the Company in effecting the repair as aforesaid, together with handling fees at a rate of 20% (twenty percent). 3.11 Without derogating from the Tenant's liability as provided in clauses 3.9 and 3.10 above, the Tenant undertakes to insure the Tenant's works, at its expense, from the date of the organisation period's commencement until completion of the execution of the Tenant's works in the additional area or until the date of delivering possession of the additional area, whichever is the later. The Tenant undertakes to comply with all the insurance company's requirements, if any, in respect of the execution of the Tenant's works, including - but without derogating from the generality of the aforegoing - with regard to safety measures and facilities, the composition of materials and the like. The provisions of clause 12 of the agreement shall apply to the manner of issuing the aforementioned policy and the format thereof, mutatis mutandis. 3.12 It is expressly agreed that, subject to the performance of the Company's obligation as provided in sub-clause 3.1, the execution of the Tenant's work shall not be such as to postpone the date of delivering the additional area and that even if the Tenant does not complete the execution of the Tenant's works, for any reason, the Tenant shall be bound, from the date of delivering the additional area and throughout the tenancy term, by all its obligations in relation to the increased premises pursuant to the agreement and this addendum, including the obligation to pay rent. 3.13 In the event that the Tenant does not perform, in the organisation period, any of its obligations and/or does not make any of the payments which it owes pursuant to the terms and conditions of the agreement and this addendum in the organisation period, all or any of them, such shall constitute a fundamental breach of the agreement and this addendum and the Company may, subject to giving the Tenant written notice of the breach, and the breach is not rectified by the Tenant within 14 days of the notice's receipt, act in its exclusive discretion as follows: 3.13.1 Postpone the commencement of the tenancy Term in respect of the additional area until the performance of the Tenant's obligations and the making of all the payments which it owes; however, the Tenant shall be liable to perform all its obligations pursuant to the agreement and the addendum in full as though the additional area had been delivered to it on the date of commencement of the tenancy term in respect of the additional area specified in this addendum, all without derogating from any other relief to which the Company shall be entitled pursuant to the agreement and the addendum and/or at law. 3.13.2 Notify the Tenant of the addendum's termination, of the completion of the organisation period and evict it from the additional area immediately, without the need for any warning. It is agreed and warranted by the parties that if, notwithstanding the Company's eviction notice, the Tenant and/or anyone on its behalf remains in the additional area, such shall be by way of trespass, and it shall be estopped from doing any act against the Company and/or from making any plea against it, if the Company takes any steps in order to remove the Tenant from the additional area and regain full possession thereof. The Tenant shall not be entitled to any compensation and/or restitution in respect of expenses borne by it in the execution of the Tenant's works and/or any amount paid by it in the organisation period. 3.14 The provisions of this clause 3 with regard to the Tenant's obligations are in addition to and do not derogate from the Tenant's obligations pursuant to the agreement and the addendum and they shall not derogate from any other and/or further right and/or relief vested in the Company pursuant to the agreement and/or the addendum and/or at law. 4. EARLY VACATION OF THE BUILDING'S GROUND FLOOR 4.1 It is hereby agreed that in consequence of the delivery of the additional area to the Tenant, as provided above in clause 2, the Tenant may, during the tenancy term, vacate the ground floor area of a size of 304 square metres, which constitutes part of the increased premises (hereinafter referred to as "the ground floor area"), subject to the fulfilment of all the following cumulative conditions: 4.1.1 The Tenant shall give the Company at least 30 days' written notice of its intention to vacate the ground floor area. 4.1.2 In consideration for the Company's consent to curtail the tenancy term in respect of the ground floor, insofar as it relates to the ground floor alone, and as a condition therefor, the Tenant shall pay the Company a sum in NIS equivalent to four months' rent for the ground floor area for the purpose of paying rent (that is to say, the gross ground floor area, including the Tenant's proportional part, in connection with this area, of the common areas) together with due VAT. The aforementioned amount shall be paid to the Company by the Tenant from the date of the Tenant's notice as provided above in sub-clause 4.1.1 in four instalments at the times prescribed in the agreement (including this addendum) for payment of the rent in respect of the increased premises and the linkage conditions laid down in the agreement, including this addendum, shall apply in respect of the aforementioned payments. If the area of the premises is reduced as aforesaid, the provisions of clause 2 shall be amended accordingly. 5. COLLATERAL 5.1 To secure the performance of all the Tenant's obligations pursuant to the agreement, including this addendum, the Tenant is depositing with the Company (in addition to the collateral which it gave the Company pursuant to the agreement, which shall continue to remain in force until the end of the tenancy term in respect of the increased premises), at the time of the execution hereof and as a condition therefor, the following collateral: 5.1.1 A blank promissory note in a sum of US$ 40,000 (forty thousand US dollars) to the order of the Company, payable upon demand, signed by the Tenant (hereinafter referred to as "the note"), and all the provisions of clause 10(a) of the agreement shall apply in respect of the aforementioned note. 5.1.2 In addition, the Tenant shall give the Company written confirmation, to the Company's satisfaction, from the parent company Zoran Corporation confirming that it is familiar with the provisions of this agreement and that it agrees thereto and that the guarantee given by it in accordance with the provisions of clause 10(b) of the agreement shall apply to all the Tenant's obligations pursuant to the agreement, including this addendum, and that this addendum is not such as to howsoever derogate from the guarantee given by it. 6. THE THIRD FLOOR OF THE BUILDING It is agreed that if by 1st June 2000 Aurec vacates the third floor of the building, the Tenant shall have a right of first refusal to rent this area from the Company (in addition to the increased premises) for the balance of the tenancy term, as follows: 6.1 The Company shall approach the Tenant with an offer to rent the third floor of the building, stating the price, terms and conditions required which shall be identical to the terms and conditions offered to a third party. If the Tenant does not notify the Company in writing of its wish to exercise the said right of refusal on the terms and conditions specified in the offer, within 10 days of the Company's approach, the Company shall be entitled to offer the third floor of the building to any third party, at a price and on terms and conditions not better than those stated in the offer to the Tenant, and the Tenant does not and shall not have any pleas and/or claims and/or demands vis-a-vis the Company in such regard. 6.2 For the avoidance of doubt, it is hereby expressed that the Tenant's aforementioned right of refusal is for a limited term ending on 1st June 2000 and the Tenant hereby warrants that it does not and shall not have any pleas and/or claims and/or demands vis-a-vis the Company in such regard. 7. GENERAL It is expressly agreed that all the provisions of the agreement insofar as and to the extent not altered by this addendum shall remain in force without change and shall bind the parties for all intents and purposes. AS WITNESS THE HANDS OF THE PARTIES: (Signed and Stamped) (Signed and Stamped) - -------------------- -------------------- The Company The Tenant APPENDIX "C" - TECHNICAL SPECIFICATION A. Division into offices with single membrane plaster board [?] (width 10 cms with 2" rockwool insulation) of a height of up to 3 metres in a quantity of 440 metres in length. B. Doors, wooden 50% with top coat colour at the architect's election, 30 units. C. Carpet. Basic price per carpet: $ 15/sq.m. including panel and laying down the carpet. D. Demolition and removal works. E. Electricity and telephone: 60 power points + with a group of three outlets at each point. 60 telephone points. 60 computer points (preparation only). F. Sprinklers: adaptation of sprinkler location. G. Air conditioning: adaptation of location of Nachshon blower units. H. Fiber acoustic ceiling with 60/60 measurements including [?] recessed units on the entire floor. Ref. GLUSMAN/MATAM/SM/07/03/98 [TRANSLATED FROM THE HEBREW] AGREEMENT Made and signed in Haifa this _____ day of ____________________ 1997 BETWEEN: MATAM - SCIENCE INDUSTRIES CENTRE HAIFA LTD PC 51-068740-3 (hereinafter referred to as "the Company") OF THE ONE PART AND: ZORAN MICRO-ELECTRONICS LTD PC 51-094944-9 (hereinafter referred to as "the Tenant") OF THE OTHER PART WHEREAS the Company is the exclusive possessor of and owner of the rights in land situated in the Haifa Science Industries Centre (hereinafter referred to as "the Centre") which constitutes part of parcels 7 and 8 in block 10730 (hereinafter referred to as "the plot"); AND WHEREAS the Company has erected a building on the plot which is known as building 30 (hereinafter referred to as "the building"); AND WHEREAS the building's construction was completed after 20th August 1968 and the tenants' protection laws, including the Tenant's Protection Law (Consolidated Version), 1932-1972 does not apply to the premises; AND WHEREAS the Tenant warrants that it is an "approved enterprise" within the 1 meaning thereof in the law and that it wishes to rent the premises as defined below in order to establish its plant as defined below; AND WHEREAS the Company wishes to let to the Tenant and the Tenant wishes to rent from the Company on an unprotected tenancy an area in the building as specified in the technical specification and plans annexed hereto as appendices "A" and "B" respectively and constituting an integral part hereof; ACCORDINGLY, IT IS WARRANTED AND AGREED BETWEEN THE PARTIES AS FOLLOWS: 1. RECITALS AND APPENDICES (a) The recitals and appendices hereto constitute an integral part hereof. (b) The clause headings have been introduced for reading convenience only, they do not constitute a part of this agreement and should not be used for the purposes of interpretation. 2. INTERPRETATION Without derogating from the other definitions appearing herein, the following expressions shall be interpreted as follows: "THE BUILDING" - the building known as building 30 in which the premises are situated; "THE PREMISES" - an area of approx. 1,646 square metres comprising an area of approx. 1,342 square metres on the fifth floor of the building and an area of approx. 304 square metres on the ground floor of the building, all as marked in the colour red on the drawing annexed hereto as appendix "B/1" and constituting an integral part hereof. It is hereby expressed that the aforementioned area includes the Tenant's proportional part of the building's common area as marked with diagonal lines in the colour blue on the drawing appendix "B/1", and that this area is not included in the area in which the Tenant is being granted, during the tenancy term as defined below, a right of possession, but only a use right [sic]; 2 "THE TENANCY TERM" - the terms defined in clause 5 below, including a tenancy term that has been curtailed (if curtailed) as a result of any provision hereof and/or as a result of the provision of any law, and any additional tenancy term (if the tenancy term is extended); "THE PLANT" - the Tenant's business, which is the planning, development and manufacture of electronic components and products; "DELIVERY" - placing the premises at the Tenant's disposal for the purpose of commencing the tenancy term; "COMMON AREA" means as defined in the Land Law, 5729-1969, including the roof, the entrance area and its surroundings, the staircases and lobby elevators, the corridors, piping shafts, machine rooms and various conveniences, as marked in the colour blue on the drawing annexed hereto as appendix "B/2". 3. THE NATURE OF THE TRANSACTION The Company is hereby letting the premises to the Tenant and the Tenant is hereby renting the premises from the Company, for the consideration and on the terms and conditions specified hereinbelow. 4. THE CONSTRUCTION AND ACCEPTANCE OF THE PREMISES (a) The premises are being constructed in a size and form pursuant to the annexed technical specification and plans and the finish plan which shall be annexed hereto (appendices "A", "B", "C" and "C/1" hereto), and all on the terms and conditions and in the manner described herein. (b) The Tenant hereby confirms that the technical specification and plans of building no. 30 have been furnished to it and that they are suitable and appropriate for its needs and the object of the tenancy pursuant hereto. (c) Without prejudice to the provisions of sub-clauses (a) and (b) above, it is agreed and warranted between the parties that the interior finish works on the area of the premises situated on the fifth floor of the building were planned and executed by the Company in accordance with a principal plan which was submitted to the Company by Powerspectrum Technology Ltd and IBM Israel Science & Technology Ltd. The interior finish plan relating to the area of the premises situated on the fifth floor of the building is annexed hereto as appendix "C". 3 It is hereby agreed that the Tenant may, from 15th May 1996 and thenceforth, execute at its expense alterations and/or additions in the area of the premises situated on the fifth floor of the building, provided that it has received the Company's prior written approval for any addition and/or alteration as aforesaid. It is further agreed and warranted by the parties that the interior finish works on the area of the premises situated on the ground floor of the building shall be planned and executed by the Company in accordance with an interior finish plan that shall be submitted by the Tenant and approved by Powerspectrum Technology Ltd (hereinafter referred to as "PST"). It is hereby expressed that PST's approval of the aforementioned interior finish plan is one of the terms and conditions for obtaining the Company's approval of the interior finish plan. The interior finish plan approved by PST shall be submitted by the Tenant for the Company's approval within ten days of the execution hereof. The Company warrants that pursuant to an agreement executed between it and PST, it has been agreed that in the absence of a written response to the interior finish plan from PST within 14 days of the date on which it is conveyed to it, the plan shall be deemed to have been approved by PST. After its approval by the Company, the finish plan in respect of the area of the premises situated on the ground floor of the building shall be annexed hereto as appendix "C/1" and shall constitute an integral part hereof. The Company shall convey the approved finish plan to the Tenant together with an engineering appraisal of the cost of executing the final works pursuant to the finish plan, which shall be annexed hereto as appendix "C/2". If after the execution of the final works it emerges that there was a quantitative or qualitative deviation in comparison with the technical specification (appendix "A"), the Tenant shall pay the Company the actual cost of the deviation as provided in clause 7(e) below, provided that in the event of a deviation from the engineering appraisal of more than 5%, the Tenant's prior written approval of such deviation is obtained (in respect of the part exceeding a 5% deviation). For the avoidance of doubt, the Tenant's prior consent is not required for a deviation of up to 5% inclusive, and such shall be paid by the Tenant at the Company's request. 4 (d) (1) Prior to the delivery date, as defined in clause 5(a) below, of the area of the premises situated on the fifth floor of the building and the area of the premises situated on the ground floor of the building, as the case may be, an inspection of the premises shall be carried out by representatives of the Company and the Tenant who shall inspect the premises and confirm to the parties that they are ready for delivery in accordance with appendices "A", "B", "C" and "C/1". If repairs are necessary in order to adapt the premises to the aforegoing, and such repairs are not such as to prevent the Tenant from making reasonable use of the premises, the Company shall execute them within 60 days, without such derogating from any liability of the Tenant pursuant hereto. In the event that the aforementioned repairs prevent the possibility of reasonable use of the premises, the delivery date shall be postponed until execution of the repairs preventing reasonable use as aforesaid has been completed. (2) On the delivery date of the area of the premises situated on the fifth floor of the building and on the delivery date of the area of the premises situated on the ground floor of the building, as the case may be, representatives of the Company and the Tenant shall draw up delivery minutes which shall be annexed hereto as appendices "D/1" and "D/2" and constitute an integral part hereof. Signature of the minutes shall constitute the Tenant's confirmation that the Company has completed all its obligations in respect of the premises pursuant to appendices "A", "B", "C" and "C/1", and that it does not and shall not have any complaints in respect of the premises, save for complaints specified by the Tenant in the body of the minutes (hereinafter referred to as "the delivery minutes"). The abstention of either of the parties from participating in the drawing up of the minutes shall not constitute a cause for non-acceptance of the premises and/or any part thereof and/or for non-performance of the obligations of either of the parties pursuant hereto. (e) It is agreed and warranted that all the above provisions of this clause regarding delivery dates shall not apply in the case of force majeure, such as war, calamity, general strikes and lock-outs in Israel in the building industry, a closure of the territories - if and for so long as such a closure is recognised by the Government of Israel in its contracts with the Israeli Association of Contractors and Builders as force majeure, a natural disaster which cannot be anticipated, acts and/or instructions and/or orders and/or a postponement in respect of omissions on the part of competent 5 authorities and the like. It is hereby expressed that the duration of the postponement of the delivery date as a result of an incident of force majeure shall be equal to the period of time during which such incident actually prevents the Company from performing its obligations pursuant hereto. 5. DELIVERY OF POSSESSION OF THE PREMISES AND THE TENANCY TERM (a) The planned delivery date of the area of the premises situated on the fifth floor of the building is 31st May 1996; however, it is hereby expressed and the parties agree that the tenancy term for the area of the premises situated on the fifth floor of the building shall commence on the actual delivery date of the area, written notice whereof shall be sent to the Tenant seven days in advance (hereinafter referred to as "the delivery date of the area of the premises situated on the fifth floor") and shall end on 15th May 1999 or on the date of delivering alternative premises in a new building that shall be constructed in Matam, whichever is the later, but in any event no later than 15th May 2003 (hereinafter referred to as "the tenancy term for the area of the premises situated on the fifth floor"). The tenancy term for the area of the premises situated on the ground floor of the building shall commence within three months of receipt of the interior finish plans approved by the Company (as provided in clause 4(c) above) and shall terminate at the end of the tenancy term for the area of the premises situated on the fifth floor of the building. Written notice of the actual delivery date of the area of the premises situated on the ground floor of the building shall be sent to the Tenant seven days in advance (hereinafter referred to as "the delivery date of the area of the premises situated on the ground floor"). (b) Notwithstanding the provisions of sub-clause (a) above, it is hereby agreed between the parties that the Company may postpone the delivery date of the area of the premises situated on the fifth floor and/or the ground floor for a further 30 days, and such being on 30 days' prior notice to the Tenant. (c) Commencing from the delivery date of the area of the premises situated on the fifth floor of the building or the area of the premises situated on the ground floor of the building, as the case may be, the Tenant shall bear all the liabilities and obligations deriving herefrom, including its liability for any damage occasioned by an act of the Tenant or anyone acting on its behalf, and the tenancy term shall commence on the aforementioned date for all 6 intents and purposes, whether or not the Tenant appears on such date to accept possession of the premises. It is hereby expressed that the delivery date of the premises or any part thereof pursuant to this clause and the commencement of the tenancy term shall not be altered or affected by any postponement in the premises' actual delivery deriving from the execution of additions and alterations to the area of the premises situated on the fifth floor at the Tenant's request as provided in clause 4(c) above. 6. PARKING AREAS (a) The Tenant and/or its employees and/or invitees may randomly use, without payment, the parking places at the Centre, so long as and to the degree that such have not been and are not in future designated by the Company in its exclusive consideration for the sole use of any third party. (b) The provisions of sub-clause (a) above shall not be considered as imposing any obligation on the Company to make any parking places available to the Tenant and/or its employees and/or invitees in addition to the Tenant's parking places, and the Tenant shall not have any claims vis-a-vis the Company in the event that it is not possible for it to use any parking places over and beyond the Tenant's quota of parking places. (c) The Company undertakes to prepare one parking place in addition to the parking places presently existing at Matam for every 80 square metres of the premises. Of the parking places prepared as aforesaid, the Company shall allot the Tenant 10 designated parking places at a range of 150 metres from the building. The Company shall be entitled to alter the location of the aforementioned parking places and to allot the Tenant other parking places, on the same terms and conditions, in its discretion. 7. THE RENT (a) Without derogating from the provisions of clause 5 above regarding the premises' delivery date, it is hereby agreed that in consideration for the premises' rental the Tenant shall, commencing from 1st July 1996 and thenceforth, pay the Company monthly rent in respect of the premises in an amount in shekels equal to US$ 12.74 (twelve US dollars and seventy four cents) per each square metre of the premises (hereinafter referred to as "the rent"), together with due VAT. 7 Without derogating from the provisions hereof and for the clarification of matters, the parties hereby warrant that in accordance with the agreement executed between them regarding the rental of an area in the building known as building 8/1 in the Centre, the Tenant shall pay the Company rent and the other payments (as prescribed in the agreement executed between the parties regarding the premises in building 8/1) in respect of the premises in building 8/1, and such being until 30th June 1996 inclusive. (b) The rent vests with the Tenant with the right to make reasonable use of the Centre's existing infrastructure, including: roads, pavements, gardening, lighting, signposting, parking (subject to the provisions of clause 6 above), fences, sewerage lines and water lines. The Tenant's employees and all its successors and assigns shall be entitled to enter the area of the Centre and/or the premises without payment. (c) The rent shall be paid on the 1st of every month for the current month, against a due tax invoice which the Company shall furnish to the Tenant. The said rent shall be linked as follows: (1) until the end of the tenancy term, the monthly rent for the rental of the first 1,330 square metres of the area of the premises shall be linked to the representative rate of the dollar known on the date of payment, together with linkage to the CPI index; (2) the monthly rent for the balance of the area of the premises, i.e. 316 square metres, shall, for the duration of the tenancy term, be linked to the Consumer Price Index in Israel, with the base rate of exchange of the dollar being NIS 3.11 per US$ 1. (d) The index linkage shall be computed as follows: (1) If on any date on which the rent (or any part thereof) is actually paid it transpires that the new index (as defined below) on the date of effecting the said payment is different from the base index (as defined below), the Tenant shall effect the said payment to the Company with it being altered pro rata to the rate of the change in the new index vis-a-vis the base index, i.e. multiplied by the new index and divided by the base index. (2) "The base index" means the American CPI index for February 1996 as published on 15th March 1996 or the Consumer Price Index for February 1996 (131.7 points, as the case may be, in accordance with the provisions of sub-clauses (c)(1) and (c)(2). 8 (3) "The new index" means the American CPI index or the Consumer Price Index, as the case may be, last known at the time of actually effecting any payment of the rent or part thereof. (e) It is hereby agreed between the parties that: (1) in the period between 1st July 1996 and 31st December 1996 (i.e. a period of six calendar months), and in this period alone, the Tenant shall be given a discount on the rent prescribed in clause 7(a) in an amount of US$ 1.41 (one dollar and forty one cents) for each square metre of the premises. In addition to the discount mentioned in this sub-clause (e), the Tenant shall be given an additional monthly discount on the rent in an amount in shekels equal to US$ 7,500 (seven thousand five hundred US dollars) for each month, and such being in the period between 1st July 1996 and until the end of December 1996, and in this period alone. The value of the discount in shekels shall be computed pursuant to the representative rate of the dollar on the date of setting off the discount from the rent. The said discounts shall be given by setting off the amount of the discount from the rent which the Tenant is liable to pay the Company in respect of the period mentioned in this clause (e). (2) On 1st April 1997 the Tenant shall pay the Company a supplement to the monthly rent which it is liable to pay the Company in respect of April in an amount in shekels equal to US$ 19,000 (nineteen thousand US dollars) in accordance with the representative rate of the US dollar on the actual payment date. It is further hereby agreed that in the period between 1st January 1997 and 15th May 1999, the monthly rent which the Tenant is liable to pay the Company as prescribed in clause 7(a) above shall be raised by 63.95 cents for each square metre of the premises. (f) Any amount which the Tenant is liable to pay the Company pursuant hereto which the Tenant does not pay on time shall, commencing from the date prescribed for the payment thereof pursuant hereto and until its actual payment, bear interest at a rate equal to that customary at Bank Leumi Le-Israel Ltd in respect of unauthorised overdrafts. 9 (g) Payment of the rent and of any payment and/or obligation of the Tenant to the Company pursuant hereto shall be effected by cheque or by way of bank transfer to the Company's account, the details whereof are as follows: account no. 9666 at Bank Hapoalim, Hatishbi Branch (709). 8. PROVISION OF SERVICES (a) The Tenant's signature hereof shall constitute and be deemed its signature on the agreement between the Company and the Centre's tenants regarding the Centre's services company - Shatam Haifa Ltd (hereinafter referred to as "Shatam") also in respect of the premises the subject hereof. This clause shall also be deemed an agreement in favour of a third party. (b) In addition to the rent, the Tenant shall, commencing from the delivery date, pay Shatam, subject to the performance of Shatam's material obligations towards it by virtue of the agreement mentioned in sub-clause (a) above, its part of the payments as in force from time to time and applying to the Centre's tenants, including the participation fees towards the Centre's services charged by Shatam and/or any of its successors and assigns, as determined from time to time by the Company and at the times prescribed by it from time to time. (c) The Tenant warrants that the liability to provide the services at the Centre rests with the services company, i.e. Shatam, and/or any of its successors and assigns, and that the Company and/or the Haifa Economic Co. Ltd and/or Matam shall not bear any liability and the Tenant shall not have any complaint and/or claim against the Company in respect of any malfunction, disturbance, inconvenience, damage or expense occasioned to the Tenant as a result of the non-provision and/or in respect of the defective provision of the said services and/or any of them. (d) The Company warrants that a clause similar to this clause 8 exists in all the tenancy agreements executed between the Company and the companies renting areas in the Centre. 10 9. TAXES, LEVIES AND COMPULSORY PAYMENTS (a) In respect of the tenancy term, the Tenant shall bear and pay the business tax if existing in respect of the plant that shall be managed in the premises, and it shall pay and/or reimburse the Company, if the Company pays in its stead, save for property tax and/or taxes and/or levies and/or official fees obligation for the payment whereof is imposed on the owners of the land pursuant to law, all the other taxes, levies and compulsory payments whatsoever applicable and/or which shall be applicable to the plant and/or the premises in respect of the proportional part of the Centre and/or the Tenant (including the Tenant's parking places) and/or in connection therewith, including, but not only, the payment of rates, official fees and routine charges for sewerage, water, electricity, telephone and the like, and it shall furnish the Company with appropriate certificates in respect of the said payments immediately upon first being requested to do so or reimburse the Company as aforesaid the payments which the Company has paid in its stead within seven days of the request, against the Company furnishing payment references to the Tenant and provided that prior notice is sent to the Tenant of the Company's intention to effect payment/s as aforesaid in the Tenant's stead. (b) Value added tax and/or any other tax applicable to possessors in accordance with the law, as shall be from time to time, is not included in the rent, and it shall be borne and paid by the Tenant together with any payment in respect whereof it is applicable, against the production of an appropriate tax invoice. (c) For the avoidance of doubt, the Tenant hereby confirms that any depreciation deductions in respect of the building and/or the premises, as shall be from time to time, shall be to the credit of the Company alone, save for improvements in the premises effected by the Tenant and at its expense, the Tenant's equipment and the chattels belonging to it. (d) In addition to the rent and the other payments which the Tenant is liable to pay the Company as provided herein, the Tenant hereby undertakes to pay the Company the payments specified below: (1) An amount in shekels equal to US$ 30,000 (thirty thousand US dollars) was paid by the Tenant to the Company in two equal payments (i.e. an amount of US$ 15,000 in each payment), the first on 4th April 1996 and the other within 30 days of the delivery date of the premises situated on the fifth floor of the building (15th July 1996). 11 The aforementioned payment is in respect of the Tenant's share of the expenses of executing the finish works on the area of the premises, and it was paid against the production of an invoice. The amount which the Tenant paid the Company was computed pursuant to the representative rate of the dollar on the date of actually effecting each payment. (2) An amount in shekels equal to US$ 31,666 (thirty one thousand six hundred and sixty six US dollars) was paid by the Tenant to the Company by 23rd May 1996, and such being as the Tenant's participation towards the expenses of planning the area of the premises. The payment was effected against the production of receipts and/or invoices attesting to the aforementioned expenses. (e) On 4th June 1997 the Tenant gave the Company a deposit in an amount in shekels equal to US$ 49,000 (forty nine thousand US dollars) pursuant to the representative rate of the US dollar known on the date of giving the deposit (hereinafter referred to as "the deposit"). It is hereby expressly agreed that the Tenant may instruct the Company in writing to set off from the deposit monies payment of the rent supplement in an amount of US$ 19,000 (nineteen thousand US dollars) which the Tenant is liable to pay the Company on 1st April 1997 (as prescribed in clause 7(e)(2) above) as well as the monthly rent which the Tenant is liable to pay the Company commencing from 1st April 1998 and thenceforth. 10. COLLATERALS To secure the performance of all its obligations the subject hereof, the Tenant shall, upon the execution hereof, give the Company the following collaterals: (a) A promissory note in an amount of $ 40,000 (forty thousand US dollars) made out in blank to the order of the Company, payable upon demand, signed by the Company (hereinafter referred to as "the note"), guaranteed by the Tenant's parent company Zoran Corporation. The amount fixed in the note shall be linked to the index in the manner provided in clause 7(d) above and the following provisions shall apply in respect thereof: (1) the Company may present the note for payment, in whole or in part, for the purpose of performing any of the Tenant's obligations pursuant hereto, and such being after seven days' prior written warning; 12 (2) for the purpose of presenting the note, the Company may fill in and complete the missing details and/or add any detail necessary for the purpose of presenting them [sic] for payment; (3) the Tenant hereby warrants and confirms that it agrees to the note's presentation for payment as provided and that it shall not have any claim and/or complaint regarding the validity of the note and/or the manner of filling in the note's missing and/or additional details and/or in respect and/or in consequence of their [sic] presentation for payment; (4) if the note is presented for payment, in whole or in part, the Tenant undertakes to deposit with the Company, within seven days of its payment date, a new note in the amount paid up as aforesaid; (5) the Tenant undertakes to advise the note's guarantors of the provisions of this clause prior to their signing the note. If one of the note's guarantors becomes bankrupt and/or goes into receivership and/or is wound up, the Tenant shall furnish an alternative guarantor to the Company's satisfaction within seven days of the aforementioned incident; (6) if the tenancy comes to an end and the note has not been presented for payment, it shall be returned to the Tenant within 90 days, provided that it has complied with all its obligations pursuant hereto. (b) The guarantee of the parent company Zoran Corporation for the performance of all the Tenant's obligations pursuant hereto and for the indemnification of the Company in respect of any expenses and damages occasioned to it in consequence of a breach hereof by the Tenant in the form of wording acceptable to the Company and annexed as appendix "F/1" hereto, and such being immediately upon receipt of the Company's written request. (c) It is expressly agreed that the delivery of the aforementioned guarantees and/or note to the Company and/or their presentation for payment by the Company shall not prejudice the Company's right to collect from the Tenant in any other manner possible any debt and/or full compensation in respect of the damages occasioned to it in consequence of a breach of any of the Tenant's obligations pursuant hereto and/or grant the Tenant any right and/or deprive the Company of any additional or other remedy to 13 which it is entitled pursuant to any law and/or agreement. 11. LIABILITY (a) The Tenant alone shall be liable vis-a-vis Matam and/or any third party, as the case may be, for any injury, loss or damage to person or property (and without derogating from the generality of the aforegoing, including the property of the Tenant, its employees and guests) occurring or occasioned in the area of the premises and/or the Centre in consequence of an act and/or omission of the Tenant and/or anyone acting on its behalf and/or Matam and/or anyone acting on its behalf, and such liability shall not be borne by Matam, subject to the following provisions. For the avoidance of doubt, it is hereby expressed that the Tenant's liability as provided above in this clause, insofar as it relates to any act or omission of Matam and/or those acting on its behalf, is limited to an act or omission of Matam and/or those acting on its behalf in the premises (save for damage occasioned by Matam and/or those acting on its behalf maliciously) and shall be in accordance with that defined under the third party liability insurance policy as provided in clause 12(c)(3) below, with it being limited to an amount of up to one million US dollars per event and in total for the entire insurance term. (b) Notwithstanding the provisions of sub-clause (a) above, the Tenant alone shall be liable for any damage whatsoever that shall be occasioned: (1) to contents of the premises brought onto the premises by the Tenant and/or anyone acting on its behalf; (2) to the premises' structure, with the exception of those risks in connection with the premises' structure which may not be insured on the Israeli insurance market, save for reasonable wear and tear and save for damage in consequence of acts of terror and/or war. (c) If a third party claim is filed against Matam in respect of damage for which the Tenant is liable pursuant to this clause 11, the Tenant shall be liable to indemnify Matam, within seven days of the date on which the Company is requested to pay the said amount, in respect of any amount which Matam is held liable to pay a third party in consequence of a final court judgment, together with all Matam's expenses in respect of conducting the trial with the third party, and without prejudice to the generality of the aforegoing the principal, interest, linkage, advocates' professional fees, official fees, trial costs, VAT and any other expenses deriving from the claim. 14 Indemnity of the Company by the Tenant shall be conditional upon the Tenant being sent notice regarding the existence of the proceedings against the Company and upon the Tenant being given the opportunity to defend itself against the claims raised within the framework of the aforementioned proceedings. (d) The provisions of this clause 11 do not refer to damage occasioned as a result of a latent defect in the premises which could not be detected in inspections carried out by the Tenant and/or anyone acting on its behalf and/or on reasonable inspection. (e) The sub-clauses of this clause supplement and do not derogate from each other. (f) It is not the intention of this clause, with all its sub-clauses, to create rights in favour of any third party, save for Matam as defined in clause 12(n) below. 12. INSURANCE (a) Without derogating from the Tenant's obligations pursuant hereto and pursuant to law, prior to the date of commencement of the Tenant's business in the premises or prior to the date of placing any assets in the premises - whichever is the earlier - the Tenant undertakes to take out and maintain, at its expense and liability, so long as this agreement is in force, the insurances detailed below in this clause (which shall hereinafter be called "the premises' insurance") with a duly authorised insurance company. (1) Insurance of the premises' contents, the equipment serving the premises which the Tenant owns and/or for which it is responsible and which is situated outside the premises in the area of the plot, and any repair, alteration, improvement, renovation and addition to the premises effected and/or that shall be effected by the Tenant and/or for it, and any furniture, equipment, installations and inventories, against loss or damage in consequence of fire, smoke, lightning, explosion, earthquake, riots, strikes, malicious damage, flood, storm and tempest, damage by a vehicle, damage by an aircraft, water damages, electrical damages and break-in. (2) Insurance against loss of profits and consequential damage to the Tenant, in appropriate amounts and for an appropriate indemnity 15 period, as a result of loss or damage to the Tenant's property and/or the premises' contents and/or the premises' structure. It is hereby agreed that the Tenant may refrain from taking out loss of profits insurance as aforesaid, but in such case Matam shall not bear any liability, and the Tenant does and shall not have any complaint and/or demand and/or claim against it, as if the insurance had been taken out as aforesaid. The Tenant undertakes to procure that the policy mentioned in sub-clauses 12(a)(1) and (2) includes an express condition pursuant whereto the insurer waives any right of subrogation vis-a-vis Matam and all those acting on its behalf, vis-a-vis the other tenants and residents of the building (if there is a parallel condition in their policies of the insurer's waiver of any right of subrogation vis-a-vis the Tenant) and vis-a-vis all the successors and assigns of the parties mentioned above, save for damage occasioned with malicious intent. (3) Third party liability insurance with a limit of liability not less than an amount in shekels equal to US$ 1,000,000 (one million US dollars) per event. This insurance is not subject to any restriction regarding liability deriving from fire, explosion, panic, lifting, loading and unloading instruments, defective sanitary installations, poisoning, any harmful substance in food or beverage and any claims by the National Insurance Institute. The insurance shall be extended to indemnify Matam in respect of its liability for the Tenant's acts and/or omissions, and in respect of its liability in the area of the premises alone by virtue of its being the owner of the premises and the provider of services in respect thereof. (4) Employers' liability insurance in respect of the Tenant's liability vis-a-vis all those employed by it and on its behalf with the highest limits of liability customary on the Israeli insurance market at the time of taking out the insurance and/or on the date of its renewal. This insurance shall not include any restriction regarding contractors, sub-contractors and their employees, baits and poisons and regarding the employment of youth. The said insurance shall be extended to indemnify Matam in the event that it is deemed as the employer of the Tenant's employees or any of them. 16 (b) The Tenant undertakes to update the insurance amount in respect of the insurance taken out pursuant to clause 12(a)(1) above from time to time, so that it always reflects the full value of the property insured pursuant thereto. The Tenant undertakes to use the monies received from the insurance company pursuant to the insurance mentioned in clause 12(a)(1) above solely for the immediate restoration of the damages the subject of the said insurance. (c) The Tenant warrants that it shall not have any complaint and/or demand and/or claim against Matam for damage in respect whereof it is entitled to indemnity under the insurance taken out pursuant to clauses 12(a)(1) and 12(a)(2) above, and it hereby exempts Matam from any liability for such damage. (d) Without the need for any request by the Company, the Tenant undertakes, no later than the date of commencing the Tenant's business in the premises or prior to the date of placing any assets in the premises, whichever is the earlier, to furnish the Company with a certificate regarding the taking out of the premises' insurance in accordance with the form of wording in the "Certificate of the Premises' Insurances" (annexed hereto and marked as appendix "F"), duly signed by the insurer. The Tenant warrants that it is aware that the furnishing of the "Certificate of the Premises' Insurance" as aforesaid is a suspensory condition and condition precedent for the delivery of possession of the premises and/or the placing of any assets in the premises, and the Company shall be entitled to prevent the Tenant from commencing its business in the premises and/or from placing assets as aforesaid if the said certificate is not furnished prior thereto and at the time indicated above. (e) For the avoidance of doubt, it is expressed that the failure to furnish the insurance certificates on time as provided in clause 12(d) above shall not affect the Tenant's obligations pursuant hereto, including, and without prejudice to the generality of the aforegoing, any payment obligation applicable to the Tenant, and the Tenant undertakes to perform all its obligations pursuant hereto even if it is prevented from executing works and/or receiving possession of the premises and/or placing assets in the premises and/or commencing its business in the premises as a result of the failure to furnish the certificates on time. 17 (f) The Tenant undertakes to comply with the terms and conditions of the policies, to pay the insurance fees in full and on time, and to procure and ascertain that the premises' insurance policies are renewed from time to time as necessary and are valid for the duration of the tenancy term. (g) No later than 14 days prior to the end of the term of the premises' insurances, the Tenant undertakes to deposit a certificate with the Company of the taking out of insurance as provided in clause 12(f) above in respect of an extension of their validity [sic] for an additional year and within 30 days of the renewal of the insurance as aforesaid the Tenant shall deposit the original copies of the premises' insurances. The Tenant undertakes to redeposit a certificate of the taking out of the insurance, at the times fixed, each insurance year so long as this agreement is in force. (h) The Tenant warrants and undertakes that the Company's right to review and inspect the insurance certificates and to instruct alterations does not impose any liability and/or responsibility upon the Company and/or anyone acting on its behalf in respect of the nature and scope of the said insurance certificates and policies or in respect of their absence, and does not derogate from any obligation imposed upon the Tenant pursuant hereto. (i) The Tenant undertakes not to do and/or permit others to do any act or omission in the premises and/or the building which is likely to cause an explosion and/or conflagration and/or which might increase the insurance expenses for which Matam and/or the other tenants are liable in respect of the insurance of the building or the premises situated therein. (j) Without derogating from the Tenant's obligations pursuant hereto and pursuant to any law, Matam shall purchase and maintain, for the duration of the tenancy term, all or any of the insurance policies specified below, in its exclusive discretion: (1) employers' liability insurance - for the insurance of Matam's liability vis-a-vis its employees pursuant to the Civil Wrongs Ordinance (New Version), in respect of any bodily injury to an employee during and in consequence of his employment in the building and/or its surroundings; (2) third party liability insurance - for the insurance of Matam's and the Tenant's liability vis-a-vis any third party within the common areas, with limits of liability that shall not be less than US$ 1,000,000 (one million US dollars) per event and in total for the insurance term. 18 The policy shall include a "cross liability" clause. For the avoidance of doubt, the policy shall not insure the Tenant's liability in respect of bodily injury and/or damage to property in the premises and/or the rented areas and/or the areas designated for rental in the building; (3) property insurance - insurance of the building and any other property belonging to Matam in the area of the building and its surroundings, against loss or damage in consequence of the following risks: fire, explosion, earthquake, storm, tempest, flood, water damages, aircraft, collision, strikes, riots, malicious damage, break-in, glass breakage and any further risk necessary in the opinion of the Company and/or the management company. The said insurance shall include a clause regarding waiver of the right of subrogation vis-a-vis the Centre's tenants in respect of damage unintentionally occasioned by them to the building. For the purpose of this clause, the expression "building" shall include all the systems comprising an integral part of the building, and shall expressly not include the contents of the building's rented areas and any addition, improvement or extension effected to the building's rented areas by or for the tenants; (4) insurance against loss of rent occasioned to Matam by reason of damage caused to the premises' structure or by reason of the destruction of the premises' structure as a result of the risks specified in clause 12(j)(3) for an indemnity period of 12 (twelve) months. (k) The Company shall furnish the Tenant with a certificate of the existence of the insurances specified in clause 12(j) within seven days of the parties' execution hereof. (l) The following provisions shall apply to the policies mentioned in clause 12(j) above: (1) Matam is entitled from time to time to alter and/or cancel and/or replace the policies and/or to take out additional insurances, all in its exclusive discretion; (2) the policies shall be made available for the Tenant's inspection at 19 the Company's offices by prior coordination. The Tenant may, at its expense, purchase any other, additional or supplementary insurance besides the aforementioned policies in its discretion, if the aforementioned policies are not to its full satisfaction or do not, in its opinion, meet the needs of the structure and/or the premises; (3) the Tenant undertakes to meticulously and fully comply with all the provisions of the policies in order to preserve the rights of Matam, the management company and the other tenants within the framework of the policies; (4) the Tenant shall cooperate with Matam in the event that a claim is submitted to the insurance company and shall immediately furnish any document, testimony and the like required for the purpose of submitting the claim. (m) The Tenant warrants that it shall not have any complaint and/or demand and/or claim against Matam in respect of any damage for which it is entitled to indemnity (or for which it would be entitled to indemnity were it not for the excess fixed in the policy) under the insurances taken out pursuant to clause 12(a) above, and it hereby exempts Matam from any liability for such damage. As aforesaid, the provisions of this clause shall add to (and not derogate from) any other provision hereof regarding exemption from liability vis-a-vis Matam. Furthermore, the Tenant exempts the other tenants and residents in the building from any liability for damage as aforesaid, provided that the tenancy agreements or any other agreement vesting them with rights in the building include a parallel clause regarding exemption from liability in favour of the Tenant. (n) In clause 11 above and in this clause 12, the following expressions shall bear the following meanings: (1) "damage" - as defined in the Civil Wrongs Ordinance, including indirect damage, derivative damage, consequential damage, loss of income and damage to goodwill; (2) "Matam" - Matam Science Industries Centre Haifa Ltd, the Haifa Economic Co. Ltd, Haifa Municipality and Shatam Haifa Ltd. The Company shall be the agent for all the entities mentioned in this sub-clause (n) insofar as the provisions of this clause are concerned. 20 13. TRANSFER OR CHARGE OF RIGHTS AND RIGHT OF PRE-EMPTION (a) The Tenant's rights by virtue hereof may not be howsoever charged, in whole or in part. (b) The Tenant may not howsoever transfer and/or assign its rights and/or obligations pursuant hereto or any of them to another or others (for consideration or otherwise), unless it has received the Company's prior written consent thereto. The Company shall not withhold its consent on unreasonable grounds. In any event of a transfer of rights and/or obligations, the Tenant shall remain liable for the performance of its obligations pursuant hereto. Notwithstanding the above provisions of this sub-clause (b), it is agreed that the Tenant may assign its rights pursuant hereto to its parent company, Zoran Corporation, whose registered office is located at 2041 Mission College Boulevard, Santa Clara, California 95054, USA (hereinafter referred to as "the parent company"), subject to all the terms and conditions specified below: (1) the Tenant shall send the Company at least two months' prior written notice of its intention to assign its rights to the parent company; (2) from the assignment date the parent company shall be liable for the performance of all the Tenant's obligations pursuant hereto, and for the performance of all the Tenant's past obligations if and insofar as such have not been performed by it; (3) without derogating from the above provisions of sub-clause (b)(2), it is hereby expressed that the assignment of the Tenant's rights to the parent company shall not howsoever derogate from the Tenant's obligations pursuant hereto until the assignment date and/or shall not derogate from and/or constitute a waiver by the Company of any complaint and/or right available to the Company pursuant hereto and/or pursuant to any law; (4) the parent company shall, prior to the date of assignment of the Tenant's rights and as a condition therefor, give the Company, for the purpose of securing the performance of all its obligations pursuant hereto, an autonomous bank guarantee to the Company's satisfaction in an amount of US$ 90,000 from a bank that shall be 21 approved by the Company in advance and in writing. The guarantee shall be valid until 90 days have elapsed from the end of the tenancy term. The aforementioned bank guarantee shall replace the promissory notes given by the Tenant to the Company in accordance with the provisions hereof. (c) The Company may transfer and/or assign and/or charge its rights and/or any of them pursuant hereto (including the ownership of the premises) to another or others without requiring the Tenant's consent, provided that the Tenant's rights pursuant hereto are not prejudiced. (d) In order to clarify matters, its is agreed and warranted by the parties that the rights to build on the roof of the building shall belong to the Company alone, and the Tenant hereby grants its consent to building on the roof of the building as the Company decides from time to time, provided that such does not disturb, to the extent possible, the Tenant's ordinary operations in the premises. Notwithstanding the aforegoing, the Company warrants that it shall not build on the building's roof until May 1999. 14. PROVISIONS REGARDING THE USE OF THE PREMISES (a) The Tenant may use the premises solely for the purpose of conducting its business and not for any other object. Furthermore, the Tenant confirms that it is aware that another tenant (other tenants) shall use the common area of the premises and the building, and the Tenant undertakes not to prevent such tenant (or tenants) from making reasonable use of the common area, including the grant of access to the common area, as necessary. The Company hereby confirms that its tenancy agreements with the tenants of the Centre and the building contain clauses similar to sub-clauses (a) to (l) below. (b) The Tenant shall procure that the plant shall function in accordance with the custom in the Centre and the Tenant shall obey and comply with all the instructions given to it from time to time by the Company and/or Shatam in connection with the rules of conduct therein. The Tenant shall ascertain and ensure that its employees and/or successors and assigns also act pursuant to the provisions of this clause. 22 (c) (1) The Tenant may not execute alterations and/or install anything in the premises, save for minor alterations that do not amount to rigid construction, unless it obtains the Company's prior written consent thereto and pursuant to terms and conditions that the Company shall determine. The Company shall not refuse the execution of such alterations and repairs, save on reasonable grounds. Any structural alteration executed in contravention of the provisions of this sub-clause shall be removed by the Tenant at its expense immediately upon receipt of the Company's request to do so, whether during the tenancy term or thereafter. If the Company approves an alteration as aforesaid, such alterations and/or installations shall be removed from the premises, at the Company's request, at the end of the tenancy term, at the Tenant's expense, in order that the premises be restored to the Company in their original condition. If the Company does not request removal as aforesaid and the Tenant decides to leave the alterations and/or installations, the aforementioned alterations and/or installations shall remain owned by the Company, and the Tenant shall not be entitled to request any compensation in respect thereof. (2) Any alterations and/or installations executed in the premises in accordance with the provisions of sub-clause (c)(1) above shall be effected by the Tenant at its full expense and liability, and the Company shall not be howsoever liable as landlord and/or owner. (d) The Tenant shall maintain order and cleanliness in the premises and shall comply with all the instructions of the Company, Shatam and the municipal by-laws in connection with the cleaning arrangements, the manner of disposing of garbage and waste and maintaining the proper working order of the building's drainage and sewerage system. The failure to give instructions as aforesaid shall not release the Tenant from its obligations pursuant to this clause. (e) The Tenant warrants that it is presently in possession of, or will obtain by the commencement of the tenancy term, all the approvals and licenses necessary for the management of the plant and/or the use of the premises in accordance with the provisions hereof and the provisions of any law, and that it shall, pursuant to the provisions of the law and the regulations in connection therewith, keep and always be equipped with appropriate valid licenses and approvals in respect of any activity connected with the management of the plant and/or the use of the premises which require approval or a license pursuant to law. 23 The failure to obtain the said licenses and/or any of them shall not constitute a cause for the termination hereof and/or for the non-performance of the Tenant's obligations pursuant hereto and in particular for non-payment of the rent and the other payments pursuant hereto. (f) The placing of any sign or advertising means or other display on behalf of the Tenant on the premises' external walls or in the building's common areas or in the vicinity thereof shall require the Company's prior written approval. (g) In addition to the provisions of clause 8 above and in addition to all the payments for which the Tenant is liable pursuant hereto, the Tenant shall pay the Company for the costs of maintaining the common areas of the building, including the dining room costs, all as provided in appendix "I" hereto which constitutes an integral part hereof. (h) The Tenant shall comply with the instructions of the Company and any other competent authority in connection with fire extinguishing and fire prevention arrangements and procedures, the Civil Defence, safety and security, and shall purchase and/or install, at its expense and by prior written coordination with the Company, pursuant to the instructions of the above entities, all the preventative and safety equipment required for the application and maintenance of the above instructions. The equipment shall remain owned by the Tenant which may remove it from the premises at the end of the tenancy term and it shall do so if requested by the Company. (i) DISTURBANCES, AVOIDANCE OF NUISANCES AND PRESERVATION OF THE ENVIRONMENT (1) The Tenant shall manage the plant and use the premises by refraining from bothering neighbours and by refraining from creating a nuisance in the premises or its surroundings and all in accordance with the practice in the building and/or the Centre and/or with the Company. (2) The Tenant hereby confirms that its plant does not constitute an ecological hazard and that it shall not constitute such during the tenancy term pursuant hereto. (3) Without derogating from all the above provisions, the Tenant shall act and instruct its employees and anyone acting on its behalf to act in accordance with the provisions of the Abatement of Nuisances Law, 5721-1961 and the Maintenance of Cleanliness Law, 5744- 24 1984 and all the regulations and orders thereunder and of all the by-laws of the Haifa Municipality and the local authority. (j) The Tenant undertakes to refrain from any act or omission in the premises, and to refrain from permitting an act or omission by another or others in the premises, which is likely to impose liability upon the Company pursuant to law, including damages to person and/or property. (k) The Tenant shall totally refrain from taking any possession of the common area. 15. WARRANTY FOR THE QUALITY OF THE BUILDINGS AND THE PREMISES (a) The Company shall, within the framework of the warranty of the contractor which built the premises for it (hereinafter referred to as "the contractor"), be liable to repair the defects and/or faults detected and/or arising in the premises within one year of the delivery date (hereinafter referred to as "the warranty period") and deriving from defective work and/or the use of defective materials. The Tenant must notify the Company in writing of any such defect immediately upon its detection. If the Tenant does not notify the Company of defects at the aforesaid time, such shall be deemed confirmation on its part that there were no such defects in the premises. (b) If the Tenant notifies the Company after the end of the warranty period of a defect in respect whereof the Company has a warranty from the contractor which executed the work in the premises for a period longer than the warranty period as defined in sub-clause (a) above, the Company shall exercise its right pursuant to the aforementioned warranty, such that the performing contractor shall repair the defect, and such being without recognising any obligation and/or liability on the Company's part. The Company shall act to the best of its ability in order to realise the contractors' full liability towards it as provided in sub-clause (a) above and in this sub-clause. If the parties decide to enable the Tenant to exercise the Company's rights pursuant to the contractor's warranty as provided above, the Company shall assign all its rights pursuant to the agreement between it and the contractor, and the Tenant for its part may not have recourse to the Company for any reason. The Company may not refuse to assign its rights as aforesaid, save on reasonable grounds. 25 (c) The Tenant shall be liable, at its expense, for the routine maintenance of the premises and their systems, including the air conditioning systems, and shall, at its expense, repair all the routine faults discovered in the premises, as speedily as possible in the circumstances of the case. (d) Without derogating from the aforegoing, the Tenant shall use the premises with appropriate care, maintain them in good and proper condition (including whitewashing and painting) throughout the tenancy term and effect, without delay and at its expense, all the repairs necessary in order to perform its obligation pursuant to this clause. (e) If the Tenant and/or the Company do not perform their obligations as provided above in this clause, the second party may (but is not obliged), after giving the other party ten days' prior written notice during which the obligation is not performed or the performance thereof is not commenced, itself perform the maintenance and repairs for which the other party is liable, and the Tenant or the Company, as the case may be, shall reimburse the second party with all the expenses incurred by it for such purpose, immediately upon its first demand and in accordance with the provisions of such request. 16. NON-APPLICABILITY OF THE TENANTS' PROTECTION LAWS The parties hereby warrant that: (a) the construction of the building and the premises was completed after 5728-1968 and that the Tenants' Protection Law (Consolidated Version), 5732-1972 shall not apply to the tenancy by virtue hereof, or at all; (b) no key money or other similar payment has been or shall be paid to the Company or any other person and such has not been nor shall be received from the Tenant in consideration for the delivery of use of the premises and everything connected therewith; (c) the Tenants' Protection Law (Consolidated Version), 5732-1972 and/or any other law for the protection of tenants presently existing or which shall be promulgated in the future shall not apply in respect of this agreement and to the parties' relations by virtue hereof. 26 17. RIGHT OF ENTRY TO THE PREMISES The Company's representatives shall have a right of entry to the premises (subject to security restrictions) during reasonable hours and by prior coordination with the Tenant in order to ascertain the degree to which the provisions hereof are being performed and/or in order to show the premises to others and/or in order to do the acts and take the steps prescribed herein or in any law and obliging entry to the premises, provided that any damage occasioned to the Tenant as a result of its refusal to permit entry in the said cases and for the said objects or its refraining from coordinating entry as aforesaid to the premises shall be borne by the Tenant alone, and the Tenant shall not have any complaint and/or claim against the Company by reason thereof. The Company shall act to the best of its ability to ensure that the disturbance to the Tenant shall be as minor as possible and that the premises are restored to their previous condition as soon as possible and insofar as possible. 18. VACATION OF THE PREMISES (a) No later than the date on which the tenancy term comes to an end, the Tenant shall vacate the premises and return possession thereof to the Company, with them being vacant of any person and object (save for equipment and accessories belonging to the Company) and in good and proper condition as delivered to the Tenant, save for reasonable wear and tear. (b) In respect of and for each day of delay in returning possession of the premises contrary to the provisions of sub-clause (a) above, the Tenant shall pay the Company the full month's rent for the last month of the tenancy term divided by 10 together with due VAT. This payment, which shall be deemed pre-agreed liquidated damages, shall not derogate from any other remedy to which the Company is entitled pursuant to any law and/or agreement. (c) On the vacation date, the representatives of the Company and the Tenant shall draw up vacation minutes which shall state the defects and repairs which the Tenant must effect in order to restore the premises to a good and proper condition and pursuant to the timetable agreed upon. 27 Notwithstanding the aforegoing, Matam may effect the repairs itself and the Tenant shall reimburse Matam with the costs of effecting the repairs pursuant to invoices submitted to it by Matam. Matam may withhold the collaterals mentioned in clause 10 until completion of the repairs by the Company and if necessary it may realise the collaterals as cover for its aforementioned expenses. 19. NEGATION OF REPRESENTATION, THE TENANT'S EMPLOYEES (a) The provisions hereof and/or the parties' conduct by virtue hereof shall not be interpreted as empowering one party to appear in the other party's name or stead, or as conferring, pursuant to the aforesaid, the status of representative of the other party. (b) The employees of one party shall not be deemed the employees of the other party in any circumstances and for any object. 20. FUNDAMENTAL BREACH OF THE AGREEMENT Without derogating from the provisions of any law, each of the following acts or omissions shall be deemed a fundamental breach of the agreement by the Tenant and shall serve as a cause for vacation of the premises forthwith and for their return to the exclusive possession of the Company, and all on prior written notice of 21 days, unless the fundamental breach hereof is rectified by the Tenant to the Company's satisfaction by the date fixed in the aforementioned notice: (a) the cessation of the Tenant's activity for a period exceeding 180 days, save in circumstances of force majeure alone, and/or the submission of an application for the Tenant's winding up and for the appointment of a receiver over a material part of the Tenant's property, and the application or appointment, respectively, is not cancelled within 60 days; (b) a delay in payment of the rent, including the supplemental rent, or in effecting any of the other payments for which the Tenant is liable by virtue hereof and/or the breach thereof for a period exceeding 30 (thirty) days from the time fixed for the payment thereof, provided that the Tenant is sent notice thereof requesting that the payments be made and it does not comply therewith within seven days; (c) the grant of a use right or the transfer or charge of rights or any of them in contravention of the provisions of clause 14 above; 28 (d) the Tenant's failure to take out and/or maintain the insurance in contravention of the provisions of clause 13 above; (e) the failure to return possession of the premises at the time, in the manner and in the condition specified herein; (f) the grant of an order in connection with the Tenant containing an arrangement with creditors and/or an arrangement in favour of creditors and/or a receivership and/or bankruptcy and/or winding up of any type whatsoever and/or the dissolution of business in any manner, and the order is not cancelled within sixty days; (g) the non-performance of the obligations pursuant to the agreement between the Tenant and Matam and the failure to comply with the instructions of Shatam, the Centre's services company; (h) the Tenant causes any nuisance pursuant to clause 15(h) hereof; (i) effecting alterations in the premises without obtaining the Company's prior written permission; (j) the non-performance of the obligation to use the premises as provided in clause 15 hereof; The provisions of this clause do not prejudice the Company's right to any other relief to which it is entitled against the Tenant pursuant to law and/or agreement in respect of its breach. 21. EARLY VACATION OR ABANDONMENT If the Tenant vacates or abandons the premises or is evicted from the premises prior to the end of the tenancy term or in the case of a breach of this agreement without the Company's prior written consent, the Tenant shall continue paying the Company rent and all the other payments for which it is liable by virtue hereof until the end of the tenancy term, as if it had continued to possess and use the premises. The provisions hereof shall not derogate from the Company's right to terminate the agreement on the basis of the provisions of clause 20 above. It is agreed and warranted by the parties that this clause shall not apply in the case of force majeure as defined below: for the purpose of this clause 21, force majeure means:_______________ 29 __________________ It is agreed and warranted by the parties that the Tenant shall be entitled to bring an alternative tenant in its stead, provided that all the following cumulative conditions are fulfilled: (a) the Tenant fulfills all the terms and conditions of the agreement until the date on which the premises are actually transferred to the alternative tenant who shall be approved by the Company as provided below; and (b) the Company is given at least two months' prior written notice thereof; and (c) the alternative tenant is approved by the Company, whose decision shall be exclusive and final; however, the Company shall not withhold its consent, save on reasonable grounds; and (d) the terms and conditions of the new tenancy agreement with the alternative tenant shall be agreed between it and the Company to the Company's satisfaction, provided that they shall not be inferior to the terms and conditions hereof; and (e) subject to the provisions of sub-clause (d) above, the alternative tenant shall perform all the Tenant's obligations and give the Company collaterals / guarantees to its satisfaction. The above provisions of this paragraph do not derogate from the Tenant's obligations pursuant hereto. 22. SELF-HELP Wherever an obligation is imposed on a party hereto and such party does not absolutely perform it or does not perform it properly, for any reason whatsoever, the second party may (but is not bound to) perform or complete the performance of any such obligation itself and/or by others, within a reasonable time, and all the reasonable expenses involved therein shall be borne by the other party. Such expenses shall be reimbursed to the second party on the production of an invoice (based on appropriate references) submitted by it to the other party within 30 days of the invoice's submission. If the Tenant incurs any such expense, it may deduct it from the rent if it has given the Company 30 days' prior written notice thereof and the Company has failed to indemnify it in respect of the said expense. 30 23. CONSTRUCTION, REPAIRS, IMPROVEMENTS AND DEVELOPMENT WORKS The provisions hereof shall not prevent the Company and Shatam from erecting installations and executing construction, repairs, improvements and development works in the building, the premises, its surroundings and/or the Centre, so long as such do not unreasonably disturb the Tenant in the management of its plant. The Tenant shall not object to the execution of the above acts and shall cooperate with the Company and/or Shatam as aforesaid and at their expense insofar as the execution thereof is concerned. It is agreed that the aforementioned works shall be at the Company's liability and expense, unless the parties otherwise agree in writing. 24. EVIDENCE AND MODIFICATION OF THE AGREEMENT (a) Any alteration hereto and/or modification hereof shall only be effected in an express written document that shall be signed by the parties hereto. (b) The consent of a party hereto to a deviation from the terms and conditions hereof in a particular case or in a series of cases shall not constitute a precedent and no inference shall be drawn therefrom in the same case and/or in any other case in the future. (c) If a party to this agreement has not used or has delayed in using any of the rights vested in it pursuant hereto in a particular case or in a series of cases, such shall not be deemed a waiver of any of its rights. (d) It is agreed between the parties that the acceptance of a cheque or notes does not constitute payment, until they have actually been paid. 25. JURISDICTION It is agreed between the parties that any dispute and/or difference and/or judicial proceeding in connection herewith and the obligations deriving herefrom shall be decided solely and exclusively pursuant to the Israeli law, and that the sole and exclusive place of jurisdiction is the competent court in Haifa. 31 26. STAMP DUTY (a) All the costs of stamping this agreement and the copies hereof shall be borne and paid by the parties in equal shares. (b) Stamps tax applicable to the collaterals mentioned in clause 9 above (including the costs of obtaining them) shall be paid by the Tenant. 27. CONFIDENTIALITY For so long as the agreement is in force, the parties undertake to maintain confidentiality in respect of all the plans connected with the building, the floor and its systems, with the aim of preventing any malicious sabotage of the building. Wherever such a disclosure is obliged, the parties undertake to obtain from the person receiving the plans, save for government entities, a written undertaking to maintain confidentiality in respect thereof and to return them when the need to continue holding them comes to an end. Furthermore, the parties undertake to maintain confidentiality in respect of the terms and conditions hereof, save for the commercial details insofar as such are required by an external entity or external entities or for the Tenant's activity. 28. NOTICES AND WARNINGS (a) Any notice and/or warning and/or request sent from one party to the other in connection herewith shall be sent by registered mail or delivered by hand to the addresses of the parties set forth below (or any other address of which appropriate written notice is given), and such notice or warning shall be deemed to have been delivered to the addressee upon its actual delivery - if delivered by hand, and if sent by mail in Israel - at the end of 72 hours from being placed in the mail, with the postage fees having been fully paid in advance. (b) The addresses of the parties as aforesaid are: (1) the Company - Matam - Science Industries Centre Ltd, Postal Agency Matam 31905 Haifa; (2) the Tenant - at the premises. 32 29. The parties warrant and confirm that they have read this agreement and all the clauses and appendices hereto and they have understood the contents, nature and significance thereof and agree to the provisions thereof. AS WITNESS THE HANDS OF THE PARTIES: - -------------------- -------------------- THE COMPANY THE TENANT 33 APPENDIX "I" ADDENDUM TO THE TENANCY AGREEMENT DATED BETWEEN: MATAM - SCIENCE INDUSTRIES CENTRE HAIFA LTD PC 51-068740-3 (hereinafter referred to as "the Company") OF THE ONE PART AND: ZORAN MICRO-ELECTRONICS LTD PC 51-094944-9 (hereinafter referred to as "the Tenant") OF THE OTHER PART WHEREAS the Tenant wishes the Company to manage the building's common areas (as defined below); AND WHEREAS the Company has agreed to see to the management and maintenance of the building's common areas for the consideration and subject to the terms, conditions and provisions specified in this addendum (hereinafter referred to as "the addendum") and the appendices hereto; AND WHEREAS the Tenant wishes catering services to be provided in the building to its employees and guests; AND WHEREAS the Company has agreed to assign a section of the building's common areas which shall serve as a dining room (as defined below) for the purpose of providing catering services to the companies renting areas in the building and their guests for the consideration and subject to the terms, conditions and provisions specified in this addendum and the appendices hereto; 34 ACCORDINGLY, IT IS WARRANTED AND PROVIDED BETWEEN THE PARTIES AS FOLLOWS: 1. RECITALS 1.1 The recitals and appendices hereto constitute an integral part hereof. 1.2 This addendum constitutes an integral part of the tenancy agreement executed between the parties on __________________ (hereinafter referred to as "the agreement"). 2. DEFINITIONS In this addendum - "THE BUILDING" - as defined in the tenancy agreement; "THE CONTRACTOR" - Norcate Ltd, which has undertaken to supply catering services to the tenants in building 30 and its guests in accordance with the terms and conditions of the agreements executed between it and each of the tenants in building 30 or any other contractor elected by the tenants in building 30 in accordance with the terms and conditions of the agreements executed between them and the contractor; "THE TENANTS IN BUILDING 30" - i.e. Aurec, ABB, Madge Israel and/or anyone renting areas in the building from the Company instead of any of them; "THE TENANT'S EMPLOYEES" - the Tenant's employees and guests and/or anyone permitted by the Tenant's representative (as defined below) to enter the dining room (as defined below) and to use the catering services as defined below in this clause, all in accordance with the written guidelines given by the representative to the contractor; "THE COMPANY'S REPRESENTATIVE" - anyone appointed from time to time by the Company in its exclusive discretion to supervise and monitor the use made of the dining room; "THE TENANT'S REPRESENTATIVE" - a representative appointed by the Tenant, whose position involves the ordering of the catering services, approval of the contractor's invoices and the payment thereof, and any routine acts in connection with the catering services; 35 "THE DINING ROOM" - an area of approx. 315 square metres in building 30 as marked in red in appendix "A" which is designated for the purpose of operating a dining room and the provision of the catering services as defined below, which includes a dining hall (designated to accommodate approx. 120 seats for diners) and a kitchen for heating and/or rewarming; "THE CATERING SERVICES" - the preparation of meals and their service to the Tenant's employees in the dining room in the manner, to the extent and subject to the terms, conditions and provisions provided hereinbelow; "COMMON AREA" or "COMMON AREAS" - as defined in the tenancy agreement and together with the dining room as defined above; "THE ROUTINE EXPENSES" - expenses in respect of maintaining the common areas, including, inter alia, the following components: (a) the cleaning and maintenance of the common area (including the building's external walls and roof); (b) the maintenance of the common equipment, elevators, air conditioning equipment and the like; (c) electricity in the common area; (d) water in the building (including water in the conveniences on all the floors); (e) the costs of operating the dining room, including structural insurance, the maintenance of the dining room structure and rates, and save for the cost of obtaining the catering services from the contractor for which the Tenant and all the other tenants in building 30 are solely and exclusively liable; "THE INDEX" - the consumer price index published by the Central Bureau of Statistics and Economic Research, including such index even if published by another government institution, whether built on the same data on which the existing index is built or not. If the index is replaced as aforesaid, the Central Bureau of Statistics shall determine the ratio between it and the cost of living index which replaces it; "THE BASE INDEX" - the index for March 1996 which was published on 15th April 1996 and which stands at 133.0 points, save where this addendum expressly otherwise provides; "THE DETERMINING INDEX" - the index known on the date of actually effecting any payment; 36 "THE PROPORTIONAL PART OF THE ROUTINE EXPENSES" - the Tenant's part of the routine expenses, which shall be computed pursuant to the proportional part rented by the Tenant in the building in relation to the total area of the building, i.e. 21.6%; "OVERHEADS AND MANAGEMENT FEES" - payment for the general management of the common area which shall constitute 12% of the proportional part of the routine expenses; "THE DINING ROOM EXPENSES" - payment for the assignment of an area in the building for the operation of the dining room and the expenses involved therein. 3. MANAGEMENT OF THE COMMON AREAS 3.1 The parties hereby agree and undertake that the Company and/or someone acting on its behalf shall manage the maintenance of the common areas in the building on standards acceptable in buildings which were constructed in the Centre, and in consideration the Tenant shall pay the Company the proportional part of the routine expenses as defined above. The Tenant shall pay the proportional part of the routine expenses in accordance with the provisions of clause 5 below. 3.2 It is hereby agreed that in addition to payment of the proportional part of the routine expenses as provided above, the Tenant shall also pay the Company, at the same times, overheads and management fees as defined above for managing the maintenance of the common areas. 3.3 In addition to and without derogating from the provisions of sub-clauses 3.1 and 3.2 above, the Tenant shall pay the Company in respect of the dining room expenses as provided below: 3.3.1 the area of the premises for the purpose of paying rent for the premises each month, as prescribed in clause 1(a) of the agreement (i.e. 1,646 square metres) shall be increased by 5.3% to 1,733 square metres, commencing from the date of the dining room's operation; 3.3.2 for the avoidance of doubt, it is hereby agreed that the increase of the area of the premises as provided in sub-clause 3.3.1 above is for the purpose of charging for the dining room 37 expenses alone and such shall not add to and/or alter the Tenant's rights insofar as the rental of areas in the building are concerned and/or increase the actual area of the premises. 3.4 It is hereby agreed between the parties that the Company's representative may permit the provision of catering services in the dining room to the employees and guests of companies which are not renting areas in building 30 (hereinafter referred to as "the external company"), provided that prior written consent thereto is given by the tenants in building 30 together renting more than 66% of the areas being let in the building, and subject to the external company participating in the dining room expenses at a rate determined by the Company's representative. Monies for participation in expenses collected from the external company as provided in this sub-clause shall be distributed amongst the tenants in building 30 which participate in the dining room expenses as provided in clause 3.3 above. The distribution shall be effected pro rata to the tenants' share of the payment of the dining room expenses. 3.5 It is hereby agreed that the Company and/or the Company's representative may use the dining room to hold special functions, provided that use as aforesaid may only be made by prior coordination with Zoran in order to prevent, insofar as possible, impairment of the catering services. It is further hereby agreed that the Tenant and/or any of the tenants in building 30 may hold special functions in the dining room, provided that the date of holding the special function is coordinated with the Tenant in building 30 [sic]. If a preferred date for the holding of a function by one of the tenants in building 30 overlaps with a preferred date for the holding of a function by a third party, preference shall be given to the tenant in building 30. For the avoidance of doubt and without derogating from the Tenant's liability as provided in the agreement and this addendum, it is hereby expressed that the Tenant shall be liable for any damage to person and/or property occasioned to the Tenant's employees and/or to any third party which is directly or indirectly connected with a special function held by the Tenant and/or anyone on its behalf in the dining room. If a claim is filed against Matam by any of the Tenant's employees or by any third party in respect of damage for which the Tenant is liable pursuant to this sub-clause, the Tenant shall indemnify Matam, subject to 38 the Tenant being given notice regarding the existence of the proceedings against the Company and to it being given the opportunity to defend itself against the claims raised within the framework of the aforementioned proceedings, in respect of any amount which Matam is made liable to pay any of the Tenant's employees and/or any third party, together with trial costs and including principal, interest, linkage, official fees, advocates' professional fees, VAT and any other expenses deriving from the claim. 3.6 Without derogating from the provisions of clauses 3.1 to 3.3 above and for the avoidance of doubt, it is hereby expressed that on the ground floor and fourth floor of the building there are expenses relating to the maintenance of the common area which shall only be borne by the companies renting areas on such floors pursuant to their proportional part of the area let by the Company on such floors in relation to the entire floor area. 4. LIABILITY WITH REGARD TO THE COMMON AREAS 4.1 The Tenant hereby warrants that it is aware and agrees that: 4.1.1 The catering services in the dining room, including the payment in respect thereof, are regulated in the agreement between the contractor and the Tenant which is annexed hereto as appendix "B". Matam shall not be howsoever liable for the catering services and, inter alia and without derogating from the generality of the aforegoing, for the quality of the food and/or any damage to person and/or property occasioned to the Tenant and/or any third party which is directly and/or indirectly connected with the catering services. 4.1.2 Without derogating from the provisions of clause 11 of the agreement, the Tenant alone shall be liable vis-a-vis Matam and/or any third party, as the case may be, for any injury, loss or damage to person or property (and without derogating from the generality of the aforegoing, including property of the Tenant, its employees and guests) which occurs or is occasioned in the domain of the common areas in consequence of an act and/or omission of the Tenant and/or anyone acting on its behalf and/or Matam and/or anyone acting on its behalf and the aforementioned liability shall not be borne by Matam, subject to the provisions set forth below. 39 The Tenant's liability as provided above in this sub-clause, insofar as it relates to an act or omission of Matam and/or those acting on its behalf, shall be in accordance with that defined under the third party liability insurance policy as provided in clause 12(a)(3) of the agreement, with it being limited to an amount of US$ 5,000,000 per event and in total for the entire insurance term. 4.1.3 If a claim is filed against Matam by any third party in respect of damage for which the Tenant is liable pursuant to this clause 4, the Tenant shall be liable to indemnify Matam, immediately upon being requested to do so, in respect of any amount which Matam shall be held liable to pay the third party, together with all Matam's expenses in respect of conducting the trial with the third party and, without prejudice to the generality of the aforegoing, principal, interest, linkage, advocates' professional fees, official fees, trial costs, VAT and any other expenses deriving from the claim. Matam's indemnity by the Tenant shall be conditional upon the Tenant being given notice regarding the existence of the proceedings against Matam and upon the Tenant being given an opportunity to defend itself against the claims raised within the framework of the aforementioned proceedings. 4.1.4 The Tenant undertakes to indemnify and/or compensate Matam immediately upon being requested to do so in respect of any damage and/or expense occasioned to Matam in consequence and in respect of a breach of the Tenant's obligations pursuant to this addendum. 4.1.5 It is not the intention of this clause, and all the sub-clauses hereof, to create rights in favour of any third party. 4.1.6 The sub-clauses of this clause supplement and do not derogate from each other. 4.1.7 For the purpose of clause 3.5 and this clause 4, the expressions "damage" and "Matam" shall bear the meaning prescribed in clause 12 of the agreement. 40 5. PAYMENT IN RESPECT OF THE MANAGEMENT AND MAINTENANCE OF THE COMMON AREAS 5.1 Subject to the transfer of data on the planned budget as provided in clause 5.4 below, the Tenant undertakes to pay the Company, at the time of paying the rent as prescribed in the agreement, the proportional part of the routine expenses, as defined in clause 2 above, overheads and management fees and dining room expenses, as provided in this addendum and the appendices hereto. 5.2 The amount of the routine expenses and overheads and management fees that shall be paid to the Company by the Tenant, as prescribed in this addendum and the appendices hereto, shall be detailed in a written request that the Company shall give the Tenant from time to time, and they shall be paid by the Tenant to the Company upon effecting the next rent payment following the receipt of any request. It is hereby agreed between the parties that the Tenant may request from the Company, and the Company hereby undertakes to furnish to the Tenant following receipt of such a request, invoices or other documents approved by the Company's comptroller (including agreements) attesting to the amount of the routine expenses incurred by the Company within the framework of maintaining the common areas. 5.3 For the avoidance of doubt, it is expressed and agreed by the parties that the payment of monies by the Tenant to the Company for the maintenance and management of the common areas as prescribed in sub-clause 5.1 and 5.2 above shall be effected commencing from the delivery of the premises to the Tenant as provided in the agreement and until the end of the tenancy term. 5.4 It is hereby agreed that one month before the commencement of each calendar year during the tenancy term the Company shall convey to the Tenant, for its inspection, data on the planned budget for the management and maintenance of the common areas (hereinafter referred to as "the planned budget") for the coming calendar year. A deviation of more than 5% from the planned budget shall necessitate the Tenant's prior written consent (in respect of a deviation of more than 5%). For the avoidance of doubt, a deviation of up to 5% does not require the Tenant's consent. 41 6. GENERAL 6.1 The Tenant hereby warrants that it is aware that pursuant to the agreement that shall be executed/has been executed between the Company and the contractor for the provision of catering services, the Company is reserving unto itself, inter alia, the right to bring about early termination of the term for borrowing the dining room that shall be given/has been given to the contractor, and such being by giving 30 days' prior written notice to the contractor and without being required to give grounds for its said decision. The Tenant warrants and undertakes that it does not and shall not have any complaints and/or claims and/or demands against the Company in connection therewith, provided that the Company contracts with another contractor for the provision of catering services and that the provision of the catering services to the tenants in building 30 is not affected. 6.2 It is hereby agreed that save for the provisions of this addendum and the appendices hereto, there shall be no alteration to the terms and conditions of the agreement and the appendices thereto. AS WITNESS THE HANDS OF THE PARTIES: - -------------------- -------------------- THE TENANT THE COMPANY 42 SPECIAL TERMS AND CONDITIONS APPENDIX 1. The Company warrants that it intends erecting in the area of the Science Industries Park in Haifa, including the area known as Matam West (hereinafter referred to as "the Centre") a building of a total area of approx. 5,000 square metres (hereinafter referred to as "the planned building") which shall be built on the basis of a specification that shall be agreed between the parties and which shall not be inferior to the specification of building 30 and building 23 which were built by the Company in the Centre. The location of the planned building shall be determined by Matam within Matam West Park, by consent with Zoran - and Zoran shall not object to the location on unreasonable grounds. 2. The Tenant warrants that it wishes to rent an area of approx. 2,500 square metres in the planned building for a term of seven years, commencing at the end of the tenancy term in respect of the premises in building 30, i.e. commencing from 15th May 1999. 3. It is hereby agreed that the location and size of the planned building shall be determined by the Company in its discretion, having regard to the Tenant's requirements. 4. It is further agreed between the parties that: 4.1 The Tenant shall notify the Company in writing by 15th May 1997 if it wishes to increase or reduce the area which it shall rent in the planned building by 500 metres. 4.2 The Tenant may sub-let an area of up to 40% and not more than 1,000 square metres of the area which it shall rent in the planned building for a period of up to ____________________; however, it is hereby expressed that a sub-tenancy as aforesaid shall be conditional upon obtaining the Company's prior written approval and to fulfillment of the terms and conditions set forth below: 43 4.2.1 The Tenant shall give a written prior undertaking to the Company's satisfaction that it shall remain liable for the performance of all its obligations to the Company, including pursuant to the tenancy agreement and the appendices thereto, that it shall be liable for all the acts and/or omissions of the sub-tenant, and that the sub-letting of the premises and/or any part thereof by it shall not howsoever derogate, directly or indirectly, expressly or impliedly, from the Tenant's obligations to the Company pursuant to the tenancy agreement and the appendices thereto. 4.2.2 The Tenant shall give the Company written approval from its parent company ____________________ that it agrees to the Tenant sub-letting the premises and/or any part thereof and that it is aware and agrees that the guarantee which it has given for the performance of the Tenant's obligations pursuant to the tenancy agreement shall remain in force unaltered and that the sub-letting shall not howsoever derogate from its obligations and/or the Tenant's obligations vis-a-vis the Company as provided in the tenancy agreement and the appendices thereto. For the avoidance of doubt, it is hereby expressed that the collaterals that the Tenant shall give the Company, including the guarantee of the parent company, shall serve to secure the obligations of the Tenant and the sub-tenant. 4.2.3 The sub-tenant may not transfer and/or assign and/or charge its rights in the premises to any other entity. 4.2.4 The object of the sub-tenant and the nature of its activity accord, in the Company's exclusive discretion, with the normal activity in the Centre. 4.3 The remaining areas in the planned building that are not let to the Tenant shall be let to other entities in the Company's exclusive discretion. Letting to other entities as aforesaid shall be for a term of up to three years, and such being in order to enable Zoran's future expansion by the letting of additional areas in the planned building. Notwithstanding the above provisions in this sub-clause, it is hereby expressed that a decision regarding the entities to which the areas in the planned building should be let and for what period of time is within the Company's exclusive discretion. 44 4.4 It is agreed between the parties that the rent which the Tenant shall pay the Company for the rental of an area in the planned building or for the alternative premises (as defined in clause 6 below) shall be as provided below: 4.4.1 The monthly rent for each 1 square metre of the area of the premises in the planned building or in the alternative premises, as the case may be, shall be $ 12.74 (twelve US dollars and seventy four cents) together with due VAT and linkage to the index (with the base index being the index for February 1996), as follows: 4.4.1.1 the rent for 1,330 square metres shall be linked, from the commencement of the tenancy term and until 15th May 2003, to the rate of the dollar together with CPI linkage; 4.4.1.2 in respect of the entire area rented that is in excess of 1,330 square metres, the rent shall be linked to the Consumer Price Index in Israel, with the base rate of exchange being NIS 3.11 per US$ 1; 4.4.1.3 the rent for 1,330 square metres of the area of the premises, as provided in sub-clause 4.4.1 above, shall, commencing from 16th May 2003, be identical to the average of the rent for the area of the premises in excess of 1,330 square metres in accordance with the provisions of sub-clause (2) and the rent in NIS in May 2003 computed pursuant to clause (1). 5. The Tenant hereby warrants that it is aware and agrees that the Company is not undertaking to erect the planned building and that it does not and shall not have any complaints and/or claims against the Company in such regard. The Tenant further warrants that it is aware that the decision on the planned building's erection is conditional, inter alia, on obtaining the approval of the Company's board of directors and on obtaining approvals from the various competent authorities. 45 6. The parties hereby agree that if the planned building is not erected for whatsoever reason, the Company shall let to the Tenant, and the Tenant shall rent from the Company, alternative premises of an area of approx. 1,330 square metres the specification whereof shall be of a standard similar to that existing in the premises in building 30 mutatis mutandis (hereinafter referred to as "the alternative premises"). The alternative premises shall be let to the Tenant for a period commencing from 16th May 1999 and ending on 15th May 2003. 7. It is hereby agreed that all the other terms and conditions of the tenancy agreement that shall be executed between the parties regarding the area in the planned building or the alternative premises, as the case may be, shall be in accordance with the terms and conditions of the agreement executed between the parties regarding the rental of an area in the building known as building 30 in the Centre, mutatis mutandis. AS WITNESS THE HANDS OF THE PARTIES: - -------------------- -------------------- THE COMPANY THE TENANT 46 EX-21.1 3 EXHIBIT 21.1 EXHIBIT 21.1 SUBSIDIARIES OF THE REGISTRANT The subsidiaries of Zoran Corporation are the following: 1. Zoran Microelectronics Ltd., a corporation organized under the laws of the State of Israel; and 2. CompCore Multimedia, Inc., a California corporation.; and 3. Zoran International, Inc., a Delaware corporation. 65 EX-23.1 4 EXHIBIT 23.1 EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statements of Forms S-8 (No. 333-59843, 333-37111) of our report dated January 25, 2000, relating to the financial statements, which appears in Zoran Corporation's Annual Report on Form 10-K for the year ended December 31, 1999. /s/ PricewaterhouseCoopers LLP San Jose, California March 30, 2000 66 EX-27 5 EXHIBIT 27
5 YEAR DEC-31-1999 JAN-01-1999 DEC-31-1999 12,665 132,967 22,917 (1,048) 7,159 176,606 12,952 (7,290) 182,468 19,023 0 0 0 14 163,431 182,468 52,887 61,674 28,523 28,523 0 0 0 7,834 1,175 6,659 0 0 0 6,659 0.61 0.54
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