-----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, OLnqGKpJeYQK63vVxu3rQ6cjyCfH8E74/P8iE4/XJ/A0AYyPDOOMLnkMOdXNmMom Zzdmz3am3+8n4U757RlVrA== 0000950133-97-001163.txt : 19970401 0000950133-97-001163.hdr.sgml : 19970401 ACCESSION NUMBER: 0000950133-97-001163 CONFORMED SUBMISSION TYPE: 10KSB40 PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970331 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: XYBERNAUT CORP CENTRAL INDEX KEY: 0001013148 STANDARD INDUSTRIAL CLASSIFICATION: COMPUTER COMMUNICATIONS EQUIPMENT [3576] IRS NUMBER: 541799851 STATE OF INCORPORATION: DE FISCAL YEAR END: 0331 FILING VALUES: FORM TYPE: 10KSB40 SEC ACT: 1934 Act SEC FILE NUMBER: 000-21013 FILM NUMBER: 97570879 BUSINESS ADDRESS: STREET 1: 12701 FAIR LAKES CIRCLE STREET 2: STE 550 CITY: FAIRFAX STATE: VA ZIP: 22033 BUSINESS PHONE: 7036316925 MAIL ADDRESS: STREET 1: 12701 FAIR LAKES CIRCLE CITY: FAIRFAX STATE: VA ZIP: 22033 10KSB40 1 XYBERNAUT'S FORM 10-KSB405 1 SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-KSB [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the fiscal year ended December 31, 1996 [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 [NO FEE REQUIRED] For the transition period from to . ---------------- ----------------- Commission file number 0-15086 XYBERNAUT CORPORATION ----------------------------------------------------------- (Name of small business issuer in its charter) Delaware 54-1799851 - ----------------------------------------- -------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 12701 Fair Lakes Circle, Fairfax, VA 22033 - ----------------------------------------- -------------------- (Address of principal executive offices) (Zip Code) Issuer's telephone number, including area code: (703) 631-6925 Securities registered under Section 12(b) of the Exchange Act: none Securities registered under Section 12(g) of the Exchange Act: Common stock, $.01 par value Warrants to purchase Common stock Check whether the issuer (1) filed all reports required to be filed by Section 13 or 15(d) of the Exchange Act during the past 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 ----- ----- Check if there is no disclosure of delinquent filers in response to Item 405 of Regulation S-B is not contained in this form, and no disclosure will 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-KSB or any amendment to this Form 10-KSB: X State issuer's revenues for its most recent fiscal year: $1,093,341 The aggregate market value at February 3, 1997 of the Common stock of the issuer, its only class of voting stock, was $42,777,336, of which $19,153,566 was held by non-affiliates, calculated on the basis of the closing price of such stock on the National Association of Securities Dealers Automated Quotation System Small Cap Market on that date. Such market value of non-affiliates excludes shares owned by all executive officers and directors (but includes shares owned by their spouses); this should not be construed as indicating that all such persons are affiliates. The number of shares outstanding of the issuer's Common stock as at March 24, 1996 was 14,259,112 DOCUMENTS INCORPORATED BY REFERENCE Portions of the issuer's Prospectus dated July 18, 1996 are incorporated by reference into Items 13 in Part III of this Report. Transitional Small Business Disclosure Format Yes No X ----- ----- 1 2 PART I ITEM 1. BUSINESS. INTRODUCTION Xybernaut Corporation (the "Company") is engaged in the research, development and commercialization of mobile computer systems, services and related software solutions designed to enhance all aspects of personal productivity, especially in commercial, industrial and military applications. The Company's current mobile computing product is the patented Mobile Assistant(R)II, which is a full function body-worn, voice-controlled "586" computer with a head- mounted video display providing true computing mobility through hands-free operation ("Mobile Assistant(R)II"). With the speed, memory, processing, multimedia and communications capabilities of a desktop personal computer ("PC") in a lightweight unit, the Mobile Assistant(R) series combines full function PC features with hands-free operation and simultaneous user mobility. The Mobile Assistant(R) series is a combination of hardware and software specifically designed for body-worn mobile computing (The "Mobile Assistant(R) series"). The Mobile Assistant(R) series with application software is designed to allow workers with minimal training to perform complex and time consuming tasks such as maintenance, repair and inspection of complex technological and mechanical systems, retrieval and analysis of medical information from remote locations, and coordination of remote commercial and industrial activities and military field operations, in a more efficient manner than current technology allows. Purchasers of the previous generation "486" Mobile Assistant(R) ("Mobile Assistant(R)") have included, among others, AT&T, Eaton Corporation, Battelle Memorial Institute, PRC Inc., SRI International, Rockwell International, Martin Marietta (now Lockheed Martin), IAI Elta Electronics, Bently Nevada Corporation, Genesis Technology Group, Inc. and the United States Army. In March 1996, Rockwell International, which manufactured the computing unit utilized in the Mobile Assistant(R), licensed from the Company the right to manufacture and market mobile computers utilizing certain intellectual property and related technical know-how which has been developed by the Company. The Mobile Assistant(R) series utilizes technologically advanced features such as real time two-way video and audio communications through radio frequency transmissions, integrated cellular linkups and conventional telephone lines, global positioning system tracking capabilities and access to information through the Internet and World Wide Web. The head-mounted display unit includes a two-way audio system, weighs less than 16 ounces and currently presents a monochrome image that is approximately equivalent to that of a 15" VGA monitor at a distance of approximately two feet. The body-worn computing unit is designed to allow operation in environmental conditions in which conventional portable computers could not previously operate, weighs less than three pounds and is capable of running software applications designed for Microsoft(R) Windows(R)3.11, Windows(R)95, Windows(R) NT(TM), DOS and SCO UNIX(R). The Company intends to utilize its software development expertise, acquired through custom programming, including development of a graphical user interface and neutral data storage systems for United States intelligence agencies, to create software toolkits to assist its customers in developing applications. Software toolkits can provide a cost-effective platform for user-customized programs for the storage, processing and retrieval of information necessary for specific commercial, industrial, military and other applications. The Company intends to integrate its hardware and software capabilities to provide total mobile computing solutions, thereby capitalizing on all aspects of the Company's expertise. The Company was incorporated in Virginia as Contemporary Products & Services, Inc. in November 1990 and changed it's name to Computer Products & Services, Inc. in November 1992. In April 1996 the Company merged with Xybernaut Corporation, a Delaware corporation, in order to change its name and reincorporate in Delaware. -2- 3 In July 1996, the Company acquired 100% of the issued and outstanding shares of Tech International of Virginia, Inc. ("Tech Virginia"). Tech Virginia is the former Virginia business unit of Tech International. In December 1994, Tech International spun-off its Virginia business unit as Tech Virginia, and Tech Virginia was thereafter incorporated in Delaware in June 1994. To keep investors informed of the Company's future plans and objectives, this Annual Report on Form 10-KSB (and other reports and statements issued by the Company and its officers from time to time) contain certain statements concerning the Company's future results, future performance, intentions, objectives, plans and expectations that are or may be deemed to be "forward-looking statements". The Company's ability to do this has been fostered by the Private Securities Litigation Reform Act of 1995 which provides a "safe harbor" for forward-looking statements to encourage companies to provide prospective information so long as those statements are accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those discussed in the statement. The Company believes it is in the best interests of investors to take advantage of the "safe harbor" provisions of that Act. Such forward-looking statements are subject to a number of known and unknown risks and uncertainties that, in addition to general economic and business conditions could cause the Company's actual results, performance, and achievements to differ materially from those described or implied in the forward-looking statements. Factors that could cause or contribute to such differences include, but are not limited to, the Company's ability to profit from the Mobile Assistant(R)II as expected (see "Products and Product Development"), the Company's ability to meet competition (see "Competition"), the Company's ability to maintain superior technological capability, foreseeing changes and continuing to identify, develop and commercialize innovative and competitive products and systems (see "Research and Development"), the Company's ability to penetrate different markets and successfully expand its market base (see "Marketing and Sales"), the Company's ability to attract and retain technologically qualified personnel, particularly in the areas of research and development (see "Employees"), and the Company's ability to generate cash flows and obtain financing to support its operations and growth (see "Management's Discussion and Analysis of Financial Condition and Results of Operations" in Item 7 of this Annual Report on Form 10-KSB). INDUSTRY OVERVIEW Since the introduction of the first large mainframe computers in the 1950's, there has been an ongoing evolution in computer hardware to reduce size and increase performance and functionality. The commercialization of mobile computing products combined with significant increases in the number and scope of software applications has resulted in a multi-billion dollar market. The Company sees the next phase in this evolution to be body-worn, voice-activated computers, which will provide hands-free portability. The Company believes it is in the forefront of the development of mobile computing technology and that the potential to develop a substantial market for its mobile computing hardware and software products is demonstrated by the substantial historic and projected growth in all forms of mobile and portable computers. According to MarkIntel, a service which compiles market research reports, total revenues from the overall portable computer market (20 pounds or lighter), will have an average annual growth of approximately 13% to over $23 billion through the year 2000. MarkIntel reports that notebook computers (i.e. weighing from 5 to 8 pounds) currently constitute over 70% of portable units sold. MarkIntel also states that sub-notebook computers (3 to 5 pounds) currently constitute approximately 15% of sales of portable computers and are expected to increase to almost 19% of sales by the year 2000. Mini-computing and communication devices (3 pounds or less, and which still are considered to be in an evolutionary cycle) are projected by MarkIntel to experience an average annual revenue growth rate of 33%. The Company believes that these projected figures demonstrate the significant potential size of this still-evolving market for various forms of mobile and portable computers. In conjunction with the changes in computer hardware, a similar evolution has occurred in computer software to move from processing data to providing information. Mainframe computers were initially used to process vast amounts of data such as population statistics, corporate accounting information, etc., for users. With personal computers came software to provide information to users in the form of analysis, relationships, etc. The Company believes that providing "how to" knowledge to users is the next step in the evolution of the computer software and one that is well suited for use with body-worn computers. -3- 4 BUSINESS STRATEGY The Company's objective is to be the leading provider of voice- activated, hands-free mobile computing systems and related software solutions to enhance productivity in a wide variety of applications for commercial, industrial and military customers. To achieve this objective, the Company intends to pursue the following strategies: Provide Custom Software Solutions for Diverse Customer Needs. The Company intends to continue the development, or acquisition of, software toolkits enabling its customers to more rapidly create customized software applications for use with the Mobile Assistant(R) series and on a stand-alone basis. These toolkits will be designed to provide prepackaged application expertise that incorporates the end user's existing programs, procedures and technical documentation, thereby permitting the cost-effective development of productivity-enhancing software applications by customers. The Company believes that revenues from custom software and other application development toolkits will become an important contributor to operating margins in the future. Penetrate Target Markets Through OEMS, VARs and Direct Sales. The Company believes that its mobile computing technology is especially well suited for the repair and maintenance of complex commercial, industrial and military equipment and facilities. The Company intends to penetrate its target markets through effective use of original equipment manufacturers ("OEMs") and value-added resellers ("VARs") that demonstrate comprehensive market knowledge in those markets. Through the use of approved OEMs and VARs, the Company intends to leverage internal marketing and sales resources, and achieve rapid foreign and domestic market penetration resulting in a diversified customer base. Achieve and Maintain Technology Leadership. The Company is committed to achieving and maintaining technological superiority of the Mobile Assistant(R) series and its other mobile computing products through the continuous reassessment of product performance and the utilization and integration of state of the art hardware and software technologies. The Company believes that the substantial expenditure of time and effort in developing the Mobile Assistant(R)II has resulted in a set of core competencies which provide the Company with a solid foundation in the hands-free mobile computing industry. The Company intends to maintain this advantage through ongoing research and development, which will ensure that the Mobile Assistant(R) series will continue to provide a full range of PC capabilities, including two-way video communication and access to the Internet, intranets, remote databases and other computerized reference resources. Commitment to Open Architecture. The Company utilizes standard PC hardware and software architectures and designs its products using open systems technologies, including industry standard operating systems and open system computer platforms. The Company continually evaluates the feasibility of integrating its software and hardware products with new technologies as these are developed and accepted in the marketplace. The Company anticipates that its current products will be upgraded to incorporate, and its future products designed using, open architectures to allow use with existing and emerging standards in hardware and software technology. Leverage Core Competencies. The Company believes its core competencies, which have been developed since its inception, are the integration and adaptation of innovative computer hardware and software technologies and related services into hands-free mobile computing products that enhance end user productivity. The Company will seek to expand applications for its technologies and to capitalize on the breadth of its expertise by assisting its customers in the development of new hardware and software products. Consistent with this strategy, the Company will continue to focus on integration of hands-free mobile computing hardware with internally developed, or acquired, custom software applications and hardware products. Develop and Strengthen Strategic Alliances. The Company has established and intends to continue to establish strategic alliances with selected VARS, OEMs and hardware, service and software vendors. The benefits that the Company receives from these associations include access to a larger potential customer base and to complementary technologies, and reduced capital investment through utilization of outside resources. The Company currently has strategic supplier relationships with Hi-Tech Manufacturing ("HTM"), which manufactures the Mobile Assistant(R)II computing units, and Greenway Technologies, which manufactures head-mounted displays to the Company's -4- 5 proprietary design. In March 1996, Rockwell International, which manufactured the computing unit utilized in the Mobile Assistant(R), licensed from the Company the right to manufacture and market mobile computers utilizing certain intellectual property and related technical know-how which has been developed by the Company. The Company has been pursuing, and will continue to pursue, additional strategic associations to enhance its product offerings and expand its marketing activities. PRODUCTS AND PRODUCT DEVELOPMENT The Company's principal existing and proposed products and applications are summarized in the following table.
==================================================================================================================== PRODUCT NAME DESCRIPTION/FUNCTION APPLICATIONS - -------------------------------------------------------------------------------------------------------------------- MOBILE ASSISTANT(R) Body-worn, hands-free, voice-activated Hands-free access to information while SERIES INTEGRATED battery powered integrated hardware and performing tasks in conditions that require MOBILE COMPUTING software computer system utilizing a head- full mobility. SYSTEM mounted display. - -------------------------------------------------------------------------------------------------------------------- CELLULAR AND RADIO Used for hands-free access with cellular Hands-free access to information stored on COMMUNICATIONS phones or radio links for wireless databases, the Internet and intranets, or TOOLKIT* communications anywhere in the world through to audio and/or video communications on telephone, modem or Internet lines. remote work sites. - -------------------------------------------------------------------------------------------------------------------- VOICE USER Software tools and procedures to integrate Hands-free, voice-activated applications INTERFACE(TM) voice navigation capability into existing with accurate voice navigation and a simple TOOLKIT* applications or applications under voice interface on the Mobile Assistant(R) development or for a computer system. series or other computer platforms - -------------------------------------------------------------------------------------------------------------------- AUDIOVISUAL Camera and communication hardware with Capture, transfer or communication of audio COMMUNICATIONS voice-controlled software to allow and/or video information on a real time or TOOLKIT* hands-free capture, transmission and delayed basis. reception of video information and two-way teleconferencing. - -------------------------------------------------------------------------------------------------------------------- DATA CONVERSION Software standards and procedures on Conversion of information or existing hard TOOLKIT* converting hard copy, digital, audio and/or copy, digital, audio and/or video visual data into suitable form for inclusion information to neutral format. in a neutral database for operation. - -------------------------------------------------------------------------------------------------------------------- MICROCOSM VOICE* A software shell for consistent navigation Creation of maintenance, repair and through, and presentation of, existing operation applications by linking existing computer files regardless of original computer files without reprogramming or format, hardware or software. altering data in existing files or databases. - -------------------------------------------------------------------------------------------------------------------- PRESENTATION MANAGER* Graphical user interface and navigation Expansion of the scope of information software toolkit for user customization of available on job sites allowing performance applications with a consistent, easy-to-use of an expanded range of tasks with minimum interface to the user. Uses HTML software training by accessing information utilizing similar to that used on the Internet. a consistent methodology and format. ====================================================================================================================
-5- 6
==================================================================================================================== PRODUCT NAME DESCRIPTION/FUNCTION APPLICATIONS - -------------------------------------------------------------------------------------------------------------------- MOBILE COUNTER(TM)* Bar-code readers combined with software and Performance of continuous or periodic voice recognition to interface with hands-free counting and inspection of customized and existing inventory inventories with minimum personnel, time applications. and training. ====================================================================================================================
* Product under development. The Mobile Assistant(R) series is a combination of hardware and software specifically designed for body- worn mobile computing. A patent has been issued by the U.S. Patent and Trademark Office regarding certain aspects of the Mobile Assistant(R) series. In order to address the market, which the Company believes exists for body-worn mobile computers, the Mobile Assistant(R) series has been designed with four key features: - Compact, lightweight and rugged hardware specifically designed for mobile, body-worn use - Easy to use human interface and expert systems - Voice command control - Head-worn miniature display Compact Hardware for Mobile, Body-Worn Use. The Mobile Assistant(R)II currently utilizes primarily off-the-shelf miniaturized hardware components in a body-worn computing package weighing approximately two pounds. Design features of the Mobile Assistant(R)II currently include: - "586" computer running at 133 MHz - Extended Data Output EDO RAM (currently ranging from 8 Mb to 32 Mb) - Internal hard disk (currently ranging from 810 Mb to 2.1Gb) - Protected internal dual PC Card readers (industry-standard peripheral cards) - Enclosure to allow use in a wide range of environmental conditions - Advanced-technology battery and power management - Serial, parallel, keyboard and printer ports and infrared (industry standard IrDA) ports - Compatibility with DOS, Windows(R) 3.11(TM), Windows(R) 95, Windows(R) NT(TM) and SCO UNIX(R) operating systems - Integrated pointing device (mouse) The base system Mobile Assistant(R)II utilizes advanced nickel metal hydride batteries to provide an estimated three to four hour use before recharging. Spare batteries also can be carried on the user's belt to provide additional use time. The Company also offers lithium-ion batteries that provide an estimated six to eight hour use before recharging. -6- 7 As a full-featured PC, the Mobile Assistant(R)II has external serial and parallel ports, and ports for a keyboard, printer and monitor to allow for independent use as a desktop PC. The Mobile Assistant(R)II has a modular design for the incorporation of a wide range of capabilities including a portable CD ROM reader, a bar code reader, a battery- operated printer, still and motion video cameras, global positioning technology, cellular and radio frequency communications and interfaces for medical and test equipment. Easy to Use Human Interface and Expert Systems. The presentation and means of navigation for Mobile Assistant(R) series applications are being developed based on designs which served as a model for use by the United States Department of Defense and several United States federal agencies. Using a United States federal secure network similar to the internet, and with consistent screens and navigation techniques, this software allows personnel from one agency to easily access the information gathered by another agency, regardless of the computer platform or operating system used. Previously, this benefit was unavailable largely because of the learning time required for an analyst at one agency to learn other agencies' presentation and navigation methods. Voice Command Control. The Mobile Assistant(R)II supports state-of-the-art voice recognition software, hardware and algorithms to communicate digitized speech as input to the processor through an integrated analog-to-digital/digital-to-analog circuit. Significant user training generally is not required because the operable vocabulary is created in advance to be recognizable by a wide range of users. The system can be programmed to "learn", on the fly during real-time field use. The speaker-independent approach works well for the menu and button-driven programs used in the Mobile Assistant(R)II. System accuracy is improved greatly since the words and phrases for each menu screen can be predetermined, preoccupied and used to limit recognition ranges to the screen at hand. An integrated pointing device (mouse) is installed in the Mobile Assistant(R)II for environments where voice navigation is not possible. The combination of voice recognition and head-worn display provides the user of the Mobile Assistant(R)II with hands-free access to information and the ability to apply this information to operations and tasks with direct lines of sight and tactile access. Head-Worn Miniature Display. The Mobile Assistant(R)II uses a lightweight, head-worn miniature display designed by the Company, which currently is offered in monochrome 640 X 480 pixel (VGA) 256 gray scale resolution. It is anticipated that this display will be offered in the future by the Company in color VGA, monochrome 800x600 pixel (SVGA) and 1280 X 1024 pixel resolution, color SVGA and eventually in color resolutions exceeding those planned for High-Definition TV. All displays are approximately one square inch in size and use advanced optics to present an image to the user that is equivalent to a 15" desktop monitor at a distance of two feet. These displays are available in monocular form, and can be worn on a mounting device similar to a runner's visor or sunglasses, or on helmets, hardhats, soft baseball caps or similar headgear. These high quality, miniature displays present information in a heads-mounted display format without completely occluding vision. Development of Software Packages. Initially, development of software designed for use with the Mobile Assistant(R) series was targeted primarily at specific military uses. The Company has identified the proprietary software packages described in "Business -- Products and Product Development." MARKETING AND SALES Markets The Company's marketing efforts are designed to increase awareness of and demand for its products in the commercial, industrial and military markets. The following are examples of selected horizontal and vertical markets that initially are being, or will be, addressed by the Company: Commercial Maintenance and Repairs. Information from the United States Bureau of Labor Statistics and Bureau of Census indicates that as of 1996 there were more than 5,460,000 commercial mechanics and technicians in the United States, all of which the Company believes are potential users of the Mobile Assistant(R) series and the Company's other products. There are many sources of savings available -7- 8 from use of the Mobile Assistant(R) series and the Company's other products in maintenance and repair operations such as: less formal training is required for a similar level of performance, the time required for diagnostic and repair tasks is reduced as "just in time" refreshers and improved technical information can be provided, and personnel can address a wider range of complex tasks or products with the same level of basic training. While these savings can be realized in most industries, the Company anticipates that these savings will be most immediate and apparent in those industries that require a large investment in equipment and machinery, including the transportation, automotive, construction, power generation, health services, agriculture and the military. In industries such as construction or mining, the Company believes downtime on critical equipment can cost over $75,000 per day. Accordingly, a reduction measured in minutes or hours of downtime in these industries can, in the Company's view, provide ample cost justification for a Mobile Assistant(R)II. The telecommunications industry is expected to be a prime candidate for mobile computing systems given the industry's complex technologies, increased competition and assets spread over a wide geographic area. The Mobile Assistant(R)II can provide needed knowledge to workers on the top of a telephone pole, at a remote relay station or in a conduit tunnel. Crew locations can be monitored and coordinated in the field with the Mobile Assistant(R)II through optional global positioning system technology. Crews at remote locations can consult with experts using two-way audio and/or video communications. Healthcare. It is estimated that over 13.9% of the U.S. Gross Domestic Product, or $1 trillion, is spent annually on healthcare, with an estimated 25% of such expenses consumed by administrative expenses. According to the National Center for Health Statistics, United States, 1994, the United States has over 6,000 hospitals and over 540 health maintenance organizations. According to the United States Department of Labor, in 1994 there were approximately 4,714,000 healthcare workers in the United States. The Company believes that many of the current processing and data systems used in healthcare, both in institutions and in the field, are not well developed or integrated and that hands-free mobile computing systems could reduce expenses and increase efficiency in this industry. The Mobile Assistant(R)II is believed to present great potential in field medical operations by providing on-board and remote diagnostics, audio and/or video communication with doctors for emergency procedures, and transmission of locations for helicopter pickup through global positioning systems integrated into the Mobile Assistant(R)II. Another anticipated benefit of the Company's hands-free mobile computing technologies is that fewer healthcare personnel will be needed to perform complex tasks. By providing remote delivery of medical information, the Company's hands-free mobile computing systems can become a key component within both managed care and telemedicine organizations, which are two key submarkets developing within the healthcare industry. Education. The Company believes that its mobile computing systems are well suited for educational applications. The Mobile Assistant(R)II is especially suited for hands-free applications, such as laboratory work, field research and dissections and has the potential to serve as a mobile student workstation. In addition, it can provide an ideal computing and control platform for special education and handicapped needs. Military. There are several potential military applications for the Company's hands-free mobile computing systems, including intelligence, maintenance and field operations. The military has long been an early adopter of advanced weapons technologies and, as a result, was one of the first sectors to experience problems with the ability of personnel to maintain, diagnose and repair the advanced technology employed in both weapons and equipment. These problems have been compounded by the downsizing of the United States military and related budget constraints. As a result, even greater pressure will be placed upon the military to maintain its equipment and weapons platforms with fewer personnel. The Company believes that most of the estimated 700,000 military maintenance personnel in the United States could be made more efficient and productive by the Company's hands-free mobile computing systems. -8- 9 The United States military's increasingly sophisticated weapon systems require volumes of operational and technical manuals and have dramatically increased the importance of maintenance. The United States Army has purchased the Mobile Assistant(R) and has tested its use in the maintenance and repair of the AH64 Apache Attack helicopter. The Apache can send and receive maintenance data via an industry standard electrical interface which can be read by an optional interface for the Mobile Assistant(R). Operating and performance data can be downloaded directly from the Apache and the Mobile Assistant(R) can be used to diagnose existing and potential maintenance and repair problems. The Company anticipates that manufacturers of complex military equipment increasingly will incorporate integrated data collection and transmission capabilities into their technologies to reduce downtime, repair and maintenance related costs. The ability to deliver information to soldiers in combat field operations is the focus of several development programs sponsored by the United States Army. The Army has been conducting simulated combat maneuvers using body-worn computing components, including those provided by the Company, to determine effectiveness for use in coordinating troop locations and movements, determining enemy locations, and using global positioning systems to provide coordinates for artillery, helicopter pickup and air support. Marketing Because the Company's products are frequently combined with products from other manufacturers to form integrated information systems, the Company believes that it is more effective to sell principally through VARs with defined market niche expertise and presence as well as to end users. The Company believes that by forming relationships with VARs and OEMs who supply various submarkets and types of end users, serve customers or have in-place sales and distribution channels that identify new customers and sales opportunities, the Company is able to reach end users more rapidly in a variety of industries. To ensure VAR and OEM capabilities, the Company intends to offer detailed in-house training sessions to prepare and update personnel for field sales and training. In addition, the Company is developing comprehensive sales and operations manuals to be used by VARs and OEMs. The Company's marketing and sales employees are responsible for implementing direct marketing plans and sales programs, coordinating sales activities with VARs and OEMs and customer service. Sales and Backlog As of December 31, 1996 the Company had sold and delivered approximately $1.2 million of Mobile Assistant(R) systems since its commercial introduction, and had a purchase order backlog of approximately $99,000 which the Company anticipates will be shipped prior to June 30, 1997, although there can be no assurance of shipment by such date. Customers who have placed orders for units in the past include, among others, AT&T, Eaton Corporation, Battelle Memorial Institute, PRC Inc., SRI International, Rockwell International, Martin Marietta (now Lockheed Martin), IAI Elta Electronics, Bently Nevada Corporation, Genesis Technology Group, Inc. and the United States Army. Purchase orders are cancelable by the customers without penalty and are not binding upon the customer. At June 30, 1996, the Company reported a backlog of $1,250,000, which included approximately $606,000 in orders from Rockwell and $641,000 in orders from Neurosystems. The Rockwell order was cancelled in connection with the development of their system under the license from the Company and this amount was removed from backlog. After delays by Neurosystems in scheduling shipment dates for the delivery of the Mobile Assistant(R), the Company removed this amount from backlog. Between June 30, 1996 and December 31, 1996, approximately $447,000 of orders were booked and $348,000 of products were shipped. -9- 10 In the quarter ended December 31, 1997, Company management decided to emphasize the Mobile Assistant(R)II over the Mobile Assistant(R) to better address those customers who needed the higher capacity and speed of the Mobile Assistant(R)II. This decision resulted in a low level of bookings for that quarter as the Company does not accept purchase orders unless the delivery of those purchase orders with high-quality product in a timely manner can be reasonably assured. When the Mobile Assistant(R)II is in full production, which Company management currently expects will be in the quarter ending June 30, 1997, the Company will be in a position to accept a greater number of purchase orders and expects that bookings and backlog will increase at that time. Rockwell International License Agreement In March 1996, Rockwell International, which manufactured the computing unit utilized in the Mobile Assistant(R), and the Company entered into a non-exclusive five-year license agreement (the "License Agreement"). Pursuant to the License Agreement, Rockwell International has been granted the nonexclusive worldwide (excluding Germany and Japan) rights to manufacture, sell, distribute, lease or repair under the Rockwell International name portable computers meeting certain operating specifications utilizing and limited to the technical information and intellectual property (including patent) rights which have been developed by the Company as of the effective date of the License Agreement with regard to the Mobile Assistant(R). The License Agreement provided for initial consideration of $1,695,000, which consisted of $300,000 in cash and the release of the Company from an obligation to pay Rockwell International $1,395,000 pursuant to a purchase order between the Company and Rockwell International. In addition, Rockwell is obligated to pay royalty payments to the Company through August 31, 2001 for each product Rockwell International sells under this license. Pursuant to the License Agreement, Rockwell International is obligated to provide the Company with computing units meeting certain specifications on price, performance and delivery terms no less favorable than offered by Rockwell International to any other customer. Upon the termination of the License Agreement pursuant to its terms, Rockwell International will receive an irrevocable, unrestricted, perpetual license to certain of the Company's intellectual property rights related to mobile computers including data, designs, methodology, processes and procedures as granted in, and as of the effective date of, the License Agreement, with the exception of manufacturing rights in Germany and Japan. While the Company's patent counsel has advised the Company that this License Agreement is not directly dependent on the Company's patent position, an adverse determination by the Patent Office with respect to the pending reexamination of the Company's patent for the Mobile Assistant(R) series or any other material adverse development concerning such patent or the Company's other intellectual property rights could have a material adverse effect upon the Company's future rights under the License Agreement. KEY SUPPLIERS The Company currently has subcontracted the manufacture of the body-worn computing unit, headset and battery portions of the Mobile Assistant(R)II unit to third-party vendors. These components are currently assembled and integrated with the software applications for the Mobile Assistant(R) at the Company's headquarters, and the Company intends to outsource the final assembly, integration and test functions during the coming fiscal year to allow for the shipment of products directly to customers. The Company currently has an agreement with HTM for the manufacture and supply of the body-worn computing unit of the Mobile Assistant(R)II. HTM purchases and manages parts and components inventory, manufactures computer boards, and assembles and tests the body-worn computing unit of the Mobile Assistant(R)II. HTM also provides warranty coverage and warranty service for the body-worn unit. Per the agreement, HTM will only order material pursuant to and based upon the Company's purchase orders. The agreement between HTM and the Company is terminable by mutual agreement of the parties. Under the terms of the License Agreement, Rockwell International is obligated to provide the Company with processing units and body-worn computing systems on the most favorable pricing, system performance and delivery terms available to any Rockwell International customer. The Company has purchased head-mounted displays ("HMD") from Kopin for the Mobile Assistant(R) at a fixed unit cost pursuant to an initial agreement dated July 14, 1994 and an interim agreement which expired in August 1996. To date, a new contract has not been completed and there can be no assurance that the Company and Kopin will reach a mutually satisfactory agreement for the sale of head-mounted displays subsequent to the expiration of the interim agreement or pursuant to the initial agreement. The Company has designed a proprietary HMD for both the Mobile Assistant(R) and the Mobile Assistant(R)II that is being manufactured by Greenway Engineering using purchased and fabricated parts. Greenway is contracted to purchase and manage parts and components inventory, manufacture computer boards, and assemble and test the HMD of the Mobile Assistant(R)II, as well as obtain Federal -10- 11 Communications Commission certification for the Mobile Assistant(R)II system Most of the parts and components for the Mobile Assistant(R)II are off-the-shelf PC components that are available in high quantity from multiple vendors. The Company uses the Active Matrix Liquid Crystal Display ("AMLCD") from one supplier in its HMD and is currently redesigning the HMD to have the ability to use AMLCDs from additional suppliers. Custom-designed components and Application Specific Integrated Circuits are being utilized to reduce weight, size and power consumption of the Mobile Assistant(R) as well as to increase its capabilities and performance. PRODUCTION Since its IPO, the Company has taken steps to finalize the development of the Mobile Assistant(R)II and prepare for full-scale production. Molds for cases and tooling for production have been developed and Company management currently expects that full-scale production will begin during the quarter ending June 30, 1997. Initial production of high-technology products, such as the Mobile Assistant(R)II, involves a number of complex steps and delays in initiating production to ensure that the product meets quality criteria are common in the high-technology industry. If the start of full-scale production of the Mobile Assistant(R)II is delayed past the quarter ending June 30, 1997, such delay will have an adverse effect on revenues for the twelve months ending December 31, 1997. See "Management's Discussion and Analysis". WARRANTIES The Company currently provides customers with a parts and labor warranty for 90 days and a one-year warranty on parts only. Warranty services for the Mobile Assistant(R) are provided by Rockwell International and warranty services for the Mobile Assistant(R)II are provided by HTM. Warranty services for the Kopin HMD are provided by Kopin, and warranty services for the Company's HMD are provided by Greenway Engineering, except for the AMLCD, which is provided by its manufacturer. COMPETITION The Company anticipates that ultimately it will face widespread competition from other portable computing systems manufacturers. Several other companies are engaged in the manufacture and development of body-mounted or hand-held computing systems which can also compete with the Mobile Assistant(R) series, including InterVision, Phoenix Group, ViA Inc., Texas Microsystems, Telxon, Norand and a consortium of Litton and TRW. Personal digital assistants and laptop and notebook computers also are products that could compete against the Mobile Assistant(R) series in applications where hands-free, voice-activated operation is not required. Some of these computers are manufactured by major domestic and foreign computer manufacturers which possess far more resources than the Company and can be expected to compete vigorously with the Company for the market at which the Mobile Assistant(R) series is directed. The Company is aware of at least three competitors which have introduced hands-free mobile computing systems that compete directly with the Mobile Assistant(R) series. There can be no assurance the Company will be able to compete successfully against its competitors or that the competitive pressures faced by the Company will not adversely affect its financial performance. INTELLECTUAL PROPERTY The Company relies on a combination of patent, trade secret, copyright and trademark laws and contractual restrictions to establish and protect its proprietary rights. The Company has entered into confidentiality and invention assignment agreements with its employees, and enters into non-disclosure agreements with its suppliers, VARS, OEMs and actual and potential customers to limit access to and disclosure of its proprietary information. The Company has registered its Mobile Assistant(R) and Xybernaut(R) trademarks on the Principal Register of the United States Patent and Trademark Office ("Patent Office"). -11- 12 In April, 1994 U.S. patent number 5,305,244 ("hands-free, user-supported portable computers") (the "Patent") for the Mobile Assistant(R) series was granted to the Company. This patent was previously assigned to the Company by several employees of the Company. In September 1995, the Company received a notification from the Patent Office entitled "office action in reexamination," which indicated that certain claims under the Patent were subject to reexamination and were preliminarily rejected. The reexamination of the Patent was initiated as a result of a request from one of the Company's competitors. In May, 1996 the Patent Office issued a Notice of Intent to Issue Reexamination Certificate and Reexamination Reasons for Patentability/Confirmation with respect to the September 1995 reexamination wherein it concluded that the Company's claims are patentable with respect to the issues raised by that request for reexamination. This Reexamination Certificate was issued in July 1996. On April 16, 1996, a second reexamination request was filed with the Patent Office, by the same competitor of the Company which filed the first such request in September 1995, and in September 1996 the Company received a notification from the Patent Office entitled "office action in reexamination," which indicated that certain claims under the Patent were subject to reexamination and were preliminarily rejected. The Company has been advised by its patent counsel, who is the Company's Secretary and a director, that it is common for the Patent Office to grant reexamination requests, which ordinarily are accompanied by a preliminary rejection. Once a reexamination request is granted, the patent holder has an opportunity to respond, both in writing and in person, with respect to the reexamination and preliminary rejection. The Company filed a written response to this request for reexamination and preliminary rejection on November 25, 1996. Subsequently, representatives of the Company, including legal counsel, met with representatives of the Patent Office to discuss the status of the matter. The Company has been advised by its patent counsel handling this matter that even if the Company's patent claims ultimately are rejected, the Company has pending other patent applications which the Company believes it may rely upon to assist in the protection of the Company's proprietary rights. However, there is no assurance that any patent will be granted to the Company or upheld in the future. The Company has notified several of its competitors of the existence of the Patent, which the Company's counsel believes may have been infringed by each of such competitors. In the event that the second reexamination request for the Patent is upheld, the Company intends to take any and all appropriate measures, including legal action, necessary to maintain and enforce its rights under the Patent and to recover any damages suffered as a result of any alleged infringement. A second patent application for related mobile computing technology was filed on October 2, 1995 in the United States by certain employees of the Company. Further, eight additional patent applications have been filed in the United States since the Company's initial public offering ("IPO"). All patents obtained by Company employees under pending and future applications have been and will be assigned to the Company under existing invention agreements. The Company also has applied for patent protection for its hands-free, body-worn mobile computing technology under the laws of European countries as well as The People's Republic of China, Japan, Republic of Korea, Republic of China (Taiwan), Canada and Australia. RESEARCH AND DEVELOPMENT Research and development expenditures for the year ended December 31, 1996 and for the nine months ended December 31, 1995 were $1,773,015 and $910,182, respectively. These expenditures consist primarily of personnel engaged in the research and design of new hardware and software products, test components, consulting fees, equipment and purchase software costs required to conduct the Company's development activities. -12- 13 EMPLOYEES AND CONSULTANTS As of December 31, 1996, the Company had 38 full-time and 5 part-time employees, and had consulting arrangements with 3 individuals or firms for advice and assistance on selected technical and business issues. Of the Company's full-time employees, 3 are executive officers, 10 are technical and administrative support employees, 9 are engaged in research and development, 3 are engaged in assembly and testing and 13 are engaged in sales and marketing. None of the Company's employees are represented by a union and management believes that the Company's relations with its employees are good. The Company has entered into a consulting agreement with Dr. Steven A. Newman, a director of the Company, whereby Dr. Newman has agreed to provide negotiating, strategic planning, financial advisory and general management services to the Company through 1998. The agreement originally provided for a fee of $1,000 per day or $5,000 per week for services performed pursuant to statements of work approved by the Company's President or Board of Directors. To minimize expenses to the Company under this contract, the agreement was subsequently modified to provided for a fixed monthly fee of $12,500 and a grant of 50,000 warrants, each to purchase one share of the Common stock of the Company (the "Common stock") at $2.38 per share and expiring on January 1, 2003. Dr. Newman's consulting agreement provides for an automatic three-year renewal unless terminated in writing by either party on or before October 31, 1998. Dr. Newman's consulting agreement also provides for termination at his option in the event of a change of control (which is defined as Edward Newman ceasing to serve as Chairman of the Company's Board of Directors or its President and Chief Executive Officer) and that upon any such termination Dr. Newman is entitled to at least two years of compensation pursuant to his agreement. Services rendered by Dr. Newman will be subject to periodic review by the Board of Directors. Dr. Newman received payments in 1996 for accrued salaries and expenses related to his employment with Tech Virginia and provides consulting services to Tech Virginia without contract at a fixed payment of $1,000 per month. In 1996, the Company entered into a two-year consulting agreement with Victor J. Lombardi whereby Mr. Lombardi agreed to provide business development and marketing services to the Company in exchange for warrants which entitle Mr. Lombardi to purchase 100,000 shares of Common stock at $6.00 per share through December 31, 1999. In May 1995, the Company entered into a three-year consulting agreement with Dr. Andrew Heller whereby Dr. Heller agreed to provide strategic planning, business management, strategic product development and market and financial introductions services to the Company. In consideration of services rendered by Dr. Heller to the Company prior to that time and as an inducement to enter into the consulting agreement, Dr. Heller was granted 100,000 shares of Common stock which were valued at $5 per share for financial reporting purposes. ITEM 2. DESCRIPTION OF PROPERTY. The Company's office and development facility consists of 10,303 square feet located at 12701 Fair Lakes Circle, Fairfax, Virginia. The Company's current lease is for a three-year term expiring November 1997 and requires monthly rent of approximately $13,750. The lease is renewable at the Company's option for an additional three years. The Company leases approximately 2,900 square feet located at 164 Townsend Street, San Francisco, California which is used as the Company's design and prototype center. The initial lease term is for twelve months ending September 1997 and requires monthly rent of $4,445 plus a pro-rata share of building utilities and services. The lease is renewable at the Company's option for an additional two year period. To minimize lodging expenses for visiting employees and consultants, the Company leases an apartment located at 4401 Sedgehurst Drive, #301, Fairfax, Virginia 22033 pursuant to a month to month lease requiring monthly rent of $975. The Company must give at least 45 days prior written notice before termination of the lease. In addition, the Company also leases an apartment for the same purpose located at 12112 C Tall Shadows Lane, Fairfax, Virginia. The lease is for a twelve and a half month period expiring December 1997 and requires monthly rent of $935. The Company must give at least 30 days prior written notice before termination of the lease. The Company leases approximately 650 square feet of office space at FM Building 102, 7-39-5 Nishikamata, Ohta-ku, Tokyo 144, Japan, for use as its Far East representative office. The initial lease term is for two years ending April 1999 at a base rent of approximately $1,700 per month and is renewable at the Company's option for an additional two year period. -13- 14 ITEM 3. LEGAL PROCEEDINGS. The Company is not a party to any litigation and is not aware of any pending or threatened litigation. A second "office action in reexamination" has been filed with the Patent Office regarding the Company's claims under the Patent for the Mobile Assistant(R) series. See "Business - Intellectual Property." ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. None. PART II ITEM 5. MARKET FOR COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. On July 18, 1996, the Company successfully completed its IPO and sold 2,415,000 Units at a price of $5.50 per Unit. Each Unit consisted of one share of Common stock and one warrant ("Warrant") to purchase a share of Common stock at $9.00 ("Unit"). Units were traded on the NASDAQ SmallCap Market from July 18, 1996 until August 20, 1996, at which time the Units were delisted from the exchange. The Common stock and Warrants have traded separately on the NASDAQ SmallCap Market since July 29, 1996. As of December 31, 1996, there are approximately 1,200 holders of Common stock. There have been no cash dividends paid on the Company's Common stock to date and the Company does not anticipate the payment of dividends in the foreseeable future. The table below sets forth by quarter, for the year ended December 31, 1996, the high and low market prices of the Company's Units, Common stock and Warrants.
Units Common stock Warrants High Low High Low High Low ---- --- ---- --- ---- --- 1st Quarter 1996 -- -- -- -- -- -- 2nd Quarter 1996 -- -- -- -- -- -- 3rd Quarter 1996 19 9 1/4 12 4 1/2 6 1/4 1 3/8 4th Quarter 1996 N/A N/A 4 7/8 1 1/2 2 1/4 5/8
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW The Company was incorporated as a Virginia company in October 1990 and commenced active operations in November 1992 as Computer Products & Services, Inc. to develop, manufacture and sell mobile computing systems. Since commencing operations, the Company has incurred significant operating losses. In April 1996, the Company was merged with Xybernaut Corporation in order to change the company name and reincorporate in Delaware. In July 1996, the Company successfully completed the IPO of its Common stock and Warrants which are traded on the NASDAQ SmallCap Market. -14- 15 The Company has derived its revenues from sales of the Mobile Assistant(R), less volume discounts, and from consulting services related to the Mobile Assistant(R), application software for the Mobile Assistant(R), and other computer platforms. During the year ended December 31, 1996, the Company derived approximately 85% of its revenues from sales of the Mobile Assistant(R), as well as fees related to licensing agreements, and 15% of its revenues from consulting services. During the nine months ended December 31, 1995, the Company derived approximately 65% of its revenues from sales of the Mobile Assistant(R) and 35% of its revenues from consulting services. In the future, the Company expects to derive additional revenues from the sale of software development toolkits, software runtime modules and additional optional components of the Mobile Assistant(R) series. Revenues from sales to customers, VARs and OEMs are recognized when products are shipped. The Company's sales agreements generally do not involve any significant obligations to customers subsequent to delivery except as provided in separate service or support agreements. Revenues from future software sales will be recognized at the time the software master is delivered in accordance with Statement of Position No. 91-1. Cost of sales include the cost of components for the Mobile Assistant(R) series, direct labor and overhead expense, manuals, diskettes and duplication, packaging materials, assembly, paper goods and shipping. The Company intends to continue expenditures on research and development of additional products, including software development toolkits. Research and development consist primarily of personnel engaged in the research and design of new products, test components, consulting fees and equipment costs required to conduct the Company's development activities. Software development costs are expensed as incurred until technological feasibility is established in accordance with Statement of Financial Accounting Standards No. 86 (Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed), after which any additional costs are capitalized until the software is ready for release. The Company has expensed all software development costs to date. Research and development expenses for the year ended December 31, 1996 and for the nine months ended December 31, 1995 were $1,773,015 and $910,182, respectively, none of which was capitalized. The Company's consolidated financial statements, for all periods presented, include the results of operations of Tech Virginia, a wholly-owned subsidiary that supplies software and consulting services to the United States government and others. In July 1996, the Company exercised its option to purchase all of the capital stock of Tech Virginia for $50,000. The consolidated financial statements contain eliminations for all material transactions between the Company and Tech Virginia for all periods presented. The Company's consolidated financial statements do not contain a provision for income tax expense due to net operating losses since inception. Subject to realization, the Company has generated net operating losses that can be used to offset taxable operating income in the future. The Company's future operations, if profitable, will be subject to income tax expense not previously incurred by the Company (see Note 9 to Consolidated Financial Statements). At December 31, 1996, the Company had approximately $7,266,000 of net operating loss carry forwards for federal income tax purposes which expire in 2012. The use of these carry forwards may be limited in any one year under Internal Revenue Code Section 382 if significant ownership changes occur in the future. -15- 16 RESULTS OF OPERATIONS In connection with its IPO, the Company changed from a fiscal year ending March 31 to a fiscal year ending December 31, effective December 31, 1995. The following table sets forth certain consolidated financial data as a percentage of revenues for the year ended December 31, 1996 and the nine month period ended December 31, 1995.
YEAR ENDED NINE MONTHS ENDED DECEMBER 31, DECEMBER 31, ------------------ -------------------- 1996 1995 ---------------------- ------------------------- Revenues ............................. 100.0% 100.0% Cost of Sales ........................ 98.9 74.8 ------ ------ Gross margin ....................... 1.1 25.2 ------ ------ Operating expenses: Sales and marketing ................ 131.9 108.9 General and administrative ......... 197.4 260.2 Research and development ........... 162.2 258.1 ------ ------ Total operating expenses ............. 491.5 627.2 ------ ------ Interest income (expense) ............ 11.2 (5.3) ------ ------ Net loss ............................. (479.2)% (607.2)% ------ ------
YEAR ENDED DECEMBER 31, 1996 AND NINE MONTHS ENDED DECEMBER 31, 1995 Revenues. Revenues for the year ended December 31, 1996 were $1,093,341, an increase of $740,693, or 210%, compared to $352,648 for the nine months ended December 31, 1995. This increase resulted primarily from increased sales of the Mobile Assistant(R) as well as fees related to licensing agreements. Increased discounts on sales of the Mobile Assistant(R) resulted in a reduction of average selling prices and a corresponding reduction in overall gross margin. Cost of sales. The cost of sales for the year ended December 31, 1996 was $1,081,197, an increase of $817,576, or 310%, compared to $263,621 for the nine months ended December 31, 1995. This increase resulted primarily from increased sales of the Mobile Assistant(R) and an allowance to reduce December 31, 1996 inventory balances of the Mobile Assistant(R) to net realizable value due to the release of the Mobile Assistant(R)II. Research and development expenses. Research and development expenses for the year ended December 31, 1996 were $1,773,015, an increase of $862,833, or 95%, compared to $910,182 for the nine months ended December 31, 1995. This increase reflects the Company's ongoing research and development efforts, including the addition of new personnel, the operation of the design center in California, the internal development of a head-mounted display, the development of a new body-worn computing unit and head mounted display and planning and development for software toolkits. Sales and marketing expenses. Sales and marketing expenses for the year ended December 31, 1996 were $1,442,146, an increase of $1,058,186, or 276%, compared to $383,960 for the nine months ended December 31, 1995. This increase resulted mainly from increases in personnel, related travel, infrastructure costs to support sales, VAR training programs, customer service, additional marketing programs to support the launch of new products, and public and investor relations efforts, and expenses related to the establishment of a representative office in Tokyo, Japan and negotiations with potential licensees in Far East and Europe. -16- 17 General and administrative expenses. General and administrative expenses for the year ended December 31, 1996 were $2,158,212, an increase of $1,240,679, or 135%, compared to $917,533 for the nine months ended December 31, 1995. The increase reflects personnel costs and related expenses necessary to support the Company's business infrastructure, the amortization of issuance costs related to the private placement of the April 1996 Debentures and the November 1995 Debentures (collectively, the "Debentures"), and an increase in legal, consulting and travel expenses. Interest income (expense), net. Net interest income for the year ended December 31, 1996 was $122,693, an increase of $141,235 compared to net interest expense of ($18,542) for the nine months ended December 31, 1995. This increase is primarily the result of interest income from the investment of proceeds from the IPO plus the reversal of $25,000 for interest expense that was previously accrued for the Debentures but converted into stock upon the closing of the IPO, offset by $71,750 in interest costs related to the Debentures and loans of issuance fees for the Debentures. Net loss. As a result of the factors described above, the net loss for the year ended December 31, 1996 was $5,238,536, an increase of $3,097,346, or 145% compared to $2,141,190 for the nine months ended December 31, 1995. Although the Company was subject to taxation during the year ended December 31, 1996 and the nine months ended December 31, 1995, the Company incurred net losses during these periods and no provision for taxes was made. LIQUIDITY AND CAPITAL RESOURCES Since its inception until the completion of the IPO, the Company financed its operations from the private sale of its securities, from vendor credit and from short-term loans received from management, stockholders and others. From October 1994 to August 1995 the Company raised $1,243,476 from the private sale of shares of Common stock at $6.00 per share. In November 1995, the Company raised $1,505,000 through the private placement of the November 1995 Debentures and in April 1996, the Company raised $1,000,000 through the private placement of the April 1996 Debentures. The Company received $1,201,718 though the private sale of common stock and $2,143,642 from the November 1995 Debentures and the April 1996 Debentures net of offering costs. Placement fees in respect of the issuances of the Debentures of $270,500 were carried by the Company as interest-bearing loans and were repaid from the proceeds of the IPO. On July 18, 1996, the Company completed the IPO of its Common stock and realized net proceeds of $10,825,652 after related expenses. For the year ended December 31, 1996, the Company's operating activities used cash of $5,133,942 compared to $1,400,230 for the nine months ended December 31, 1995. The net use of cash during the year ended December 31, 1996 was primarily the result of a $5,238,536 net loss and an increase in assets of $879,570, offset by a $300,000 licensing fee of which $50,000 was taken into 1996 revenue, an increase in accounts payable and accrued expenses of $177,619, depreciation and amortization of $264,699 and a provision for write-down of inventory of $202,440. Cash used for investing activities for the year ended December 31, 1996 was $536,613, primarily the result of $315,257 for the acquisition of property and equipment, $114,618 related to obtaining and maintaining patents and $106,738 in capitalized tooling costs. Proceeds from the Company's financing activities for the year ended December 31, 1996 were $11,436,856 and consisted of $13,282,500 of gross proceeds from the IPO, $1,000,000 from the issuance of the April 1996 Debentures, and $340,000 from other notes and loans, offset by payments for issuance costs of $2,561,149 related to the IPO and Debentures and $591,161 in repayment of outstanding notes and loans. As a result of the above, cash and cash equivalents on hand as of December 31, 1996 was $6,274,967, an increase of $5,766,301 from the $508,666 of cash on hand as of December 31, 1995. For the nine months ended December 31, 1995, the Company's operating activities used cash of $1,400,230. The use of cash by operations for the nine months ended December 31, 1995 was primarily the result of a $2,141,190 net loss and $240,709 of cash used by inventories, offset by $671,500 of non-cash charges for Common stock issued for services and an increase in accounts payable and accrued expenses of $334,304. Cash used by -17- 18 investing activities in the nine months ended December 31, 1995 was primarily $33,958 for the acquisition of property and equipment and $45,998 related to the acquisition of patents. Proceeds from the Company's financing activities in the nine months ended December 31, 1995 consisted primarily of $1,505,000 raised through the sale of the November 1995 Debentures, $247,476 from the issuance of stock and $325,000 from other notes and loans of $185,924, offset by $98,608 in deferred financing expenses in connection with the Debentures and stock issuances and $138,732 in repayment of outstanding notes and loans. At December 31, 1996, the Company had no material capital commitments and working capital of $6,412,314. The Company anticipates that its working capital requirements and operating expenses will increase as the Company expands production and sales of the Mobile Assistant(R), continues to establish a full sales, service and marketing function, expands the Company's ongoing research and development efforts, and develops the support structure for these activities. The timing of increases in personnel, research and development expenses, the amount of working capital consumed by operations and competitive pressures on gross margins will impact the magnitude and timing of the Company's cash requirements. Absent closing any additional financings, the remaining proceeds from the IPO are currently expected to be sufficient to meet the Company's working capital needs and operating expenses until at least July 1997. To meet working capital needs thereafter, the Company intends to use funds from operations, to obtain a working capital line of credit, and/or complete additional financings. It is the opinion of the Company's management that additional funding arrangements are readily available to the Company and the execution of any such arrangement will depend on timing, market conditions and the final terms and conditions of such arrangements. Full production of the Mobile Assistant(R)II is expected to begin in the quarter ending June 30, 1997 and receivables from sales of the Mobile Assistant(R)II are expected to provide collateral for borrowing facilities at that point. Although there can be no assurance that such facilities will be available, the Company intends to seek to establish secured borrowing facilities at such time as appropriate collateral is available. The Company's management believes that the combination of cash on hand, operating cash flow, and outside funding will provide sufficient liquidity to meet the Company's cash requirements until at least March 1998. However, there can be no assurance that the Company can or will obtain sufficient funds from operations or from a working capital line of credit or from closing additional financings on terms acceptable to the Company. POSSIBLE IMPACT ON NEAR-TERM REVENUES The Company has agreements with third-party suppliers to manufacture and supply the body-worn computing unit, the head mounted display and the batteries for the Mobile Assistant(R)II. Full-scale production by these suppliers is expected to begin in the quarter ending June 30, 1997. In the event that the start of full-scale production is delayed for any reason, revenues for the year ending December 31, 1997 will be adversely affected. POSSIBLE NON-CASH FUTURE CHARGE In connection with the Company's IPO, the representative of the underwriters for the transaction (the "Representative") has required the Company's officers, directors and certain other stockholders to deposit an aggregate of 1,800,000 shares of Common stock, of which 1,707,210 are owned by directors and officers of the Company, into an escrow account (the "Escrowed Shares"). The Escrowed Shares will be subject to release to such stockholders in increments over a three-year period only in the event the Company's gross revenues and earnings (loss) per share for the 12-month periods ending September 30, 1997, 1998 and 1999 equal or exceed targets which have been established through negotiations with the Representative (the "Performance Targets"). If the Performance Targets are not met in any of the relevant 12-month periods (and the price of the Common stock has not met or exceeded the price described below), the Escrowed Shares will be cancelled and returned to the Company in amounts which have been agreed upon between the Representative and the Company for each period and canceled. In addition to the foregoing, all then Escrowed Shares will be released to the stockholders if the closing price of the Common stock as -18- 19 reported on the NASDAQ SmallCap Market following this offering equals or exceeds $11.00 for 25 consecutive trading days or 30 out of 35 consecutive trading days during the period ending September 30, 1999. In the event any Escrowed Shares held by officers, employees or consultants are released, the difference between the initial offering price and the market value of such shares at the time of release will be deemed to be additional compensation expense to the Company. If the price of the Common stock at the time of any release of the Escrowed Shares is greater than the value of the Common stock at the time of the IPO, an earnings charge could result which would have the effect of reducing or eliminating any earnings per share and could have a negative effect on the market price for the Common stock. The earnings per share target calculation will be based on the average number of shares issued and outstanding during each period, but excluding shares issued pursuant to the Representative's option to purchase units of Common stock and Warrants issued during the Company's IPO ("Unit") at a price of $9.075 per Unit (165% of the offering price of the Units) during a period of four years commencing one year from the closing of the IPO, extraordinary items, or compensation expense charged to the Company related to the release of the Escrowed Shares. Given the expected start of full-scale production in the quarter ending June 30, 1997, the Company's management believes that it is likely that the Company's gross revenues and allowable losses will not meet the Performance Targets for the 12-month period ending September 30, 1997. Accordingly, the release of the escrow shares for this period is only likely if the stock price equals or exceeds $11.00 for 25 consecutive trading days or 30 out of 35 consecutive trading days prior to September 30, 1997. If conditions are not met for release from escrow, then 300,000 shares of stock will be returned to the Company on September 30, 1997 and canceled, resulting in no earnings impact and a commensurately lower number of outstanding shares. ITEM 7. FINANCIAL STATEMENTS. Index to Financial Statements Report of Independent Accountants F-1 Consolidated Balance Sheets - December 31, 1996 and 1995 F-2 Consolidated Statements of Operations - Year ended December 31, 1996 and nine months ended December 31, 1995 F-3 Consolidated Statements of Stockholders' Equity (Deficit) - Year ended December 31, 1996 and nine months ended December 31, 1995 F-4 Consolidated Statements of Cash Flows - Year ended December 31, 1996 and nine months ended December 31, 1995 F-5 Notes to Financial Statements F-6
-19- 20 AUDITOR'S OPINION REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors of Xybernaut Corporation and Subsidiary We have audited the accompanying consolidated balance sheets of Xybernaut Corporation and Subsidiary (the Company) as of December 31, 1996 and 1995, and the related consolidated statements of operations, stockholders' equity (deficit), and cash flows for the year ended December 31, 1996 and the nine month period ended December 31, 1995. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Xybernaut Corporation and Subsidiary as of December 31, 1996 and 1995, and the consolidated results of their operations and their cash flows for the year ended December 31, 1996 and the nine month period ended December 31, 1995, in conformity with generally accepted accounted principles. McLean, VA March 31, 1997 F-1 21 XYBERNAUT CORPORATION CONSOLIDATED BALANCE SHEETS
December 31, December 31, 1996 1995 ------------- ------------- ASSETS Current assets: Cash and cash equivalents $ 6,274,967 $ 508,666 Accounts receivable 427,790 90,725 Inventories 402,381 249,950 Prepaid and other current assets 197,711 20,617 -------------- -------------- Total current assets 7,302,849 869,958 -------------- -------------- Fixed assets: Property and equipment, net of accumulated depreciation of $126,139 in 1996 and $75,508 in 1995 323,828 88,802 -------------- -------------- Other assets: Patent costs, net of accumulated amortization of $82,588 in 1996 and $31,017 in 1995 247,612 184,565 Debenture issuance costs, net of accumulated amortization of $0 in 1996 and $24,815 in 1995 - 196,542 Tooling costs 106,738 - Other 33,547 53,671 -------------- -------------- Total other assets 387,897 434,778 -------------- -------------- Total assets $ 8,014,574 $ 1,393,538 ============== ============== LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) Current liabilities: Notes and loans payable $ 7,849 $ 263,425 Accounts payable 250,944 420,801 Deferred licensing revenue (see note 8) 60,000 - Accrued expenses 571,742 224,266 -------------- -------------- Total current liabilities 890,535 908,492 -------------- -------------- Long-term liabilities: Notes and loans payable 44,080 72,999 Debentures - 1,505,000 Deferred licensing revenue (see note 8) 190,000 - -------------- -------------- Total long-term liabilities 234,080 1,577,999 -------------- -------------- Total liabilities 1,124,615 2,486,491 -------------- -------------- Commitments and contingencies Stockholders' equity (deficit): Common stock, $.01 par value 142,591 103,725 Authorized: 30,000,000 shares in 1996 and 16,001,500 in 1995 Issued: 14,259,112 shares in 1996 and 10,372,489 in 1995 Additional paid-in capital 15,520,245 2,337,663 Accumulated deficit (8,772,877) (3,534,341) -------------- -------------- Total stockholders' equity (deficit) 6,889,959 (1,092,953) -------------- -------------- Total liabilities and stockholders' equity (deficit) $ 8,014,574 $ 1,393,538 ============== ==============
The accompanying notes are an integral part of the consolidated financial statements. F-2 22 XYBERNAUT CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS
Year ended Nine months ended December 31, December 31, 1996 1995 ---------------- ----------------- Revenue: Product sales and leases $ 928,732 $ 227,793 Consulting and license 164,609 124,855 ---------------- ----------------- Total revenue 1,093,341 352,648 Cost of sales 1,081,197 263,621 ---------------- ----------------- Gross margin 12,144 89,027 Operating expenses: Sales and marketing 1,442,146 383,960 General and administrative 2,158,212 917,533 Research and development 1,773,015 910,182 ---------------- ----------------- Total operating expenses 5,373,373 2,211,675 ---------------- ----------------- Operating loss (5,361,229) (2,122,648) Interest income (expense), net 122,693 (18,542) ---------------- ----------------- Net loss $ (5,238,536) $ (2,141,190) ================ ================= Net loss per common and common equivalent shares outstanding $ (0.47) $ (0.21) ================ ================= Weighted average number of common and common equivalent shares outstanding 11,121,594 9,993,120 ================ =================
The accompanying notes are an integral part of the consolidated financial statements. F-3 23 XYBERNAUT CORPORATION CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
Xybernaut Tech Virginia CPSI ------------- ------------- ------------- Total Number of Number of Number of number of common stock common stock common stock common stock shares shares shares shares ------------- ------------- ------------- ------------- Balance, March 31, 1995 - 300 10,176,000 10,176,300 Shares issued - - 41,246 41,246 Shares issued for services and incentives - - 154,943 154,943 Net loss - - - - ------------- ------------- ------------- ------------- Balance, December 31, 1995 - 300 10,372,189 10,372,489 Merger between Xybernaut and CPSI 10,372,789 - (10,372,789) - Shares issued pursuant to IPO 2,415,000 - - 2,415,000 Shares issued pursuant to conversion of debentures 1,431,427 - - 1,431,427 Shares issued pursuant to redemption of warrants 20,000 - - 20,000 Shares issued for services and incentives 19,896 - 600 20,496 Acquisition of Tech Virginia - (300) - (300) Net loss - - - - ------------- ------------- ------------- ------------- Balance, December 31, 1996 14,259,112 - - 14,259,112 ============= ============= ============= =============
Total value of Additional Total common stock paid-in Accumulated stockholders' shares capital deficit equity ------------- ------------- ------------- ------------- Balance, March 31, 1995 $101,763 $ 1,317,434 $(1,393,151) $ 26,046 Shares issued 412 247,064 - 247,476 Shares issued for services and incentives 1,550 773,165 - 774,715 Net loss - - (2,141,190) (2,141,190) ------------- ------------- ------------- ------------- Balance, December 31, 1995 $103,725 2,337,663 (3,534,341) (1,092,953) Merger between Xybernaut and CPSI - - - - Shares issued pursuant to IPO 24,150 10,818,337 - 10,842,487 Shares issued pursuant to conversion of debentures 14,314 2,290,244 - 2,304,558 Shares issued pursuant to redemption of warrants 200 34,800 - 35,000 Shares issued for services and incentives 205 89,201 - 89,406 Acquisition of Tech Virginia (3) (50,000) - (50,003) Net loss - - (5,238,536) (5,238,536) ------------- ------------- ------------- ------------- Balance, December 31, 1996 $142,591 $15,520,245 $(8,772,877) $ 6,889,959 ============= ============= ============= =============
The accompanying notes are an integral part of the consolidated financial statements. F-4 24 XYBERNAUT CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended Nine months ended December 31, December 31, 1996 1995 ------------------ ----------------- Cash flows from operating activities: Net loss $ (5,238,536) $ (2,141,190) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 264,699 87,795 Provision for write-down of inventory 202,440 - Noncash charges for stock and options issued for services 89,406 671,500 Increase in assets: Inventories (354,871) (240,709) Accounts receivable (337,065) (73,891) Prepaid and other current assets (177,094) (14,623) Other assets (10,540) (23,416) Increase in liabilities: Accounts payable and accrued expenses 177,619 334,304 Deferred licensing revenue 250,000 - ------------------ ----------------- Net cash used in operating activities (5,133,942) (1,400,230) ------------------ ----------------- Cash flows from investing activities: Acquisition of property and equipment (315,257) (33,958) Acquisition of patents and related costs (114,618) (45,998) Capitalization of tooling costs (106,738) - ------------------ ----------------- Net cash used in investing activities (536,613) (79,956) ------------------ ----------------- Cash flows from financing activities: Proceeds from: Issuance of stock - 247,476 Initial public offering 13,282,500 - Debentures 1,000,000 1,505,000 Notes and loans 340,000 325,000 Payments for: Notes and loans (591,161) (139,076) Acquisition of Tech Virginia (see note 2) (33,334) - Intial public offering & debenture fees (2,561,149) (70,857) Common stock issuance costs - (27,751) ------------------ ----------------- Net cash provided by financing activities 11,436,856 1,839,792 ------------------ ----------------- Net increase in cash and cash equivalents 5,766,301 359,606 Cash and cash equivalents, beginning of period 508,666 149,060 ------------------ ----------------- Cash and cash equivalents, end of period $ 6,274,967 $ 508,666 ================== =================
The accompanying notes are an integral part of the consolidated financial statements. F-5 25 XYBERNAUT CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. ORGANIZATION AND BUSINESS ACTIVITY: THE COMPANY: Xybernaut Corporation (the "Company") was originally incorporated in Virginia in October 1990 as Contemporary Products & Services, Inc. and changed its name to Computer Products & Services, Inc. ("CPSI") in 1992. In April 1996, the Company was merged with Xybernaut Corporation to change the Company name and reincorporate in Delaware. Since the commencement of operations in November 1992, the Company has engaged in the research, development and commercialization of products intended to bridge the widening gap between people and knowledge. The first product to be commercialized by the Company is the proprietary portable computer technology and related software applications embodied in its Mobile Assistant(R) product. Additional software products are planned for development and use on the Mobile Assistant(R) and other personal computers. On July 18, 1996, the Company successfully completed the Initial Public Offering ("IPO") of its common stock and warrants (NASDAQ symbol XYBR and XYBRW) which are traded on the NASDAQ SmallCap Market. The Company was a development stage enterprise through March 31, 1995. Subsequently, the Company has commenced principal operations and, accordingly, these financial statements are not presented in compliance with Statement of Financial Accounting Standard No. 7 which describes the financial presentation for development stage enterprises. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: FISCAL YEAR: In connection with its IPO, the Company changed from a fiscal year ending March 31 to a fiscal year ending December 31, effective December 31, 1995. As a result, these financial statements include consolidated operations for the twelve months ended December 31, 1996 and for the nine months ended December 31, 1995. PRINCIPLES OF CONSOLIDATION: The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary, Tech International of Virginia Inc. ("Tech Virginia"). In connection with the IPO, the Company exercised its option to acquire all of the capital stock of Tech Virginia. Financial statements prior to the exercise of the option reflect the combined financial position and results of operations of the Company and Tech Virginia. All significant intercompany accounts and transactions have been eliminated. CASH AND CASH EQUIVALENTS: The Company considers all highly liquid investments purchased with an original maturity of three months or less to be cash equivalents. INVENTORIES: Inventories, consisting principally of component parts held for resale, are stated at the lower of cost or market, with cost determined by the first-in, first-out method. As of December 31, 1996 and 1995, the allowance to reduce inventory balances to net realizable value was $202,440 and $0, respectively. F-6 26 PROPERTY, EQUIPMENT, FURNITURE AND FIXTURES: Property, equipment, furniture and fixtures are stated at cost and are depreciated on a straight-line basis over the estimated useful lives of the assets, as follows: Equipment ............................. 3-5 years Furniture and fixtures ................ 5 years Demonstrator units .................... 2 years Leasehold improvements ................ 3 years
Expenditures for maintenance and repairs are charged directly to the appropriate operating account at the time the expense is incurred. Expenditures determined to represent additions and betterments are capitalized. SOFTWARE DEVELOPMENT COSTS: The Company's policy is to capitalize software development costs when technological feasibility has been established, based on a detailed program design that is complete, has been confirmed and for which no high-risk development issues remain. The establishment of technological feasibility and the ongoing assessment of the recovery of capitalized software costs requires considerable judgment by management with respect to certain external factors including, but not limited to, technological feasibility, anticipated future gross revenues, estimated economic life and changes in software and hardware technologies. Capitalization of software costs will cease when the software is available for general release to customers, at which time amortization of the costs begins. These costs will be amortized using the greater of the amount computed using the straight-line method over the remaining estimated economic life of the product or the ratio of current gross revenues from the product to the total of current and anticipated future gross revenues from the product. Since the Company is currently in the planning and development phase for software toolkits, no costs have been capitalized to date. INTANGIBLE ASSETS: Patent costs consist of legal fees, filing fees and other direct costs incurred in obtaining and maintaining patents and are amortized on a straight-line basis over a five-year period. TOOLING COSTS: Tooling costs consist of reimbursed expenses to third-party vendors for molds to be used exclusively in the manufacturing of the Company's proprietary head-mounted display ("HMD") and the computing unit for the Mobile Assistant(R) II. Capitalized tooling costs will be transferred to inventory based on the estimated total number of HMDs and computing units to be produced from the molds. No costs have been transferred to inventory as of December 31, 1996. IMPAIRMENT OF LONG-LIVED ASSETS: Management of the Company monitors the carrying value of long-lived assets for potential impairment on an on-going basis. Potential impairment would be determined by comparing the carrying value of these assets with their related, expected future net cash flows. Should the sum of the related, expected future net cash flows be less than the carrying value, management would determine whether an impairment loss should be recognized. An impairment loss would be measured by the amount by which the carrying value of the asset exceeds the future discounted cash flows. REVENUE RECOGNITION AND WARRANTIES: Product sales are recorded on shipment pursuant to a valid customer purchase order. For equipment shipped under equipment rental or leasing agreements, revenue is recognized on a straight-line basis over the term of the rental or lease agreement. Consulting revenue is recognized as the services are performed pursuant to a written agreement with the client. The Company generally provides a 90 day warranty on parts and labor and a one year warranty on parts. The Company's suppliers for the computing unit and the head mounted display provide the Company with similar warranties and as a result warranty reserves are immaterial. F-7 27 RESEARCH AND DEVELOPMENT PROGRAMS: Research and development costs are charged to operations as incurred, including the cost of components purchased for testing and product development that are saleable but are intended for development work only. INCOME TAXES: Deferred income tax assets and liabilities are computed annually for differences between the financial statement and income tax bases of assets and liabilities that will result in taxable or deductible amounts in the future. Such deferred income tax asset and liability computations are based on enacted tax laws and rates applicable to periods in which the differences are expected to affect taxable income. Income tax expense is the tax payable or refundable for the period plus or minus the change during the period in deferred income tax assets and liabilities. NET LOSS PER COMMON AND COMMON EQUIVALENT SHARES: The net loss per common and common equivalent share is based on the weighted average number of common and common equivalent shares outstanding during the period. All stock issuances within one year prior to the Company's initial public offering have been included in the calculation of common equivalent shares outstanding as if they were outstanding for all periods presented, using the treasury stock method assuming the common stock value in a Unit (see note 5) was $5.00. ESCROWED SHARES Escrowed shares, if any, are considered issued and outstanding and reported as such on the balance sheet. For purposes of computing the net loss per common and common equivalent share, they are not considered outstanding until the conditions for their release are met. FAIR VALUE OF FINANCIAL INSTRUMENTS: The carrying amounts of financial instruments including cash and cash equivalents, accounts receivable and accounts payable approximated fair value as of December 31, 1996 and 1995, because of the relatively short maturity of these instruments. The carrying value of the notes and loans payable and the debentures approximated fair value as of December 31, 1996 and 1995, based upon market prices for the same or similar debt issues. ACCOUNTING STANDARDS ISSUED The Financial Accounting Standards Board has issued Statement of Financial Accounting Standards No. 125 ("SFAS 125") regarding accounting and reporting for transfers and servicing of financial assets and extinguishments of liabilities. Under SFAS 125, after transfer of financial assets, an entity recognizes the financial and servicing assets it controls and the liabilities it has incurred, derecognizes financial assets when control has been surrendered, and derecognizes liabilities when extinguished. This statement provides consistent standards for distinguishing transfers of financial assets that are sales from transfers that are secured borrowings and is effective for transactions occurring after December 31, 1996. In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 128 ("SFAS 128"), "Earnings per share", effective for fiscal years ending after December 15, 1997. SFAS 128 replaces the presentation of primary earnings per common share ("EPS") with basic EPS, with the principal difference being common stock equivalents are not considered in computing basic EPS. SFAS 128 also eliminates the modified treasury stock method, and requires the reconciliation of the numerator and denominator used in computing basic and diluted EPS. The Company has not yet determined the effect of SFAS 128 on the Company's EPS, but expects that the affect will not be material. F-8 28 USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS: The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. RECLASSIFICATIONS: Certain items in the 1995 financial statements have been reclassified to conform to 1996 presentation for consistency purposes. 3. PROPERTY AND EQUIPMENT: Property and equipment consists of the following:
DECEMBER 31, DECEMBER 31, 1996 1995 ------------ ------------ Equipment ...................................... $ 227,068 $ 75,660 Furniture and fixtures ......................... 44,814 22,191 Demonstrator units ............................. 53,144 29,600 Leasehold improvements ......................... 124,941 36,859 ----------- ---------- 449,967 164,310 Less accumulated depreciation .................. (126,139) (75,508) ----------- ---------- $ 323,828 $ 88,802 =========== ==========
Depreciation expense for the year ended December 31, 1996 and for the nine months ended December 31, 1995 was $80,231 and $37,227, respectively. For the year ended December 31, 1996, fully depreciated demonstrator units for $29,600 and the related accumulated depreciation were eliminated. 4. DEBT: Effective November 17, 1995, the Company sold $1,505,000 principal amount of 7% Convertible Debentures due in 1997 (the "November 1995 Debentures") and paid a placement fee of 10% to the placement agent in the form of an interest-bearing promissory note due at the time of the IPO. On April 16, 1996, the Company sold $1,000,000 principal amount of 7% Convertible Debentures due in 1997 (the "April 1996 Debentures") and paid a placement fee of 12% to the placement agent in the form of an interest-bearing promissory note due at the time of the IPO. Under the terms of these debentures, the Company had the right to redeem all debentures, at a price equal to 105% of principal, plus accrued interest, if the IPO had not occurred within one year after the closing date. The November 1995 Debentures and the April 1996 Debentures were to convert into Units (see note 5) upon a successful IPO by the Company at the rate of one Unit for each $1.75 in principal. The November 1995 Debentures and the April 1996 Debentures were converted into 1,431,427 Units on July 18, 1996, concurrent with the Company's IPO. 5. STOCKHOLDERS' EQUITY: INITIAL PUBLIC OFFERING On July 18, 1996, the Company completed its IPO and sold 2,415,000 Units at a price of $5.50 per Unit. Each Unit consisted of one share of common stock and one warrant to purchase a share of common stock at $9.00 ("Unit"). Gross proceeds from the sale of the Units were $13,282,500 and net proceeds after expenses were $10,842,487. F-9 29 At the completion of the offering, the underwriter received an option to purchase 210,000 Units at a price equal to 165% of the unit offering price per unit during a period of four years commencing one year from July 18, 1996. In connection with this offering, the Company's officers and directors and certain stockholders deposited an aggregate of 1,800,000 shares of common stock of the Company in an escrow account ("Escrowed Shares"). The common stock in the escrow account is subject to release to such stockholders in increments over a three year period only in the event the Company's gross revenues and earnings (loss) per share for the twelve month periods ending September 30, 1997, 1998 and 1999 meet or exceed certain performance targets. If the performance targets are not met in any of the twelve month periods ending September 30, 1997, 1998, or 1999, the Escrowed Shares will be returned to the Company. In addition to the foregoing, all Escrowed Shares will be released to the shareholders if certain stock price targets are met. The market value of any Escrowed Shares held by officers, employees or consultants at the time they are released will be deemed to be additional compensation expense to the Company. REINCORPORATION On January 25, 1996, the shareholders of CPSI approved the exchange of their common stock for shares of Xybernaut Corporation, a Delaware Corporation, on a one-for-one basis to change the Company name and reincorporate in Delaware. All references in the consolidated financial statements, including the number of shares and per share amounts, have been retroactively adjusted. The Company completed this exchange in April 1996 prior to the completion of the IPO. Additionally, 30,000,000 shares of common stock and 5,000,000 shares of preferred stock of Xybernaut Corporation have been authorized. No such shares were issued or outstanding at December 31, 1995. OUTSTANDING COMMON STOCK: The Company's outstanding common stock is summarized below:
NUMBER OF SHARES ISSUED DEC 31, 1995 AND OUTSTANDING ------------- ------------------------- NUMBER PAR VALUE OF SHARES DECEMBER 31, DECEMBER 31, PER SHARE AUTHORIZED 1995 1996 ------------- ------------ ----------- ------------ Computer Products & Services Inc.: Class A ............................ $0.01 15,000,000 9,867,326 --- Class B ............................ $0.01 1,000,000 504,863 --- Tech International of Virginia, Inc... $0.01 1,500 300 ---
NUMBER OF SHARES ISSUED DEC 31, 1996 AND OUTSTANDING ------------ ------------------------- NUMBER PAR VALUE OF SHARES DECEMBER 31, DECEMBER 31, PER SHARE AUTHORIZED 1995 1996 ------------ ----------- ----------- ------------ Xybernaut Corporation: Common stock ....................... $0.01 30,000,000 --- 14,259,112 Preferred stock .................... no par 5,000,000 --- ---
Class A and Class B shares of CPSI were identical except that Class B shares were nonvoting. Under the terms of the Company's Articles of Incorporation, the Board of Directors may determine the rights, preferences, and terms of the Company's authorized but unissued shares of preferred stock. During the nine months ended December 31, 1995, the Company issued 41,246 Class A shares and 154,943 Class B shares. The Class A shares issued were pursuant to private placement offerings at $6.00 per share and the Class B shares were issued as incentives to consultants, two of whom are also board members. For financial reporting purposes, the Class B shares were valued at $5.00 per share and operations were charged a total of $774,715 to account for the issuance of these shares. F-10 30 During the year ended December 31, 1996, the Company issued 19,896 shares of common stock in exchange for services provided by either employees or independent contractors. For financial reporting purposes, these shares were valued at an average of $4.49 per share and operations were charged a total of $89,406 to account for the issuance of these shares. OUTSTANDING WARRANTS: At December 31, 1996, outstanding warrants pursuant to the IPO were 2,415,000 and outstanding warrants pursuant to the conversion of the November 1995 Debentures and the April 1996 Debentures were 1,431,427. These 3,846,427 warrants entitle the holder to purchase one share of the Company's common stock at an exercise price of $9.00 and expire on July 17, 1999. For the year ended December 31, 1996, 110,000 warrants were issued to consultants for services to be rendered. These warrants allow the holder to purchase one share of the Company's common stock at an exercise price of between $4.25 and $6.00, which were at least equal to the fair market value of the common stock at date of grant. 6. STOCK OPTIONS: On April 18, 1996, the Board of Directors approved, effective January 1, 1996, the Company's 1996 Omnibus Stock Incentive Plan (the "Plan"). Under the Plan, the Company has reserved 650,000 shares of common stock for issuance of both incentive and non-qualified options, restricted stock awards and stock appreciation rights ("SARs"). The Plan is administered by the Compensation Committee of the Board of Directors. The Company will seek approval from its stockholders to establish an additional stock option plan that will reserve 1,000,000 shares of common stock for issuance of both incentive and non-qualified options, restricted stock awards and SARs at the May 7, 1997 annual meeting of shareholders. Additional options above the maximum 650,000 have been granted contingent on such approval. Options under this plan become exercisable, beginning one year after the date granted, in five equal annual installments. No option may be granted at a price less than the stock's fair market value on the date of the grant. Prior to the approved Plan, the Company's Board of Directors approved 250,000 of non-Plan stock options which become exercisable, beginning one year after the date granted, in five equal annual installments. Information on options is as follows:
SHARES UNDER RANGE OF OPTION EXERCISE PRICES -------- --------------- Outstanding at March 31, 1995.................... 250,000 $ .01 Granted.......................................... 305,530 6.00 -------- ---------------- Outstanding at December 31, 1995................. 555,530 .01-6.00 Granted.......................................... 542,000 2.00-12.00 Canceled......................................... (103,600) 6.00 -------- ---------------- Outstanding at December 31, 1996................. 993,930 $ .01-12.00 ======== ================
As of December 31, 1996, a total of 162,106 options were exercisable and no options had been exercised. The weighted average exercise price for the options granted during 1996 was $6.46. In October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS No. 123") effective for fiscal years beginning after December 15, 1995. SFAS No. 123 established financial accounting and reporting standards for stock-based compensation plans. The Company has adopted the disclosure-only provisions of SFAS No. 123. In accordance with the provisions of SFAS No. 123, the Company applies APB Opinion 25 and related interpretations in accounting for its Plan and, accordingly, does not recognize compensation expense. F-11 31 Had compensation expense for the Company's plan been determined based on the fair value at the grant date for awards in 1996 and 1995 consistent with the provisions of SFAS No. 123, the Company's net loss and net loss per common and common equivalent shares outstanding would have been the pro forma amounts indicated below:
YEAR ENDED NINE MONTHS ENDED DECEMBER 31, DECEMBER 31, 1996 1995 ----------------- ------------- Net loss - as reported .................. $ (5,238,536) $ (2,141,190) Net loss - pro forma .................... $ (5,508,736) $ (2,211,590) Net loss per share - as reported ........ $ (.47) $ (.21) Net loss per share - pro forma .......... $ (.50) $ (.22) -------------- --------------
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions used for grants in 1996 and 1995: dividend yield of 0%; expected volatility of 60%; risk-free interest rate of 5.92% in 1996 and 6.63% in 1995; and expected lives of 3 years. 7. SIGNIFICANT CUSTOMERS: The percentages of total revenue from sales to customers in excess of 10% of the total for each period were as follows:
YEAR ENDED NINE MONTHS ENDED DECEMBER 31 DECEMBER 31, 1996 1995 ----------- ----------------- Customer A ........... 64% 15% Customer B ........... 24% Customer C ........... 18% Customer D ........... 19%
8. LICENSING AGREEMENT: In March 1996, the Company entered into a non-exclusive five-year licensing agreement with Rockwell International. Pursuant to this agreement, the Company was granted a price reduction of $1,395,000 related to a purchase order issued in 1995 and received an initial cash payment of $300,000 that was recorded as deferred licensing revenue and is being recognized as revenue on a straight-line basis over the five year term. Revenue of $50,000 related to this licensing agreement was recognized for the year ended December 31, 1996. 9. INCOME TAXES: For the year ended December 31, 1996 no income tax benefit has been provided because the losses could not be carried back and realization of the benefit of the net operating losses carried forward was not assured. At December 31, 1996, the Company has approximately $7,266,000 of net operating loss carryforwards for federal income tax purposes. These losses expire in 2012. The use of these carryforwards may be limited in any one year under Internal Revenue Code Section 382 if significant ownership changes occur in the future. Net deferred tax assets are comprised of the following:
DECEMBER 31, DECEMBER 31, 1996 1995 ------------ ------------ Excess of book over tax depreciation ....... $ 30,000 $ (1,000) Net operating loss carryforwards ........... 2,758,000 830,000 Adjustment to accrual basis of accounting .. 56,000 84,000 Accrued vacation ........................... 11,000 --- Deferred revenue ........................... 95,000 --- Tax credit carryforwards ................... 63,000 30,000 Less valuation allowance ................... (3,013,000) (943,000) ------------ ---------- Net deferred tax asset ................... --- --- ============ ==========
F-12 32 10. COMMITMENTS AND CONTINGENCIES: LEASE COMMITMENTS: During 1994 and 1995, the Company began leasing its operating facilities and certain equipment under various operating leases expiring on various dates through 2001. Future minimum payments under noncancelable operating leases at December 31, 1996 are:
YEAR ENDING DECEMBER 31, ------------------------ 1997 ......................................... $262,018 1998 ......................................... 73,822 1999 ......................................... 52,964 2000 ......................................... 7,917 2001 ......................................... 1,863
Total rental expense charged to operations for the year ended December 31, 1996 and for the nine months ended December 31, 1995 was $202,812 and $135,075, respectively. PURCHASE AGREEMENTS: The Company has agreements with certain suppliers to purchase specialized parts and components necessary to produce the Mobile Assistant(R). Failure of any of these parties to comply with the terms and conditions of existing agreements could adversely affect the Company's ability to complete and deliver Mobile Assistant(R) units. PATENTS: The Company considers its patents, trade secrets, and other intellectual property and other proprietary information to be an important factor in its business prospects. In September 1995, the Company received a notification from the United States Patent and Trademark Office ("PTO") entitled "office action in re-examination" which indicated that the Company's claims under its existing patent for the Mobile Assistant(R) were subject to re-examination and had been preliminary rejected. During 1996, this preliminary rejection was overturned. In April 1996 a second re-examination request was filed with the PTO. Based upon the advice of its patent counsel, who also is a director of the Company, the Company believes that the re-examination will not result in any adverse action with respect to the patent. In October 1995, the Company filed a patent application covering additional embodiments and extensions of the technologies used in the Mobile Assistant(R). In addition, eight additional patent applications have been filed with the PTO since the Company's IPO. 11. RELATED PARTY TRANSACTIONS: In April 1995 a shareholder exercised an option to purchase 510,000 shares of Class A Common Stock directly from the Company's President and majority stockholder under an agreement dated February 28, 1994. These shares were purchased at $0.05 per share. The Company uses a director of the Company as its Patent Counsel. The Company paid cash of $93,250 in 1996 and paid cash or issued stock of $135,904 in 1995 for services performed by its Patent Counsel. 12. CONCENTRATION OF CREDIT RISK ARISING FROM CASH DEPOSITS: The Company's December 31, 1996 cash and cash equivalent balance includes approximately $2 million of cash invested in a pool of United States Government and Agency Securities. The amount in excess of insurance provided by the Federal Deposit Insurance Company is approximately $1.9 million. F-13 33 13. SUPPLEMENTAL CASH FLOW DISCLOSURES: During the nine months ended December 31, 1995, the Company incurred a note payable of $150,500 related to costs of issuing the November 1995 Debentures. During the year ended December 31, 1996, the Company received loans of $220,000 from a financial institution secured by Company assets, and $120,000 from two April 1996 Debenture holders. These loans, as well as the $150,500 note payable incurred during the nine months ended December 31, 1995, were repaid at the time of the IPO. During 1996, the Company acquired Tech Virginia for $50,000, of which $33,334 was paid in cash and $16,666 remains as a note payable at December 31, 1996. During the nine months ended December 31, 1995, the Company issued $103,725 of Class B common stock for services provided in connection with patents and $670,990 of Class B common stock for other services and incentives. During 1996, the Company issued $89,406 of common stock for services provided by either employees or independent contractors. During 1996, the Company's cash payments for interest totaled $71,750. 14. FINANCING ARRANGEMENTS: The present cash balances of the Company are expected to be sufficient to meet the Company's current cash needs until July 1997. The Company has received several offers of financing for up to $10 million and is in the process of negotiating the terms of those financings. The company has also received a financing commitment, on terms satisfactory to the Company and subject only to satisfactory documentation, from a funding source for an amount ranging from $3.0 to $3.4 million of gross proceeds. This commitment expires on April 30, 1997. It is the opinion of the Company's management that such funding arrangements are readily available to the Company and the execution of any such arrangements is a decision that will depend on timing, market conditions and the final terms and conditions of such arrangements. Production of the Mobile Assistant(R) II is expected to begin in the quarter ending June 30, 1997, and receivables from sales of the Mobile Assistant(R) II are expected to provide collateral for borrowing facilities at that point. Although there can be no assurance that such facilities will be available, the Company intends to seek to establish secured borrowing facilities at such time as appropriate collateral is available. The company's management believes that the combination of cash on hand, operating cash flows, and outside funding will provide sufficient liquidity to meet the Company's cash requirements until at least March 1998. F-14 34 ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. None. PART III ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS, COMPLIANCE WITH SECTION 16(a) OF THE EXCHANGE ACT. DIRECTORS AND EXECUTIVE OFFICERS The directors and executive officers of the Company are as follows: Name Age Position ---- --- -------- Edward G. Newman 53 President, Chief Executive Officer and Chairman of the Board of Directors John F. Moynahan 39 Senior Vice President, Chief Financial Officer, Treasurer and Director John W. Williams 54 Senior Vice President and Chief Operating Officer Lt. Gen. Harry E. Soyster (Ret.)(1) 61 Director James J. Ralabate, Esq. 69 Secretary and Director Keith P. Hicks, Esq.(2) 74 Director Steven A. Newman, M.D. (1)(2) 51 Director Phillip E. Pearce (1)(2) 68 Director Jacques Rebibo 57 Director Eugene J. Amobi 52 Director
- ---------- (1) Member of the Compensation Committee. (2) Member of the Audit Committee. Officers are appointed by and served at the discretion of the Board of Directors. Each director holds office until the next annual meeting of stockholders or until a successor has been duly elected and qualified. Edward G. Newman has been the Company's President since March 1993, Chief Executive Officer and Chairman of the Board of Directors since December 1994, and a director since 1990. Mr. Newman served as Treasurer of the Company from 1993 to 1994. From 1984 to 1992 Mr. Newman was President of ElectroTech International Corporation, a software consulting firm. From 1973 to 1981 Mr. Newman was employed by Xerox Corporation in several management positions in office systems strategy, legal systems and international financial systems. Mr. Newman served with the Central Intelligence Agency from 1966 to 1972. Mr. Newman also has been an Executive Vice President of Tech International since 1990, and a director and Chief Executive Officer of Tech Virginia since 1994. See "Certain Transactions." Mr. Newman is a graduate of the University of Maryland (B.A. 1971) and the University of New Haven (M.B.A. 1984). Mr. Newman is the brother of Steven A. Newman, M.D., a director of the Company. John F. Moynahan joined the Company in October 1994, has served as a director since January 1995 and currently serves as the Company's Senior Vice President, Chief Financial Officer and Treasurer. From 1992 to 1994 Mr. Moynahan was Vice President and Treasurer of Joy Technologies Inc., a publicly-traded machinery and pollution control equipment manufacturer. From 1990 to 1992 he was Vice President and Chief Financial Officer of Sym-Tek Systems, Inc., a publicly-traded high technology company. Prior to that time, Mr. Moynahan was Treasurer of Fisher Scientific Group, Inc., a publicly-traded medical, health and research equipment manufacturer and distributor. Mr. Moynahan is a graduate of Colgate University (B.A. 1979) and New York University (M.B.A. 1982). John W. ("Wes") Williams joined the Company in May 1996 and currently serves as the Company's Senior Vice President and Chief Operating Officer. From 1994 to 1996, Mr. Williams was Director of Advanced Concepts of the CACD Division of Rockwell International, and from 1991 to 1994 he was Director of Programs of Tecom -20- 35 Industries, a subsidiary of Tech-Sym Corporation. Prior to 1991, Mr. Williams served as International Marketing Manager, Deputy Director of Navigation Systems Engineering and Avionics Integration Manager for Magnavox Advanced Products and Systems Company. Mr. Williams is a graduate of California State University (B.S. 1980, M.B.A., 1982). Lt. Gen. Harry E. Soyster (Ret.) has been a director of the Company since January 1995. He is currently Director of Washington Operations and Vice President of International Operations of Military Professional Resources, Incorporated. From 1988 until his retirement in 1991, Lieutenant General Soyster (Ret.) was the Director of the United States Defense Intelligence Agency. Prior to that time, he was Commander of the United States Army Intelligence and Security Command and a Deputy Assistant Chief of Staff for Intelligence, Department of the Army. Lieutenant General Soyster (Ret.) is a graduate of the United States Military Academy at West Point (B.S. 1957), Penn State University (M.S. 1963), the University of Southern California (M.S. 1973) and the National War College (1977). James J. Ralabate, Esq. has been a director of the Company since January 1995 and currently serves as the Company's Secretary. Mr. Ralabate has been in the private practice of patent law since 1982. Prior to that time, Mr. Ralabate was General Patent Counsel for Xerox Corporation, responsible for worldwide patent licensing and litigation, and an examiner for the Patent Office. Mr. Ralabate is intellectual property counsel to the Company, and is a graduate of Canisius College (B.S. 1950) and The American University (J.D. 1959). Keith P. Hicks, Esq. has been a director of the Company since July 1994 and currently is a principal in C&H Properties and the owner of Hicks Bonding Co., Hicks Auctioneering Co. and Hicks Cattle Company. Mr. Hicks is a graduate of the University of Denver (B.A.1954) and LaSalle University School of Law (L.L.B. 1969). Steven A. Newman, M.D. has been a director of the Company since January 1995 and a consultant to the Company since January 1996. See "Business - - Employees and Consultants." Dr. Newman was Executive Vice President and Secretary of the Company from December 1994 through October 1995. Dr. Newman also provides business, management and administrative consulting services to medical groups. Dr. Newman was President of Fed American, Inc., a mortgage banking firm, from 1988 to 1991. In connection with the bankruptcy of Sandco American Inc., a real estate development company in California of which he was the principal and guarantor, Dr. Newman declared personal bankruptcy and was discharged from liabilities in 1992. Dr. Newman has been a director of Tech International since 1990, and a director and an employee of Tech Virginia since 1994. See "Certain Transactions." Dr. Newman is a graduate of Brooklyn College (B.A. 1967) and the University of Rochester (M.D. 1972). Dr. Newman is the brother of Edward G. Newman, the Company's President, Chief Executive Officer and Chairman of the Board of Directors. Phillip E. Pearce has been a director of the Company since October 1995. Mr. Pearce has been an independent business consultant with Phil E. Pearce & Associates, Chairman and Director of Financial Express Corporation since 1990 and since 1988 has been a principal of Pearce-Henry Capital Corp. Prior to 1988 Mr. Pearce was Senior Vice President and a director of E.F. Hutton, Chairman of the Board of Governors of the National Association of Securities Dealers, a Governor of the New York Stock Exchange and a member of the Advisory Council to the United States Securities and Exchange Commission on the Institutional Study of the Stock Markets. Mr. Pearce also is a director of RX Medical Services, Inc., a publicly-traded operator of medical diagnostic facilities and clinical laboratories, InfoPower International, Inc., a software development company and Starbase Company, a software development company. Mr. Pearce is a graduate of the University of South Carolina (B.A. 1953) and graduated from the Wharton School of Investment Banking at the University of Pennsylvania. Jacques Rebibo has been a director of the Company since January 1996. Since 1983, Mr. Rebibo has been Chairman of the Board and a director of Selfware, Inc., a software development and consulting firm, and since 1991 has been President, Chief Executive Officer and a director of Mortgage Investment Corporation, a mortgage banking firm. Prior to 1983, Mr. Rebibo was President of Rebibo and Chorazy, a financial planning firm, and Executive Vice President of Systematics General Corporation, a publicly-traded manufacturer and distributor of computer systems. Mr. Rebibo was a director of Fairfax Bank & Trust from 1985 through 1995. Mr. Rebibo is a graduate of Memphis State University (B.S. 1962) and the University of Maryland (M.A. 1964). -21- 36 Eugene J. Amobi has been a director of the Company since January 1996. Since 1983, Mr. Amobi has been President, a director and a principal stockholder of Tech International, which provides engineering, technical support and consulting services to government and domestic and international commercial clients. Mr. Amobi has been president and director of Tech Virginia since its spin-off from Tech International. Prior to 1983, Mr. Amobi was a Senior Engineer with E.I. DuPont de Nemours and a Managing Director of Stanley Consultants, an international engineering consulting firm. Mr. Amobi is a graduate of The Technion, Israel Institute of Technology (BS 1969), Princeton University (MS 1970) and Syracuse University (MBA 1973). ADVISORY BOARD The Advisory Board was established to provide council and support to the Board of Directors. Its members include: Maarten Heybroek has been an advisor to the Board of Directors since 1992. Since 1986, Mr. Heybroek has been employed by Citibank, as Chief of Staff and Controller for consumer banking activities in Central Europe and, most recently, as Director, Compliance and Risk Management for Citibank's United States consumer banking operations. Prior to that time, Mr. Heybroek was Director, Finance-European Operations and then Director, Corporate Finance for Intergraph Corporation, a publicly-traded computer hardware and software firm, and with Xerox Corporation in a variety of financial and management positions. Mr. Heybroek is a graduate of Pace University. Dr. Andrew Heller is an advisor to the Board of Directors for a three-year term through May 5, 1998. Since 1989 Dr. Heller has been Chairman and Chief Executive Officer of Heller Associates, a consulting firm to high technology companies. From 1990 to 1993 Dr. Heller was Chairman and Chief Executive Officer of HaL Computer Systems, Inc., a software and hardware systems development company. From 1966 to 1989 Dr. Heller was employed by IBM (where he was the youngest person ever to be selected as an IBM Fellow) in a variety of positions including Corporate Director of Advanced Technology Systems, member of the Executive Committee on Technology, member of the Technical Review Board, and General Manager, Advanced Workstation Independent Business Unit. While at IBM, Dr. Heller created and ran the business unit that created the AIX (UNIX) operating system for IBM and the RISC RS/6000 family of workstations and servers, from which the current Power PC was developed. Dr. Heller is a director of Rambus, Inc., Cross/Z, Inc., Network Translation, Inc., EPR, Inc., Eco Instrumentation, Inc. and UDI Software, Inc. Dr. Heller has a three-year consulting agreement with the Company whereby Dr. Heller has agreed to provide strategic planning, business management, strategic product development and market and financial introduction services to the Company. See "Business - Employees and Consultants." Gerald Jeffery Olivet represents the first investor in the Company through private placement of equity. Mr. Olivet is a financial consultant and manager for investments in the commercial real estate market, public markets and international manufacturing and sales business. He graduated from Arizona State University in May of 1985 with a Bachelor of Science Degree in business. General Richard H. Thompson (ret.) retired from the U.S. Army in 1987 after 43 years of service. His last assignment was as the Commander of the U.S. Army Material Command, an organization of 132,000 personnel at 171 locations worldwide with an annual budget in excess of $35 billion. Since his retirement, General Thompson has served on the Board of Directors of several companies, has consulted with many others, and has participated as a member of several Study Groups for the National Academy of Sciences and the House of Representatives. He is currently the Chairman and Chief Executive Officer and actively engaged in the operations of three companies he has established: Thompson Delstar Inc., TMI Asia, and TDIS. Dr. Will Stackhouse joined the Company in September 1996 and directs strategic partnerships, planning and technologies. Dr. Stackhouse held technology leadership positions with MCI and served on two Boards of Directors, Geodynamics Corporation and IEEE-USA. Dr. Stackhouse was a colonel in the U. S. Air Force, where he served as director of several satellite and telecommunications projects at the Jet Propulsion Laboratory and the Pentagon, including the multi-billion dollar MILSTAR and AFSATCOM programs, and was a highly-decorated -22- 37 fighter pilot. In 1979 he received national recognition from the President's Commission for the Handicapped for his outstanding research and services to the handicapped. In January 1991 he received a "Laurel" from Aviation Week and Space Technology for his efforts in "advancing critical U.S. based technologies." In October 1991 he received a "Professional Achievement Award" from IEEE for his work in advanced high-resolution digital systems. Dr. Stackhouse holds a B.S. in Engineering Science from the USAF Academy, a Masters of Science in Engineering Mechanics from the University of Michigan and a Doctor of Philosophy degree in Engineering Design and Bio-Engineering from Oxford University (England). Frances C. Newman, wife of President Edward G. Newman, was a cofounder of the corporation. Mrs. Newman has previously been a member of the board of directors, and currently serves as both assistant secretary to the board and manages facilities and community relations. Mrs. Newman previously held senior management positions in the areas of office management, business systems and marketing for Electro-Tech International Corporation and Tech International. She received a BA from the University of Maryland in 1969. Vice Admiral Stephan F. Loftus (ret.) retired from the United States Navy in May of 1994. Prior to that he served as the Deputy Chief of Naval Operations (Logistics). Vice Admiral Loftus held previous positions with the U.S. Navy as Commander, Fleet Air Mediterranean; Director, Office of Budget and Reports; and Director, Office of Program Appraisal. Vice Admiral Loftus presently serves as Executive Vice President of Quarterdeck Investment Partners, Inc. (specializing in merger/acquisitions) and The Spectrum Group (a strategic planning group). He consults for Lockheed Martin Corporation, SAIC, Johns Hopkins University - Applied Physics Lab, Systems Planning Corporation, and Global Planning Corporation. He is on the Board of Directors of AMSEC, Inc. and LLD, Inc., and serves as a member of the Logistics Panel for the Defense Science Board. Also, Admiral Loftus serves as the Chairman of the Board of Trustees at NMCCG Foundation. ITEM 10. EXECUTIVE COMPENSATION. EXECUTIVE COMPENSATION Summary Compensation Table. The following sets forth the annual and long-term compensation for services in all capacities to the (i) for the fiscal year ended December 31, 1996, for the nine month transitional year ended December 31, 1995 and the fiscal years ended March 31, 1995 and 1994 of Edward G. Newman, the 's President, Chief Executive Officer and Chairman of the Board of Directors, and (ii) for the fiscal year ended December 31, 1996, for the transitional year dated December 31, 1995 and the fiscal years ended March 31, 1995 and 1994 of John F. Moynahan, the Company's Vice President, Chief Financial Officer, Treasurer and a director. No other officer of the Company received annual salary and bonus exceeding $100,000 during the relevant periods. -23- 38 SUMMARY COMPENSATION TABLE
LONG TERM COMPENSATION AWARDS(1) ANNUAL COMPENSATION (1) ------------ NAME AND ------------------------------------ OPTIONS ALL OTHER PRINCIPAL POSITION YEAR SALARY BONUS (SHARES) COMPENSATION ------------------ -------------- ----------------- --------------- ------------ -------------- Edward G. Newman 1996 $236,949(1)(2) $- 0 - - 0 - $- 0 - President and Chief Executive 1995* $112,500 $- 0 - - 0 - $- 0 - Officer and Chairman of the 1995 $ 68,750 $- 0 - - 0 - $- 0 - Board of Directors 1994 $ 26,500 $- 0 - - 0 - $- 0 - John F. Moynahan 1996 $139,688 $- 0 - - 0 - $- 0 - Vice President, Chief Financial 1995* $105,000 $- 0 - - 0 - $- 0 - Officer and Treasurer 1995 $ 64,167 $- 0 - 200,000 $- 0 - 1994 --- --- ---
(1) Compensation does not include $50,084 paid to Frances C. Newman, wife of Edward G. Newman in 1996. (2) The total compensation for 1996 includes $87,314 paid by Tech of Virginia, as payment of accrued salaries and expenses, and $149,635 paid by Xybernaut Corporation. - --------- * Transitional year ended December 31, 1995. Option Grants Table. The following table sets forth information on grants of stock options during fiscal 1996 to John W. Williams, Vice President and Chief Operating Officer; Phillip E. Pearce, a director; Jacques Rebibo, a director; Harry E. Soyster, a director; and Keith P. Hicks, a director. All such options are exercisable to purchase shares of common stock.
Options granted Percent of total Exercise or options granted to base price Name (shares) employees in year ($/Share) Expiration date --------------- ------------------ ----------- --------------- John W. Williams 50,000 9.2% $6.00 April 22, 2006 Phillip E. Pearce 50,000 9.2% $6.00 June 14, 2006 Jacques Rebibo 50,000 9.2% $6.00 June 14, 2006 Harry S. Soyster 25,000 4.6% $6.00 June 14, 2006 Keith P. Hicks 50,000 9.2% $6.00 June 14, 2006
-24- 39 Fiscal Year-End Options/Option Values Table.
Number of Securities underlying unexercised options Value of unexercised in-the-money at fiscal year-end Options at fiscal year-end ($) (1) ------------------------------- ---------------------------------- Name Exercisable Unexercisable Exercisable Unexercisable -------------- --------------- --------------- ------------------ John W. Williams 0 50,000 0 0 Phillip E. Pearce 0 50,000 0 0 Jacques Rebibo 0 50,000 0 0 Harry S. Soyster 0 25,000 0 0 Keith P. Hicks 0 50,000 0 0 - ------ - - 0 225,000 0 0
All of the foregoing options will vest pro-rata over the five-year period ending either in April 2001 or June 2001. None of the foregoing options were exercisable within 60 days of December 31, 1996. The Company has no retirement, pension or profit sharing program for the benefit of its directors, officers or other employees, but the Board of Directors may recommend one or more such programs for adoption in the future. PROFIT SHARING PROGRAM The Company intends to establish a profit sharing program to be administered by the Board of Directors. Under this program, which will remain in effect for five years unless extended by the Board of Directors, executives, key employees and consultants will be eligible to participate in a cash bonus pool. The amount of the cash bonus pool will be determined annually and will be up to 10% of the amount by which the Company's pretax income exceeds 10% of stockholders' equity. COMPENSATION OF DIRECTORS The Company currently does not pay or accrue salaries or consulting fees to outside directors for each board or committee meeting attended. While it is the Company's intention to establish such payments eventually, it does not anticipate doing so in the foreseeable future. Any payments when implemented will be comparable to those made by companies of similar size and developmental stage. The Company also has adopted an Omnibus Stock Incentive Plan in which directors are eligible to participate and the Company may use stock options to reward. See "Omnibus Stock Incentive Plan." Steven A. Newman, Andrew Heller, and Jacques Rebibo have entered into consulting agreements with the Company. See "Business-Employees and Consultants." EMPLOYMENT AGREEMENTS The Company has entered into employment agreements with Edward G. Newman and John F. Moynahan. Mr. Newman's employment agreement provides for a three-year term through December 31, 1998; initial annual base compensation of $150,000 subject to a minimum annual increase to $190,000 on January 1, 1997 and of at least the annual increase in the United States Consumer Price Index ("CPI") plus two percent annually thereafter, an annual cash bonus in an amount to be determined by the Board of Directors; and a $2,000,000 life insurance policy payable to his designated beneficiaries. Mr. Newman received payments in 1996 for accrued salaries and expenses related to his employment with Tech Virginia and continues to provide services to Tech Virginia without contract at a fixed -25- 40 payment of $1,000 per month. Mr. Moynahan's employment agreement provides for a three-year term through December 31, 1998; initial annual base compensation of $140,000 subject to a minimum annual increase to $150,000 on January 1, 1997 and of at least the annual increase in the CPI thereafter, and an annual cash bonus in an amount to be determined by the Board of Directors. The employment agreements with Mr. Newman and Mr. Moynahan also entitle them to participate in all benefits which the Company may offer to its executive officers and employees. The Company anticipates that such benefits will include an automobile, health insurance and expense reimbursement. Each of the employment agreements renews for an additional three-year term unless terminated in writing by either party on or before October 31, 1998. Each of the employment agreements also provides for termination at the option of the employee in the event of a change of control (which is defined as Mr. Edward Newman ceasing to serve as either the Chairman of the Company's Board of Directors or its president and chief executive officer) and that upon any such termination the employee is entitled to at least two years of annual compensation under his employment agreement. OMNIBUS STOCK INCENTIVE PLAN The 1996 Omnibus Stock Incentive Plan (the "Incentive Plan") was adopted by the Company's Board of Directors effective January 1, 1996. The Incentive Plan provides for the granting of incentive stock options ("Incentive Stock Options") within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended (the "Code"), nonqualified stock options, stock appreciation rights ("SARs") and grants of shares of Common stock subject to certain restrictions ("Restricted Stock") up to a maximum of 650,000 shares to officers, directors, employees and others. Incentive Stock Options can be awarded only to employees of the Company at the time of the grant. No options, SARs or restricted stock ("Restricted Stock") may be granted under the Incentive Plan subsequent to December 31, 2006. The Incentive Plan is administered by the Compensation Committee of the Board of Directors (subject to the authority of the full Board of Directors), which determines the terms and conditions of the options, SARs and Restricted Stock granted under the Incentive Plan, including the exercise price, number of shares subject to the option and the exercisability thereof. Messrs. Steven A. Newman, Soyster and Pearce currently are the members of the Compensation Committee. The Company will seek approval from its shareholders at the annual meeting on May 7, 1997 to establish a second incentive plan, similar to the Incentive Plan, which will provide, among other things, for up to one million additional shares for options, SARs and grants. The exercise price of all Incentive Stock Options granted under the Incentive Plan must equal at least the fair market value of the Common stock on the date of grant. In the case of an optionee who owns stock possessing more than ten percent of the total combined voting power of all classes of stock of the Company ("Substantial Stockholders"), the exercise price of Incentive Stock Options must be at least 110% of the fair market value of the Common stock on the date of grant. The exercise price of all nonqualified stock options granted under the Incentive Plan shall be determined by the Compensation Committee. The term of any Incentive Stock Option granted under the Incentive Plan may not exceed ten years, or, for Incentive Stock Options granted to Substantial Stockholders, five years. The Incentive Plan may be amended or terminated by the Board of Directors, but no such action may impair the rights of a participant under a previously granted option. The Incentive Plan provides the Board of Directors or the Compensation Committee the discretion to determine when options granted thereunder shall become exercisable and the vesting period of such options. Upon termination of a participant's employment or relationship with the Company, all options terminate and no longer are exercisable unless termination is due to death or disability, in which case the options are exercisable within one year of termination. The Incentive Plan provides that upon a change in control of the Company, all previously granted options and SARs immediately shall become exercisable in full and all Restricted Stock immediately shall vest and any applicable restrictions shall lapse. The Incentive Plan defines a change of control as the consummation of a tender -26- 41 offer for 25% or more of the outstanding voting securities of the Company, a merger or consolidation of the Company into another corporation less than 75% of the outstanding voting securities of which are owned in aggregate by the stockholders of the Company immediately prior to the merger or consolidation, the sale of substantially all of the Company's assets other than to a wholly-owned subsidiary, or the acquisition by any person, business or entity other than by reason of inheritance of over 25% of the Company's outstanding voting securities. The change of control provisions of the Incentive Plan may operate as a material disincentive or impediment to the consummation of any transaction which could result in a change of control. The Incentive Plan provides the Board of Directors or the Compensation Committee discretion to grant SARs in connection with any grant of options. Upon the exercise of a SAR, the holder shall be entitled to receive a cash payment in an amount equal to the difference between the exercise price per share of options then exercised by him and the fair market value of the Common stock as of the exercise date. The holder is required to exercise options covering the number of shares, which are subject to the SAR so exercised. SARs are not exercisable during the first six months after the date of grant, and may be transferred only by will or the laws of descent and distribution. The Incentive Plan also provides the Board of Directors or the Compensation Committee discretion to grant to key persons shares of Restricted Stock subject to certain limitations on transfer and substantial risks of forfeiture. As of December 31, 1996 a total of 993,930 options were outstanding, 743,930 of which are counted against the number of shares subject to issuance under the Incentive Plan. Additional options above the current maximum of 650,000 shares have been granted contingent upon such approval. Each of the outstanding options has an exercise price at least equal to the fair market value of the Common stock on the date of grant with the exception of 200,000 shares which are subject to acquisition by an officer of the Company and 50,000 shares which are subject to acquisition by an employee of the Company at $0.0l per share over the period 1995 through 1999. As of December 31, 1996, there were no SARs outstanding and there have been no grants of Restricted Stock other than 10,000 shares granted to Mr. Williams. All outstanding options vest on a pro-rata basis over a five-year period. ESCROWED SHARES As a condition to the IPO, Royce Investment Group, the Representative has required the Company's stockholders to deposit the Escrowed Shares, which are 1,800,000 shares of Common stock, of which 1,707,210 shares are owned by officers and directors of the Company, in escrow pursuant to an escrow agreement with Continental Stock Transfer & Trust Company, the escrow agent and the Representative. The Escrowed Shares will be subject to incremental release to the depositing stockholders based upon the Company's total revenues and net earnings (loss) for the 12-month periods ending September 30, 1997, 1998 and 1999. The Escrowed Shares will be released in the amounts set forth below only upon the achievement by the Company of the following Performance Targets: - 300,000 shares if the Company achieves gross revenues of at least $20,000,000 and a net loss, if any, not in excess of $500,000 for the 12 months ending September 30, 1997; - 750,000 shares if the Company achieves gross revenues of at least $45,000,000, and earnings per share of at least $1.00 for the 12 months ending September 30, 1998; - 750,000 shares if the Company achieves gross revenues of at least $90,000,000 and earnings per share of at least $1.25 for the 12 months ending September 30, 1999. Notwithstanding the foregoing, if at any time the closing bid price of the Common stock reported on The Nasdaq SmallCap Market equals or exceeds $11.00 per share for 25 consecutive trading days or for 30 out of 35 consecutive trading days (the "Nasdaq Price Target") during the period ending September 30, 1999, all Escrowed Shares then remaining in escrow will be released from the escrow and returned to the stockholders. -27- 42 The Escrowed Shares will be subject to incremental release only in the event the Company achieves the Performance Targets in the 12 months ending September 30, 1997, 1998 and/or 1999. In addition, upon achieving the Nasdaq Price Target at any time during the period ending September 30, 1999 all then Escrowed Shares will be released. If the Performance Targets are not met in any of the relevant 12-month periods (and the price of the Common stock has not met or exceeded the price described above prior to the expiration of the applicable 12-month period), the Escrowed Shares in the amounts stated above will be returned to the Company and cancelled. The earnings per share calculation will be based on the fully diluted earnings per share, but excluding shares issued pursuant to the Unit Purchase Option, extraordinary items, or any compensation expense charged to the Company related to the release of the Escrowed Shares. The determination of earnings per share will be made in accordance with generally accepted accounting principles and will be based on the financial statements of the Company filed pursuant to the Securities Exchange Act of 1934, as amended. Escrowed shares are not transferable or assignable although they may be voted by the holder. The Performance Targets and the Nasdaq Price Target were determined by negotiation between the Company and the Representative and do not imply or predict any future performance by the Company. The market value of any Escrowed Shares held by office, employees or consultants at the time they are released will be deemed to be additional compensation expense to the Company. Upon such an occurrence the Company will recognize a potentially material charge to income which could reduce or eliminate earnings, if any. The amount of compensation expense recognized by the Company will not affect the Company's total stockholders' equity or working capital. Given the expected start of full-scale production in the quarter ending June 30, 1997, the Company's management believes that it is likely that the Company's gross revenues and allowable losses will not meet the Performance Targets for the 12-month period ending September 30, 1997. Accordingly, the release of the escrow shares for this period is only likely if the stock price equals or exceeds $11.00 for 25 consecutive trading days or 30 out of 35 consecutive trading days prior to September 30, 1997. If conditions are not met for release from escrow, then 300,000 shares of stock will be returned to the Company on September 30, 1997 and canceled, resulting in no earnings impact and a commensurately lower number of outstanding shares. ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS. PRINCIPAL STOCKHOLDERS The following table sets forth, as of December 31, 1996, certain information as to the beneficial ownership of the Common stock of (i) each of the Company's directors and executive officers, (ii) directors and executive officers as a group, and (iii) all persons known by the Company to be the beneficial owners of more than five percent of the outstanding Common stock. -28- 43
AMOUNT OF SHARES PERCENTAGE OWNED BENEFICIALLY OWNED NAME(1) ------- ------------------- ------------------- Edward G. Newman(2) . . . . . . . . . . . . . . . . . . . 4,529,200 31.6% John F. Moynahan(3) . . . . . . . . . . . . . . . . . . 90,000 * John W. Williams . . . . . . . . . . . . . . . . . . . . 10,000 * Lt. Gen. Harry E. Soyster (Ret.) . . . . . . . . . . . . 25,000 * James J. Ralabate . . . . . . . . . . . . . . . . . . . . 50,000 * Keith P. Hicks . . . . . . . . . . . . . . . . . . . . . 368,000 2.6% Steven A. Newman(4) . . . . . . . . . . . . . . . . . . . 1,617,940 11.3% Phillip E. Pearce . . . . . . . . . . . . . . . . . . . . --- --- Jacques Rebibo(5) . . . . . . . . . . . . . . . . . . . 187,500 1.3% Eugene J. Amobi . . . . . . . . . . . . . . . . . . . . . 300,000 2.1% Frances C. Newman(6) . . . . . . . . . . . . . . . . . . 776,950 5.4% Officers and directors (10 persons) . . . . . . . . . . . 7,954,590 55.5%
- ------------ * Less than 1% (1) The address for Messrs. Edward G. Newman and Moynahan and Mrs. Newman is 12701 Fair Lakes Circle, Suite 550, Fairfax, Virginia 22033; the address for Mr. Steven A. Newman is 303 Avenida Cerritos, Newport Beach, California 92660; the address for Mr. Hicks is 4121 Roberts Road, Fairfax, Virginia 22032; the address for Mr. Rebibo is 7216 Dulany Drive, McLean, Virginia 22101; the address for Mr. Amobi is 100 Jade Drive, Wilmington, Delaware 19810; the address for Mr. Ralabate is 5792 Main Street, Williamsville, New York 14221; the address for Mr. Pearce is 6624 Glenleaf Court, Charlotte, North Carolina 28270; and the address for Lt. Gen. Soyster (Ret.) is 1201 E. Abingdon Drive, Suite 425, Alexandria, Virginia 22314. (2) Includes 200,000 shares owned by a trust for Mr. Newman's children and 580,000 shares owned by a trust established by Mr. Newman. See footnote 7 below. Excludes 776,950 shares owned by Mr. Newman's wife, Frances C. Newman. See footnote 6 below. (3) Includes 80,000 shares of Common stock subject to acquisition by Mr. Moynahan at $.01 per share pursuant to a stock option. (4) Includes 100,000 shares owned by a trust for Dr. Newman's children. (5) Includes 17,500 shares owned by Mortgage Investment Corp., an affiliate of Mr. Rebibo, and 10,000 shares owned by the profit sharing plan of Rebibo and Corazy. (6) Frances C. Newman is the wife of Edward G. Newman. ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. In connection with transactions described below, the Company did not secure an independent determination of the fairness and reasonableness of such transactions and arrangements with affiliates of the Company. In each instance described below, the disinterested directors (either at or following the time of the transaction) reviewed and approved the fairness and reasonableness of the terms of the transaction. The Company believes that each transaction was fair and reasonable to the Company and on terms at least as favorable as could have been obtained -29- 44 from non-affiliates. Transactions between any corporation and its officers and directors are subject to inherent conflicts of interest. There is no assurance that approval of such transactions by the Company's Board of Directors will protect the best interests of the Company. The Company could be subject to litigation or claims by stockholders or third-parties, or regulatory action, in the event such transactions are found to be contrary to the best interests of the Company. TECH INTERNATIONAL AND TECH VIRGINIA Since December 1992, the Company has maintained various business relationships with Tech International and since 1994, with Tech Virginia. Tech International operates a computer software and consulting business. Until December 30, 1994, Tech International's Virginia operations were conducted through its Virginia business unit. In December 30, 1994, Tech International spun-off the Virginia business unit (the "Spin-Off") as Tech Virginia. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." Edward G. Newman, a principal stockholder, director, the Chairman, President and Chief Executive Officer of the Company and Steven A. Newman and Eugene J. Amobi, directors of the Company, were the stockholders, and continue as officers and directors of Tech Virginia. Eugene J. Amobi is the sole director and stockholder of Tech International. From December 1992, until November 1994 the Company utilized, on a fee basis, a portion of the office facilities and certain personnel, office support and equipment of Tech International's Virginia business unit. In November 1994 the Company relocated its office to its current location and ceased using Tech International's office facility, support and equipment. The Company continued to use certain Tech International personnel until the Spin- Off, after which the Company began purchasing certain consulting services from Tech Virginia. As part of the Spin-Off, Tech Virginia acquired approximately $45,000 of net receivables owed by the Company to Tech International for office and personnel support. On December 31, 1994, Tech Virginia forgave those receivables and agreed to provide six months of free consulting services to the Company in exchange for serving as the Company's principal VAR and Small Business contracting agent for federal government contracts accounts. The Company treated approximately $45,000 of net payables forgiven by Tech Virginia as a contribution to capital as of December 31, 1994 for which no additional shares were issued. Simultaneous with the closing of the IPO, the Company acquired 100% of the issued and outstanding shares of Tech Virginia, which were owned by Messrs. Amobi, Edward G. Newman and Steven A. Newman, for $50,000 pursuant to a December 31, 1994 option agreement (the "Tech Virginia Option"). The Tech Virginia Option was executed together with an agreement pursuant to which Tech Virginia forgave the Company's net indebtedness of approximately $45,000 for services rendered and the Company retained Tech Virginia as its VAR and contracting agent for all sales to the United States government. The acquisition of Tech Virginia provides the Company with the intellectual property, technical capability, data and key personnel for portions of the data conversion, voice and presentation manager toolkits and the ability to bid Company products in United states government contracts requiring security clearances and to have Company products listed on approved United States Government purchasing lists. The terms of the Tech Virginia Option were negotiated between Mr. Amobi and the Company, and approved by the Company's disinterested directors. PATENT In 1993 each of Messrs. Edward G. Newman, the Company's President, Chief Executive Officer and Chairman of the Board of Directors, Gil Christian, a former employee of the Company, and Michael Jenkins, and employee of the Company, assigned to the Company all of their right, title and interest in and to the Patent. In consideration of the assignment of their interests in the Patent, Mr. Edward G. Newman, Mr. Christian and Mr. Jenkins each received 300,000 shares of Common stock (valued at $.01 per share or $9,000 in the aggregate), and $22,500 in the aggregate. Certain officers and employees of the Company have related patent applications pending in the United States and certain other countries. Any patents obtained by employees of the Company will be assigned to the Company under existing invention agreements. See "Business - --Intellectual Property." -30- 45 In September 1995, the Company received a notification from the Patent Office entitled "office action in re-examination," which indicated that certain claims were subject to re-examination and were preliminarily rejected. The re-examination of the Patent was initiated as a result of a request from one of the Company's competitors. A second request for re-examination was received by the Company in April 1996. In July 1996, the Company was formally notified by the Patent Office that the Patent had been upheld with respect to the issues raised by the September 1995 re-examination. Mr. James J. Ralabate, the Company's Secretary and a director has advised the Company with respect to legal matters concerning the reexamination requests (and other intellectual property matters) although he is not formally representing the Company before the Patent Office on those matters. During the transitional period ended December 31, 1995, the Company paid Mr. Ralabate fees, in cash or in shares of Common stock, of $135,904 for legal services rendered to the Company. During the year ended December 31, 1996, the Company paid Mr. Ralabate fees in cash of $93,250 for legal services rendered to the Company. MANAGEMENT PERSONNEL EMPLOYMENT AGREEMENTS WITH TECH VIRGINIA Messrs. Edward G. Newman, Steven A. Newman and Eugene Amobi each had employment agreements with Tech Virginia under which each of them was entitled to a salary and each was eligible to receive certain bonuses. The agreements with Messrs. Edward G. Newman and Steven A. Newman require each of them to devote only reasonable time and attention to Tech Virginia, provided their activities for Tech Virginia do not interfere with their obligations to the Company. Upon the acquisition of Tech Virginia by the Company, such employment agreements were terminated by agreement with Messrs. Newman, Newman, and Amobi. Messrs. Newman, Newman and Amobi have continued to provide services to Tech Virginia since the acquisition without contract but under similar terms and conditions as their terminated agreements. ADVANCES AGAINST COMMISSIONS During 1996, the Company paid $35,000 as advances against future commissions and services to Ed Nixon Davis for sales of the Company's products and securing alliances with licensees, software developers and manufacturing partners in Europe, Middle East and Asia. Mr. Davis is an uncle of Frances C. Newman, the wife of Edward G. Newman, who serves as assistant secretary and manager of facilities and community relations for the Company. -31- 46 ITEM 13. EXHIBITS, LISTS AND REPORTS ON FORM 8-K. Exhibit Description 1.1 Form of Underwriting Agreement.* 1.2 Form of Financial Consulting Agreement between the Company and the Representative.* 1.3 Form of Selected Dealers Agreement.* 3.1 Certificate of Incorporation of the Company.* 3.2 Bylaws of the Company.* 4.1 Warrant Exercise Fee Agreement.* 4.2 Form of Forfeiture Escrow.** 4.3 Form of Unit Purchase Option between the Company and the Representative.* 4.4 Form of specimen certificate for Units.** 4.5 Form of specimen certificate for common stock.** 4.6 Form of specimen certificate for Warrants.** 4.7 Form of Warrant Agreement among the Company, the Representative, and the Warrant Agent.* 4.8 Form of Debenture.* 5.1 Opinion of Baker & Hostetler re legality.** 10.1 December 31, 1994 Acquisition Agreement between the Company and Tech Virginia.* 10.2 Form of Indemnification Agreement to be entered into between the Company and each officer and director of the Company.** 10.3 Form of Employment Agreement between the Company and Edward G. Newman.** 10.4 Form of Employment Agreement between the Company and John F. Moynahan.** 10.5 November 30, 1994 Lease Agreement between Hyatt Plaza Limited Partnership and the Company.* 10.6 March 22, 1996 Month-to-Month Tenancy Agreement between the Company and The Original Tollhouse Historical Preservation Company.* 10.7 October 27, 1994 Residential Deed of Lease between the Company and Frank E. and Heather H. Moxley.* 10.8 June 10, 1994 Rockwell International Corporation contract.* 10.9 January 5, 1995 Kopin Corporation contract.* 10.10 June 19, 1995 License Agreement for Mobile Inspector software.* 10.11 1996 Omnibus Stock Incentive Plan.* 10.12 May 5, 1995 Consulting Agreement with Andrew Heller.* -32- 47 10.13 November 20, 1995 Consulting Agreement with CMC Services.* 10.14 Form of Consulting Agreement with Victor J. Lombardi.** 10.15 March 29, 1996 License Agreement with Rockwell International Corporation.* 10.16 January 13, 1997 Manufacturing Agreement between Hi-Tech Manufacturing and the Company.*** 10.17 December 30, 1996 Purchase Agreement between Adaptive Systems, Inc. and the Company.*** 10.18 September 9, 1996 Employee Agreement between Will Stackhouse and the Company.*** 10.19 December 10, 1996 Lease Agreement between Autumnwood Apartments and the Company.*** 10.20 September 10, 1996 Lease Agreement between the Company and South Beach Warehouse, LLC.*** 10.21 February 26, 1997 Purchase Order between Greenway Engineering and the Company.*** 23.1 Consent of Baker & Hostetler (included in Exhibit 5.1).** 23.2 Consent of Coopers & Lybrand L.L.P.* 24.1 Power of Attorney (included in signature page hereto).* 27.1 Financial Data Schedule*** - --------------- * Incorporated by reference in the initial filing of the Company's Registration Statement on Form SB-2, No. 333-4156. ** Incorporated by reference in an amendment to the Company's Registration Statement on Form SB-2, No. 333-4156. *** Filed herewith. Reports on Form 8-K The Company did not file any Report on Form 8-K during the year ended December 31, 1996. -33- 48 SIGNATURES In accordance with Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. XYBERNAUT CORPORATION By:/s/ EDWARD G. NEWMAN --------------------------------------- Edward G. Newman Present, Chief Executive Officer and Chairman of the Board of Directors Date: March 31, 1997 In accordance with the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company and the capacities and on the dates indicated.
Signature Title Date --------- ----- ---- President, Chief Executive Officer March 31, 1997 /s/ EDWARD G. NEWMAN and Chairman of the Board of -------------------------------------- Directors Edward G. Newman Vice President, Chief Financial March 31, 1997 /s/ JOHN F. MOYNAHAN Officer, Treasurer and Director -------------------------------------- John F. Moynahan Vice President and Chief Operating March 31, 1997 /s/ JOHN W. WILLIAMS Officer -------------------------------------- John W. Williams /s/ LT. GEN. HENRY E. SOYSTER Director March 31, 1997 -------------------------------------- Lt. Gen. Henry E. Soyster /s/ JAMES J. RALABATE Secretary and Director March 31, 1997 -------------------------------------- James J. Ralabate /s/ KEITH P. HICKS Director March 31, 1997 -------------------------------------- Keith P. Hicks /s/ STEVEN A. NEWMAN Director March 31, 1997 -------------------------------------- Steven A. Newman
-34- 49 /s/ PHILLIP E. PEARCE Director March 31, 1997 -------------------------------------- Phillip E. Pearce /s/ JACQUES REBIBO Director March 31, 1997 -------------------------------------- Jacques Rebibo /s/ EUGENE J. AMOBI Director March 31, 1997 -------------------------------------- Eugene J. Amobi
-35- EX-10.16 2 MANUFACTURING AGREEMENT 1 EXHIBIT 10.16 MANUFACTURING AGREEMENT This Manufacturing Agreement (this "Agreement") covers the manufacture of electronics products and related services by Hi-Tech Manufacturing, Inc. ("HTM"), a Delaware corporation, located at 12520 Grant Drive, Denver, CO 80241 for Xybernaut Corporation ("Xybernaut"), a Delaware corporation, whose principal place of business is 12701 Fair Lakes Circle, Suite 550, Fairfax, VA 22033. The effective date of this Agreement is January 13, 1997. PREAMBLE The general purpose of this Agreement is to document responsibilities wherein: * HTM would expect to technically and organizationally be able to satisfy and fulfill the Xybernaut purchase order requirements as accepted by HTM; * HTM would expect ongoing purchase orders and forecasts to be reliable and sufficiently in advance in order to procure components and plan factory capacity such that the basis upon which the purchase order pricing was generated can be realized; * Xybernaut would expect HTM processes to remain flexible enough to accept a certain level of engineering and schedule changes; * if HTM cannot satisfy the purchase order requirements, HTM should inform Xybernaut without delay and help develop alternative plans that will satisfy the demand (including, alternative manufacturing); * HTM would not be expected to take any inventory risk for components acquired pursuant to Xybernaut purchase orders; * HTM would not be expected to finance Xybernaut inventories for long-term significant changes to schedules; * if consignment builds are required, HTM would expect Xybernaut to provide timely, complete consignment kits (inclusive of shrink quantities) unless the quote allows for, and arrangements are made for, HTM to provide receiving, warehousing and kitting services; and * since through no fault of either HTM or the Xybernaut, programs oftentimes are not executed as planned, Xybernaut should expect HTM's response to changes to be proactive and HTM would expect Xybernaut purchase order pricing to be adjusted fairly for the changes in the level of the work. 1.1 PURCHASE ORDERS AND FORECAST. This Agreement is not a purchase order. Xybernaut is not required to purchase products from HTM until Xybernaut issues a firm purchase order pursuant to these terms and conditions of this Agreement. The terms and conditions set forth in this Agreement will prevail over conflicting terms on a purchase order. Based upon present forecasts, it is Xybernaut's intention to have HTM build, at least, 5,650 units under this Agreement. Notwithstanding the foregoing, Xybernaut is not making any representation, 2 warranty, or guaranty, as to the actual number of units of products to be ordered from HTM pursuant to this Agreement. Xybernaut will provide HTM with a manufacturing forecast, specified by Xybernaut's designated part number, for an initial 12 month period. Such forecast will be updated monthly and is not binding unless covered by a Xybernaut purchase order. It is understood and acknowledged that HTM will only order material pursuant to and based upon Xybernaut's purchase orders. Unless this Agreement is terminated, Xybernaut shall provide orders for the first 3 months of its forecast and then monthly, will provide purchase orders for one additional month so as to maintain a minimum of 3 months of products covered by purchase orders. Purchase orders should reference this Agreement and specify the item numbers, quantities ordered, unit of measure, Xybernaut part number, description of items, unit price, requested delivery dates to each particular location, method of shipment, FOB point and tax status of each shipment HTM will normally affirmatively accept all purchase orders within 10 working days from HTM's receipt of each purchase order or, within such 10 working day period, will advise Xybernaut of modifications if the purchase order is not acceptable to HTM. Absent notification within such 10 day period, the purchase order will be deemed accepted by HTM. 1.2 RESCHEDULE OF PURCHASE ORDER(S). Due to factory capacity planning, HTM ordinarily cannot accept purchase order reschedules, especially those within 30 days of the scheduled delivery date. However, reschedules may be allowed at the sole but reasonable discretion of HTM based on the capacity costs of rescheduling as reasonably determined by HTM. In circumstances where factory capacity or inventory planning is not adversely effected, HTM will allow reschedules without cost to Xybernaut. In any event, purchase orders for deliveries outside of 30 days may be rescheduled for up to 60 days for a single product's monthly requirement without cost to Xybernaut. 1.3 CANCELLATION OF PURCHASE ORDER(S). For reasons attributable to Xybernaut, purchase orders may be either cancelled by Xybernaut or deemed cancelled by being not deliverable. "Not deliverable" includes those instances in which late or delinquent deliveries of components/material provided by Xybernaut to HTM cause HTM not to be able to deliver according to the Xybernaut purchase order. Upon any cancellation or deemed cancellation, Xybernaut will be liable for material costs and non-material purchase order price as defined below. MATERIAL COSTS. "Material Costs" are defined as the cost of material, plus incoming shipping costs, if any, and (b) a mark-up of five percent (5%). Under all circumstances, Xybernaut will be responsible and liable for any and all material costs incurred by HTM for either: (1) material purchased pursuant to a Xybernaut purchase order or, (2) material purchased pursuant to a written authorization by Xybernaut (common for long-lead time components). The material liability is inclusive of any and all on order inventory unless -2- 3 cancelable (in which case the liability will be limited to any actual cancellation charges), on-hand component inventory and work-in-process. Upon cancellation, Material Costs will be separately calculated and invoiced. Payment terms for cancelled Material Costs are net 30 days. HTM will continually attempt to mitigate Material Costs by returning components to vendors, cancelling components on order and utilize cancelled material on other customer programs. NON-MATERIAL PURCHASE ORDER PRICE. For purposes hereof, Non-material purchase order price shall mean the purchase order pricing minus the Material Costs. With respect to orders cancelled within 30 days of delivery, nonmaterial purchase order price will be invoiced at the lesser of: (1) the non-material purchase order of the product or (2) the reasonable capacity costs of cancellation as determined solely by HTM. With respect to orders cancelled more than 30 days from delivery will be invoiced at the lesser of (1) one-half the non-material purchase order price of the product and (2) the reasonable capacity costs of cancellation as determined solely by HTM. Payment terms are net 30 days. 1.4 RESPONSE TIME. In the absence of the cancellation or rescheduling of a purchase order, HTM shall manufacture and deliver products to Xybernaut or its designee in accordance with Xybernaut's purchase orders. Should HTM materially fail to meet the targeted delivery dates, Xybernaut shall be entitled to terminate this Agreement without any further obligation to HTM. 1.5 TITLE AND RISK OF LOSS. Title to products and liability for loss or damage to products shall pass to Xybernaut upon HTM's delivery of the products to a common carrier for shipment to Xybernaut and/or Xybernaut's designee, and the issuance of a bill of lading or similar title document by the common carrier. 1.6 ADVANCE PAYMENTS. Xybernaut shall pay to HTM the sum of $120,000 upon the effectiveness of the execution and delivery of this Agreement, and the sum of $60,000 upon the dates that are thirty (30) and sixty (60) days thereafter. The $240,000 aggregate amount of these advance payments shall serve as an advance against the amounts payable by Xybernaut to HTM hereunder. After the aggregate $240,000 has been paid by Xybernaut, and provided the parties are otherwise not in default in respect of any of their respective obligations hereunder, HTM and Xybernaut shall negotiate in good faith regarding a modification to the terms of the timing of Xybernaut's payment obligations hereunder. 2.1 MANUFACTURING SHRINK. Turnkey material costs are quoted to include manufacturing shrink. Customer consignment material should include shrink quantities either on a component level or on an average bill of material level as mutually agreed between HTM and Xybernaut. If there is no separate agreement, a minimum of 1% component shrink will be assumed for purposes of this Agreement. -3- 4 2.2 PRODUCT QUALITY. All products manufactured by HTM hereunder shall meet the quality standards agreed upon by Xybernaut and HTM. Such quality standards shall be set forth in an exhibit attached hereto. 3.1 INVOICING OF PRODUCTS. HTM will invoice Xybernaut upon shipment. Shipping terms are FOB HTM factory. Payment terms are net 30 days. 4.1 INSPECTION. Xybernaut shall have 30 days from date of delivery to inspect the products. If any product is deemed defective by Xybernaut, Xybernaut or its designee shall notify HTM of particular deficiencies within 10 days from the end of the 30 day period. Upon receipt of a written RMA, Xybernaut or its designee shall be entitled to return such defective product to HTM for repair at HTM's cost. 5.1 PRODUCT CHANGES; DRAWINGS. (a) Xybernaut may submit a written Engineering Change Order Notice (the "Change Order Notice") to make changes in the drawings, designs, specifications, or method of shipment or packaging concerning any of the products. HTM shall provide Xybernaut with an appropriate statement setting, forth any resulting cost differences as soon as reasonably possible after receipt of the Change Order Notice. The new purchase price shall be effective upon the first invoice after the implementation of the changes. HTM will not implement any changes unless approved in writing by Xybernaut. (b) HTM may recommend to Xybernaut at any time proposed changes in the products' drawings, designs, specifications, process changes, or packing requirements that could result in improved reliability or cost reduction. HTM will implement such recommendations only upon receipt of Xybernaut's written authorization in the form of the Change Order Notice. HTM shall have no obligation or liability for its recommendations. If HTM's recommended changes decrease the cost of the assembly process, HTM and Xybernaut agree to a cost sharing program with HTM whereby any savings identified by HTM will be split 75% to Xybernaut and 25% to HTM, effective upon the first invoice after the implementation of the changes. Xybernaut shall pay all reasonable costs actually incurred by HTM as of result of with a Change Order Notice (including any engineering and documentation costs, rework charges for work in process and obsolete materials) within 30 days of the date of HTM's invoice for such costs. 6.1 LIMITED WARRANTY. HTM warrants to Xybernaut that each product from under ordinary and proper use shall be free from defects in workmanship and materials for a period of 90 days in respect of each product from the date of receipt of the product by the applicable end user and for 12 months from the date with respect to individual parts. This warranty requires that products will: (a) be manufactured in accordance with HTM's manufacturing workmanship standards, (b) conform to the product specifications, and (c) successfully complete any mutually agreed upon product acceptance tests. HTM's sole warranty obligation under this Agreement shall be to repair, replace or credit Xybernaut for any products found to be defective during the warranty period; provided that (i) -4- 5 HTM is promptly notified of the defect; (ii) the defects were not the result of misuse, accident, neglect, improper alteration or improper testing, storage, installation, or use; and (iii) such products are returned to HTM. The express warranty as set forth in this section is in lieu of all other warranties, express or implied, including, without limitation, the warranties of merchantability and fitness for a particular purpose or freedom from third party infringement claims. The express obligation stated above is in lieu of all liabilities or obligations of HTM for consequential damages, including but not limited to loss damage or injury, direct or consequential, arising out of or in connection with the delivery, use or performance of the products, and it is agreed that repair or replacement is Xybernaut's sole remedy for such loss, damage or injury. HTM expressly discuss all implied warranties of title for any consigned or Xybernaut supplied materials. Xybernaut agrees that HTM will not be liable for any lost profits, loss of business, or the like, or for any claim or demand against Xybernaut by any other party. In no event will HTM be liable for special, indirect or consequential damages even if HTM has been advised of the possibility of such damages. 7.1 PATENT AND COPYRIGHT INDEMNIFICATION. Xybernaut will defend at its expense any action brought against Xybernaut and/or HTM to the extent that such action is based on a claim that products manufactured, developed and/or supplied by HTM in compliance with Xybernaut's specifications directly infringe any United States copyright or duly issued U.S. patent. Xybernaut will pay all damages and costs finally awarded against Xybernaut or HTM in such action attributable to such claim. HTM will promptly provide Xybernaut with any communication, notice or other action relating to the alleged infringement and will give authority, information and assistance (at Xybernaut's expense) necessary to defend or settle such claim. (b) HTM will defend at its expense any action brought against HTM and/or Xybernaut to the extent that it is based on a claim that HTM's manufacturing process for the products directly infringes any United States copyright or duly issued United States patent. HTM will pay all damages and costs finally awarded against HTM or Xybernaut in such action attributable to such claim. Xybernaut will provide HTM with any communication, notice or other action relating to the alleged infringement and will give authority, information and assistance (at HTM's expense) necessary to defend or settle such claim. 7.2 DATA AND PROPRIETARY RIGHTS IN DATA. All documentation, designs, drawings, samples, specifications, publications, schedules, engineering details and related data of Xybernaut and HTM pertaining to the products and manufacturing processes are confidential information. Xybernaut and HTM shall protect such confidential information from any use or disclosure to third parties; provided that disclosure shall be permitted pursuant to subpoena and any similar judicial or regulatory process. 8.1 SERVICE ARRANGEMENT. Promptly after the execution and delivery of this Agreement, Xybernaut and HTM shall begin good faith negotiations with respect to a service arrangement -5- 6 between them pursuant to which HTM would service the products (for compensation payable to HTM) for defects after the end of the applicable warranty period. 9.1 TERM AND TERMINATION. This Agreement shall be effective for 1 year following the effective date unless sooner terminated by mutual agreement and will automatically renew for successive 1 year periods for as long as HTM retains manufacturing responsibilities for the products and unless 90 days prior to the then expiry date, Xybernaut notifies HTM in writing that it does not intend for this Agreement to be extended. The foregoing is subject to the limited rights of termination expressly set forth herein. 10.1 COUNTERPARTS. This Agreement may be executed in two (2) or more counterparts, each of which shall be deemed an original, but all of which, when taken together, shall constitute one and the same instrument and shall be effective when executed counterparts are delivered and exchanged by the parties. 10.2 APPLICABLE LAW. This Agreement shall be governed by and construed under the laws of the State of Delaware, without regard to it principles of conflicts of law. Xybernaut and HTM hereby irrevocably consents to the jurisdiction of the Federal District Court located in the Ste of Delaware and the courts of the State of Delaware. 10.3 ASSIGNMENT. This Agreement may not be assigned or delegated by either party without the prior written consent of a duly authorized officer of the other party, and any attempt to assign or delegate any rights, duties or obligations under this Agreement will be void. 10.4 REMEDIES. All rights and remedies hereunder shall be cumulative and may be exercised singularly or concurrently. 10.5 AMENDMENT. Any amendments or modifications to, or waivers from, to the terms and conditions of this Agreement must be in writing and will not be valid and effective unless evidenced by an instrument in writing executed by a duly authorized officer of each of the parties. 10.6 FORCE MAJEURE. Neither party to this Agreement shall be liable, either wholly or in part, for nonperformance or a delay in performance of its obligations under this Agreement if due to force majeure or contingencies or causes beyond the reasonable control of such party or its suppliers. The delayed party shall report any delays to the affected party within three (3) working days after the occurrence giving rise to delay. Should an event of force majeure effecting HTM or its suppliers materially interfere with the ability of HTM to meet the delivery requirements of Xybernaut as provided in Xybernaut's forecast and/or outstanding purchase orders, than Xybernaut may determine, which determination shall be reasonable and in good faith, to terminate this Agreement upon written notice to HTM. -6- 7 10.7 PUBLICATION. Except as may be required by applicable law, neither party hereto shall, without the prior written consent of the other party (which shall not be unreasonably withheld or delayed), publicly announce or otherwise disclose the existence or the terms of this Agreement. 10.8 NON-WAIVER. Failure of any party to insist upon strict compliance with any term, covenant, or condition hereof shall not be deemed a waiver of such term, covenant, or condition, nor shall any waiver or relinquishment of any right or power hereunder at any one time or more times be deemed a waiver or relinquishment of such right or power at any other time or times. 10.9 SEVERABILITY. If any provision of this Agreement shall be deemed invalid or unenforceable, the applicability or validity of any other provision of this Agreement shall not be affected, and if any such provision shall be deemed invalid or unenforceable in any respect, such provisions shall be deemed limited to the extent necessary to render it valid and enforceable. 10.10 NOTICES. All notices, consents, agreements and the like required or permitted under the terms and conditions of this Agreement shall be in writing and shall be sent by registered mail (return receipt) with postage prepaid and will be effective upon actual receipt by the recipient at the address set forth in the heading to this Agreement or such other address as may be specified to the other party. 10.11 ENTIRE AGREEMENT. This Agreement constitutes the complete, exclusive and entire Agreement and understanding between the parties with respect to the subject matter hereof and supersedes all prior and/or contemporaneous understandings with respect to such subject matter (whether written or oral) all of which are merged herein. Any term or condition in any order, confirmation or other document furnished by either party which is in any way inconsistent with or in addition to these terms and conditions is expressly rejected. IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed by their duly authorized officers effective the date written above. Hi-TECH MANUFACTURING, INC. XYBERNAUT CORPORATION ("HTM") ("Xybernaut") By: /s/ ED JOHNSON By: /s/ EDWARD G. NEWMAN ------------------------------------ --------------------------------- Title: President Title: President --------------------------------- ------------------------------ Date: 1/13/97 Date: 1/11/97 ---------------------------------- -------------------------------
-7- EX-10.17 3 PURCHASE AGREEMENT 1 [XYBERNAUT LOGO] EXHIBIT 10.17 PURCHASE AGREEMENT BETWEEN ADAPTIVE SYSTEMS INC. AND XYBERNAUT CORPORATION - -------------------------------------------------------------------------- XYBERNAUT Corporation desires to purchase Application Specific Integrated Circuits (ASIC) chips from ADAPTIVE SYSTEMS INCORPORATED (ASI). This purchase agreement replaces and supersedes in its entirety the Memorandum of Understanding (MOU) signed by both companies on Oct. 9, 1996. 1. Adaptive Systems will provide or have provided ASIC chips to Xybernaut's designee. Xybernaut will build and sell systems containing the ASIC chips to Xybernaut customers. 2. The cost that Xybernaut's designee pays for the chips will be based on the following quantities: Order Quantity Cost for 520001 -------------- --------------- 25,000 or less $29.00 25,001 - Plus $15.00 These fees are cumulative, that is, for an order of 75,000 ASIC chips the fee allowed would be: 25,000 x $29.00 = $725,000 50,000 x $15.00 = $750,000 -------- $1,475,000 3. The cost for the next generation ASIC chip will not exceed the higher of: a.) the cost for the 520001 plus 25% or; b.) the actual cost of the ASIC from the manufacturer plus 10%. The cost for the next generation ASIC chips are not cumulative with quantities ordered for the 52001 or any other ASIC chips from ASI. Accordingly, ASI agrees to provide the next generation of the ASIC chips to Xybernaut, subject to the terms and conditions herein. 4. At Xybernaut's request, ASI will deposit the applicable intellectual Property into a mutually designated escrow for Xybernaut's use in case ASI becomes unwilling or unable to support the product with a maximum of three configuration releases during the base period of this agreement. Priority and content of required releases will be mutually determined. If Xybernaut uses the ASI Intellectual Property (IP) and funds a significant amount of additional development, then Xybernaut will pay a royalty to ASI in the amount of $25.00 for each system sold that uses the subject IP. 5. ASI hereby grants an exclusive license to Xybernaut under U.S.Patent Number 5,539,330 to use and sell the invention described in said patent or improvements therein whether or not described in ASI patents for computer equipment as protected by Xybernaut's Patent Number 5.305.244 and subsequent Xybernaut patents. Both parties will notify the other in writing of all patents when issued. 1 2 ASI will not knowingly license anyone else to use the ASIC chip and related IP that may violate Xybernaut's patents. 6. Xybernaut's forecast for Mobile Assistant II (586) is as follows: March '97 -150 April '97 -200 May '97 -425 June '97 -550 July '97 -650 August '97 -700 September '97 -900 October '97 -900 November '97 -1025 December '97 -1100 January '88 -1150 February '98 -1200 March '98 -1200
The systems may be manufactured by Hi-Tech Manufacturing and Solectron Corporation, or other manufacturers designated by Xybernaut. The manufacturer will order the ASIC chips directly from ASI. Each system will require six (6) ASIC chips. 7. This Agreement is for a base period of one (1) year, plus a one (1) year option at the option of Xybernaut. Not withstanding the term of this agreement, the right to use and sell shall be in effect for as long as Xybernaut's patents are in effect. 8. ASI will provide updated quote packages to Xybernaut for transmittal to contract manufacturers selected by Xybernaut for the actual board production and component mounting. 9. This Agreement shall be governed by and construed in accordance with the laws of the state of Delaware. 10. If any claim arises out of this Agreement, the parties shall make a good faith attempt to resolve the matter. In the event that the claim cannot otherwise be settled after a good faith attempt, the claim shall be submitted to arbitration in accordance with the American Arbitration Association Arbitration Rules. Neither ASI nor Xybernaut shall unreasonably object to transfer or assignment of this agreement by the other party to a successor or assignee. 11. Either party shall have the right to terminate this Agreement upon written notice to the other, if it is determined that the other party is in material breach of any term, condition or covenant of this Agreement and fails to cure that breach within sixty (60) days of receipt of written notice of such alleged breach, provided such cure can reasonably be affected within 60 days. If such cure cannot be reasonably effected within 60 days, then one additional 30 day period will be allowed to effect such cure. If cure is not affected in such period, the party in breach shall be considered in default. /s/ EDWARD G. NEWMAN /s/ WILLIAM J. MCDERMID - --------------------- ------------------------- Date: 12/28/96 Date: 12/30/96 ----------- ------------- Mr. Edward G. Newman Mr. William J. McDermid President & CEO President & CEO Xybernaut Corporation Adaptive Systems Inc. 2 EX-10.18 4 EMPLOYEE AGREEMENT - WILL STACKHOUSE 1 EXHIBIT 10.18 EMPLOYEE AGREEMENT This Agreement effective 9th September 1996, between Xybernaut Corporation, a Delaware corporation located at 12701 Fair Lakes Circle, Suite 550, Fairfax, VA 22033 ("Company"), and Will Stackhouse, an individual residing at 1123 Stanford Avenue, Redondo Beach, CA 90278-4039 ("Employee"). WITNESSETH; WHEREAS Company and Employee desire to effect an employment arrangement under the terms and conditions contained in this Agreement; NOW THEREFORE, in consideration of the foregoing and the mutual covenants and promises made herein and for other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Company and Employee agree as follows: 1. EMPLOYMENT. Company agrees to employ Employee as Vice President, Strategic Planning and Technology. Said employment shall start on September 9, 1996. 2. TERM. 2.1 The term of this Agreement shall be for a period of three (3) years commencing on the date of the execution of this Agreement unless terminated earlier in accordance with some other provision of this Agreement. 2.2 After the initial three year period, this Agreement shall terminate unless mutually agreed upon to continue from year to year by the parties hereto or a new agreement is entered into by both parties. 2.3 This Agreement may be terminated by either party upon sixty (60) days written notice to the other party. 3. BASIC COMPENSATION. 3.1 Except as described above, Company will pay to Employee for services rendered hereunder, a basic gross salary of $12,500 per month, payable monthly or more frequently in accordance with Company policy. Increase in base salary shall be negotiated each year but shall at least equal the national CPI. 3.2 Company acknowledges and agrees to pay Employee his full basic salary during the term of this Agreement, so long as he is willing and able to perform his duties and obligations and has not defaulted under the terms of this or any other Agreement he signs with the Company. 3.3 Company agrees that should the financial and business conditions of the company allow it, Employee shall be entitled to annual performance bonuses of up to 40% (the company target) of his base salary contingent on his individual contributions to the company. 3.4 Company agrees that should the financial and business conditions of the company allow it, Employee has the potential to receive additional bonuses on a quarterly basis for exceptional achievement (e.g. Principal or key member of team negotiating outstanding contracts, strategic partnerships, mergers, acquisitions, and major funding, etc.) 2 3.5 As additional consideration, upon execution of this Agreement, Employee will be granted the option to purchase 10,000 vested shares of the Company's common stock at a strike price equal to the closing price per share of Company stock as of the date this Agreement is executed. Such option will expire ten (10) years after the date of grant. 4. EQUITY POSITION. 4.1 Company acknowledges and agrees to grant Employee options to purchase 90,000 shares of its stock said options to be at a strike price equal to the closing price per share of Company stock as of the date this Agreement is executed, to vest monthly in equal shares over a five year (60 month) period; and subject to the same restrictions, if any, required of Company senior management. Such restrictions include the execution of a lockup agreement as was required of all stock holders by the underwriter for the Company's initial public offering and may include the placing of a portion of these shares into an escrow account established for officers, directors, and senior management pursuant to the initial public offering. Should Employee depart, with the company's agreement, prior to said three years, but with satisfactory performance, then all remaining unvested shares shall vest in accordance with the five year schedule, or sooner, at the option of Company. 4.2 Company shall propose Employee for a seat on its Advisory Board and shall consider Employee for a position on its Board of Directors at a later time. 5. DUTIES AND RESPONSIBILITIES OF EMPLOYEE. Employee shall devote substantially all his business time and attention to the practice of his profession for Company. Employee shall be Vice President of Strategic Planning and Technology. The expenditure of reasonable time for teaching, personal or outside business, charitable and professional activities shall not constitute a breach of this Agreement if such activities do not materially interfere with Employee's duties, responsibilities and obligations, as solely determined by Company. Employee specifically agrees to place his duties to Company above all other activities and will abandon or curtail outside activities if so directed by Company, if in Company's opinion these exists a conflict or other reasonable grounds for abandoning or curtailing such activities. 6. AUTHORITY AND POWERS OF COMPANY. Company shall have the power to direct, control and supervise Employee's duties including the manner of, and time for, performing such duties. 7. ALLOWANCES AND COMPANY-PROVIDED SERVICES. 7.1 Company agrees to provide Employee with either an initial office set-up allowance or a West Coast office suite of equipment to include: a portable computer, telephone, facsimile machine, e-mail, pertinent software, supplies, and other functional necessities to conduct business for Company while on the West Coast. 7.2 Company agrees to provide Employee with an auto allowance, not to exceed $1,000 per month in accordance with Company policy, to include lease/purchase payment, insurance, maintenance, etc. 3 8. RELOCATION. Should relocation to Virginia or elsewhere be necessary, Company agrees to pay Employee, in accordance with company policy, all customary and usual moving expenses, to be approved in advance, including, but not limited to: moving, temporary housing, and reasonable loan and brokerage costs. Said allowance shall not exceed $50,000. 9. HEALTH AND INSURANCE PLANS: FRINGE BENEFITS. Employee shall be provided coverage in Company's current medical, dental, and disability programs, as well as any corporate plans or agreements regarding life insurance, retirement, 401-K plans, matching savings plans, employee stock option plans, and other related fringe benefits in accordance with the company policy for each. 10. VACATION AND OTHER TIME OFF. Employee will be entitled to a paid annual vacation of four weeks, in addition to sick leave and holidays, in accordance with general corporate policy. 11. SEVERANCE. Employee will be entitled to severance pay after twelve months of employment with the company. In the event of severance after twelve months of employment, Employee shall be entitled to receive severance pay equal to four months of his full basic salary for each full year, or prorated portion thereof, of employment with the company. Said payment will be due sixty (60) days after the severance date. 12. CHANGE IN CONTROL. A "change in control" of Company for purposes of this Agreement shall mean someone other than EDWARD NEWMAN serving as Company's Chairman of the Board of Directors, President or Chief Executive Officer. However, in the event of a change of control, Employee, in his sole discretion, shall have the right to terminate this Agreement and shall be entitled to severance pay equal to the greater of the amount of compensation received by Employee during the previous two (2) calendar years of the term of this Agreement, or two (2) times the amount of compensation due to Employee at the end of the then current fiscal year. All unvested stock options held by Employee at the time of such change in control shall vest immediately. 13. MISCELLANEOUS. 13.1 Employee agrees to sign and be bound by Company's Confidentiality Agreement. 13.2 This Agreement may be altered, amended, or changed only through mutual written agreement of the parties involved. 13.3 This Agreement constitutes the entire understanding between the parties with respect to the employment of Employee by Company. 13.4 This Agreement may be modified only with the written consent of both parties. 4 14. RIGHTS AND OBLIGATIONS. The rights and obligations under this Agreement shall in all respects be governed by the laws of the Commonwealth of Virginia and the venue in any legal action shall exist exclusively in the appropriate courts of Fairfax County, Commonwealth of Virginia. IN WITNESS WHEREOF the Parties hereto set their hands; COMPANY By: /s/ EDWARD G. NEWMAN ------------------------------ Edward G. Newman President & CEO Date Sept. 9th 1996 ----------------------------- By: /s/ STEVEN A. NEWMAN ------------------------------ Steven A. Newman Director Date Sept. 9th 1996 ----------------------------- EMPLOYEE By: /s/ WILL STACKHOUSE ------------------------------ Will Stackhouse Date 10 September 1996 ----------------------------- EX-10.19 5 LEASE AGREEMENT - AUTUMNWOOD 1 EXHIBIT 10.19 AUTUMNWOOD APARTMENTS 13116 AUTUMN WOODS WAY FAIRFAX, VIRGINIA 22033 SMOKE DETECTORS FOR THE HEARING IMPAIRED The undersigned agree(s) that this Addendum is incorporated in a made part of the Apartment Lease between Autumnwood I L.P. and York L.P. and XYBERNAUT, for the address 13112 C Tall Shadows Lane, dated 12-6-96, and that it shall be renewed and shall expire under the same terms and conditions of the Apartment Lease. Autumnwood Apartments is happy to provide specially designed visual smoke detectors for the hearing impaired. The visual smoke detector is available upon request. Please be advised upon move-out of your apartment any loss of or damage to the visual smoke detector will be charged to your account. X Yes, I would like a visual smoke detector installed in my apartment. - ------ No, the visual smoke detector is not necessary in my apartment. - ------ Please note that all apartments do come with a standard smoke detector, this only pertains to a specially designed smoke detector for the hearing impaired. [SIG] [SIG] - -------------------------- ----------------------------- Resident Management Agent 12-10-96 - -------------------------- ----------------------------- Resident Date - -------------------------- Date 2 BOCA 1987 NATIONAL FIRE PREVENTION CODE AND FAIRFAX COUNTY AMMENDMENTS ADOPTED BY THE COUNTY BOARD OF SUPERVISORS The undersigned agree(s) that this Addendum is incorporated in a made part of the Apartment Lease between Autumnwood I L.P. and York L.P. and XYBERNAUT, for the address 13112 C Tall Shadows Lane, dated 12-6-96, and that it shall be renewed and shall expire under the same terms and conditions of the Apartment Lease. F-318.0 Cooking devices. Add section F-318.1 as follows: F-318.1 General: No charcoal cooker, brazier, hibachi or grill or any gasoline or other flammable liquid or liquefied petroleum gas-fired stove or similar device shall be ignited or used on the balconies or within 15 feet of any apartment building or other structure with similar occupancy. The management of such occupancies which have balconies shall notify their tenants in writing of the Code requirement when the tenant initially occupies the apartment and periodically thereafter as may be necessary to ensure compliance. F-318.2 Approved cooking devices. Add subsection 318.2 as follows: Cooking devices listed under section F-318.1 using either electric or natural gas as a fuel source and listed by recognized testing authority will be exempt from the prohibitions listed in F-318.1. The cooking device shall also be designed or approved for the use of lava rocks or permanent briquette only. F-318.3 Cooking device storage. Add subsection F-318.3 as follows: The storage of cooking devices using flammable or combustible liquids or liquefied petroleum gas (LPG) as a fuel source shall be prohibited inside of, on any balcony of, or within 15 feet of, any apartment building or other structure with similar occupancy. As a resident of Autumnwood Apartments I have read and understand the aforestated National Fire Prevention Codes and Ammendments. [SIG] [SIG] - -------------------------- -------------------------- Resident Management Agent 12-10-96 - -------------------------- -------------------------- Resident Date - -------------------------- Date 3 AUTUMNWOOD APARTMENTS 13116 AUTUMN WOODS WAY FAIRFAX, VIRGINIA 22033 PET ADDENDUM [SIG] - ------- I DO NOT have a pet upon moving into Autumnwood Apartments. Should I initial get a pet during my residency at Autumnwood, I will promptly notify the management office and pay all deposits and fees due. I agree to abide by the following rules and regulations concerning behavior of pets, should I get one. - ------- I DO have a pet moving into Autumnwood. I agree to abide by the initial following rules and regulations concerning pets. The undersigned agree(s) that this Addendum is incorporated in a made part of the Apartment Lease between Autumnwood I L.P. and York L.P. and XYBERNAUT, for the address 13112 C Tall Shadows Lane, dated 12-6-96, and that it shall be renewed and shall expire under the same terms and conditions of the Apartment Lease. Lessee agrees to pay a refundable pet security deposit of $150.00 per pet and a non-refundable pet fee of $150.00. Lessee will be responsible for actions of the pet at all times and agrees to abide by the following rules: a. Playground, swimming pool areas, recreational facilities are off limits to all pets at all times. b. Pets must be on a leash at all times and under resident supervision at all times. c. Resident agrees to pay for any and all costs incurred in correcting or repairing any damage caused by the pet. d. Pets must be walked away from buildings, walkways, stairways, parking lots and patio areas. Resident is responsible for the immediate removal of their pet's waste. e. Pet combinations allowed per apartment are as follows: 1. One dog (no more than 25 pounds full grown) 2. Two dogs (not more than 25 pounds full grown) 3. One dog/one cat 4. Two cats f. Please refer to the Residential Obligations regarding pets. XYBERNAUT CORPORATION By: [SIG] [SIG] - -------------------------- -------------------------- Resident Management Agent 12/10/96 - -------------------------- -------------------------- Resident Date - -------------------------- Date 4 RESIDENTIAL OBLIGATIONS The following guidelines will insure comfortable, convenient living in your new home. By observing these Residential Obligations, H/P MANAGEMENT, INC. can provide the quality living environment that you deserve. RESIDENT MANAGER: Kimberly Goodwin ---------------------------------------- RENTAL OFFICE ADDRESS: 13116 Autumn Woods Way Fairfax, VA 22033 ---------------------------------------- TELEPHONE NUMBER: (703) 818-2332 ---------------------------------------- EMERGENCY TELEPHONE NUMBER (703) 818-2332 ---------------------------------------- 1. RENTAL PAYMENTS: Rental payments are due and payable on the first day of each month. Rental payments are to be made at the Rental Office. Make your checks payable to AUTUMNWOOD APARTMENTS. A late fee of five percent (5%) of the monthly rental amount is assessed on all rental payments not received by 6:00 p.m. on the FIFTH day of the month. A fee of $25.00 is assessed on any check returned by reason of non-sufficient funds (NSF). 2. SERVICE: Any maintenance problem should be promptly reported to the Rental Office. Routine service requests should be made during Rental Office business hours. Emergencies should be reported immediately. 3. LIGHT BULBS: Residents must furnish replacement of incandescent light bulbs, fluorescent light tubes, fuses, and fluorescent starters. 4. PETS: Cats, dogs or other pets, including pets belonging to guests, are permitted on the premises only with the Manager's prior written consent and the payment of applicable deposits and pet fees. 5. COMMON AREAS: Do not place items such as trash, children's toys, folding chairs, etc. in the hallways, building entrances, or along sidewalk areas. Children are not permitted to play in public hallways, lobbies, corridors, or storage areas. Toys, baby carriages, bicycles, etc., are to be stored within the apartment or designated storage areas. Owner reserves the right to impound any articles left in unauthorized areas. 6. TRASH: Trash must be put into the refuse container in the designated areas. Where refuse is to be placed into a dumpster or large container provided by Owner, Resident shall use this container, replace the lid and not place refuse around the container. Recycling containers for newspapers have been placed by compactors or dumpsters to make it convenient for you to participate in the county's recycling program. 7. LOCKS: Management must maintain the capability of emergency access to your apartment. Therefore, changing or rekeying of locks to any apartment is strictly prohibited. Any lock, other than a defective lock, changed by Management will be charged to Resident on a time and materials basis. Duplicate keys will be provided for a charge of $5.00 per key. Whenever a mailbox is maintained by the Post Office, Resident must contact the Post Office to request replacement of a mailbox lock. 8. LOCKOUTS: During the hours of 9:00 a.m. to 6:00 p.m. on Mondays through Fridays, the fee for having Management open a locked apartment door is $10.00. Between the hours of 6:00 p.m. and 9:00 a.m., plus Saturdays, Sundays and Holidays, the fee for having Management open a locked apartment door is $20.00. The lockout service fee will be billed to Resident's account as additional rent. Management will only open a locked apartment at the request of resident with proper identification, not friends or guests. 9. NOISE. Stereos, radios, record players, and televisions should be operated at volume levels which will not disturb your neighbors, especially between the hours of 10:00 p.m. and 9:00 a.m. Please be as considerate of your neighbors as you would have them be of you. 10. INSURANCE: Loss or damage to your furnishings or personal property, whether in your apartment, stored in a storage space or in the parking areas, are not covered by Owner's insurance. Therefore, it is strongly recommended that you purchase a Renter's Insurance Policy to protect your personal property. 11. WINDOWS AND DOORS: Make sure that the windows and doors of your apartment are securely closed and locked before leaving the apartment. You will be held responsible for damages caused by frost, rain, or other damages caused by such negligence. 12. PLUMBING: Report any water leaks, gas leaks, or other plumbing complaints immediately to the Rental Office. No rags, sweepings, matches, ashes or any other improper articles should be disposed of in the plumbing fixtures, nor should harmful cleaning materials be used. The cost of any damages resulting to plumbing equipment from misuse will be at your expense. 13. HEATING AND COOLING: Report any malfunction of heating or cooling equipment to the Rental Office. Storage of articles near or around the furnace unit or in the furnace enclosure creates a fire hazard, a lack of efficiency, and is strictly prohibited. 14. FIREPLACES, DISPOSAL OF ASHES: Do not dispose of ashes until completely cool - wait 24 hours. Do not place ashes onto balcony or patio. Do not store firewood on balcony or patio. 15. BALCONIES, PATIOS AND WINDOWS: Do not hang anything from the railing of the balcony, patio or from window ledges, (i.e. clothing, rugs, towels, etc.) or store any unsightly items on the balcony or patios. Balconies should be cleaned to avoid sweepings and dust from going onto any other balcony or patio. All draperies must be backed in white or beige colored material so that only white or beige is seen from the exterior of the building. 16. HANGING PICTURES: Use only standard picture hangers for hanging pictures and mirrors. Adhesive hangers are not permitted. Damage resulting from picture hanging is not considered normal wear and tear. 17. PAINTING AND WALL COVERING: If you would like to paint or wallpaper any portion of your apartment, you may apply to the Manager for an Interior Decorating Lease Addendum. 5 EARLY LEASE TERMINATION ADDENDUM ADDENDUM to H/P Management L.P. Lease Agreement between H/P MANAGEMENT LIMITED PARTNERSHIP, D/B/A H/P MANAGEMENT L.P., Managing Agent on behalf of Autumnwood Apartments I L.P. and York L.P., (Property Owner) and XYBERNAUT, Resident(s), dated 12-6-96, for the leased premises located at 13112 C Tall Shadows Lane, situated on the property known as Autumnwood Apartments. EARLY LEASE TERMINATION - Resident may terminate the lease prior to the lease termination date under the provisions of one of the following two options. RESIDENT MUST DETERMINE WHICH OPTION THEY WANT TO EXERCISE ON THE LAST DAY OF OCCUPANCY IN CONJUNCTION WITH RETURNING THE KEYS INTO THE LEASING OFFICE. OPTION 1 1. Resident must submit a written notice to the Leasing Office on the first day of a month a minimum of thirty (30) days prior to the desired lease termination date. Resident will be responsible for payment of rent during the notice period. 2. Resident must pay a Lease Termination Fee in an amount equivalent to one month rent on the leased premises. 3. Resident will be responsible for reimbursement of any concessions or rent discounts received by Resident over the term of the lease. 4. Resident will be responsible for payment of an Apartment Preparation Fee in the amount of $250.00. 5. Resident must leave the apartment in a clean, undamaged condition and return all keys to the Leasing Office on the last day of occupancy. PAYMENT OF ALL FEES MUST BE MADE ON THE LAST DAY OF OCCUPANCY IN CONJUNCTION WITH RETURNING THE KEYS TO THE LEASING OFFICE. OPTION 2 1. Resident must submit a written notice to the Leasing Office as far in advance of the anticipated moving date as possible. 2. Resident will be responsible for payment of rent for the duration of the lease or until such time as the apartment is rented to a new resident and the new resident takes possession of the apartment. 3. Resident will be responsible for payment of an Apartment Preparation Fee in the amount of $250.00, except in the case where the apartment is not rented to a new resident prior to the expiration of the lease. 4. Resident will leave the apartment in a clean and undamaged condition and return all keys to the Leasing Office on the last day of occupancy. NOTE: If resident is terminating this lease agreement prior to the lease expiration for reason of a job transfer, the Apartment Preparation Fee in the amount of $250.00 will be waived subject to the following provisions: 1. Resident is subject to all other fees and conditions associated with Option 1 and Option 2. 2. The new employment location must be beyond a fifty (50) mile radius of the leased premises and a letter or statement from the Resident's employer confirming the job transfer must be presented. 3. Resident must have resided in the currently leased premises for at least six (6) months. Intending to be legally bound to the terms of this Lease Addendum in its entirety, the following do agree to the conditions as evidenced by their signatures below. WITNESSED: H/P MANAGEMENT Managing Agent X X [SIG] - -------------------------- -------------------------- X X [SIG] - -------------------------- -------------------------- WITNESSED: RESIDENT A X X - -------------------------- -------------------------- WITNESSED: RESIDENT B EX-10.20 6 LEASE AGREEMENT - SOUTH BEACH WAREHOUSE 1 EXHIBIT 10.20 LEASE for THE SOUTH BEACH WAREHOUSE 164 TOWNSEND STREET between SOUTH BEACH WAREHOUSE, LLC, Landlord and XYBERNAUT CORPORATION, Tenant DATED AS OF: September 10, 1996 2 THE SOUTH BEACH WAREHOUSE BASIC LEASE INFORMATION 164 Townsend Street, San Francisco, California DATE OF THIS LEASE: September 10, 1996 LANDLORD: South Beach Warehouse, LLC TENANT: Xybernaut Corporation PREMISES: Unit Three, a portion of the First Floor, 164 Townsend Street, San Francisco LEASE COMMENCEMENT DATE: September 15, 1996 EXPIRATION DATE OF EXTENDED September 14, 1999 LEASE TERM: INITIAL MONTHLY RENT: $4,450.00 BASE YEAR FOR TAXES AND N/A INSURANCE EXPENSES: TENANT'S PRO RATA SHARE: 9.6% $228.00 LANDLORD'S ADDRESS FOR 655 Third Street NOTICES: San Francisco, CA 94107 Attention: Patrick McNerney TENANT'S ADDRESS FOR NOTICES: 164 Townsend Street, Unit Three San Francisco, California 94107 Attention: Peter Ronzani SECURITY DEPOSIT: $4,450.00 BROKER: N/A EXHIBITS: A, B & C RIDER TO LEASE: N/A The basic lease information is part of this Lease; however, if any of the basic lease information contradicts any provision of this Lease, the provisions of this Lease will prevail. Each of Landlord and Tenant hereby acknowledges and agrees that the information appearing on this page entitled Basic Lease Information is true and correct as of the Commencement Date shown above. LANDLORD: TENANT: South Beach Warehouse, LLC Xybernaut Corporation By: [sig] By: [sig] ---------------------------- ---------------------------- Patrick McNerney, Genl. Mgr. VP & CFO 3 TABLE OF CONTENTS
Section Page ------- ---- 1. Premises........................................................................................ 1 2. Definitions..................................................................................... 1 3. Term; Delivery of Possession of Premises........................................................ 1 4. Condition of Premises........................................................................... 2 5. Monthly Rent.................................................................................... 2 6. Security Deposit................................................................................ 2 7. Additional Rent: Increases in Insurance Expenses and Tax Expenses............................... 2 8. Use of Premises; Compliance with Law............................................................ 3 9. Alterations and Restoration..................................................................... 3 10. Repair.......................................................................................... 4 11. Abandonment..................................................................................... 4 12. Liens........................................................................................... 4 13. Assignment and Subletting....................................................................... 4 14. Indemnification of Landlord..................................................................... 6 15. Insurance....................................................................................... 6 16. Mutual Waiver of Subrogation Rights............................................................. 7 17. Utilities and Common Areas...................................................................... 7 18. Personal Property and Other Taxes............................................................... 8 19. Rules and Regulations........................................................................... 8 20. Surrender, Holding Over......................................................................... 8 21. Subordination and Attornment.................................................................... 8 22. Financing Condition............................................................................. 8 23. Entry by Landlord............................................................................... 9 24. Insolvency or Bankruptcy........................................................................ 9 25. Default and Remedies............................................................................ 9 26. Damage or Destruction........................................................................... 10 27. Eminent Domain.................................................................................. 11 28. Landlord's Liability; Sale of Building.......................................................... 11 29. Estoppel Certificates........................................................................... 11 30. Attorneys' Fees................................................................................. 12 31. Waiver.......................................................................................... 12 32. Notices......................................................................................... 12 33. Defined Terms and Section Headings.............................................................. 12 34. Time and Applicable Law......................................................................... 12 35. Successors...................................................................................... 12 36. Entire Agreement; Modifications................................................................. 12 37. Light and Air................................................................................... 12 38. Name of Building................................................................................ 12 39. Severability.................................................................................... 12 40. Authority....................................................................................... 12 41. No Offer........................................................................................ 12 42. Hazardous Substance Disclosure.................................................................. 13 43. Real Estate Brokers............................................................................. 13 44. Counterparts; Exhibits, Riders and Other Attachments............................................ 13 45. Joint and Several Liability..................................................................... 13 46. Square Footage.................................................................................. 13 47. Condominium Conversion.......................................................................... 13
EXHIBITS: A Outline of Premises B Parking Location C Rules and Regulations 4 THE SOUTH BEACH WAREHOUSE LEASE THIS LEASE is effective as of the Tenth day of September, 1996, between South Beach Warehouse LLC, a California limited liability company ("Landlord"), and Xybernaut Corporation, a Delaware corporation ("Tenant"). 1. PREMISES: Landlord hereby leases to Tenant, and Tenant hereby leases from Landlord, on the terms and conditions set forth in this Lease, the space consisting of approximately 2,900 rentable square feet known as Unit Three (the "Premises"). The Premises are located on the floor specified in Section 2 below of the building (the "Building") located at 164 Townsend Street, San Francisco, California and outlined on Exhibit A hereto. The Building, the parcel(s) of land (the "Land") on which the Building is located and the other improvements on the Land are referred to herein as the "Real Property". Tenant's lease of the Premises shall include the right to use, in common with others, the lobbies, entrances, stairs, elevator, driveways, landscape and plant areas, and other public portions of the Building (the "Common Areas"). All of the windows and outside walls of the Premises and any space in the Premises used for shafts, stacks, pipes, conduits, ducts, electrical equipment or other utilities or Building facilities are reserved solely to Landlord and Landlord shall have rights of access through the Premises for the purpose of operating, maintaining and repairing the same. The Premises shall also include one (1) passenger vehicle parking stall ("Parking") located on the Land or within five hundred feet (500') of the Real Property. The initial location of the Parking shall be in accordance with Exhibit B hereto. The Parking may be relocated from time to time by Landlord with ten (10) days written notice to Tenant. 2. DEFINITIONS: As used in this Lease, the following terms shall have the meanings specified below: a. Floor on which the Premises are located: First. b. Initial Lease Term: Twelve (12) months, commencing on September 15, 1996 (the "Commencement Date"), and ending midnight September 14, 1997 (the "Expiration Date"). c. Initial Monthly Rent: Four Thousand, Four Hundred, Forty Five Dollars ($4,445.00), adjusted annually pursuant to Section 3(c) below. d. Initial Parking Rent: Zero Dollars ($0.00), adjusted annually pursuant to Section 3(c) below. e. Security Deposit: Four Thousand, Four Hundred, Forty Five Dollars ($4,445.00). f. Pro Rata Share of Utilities and Services: Nine and Six Tenths percent (9.6%), with initial estimated monthly expenses of Two Hundred Twenty Eight Dollars ($228.00). g. Business of Tenant: Live/Work use as permitted and in accordance with the applicable provisions of the San Francisco Planning Code, including but not necessarily limited to, Sections 102.2 and 102.13. Section 102.13 defines Live/Work units and specifically establishes limits on occupancy and the numbers of occupants who must be involved in permitted work activity in each unit. Tenancy shall be restricted to work activities permitted in the Service/Light Industrial district as defined in the San Francisco Planning Code. 3. TERM; DELIVERY OF POSSESSION OF PREMISES. a. Term. The Initial Lease Term shall commence on the Commencement Date and shall expire on the Expiration Date. b. Delivery of Premises. The Premises shall be delivered to Tenant on the Commencement Date, provided Tenant shall have paid to Landlord the Monthly Rent for the first month of the Lease Term and the Security Deposit. Except as otherwise provided in this Section 3, no delay in delivery of possession of the Premises to Tenant shall operate to extend the Lease Term or amend Tenant's obligations under this Lease. Tenant shall, however, have the option to terminate this Lease, and recover all rent and security deposit paid to Landlord should Landlord not be able to provide Tenant with possession within thirty (30) days of Commencement Date. c. Option to Renew. i. Tenant is hereby granted the option (the "First Option") to extend the term of this for two (2) years after the expiration of the Initial Lease Term (the "Extended Lease Term"). Tenant may not extend the Initial Lease Term pursuant to any option granted by this Section if Tenant is in default, and the period, if any, in which to cure such default has expired, as of the date of exercise of such option or as of the date this Lease would have terminated but for the exercise of such option. ii. Tenant shall be deemed to have waived the First Option, unless Tenant has given Landlord notice in writing of its decision to exercise such option no earlier than ninety (90) days nor later than forty-five (45) days 5 before the date the Initial Lease Term would end but for said option. Time is of the essence in regard to Tenant's notice to exercise, and unless notice to exercise is timely given, Tenant's right to exercise of the First Option, shall be terminated. If Tenant has given notice to exercise as of forty-five (45) days before the date the Original Lease Term would have ended for said option, a binding contract to lease the Premises for a two (2) year term is thereupon created between Landlord and Tenant, upon the terms and conditions herein provided. iii. All terms and conditions provided for in this Lease shall apply during the option period, with the exception that (A) the Base Rent at the commencement of the option period and on each successive anniversary date during the Extended Lease Term will be increased and adjusted to reflect the average annual cost of living increase during each preceding twelve (12) month period for the Consumer Price Index, All Urban Consumers, San Francisco-Oakland-San Jose, California area (1982-84 = 100), All Items, published by the United States Department of Labor, Bureau of Labor Statistics, except that no such annual increase shall be less than four percent (4%) nor more than eight percent (8%), and (B) the Parking rent will be increased to one hundred dollars ($100.00) per month. 4. CONDITION OF PREMISES: Except as provide herein below, Tenant accepts the Premises on the Commencement Date in "as-is, where is" condition. In the event Tenant desires additional improvements, Tenant shall proceed pursuant to Section 9 below. 5. MONTHLY RENT: a. On or before the first day of each calendar month during the Lease Term, Tenant shall pay to Landlord, as monthly rent for the Premises, the Monthly Rent specified in Section 2 above and in sub-section (b) below. If the Lease Term commences on a day other than the first day of a calendar month, or terminates on a day other than the last day of a calendar month, then the Monthly Rent payable for such partial month shall be appropriately prorated on the basis of a thirty (30) day month. Monthly Rent shall be paid by Tenant to Landlord, in advance, without deduction, offset, prior notice or demand, in lawful money of the United States of America at Landlord's office specified in the Basic Lease Information, or to such other person or at such other place as Landlord may from time to time designate in writing. Payments made by check must be drawn either on a California institution or in a financial institution that is a member of the Federal Reserve system. b. The monthly rent for year one of the Lease Term shall be $4,450.00. c. All amounts payable by Tenant to Landlord under this Lease in addition to the Monthly Rent hereunder shall constitute rent owed by Tenant to Landlord hereunder. d. Tenant acknowledges that late payment of any installment of Monthly Rent will cause Landlord to incur costs not contemplated by this Lease and that the exact amount of such costs would be extremely difficult and impracticable to fix. Such costs include, without limitation, processing and accounting charges, late charges that may be imposed on Landlord by the terms of any encumbrance or note secured by the Real Property and the loss of the use of the delinquent funds. Therefore, if any installment of Monthly Rent due from Tenant is not received within ten (10) days of the due date, Tenant shall pay to Landlord on demand an additional sum of six percent (6%) of the overdue installment, which sum represents a fair and reasonable estimate of the costs that Landlord will incur by reason of late payment by Tenant. Acceptance of any late charge shall not constitute a waiver of Tenant's default with respect to the overdue amount, nor prevent Landlord from exercising any of the other rights and remedies available to Landlord. Any rent not paid by Tenant to Landlord within ten (10) days of the date due shall bear interest from the date due to the date of payment by Tenant at an annual rate of interest (the "Interest Rate") equal to the lesser of (i) the maximum annual interest rate allowed by law on such due date, or (ii) the rate of eighteen percent (18%) per annum. Failure by Tenant to pay when due, including any interest accrued under this subsection, shall constitute an Event of Default (as defined in Section 25 below) by Tenant under this Lease giving rise to all the remedies afforded Landlord under this Lease for non-payment of rent. e. No security or guaranty which may now or hereafter be furnished to Landlord for the payment of rent due under this Lease or for the performance by Tenant of the other terms of this Lease shall in any way be a bar or defense to any of Landlord's remedies set forth in Section 25 below. 6. SECURITY DEPOSIT: Upon execution of this Lease, Tenant shall pay to Landlord the Security Deposit specified in Section 2(e) hereof as security for Tenant's performance of all of the provisions of this Lease. Landlord shall not be required to segregate the Security Deposit from Landlord's other funds and no interest shall accrue or be payable to Tenant with respect thereto. Landlord may (but shall not be required to) use the Security Deposit so any portion thereof to cure any Event of Default under this Lease or to compensate Landlord for any damage Landlord incurs as a result of Tenant's failure to perform any of its obligations hereunder. In such event and upon written notice form Landlord to Tenant specifying the amount of the Security Deposit so utilized by Landlord and the particular use for which such amount was used, Tenant shall immediately deposit with Landlord an amount sufficient to return the Security Deposit to the amount specified in Section 2(e). Tenant's failure to make such payment to Landlord within five (5) days of Landlord's notice shall constitute an Event of Default under this Lease. If Tenant is not in default at the expiration or termination of this Lease, Landlord shall return to Tenant the Security Deposit or the balance thereof then held by Landlord; provided, however, that in no event shall any such return be construed as an admission by Landlord that Tenant has performed all of Tenant's obligations under this Lease. No holder of a Superior Interest (as defined in Section 21), nor any purchaser of any judicial or private foreclosure sale of the Real Property or any portion thereof, shall be responsible to Tenant of such Security Deposit unless such holder or purchaser shall have actually received the same. 7. ADDITIONAL RENT: Building insurance expenses and Building and Land tax expenses are intentionally omitted from this Lease. See Section 17 for utilities and other Building services. Page 2 of 13 6 8. USE OF PREMISES; COMPLIANCE WITH LAW: a. Use of Premises. The Premises shall be used solely for live/work purposes as defined and permitted in the San Francisco Planning Code as described in Section 2(g) hereof and for no other use or purpose without the prior written consent of Landlord. Tenant shall not do or suffer or permit anything to be done in or about the Premises or the Real Property, nor bring or keep anything therein, which would in any way subject Landlord, Landlord's agents or the holder of any Superior Interest to any liability, increase the premium rate of or affect any fire, casualty, liability, rent or other insurance relating to the Real Property or any of the contents of the Building, or cause a cancellation of, or give rise to any defense by the Insurer to any claim under, or conflict with, any policies for such insurance. If any act or omission of Tenant results in any such increase in premium rates, Tenant shall pay to Landlord upon demand the amount of such increase. Tenant shall not do or suffer or permit anything to be done in or about the Premises which will in any way obstruct or interfere with the rights of other tenants or occupants of the Building or injure or annoy them, or use or suffer or permit the Premises to be used for any immoral, unlawful or objectionable purpose, nor shall Tenant cause, maintain, suffer or permit any nuisance in, on or about the Premises. Tenant agrees not to handle, store or dispose of any substance on the Premises which is prohibited by federal, state or local law or regulation. Without limiting the foregoing, no loudspeakers or other similar device which can be heard outside the Premises shall, without the prior written approval of Landlord, be used in or about the Premises. Tenant shall not commit or suffer to be committed any waste in, to or about the Premises. Tenant agrees not to employ any person, entity or contractor for any work in the Premises (including moving Tenant's equipment and furnishings in, out or around the Premises) whose presence may give rise to a labor or other disturbance in the Building and, if necessary to prevent such a disturbance in a particular situation, Landlord may require Tenant to employ union labor for the work. b. Compliance with Law. Tenant shall not do or permit anything to be done in or about the Premises which will in any way conflict with any law, ordinance or governmental requirement now in force or which may hereafter be enacted. Tenant, at its sole cost and expense, shall promptly comply with all such laws, ordinances and governmental requirements and with the requirements of any board of fire underwriters or other similar body now or hereafter constituted relating to the condition, use or occupancy of the Premises (excluding structural changes to the Building not related to or affected by Tenant's Alterations (as defined in Section 9 below and any changes to the Building required by the Americans Disability Act and any regulations promulgated thereunder), or Tenant's particular use of the Premises). The judgment of any court of competent jurisdiction or the admission of Tenant in an action against Tenant, whether or not Landlord is a party thereto, that Tenant has violated any law, ordinance or governmental requirement shall be conclusive of that fact as between Landlord and Tenant. Tenant shall immediately furnish Landlord with any notices received from any insurance company or governmental agency or inspection bureau regarding any unsafe or unlawful conditions within the Premises. c. Hazardous Substances. No Hazardous Substance as defined by any local, state or federal law or regulation shall be used or stored upon the Premises without Landlord's prior written consent and Tenant's compliance with any applicable law. In the event Landlord permits Tenant to use or store a Hazardous Substance in the Premises, Tenant indemnifies and holds Landlord harmless from all liabilities, administrative orders, lawsuits, awards, judgments or claims of whatsoever kind, including any attorneys' fees and costs incurred by Landlord in connection therewith ("Actions") arising from the use, storage, release or presence of any such Hazardous Substance(s) in or upon the Premises or Building, and shall defend Landlord at Tenant's sole expense in any such Action with counsel acceptable to Landlord in Landlord's sole judgment. d. Applicability of Section. The provisions of this Section 8 are for the benefit of Landlord only and are not nor shall they be construed to be for the benefit of any tenant or occupant of the Building. 9. ALTERATIONS AND RESTORATION: a. Alterations. Tenant shall not make or suffer to be made any alterations, additions or improvements to the Premises ("Alterations"), except as expressly provided in this Section 9. If Tenant desires any Alteration, Tenant must obtain Landlord's prior written approval of such Alteration, which approval shall not be unreasonably withheld or delayed. The Alteration shall be made at Tenant's sole cost and expense by a general contractor approved in writing by Landlord in advance and Tenant shall pay Landlord on demand or prior to or during the course of such construction a reasonable amount determined by Landlord to compensate Landlord for its review of the proposed Alteration (which shall not exceed $500.00) and for other reasonable direct and indirect expenses incurred by Landlord or Landlord's agents in connection with the Alteration (e.g., freight elevator operation, additional cleaning expenses and additional security expenses). All such work shall be performed diligently and in a first-class workmanlike manner and in accordance with plans and specifications approved by Landlord, and shall comply with all applicable laws and Landlord's construction procedures for the Building. In no event shall Tenant employ any person, entity or contractor to perform work in the Premises whose presence may give rise to a labor or other disturbance in the Building. Default by Tenant in the payment of any sums agreed to be paid by Tenant for or in connection with an Alteration (regardless of whether such agreement is pursuant to the Section 9 or separate instrument) shall entitle Landlord to all the same remedies as for non-payment of rent under this Lease. Any Alterations, including, without limitation, movable partitions that are affixed to the Premises (but excluding movable, free standing partitions) and all carpeting, shall at once become part of the Building and the property of Landlord. Tenant shall give Landlord not less than five (5) days prior written notice of the date the construction of the Alteration is to commence. Landlord may post and record an appropriate notice of non-responsibility with respect to any Alteration and Tenant shall maintain any such notices posted by Landlord in or on the Premises. b. Restoration. All Alterations constructed by Tenant shall be removed from the Premises at the expiration or sooner termination of this Lease and the Premises shall be restored to their condition prior to the Page 3 of 13 7 making of the Alterations, ordinary wear and tear excepted, provided Landlord informs Tenant in writing of its intent to have Tenant restore the Premises not less than three (3) days prior to the start of Tenant's Alterations. The removal of the Alterations and the restoration of the Premises shall be performed by a general contractor selected by Tenant and approved by Landlord, and Tenant shall pay the general contractor's fees and costs in connection with such work. Any separate work letter or other agreement hereafter entered into between Landlord and Tenant pertaining to Alterations shall be automatically incorporated into this Lease without the necessity for further reference thereto. c. Demolition/Major Renovation. If Landlord, its successor or assigns, elect at any time to demolish the total Building or to remodel or renovate at least fifty percent (50%) of the gross rentable area of the Building containing the Premises (the "Demolition/Remodel Work"), then Landlord may elect to terminate this lease upon giving Tenant not less than one hundred and eighty (180) days advanced written notice of Landlord's election to terminate. In the event of giving of such notice, Tenant shall vacate the premises on or before the date set forth in Landlord's notice, and this lease shall be deemed canceled as of said date as specified in said notice. 10. REPAIR: By taking possession of the Premises, Tenant agrees that the Premises are in good condition and repair. Tenant, at Tenant's sole cost and expense, shall keep the Premises and every part thereof (excepting load bearing walls and any plumbing and electrical facilities located outside the Premises) in good condition and repair, damage by fire, earthquake, act of God or the elements excepted. Tenant waives all rights to make repairs at the expense of Landlord as provided by any law, statute or ordinance now or hereinafter in effect. It is specifically understood and agreed that, except as specifically set forth in this Lease, Landlord has no obligation and has made no promises to alter, remodel, improve, repair, decorate or paint the Premises or any part thereof. Tenant hereby waives the provisions of California Civil Code Sections 1932(l), 1941 and 1942 and of any similar law, statute or ordinance now or hereafter in effect. Landlord, at Landlord's sole cost and expense, shall keep the load bearing walls and the exterior walls and roof in good condition. 11. ABANDONMENT: Tenant shall not vacate or abandon the Premises or any part thereof at any time during the Lease Term. Tenant understands that if Tenant leaves the Premises or any part thereof vacant, the risk of fire, other casualty and vandalism to the Premises and the Building will be increased. Accordingly, such action by Tenant shall constitute an Event of Default hereunder regardless of whether Tenant continues to pay Monthly Rent and Additional Rent under this Lease. If Tenant abandons, vacates or surrenders all or any part of the Premises or is dispossessed of the Premises by process of law, or otherwise, any movable furniture, equipment, trade fixtures, or other personal property belonging to Tenant and left on the Premises shall at the option of Landlord be deemed to be abandoned and, whether or not the property is deemed abandoned, Landlord shall have the right to remove such property from the Premises and charge Tenant for the removal and restoration of the Premises as provided in Section 9. Landlord may charge Tenant for the storage of Tenant's property left on the Premises at such rates as Landlord may from time to time reasonably determine, or, Landlord may, at its option, store Tenant's property in a public warehouse at Tenant's expense. Notwithstanding the foregoing, neither the provisions of this Section 11 nor any other provision of this Lease shall impose upon Landlord any obligation to care for or preserve any of Tenant's property left upon the Premises, and Tenant hereby waives and releases Landlord from any claim or liability in connection with the removal of such property from the Premises and the storage thereof and specifically waives the provisions of California Civil Code Section 1542 with respect to such release. Landlord's action or inaction with regard to the provisions of this Section 11 shall not be construed as a waiver of Landlord's right to require Tenant to remove its property, restore any damage to the Building caused by such removal, and make any restoration required pursuant to Section 9 hereof. 12. LIENS: Tenant shall not permit any mechanic's, materialman's or other liens arising out of work performed at the Premises by or on behalf of Tenant to be filed against the fee of the Real Property nor against Tenant's interest in the Premises. Landlord shall have the right to post and keep posted on the Premises any notices which it deems necessary for protection from such liens. If any such liens are filed, Landlord may, upon thirty (30) days written notice to Tenant, without waiving its rights based on such breach by Tenant and without releasing Tenant from any obligations hereunder, pay and satisfy the same and in such event the sums so paid by Landlord shall be due and payable by Tenant immediately without notice or demand, with interest from the date paid by Landlord through the date Tenant pays Landlord, at the Interest Rate, as defined in Section 5(d). 13. ASSIGNMENT AND SUBLETTING: a. Landlord's Consent; Definitions. Tenant acknowledges that the Building is a live/work residential property occupied by tenants specifically selected by Landlord, and that Landlord has a legitimate interest in the type and quality of such tenants, the location of tenants in the Building and in controlling the leasing of space in the Building so that Landlord can better meet the particular needs of its tenants and protect and enhance the relative image and position of the Building in the market. Tenant further acknowledges that the rental value of the Premises may fluctuate during the Lease Term in accordance with market conditions, and, as a result, the rent paid by Tenant under this Lease at any particular time may be higher or lower than the then market rental value of the Premises. Landlord and Tenant agree, and the provisions of this Section 13 are intended to so provide, that if Tenant elects to assign this Lease or sublet any portion of the Premises, the profits from any increase in the market rental value of the Premises shall belong solely to Landlord. Tenant acknowledges that, if Tenant elects to assign this Lease or sublet any portion of the Premises, a portion of Tenant's monetary investment in the subject portion of the Premises (specifically including, but not limited to, tenant improvements, good will or other assets) may be lost or reduced as a result of such action. In light of the foregoing, Tenant agrees that except upon Landlord's prior written consent, which consent shall not (subject to Landlord's rights under Section 13(d) below) be unreasonably withheld or delayed, neither this Lease nor all or any part of the leasehold interest created hereby shall directly or indirectly, voluntarily or involuntarily, by operation or law or otherwise, be assigned, mortgaged, pledged, encumbered or otherwise transferred by Tenant or Tenant's legal representatives or successors in interest (collectively, an "assignment") Page 4 of 13 8 and neither the Premises nor any part thereof shall be sublet or be used or occupied for any purpose by anyone other than Tenant (collectively, a "sublease"). Tenant agrees that any instrument by which Tenant assigns or sublets all or any portion of the Premises shall expressly provide that the subtenant or assignee may not further assign or sublet the assigned or sublet space, that the assignee or subtenant will comply with all of the provisions of this Lease and that Landlord may enforce the provisions of this Lease directly against such assignee or subtenant. Any attempted assignment or subletting without Landlord's prior written consent shall be void and shall constitute an Event of Default entitling Landlord to terminate this Lease and to exercise all other remedies provided in Section 25 of this Lease. In determining whether to approve a proposed assignment or sublease, Landlord shall place primary emphasis on the proposed transferee's reputation and creditworthiness, the character of the business to be conducted by the proposed transferee on the Premises and the effect of such assignment or subletting on the tenant mix in the Building. In no event shall Landlord be obligated to consent to an assignment or subletting which increases (a) the operating costs for the Building, (b) the burden on the Building services, or (c) the foot traffic, elevator usage or security concerns in the Building, or creates an increased probability that the comfort and/or safety of the Landlord and other tenants in the Building will be unreasonably compromised or reduced. Landlord shall not be obligated to approve an assignment or subletting to a current tenant of the Building or a prospective tenant of the Building with whom Landlord is then actively (i.e., within the previous ninety (90) days) and in good-faith negotiating. Landlord's foregoing rights and options shall continue throughout the entire Lease Term. For purposes of this Section 13, a transfer of Control of Tenant or any subtenant or assignee, or any entity controlling any of them, in a single transaction or a series of related or unrelated transactions (including, without limitation, by consolidation, merger, acquisition or reorganization), shall be deemed an assignment, except that the transfer of outstanding capital stock or other listed equity interests by persons or parties other than "insiders" within the meaning of the Securities Exchange Act of 1934, as amended, through the "over-the-counter" market or any recognized national or international securities exchange, shall not be included in determining whether Control has been transferred. "Control" shall mean direct or indirect ownership of fifty percent (50%) or more of all of the voting stock of a corporation or fifty percent (50%) or more of all the legal and equitable interest in any other business entity. If this Lease is assigned, whether or not in violation of the terms of this Lease, Landlord may collect rent from the assignment. If the Premises or any part thereof is sublet, Landlord may, upon an Event of Default by Tenant hereunder, collect rent from the subtenant. In either event, Landlord apply the amount collected from the assignee or subtenant to Tenant's monetary obligations hereunder. The consent by Landlord to an assignment or subletting hereunder shall not relieve Tenant or any assignee or subtenant from obtaining Landlord's express prior written consent to any other or further assignment or subletting, as provided herein. Neither an assignment or subletting, nor the collection of rent by Landlord from any person other than Tenant, nor the application of any such rent as provided in this Section 13(a) shall be deemed a waiver of any of the provisions of this Section 13(a) or release Tenant from its obligation to comply with the provisions of this Lease and Tenant shall remain fully and primarily liable for all of Tenant's obligations under this Lease. If Landlord approves of an assignment or subletting hereunder and this Lease contains any renewal options, expansion options, rights of first refusal, rights of first negotiation or any other rights or options pertaining to additional space in the Building, such rights and/or options shall not run to the subtenant or assignee, it being agreed by the parties hereto that any such rights and options are personal to Tenant named herein and may not be transferred. b. Processing Expenses. Tenant shall pay to Landlord the amount of Landlord's actual, reasonable cost of processing each proposed assignment or subletting (including, without limitation, the cost of Landlord's administrative, accounting and clerical time, and any attorneys' and other professional fees reasonably incurred by Landlord, collectively "Processing Costs"), provided, however, that the Processing Costs shall not exceed Five Hundred Dollars ($500.00) for any single proposed assignment or subletting, together with the amount of all direct and indirect expenses incurred by Landlord arising from the assignee or sublessee taking occupancy of the subject space (including, without limitation, costs of freight elevator operation for moving of furnishings and trade fixtures, security service, janitorial and cleaning service, and rubbish removal service). Notwithstanding anything to the contrary herein, Landlord shall not be required to process any request for Landlord's consent to an assignment or subletting until Tenant has paid to Landlord the amount of Landlord's estimate of the Processing Costs. c. Consideration to Landlord. In the event of any assignment or sublease, whether or not requiring Landlord's consent, Landlord shall be entitled to receive, as additional rent hereunder, any consideration (including, without limitation, payment for leasehold improvements owned by Landlord) paid by the assignee or subtenant for the assignment or sublease and, in the case of a sublease, the excess of the amount of rent paid for the sublet space by the subtenant over the total amount of Monthly Rent under Section 5 hereof and Additional Rent under Sections 7 and 17 hereof applicable to such sublet space on a pro rata basis. Upon Landlord's request, Tenant shall assign to Landlord all amounts to be paid to Tenant by any such subtenant and assignee which belong to Landlord and shall direct such subtenant or assignee to pay the same directly to Landlord. If there is more than one sublease under this Lease, the amounts (if any) to be paid by Tenant to Landlord pursuant to the preceding sentence shall be separately calculated for each sublease and amounts due Landlord with regard to any one sublease may not be offset against rental and other consideration pertaining due under any other sublease. With regard to an approved assignment or subletting, Tenant acknowledges that Landlord's agreement to deal directly with the subtenant or assignee with regard to such party's occupancy of the subject premises and the administration of this Lease, without requiring Tenant to monitor or become directly involved in such matters, constitutes appropriate and acceptable consideration for the capture by Landlord of any rent or consideration paid by the subtenant or assignee in excess of that required to be paid by Tenant under this Lease. Page 5 of 13 9 d. Procedures. If Tenant desires to assign this Lease or any interest therein or sublet all or part of the Premises, Tenant shall give Landlord written notice thereof designating the space proposed to be sublet and the terms proposed. Landlord shall have the prior right and option (to be exercised by written notice to Tenant given within thirty (30) days after receipt of Tenant's notice) either (i) to sublet from Tenant any portion of the Premises proposed by Tenant to be sublet, for the term for which such portion is proposed to be sublet, but at the same rent (including Additional Rent as provided for in Sections 7 and 17 hereof) as Tenant is required to pay to Landlord under this Lease for the same space, computed on a pro rata square footage basis, and during the term of such sublease Tenant shall be released of its obligations under this Lease with regard to the subject space, or (ii) to approve Tenant's proposal to sublet conditional upon Landlord's subsequent written approval of the specific sublease obtained by Tenant and the specific subtenant named therein. If Landlord exercises its option in (i) above, then Landlord may, at Landlord's sole cost, construct improvements in the subject space and, so long as the improvements are suitable for general Live/Work purposes, Landlord shall have no obligation to restore the subject space to its original condition following the termination of the sublease. If Landlord exercises its option described in (ii) above, Tenant shall submit to Landlord for Landlord's written approval Tenant's proposed sublease agreement (in which the proposed subtenant shall be named) together with a current financial statement of such proposed subtenant. If Landlord fails to exercise its option to sublet, this shall not be construed as or constitute a waiver of any of the provisions of Sections 13(a), (b), (c) or (d) herein. If Landlord exercises its option to sublet, Landlord shall not have any liability for any real estate brokerage commission(s) or any of the costs and expenses that Tenant may have incurred in connection with its proposed subletting, and Tenant agrees to indemnify, defend and hold harmless Landlord from and against any and all claims (including, without limitation, claims for commissions) arising from such proposed subletting. Landlord's foregoing rights and options shall continue throughout the entire Lease Term. For purposes of this Section 13(d), a proposed assignment of this Lease in whole or in part shall be deemed a proposed subletting of such space. e. Documentation. No permitted subletting by Tenant shall be effective until there has been delivered to Landlord a counterpart of the sublease in which the subtenant agrees to be and remain jointly and severally liable with Tenant for the payment of rent pertaining to the sublet space and for the performance of all of the terms and provisions of this Lease; provided, however, that the subtenant shall be liable to Landlord for rent only in the amount set forth in the sublease. No permitted assignment shall be effective unless and until there has been delivered to Landlord a counterpart of the assignment in which the assignee assumes all of Tenant's obligations under this Lease arising on or after the date of the assignment. The failure or refusal of a subtenant or assignee to execute any such instrument shall not release or discharge the subtenant or assignee from its liability as set forth above. f. No Merger. Without limiting any of the provisions of this Section 13, if Tenant has entered into any subleases of any portion of the Premises, the voluntary or other surrender of this Lease by Tenant, or a mutual cancellation by Landlord and Tenant, shall not work a merger, and shall, at the option of Landlord, terminate all or any existing subleases or subtenancies or, at the option of Landlord, operate as an assignment to Landlord of any or all such subleases or subtenancies. 14. INDEMNIFICATION OF LANDLORD: a. Landlord and the holders of any Superior Interests (as defined in Section 21 hereof) shall not be liable to Tenant and Tenant hereby waives all claims against such parties for any loss, injury or other damage to person or property in or about the Premises or the Real Property from any cause whatsoever, including, without limitation, water leakage of any character from the roof, walls, basement or other portion of the Premises or the Real Property, or gas, fire, explosion or electricity within the Premises or the Real Property, or acts of other tenants of the Building; provided, however, that the foregoing waiver shall be inapplicable to any loss, injury or damage resulting directly or indirectly from Landlord's negligence, gross negligence or willful misconduct. b. Tenant shall hold Landlord and the holders of any Superior Interest, and the constituent shareholders, partners or other owners thereof, and all of their agents, contractors, servants, officers, directors, employees and licensees (hereinafter collectively called the "Indemnitees") harmless from and indemnify the Indemnitees against any claims, liability, damages, costs or expenses, including reasonable attorneys' fees and costs incurred in defending against the same, to the extent arising from (a) the acts or omissions of Tenant, Tenant's employees, agents, contractors, licensees, subtenants, customers, guests or invitees in or about the Real Property, (b) any construction or other work undertaken by Tenant on the Premises, whether prior to or during the term of this Lease, (c) any breach or Event of Default under this Lease by Tenant, or (d) any accident, injury or damages, to any person or property, occurring in or about the Premises caused by the intentional acts, negligence, gross negligence or willful misconduct of Tenant, its employees and others; except to the extent such claims, liability, damages, costs or expenses are caused directly or indirectly by the negligence, gross negligence or willful acts or omissions of Landlord or its authorized representatives or agents. In case any action or proceeding be brought against any of the Indemnitees by reason of any such claim or liability, Tenant, upon notice from Landlord, covenants to resist and defend at Tenant's sole expense such action or proceeding by counsel reasonably satisfactory to Landlord. The provisions of this Section 14(b) shall survive the termination of this Lease with respect to any injury, illness, death or damage occurring prior to such termination. 15. INSURANCE: a. Tenant's Insurance. Tenant shall, at Tenant's expense, maintain during the Lease Term (and, if Tenant shall occupy or conduct activities in or about the Premises prior to or after the Lease Term, then also during such pre-term or post-term period): (i) comprehensive general liability insurance including contractual liability coverage, with a minimum coverage of One Million Dollars ($1,000,000) per occurrence/One Million Dollars ($1,000,000) general aggregate, for injuries to, or illness or death of, persons and damage to property occurring in or about the Premises or otherwise resulting from Tenant's operations in the Building, (ii) property insurance protecting Tenant against loss or damage by fire and such other risks as are insurable under then-available standard forms of "all Page 6 of 13 10 risk" insurance policies (excluding earthquake and flood but including water damage), covering Tenant's property in or about the Premises or the Real Property and also covering any fixtures that may belong to Tenant and any Alterations not in the nature of ordinary office improvements, but excluding the improvements existing in the Premises as of the date of Tenant's initial occupancy of the Premises, for not less than eighty percent (80%) of the full replacement value thereof without deduction for depreciation; and (iii) workers' compensation insurance in statutory limits. The above-described comprehensive general liability insurance shall protect Tenant, as named insured, and Landlord and all the Indemnities, as defined in Section 14, and any other parties designated by Landlord, as additional insureds; shall insure Landlord's and such other parties' contingent liability with regard to acts or omissions of Tenant; and shall specifically include all liability assumed by Tenant under this Lease (provided, however, that such contractual liability coverage shall not limit or be deemed to satisfy Tenant's indemnity obligations under this Lease). Landlord reserves the right to reasonably increase the foregoing amount of liability coverage from time to time as Landlord's insurance consultant determines is required to adequately protect Landlord and the other parties designated by Landlord from the matters insured thereby. b. Policy Form. Each insurance policy required pursuant to this Section 15 shall be issued by an insurance company licensed to do business in the State of California and approved by Landlord. Each insurance policy, other than Tenant's workers' compensation insurance, shall (i) provide that it may not be materially changed, canceled or allowed to lapse unless thirty (30) days prior written notice to Landlord and any other insureds designated by Landlord is first given, and (ii) provide that no act or omission of Tenant shall affect or limit the obligations of the insurer with respect to any other insured. Each such insurance policy or a certificate thereof shall be delivered to Landlord by Tenant on or before the effective date of such policy and thereafter Tenant shall deliver to Landlord renewal policies or certificates prior to the expiration dates of expiring policies. If Tenant fails to procure such insurance or to deliver such policies or certificates, Landlord may, at its option and after written notice to Tenant, procure the same for Tenant's account, and the cost thereof shall be paid to Landlord by Tenant upon demand. c. Nothing in this Section 15 shall be construed as creating or implying the existence of (i) any ownership by Tenant of any fixtures, additions, Alterations, or improvements in or to the Premises or (ii) any right on Tenant's part to make any addition, Alteration or improvement in or to the Premises. 16. MUTUAL WAIVER OF SUBROGATION RIGHTS: Each party hereto hereby releases the other respective party and, in the case of Tenant as the releasing party, the other Indemnitees identified in Section 14 hereof, and the respective partners, shareholders, agents, employees, officers, directors and authorized representatives of such released party, from any claims such releasing party may have for damage to the Building, the Premises or any of such releasing party's fixtures, personal property, improvements and Alterations in or about the Premises, the Building or the Real Property that is caused by or results from risks insured against under any fire and extended coverage insurance policies actually carried by such releasing party or deemed to be carried by such releasing party; provided, however, that such waiver shall be limited to the extent of the net insurance proceeds payable by the relevant insurance company with respect to such loss or damage. For purposes of this Section 16, Tenant shall be deemed to be carrying any of the insurance policies required pursuant to Section 15 even if not actually carried by Tenant, and Landlord shall be deemed to carry standard fire and extended coverage policies on the Real Property. Each party hereto shall cause each such fire and extended coverage insurance policy obtained by it to provide that the insurance company waives all rights of recovery by way of subrogation against the other respective party and the other aforesaid released parties in connection with any matter covered by such policy. 17. UTILITIES, COMMON AREAS, AND OTHER BUILDING SERVICES: a. Premises Utilities and Services. Tenant shall pay Tenant's pro rata share of the costs of the utilities provided by Landlord to the Premises in accordance with Section 17(c) below. Landlord shall furnish hot and cold domestic water, radiant heating water, sewer service, and fire sprinkler service to the Premises. Tenant shall be solely responsible for all costs associated with obtaining and utilizing electrical and telephone service in the Premises. b. Common Area Utilities and Services. Tenant shall pay Tenant's pro rata share of all costs incurred by Landlord for the operation and maintenance of the Common Areas. Common Area costs include, but are not necessarily limited to, costs and expenses for the following: gardening and landscaping; electric, natural gas, water, sewage charges and other utilities; fire and entry monitoring; maintenance of signs; fees for required licenses and permits; elevator maintenance; refuse removal; repairing, painting, cleaning, and similar items; and a reasonable allowance to Landlord for Landlord's supervision of the Common Areas (not to exceed five percent (5%) of the total of all Common Area costs for the entire calendar year). Landlord may cause any or all of such services to be provided by third parties. Insurance premiums and real or personal property taxes which are directly attributable to the Common Area are the sole responsibility of Landlord. c. Payment for Utilities and Services. Tenant shall pay Tenant's pro rata share of all estimated Common Area and Premises utilities and services provided by Landlord, in advance, in monthly installments on or before the first day of each calendar month during the Lease Term. Tenant's pro rata percentage shall be as set forth in Section 2(f) above. Landlord may adjust such estimates at any time and from time to time, based on Landlord's experience and reasonable anticipation of costs. The estimate of costs for Common Area and Premises utilities shall be adjusted annually based on the costs incurred from the previous calendar year and including any anticipated increases and/or decreases in said costs. d. Interruption of Services. In the event of any interruption in, or failure or inability to provide any of the above-described services or utilities due to causes beyond Landlord's control, such interruption, failure or inability shall not constitute an eviction of Tenant, constructive or otherwise, or impose upon Landlord any liability whatsoever, including, but not limited to, liability for consequential damages or loss of business by Tenant. Tenant Page 7 of 13 11 hereby waives the provisions of California Civil Code Section 1932(1) or any other applicable existing or future law, ordinance or governmental regulation permitting the termination of this Lease due to such interruption, failure or inability. e. Governmental Controls. In the event any governmental authority having jurisdiction over the Real Property or the Building promulgates or revises any law, ordinance or regulation or building, fire or other code or imposes mandatory or voluntary controls or guidelines on Landlord or the Real Property or the Building relating to the use or conservation of energy or utilities or the reduction of automobile or other emissions (collectively "Controls") or in the event Landlord is required or elects to make alterations to the Real Property or the Building in order to comply with such mandatory or voluntary Controls, Landlord may, in its sole discretion, comply with such Controls or make such alterations to the Real Property or the Building related thereto. Such compliance and the making of such alterations shall not constitute an eviction of Tenant, constructive or otherwise, or impose upon Landlord any liability whatsoever, including, but not limited to, liability of consequential damages or loss of business by Tenant. Landlord shall use his best efforts to prevent disruption of Tenant's business. 18. PERSONAL PROPERTY AND OTHER TAXES: Tenant shall pay before delinquency any and all taxes, fees, charges or other governmental impositions levied or assessed against Landlord or Tenant (a) upon Tenant's equipment, furniture, fixtures, improvements and other personal property (including carpeting installed by Tenant) located in the Premises, (b) by virtue of any Alterations made by Tenant to the Premises, and (c) upon this transaction or any document to which Tenant is a party creating or transferring an interest or an estate in the Premises. If any such fee, charge or other governmental imposition is paid by Landlord, Tenant shall reimburse Landlord for Landlord's payment upon demand. 19. RULES AND REGULATIONS: Tenant shall comply with the Rules and Regulations as may be established, modified or amended by Landlord from time to time. If Tenant's Premises are on the second floor of the building, Tenant shall cover not less than 70% of the concrete floors with floor coverings such as area rugs, carpets or other sound reducing coverings approved by Landlord. Landlord shall not be responsible to Tenant for the non-performance by any other tenant or occupant of the Building of any of the Rules and Regulations. The Initial Rules and Regulations for the Building are attached hereto as Exhibit C. 20. SURRENDER; HOLDING OVER: a. Surrender. Upon the expiration or other termination of this Lease, Tenant shall surrender the Premises and all improvements and Alterations to Landlord broom-clean and in their original condition, except for reasonable wear and tear and damage from casualty, and Tenant shall remove from the Premises all of Tenant's personal property and trade fixtures. If such removal is not completed at the expiration or other termination of this Lease, Landlord may remove the same at Tenant's expense. Any damage to the Premises or the Building caused by such removal shall be repaired promptly by Tenant or, if Tenant fails to do so, Landlord may do so at Tenant's expense. The removal of Alterations from the Premises shall be governed by Section 9 hereof. Tenant's obligations under this Section shall survive the expiration or other termination of this Lease. Upon expiration or termination of this Lease or of Tenant's possession, Tenant shall surrender all keys to the Premises or any other part of the Building and shall make known to Landlord the combination of locks on all safes, cabinets and vaults that may be located in the Premises. b. Holding Over. If Tenant remains in possession of the Premises after the expiration or earlier termination of this Lease, Tenant's continued possession shall be on the basis of a tenancy at sufferance and Tenant shall pay as Monthly Rent during the holdover period an amount equal to the greater of (i) one hundred fifty percent (150%) of the fair market rental (as reasonably determined by Landlord) for the Premises or (ii) two hundred percent (200%) of the Monthly Rent and Additional Rent payable under this Lease for the last full month prior to the date of such expiration. 21. SUBORDINATION AND ATTORNMENT: This Lease is expressly made subject and subordinate to any mortgage, deed of trust, ground lease, underlying lease covenants, conditions and restrictions ("CC&Rs") or like encumbrance affecting any part of the Real Property or any interest of Landlord therein which is now existing or hereafter executed or recorded (any of the foregoing being a "Superior Interest") without the necessity of any further documentation evidencing such subordination. Notwithstanding the foregoing, Tenant shall, upon Landlord's request, execute and deliver to Landlord a document (submitted to Tenant by Landlord) evidencing the subordination of this Lease to a particular Superior Interest. If the interest of Landlord in the Real Property or the Building is transferred to any person ("Purchaser") pursuant to or in lieu of proceedings for enforcement of any encumbrance, Tenant shall immediately and automatically attorn to the Purchaser, and this Lease shall continue in full force and effect as a direct lease between the Purchaser and Tenant on the terms and conditions set forth in this Lease. As long as Tenant performs his obligations under this Lease as to any future financing secured by the Building, no foreclosure of, deed given in lieu of foreclosure of, or sale under any encumbrance shall affect Tenant's rights under this Lease. 22. FINANCING CONDITION: If any lender which intends to make a loan to Landlord and take a mortgage or deed of trust encumbering the Real Property should require, as a condition to such financing, execution by Tenant of an agreement requiring Tenant to send such lender written notice of any default by Landlord under this Lease, giving such lender the right to cure such default until such lender has completed foreclosure, and preventing Tenant from terminating this Lease unless such default remains uncured after foreclosure has been completed, then Tenant agrees to execute and deliver such agreement as required by such lender. Tenant acknowledges and agrees that its failure to execute any such agreement required by such lender may cause Landlord serious financial damage by causing the failure of a financing transaction and such failure shall give Landlord all of its rights and remedies under Section 25 hereof, including its right to damages caused by the loss of said financing. Page 8 of 13 12 23. ENTRY BY LANDLORD: Landlord may, upon 24 hours notice to Tenant, except in the case of emergency, enter the Premises to (a) inspect the same and to determine whether Tenant is in compliance with its obligations hereunder, (b) supply janitorial and any other service Landlord is required to provide hereunder, (c) show the Premises to prospective purchasers or tenants, (d) post notices of non-responsibility, and (e) alter, improve or repair the Premises or any portion of the Real Property. In connection with any such alteration, improvement or repair, Landlord may erect in the Premises or elsewhere in the Real Property scaffolding and other structures reasonably required for the work to be performed. In no event shall Tenant's rent abate as a result of any such entry or work; provided, however, that all such work shall be done in such a manner as to cause as little interference to Tenant as reasonably possible. Except in the event of Landlord's gross negligence or willful misconduct, Landlord shall not be liable in any manner for any inconvenience, loss of business or other damage to Tenant or other persons arising out of Landlord's entry on the Premises as provided in this Section 23. Landlord shall at all times retain a key with which to unlock all of the doors in the Premises, except Tenant's vaults and safes. If an emergency necessitates immediate access to the Premises, Landlord may use whatever force is necessary to enter the Premises and any such entry to the Premises shall not constitute a forcible or unlawful entry into the Premises, a detainer of the Premises, or an eviction of Tenant from the Premises, or any portion thereof. 24. INSOLVENCY OR BANKRUPTCY: The occurrence of any of the following shall constitute an Event of Default under Section 25 hereof: a. Tenant ceases doing business as a going concern, makes an assignment for the benefit of creditors, is adjudicated as insolvent, files a petition (or files an answer admitting the material allegations of such petition) seeking for Tenant any reorganization, arrangement, composition, readjustment, liquidation, dissolution or similar relief under any state or federal bankruptcy or other law, or Tenant consents to or acquiesces in the appointment, pursuant to any state or federal bankruptcy or other law, of a trustee, receiver or liquidator for the Premises, for Tenant or for all or any substantial part of Tenant's assets; b. Tenant fails within sixty (60) days after the commencement of any proceedings against Tenant seeking reorganization, arrangement, composition, readjustment, liquidation, dissolution or similar relief under any state or federal bankruptcy or other law, to have such proceedings dismissed, or Tenant fails, within sixty (60) days after an appointment pursuant to any state or federal bankruptcy or other law without Tenant's consent or acquiescence, of any trustee, receiver or liquidator for the Premises, for Tenant or for all or any substantial part of Tenant's assets, to have such appointment vacated; c. Tenant is unable, or admits in writing its inability, to pay its debts as they mature; or d. Tenant gives notice to any governmental body of its insolvency or pending insolvency, or of its suspension or pending suspension of operations. In no event shall this Lease be assigned or assignable by reason of any voluntary or involuntary bankruptcy proceedings, nor shall any rights or privileges hereunder be an asset of Tenant, the trustee, debtor-in-possession, or the debtor's estate in any bankruptcy, insolvency or reorganization proceedings. 25. DEFAULT AND REMEDIES: a. Events of Default. The occurrence of any of the following shall constitute an "Event of Default" by Tenant: (i) Tenant fails to pay rent or other sums as and when due hereunder. (ii) Tenant fails to comply with any other provision of this Lease in the manner and within the time required after ten (10) days written notice from Landlord to Tenant. (iii) Tenant fails to occupy and use the Premises for fifteen (15) consecutive days, which failure shall be deemed an abandonment of the Premises by Tenant. (iv) Tenant violates the bankruptcy and insolvency provisions of Section 24 hereof. b. Remedies. Upon the occurrence of an Event of Default, Landlord shall have the following remedies, which shall not be exclusive but shall be cumulative and shall be in addition to any other remedies now or hereafter allowed by law or equity: (i) Landlord may terminate Tenant's right to possession of the Premises at any time by written notice to Tenant. Tenant expressly acknowledges that in the absence of such written notice from Landlord, no other act of Landlord, including, but not limited to, its re-entry into the Premises, its reletting of the Premises for Tenant's account, or its exercise of any other rights and remedies under this Section 25, shall constitute an acceptance of Tenant's surrender of the Premises or constitute a termination of this Lease or of Tenant's right to possession of the Premises. Upon such termination in writing of Tenant's right to possession of the Premises, this Lease shall terminate and Landlord shall be entitled to recover damages from Tenant as provided in California Civil Code Section 1951.2 or any other applicable existing or future law, ordinance or regulation providing for recovery of damages for such breach, including but not limited to the following: (A) the reasonable cost of recovering the Premises; plus Page 9 of 13 13 (B) the reasonable cost of removing Tenant's Alterations, trade fixtures and improvements; plus (C) all unpaid rent due or earned hereunder prior to the date of termination, less the proceeds of any reletting or any rental received from subtenants prior to the date of termination applied as provided in Section 25(b)(ii) below, together with interest at the Interest Rate specified in Section 5(c) of this Lease, on such sums from the date such rent is due and payable until the date of the reward of damages; plus (D) the amount by which the rent which would be payable by Tenant hereunder, as reasonably estimated by Landlord, from the date of termination until the date of the award of damages, exceeds the amount of such rental loss as Tenant proves could have been reasonably avoided together with interest at the Interest Rate specified in Section 5 hereof on such sums from the date such rent is due and payable until the date of the award of damages; plus (E) the amount by which the rent which would be payable by Tenant hereunder, as reasonably estimated by Landlord, for the remainder of the then term, after the date of the award of damages exceeds the amount such rental loss as Tenant proves could have been reasonably avoided, discounted at the discount rate published by the Federal Reserve Bank of San Francisco for member banks at the time of the award plus one percent (1%); plus (F) such other amounts in addition to or in lieu of the foregoing as may be permitted from time to time by applicable law. (ii) Landlord may continue this Lease in full force and effect and may enforce all of its rights and remedies under this Lease, including, but not limited to, the right to recover rent as it becomes due. During the continuance of an Event of Default, Landlord may enter the Premises without terminating this Lease and sublet all or any part of the Premises for Tenant's account to any person, for such term (which may be a period beyond the remaining term of this Lease), at such rents and on such other terms and conditions as Landlord deems advisable. In the event of any such subletting, rents received by Landlord from such subletting shall be applied (A) first, to the payment of the costs of maintaining, preserving, altering and preparing the Premises for subletting, the other costs of subletting, including but not limited to brokers' commissions, attorneys' fees and expenses of removal of Tenant's personal property, trade fixtures and Alterations; (B) second, to the payment of rent then due and payable hereunder; (C) third, to the payment of future rent as the same may become due and payable hereunder; (D) fourth, the balance, if any, shall be paid to Tenant upon (but not before) expiration of the Lease Term. If the rents received by Landlord from such subletting, after application as provided above, are insufficient in any month to pay the rent due and payable hereunder for such month, Tenant shall pay such deficiency to Landlord monthly upon demand. Notwithstanding any such subletting for Tenant's account without termination, Landlord may at any time thereafter, by written notice to Tenant, elect to terminate this Lease by virtue of a previous Event of Default. During the continuance of an Event of Default, for so long as Landlord does not terminate Tenant's right to possession of the Premises and subject to Section 13, entitled Assignment and Subletting, and the options granted to Landlord thereunder, Landlord shall not unreasonably withhold its consent to an assignment or sublease of Tenant's interest in the Premises or in this Lease. (iii) During the continuance of an Event of Default, Landlord may enter the Premises without terminating this Lease and remove all of Tenant's personal property, Alterations and trade fixtures from the Premises and store them at Tenant's risk and expense. If Landlord removes such property from the Premises and stores it at Tenant's risk and expense, and if Tenant fails to pay the cost of such removal and storage after written demand therefor and/or to pay any rent then due, then after the property has been stored for a period of thirty (30) days or more, Landlord may sell such property at public or private sale, in the manner and at such times and places as Landlord deems commercially reasonable following reasonable notice to Tenant of the time and place of such sale. The proceeds of any such sale shall be applied first to the payment of the expenses for removal and storage of the property, the preparation for and the conducting of such sale, and for attorneys' fees and other legal expenses incurred by Landlord in connection therewith, and the balance shall be applied as provided in Section 25(b)(ii) above. Tenant hereby waives all claims for damages that may be caused by Landlord's reentering and taking possession of the Premises or removing and storing Tenant's personal property pursuant to this Section 25, and Tenant shall hold Landlord harmless from and against any loss, cost or damage resulting from any such act. No reentry by Landlord shall constitute or be construed as a forcible entry by Landlord. (iv) Landlord may require Tenant to remove any and all Alterations from the Premises or, if Tenant fails to do so within thirty (30) days after Landlord's request, Landlord may do so at Tenant's expense. (v) Landlord may cure the Event of Default at Tenant's expense. If Landlord pays any sum or incurs any expense in curing the Event of Default, Tenant shall reimburse Landlord upon demand for the amount of such payment or expense with interest at the Interest Rate specified in Section 5 from the date the sum is paid or the expense is incurred until Landlord is reimbursed by Tenant. Any amount due Landlord under this subsection shall constitute additional rent hereunder. 26. DAMAGE OR DESTRUCTION: If all or a part of the Premises or the Real Property are damaged by fire or other casualty, and the damage can, in Landlord's reasonable opinion, be repaired within sixty (60) days of the damage, then Landlord shall repair the damage and this Lease shall remain in full force and effect. If the repairs cannot, in Landlord's opinion, be made within the sixty (60) day period, Landlord at its option exercised by written notice to Tenant within the sixty (60) day period, shall either (a) repair the damage, in which event this Lease shall continue in full force and effect, or (b) terminate this Lease as of the date specified by Landlord in the notice, Page 10 of 13 14 which date shall be not less than thirty (30) days nor more than sixty (60) days after the date such notice is given, and this Lease shall terminate on the date specified in the notice. If fire or other casualty damages the Premises or the Common Areas of the Real Property necessary for Tenant's use and occupancy of the Premises, and the damage does not result from the negligence or willful misconduct of Tenant or Tenant's agents, employees, contractors, licensees or invitees, then during the period the Premises or any part thereof are rendered unusable by such damage and repair, Tenant's Monthly Rent and Additional Rent under Sections 5, 7 and 17 hereof shall be proportionately reduced based upon the extent to which the damage and repair prevents Tenant from conducting its business at the Premises. Landlord shall not be obligated to repair or replace any of Tenant's movable furniture, equipment, trade fixtures, and other personal property, nor any Alterations installed in the Premises by Tenant, and Tenant shall, at Tenant's sole cost and expense, repair and replace such items. All such repair and replacement of Alterations shall be constructed in accordance with Section 9 hereof regarding Alterations. A total destruction of the Building shall automatically terminate this Lease. Tenant hereby waives California Civil Code Sections 1932(2) and 1933(4), providing for termination of hiring upon destruction of the thing hired, and Sections 1941 and 1942 providing for repairs to and of premises. 27. EMINENT DOMAIN: a. If all or any part of the Premises are taken by any public or quasi-public authority under the power of eminent domain, or any agreement in lieu thereof (a "taking"), this Lease shall terminate as to the portion of the Premises taken effective as of the date of taking. If only a portion of the Premises is taken, Landlord or Tenant may terminate this Lease as to the remainder of the Premises upon written notice to the other party within ninety (90) days after the taking; provided, however, that Tenant's right to terminate this Lease is conditioned upon the remaining portion of the Premises being of such size or configuration that such remaining portion of the Premises is unusable or uneconomical for Tenant's business. Landlord shall be entitled to all compensation, damages, income, rent awards and interest thereon whatsoever which may be paid or made in connection with any taking and Tenant shall have no claim against Landlord for the value of any unexpired Lease Term or of any of the improvements or Alterations in the Premises; provided, however, that the foregoing shall not prohibit Tenant from prosecuting a separate claim against the taking authority for an amount separately designated for Tenant's relocation expenses or the interruption of or damage to Tenant's business or as compensation for Tenant's personal property, trade fixtures, Alterations or other improvements paid for by Tenant. In the event of a partial taking of the Premises which does not result in a termination of this Lease, the Monthly Rent and Additional Rent under Sections 5 and 7 hereunder shall be equitably reduced. If all or any part of the Real Property other than the Premises is taken, Landlord may terminate this Lease upon written notice to Tenant given within ninety (90) days after the date of taking. b. Notwithstanding the foregoing, if all or any portion of the Premises is taken for a period of time ending prior to the end of the Lease Term, this Lease shall remain in full force and effect and Tenant shall continue to pay all rent and to perform all of its obligations under this Lease; provided, however, that Tenant shall be entitled to all compensation, damages, income, rent awards and interest thereon that is paid or made in connection with such temporary taking, except that any such compensation in excess of the rent or other amount payable to Landlord hereunder shall be promptly paid over to Landlord as received. Landlord and Tenant each hereby waive the provisions of California Code of Civil Procedure Section 1265.130 and any other applicable existing or future law, ordinance or governmental regulation providing for, or allowing either party to petition the courts of the state in which the Real Property is located for, a termination of this Lease upon a partial taking of the Premises and/or the Building. 28. LANDLORD'S LIABILITY; SALE OF BUILDING: The term "Landlord", as used in this Lease, shall mean only the owner or owners of the Real Property at the time in question. Notwithstanding any other provision of this Lease, the liability of Landlord for its obligations under this Lease is limited solely to Landlord's interest in the Real Property as the same may from time to time be encumbered, and no personal liability shall at any time be asserted or enforceable against any other assets of Landlord or against Landlord's stockholders, directors, officers or partners on account of any of Landlord's obligations or actions under this Lease. In addition, in the event of any conveyance of title to the Real Property, then from and after the date of such conveyance, Landlord shall be relieved of all liability with respect to Landlord's obligations to be performed under this Lease after the date of such conveyance. Upon any conveyance of title to the Real Property, the grantee or transferee, by accepting such conveyance, shall be deemed to have assumed Landlord's obligations to be performed under this Lease from and after the date of transfer, subject to the limitations on liability set forth above in this Section 28. If Tenant provides Landlord with any security for Tenant's performance of its obligations hereunder, and Landlord transfers such security to the grantee or transferee of Landlord's interest in the Real Property, Landlord shall be released from any further responsibility or liability for such security. Notwithstanding any other provision of this Lease, Landlord shall not be liable for any consequential damages, nor shall Landlord be liable for loss of or damage to artwork, currency, jewelry, bullion, unique or valuable documents, securities or other valuables, or for other property not in the nature of ordinary fixtures, furnishings and equipment used in general administrative and executive office activities and functions. Wherever in this Lease Tenant (a) releases Landlord from any claim or liability, (b) waives or limits any right of Tenant to assert any claim against Landlord or to seek recourse against any property of Landlord or (c) agrees to indemnify Landlord against any matters, the relevant release, waiver, limitation or indemnity shall run in favor of and apply to Landlord, the constituent shareholders, partners or other owners of Landlord, and the directors, officers, employees and agents of Landlord. 29. ESTOPPEL CERTIFICATES: At any time and from time to time, upon ten (10) days prior notice from Landlord, Tenant shall execute, acknowledge and deliver to Landlord a statement certifying to the best of Tenant's knowledge the Commencement Date of this Lease, stating that this Lease is unmodified and in full force and Page 11 of 13 15 effect (or if there have been modifications, that this Lease is in full force and effect as modified and the date and nature of each such modification), that Landlord is not in default under this Lease (or, if Landlord is in default, specifying the nature of such default), that Tenant is not in default under this Lease (or if Tenant is in default, specifying the nature of such default), the current amounts of and the dates to which the Monthly Rent and Additional Rent has been paid, and setting forth such other matters as may be reasonably requested by Landlord. Any such statement may be conclusively relied upon by a prospective purchaser of the Real Property or by a lender obtaining a lien on the Real Property as security. 30. ATTORNEYS' FEES: In the event of any action or proceeding between Landlord and Tenant (including an action or proceeding between Landlord and the trustee or debtor-in-possession while Tenant is a debtor in a proceeding under any bankruptcy law) to enforce any provision of this Lease, the losing party shall pay to the prevailing party all costs and expenses, including, without limitation, reasonable attorneys' fees and expenses, incurred in such action and in any appeal in connection therewith by such prevailing party. 31. WAIVER: No provisions of this Lease shall be deemed waived by Landlord unless such waiver is in writing signed by Landlord. The waiver by Landlord of any breach of any provision of this Lease shall not be deemed a waiver of any subsequent breach of the same or any other provision of this Lease. No delay or omission in the exercise of any right or remedy of Landlord upon any default by Tenant shall impair such right or remedy or be construed as a waiver. Landlord's acceptance of any payments of rent due under this Lease shall not be deemed a waiver of any default by Tenant under this Lease (including Tenant's recurrent failure to timely pay rent) other than Tenant's non-payment of the accepted sums, and no endorsement or statement accompanying or upon any check or payment shall be deemed an accord and satisfaction. Landlord's consent to or approval of any act by Tenant requiring Landlord's consent or approval shall not be deemed to waive or render unnecessary Landlord's consent to or approval of any subsequent act by Tenant. 32. NOTICES: All notices and demands which are required or permitted to be given by either party hereunder shall be in writing. All notices and demands by Landlord to Tenant shall be delivered personally or sent by United States mail, postage prepaid, addressed to Tenant at the Premises, or to such other place as Tenant may from time to time designate by notice to Landlord hereunder. All notices and demands by Tenant to Landlord shall be sent by United States mail, postage prepaid, addressed to Landlord at the address set forth in the Basic Lease Information, or to such other place as Landlord may from time to time designate by notice to Tenant hereunder. 33. DEFINED TERMS AND SECTION HEADINGS: When required by the contents of this Lease, the singular includes the plural. The headings and titles to the Sections of this Lease are for convenience only and are not to be used to interpret or construe this Lease. Wherever the term "including" or "includes" is used in this Lease it shall be construed as if followed by the phrase "without limitation". 34. TIME AND APPLICABLE LAW: Time is of the essence of this Lease and of each and all of its provisions. This Lease shall be governed by and construed in accordance with the laws of the State of California. 35. SUCCESSORS: Subject to the provisions of Sections 13 and 28 hereof, the covenants and conditions hereof shall be binding upon and inure to the benefit of the heirs, successors, executors, administrators and assigns of the parties hereto. 36. ENTIRE AGREEMENT; MODIFICATIONS: This Lease (including any exhibit, rider or attachment hereto) constitutes the entire agreement between Landlord and Tenant with respect to Tenant's lease of the Premises. Neither Landlord nor Landlord's agents have made any representations or warranties with respect to the Premises or the Real Property or this Lease except as expressly set forth herein, and no rights, easements or licenses shall be acquired by Tenant by implication or otherwise unless expressly set forth herein. 37. LIGHT AND AIR: Tenant agrees that no diminution of light, air or view by any structure which may hereafter be erected (whether or not by Landlord) shall entitle Tenant to any reduction of rent hereunder, result in any liability of Landlord to Tenant, or in any other way affect this Lease. 38. NAME OF BUILDING: Tenant shall not use the name or address of the Building for any purpose other than as the address of the business conducted by Tenant in the Premises without the written consent of Landlord. Landlord reserves the right to change the name or street address of the Building at any time by written notice to Tenant and Landlord shall not be liable to Tenant for any loss, cost or expense on account of any such change of name or street address. 39. SEVERABILITY: If any provision of this Lease or the application thereof to any person or circumstance shall be invalid or unenforceable to any extent, the remainder of this Lease and the application of such provisions to other persons or circumstances shall not be affected thereby and shall be enforced to the greatest extent permitted by law. 40. AUTHORITY: If Tenant is a corporation, partnership, trust, association or other entity, Tenant and each person executing this Lease on behalf of Tenant, hereby covenants and warrants that (a) Tenant is duly incorporated or otherwise established or formed and validly existing under the laws of its state of incorporation, establishment or formation, (b) Tenant has and is duly qualified to do business in California, (c) Tenant has full corporate, partnership, trust, association or other appropriate power and authority to enter into this Lease and to perform all Tenant's obligations hereunder, and (d) each person (and all of the persons if more than one signs) signing this Lease on behalf of Tenant is duly and validly authorized to do so. 41. NO OFFER: Submission of this instrument for examination and signature by Tenant does not constitute a reservation of or option for lease, and is not effective as a lease or otherwise until execution and delivery by both Landlord and Tenant. Page 12 of 13 16 42. HAZARDOUS SUBSTANCE DISCLOSURE: California law requires landlords to disclose to tenants the existence of certain hazardous substances. Accordingly, the existence of tobacco smoke and asbestos containing materials ("ACM") must be disclosed. Although smoking is prohibited in public areas of the Building, these areas may, from time to time, be exposed to tobacco smoke. Landlord covenants to comply, at Landlord's sole cost and expense, during the Lease Term with all local, state and federal laws and regulations requiring disclosure to tenants regarding the existence of hazardous substances within the Building. Tenant may obtain a copy of the Landlord's written procedures for handling ACM from the Building office. 43. REAL ESTATE BROKERS: Each party shall hold the other harmless from and indemnify and defend the other against any and all claims by any real estate broker or salesman other than the Real Estate Broker identified in the Basic Lease Information for a commission, finder's fee or other compensation as a result of Tenant's entering into this Lease. 44. COUNTERPARTS; EXHIBITS, RIDERS AND OTHER ATTACHMENTS: a. This Lease may be executed in two or more counterparts, but all of such counterparts taken together shall constitute one and the same instrument. b. All Exhibits, Riders and other attachments hereto are hereby incorporated herein and made a part hereof. Such Exhibits, Riders and other attachments, if any, affixed to this Lease are a part hereof, and in the event of variation or discrepancy the duplicate original hereof including such Exhibits, Riders and attachments, if any, held by Landlord shall control. 45. JOINT AND SEVERAL LIABILITY: If Tenant is composed of more than one signatory to this Lease, each signatory shall be jointly and severally liable with each other signatory for payment and performance according to this Lease. 46. SQUARE FOOTAGE: Any references or statements of square footage are for convenience only. This lease, including the Landlord paid Premises and Common Area utility and service charges, are not dependent on square footage computations. 47. CONDOMINIUM CONVERSION: Tenant understands and acknowledges that Landlord is in the process of finalizing the condominium subdivision for the entire Real Property. Tenant will cooperate with Landlord as requested by Landlord to facilitate with said subdivision and the subsequent recordation of the condominium map, CC&R's, and other necessary documents. THIS LEASE IS EXECUTED by Landlord and Tenant as of the date first set forth above. TENANT: Xybernaut Corporation, a Delaware corporation By: [SIG] ------------------------------------ VP & CFO LANDLORD: South Beach Warehouse LLC, a California limited liability company By: /s/ PATRICK MCNERNEY ------------------------------------ PATRICK MCNERNEY, GENL. MGR. Page 13 of 13 17 EXHIBIT C RULES AND REGULATIONS FOR THE BUILDING ATTACHED TO AND MADE A PART OF THIS LEASE 164 TOWNSEND STREET, SAN FRANCISCO, CA 1. Except as provided or required by Landlord in accordance with building standards, no sign, placard, picture, advertisement, name or notice shall be inscribed, displayed, printed, painted or affixed by Tenant on or to any part of the Building or exterior of the Premises leased to tenants or to the door or doors thereof without the written consent of Landlord first obtained and Landlord shall have the right to remove any such sign, placard, picture, advertisement, name or notice without notice to and at the expense of Tenant. 2. Except as provided or required by Landlord in accordance with Building standards, no draperies, curtains, blinds, shades, screens or other devices shall be hung at or used in connection with any window or exterior door or doors of the Premises. 3. The bulletin board or directory of the Building shall be used primarily for display of the name and location of Tenants and Landlord reserves the right to exclude any other names therefrom, to limit the number of names associated with Tenants to be placed thereon and to charge for names associated with Tenants to be placed thereon at rates applicable to all Tenants. 4. The sidewalks, halls, passages, exits, entrances, elevators and stairways of the Building shall not be obstructed by Tenants or used by them for any purpose other than for ingress and egress from their respective Premises. The halls, passages, exits, entrances, elevators, stairways, balconies and roof of the Building are not for the use of the general public and Landlord in all cases reserves the right to control the same and prevent access thereto by all persons whose presence, in the judgment of the Landlord, is or may be prejudicial to the safety, character, reputation or interests of the Building and its Tenants; provided however, that Landlord shall not prevent such access to persons with whom Tenants deal in the ordinary course of business unless such persons are engaged in illegal activities. No person shall go upon the roof of the Building unless expressly so authorized by Landlord. 5. Tenants shall not alter any lock nor install any new or additional locks or any bolts on any interior or exterior door of any Premises leased to Tenant. 6. The doors, windows, light fixtures and any lights or skylights that reflect or admit light into halls or other places of the Building shall not be covered or obstructed. The toilet rooms, toilets, urinals, wash bowls or other apparatus shall not be used for any purpose other than that for which they were constructed and no foreign substance of any kind whatsoever shall be thrown or placed therein. The expense of any breakage, stoppage or damage resulting from the violation of this rule shall be borne by the Tenant who, or whose employees or invitees, cause such expense. 7. Tenants shall not mark, drive nails, screw or drill into the walls, woodwork, brick, concrete or plaster or in any way deface the Building or any Premises leased Tenant. 8. Furniture, freight or equipment of every kind shall be moved into or out of the Building only at such times and in such manner as Landlord shall designate. Landlord may prescribe and limit the weight, size and position of all equipment to be used by Tenants, other than standard office desks, chairs and tables and portable office machines. Safes and other heavy equipment shall, if considered necessary by Landlord, stand on wood strips of such thickness as Landlord deems necessary to distribute properly the weight thereof. All damage to the Building or Premises occupied by Tenants caused by moving or maintaining any property of a Tenant shall be repaired at the expense of such Tenant. 9. No Tenant shall employ any person, other than the janitor provided by Landlord, for the purposes of cleaning the Premises occupied by such Tenant unless otherwise agreed to by Landlord. Except with the written consent of Landlord, no person shall be permitted to enter the Building for the purpose of cleaning the same. Tenants shall not cause any unnecessary labor by carelessness or indifference in the preservation of good order and cleanliness. Landlord shall not be responsible to any Tenant for loss of property on the Premises, however occurring, or for any damage to the property of any Tenant caused by the employees or independent contractors of Landlord or by any other person. Janitor service will not be furnished when rooms are occupied during the regular hours when janitor service is provided. Window cleaning shall be done only at the regular and customary times determined by Landlord for such services. 10. No tenant shall sweep or throw or permit to be swept or thrown any dirt or other substance into any of the corridors, halls or elevators or out of the doors or stairways of the Building; use or keep or permit to be used or kept any foul or noxious gas or substance; permit or suffer the Premises occupied by such Tenant to be occupied or used in a manner offensive or objectionable to Landlord or other Tenants by reason of noise, odors or vibrations; interfere in any way with other Tenants or persons having business in the Building; or bring or keep or permit to be brought or kept in the Building any animal life form, other than human, except seeing-eye dogs when in the company of their masters. 11. No Tenant shall use or keep in the Premises or the Building any kerosene, gasoline or flammable or combustible fluid or material other than limited quantities thereof reasonably necessary for the operation or maintenance of customary office equipment, or, without Landlord's, prior written approval, use any method of heating or air-conditioning other than that supplied by Landlord. No Tenant shall use or keep or permit to be used or kept any foul or noxious gas or substance in the Premises, or permit or suffer the Premises to be Page 1 of 2 18 used in a manner offensive or objectionable to Landlord or other occupants of the Building by reason of noise, odors or vibrations, or interfere in any way with other Tenants or those having business therein. Tenant must comply with any government imposed codes and regulations concerning the use or storage of any substances on the Premises. 12. No boring or cutting for telephone or electric wires shall be allowed without the consent of Landlord and any such wires permitted shall be introduced at the place and in the manner described by Landlord. The location of telephones, speakers, fire extinguisher and all other office equipment affixed to Premises occupied by Tenants shall be subject to the approval of Landlord. Each Tenant shall pay all expenses incurred in connection with the installation of its equipment, including any telephone and electricity distribution equipment. 13. No Tenant shall affix any floor covering in any manner except as approved by the Landlord. The expense of repairing any damage caused by removal of any such floor covering shall be borne by the Tenant by whom, or by whose contractors, employees or invitees, the damage shall have been caused. 14. No mail, furniture, packages, supplies, equipment, merchandise or deliveries of any kind will be received in the building or carried up or down in the elevators except between such hours and in such elevators as shall be designated by Landlord. 15. The exterior, general entrance doors to the Building shall remain locked from the outside at all times, unless otherwise determined by the Landlord. No Tenant shall cause the doors to remain in the unlocked or open position, thereby sacrificing the general security of the building. 16. Landlord may exclude or expel from the Building any person who, in the judgment of Landlord, is intoxicated or under the influence of liquor or drugs, or who shall in any manner do any act in violation of any of the rules and regulations of the Building. 17. The word "Building" as used in these rules and regulations means the Building of which a part of the Premises are leased pursuant to the Lease to which these rules and regulations are attached. Each Tenant shall be liable to Landlord and to each other Tenant of the Building for any loss, cost, expense, damage or liability, including attorneys' fees, caused or occasioned by the failure of such first named Tenant to comply with these rules, but Landlord shall have no liability for such failure or for failing or being unable to enforce compliance therewith by any Tenant and such failure by Landlord or non-compliance by any other Tenant shall not be a ground for termination of the Lease to which these rules and regulations are attached by the Tenant thereunder. 18. Each Tenant shall maintain the portions of its Premises which are visible from outside of the Building or from hallways or other public areas of the Building, in a neat, clean and orderly condition. 19. No curtains, draperies, blinds, shutters, shades, screens or other coverings, hangings or decorations shall be attached to, hung or placed in, or used in connection with any window of the Building without prior written consent of Landlord. In any event, with the prior written consent of Landlord, such items shall be installed on the office side of the Landlord's standard window covering and shall in no way be visible from the exterior of the Building. 20. No Tenant shall install any radio or television antenna, loudspeaker or other device on the roof or exterior walls of the Building without prior written consent of Landlord. 21. There shall not be used in any space, or in the public halls of the Building, either by any Tenant or others, any hand trucks except those equipped with rubber tires and side guards or such other material handling equipment as Landlord may approve. No other vehicles of any kind shall be brought by any Tenant into the Building or kept in or about the Premises. 22. Each Tenant shall store all its trash and garbage within its Premises. No material shall be placed in the trash boxes or receptacles if such material is of such nature that it may not be disposed of in the ordinary and customary manner of removing and disposing of trash and garbage in the City of San Francisco without being in violation of any law or ordinance governing such disposal. All garbage and refuse disposal shall be made only through entryways and elevators provided for such purpose and at such times as Landlord shall designate. 23. Canvassing, peddling, soliciting, and distribution of handbills or any other written materials in or about the Building are prohibited, and each Tenant shall cooperate to prevent same. 24. Landlord may waive any one or more of these Rules and Regulations for the benefit of any particular Tenant or Tenants, but no such waiver by Landlord shall be construed as a waiver of such Rules and Regulations against any or all of the Tenants of the Building. 25. These Rules and Regulations are in addition to, and shall not be construed to in any way modify or amend, in whole or in part, the terms, covenants, agreements and conditions of any lease of Premises in the Building. 26. Landlord reserves the right to make such other reasonable rules and regulations as in its judgment may from time to time be needed for the safety, care and cleanliness of the Building and for the preservation of good order therein. Page 2 of 2 EX-10.21 7 PURCHASE ORDER - GREENWAY ENGINEERING 1 EXHIBIT 10.21 PURCHASE ORDER No. 600422R2 [XYBERNAUT LOGO] Page 1 of 2 VENDOR: CONTACT: Bart Berardo Greenway Engineering Phone: 408-975-9202 95 Phelan Ave., Unit 2 San Jose, CA. 95112 Fax: 408-975-9773
- ------------------------------------------------------------------------------------------------------------------------------- Purchase Order No. Order Date Terms Ship Date Ship Via - ------------------------------------------------------------------------------------------------------------------------------- 600422R2 10/14/96 See Note 2 ASAP Fedex - ------------------------------------------------------------------------------------------------------------------------------- Item Description Qty Unit Price Delivery Date Total Price - ------------------------------------------------------------------------------------------------------------------------------- XYBERNAUT DESIGNED HEAD MOUNTED DISPLAYS (HMD'S) Phase I - Project Management & Engineering - AOC Lot 22,600 NA $22,600.00 ~ 10/14/96, Approve Tool~11/30/96 & Complete~ 1/15/97. Phase II - First Article Development, Documentation, Lot 117,500 NA $117,500.00 Test Procedures & Plastic Tooling - Order Tool~10/ 21/96, 1st Article 12/1/96 Phase III - Manufacture, Burn-in, Test and Deliver 100 221.57 3/31/97 $22,157.00 Assembled HMD'S, including ABS Plastic Parts and Packaging Phase III - Manufacture, Burn-in, Test and Deliver 250 221.57 4/15/97 $55,392.50 Assembled HMD'S, including ABS Plastic Parts and Packaging - ------------------------------------------------------------------------------------------------------------------------------- Sales Amount $217,649.50 ----------------------------------------------- Sales Tax ----------------------------------------------- Freight ----------------------------------------------- Total $217,649.50 - -------------------------------------------------------------------------------------------------------------------------------
Xybernaut Corporation Tel 703-631-6925 12701 Fair Lakes Circle Fax 703-631-6734 Suite 550 http://www.xybernaut.com Fairfax, Virginia 22033 2 PURCHASE ORDER No. 600422R2 Page 2 of 2
- ------------------------------------------------------------------------------------------------------------------------------ Purchase Order No Order Date Terms Ship Date Ship Via - ------------------------------------------------------------------------------------------------------------------------------ 600422R2 10/14/96 See Note 2 ASAP Fedex - ------------------------------------------------------------------------------------------------------------------------------
Notes: 1. Prices shown reflect only plastic components, all other parts will be purchased by Greenway and paid directly by Xybernaut. 2. Terms for Phase I = 30% at Award of Contract (AOC), 30% upon approval of plastic tooling & 40% upon delivery of initial 80 Units. Phase II = 20% at AOC + 15 Days, 40% when plastic tooling is ordered & 40% upon approval of First Article. Phase III = 20% at AOC + 30 days, 40% upon receipt of initial deliveries & 40% within 30 days of final delivery. 3. Any travel expenses will be paid by Xybernaut when prior approval is obtained. 4. Expenses for courier services, blueprints, and other project related costs will be billed to Xybernaut. No handling fees will apply to these costs. 5. Cancellation of Contract by Xybernaut will result in payment for work in process, with all partial assembly or components returned to Xybernaut. 6. Additional Work requested or rework due to Xybernaut request will be accomplished at the rate of $40.00/hour. 7. Cancellation of Contract by Greenway will result in all funds being returned to Xybernaut for work not accomplished and all components and partial assemblies delivered to Xybernaut within 30 days. 8. Postponement of work caused by Xybernaut will not release Xybernaut from making payments to Greenway based on the schedule that would have been met, had Xybernaut performed. Postponement of deliveries due to non-performance by Greenway will result in the payment for services being delayed accordingly. GREENWAY WILL MANUFACTURE THE HMD'S EXCLUSIVELY FOR XYBERNAUT. XYBERNAUT WILL RETAIN ALL DESIGN RIGHTS AND TOOLING. ALL MEETINGS AND PHONE CALLS WILL BE SUBJECT TO THE CONFIDENTIALITY AGREEMENT SIGNED PREVIOUSLY. - -------------------------------------------------------------------------------- Requestor: J. W. (Wes) Williams [SIG] Authorization: Edward G. Newman [SIG] - -------------------------------------------------------------------------------- Accepted By: Date Accepted: 2/26/97 - -------------------------------------------------------------------------------- 3 PURCHASE ORDER No. 602504 [XYBERNAUT LOGO] VENDOR: CONTACT: Bart Berardo Greenway Engineering Phone: 408-975-9202 95 Phelan Ave., Unit 2 San Jose, CA. 95112 Fax: 408-975-9773
- ------------------------------------------------------------------------------------------------------------------------------- Purchase Order No. Order Date Terms Ship Date Ship Via - ------------------------------------------------------------------------------------------------------------------------------- 602504 2/20/97 Net 30 Fedex - ------------------------------------------------------------------------------------------------------------------------------- Item Description Qty Unit Price Delivery Date Total Price - ------------------------------------------------------------------------------------------------------------------------------- PERIOD COVERED: JANUARY 1, 1997 - MAY 31,1997 NON RECURRING ENGINEERING COSTS TO COMPLETE THE DEVELOPMENT OF THE HMD: FCC Class A and subsequently Class B compliance Class A 3/8/97 NTE $20,000.00 for the complete MAII system. (586, HMD and Battery) Class B 4/8/97 UL/LC Testing NTE $10,000.00 Development and Design on the HMD NTE $25,750.00 Tooling (FCC modifications and miscellaneous) NTE $25,000.00 Travel NTE $12,000.00 - ------------------------------------------------------------------------------------------------------------------------------- Notes: NTE $92,750.00 NTE = Not to Exceed Payment terms are Net 30 from the date of invoice. ----------------------------------------------- Billing rates are as follows: Sales Tax $40.00/hr. Benchwork $50.00/hr. Management/General $75.00/hr. Development and Design Freight All travel expenses are subject to prior approval by Xybernaut. GREENWAY WILL MANUFACTURE THE HMD'S EXCLUSIVELY FOR XYBERNAUT. XYBERNAUT WILL RETAIN ALL DESIGN RIGHTS AND TOOLING. ALL MEETINGS AND PHONE CALLS ARE Total NTE $92,750.00 SUBJECT TO THE CONFIDENTIALITY AGREEMENT SIGNED PREVIOUSLY. - ------------------------------------------------------------------------------------------------------------------------------- Requestor Date Requested: Approval: Date Approved: [SIG] 2-26-97 [SIG] 2/26/97 - -------------------------------------------------------------------------------------------------------------------------------
Xybernaut Corporation Tel 703-631-6925 12701 Fair Lakes Circle Fax 703-631-6734 Suite 550 http://www.xybernaut.com Fairfax, Virginia 22033 EX-27.1 8 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE FINANCIAL STATEMENTS OF THE COMPANY INCLUDED ELSEWHERE HEREIN WHICH HAVE BEEN AUDITED BY COOPERS & LYBRAND L.L.P. INDEPENDENT ACCOUNTANTS AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH ANNUAL REPORT ON FORM 10-KSB. 12-MOS DEC-31-1996 DEC-31-1996 6,274,967 0 427,790 0 402,381 7,302,849 449,967 126,139 8,014,574 890,535 0 0 0 142,591 6,747,368 8,014,574 0 1,093,341 0 1,081,197 5,373,373 0 122,693 (5,238,536) 0 (5,238,536) 0 0 0 (5,238,536) (0.47) 0
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