-----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, T2cwX4ClsJGtRkrDHhgck4aNvaFwxV12mE5sh3x0jaYXfvO1MmPGNc9BNlm8o0Kx xNpbMqanlKeKiZ0vRXO+mw== 0000950144-00-004164.txt : 20000331 0000950144-00-004164.hdr.sgml : 20000331 ACCESSION NUMBER: 0000950144-00-004164 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19991231 FILED AS OF DATE: 20000330 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ISS GROUP INC CENTRAL INDEX KEY: 0001053148 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-PREPACKAGED SOFTWARE [7372] IRS NUMBER: 582362189 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-23655 FILM NUMBER: 585802 BUSINESS ADDRESS: STREET 1: 6600 PEACHTREE DUNWOODY RD STREET 2: BLDG 300 SUITE 500 CITY: ATLANTA STATE: GA ZIP: 30328 BUSINESS PHONE: 6784436000 10-K 1 ISS GROUP, INC. 1 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------------- FORM 10-K (MARK ONE) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ____________TO ____________
Commission file number 0-23655 ISS GROUP, INC. (Exact Name of Registrant as Specified in Its Charter) DELAWARE 58-2362189 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 6600 PEACHTREE-DUNWOODY ROAD 30328 300 EMBASSY ROW, SUITE 500 (Zip code) ATLANTA, GEORGIA (Address of principal executive offices)
Registrant's telephone number, including area code: (678) 443-6000 Securities registered pursuant to Section 12(b) of the Act:
NAME OF EACH EXCHANGE TITLE OF EACH CLASS ON WHICH REGISTERED ------------------- --------------------- None None
Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, $0.001 PAR VALUE (Title of Class) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value of the voting stock held by non-affiliates of the Registrant, based upon the closing sale price of Common Stock on March 24, 2000 as reported on the Nasdaq National Market, was approximately $3.9 billion (affiliates being, for these purposes only, directors, executive officers and holders of more than 5% of the Registrant's Common Stock). As of March 24, 2000, the Registrant had 41,766,717 outstanding shares of Common Stock. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Proxy Statement for the Registrant's 2000 Annual Meeting of Stockholders are incorporated by reference into Part III of this Form 10-K. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 PART I ITEM 1. BUSINESS BUSINESS OVERVIEW We are a leading global provider of security management solutions for protecting e-business. Our Adaptive Security Management approach to information security protects distributed computing environments, such as internal corporate networks, inter-company networks and electronic commerce environments, from attacks, misuse and security policy violations, while ensuring the confidentiality, privacy, integrity and availability of proprietary information. We deliver an end-to-end security management solution through our SAFEsuite security management platform coupled with around-the-clock remote security monitoring through our industry-leading managed security services offerings, consulting and education services. Our SAFEsuite family of products is a critical element of an active Internet and networking security program within today's world of global connectivity, enabling organizations to proactively monitor, detect and respond to risks to enterprise information. We currently provide remote management of the industry's best-of-breed security technology including firewalls, VPNs, anti-virus and URL filtering software, security assessment and intrusion detection systems. ISS is a trusted security provider to its customers, protecting digital assets and ensuring the availability, confidentiality and integrity of computer systems and information critical to e-business success. ISS' lifecycle security management solutions' protect more than five thousand customers including 21 of the 25 largest US commercial banks, 9 of the 10 largest telecommunications companies and over 35 government agencies. We also have established strategic relationships with industry leaders, including Check Point, GTE, IBM, MCI WorldCom (Embratel), iXL, BellSouth, Microsoft, Nortel and Nokia to enable worldwide distribution of our core monitoring technology. INDUSTRY BACKGROUND Network computing has evolved from client/server-based local area networks to distributed computing environments based on the integration of inter-company wide area networks via the Internet. The proliferation and growth of corporate intranets and the increasing importance of electronic commerce have dramatically increased the openness of computer networks, with the Internet becoming a widely accepted platform for many business-to-business, or B2B, and direct-to-customer, or B2C, transactions. International Data Corporation ("IDC") estimates that the number of Internet users will grow from 132 million in 1999 (up from 97 million in 1998) to 320 million in 2002, and that the value of electronic commerce transactions will grow from $67 billion to $426 billion over the same period. Additionally, it estimates that the number of devices accessing the Web will increase from 120 million in 1998 to 515 million in 2002. To capitalize on these trends, organizations of all sizes and types are increasingly connecting their enterprise networks to the Internet to facilitate and support strategic business objectives, often called "e-business" in the popular press, including: - business process re-engineering -- both inter- and intra-company processes -- on a massive scale; - "buy-side" activities such as supply chain partner integration; on-line purchasing and the use of digital marketplaces - "sell-side" activities such as web-based customer self-service which is access to account information and delivery schedules, integrated, closed-loop marketing; auction and dynamic pricing systems to clear excess inventory fast, and - secure messaging (via virtual private networks) for telecommuters and widely disbursed workforces. With the increased use of the Internet by businesses and consumers, organizations increasingly network their key systems in order to reduce costs and increase revenues. For example, businesses can implement supply chain management applications through standards enabled by the Internet. To optimize the supply 1 3 chain, businesses use the Internet to provide suppliers with access to sensitive internal information, such as engineering designs, product development plans, raw material inventories and product schedules. Organizations also strengthen their ties with customers through "corporate Internet portals" that provide comprehensive information for purchasing products, checking order status and managing customer billings. This increased level of access provided by open systems carries with it the risk of unauthorized access to and use of sensitive information or malicious disruptions of important information-exchange systems. THE NEED FOR NETWORK SECURITY Although open computing environments have many business advantages and businesses are depending on them more and more, their accessibility and the relative anonymity of users make these systems, and the integrity of the information that is stored on them, vulnerable to security threats. Open systems present inviting opportunities for computer hackers, curious or disgruntled employees, contractors and competitors to compromise or destroy sensitive information within the system or to otherwise disrupt the normal operation of the system. In addition, open computing environments are complex and typically involve a variety of hardware, operating systems and applications supplied by a multitude of vendors, making these networks difficult to manage, monitor and protect from unauthorized access. Each new addition of operating system software, applications or hardware products to the distributed computing environment may introduce a vast number of new vulnerabilities and security risks. To adequately secure a network, information technology, or information technology, managers must have the resources to not only correctly configure the security measures in each system, but also to understand the risks created by any change to existing systems on the network. This situation is made worse by the limited supply of personnel knowledgeable in information security issues. And as more and more executives drive their businesses on-line, the need for network and information security gets greater and the shortages and lack of skills get more acute. With high profile "denial of service" attacks on web sites like YAHOO and CNN.com, security has moved to the forefront, and sometimes the front page, as a critical piece of the enabling infrastructure of doing business on-line. Executives must understand and manage the risks involved when integrating their systems with the systems of suppliers and customers to achieve strategic objectives. According to the annual Information Week/PricewaterhouseCoopers LLP 1999 Global Information Security Survey of information technology managers and professionals, 64% of those surveyed who are associated with sites selling products or services on the Web reported at least one security breach in the past year. In addition, sites integrated with supply-chain network or enterprise resource planning applications reported security violations 10% more often than sites without such applications. In a separate PricewaterhouseCoopers survey of chief executive officers, 84% cited security concerns as a barrier to deployment of information technology initiatives. Despite the convenience and the compelling economic incentives for the use of Internet-protocol networks, they cannot reach their full potential as a platform for global communication and commerce until organizations can implement an effective platform to manage information risk. Historically, organizations with sophisticated, well-funded information systems departments have responded to perceived security threats by implementing passive point tools, such as encryption, firewall, authentication and other technologies designed to protect individual components of their internal networks from unauthorized use or outside attacks. These technologies address some security concerns, but are often ineffective because: - encryption protects information during transmission; however, it does not typically protect information at either the source or the destination; - a firewall, which controls the flow of data between an internal network and outside networks or the Internet, is necessary for rudimentary access control, but must be regularly reconfigured to accommodate new business applications, users and business partners on the network. Thus, firewalls can be left vulnerable to hackers and others seeking to compromise network integrity and fail to protect against improper use by authorized users; - operating system security mechanisms, such as user authentication, passwords and multi-level access rights, can prevent unauthorized access by internal and external users. However, deployment issues 2 4 such as easily guessed passwords or default accounts left on newly installed devices diminish the effectiveness of these measures. Passive point tools do not address the fundamental issue that the inherent utility of open systems is itself the source of their vulnerability. This conflict between the benefits of open systems and the risks of their unauthorized use or disruption has not been widely recognized or addressed by passive security tools. Many organizations have developed security policies that define the appropriate use of network resources, establish the proper configuration of network services, operating systems and applications and describe the actions to be taken if there is an attack on the network. These security policies attempt to define the organization's acceptable level of risk. Organizations, however, have not had the systems to automatically enforce and implement such policies across their entire information technology infrastructure. Without such systems, the dynamic nature of enterprise networks causes the organization's actual security practice to diverge from the stated security policy, potentially exposing the organization to additional unanticipated risks. To be effective, passive point tools need to be coordinated through enterprise-wide systems that automatically evaluate and eliminate the vulnerabilities and threats. Direct observation of vulnerabilities and threats can allow an organization to define and automatically enforce an integrated, enterprise-wide information risk management process that can be managed centrally and implemented on a distributed basis. Any security solution must be: - easy to use by both management and the organization's existing information technology personnel or service provider; - compatible with existing security technologies as well as be flexible enough to incorporate new technologies; and - able to provide a comprehensive and accurate picture of security issues across the organization's entire distributed network such that the managers of the system trust the objectivity of the security system in monitoring, detecting and responding to vulnerabilities and threats. These challenges are magnified tremendously when one begins to consider the challenges faced by many less sophisticated and under-manned MIS organizations. These groups, trying to support business initiatives focused on taking advantage of the Internet, have great difficulty staying abreast of the fast-moving and complex security technology landscape. THE ISS SOLUTION The enormous potential benefits of "e-business" have driven the Internet into the "main stream" and with it, the need for security. However, "main stream" organizations -- unlike our early customers -- are not necessarily interested in managing information security themselves. Instead, we believe they want to concentrate on their core business competence and purchase security as a turnkey solution. For this market-driven reason, we have dramatically increased our emphasis on providing total lifecycle security solutions and have entered the managed security services market. In 1999, we adopted British Standard 7799, or BS7799. BS7799 is a blueprint for wrapping various interpretations of information security policy management into one unified methodology. The British Standard divides security policy into a five-step, cyclical process: (1) assess, (2) design, (3) deploy, (4) manage/support and (5) educate. Our customer life cycle methodology, based on BS7799, permeates our approach to providing total solutions to our customers. Our implementation of BS7799 consists of the following: Assess. (Where Are We?) Many companies do not know what information resides on their network. They do not know where it is located, who has access to it or what would be the cost to them if the information were compromised in any way. During this phase of the life cycle, our experts identify all of a customer's network devices and resources and establish valuations for all groups of data on the customer's network. The value of assessment lies in turning general descriptions of security needs and network structures into 3 5 measurable sets of data that we use to design verifiable security policy and information technology infrastructure. Design. (Where Do We Need to Be?) In this phase of the life cycle, our teams convert the data gathered during the assessment phase into lists of information security solutions, deployment locations, implementation strategies and configuration guidelines for each network device or security application. When the solution road map is complete, our customer has a security policy, accompanied by a plan for deploying it and concrete metrics for measuring compliance. Deploy. (How Do We Get There?) During this period, our experts test and install the devices and security applications into the customer's production environment. Deployment is the place where many organizations traditionally concentrate their security efforts, giving short shrift to the other stages. Such a narrow view of network security can easily lead to inefficient or inadequate protection. Our comprehensive perspective on information security ensures that the security management solution reaches the breadth of the customer's needs, while simultaneously providing a cost-effective framework for future growth. Manage and Support. (How Do We Maintain and Improve?) At this stage, a customer can either choose to run an in-house security management solution, or outsource information security through our managed security services. This ongoing stage is where our experts measure performance data from the information security infrastructure against the goals stated in the security policy mapped out earlier. Non-compliant systems and events trigger specific actions, as stated in the policy. These include a re-evaluation of the policy and a restart of the policy generation process. Education. (How Do We Enhance our Understanding?) Education is a critical component of the customer life cycle methodology. This ongoing effort to raise awareness of the need for information security at the executive, management, administrator and end-user levels cuts across all the steps listed above. It includes both continuing training for administrators in emerging threats to their systems and awareness among end users of the benefits of working within the security architecture. Our dynamic, process-driven lifecycle approach to enterprise-wide information risk management relies on the principles of monitoring, detection and response to the ever-changing vulnerabilities in and threats to the hardware products, operating systems and applications that comprise every network system. We designed our SAFEsuite family of products to enable an organization to centrally define and manage an information risk policy for its existing network system infrastructure, including all Internet protocol-enabled devices. Our solutions provide the ability to visualize, measure and analyze real-time security vulnerabilities and control threats across the entire enterprise computing infrastructure, keeping the organization's information technology personnel informed of changing risk conditions and automatically making adjustments as necessary. Through custom policies or by using our "best practice" templates, our customers can minimize security risks without closing off their networks to the benefits of open computing environments and the Internet. Our solutions reach beyond the traditional approaches to network security and are predicated on a proactive, risk management-based approach to enterprise security that links security practice and security policy through a continuous improvement process: - continuously monitoring network, system and user activity and configuring devices, systems and applications on the network; - detecting security risks in network traffic and within systems; - responding to security threats to minimize risks; and - analyzing and reporting dynamic risk conditions and response actions and updating security policies. Comprehensive Enterprise Security Solution We combine the above principles with our extensive knowledge of network, system and application vulnerabilities and threats to provide scalable security solutions. Our SAFEsuite family of products provides a comprehensive network and system security framework. In addition, we sell our products individually as 4 6 solutions for a particular function. We also offer a broad range of professional services to assist in the development and enforcement of an effective security policy and to facilitate the deployment and use of our software. Our solutions are interoperable with a broad range of platforms and complement the products of leading security and network management vendors. They provide a single point of management and control for an enterprise-wide security policy. In this manner, our SAFEsuite family of products serves as a critical enhancement to traditional passive point tools, such as encryption, firewalls and authentication. We have designed our products to be easily installed, configured, managed and updated by a system administrator through an intuitive graphical user interface without interrupting or affecting network operation. The software automatically identifies systems and activities that do not comply with a customer's policies, and provides a critical feedback mechanism for adjusting the security levels of networked systems based upon its findings. Our products generate easy-to-understand reports ranging from executive-level trend analysis to detailed step-by-step instructions for eliminating security risks. The X-Force Because there are few information technology professionals specifically trained in network and system security issues, we have assembled a senior research and development team composed of security experts who are dedicated to understanding new vulnerabilities and real-time threats and attacks, and developing solutions to address these security issues. The team is known in the industry as the "X-Force" and represents one of our competitive advantages. Because of the collective knowledge and experience of the members of the X-Force, we believe that they comprise one of the largest and most sophisticated groups of information technology security experts currently researching vulnerability and threat science. Organizations such as CERT (Computer Emergency Response Team), the FBI and leading technology companies routinely consult the X-Force on network security issues. Through the X-Force, we maintain a proprietary and comprehensive knowledge base of computer exploits and attack methods, including what we believe is the most extensive publicly available collection of Windows NT vulnerabilities and threats in existence. To respond to an ever-changing risk profile, the X-Force continually updates this knowledge base with the latest network vulnerability information, which aids in the design of new products and product enhancements. STRATEGY Our objective is to be the leader in security management for the Internet. This means providing information risk management systems that proactively protect the integrity and security of enterprise-wide information systems from vulnerabilities, misuse, attacks and other information risks. This is regardless of whether the system is run "in-house" by the management information systems organization or is outsourced to ISS for remote 24-by-7 management and monitoring. We focus on developing innovative and automated software and service solutions to provide customers with a comprehensive framework for protecting their networks and systems by monitoring for vulnerabilities and real-time threats. Our solutions allow customers to enforce "best practice" network and system security policies. Key elements of our strategy include: Continue Our Leadership Position in Security Technology We intend to maintain and enhance our technological leadership in the enterprise security market by hiring additional network and Internet security experts, broadening our proprietary knowledge base, continuing to invest in product development and product enhancements and acquiring innovative companies and technologies that complement our solutions. By remaining independent of other providers of system software, applications and hardware and by solidifying our position as a best-of-breed provider of monitoring, detection and response software, we believe that customers and potential customers will view us as the firm of choice for establishing and maintaining effective security practices and policies. Establish Leadership in Managed Security Services During 1999, we extended our market leadership position with the August acquisition of Netrex, Inc., a pioneer and leading provider of remote, security monitoring services. The Managed Security Services 5 7 (MSS) we acquired are designed for businesses that need security but do not have the time, internal resources or expertise to effectively protect networked systems and information through an in-house solution. This acquisition enables us to deliver end-to-end security management solutions by extending our market-leading SAFEsuite security management platform into around-the-clock managed services. In return, our customers now can entrust their security to ISS experts who monitor and manage their networks 24 hours a day, seven days a week, 365 days a year. International Data Corp. (IDC) projects that demand for managed security services will reach more than $2.2 billion annually by 2003, with a compounded growth rate of 45 percent. As e-business continues to penetrate the economy, security management will come to be viewed as an essential system on the network, just as network and systems management and storage management are today. We're poised to take advantage of this inevitability. Expand Domestic Sales Channels We intend to increase the distribution and visibility of our products by expanding our regional direct sales program and increasing our market coverage through the establishment of additional indirect channels with key managed service providers, Internet service providers, systems integrators, resellers, OEMs and other channel partners. We believe that a multi-channel sales approach will build customer awareness of the need for our products and enable us to more rapidly build market share across a wide variety of industries. Enhance and Promote Professional Services Capabilities We establish long-term relationships with our customers by serving as a "trusted advisor" in addressing network security issues. To continue to fulfill this responsibility to our customers, we are expanding our professional services capabilities. These capabilities will allow us to maximize the return on investment we've made in standardizing on BS7799. As previously mentioned, BS7799 is a blueprint for wrapping various interpretations of information security policy management into one unified methodology. It is our customer life cycle methodology, built on this standard, that permeates our approach to providing total solutions to our customers and provides them with effective information risk management solutions. By providing professional services, we also can heighten customer awareness about network security issues, which creates opportunities for us to sell new products or product enhancements to our existing customers. Expand International Operations We plan to continue to aggressively expand our international operations to address the rapid global adoption of distributed computing environments. Many foreign countries do not have laws recognizing network intrusion or misuse as a crime or the resources to enforce such laws if they do exist. As a consequence, we believe that organizations in such countries will have greater need for effective security solutions. We currently maintain international offices in Australia, Belgium, Brazil, Canada, England, France, Germany, Japan and Mexico and plan to expand in those regions where businesses, governments and other institutional users are using distributed networks and the Internet for their mission-critical needs. PRODUCT ARCHITECTURE The SAFEsuite family of products applies our information security methodology through a flexible architecture designed to be integrated with existing security and network system infrastructures. Our SAFEsuite products enhance the effectiveness of passive point tools by monitoring them for threats and vulnerabilities and responding with actions that align customers' security practices and policies. SAFEsuite complements network and security management frameworks by providing information required for informed decisions to minimize security risks while maintaining the desired level of network functionality. Thus, our products provide a risk management-based approach to security with scalable deployment of best-of-breed products and integrated enterprise-wide implementations. 6 8 The SAFEsuite product architecture includes a policy management interface that lets customers choose among "best practice" templates or policies that establish the acceptable level of risk appropriate for their networks. Our individual products then automatically verify compliance with the chosen policy in terms of actual system configuration and network activity. Graphical reports describe the deviations from the established policy, including the measures required to reduce the risk. This product architecture allows all the SAFEsuite technologies to connect directly into common standards, providing comprehensive security reports for the entire enterprise. To ensure communication confidentiality between individual SAFEsuite components and to prevent their misuse, SAFEsuite components use RSA encryption algorithms, which have become de facto encryption standards, among other encryption technologies. The SAFEsuite Security Knowledge Base, a database containing information about the devices and security risks on a customer's network, utilizes open database connectivity, or ODBC, interface and allows customers to select their preferred database such as Informix, Microsoft SQL Server, Oracle, Sybase or any ODBC-compliant database for data storage. The various SAFEsuite products consolidate security data, enabling users to quickly determine their risk profiles and respond. In addition, SAFEsuite products provide automated decision support by assessing priorities and providing a graphical representation of important security risk data sets. This feature allows key decision-makers to prioritize their program strategies for effective deployment of resources to minimize security risks. Each SAFEsuite product can be deployed as a stand-alone, best-of-breed solution to meet the needs of the local administrator or departmental user. Enterprise-level users can analyze security risk conditions for the entire network through support for remote, multi-level management consoles and the SAFEsuite Security Knowledge Base. The SAFEsuite Security Knowledge Base allows the customer to address vulnerabilities and threats, thereby minimizing network security risk and associated costs. SAFEsuite's frequent updates integrate the latest identified security vulnerabilities and threats into the operations of an existing product installation. 7 9 PRODUCTS The following table lists our current offering of SAFEsuite products, and includes a brief description of each product's functionality and current list prices (dollar amounts are for the indicated scope of use, with prices discounted for larger networks):
INTRODUCTION DESCRIPTION SCOPE U.S. LIST PRICE DATE - ----------------------------------------------------------------------------------------------------------------- NETWORK SECURITY VULNERABILITY DETECTION, ANALYSIS AND REPORTING - ----------------------------------------------------------------------------------------------------------------- Internet Scanner Comprehensive security 50 devices $ 3,495 October 1992 assessment for all 1000 devices 19,945 devices on an enterprise 3000 devices 39,500 network - ----------------------------------------------------------------------------------------------------------------- INTERNAL SYSTEM SECURITY VULNERABILITY DETECTION, ANALYSIS AND REPORTING - ----------------------------------------------------------------------------------------------------------------- System Scanner Internal security assessment 5 computers $ 3,250 January 1997 for server operating systems 30 computers 17,500 100 computers 50,000 - ----------------------------------------------------------------------------------------------------------------- DATABASE SECURITY VULNERABILITY DETECTION, ANALYSIS AND RESPONSE - ----------------------------------------------------------------------------------------------------------------- Database Scanner Comprehensive security 5 servers $ 4,475 December 1998 assessment for SQL, Oracle 10 servers 8,500 and Sybase databases 50 servers 41,250 - ----------------------------------------------------------------------------------------------------------------- NETWORK SECURITY THREAT AND MISUSE DETECTION, ANALYSIS AND RESPONSE - ----------------------------------------------------------------------------------------------------------------- RealSecure Engine Real-time attack recognition, 1 engine $ 8,995 December 1996 misuse detection and 10 engines 69,900 response for network traffic 25 engines 149,900 - ----------------------------------------------------------------------------------------------------------------- INTERNAL SYSTEM SECURITY THREAT AND MISUSE DETECTION, ANALYSIS AND RESPONSE - ----------------------------------------------------------------------------------------------------------------- RealSecure Agent Real-time attack recognition, 5 computers $ 3,750 December 1998 misuse detection and 25 computers 15,000 response for activities within 100 computers 50,000 systems - ----------------------------------------------------------------------------------------------------------------- ENTERPRISE INFORMATION RISK MANAGEMENT - ----------------------------------------------------------------------------------------------------------------- SAFEsuite Decisions Decision support system Small enterprise $ 25,000 December 1998 for information risk Medium enterprise 100,000 management Large enterprise 250,000 - -----------------------------------------------------------------------------------------------------------------
Internet Scanner Internet Scanner quickly identifies security vulnerabilities in a network and non-compliance with security policy, plus provides appropriate information for correcting these potential security exposures, through automated and comprehensive network security vulnerability detection and analysis. Internet Scanner scans and detects vulnerabilities, prioritizes security risks and generates an array of meaningful reports ranging from executive-level trend analysis to detailed step-by-step instructions for eliminating security risks. Internet Scanner initiates a scan from a workstation placed inside or outside a corporate firewall. These scans measure the actual implementation of an organization's security policies. Scans may be as simple as determining the basic computing services available on the network or as comprehensive as a thorough testing using the full range of Internet Scanner's vulnerability database. Internet Scanner's intranet module methodically examines intranet servers, routers, operating systems and key applications for potential violations in security policy. The 8 10 firewall module works through the network to find firewalls and provide an accurate assessment of their configuration and degree of protection. Finally, the Web security module locates intranet, extranet and Internet Web servers, checking them for possible mis-configurations and security weaknesses. The product uses Smart Scan, a technique that uses the results of prior scans, as well as current scans of other devices, to provide a more thorough investigation of each device. After completing their scans, the Internet Scanner modules return lists of discovered vulnerabilities and prepare in-depth reports to assist administrators with follow-up and review. We frequently release new security tests for Internet Scanner via X-Press Updates(TM) which are downloaded and installed from the ISS World Wide Web site. Internet Scanner also works cooperatively with the ISS Database Scanner; any new database server that Internet Scanner discovers can automatically be tested for database weaknesses by the ISS Database Scanner. System Scanner System Scanner serves as a security assessment system that helps manage security risks through comprehensive detection and analysis of operating system, application and user-controlled security weaknesses. System Scanner identifies potential security risks by comparing security policy with actual host computer configurations. Potential vulnerabilities include missing security patches, dictionary-crackable passwords, inappropriate user privileges, incorrect file system access rights, unsecure service configurations and suspicious log activity that might indicate an intrusion. System Scanner stores scanned operating system configurations, placing an electronic "fingerprint" on individual hosts. Routine reviews of these records help identify damaged or maliciously altered systems before they become a security or performance liability. Furthermore, System Scanner helps restore suspicious or damaged systems, generating automated fix scripts for file ownerships and permissions. System Scanner augments its automated policy compliance testing with an extensive database of vendor patches and other system enhancements. This powerful built-in knowledge base quickly pinpoints high-risk activity, such as password sniffing, remote access programs or unauthorized dial-up modems and remote control software. System Scanner returns a list of discovered vulnerabilities and prepares in-depth reports to assist administrators with follow-up and review. System Scanner supports over 25 versions of Unix servers, as well as Microsoft Windows NT and Windows 2000 servers. Like Internet Scanner, System Scanner can be updated with new security tests via X-Press Updates downloaded from the ISS World Wide Web site. Database Scanner Database Scanner provides security risk assessment for database management systems. Database Scanner allows a user to establish a database security policy, audit a database and present a database's security risks and exposures in easy-to-read reports. Most database security violations occur not because databases have inherently weak security, but rather because systems are not set up correctly and security policies are not established and enforced. Even in a properly configured system, settings can be changed -- either accidentally or maliciously -- leaving sensitive information at risk. Database Scanner develops, implements and maintains appropriate database system security strategies, policies and procedures. It examines database systems for adherence to accepted operational standards for account creation, access control, account suspensions and renewals, along with software upgrades, patches and hot fixes. Database Scanner also measures and manages the security risks in internal applications utilizing database management systems. The easy to read reports provide detailed graphical analysis with recommended fixes and promote effective communication of security risks across departments and levels of management. Database Scanner supports Microsoft SQL server, Oracle and Sybase database servers. RealSecure RealSecure is an integrated network- and host-based intrusion detection and response system. RealSecure's around-the-clock surveillance extends unobtrusively across the enterprise, allowing administrators to automatically monitor network traffic and host logs, detect and respond to suspicious activity and intercept and respond to internal or external host and network abuse before system security is compromised. RealSecure's multi-point management architecture allows for rapid enterprise-wide deployment and operation across 9 11 geographic and organizational boundaries in both Unix and Windows NT environments. RealSecure's innovative Manager-Engine-Agent architecture provides flexible deployments to meet the requirements of diverse corporate networks. RealSecure Engine. The RealSecure Engine runs on dedicated workstations to provide network intrusion detection and response. Each RealSecure Engine monitors the packet traffic on a specific network segment for attack signatures -- telltale evidence that an intrusion attempt is taking place. Recognition occurs in real time and triggers user-definable alarms and responses as soon as the attack is detected. RealSecure utilizes proprietary technology to recognize and efficiently manage a large number of attack patterns on high- speed networks. Additionally, our Adaptive Filtering Algorithm tunes the packet filter rules in response to network load, allowing the engine to effectively function during bursts in network traffic. When a RealSecure Engine detects an attack or misuse, it transmits an alarm to the RealSecure Manager or a third-party network management console for administrative follow-up and review. In addition, RealSecure responds immediately by terminating the connection, sending email or pager alerts, recording the session, reconfiguring select firewalls or taking other user-definable actions. RealSecure Agent. RealSecure Agent is a host-based complement to RealSecure Engine. RealSecure Agent analyzes host logs to recognize attacks, determine whether an attack was successful and provide other forensic information not available in real time. Based on what is discovered, RealSecure Agent reacts to prevent further incursions by terminating user processes and suspending user accounts. It also logs events, sends, alarms and emails and executes user-defined actions. Each RealSecure Agent installs on a workstation or host, thoroughly examining that system's logs for telltale patterns of network misuse and breaches of security. Like RealSecure Engine, RealSecure Agent sends an alarm to the RealSecure Manager or third-party network management console when it detects evidence of improper usage. Based on what it discovers, RealSecure Agent also automatically reconfigures RealSecure Engines and select firewalls to prevent future incursions. SAFEsuite Decisions SAFEsuite Decisions is the initial product in our SAFEsuite Enterprise family of enterprise security management solutions. SAFEsuite Decisions provides information security decision support services that consolidate and simplify the task of maintaining complex information security implementations across an enterprise network environment. SAFEsuite Decisions integrates critical security data generated by our Internet Scanner, System Scanner, RealSecure and third-party firewalls, into a closed, automated feedback loop. This information is condensed into a comprehensive reporting system, enabling timely, focused and informed decisions for effective information risk management. By automating the process of collecting, collating, correlating and analyzing data generated by multiple information security engines and applications. SAFEsuite Decisions enables managers and administrators to focus security resources where they are needed most. MANAGED SECURITY SERVICES We provide comprehensive managed security services, or MSS, for organizations without a compelling reason to develop an in-house information security solution. MSS allows a company to start with basic security needs at low cost, then expand as the business grows. Since the security infrastructure is disbursed across a large managed services customer base, monthly security costs are minimized while each aspect of the enterprise is secured against attack and misuse in accordance with the customer's security policy. MSS ensures that online assets are being properly protected. MSS is similar to outsourced security, but if offers unique advantages that make it an ideal resource for e-business. Instead of separate vendors for security consulting services, firewalls, anti-virus and intrusion detection, MSS combines these basic business necessities with thorough information security analysis to deliver a complete, customized information security solution. MSS delivers key advantages for both e-business start-ups and established enterprise players with massive online operations. Since all security operations take place at Network Operations Centers, clients 10 12 don't have to worry about hardware, software, staff or operations. Our unique web-based management console allows client oversight of all security operations, plus rapid response to changing network conditions. PROFESSIONAL SERVICES We enhance the value of our products by offering professional consulting services to assure customers' success in establishing, implementing and maintaining their security policy. We have network security professionals ready to assist customers with their particular security policy development and enforcement needs. Our professional services can range from providing network security resources for overburdened information technology departments to conducting investigations of serious breaches in security. Our professional services offerings include: - Information Security Analysis and Assessment -- includes enterprise security audits, enterprise security assessment and strategy workshops and risk assessment analysis - Information Security Design Services -- includes security policy and configuration guideline development; information security architecture design; and risk management process integration - Information Security Deployment Services -- security deployment strategy workshop; project "Jump-Start" -- hands-on training and assistance with deployment and use of ISS' SAFEsuite products; and enterprise deployment of ISS' SAFEsuite solutions throughout an enterprise-level organization. - Emergency Response Services -- subscription service that helps customers avoid security breaches while helping them prepare in case they do experience a break-in. - Knowledge Services -- the Savant Security Guide provides administrators and staff with critical information regarding security of Windows NT and Windows 2000. We complement our service offerings with a full range of training and certification programs. These programs include courses in the fundamentals of security and networking, vulnerability management, threat management and intrusion detection, public key infrastructures, firewalls and others. Each course offers the option of certification via standardized examinations. Our courses are available at our education centers in Atlanta, Detroit, Chicago, Denver, Miami, New York, San Francisco, Dallas and Washington, DC, as well as at customer sites with our mobile training labs, and at approved training centers around the world. These classes address planning, installation and basic operation of our products in a hands-on, interactive environment. For more advanced needs, our ISS Certified Engineer training courses cover advanced topics specific to each SAFEsuite or SAFEsuite Enterprise product. Our training goes beyond simple "how to" exercises. Upon completion of instructor-led discussions and exercises, students respond to actual, on-the-job scenarios. These simulations allow students to apply their new skills to real-world situations, reinforcing both basic and advanced skills. Our training courses encompass the complete life cycle of our SAFEsuite products, from installation and operations to advanced troubleshooting. PRICING We use a range of fee structures to license our products, depending on the type of product and the intended use. We license our vulnerability detection products, Internet Scanner, System Scanner and Database Scanner, based on the number of devices being scanned. The pricing scheme is scalable, providing low entry points for departmental users without limiting our revenue potential from customers with large networks. Pricing for our threat detection products, RealSecure Engine and RealSecure Agent, is based on the number of engines deployed on the network. Thus, licensing fees for our products are ultimately determined by the size of the customer's network, as size dictates the number of devices to be scanned or the number of engines to be deployed. In addition to license fees, customers virtually always purchase maintenance agreements in conjunction with their initial purchase of a software license, with annual maintenance fees typically equal to 20% of the product's license fee. Maintenance agreements include annually renewable telephone support, product updates, access to our X-Force Security Alerts and error corrections. Our continuing research into new security risks and resulting product updates provide significant ongoing value. As a result, a substantial majority of our customers renew their maintenance agreements. Customers who use our 11 13 products to provide information technology consulting services have license agreements that are based on a revenue sharing model. We have historically sold fully-paid perpetual licenses with a renewable annual maintenance fee and, more recently, have licensed our products on a subscription basis, including maintenance, for one or two year periods and are exploring other alternatives for customers desiring longer term arrangements or multi-year commitments. Our professional services fees are calculated using an hourly standard rate per consultant that can be discounted based on the scope of the engagement, market sector and geographical territory. Our security technology training is generally priced per-student, per-day, based on the course format, technical content and the amount of "hands-on" exposure provided to the student in either our classrooms or at the customer's location. Managed Security Services include Managed Firewall, Managed Intrusion Detection and Response, Automated Remote Vulnerability Assessment and several related offerings. Service pricing is based on a monthly monitoring and management fee per managed security device for the term of the service subscription, typically a minimum of 12 months. In addition, we can provide the customer the security device itself (i.e., firewall, intrusion detection system, anti-virus gateway, etc.) and in such case there are additional charges for hardware, software licenses, maintenance, and installation fees. PRODUCT DEVELOPMENT We developed our SAFEsuite products to operate in heterogeneous computing environments. Products are compatible with other vendors' products across a broad range of platforms, including HP-UX, IBM AIX, Linux, SGI IRIX, SunOS, Sun Solaris, Windows 95/98 and Windows NT. We have incorporated a modular design in our products to permit plug-and-play capabilities, although customers often use our professional services or our strategic partners to install and configure products for use in larger or more complex network systems. We employ a two-pronged product development strategy to achieve our goal of providing the most comprehensive security coverage within the monitoring, detection and response market. First, we continue to develop best-of-breed security products to address particular network configurations. Such new products, and our existing products like Internet Scanner, System Scanner and RealSecure, are updated approximately every four to six months to add new features, improve functionality and incorporate timely responses to vulnerabilities and threats that have been added to our vulnerability and threat database. These updates are usually provided as part of separate maintenance agreements sold with the product license. Second, to complement our existing products and provide more comprehensive network security coverage, we are expanding our existing SAFEsuite products by developing additional enterprise-level products. These products will allow customers to protect their networks by continuously measuring and analyzing the status of their network's security, and by monitoring and controlling the security risks in real time across the enterprise network. These SAFEsuite enterprise products will be interoperable with our existing products, allowing modular implementation. Expenses for product development were $3.9 million, $9.7 million and $20.4 million in 1997, 1998 and 1999, respectively. All product development activities are conducted at either our principal offices in Atlanta, or at our research and development facilities in Mountain View, California, Southfield, Michigan and Reading, England. At December 31, 1999 253 personnel were employed in product development teams. Our personnel include members of the Computer Security Institute, Forum for Incident Response and Security Technicians (FIRST), Georgia Tech Industrial Partners Association, Georgia Tech Information Security Center and the International Computer Security Association (ICSA), enabling us to actively participate in the development of industry standards in the emerging market for network and Internet security systems and products. 12 14 CUSTOMERS As of December 31, 1999, we had licensed versions of our SAFEsuite family of products to over 5,000 customers. No customer accounted for more than 10% of our consolidated revenues in 1997, 1998 or 1999. Our target customers include both public and private sector organizations that utilize Internet protocol- enabled information systems to facilitate mission-critical processes in their operations. Our customers represent a broad spectrum of organizations within diverse sectors, including financial services, technology, telecommunications, and government and information technology services. The following is a list of certain of our customers that have purchased licenses and services from us with an aggregate price of at least $15,000 and which we believe are representative of our overall customer base: FINANCIAL SERVICES INFORMATION TECHNOLOGY GOVERNMENT Charles Schwab SERVICES NASA First Union EDS Salt River Project KeyCorp KPMG U.S. Department of the Merrill Lynch Perot Systems Air Force PNC Bank PricewaterhouseCoopers U.S. Department of the SAIC Army TELECOMMUNICATIONS SITA U.S. Department of America Online Defense Bell Atlantic TECHNOLOGY U.S. State Department GTE Internetworking Hewlett-Packard NETCOM On-Line IBM OTHER Communications Intel Lockheed Martin Nippon Telephone & Lucent Technologies Merck Telegraph Microsoft REI NCR Siemens VeriSign Xerox
SALES AND MARKETING Sales Organization Our sales organization is divided regionally among the Americas, Europe and the Asia/Pacific regions. In the Americas, we market our products primarily through our direct sales organization augmented by our indirect channels, including security consultants, resellers, OEMs and systems consulting and integration firms. The direct sales organization for the Americas consists of regionally based sales representatives and sales engineers and a telesales organization located in Atlanta. As of December 31, 1999, we maintained sales offices in the Atlanta, Austin, Boston, Chicago, Cincinnati, Dallas, Denver, Los Angeles, Minneapolis, Monterrey, Mexico, New York, Palo Alto, Philadelphia, Portland, San Francisco, Sao Paulo, Brazil, Seattle, Toronto, Canada and Washington, D.C. metropolitan areas. A dedicated group of professionals in our Atlanta headquarters covers Latin America. As of December 31, 1999, we employed approximately 270 people in the Americas direct sales and professional services organization. The regionally based direct sales representatives focus on opportunities where we believe we can realize more than $200,000 in revenues per year. In Europe and the Asia/Pacific region, substantially all of our sales occur through authorized resellers. Internationally, we have established regional sales offices in Brussels, London, Munich, Paris, Reading, England, Stuttgart, Sydney and Tokyo. Personnel in these offices are responsible for market development, including managing our relationships with resellers, assisting them in winning and supporting key customer accounts and acting as a liaison between the end user and our marketing and product development organizations. As of December 31, 1999, approximately 95 employees were located in our European and Asia/ Pacific regional offices. We expect to continue to expand our field organization into additional countries in these regions. 13 15 Security Partners Program We have established a Security Partners Program to train and organize security consulting practices, Internet service providers, systems integrators and resellers to match our products with their own complementary products and services. By reselling SAFEsuite products, Security Partners provide additional value for specific market and industry segments, while maintaining our ongoing commitment to quality software and guaranteed customer satisfaction. We have established three different levels of partnership opportunities: - Premier Partners. Premier Partners are value-added resellers and systems integrators with focused security practices. Many Premier Partners are experienced in the sales and implementation of leading firewall technology, as well as authentication and encryption technologies. These partners leverage their expertise with our vulnerability assessment and intrusion detection products. Premier Partners receive direct distribution of our products, sales training, financial incentives, access to our Web site for placing orders and partner-only communications, including a link to the ISS Partner Web site. - Authorized Partners. Authorized Partners generally consist of organizations that provide security-focused consulting services, but elect not to commit to the minimum annual purchase commitments and entry fees applicable to Premier Partners. Authorized Partners may purchase products directly from us and may access our Web site to place orders and receive partner-only communications. - Registered Partners. Unlike Premier Partners and Authorized Partners, Registered Partners are not required to maintain an ISS Certified Engineer on their staffs. Registered Partners receive partner-only communications and may purchase products directly from us, including through our online Web order system. In addition, we maintain a strategic technology alliance where beneficial to improve and extend our technology in the following four key areas: - Active Response. Security breaches require rapid response to identify and stop threats before they place critical online assets at risk. Through these alliances, firewalls, routers, switches, virtual private networks and other technologies can be enabled to be reconfigured automatically and in real time to break off the attack and prevent future penetrations. - Lock Down. Improper configurations can make any technology vulnerable to attack and misuse. Our alliances help develop customized templates that enable the secure configuration of network devices. With this "lock down" functionality, customers can be assured that information security products will function as designed and will be securely configured. - Decision Support. Effective security decision-making and planning requires timely analysis of enormous amounts of data across disparate systems and network devices. Our alliances help enable fast and informed enterprise-wide security decisions by collecting, integrating and analyzing data from security and network infrastructure products. Resulting high value information is routed to network and systems management consoles for immediate action. - System and Network Management Technology Integration. Our alliances help integrate ISS information security solutions with enterprise system management platforms. This integration simplifies the enforcement and implementation of security policies across the enterprise leveraging existing information technology resources. Marketing Programs We conduct a number of marketing programs to support the sale and distribution of our products. These programs are designed to inform existing and potential end-user customers, OEMs and resellers about the capabilities and benefits of our products. Marketing activities include: - press relations and education; - publication of technical and educational articles in industry journals and our on-line magazine, ISS Alert; 14 16 - participation in industry tradeshows; - product/technology conferences and seminars; - competitive analysis; - sales training; - advertising and development and distribution of marketing literature; and - maintenance of our Web site. A key element of our marketing strategy is to establish our products and information security methodology as the leading approach for enterprise-wide security management. We have implemented a multi-faceted program to leverage the use of our SAFEsuite product family and Managed Security Services to increase their acceptance through relationships with various channel partners: - Strategic Resellers. Although we have numerous resellers, certain of these relationships have generated significant leverage for us in targeted markets. Our strategic resellers, which include EDS, IBM, Lucent, Siemens and Softbank, provide broad awareness of our brand through enhanced marketing activity, access to large sales forces, competitive control points and access to larger strategic customer opportunities. - Consultants. The use of our products by security consultants not only generates revenue from the license sold to the consultant, but also provides us with leads to potential end users with a concern for network security. Consultants who have generated substantial leads for our sales organization include Andersen Consulting, Arthur Andersen, Deloitte Touche Tohmatsu International, Ernst & Young, IBM, KPMG Peat Marwick, PricewaterhouseCoopers and SAIC Global Integrity. - OEMs. A number of vendors of security products, including Check Point, Entrust, Lucent, NCR and Nortel, have signed OEM agreements with us. These agreements enable OEMs to incorporate our products into their own product offerings to enhance their security features and functionality. We receive royalties from OEM vendors and increased acceptance of our products under these arrangements, which, in turn, promote sales of our other products to the OEM's customers. We typically enter into written agreements with our strategic resellers, consultants, managed service providers, Internet service providers and OEMs. These agreements generally do not provide for firm dollar commitments from the strategic parties, but are intended to establish the basis upon which the parties will work together to achieve mutually beneficial objectives. ADVISORY BOARD We established an Advisory Board in February 1998 to further our sales and recruiting efforts. The Advisory Board consists solely of: John P. Imlay, Jr. Mr. Imlay is Chairman of Imlay Investments, and serves on the board of directors of the Atlanta Falcons, Gartner Group, Metromedia International Group, and several other organizations. He was Chairman of Dun & Bradstreet Software Services from March 1990 until November 1996. Prior to that, Mr. Imlay served as Chairman and Chief Executive Officer of Management Science America, a company that was acquired by Dun & Bradstreet Software Services. Sam Nunn was a member of the Advisory Board until joining the Board of Directors in October 1999. The Advisory Board members advise us on long-term strategic growth, including strategies for selling to key industries, recruitment of board members and other key personnel, and trends in national and international policy influencing our products and services. We also anticipate that Advisory Board members will provide high visibility for us at industry events and will play key roles in leading customer user groups to support our growth and industry prominence. Members of the Advisory Board meet individually or as a group with our management from time to time and have historically been compensated through issuances of common stock or options to acquire common stock. 15 17 CUSTOMER SERVICE AND SUPPORT We provide ongoing product support services under license agreements. Maintenance contracts are typically sold to customers for a one-year term at the time of the initial product license and may be renewed for additional periods. Under our maintenance agreements with our customers, we provide, without additional charge, telephone support, documentation and software updates and error corrections. Customers that do not renew their maintenance agreements but wish to obtain product updates and new version releases are generally required to purchase such items from us at market prices. In general, major new product releases come out annually, minor updates come out every four to six months and new vulnerability and threat checks come out every two to four weeks. Customers with current maintenance agreements may download product updates from our Web site. We believe that providing a high level of customer service and technical support is necessary to achieve rapid product implementation, which, in turn, is essential to customer satisfaction and continued license sales and revenue growth. Accordingly, we are committed to continued recruiting and maintenance of a high-quality technical support team. We provide telephone support to customers who purchase maintenance agreements along with their product license. A team of dedicated engineers trained to answer questions on the installation and usage of the SAFEsuite products provides telephone support from 8:00 a.m. to 8:00 p.m., Eastern time, Monday through Friday, from our corporate office in Atlanta. We provide telephone support 24 hours a day, seven days a week through a callback procedure to certain customers who pay an additional fee for the service. In the United States and internationally, our resellers provide telephone support to their customers with technical assistance from us. For our managed services security solutions, customer support is available in several offerings up to 24 hours a day, seven days a week for customers electing this coverage. Support is offered via phone, email or secures web form and includes access to an online knowledge base as well as direct contact with qualified support personnel. COMPETITION The market for information security, including monitoring, detection and response solutions and managed security services is intensely competitive, and we expect competition to increase in the future. We believe that the principal competitive factors affecting the market for information security include security effectiveness, manageability, technical features, performance, ease of use, price, scope of product offerings, professional services capabilities, distribution relationships and customer service and support. Although we believe that our solutions generally compete favorably with respect to such factors, we cannot guarantee that we will compete successfully against current and potential competitors, especially those with greater financial resources or brand name recognition. Our chief competitors generally fall within one of four categories: - internal information technology departments of our customers and the consulting firms that assist them in formulating security systems; - relatively smaller software companies offering relatively limited applications for network and Internet security and managed security services; - large companies, including Axent Technologies and Network Associates, that sell competitive products and services, as well as other large software companies that have the technical capability and resources to develop competitive products; and - software or hardware companies that could integrate features that are similar to our products and services into their own products and services. Mergers or consolidations among our competitors, or acquisitions of small competitors by larger companies, would make such combined entities more formidable competitors to us. Large companies may have advantages over us because of their longer operating histories, greater name recognition, larger customer bases or greater financial, technical and marketing resources. As a result, they may be able to adapt more quickly to new or emerging technologies and changes in customer requirements. They can also devote greater resources to the promotion and sale of their products than we can. In addition, these companies have reduced, and could continue to reduce, the price of their security monitoring, detection and response products, and/or 16 18 managed security services, which increases pricing pressures within our market. We believe that the entry of larger, more established companies into our market will require these competitors to undertake operations that are currently not within their core areas of expertise, thus exposing them to significant uncertainties in the product development process. Several companies currently sell software products, such as encryption, firewall, operating system security and virus detection software that our customers and potential customers have broadly adopted. Some of these companies sell products that perform the same functions, or similar functions to, our products. In addition, vendors of operating system software or networking hardware may enhance their products to include the same kinds of functions that our products currently provide. The widespread inclusion in operating system software or networking hardware of features comparable to our software could render our products obsolete, particularly if such features are of a high quality. Even if security functions integrated into operating system software or networking hardware are more limited than those of our software, a significant number of customers may accept more limited functionality to avoid purchasing additional software. For the above reasons, we may not be able to compete successfully against our current and future competitors. Increased competition may result in price reductions, reduced gross margins and loss of market share. PROPRIETARY RIGHTS AND TRADEMARK ISSUES We rely primarily on copyright and trademark laws, trade secrets, confidentiality procedures and contractual provisions to protect our proprietary rights. We have obtained one United States patent and have a patent application under review. We also believe that the technological and creative skills of our personnel, new product developments, frequent product enhancements, our name recognition, our professional services capabilities and delivery of reliable product maintenance are essential to establishing and maintaining a technology leadership position. We cannot assure you that our competitors will not independently develop technologies that are similar to ours. We generally license our SAFEsuite products to end users in object code (machine-readable) format. Certain customers have required us to maintain a source-code escrow account with a third-party software escrow agent, and a failure by us to perform our obligations under any of the related license and maintenance agreements, or our insolvency, could conceivably cause the release of our product source code to such customers. The standard form agreement allows the end user to use our SAFEsuite products solely on the end user's computer equipment for the end user's internal purposes, and the end user is generally prohibited from sublicensing or transferring the products. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or to obtain and use information that we regard as proprietary. Policing unauthorized use of our products is difficult. While we cannot determine the extent to which piracy of our software products occurs, we expect software piracy to become a persistent problem. In addition, the laws of some foreign countries do not protect our proprietary rights to as great an extent as do the laws of the United States and many foreign countries do not enforce these laws as diligently as U.S. government agencies and private parties. EMPLOYEES As of December 31, 1999, we had 785 employees, of whom 253 were engaged in product research and development, 228 were engaged in sales, 55 were engaged in customer service and support, 152 were engaged in professional services, 35 were engaged in marketing and business development and 62 were engaged in administrative functions. We believe that we have good relations with our employees. ITEM 2. PROPERTIES Our Atlanta headquarters and research and development facilities consist of approximately 72,000 square feet of office space occupied pursuant to a lease and a sublease expiring in June 2002, which provide for minimum annual lease obligations of approximately $1,240,000. We also lease office space in Chicago, Illinois, Mountain View, California, Southfield, Michigan, Denver, Colorado, New York City, San Francisco, 17 19 California, Washington, D.C., Brussels, London, Paris, Reading, England, Stuttgart and Tokyo, as well as small executive suites in several United States cities. In November 1999 we signed an eleven and one-half year lease for a new Atlanta headquarters and research and development facility. This new facility consists of approximately 240,000 square feet which we anticipate beginning occupying in varying phases beginning in November 2000. Annual minimum payments under the lease increase as occupied space increases, with total minimum payments due under the lease of approximately $64 million over the lease term. We believe that our existing facilities and our upcoming new headquarters are adequate for our current needs and that additional space will be available as needed. ITEM 3. LEGAL PROCEEDINGS On July 13, 1999 ISS and Network Associates, Inc. announced that the patent infringement suit filed by Network Associates, Inc. in July 1998 against Internet Security Systems, Inc. was resolved to the parties' mutual satisfaction. The resolution of this previously pending litigation had no material adverse effect on our business, operating results, or financial condition. Except as noted above, we are not a party to any material legal proceedings. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS No matter was submitted to a vote of our shareholders during the fourth quarter of 1999. 18 20 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Common Stock has been quoted on the Nasdaq National Market under the symbol "ISSX" since our initial public offering on March 24, 1998. Prior to the initial public offering, there had been no public market for the Common Stock. The following table lists the high and low per share sales prices for the Common Stock as reported by the Nasdaq National Market for the periods indicated (prices have been adjusted for the 2-for-1 stock split in May 1999):
1999: HIGH LOW ----- ------ ------ First Quarter............................................... $46.25 $22.19 Second Quarter.............................................. 45.00 20.13 Third Quarter............................................... 40.63 20.00 Fourth Quarter.............................................. 71.13 26.25
1998: HIGH LOW ----- ------ ------ First Quarter (from March 24, 1998)......................... $21.25 $18.50 Second Quarter.............................................. 28.31 15.81 Third Quarter............................................... 25.25 12.69 Fourth Quarter.............................................. 30.31 8.50
As of March 24, 2000, there were 41,766,717 shares of the Common Stock outstanding held by 386 stockholders of record. We have not declared or paid cash dividends on our capital stock during the last two years. The Company currently intends to retain any earnings for use in its business and does not anticipate paying any cash dividends in the foreseeable future. The Company's Board of Directors, if any, will determine future dividends. During 1997 and 1998, the Company issued an aggregate of 289,500 shares of its Common Stock to employees and a director pursuant to exercises of stock options, with exercise prices ranging from $0.075 to $3.50 per share, principally under the Company's Restated 1995 Stock Incentive Plan which were deemed exempt from registration under Section 5 of the Securities Act of 1933 in reliance upon Rule 701 there under. The recipients of securities in each such transaction represented their intentions to acquire the securities for investment only and not with a view to, or for sale in connection with, any distribution thereof and appropriate legends were affixed to the share certificates issued in each such transaction. The Company issued 2,444,174 shares of its Common Stock as consideration for all the issued and outstanding stock of Netrex, Inc. on August 30, 1999. The Company also issued 141,479 shares of its Common Stock in September 1999 as consideration for all the issued and outstanding stock of NJH Security Consulting, acquired by the Company in September 1999. As part of the terms of these acquisitions, the Company filed a shelf registration statement in October 1999 on Form S-3 covering 723,987 shares issued in connection with the acquisitions of Netrex and NJH. In addition to the issuance of stock pursuant to stock options in 1997 and 1998, the Company issued (i) 239,988 shares of its Common Stock as partial consideration for all the issued and outstanding capital stock of March Information Systems Limited on October 6, 1998, and (ii) 76,000 shares of its Common Stock in exchange for substantially all the assets of DbSecure, Inc. on October 28, 1998. 19 21 ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA The financial data set forth below for each of the three years in the period ended December 31, 1999, and as of December 31, 1998 and 1999, has been derived from the audited consolidated financial statements appearing elsewhere in this Annual Report on Form 10-K. The financial data for the years ended December 31, 1995 and December 31, 1996, and as of December 31, 1995, 1996, and 1997 has been derived from unaudited financial statements not included herein. The data should be read in conjunction with the consolidated financial statements, related notes, and other financial information included herein.
YEAR ENDED DECEMBER 31, ------------------------------------------------ 1995 1996 1997 1998 1999 ------- ------- ------- ------- -------- (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) CONSOLIDATED STATEMENT OF OPERATIONS DATA: Revenues: Product licenses and sales.............................. $ 1,028 $ 6,503 $16,074 $36,908 $ 74,050 Subscriptions........................................... 296 1,077 4,488 12,037 24,141 Professional services................................... 672 1,945 4,863 8,143 18,296 ------- ------- ------- ------- -------- 1,996 9,525 25,425 57,088 116,487 Costs and expenses: Cost of revenues........................................ 980 2,948 7,275 19,951 37,700 Research and development................................ 97 1,225 3,855 9,655 20,412 Sales and marketing..................................... 507 4,549 14,096 25,998 43,124 General and administrative.............................. 382 1,704 3,668 6,557 9,230 Amortization............................................ -- -- -- 230 992 Charges for in-process research and development......... -- -- -- 802 -- Merger costs............................................ -- -- -- -- 2,329 ------- ------- ------- ------- -------- 1,966 10,426 28,894 63,193 113,787 ------- ------- ------- ------- -------- Operating income (loss)................................... 30 (901) (3,469) (6,105) 2,700 Interest income, net...................................... (12) 28 163 2,274 5,902 Exchange loss............................................. -- -- -- -- (136) ------- ------- ------- ------- -------- Income (loss) before income taxes......................... 18 (873) (3,306) (3,831) 8,466 Provision for income taxes................................ -- -- -- 62 976 ------- ------- ------- ------- -------- Net income (loss)......................................... $ 18 $ (873) $(3,306) $(3,893) $ 7,490 ======= ======= ======= ======= ======== Basic net income (loss) per share(1)...................... $ -- $ (0.05) $ (0.18) $ (0.12) $ 0.19 ======= ======= ======= ======= ======== Diluted net income (loss) per share(1).................... $ -- $ (0.05) $ (0.18) $ (0.12) $ 0.17 ======= ======= ======= ======= ======== Weighted average shares:(2) Basic................................................... 12,446 18,276 18,399 32,351 39,996 ======= ======= ======= ======= ======== Diluted................................................. 12,446 18,276 18,399 32,351 43,691 ======= ======= ======= ======= ======== Unaudited pro forma net loss per share(1)................. $ (0.11) $ (0.11) ======= ======= Unaudited weighted average shares used in unaudited pro forma net loss per share calculation(1)................. 29,873 34,963 ======= =======
DECEMBER 31, ------------------------------------------------ 1995 1996 1997 1998 1999 ------- ------- ------- ------- -------- (IN THOUSANDS) CONSOLIDATED BALANCE SHEET DATA: Cash and cash equivalents................................. $ 27 $ 2,051 $ 4,174 $53,056 $ 70,090 Working capital........................................... 168 2,403 1,523 53,157 127,135 Total assets.............................................. 673 5,931 13,816 84,724 184,845 Long-term debt, net of current portion.................... -- 140 521 710 253 Redeemable, Convertible Preferred Stock................... -- 3,614 8,878 -- -- Stockholders' equity (deficit)............................ 275 (620) 4,468 66,505 155,153
- --------------- (1) Computed on the basis described in Note 1 of Notes to Consolidated Financial Statements. (2) See Note 10 of Notes to Consolidated Financial Statements for the determination of shares used in computing basic and diluted net income (loss) per share. 20 22 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the Consolidated Financial Statements and related Notes thereto included elsewhere in this document. Except for the historical financial information, the matters discussed in this document may be considered "forward-looking" statements. Such statements include declarations regarding our intent, belief or current expectations. Such forward-looking statements are not guarantees of future performance and involve a number of risks and uncertainties. Actual results may differ materially from those indicated by such forward-looking statements as a result of certain factors, including, but not limited to, those set forth under the "Risk Factors" heading below. OVERVIEW We are a leading source for e-business security management solutions. Our Security Management approach to information security protects distributed computing environments, such as internal corporate networks, inter-company networks and electronic commerce environments, from attacks, misuse and security policy violations, while ensuring the confidentiality, privacy, integrity and availability of proprietary information. We deliver an end-to-end security management solution through our SAFEsuite security management platform coupled with around-the-clock remote security monitoring through our managed security services offerings. Our SAFEsuite family of products is a critical element of an active Internet and networking security program within today's world of global connectivity, enabling organizations to proactively monitor, detect and respond to risks to enterprise information. Our managed security services offerings currently provide remote management of the industry's best-of-breed security technology including firewalls, virtual private networks, or VPNs, anti-virus, URL filtering software, and security assessment and intrusion detection systems. We focus on serving as the trusted security provider to our customers by maintaining within our existing products the latest counter-measures to security risks, creating new innovative products based on our customers' needs and providing education, consulting and managed security services. We generate a majority of our revenues from our SAFEsuite family of products in the form of perpetual licenses and subscriptions, and sales of best-of-breed technology products developed by our partners. We recognize perpetual license revenues from ISS developed products upon delivery of software or, if the customer has evaluation software, delivery of the software key and issuance of the related license, assuming that no significant vendor obligations or customer acceptance rights exist. When payment terms are extended over periods greater than 12 months, revenue is recognized as such amounts are billable. Product sales, consisting of software developed by third-party partners combined in some instances with associated hardware appliances and partner maintenance services, are recognized upon shipment to the customer. If maintenance is subcontracted, as with partner maintenance services, the revenue less the related subcontract expense is recognized when the contract is placed in service. Annual renewable maintenance is a separate component of each perpetual license agreement for ISS products with revenue recognized ratably over the maintenance term. Subscription revenues include maintenance, term licenses, and managed service arrangements. Term licenses allow customers to use our products and receive maintenance coverage for a specified period, generally 12 months. We recognize revenues from these term agreements ratably over the subscription term. Managed services consist of monitoring services of information assets and systems and are recognized as such services are provided. Professional services revenues include consulting services and training. Consulting services, typically billed on a time-and-materials basis, assist in the successful deployment of our products within customer networks, the development of customers' security policies and the assessment of security policy decisions. We recognize such professional services revenues as the related services are rendered. We believe that our total solutions approach will grow all of our revenue categories. This includes our products and managed services offerings, as well as maintenance, consulting and education. While we expect the expansion of these product and service offerings to originate primarily from internal development, our strategy includes acquiring products, technologies and service capabilities that fit within our strategy and that potentially accelerate the timing of the commercial introduction of such products and technologies. Over the 21 23 last 12 months, we have made four different acquisitions, each of which included such products, technologies or service capabilities. Two of these acquisitions, Netrex, Inc. and NJH Security Consulting ("NJH"), were completed in the third quarter of 1999. Founded in 1992 with a current services customer base of more than 500 customers, Netrex is a leading provider of remote, security monitoring services of digital assets. NJH Security Consulting includes a technology foundation to provide an outsourced solution for the automatic detection and management of customers' security risks using ISS software solutions. This technology is being incorporated into our managed security service offerings. These transactions have been accounted for using the pooling-of-interests method of accounting. Our consolidated financial statements have been restated for all periods presented to include the results of Netrex. The acquisition of NJH was not material to our consolidated operations and financial position and, therefore, our operating results have not been restated for this transaction. Our operating results include the results of operations of NJH since the date of acquisition. Our business has been growing rapidly. Although we continue to experience significant revenue growth, we cannot assure our stockholders that such growth can be sustained and, therefore, investors should not rely on our past growth as a predictor of future performance. We expect to continue to expand our domestic and international sales and marketing operations, increase our investment in product development, including our proprietary threat and vulnerability database and managed services capabilities, seek acquisition candidates that will enhance our products and market share, and improve our internal operating and financial infrastructure in support of our strategic goals and objectives. All of these initiatives will increase operating expenses. Thus, our prospects must be considered in light of the risks and difficulties frequently encountered by companies in new and rapidly evolving markets. As a result, while we narrowed our operating losses over the course of 1998 and achieved profitability throughout 1999, we cannot be certain that we can sustain such profitability. RESULTS OF OPERATIONS The following table sets forth our consolidated historical operating information, as a percentage of total revenues, for the periods indicated:
YEAR ENDED DECEMBER 31, ----------------------- 1997 1998 1999 ----- ----- ----- Product licenses and sales................................ 63.2% 64.6% 63.6% Subscriptions............................................. 17.7 21.1 20.7 Professional services..................................... 19.1 14.3 15.7 ----- ----- ----- Total revenues.................................. 100.0 100.0 100.0 ----- ----- ----- Cost of revenues.......................................... 28.6 34.9 32.4 Research and development.................................. 15.2 16.9 17.5 Sales and marketing....................................... 55.4 45.6 37.0 General and administrative................................ 14.4 11.5 7.9 Amortization.............................................. -- 0.4 0.9 Charge for in-process research and development............ -- 1.4 -- Merger costs.............................................. -- -- 2.0 ----- ----- ----- Total costs and expenses........................ 113.6 110.7 97.7 ----- ----- ----- Operating income (loss)................................... (13.6)% (10.7)% 2.3% ===== ===== =====
REVENUES Our total revenues increased from $25.4 million in 1997 to $57.1 million in 1998, and to $116.5 million in 1999. Revenues from product licenses and sales increased from $16.1 million in 1997 to $36.9 million in 1998, and to $74.1 million in 1999. Historically we have generated most of our revenues from product licenses and sales, which represented 63% of total revenues in 1997, 65% in 1998 and 64% in 1999. 22 24 Licenses of our SAFEsuite product family represented between 66% and 70% of product licenses and sales from 1997 through 1999. Our vulnerability assessment products continued to grow each year in absolute dollars but decreased as a percent of total revenues, offset by the rapid growth of our RealSecure intrusion detection products and initial sales of our security management application, SAFEsuite Decisions, which was introduced in late 1998. Our revenues from sales of partner software and hardware appliances increased each year in absolute dollars, while representing between 30% and 34% of overall product licenses sales and in each period. We continued to add significant functionality to our SAFEsuite product family, providing customers with more powerful and easier to use solutions for security management across the enterprise. The sales of partner software and hardware appliances are a part of our total solution approach whereby we provision partner products to provide a single solution source for our customers. Subscription revenues grew from $4.5 million in 1997 to $12.0 million in 1998, and to $24.1 million in 1999, increasing from 18% to 21% of total revenues over this period. Subscription revenues consist of maintenance, term licenses of product usage and managed services. Professional services revenue increased from $4.9 million in 1997 to $8.1 million in 1998, and to $18.3 million in 1999, representing 19% in 1997, 14% in 1998 and 16% in 1999 of total revenues. We continue to build our service capabilities to address the demand from our customers for assessment, deployment, management and education services. Geographically, we derived the majority of our revenues from sales to customers within North America; however, international operations continued to be a significant contributor to revenues and a growing percentage of the business. Revenues from customers outside of North America represented 11% in 1997, 12% in 1998 and 17% in 1999 of total revenues. No customer represented more than 10% of our total revenues in any of these periods. COSTS AND EXPENSES Cost of revenues Cost of revenues consists of several components. Substantially all of the cost of product licenses and sales represents payments to partners for their products that we provision to our customers. Costs associated with licensing ISS products are minor. Costs of product revenues as a percentage of total revenues decreased from 18% in 1997 to 16% in 1998 and remained at the 16% level in 1999. The decrease in 1998 was principally the result of improvement in gross margin on partner product sales. Cost of subscription and services includes the cost of our technical support personnel who provide assistance to customers under maintenance agreements, the operations center costs of providing managed services and the costs related to professional services and training. These costs represented 10% in 1997, 19% in 1998 and 16% in 1999 of total revenues, with the percentage fluctuation due primarily to initiatives in the professional services area. Prior to 1998, professional services represent training and implementation services provided by Netrex. In 1998, we addressed the demand from customers for consulting services by building an ISS professional services capability. With that building effort behind us, the cost, as a percentage of revenues, declined in 1999 as staff utilization improved. Research and development Research and development expenses consist of salary and related costs of research and development personnel, including costs for employee benefits, and depreciation on computer equipment. These costs include those associated with maintaining and expanding the "X-Force," experts dedicated to counter- intelligence against hacker threats. X-Force experts focus solely on researching and publishing information on the latest security risks, providing customers and the industry at large with critical data and protection measures to address the latest global security issues. We continue to increase these expenditures, as we perceive primary research and product development and managed services offerings as essential ingredients for retaining our leadership position in the market. We also increased the number of our development personnel 23 25 focused on our best-of-breed products, enterprise applications, managed services offerings and research for future product offerings. Accordingly, research and development expenses increased in absolute dollars from $3.9 million in 1997 to $9.7 million in 1998, and to $20.4 million in 1999. These costs increased slightly as a percentage of total revenues, and we expect this percentage to stabilize in 2000 near the 1999 level. We have reflected a charge of $802,000 in our 1998 statement of operations for identified in-process research and development in connection with our October 1998 acquisitions of two companies engaged in Microsoft Windows NT, Unix and database security assessment technologies. The charge was based on a valuation of products under development using estimated future cash flows, reduced for the core technology component of such products and the percentage of product development remaining at the time of acquisition. Sales and marketing Sales and marketing expenses consist primarily of salaries, travel expenses, commissions, advertising, maintenance of the our Website, trade show expenses, costs of recruiting sales and marketing personnel and costs of marketing materials. Sales and marketing expenses were $14.1 million in 1997, $26.0 million in 1998 and $43.1 million in 1999. Sales and marketing expenses increased in total dollars during these periods primarily from our larger workforce, which has increased each quarter since 1997, both domestically and internationally. Sales and marketing expenses have decreased as a percentage of total revenues from 55% in 1997 to 46% in 1998, and to 37% in 1999. The decrease in sales and marketing expenses as a percentage of total revenues is due to greater levels of productivity achieved by our sales force. This is due to more experience in selling our broadening enterprise offering of products and services and the interest of the marketplace in such offerings. In 2000, our efforts will include the successful integration of the Netrex sales personnel and continuing improvement of the quality of our sales force. General and administrative General and administrative expenses of $3.7 million in 1997, $6.6 million in 1998 and $9.2 million in 1999, represented approximately 14% in 1997, 12% in 1998 and 8% in 1999 of our total revenues. General and administrative expenses consist of personnel-related costs for executive, administrative, finance, human resources, information systems and other support services costs and legal, accounting and other professional service fees. The increase in these expenses in absolute dollars is attributable to our effort, through additional employees and systems, to enhance our management's ability to obtain and analyze information about our domestic and international operations, as well as the expansion of our facilities. Merger costs of $2.3 million represented the direct out-of-pocket costs incurred in connection with two acquisitions that were completed in the third quarter of 1999. These costs are principally investment advisor, legal and accounting fees. We also incurred amortization expense of $230,000 in 1998 and $992,000 in 1999 related to goodwill and intangible assets resulting from 1998 acquisitions. Interest income, net and exchange loss Net interest income increased from $163,000 in 1997 to $2.3 million in 1998, and to $5.9 million in 1999 primarily due to increased amounts of cash invested in interest-bearing securities. This increase in cash primarily resulted from the sale of equity securities. The exchange loss of $136,000 in 1999 is a result of fluctuations in currency exchange rates between the U.S. Dollar and other currencies, primarily the Japanese Yen. Income taxes We recorded a provision for income taxes of $62,000 in 1998 and $976,000 in 1999. These provisions relate primarily to European operations. Prior to the merger, Netrex profits were taxed at the shareholder level. In 1999, we utilized loss carryforwards to offset tax expense that would otherwise be recorded on profits from certain operations for 1999. As of December 31, 1999 substantially all loss carryforwards that would reduce future income tax expense related to United States operations have been utilized; however, we have 24 26 approximately $32 million of carryforwards related to the exercise of stock options which expire in 2014 and 2015. While income tax expense will be recorded on any future income before taxes related to United States operations, these carryforwards will reduce the related income tax payable and their use will be recorded as additional paid-in-capital. We also have approximately $1.2 million of net operating loss carryforwards related to certain foreign operations and approximately $1.3 million of research and development tax credit carryforwards which expire between 2011 and 2019. QUARTERLY RESULTS OF OPERATIONS The following table sets forth certain unaudited consolidated quarterly statement of operations data for the eight quarters ended December 31, 1999, as well as such data expressed as a percentage of our total revenues for the periods indicated. This data has been derived from unaudited consolidated financial statements that, in our opinion, include all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of such information when read in conjunction with our consolidated financial statements and related notes appearing elsewhere in this document. As a result of our limited operating history and the risks associated with the new and rapidly evolving market that we serve, the operating results for any quarter below are not necessarily indicative of results for any future period.
1998 1999 ---------------------------------------- ---------------------------------------- MAR. JUNE SEPT DEC. MAR. JUNE SEPT DEC. 31 30 30 31 31 30 30 31 ------- ------- ------- ------- ------- ------- ------- ------- (AMOUNTS IN THOUSANDS) CONSOLIDATED STATEMENT OF OPERATIONS DATA: Revenues: Product and license sales...... $ 6,946 $ 7,865 $8,335 $13,762 $14,458 $17,606 $19,200 $22,786 Subscriptions.................. 2,161 2,597 3,312 3,967 4,883 5,497 6,202 7,559 Professional services.......... 1,370 1,362 2,165 3,246 3,634 4,176 4,599 5,887 ------- ------- ------ ------- ------- ------- ------- ------- 10,477 11,824 13,812 20,975 22,975 27,279 30,001 36,232 Costs and expenses: Cost of revenues............... 3,604 4,248 4,487 7,612 6,518 9,206 9,856 12,120 Research and development....... 1,724 1,907 2,616 3,408 4,062 4,785 5,315 6,250 Sales and marketing............ 5,305 6,224 6,511 7,958 9,437 10,161 10,991 12,535 General and administrative..... 1,443 1,592 1,456 2,066 2,311 2,140 2,105 2,674 Amortization................... -- -- -- 230 251 248 247 246 Charge for in-process research and development.............. -- -- -- 802 -- -- -- -- Merger costs................... -- -- -- -- -- -- 2,329 -- ------- ------- ------ ------- ------- ------- ------- ------- Total costs and expenses............... 12,076 13,971 15,070 22,076 22,579 26,540 30,843 33,825 ------- ------- ------ ------- ------- ------- ------- ------- Operating income (loss).......... (1,599) (2,147) (1,258) (1,101) 396 739 (842) 2,407 Interest income, net............. 60 828 730 656 861 1,513 1,640 1,888 Exchange loss.................... -- -- -- -- -- -- -- (136) ------- ------- ------ ------- ------- ------- ------- ------- Income (loss) before taxes....... (1,539) (1,319) (528) (445) 1,257 2,252 798 4,159 Provision for income taxes....... -- -- -- 62 81 125 105 665 ------- ------- ------ ------- ------- ------- ------- ------- Net income (loss)................ $(1,539) $(1,319) $ (528) $ (507) $ 1,176 $ 2,127 $ 693 $ 3,494 ======= ======= ====== ======= ======= ======= ======= ======= AS A PERCENTAGE OF TOTAL REVENUES: Revenues: Product and license sales...... 66.3% 66.5% 60.3% 65.6% 62.9% 64.5% 64.0% 62.9% Subscriptions.................. 20.6 22.0 24.0 18.9 21.3 20.2 20.7 20.9 Professional services.......... 13.1 11.5 15.7 15.5 15.8 15.3 15.3 16.2 ------- ------- ------ ------- ------- ------- ------- ------- 100.0 100.0 100.0 100.0 100.0 100.0 100.0 100.0 Costs and expenses: Cost of revenues............... 34.4 35.9 32.5 36.3 28.4 33.8 32.9 33.5 Research and development....... 16.5 16.1 19.0 16.3 17.7 17.6 17.7 17.2 Sales and marketing............ 50.6 52.6 47.1 37.9 41.1 37.2 36.6 34.6 General and administrative..... 13.8 13.5 10.5 9.8 10.0 7.8 7.0 7.4 Amortization................... -- -- -- 1.1 1.1 0.9 0.8 0.7 Charge for in-process research and development.............. -- -- -- 3.8 -- -- -- -- Merger costs................... -- -- -- -- -- -- 7.8 -- ------- ------- ------ ------- ------- ------- ------- ------- Total costs and expenses............... 115.3 118.1 109.1 105.2 98.3 97.3 102.8 93.4 Operating income (loss).......... (15.3)% (18.1)% (9.1)% (5.2)% 1.7 2.7 (2.8)% 6.6 ======= ======= ====== ======= ======= ======= ======= =======
25 27 LIQUIDITY AND CAPITAL RESOURCES We have historically financed our operations primarily through the sale of equity securities, including an initial public offering in 1998. In 1999 we met our working capital needs and capital equipment needs with cash provided by operations. Cash provided by operations in 1999 totaled $11.8 million, resulting primarily from net income of $7.5 million and non-cash depreciation and amortization expense of $5.0 million. Our investing activities of $74.4 million in 1999 included the purchase of $68.0 million of marketable securities, primarily interest-bearing government obligations and commercial paper. We also invested in equipment totaling $6.4 million as we provided existing and new personnel with the computer hardware and software environment necessary to perform their job functions. We expect a similar level of equipment investment in 2000, assuming continued growth in our number of employees. Our financing activities provided $79.7 million of cash in 1999, which consisted of net proceeds of $77.4 million from our March 1999 secondary stock offering, and $3.9 million from the exercise of stock options by our employees. At December 31, 1999, we had $126.8 million of cash and cash equivalents and marketable securities, consisting primarily of United States government agency securities, money market accounts and commercial paper carrying the highest investment grade rating. We believe that such cash and cash equivalents and marketable securities will be sufficient to meet our working capital needs and capital expenditures for the foreseeable future. We expect to evaluate possible acquisition and investment opportunities in businesses, products or technologies that are complementary to ours. Although we have not identified any specific businesses, products or technologies that we intend to acquire or invest in, nor are there any current agreements with respect to any such transactions, from time to time we expect to evaluate such opportunities. In the event we determine to pursue such opportunities, we may use our available cash and cash equivalents. Pending such uses, we will continue to invest our available cash in investment grade, interest-bearing investments. Additionally, we have restricted marketable securities of $12.5 million securing a $10 million letter of credit issued in connection with our commitment to a long-term lease of our future Atlanta corporate operations. RISK FACTORS Forward-looking statements are inherently uncertain; as they are based on various expectations and assumptions concerning future events and are subject to known and unknown risks and uncertainties. Our forward-looking statements should be considered in light of the following important risk factors. Variations from our stated intentions or failure to achieve objectives could cause actual results to differ from those projected in our forward-looking statements. We undertake no obligation to update publicly any forward-looking statements for any reason, even if new information becomes available or other events occur in the future. We Have Only Recently Achieved Profitability We began operations in 1994 and have only achieved profitability in 1999. We operate in a new and rapidly evolving market and must, among other things: - respond to competitive developments; - continue to upgrade and expand our product and services offerings; and - continue to attract, retain and motivate our employees. We cannot be certain that we will successfully address these risks. As a result, we cannot assure our investors that we will be able to continue to operate profitably in the future. 26 28 Our Future Operating Results Will Likely Fluctuate Significantly As a result of our limited operating history, we cannot predict our future revenues and operating results. However, we do expect our future revenues and operating results to fluctuate due to a combination of factors, including: - the growth in the acceptance of, and activity on, the Internet and the World Wide Web, particularly by corporate, institutional and government users; - the extent to which the public perceives that unauthorized access to and use of online information are threats to network security; - the volume and timing of orders, including seasonal trends in customer purchasing; - our ability to develop new and enhanced products, managed services offerings and expand our professional services; - foreign currency exchange rates that affect our international operations; - product and price competition in our markets; and - general economic conditions, both domestically and in our foreign markets. We increasingly focus our efforts on sales of enterprise-wide security solutions, which consist of our entire security management software platform and related professional services, rather than on the sale of component products. As a result, we expect that each sale may require additional time and effort from our sales staff. In addition, the revenues associated with particular sales vary significantly depending on the number of products licensed by a customer, the number of devices used by the customer and the customer's relative need for our professional services. Large individual sales, or even small delays in customer orders, can cause significant variation in our license revenues and results of operations for a particular period. The timing of large orders is usually difficult to predict and, like many software companies, many of our customers typically license most of our products in the last month of a quarter. We cannot predict our operating expenses based on our past results. Instead, we establish our spending levels based in large part on our expected future revenues. As a result, if our actual revenues in any future period fall below our expectations, our operating results likely will be adversely affected because very few of our expenses vary with our revenues. Because of the factors listed above, we believe that our quarterly and annual revenues, expenses and operating results likely will vary significantly in the future. We Face Intense Competition in Our Market The market for network security monitoring, detection and response solutions is intensely competitive, and we expect competition to increase in the future. We cannot guarantee that we will compete successfully against our current or potential competitors, especially those with significantly greater financial resources or brand name recognition. Our chief competitors generally fall within one of four categories: - internal information technology departments of our customers and the consulting firms that assist them in formulating security systems; - relatively smaller software companies offering relatively limited applications for network and Internet security; - large companies, including Axent Technologies and Network Associates, that sell competitive products and offerings, as well as other large software companies that have the technical capability and resources to develop competitive products; and - software or hardware companies that could integrate features that are similar to our products into their own products. Mergers or consolidations among these competitors, or acquisitions of small competitors by larger companies, would make such combined entities more formidable competitors to us. Large companies may 27 29 have advantages over us because of their longer operating histories, greater name recognition, larger customer bases or greater financial, technical and marketing resources. As a result, they may be able to adapt more quickly to new or emerging technologies and changes in customer requirements. They can also devote greater resources to the promotion and sale of their products than we can. In addition, these companies have reduced and could continue to reduce, the price of their security monitoring, detection and response products and managed security services, which increases pricing pressures within our market. Several companies currently sell software products (such as encryption, firewall, operating system security and virus detection software) that our customers and potential customers have broadly adopted. Some of these companies sell products that perform the same functions as some of our products. In addition, the vendors of operating system software or networking hardware may enhance their products to include the same kinds of functions that our products currently provide. The widespread inclusion of comparable features to our software in operating system software or networking hardware could render our products obsolete, particularly if such features are of a high quality. Even if security functions integrated into operating system software or networking hardware are more limited than those of our software, a significant number of customers may accept more limited functionality to avoid purchasing additional software. For the above reasons, we may not be able to compete successfully against our current and future competitors. Increased competition may result in price reductions, reduced gross margins and loss of market share. We Face Rapid Technological Change in Our Industry and Frequent Introductions of New Products Rapid changes in technology pose significant risks to us. We do not control nor can we influence the forces behind these changes, which include: - the extent to which businesses and others seek to establish more secure networks; - the extent to which hackers and others seek to compromise secure systems; - evolving computer hardware and software standards; - changing customer requirements; and - frequent introductions of new products and product enhancements. To remain successful, we must continue to change, adapt and improve our solutions in response to these and other changes in technology. Our future success hinges on our ability to both continue to enhance our current line of products and professional services and to introduce new products and services that address and respond to innovations in computer hacking, computer technology and customer requirements. We cannot be sure that we will successfully develop and market new products that do this. Any failure by us to timely develop and introduce new products, to enhance our current products or to expand our professional services capabilities in response to these changes could adversely affect our business, operating results and financial condition. Our products involve very complex technology, and as a consequence, major new products and product enhancements require a long time to develop and test before going to market. Because this amount of time is difficult to estimate, we have had to delay the scheduled introduction of new and enhanced products in the past and may have to delay the introduction of new products and product enhancements in the future. The techniques computer hackers use to gain unauthorized access to, or to sabotage, networks and intranets are constantly evolving and increasingly sophisticated. Furthermore, because new hacking techniques are usually not recognized until used against one or more targets, we are unable to anticipate most new hacking techniques. To the extent that new hacking techniques harm our customers' computer systems or businesses, affected customers may believe that our products are ineffective, which may cause them or prospective customers to reduce or avoid purchases of our products. 28 30 Risks Associated with Our Global Operations The expansion of our international operations includes our presence in dispersed locations throughout the world, including throughout Europe and the Asia/Pacific and Latin America regions. Our international presence and expansion exposes us to risks not present in our U.S. operations, such as: - the difficulty in managing an organization spread over various countries located across the world; - unexpected changes in regulatory requirements in countries where we do business; - excess taxation due to overlapping tax structures; - fluctuations in foreign currency exchange rates; and - export license requirements and restrictions on the export of certain technology, especially encryption technology and trade restrictions. Despite these risks, we believe that we must continue to expand our operations in international markets to support our growth. To this end, we intend to establish additional foreign sales operations, expand our existing offices, hire additional personnel, expand our international sales channels and customize our products for local markets. If we fail to execute this strategy, our international sales growth will be limited. We Must Successfully Integrate Acquisitions We acquired Netrex, Inc. and NJH Security Consulting in 1999. As part of our growth strategy, we may continue to acquire or make investments in companies with products, technologies or professional services capabilities complementary to our solutions. In our recent acquisitions as well as in future acquisitions, we could encounter difficulties in assimilating new personnel and operations into our company. These difficulties may disrupt our ongoing business, distract our management and employees, increase our expenses and adversely affect our results of operations. These difficulties could also include accounting requirements, such as amortization of goodwill or in-process research and development expense. We cannot be certain that we will successfully overcome these risks with respect to any of our recent or future acquisitions or that we will not encounter other problems in connection with our recent or any future acquisitions. In addition, any future acquisitions may require us to incur debt or issue equity securities. The issuance of equity securities could dilute the investment of our existing stockholders. We Depend on Our Intellectual Property Rights and Use Licensed Technology We rely primarily on copyright and trademark laws, trade secrets, confidentiality procedures and contractual provisions to protect our proprietary rights. We have obtained one United States patent and have a patent application under review. We also believe that the technological and creative skills of our personnel, new product developments, frequent product enhancements, our name recognition, our professional services capabilities and delivery of reliable product maintenance are essential to establishing and maintaining our technology leadership position. We cannot assure you that our competitors will not independently develop technologies that are similar to ours. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our products or to obtain and use information that we regard as proprietary. Policing unauthorized use of our products is difficult. While we cannot determine the extent to which piracy of our software products occurs, we expect software piracy to be a persistent problem. In addition, the laws of some foreign countries do not protect our proprietary rights to as great an extent as do the laws of the United States and many foreign countries do not enforce these laws as diligently as U.S. government agencies and private parties. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK We have not entered into any transactions using derivative financial instruments or derivative commodity instruments and believe that our exposure to market risk associated with other financial instruments (such as investments) are not material. 29 31 ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA See the index to Consolidated Financial Statements at Item 14 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. 30 32 PART III Certain information required by Part III is omitted from this Form 10-K because the Company will file a definitive Proxy Statement pursuant to Regulation 14A not later than 120 days after the end of the fiscal year covered by this Form 10-K, and certain information to be included therein is incorporated herein by reference. ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by this Item is incorporated by reference to the Proxy Statement under the sections captioned "Proposal 1 -- Election of Directors," "Executive Compensation -- Directors and Executive Officers" and "Compliance with Section 16(a) of the Securities Exchange Act of 1934." ITEM 11. EXECUTIVE COMPENSATION The information required by this Item is incorporated by reference to the Proxy Statement under the section captioned "Executive Compensation." ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this Item is incorporated by reference to the Proxy Statement under the section captioned "Principal Stockholders." ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this Item is incorporated by reference to the Proxy Statement under the section captioned "Executive Compensation -- Certain Transactions with Management." 31 33 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) The following documents are filed as part of this Form 10-K: 1. Consolidated Financial Statements. The following consolidated financial statements of ISS Group, Inc. are filed as part of this Form 10-K on the pages indicated:
PAGE ---- ISS GROUP, INC. Report of Independent Auditors.............................. 34 Consolidated Balance Sheets as of December 31, 1998 and 1999...................................................... 35 Consolidated Statements of Operations for the Years Ended December 31, 1997, 1998 and 1999.......................... 36 Consolidated Statements of Stockholders' Equity (Deficit) for the Years Ended December 31, 1997, 1998 and 1999...... 37 Consolidated Statements of Cash Flows for the Years Ended December 31, 1997, 1998 and 1999.......................... 38 Notes to Consolidated Financial Statements.................. 39 2. Consolidated Financial Statement Schedules: Schedule II -- Valuation and Qualifying Accounts............ 52
Schedules other than the one listed above are omitted as the required information is inapplicable or the information is presented in the consolidated financial statements or related notes. 3. Exhibits. The exhibits to this Annual Report on Form 10-K have been included only with the copy of this Annual Report on Form 10-K filed with the Securities and Exchange Commission. Copies of individual exhibits will be furnished to stockholders upon written request to the Company and payment of a reasonable fee.
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - ------- ---------------------- 2.1* -- Stock Purchase Agreement dated October 6, 1998, by and among the Company, March Information Systems and its shareholders (filed as Exhibit 2.1 to the Company's Current Report on Form 8-K dated October 20, 1998). 3.1* -- Certificate of Incorporation (filed as Exhibit 3.1 to the Company's Registration Statement on Form S-1, Registration No. 333-44529 (the "Form S-1"). 3.2* -- Bylaws (filed as Exhibit 3.2 to the Form S-1). 4.1* -- Specimen Common Stock certificate (filed as Exhibit 4.1 to the Form S-1). 4.2 -- See Exhibits 3.1 and 3.2 for provisions of the Certificate of Incorporation and Bylaws of the Company defining the rights of holders of the Company's Common Stock. 10.1* -- Restated 1995 Stock Incentive Plan (filed as Exhibit 10.1 to the Form S-1). 10.2* -- Internet Security Systems, Inc. Amended and Restated Rights Agreement (filed as Exhibit 10.3 to the Form S-1). 10.3* -- Stock Exchange Agreement dated December 9, 1997 (filed as Exhibit 10.4 to the Form S-1). 10.4* -- Amended and Restated Agreement Regarding Acceleration of Vesting of Future Optionees (filed as Exhibit 10.5 to the Form S-1). 10.5* -- Forms of Non-Employee Director Compensation Agreement, Notice of Stock Options Grants and Stock Option Agreement (filed as Exhibit 10.6 to the Form S-1). 10.6* -- Sublease for Atlanta facilities (filed as Exhibit 10.7 to the Form S-1).
32 34
EXHIBIT NUMBER DESCRIPTION OF EXHIBIT - ------- ---------------------- 10.7* -- Form of Indemnification Agreement for directors and certain officers (filed as Exhibit 10.8 to the Form S-1). 10.8* -- Series B Preferred Stock Purchase Agreement (filed as Exhibit 10.9 to the Form S-1). 10.9* -- Sublease for additional Atlanta facilities (filed as Exhibit 10.9 to the Company's Registration Statement on Form S-1, Registration No. 333-71471). 10.10 -- Lease for Atlanta headquarters and research and development facility 10.11 -- Restated 1995 Stock Incentive Plan (Amended and Restated through January 18, 1999). 21.1 -- Subsidiaries of the Company. 23.1 -- Consent of Ernst & Young LLP. 23.2 -- Consent of PricewaterhouseCoopers LLP 23.3 -- Report of PricewaterhouseCoopers LLP 24.1 -- Power of Attorney, pursuant to which amendments to this Annual Report on Form 10-K may be filed, is included on the signature page contained in Part IV of the Form 10-K. 27.1 -- Restated Financial Data Schedule (for SEC use only)
- --------------- * Incorporated herein by reference to the indicated filing. (b) Reports on Form 8-K No Reports on Form 8-K were filed in the last quarter of the period covered by this report. 33 35 REPORT OF INDEPENDENT AUDITORS Board of Directors ISS Group, Inc. We have audited the accompanying consolidated balance sheets of ISS Group, Inc. as of December 31, 1999 and 1998, and the related consolidated statements of operations, stockholders' equity (deficit), and cash flows for each of the three years in the period ended December 31, 1999. Our audit also included the financial statement schedule listed in the Index at Item 14(a). These financial statements and schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedule based on our audits. We did not audit the 1998 financial statements or schedule of Netrex, Inc., a wholly owned subsidiary, which statements reflect total assets constituting 8% and total revenues constituting 37% of the related consolidated totals. Those statements and schedule were audited by other auditors whose report has been furnished to us, and our opinion, insofar as it relates to the 1998 data included for Netrex, Inc., is based solely on the report of the other auditors. We conducted our audits in accordance with auditing standards generally accepted in the United States. 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 and the report of other auditors provide a reasonable basis for our opinion. In our opinion, based on our audits and, for 1998, the report of other auditors, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of ISS Group, Inc. at December 31, 1999 and 1998, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1999, in conformity with accounting principles generally accepted in the United States. Also, in our opinion, based on our audits and the report of the other auditors, the related financial statement schedule, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. /s/ Ernst & Young LLP Atlanta, GA January 21, 2000 34 36 ISS GROUP, INC. CONSOLIDATED BALANCE SHEETS
DECEMBER 31, -------------------------- 1998 1999 ----------- ------------ ASSETS Current assets: Cash and cash equivalents................................. $53,056,000 $ 70,090,000 Marketable securities..................................... -- 56,693,000 Accounts receivable, less allowance for doubtful accounts of $412,000 and $848,000, respectively................. 16,590,000 26,934,000 Inventory................................................. 48,000 473,000 Prepaid expenses and other current assets................. 806,000 2,122,000 ----------- ------------ Total current assets.............................. 70,500,000 156,312,000 Property and equipment: Computer equipment........................................ 5,706,000 10,108,000 Office furniture and equipment............................ 3,139,000 5,232,000 Leasehold improvements.................................... 565,000 870,000 ----------- ------------ 9,410,000 16,210,000 Less accumulated depreciation............................. 3,265,000 7,277,000 ----------- ------------ 6,145,000 8,933,000 Restricted marketable securities............................ -- 12,500,000 Goodwill, less accumulated amortization of $77,000 and $396,000, respectively.................................... 3,094,000 2,775,000 Other intangible assets, less accumulated amortization of $154,000 and $827,000, respectively....................... 4,692,000 4,019,000 Other assets................................................ 293,000 306,000 ----------- ------------ Total assets...................................... $84,724,000 $184,845,000 =========== ============
LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable.......................................... $ 3,149,000 $ 5,144,000 Accrued expenses.......................................... 4,941,000 6,298,000 Deferred revenues......................................... 8,333,000 17,155,000 Current portion of long-term debt and capital lease obligations............................................ 470,000 580,000 Other current liabilities................................. 450,000 -- ----------- ------------ Total current liabilities......................... 17,343,000 29,177,000 Long-term debt, including capital lease obligations......... 742,000 435,000 Other non-current liabilities............................... 134,000 80,000 Commitments and contingencies Stockholders' equity: Preferred stock; $.001 par value; 20,000,000 shares authorized, none issued or outstanding................. -- -- Common stock, $.001 par value, 120,000,000 shares authorized, 37,169,000 and 40,980,000 shares issued and outstanding, respectively.............................. 37,000 41,000 Additional paid-in capital................................ 76,152,000 157,467,000 Deferred compensation..................................... (662,000) (288,000) Accumulated other comprehensive income.................... 142,000 100,000 Accumulated deficit....................................... (9,164,000) (2,167,000) ----------- ------------ Total stockholders' equity........................ 66,505,000 155,153,000 ----------- ------------ Total liabilities and stockholders' equity........ $84,724,000 $184,845,000 =========== ============
See accompanying notes. 35 37 ISS GROUP, INC. CONSOLIDATED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, --------------------------------------- 1997 1998 1999 ----------- ----------- ----------- Revenues: Product licenses and sales............................ $16,074,000 $36,908,000 $74,050,000 Subscriptions......................................... 4,488,000 12,037,000 24,141,000 Professional services................................. 4,863,000 8,143,000 18,296,000 ----------- ----------- ----------- 25,425,000 57,088,000 116,487,000 Costs and expenses: Cost of revenues: Product licenses and sales......................... 4,673,000 8,875,000 18,842,000 Subscriptions and services......................... 2,602,000 11,076,000 18,858,000 ----------- ----------- ----------- Total cost of revenues........................ 7,275,000 19,951,000 37,700,000 Research and development.............................. 3,855,000 9,655,000 20,412,000 Sales and marketing................................... 14,096,000 25,998,000 43,124,000 General and administrative............................ 3,668,000 6,557,000 9,230,000 Amortization.......................................... -- 230,000 992,000 Charge for in-process research and development........ -- 802,000 -- Merger costs.......................................... -- -- 2,329,000 ----------- ----------- ----------- 28,894,000 63,193,000 113,787,000 ----------- ----------- ----------- Operating income (loss)................................. (3,469,000) (6,105,000) 2,700,000 Interest income, net.................................... 163,000 2,274,000 5,902,000 Exchange loss........................................... -- -- (136,000) ----------- ----------- ----------- Income (loss) before income taxes....................... (3,306,000) (3,831,000) 8,466,000 Provision for income taxes.............................. -- 62,000 976,000 ----------- ----------- ----------- Net income (loss)....................................... $(3,306,000) $(3,893,000) $ 7,490,000 =========== =========== =========== Basic net income (loss) per share of Common Stock....... $ (0.18) $ (0.12) $ 0.19 =========== =========== =========== Diluted net income (loss) per share of Common Stock..... $ (0.18) $ (0.12) $ 0.17 =========== =========== =========== Weighted average shares: Basic................................................... 18,399,000 32,351,000 39,996,000 =========== =========== =========== Diluted................................................. 18,399,000 32,351,000 43,691,000 =========== =========== =========== Unaudited pro forma net loss per share of Common Stock................................................. $ (0.11) $ (0.11) =========== =========== Unaudited weighted average number of shares used in calculating unaudited pro forma net loss per share of Common Stock.......................................... 29,873,000 34,963,000 =========== ===========
See accompanying notes. 36 38 ISS GROUP, INC. CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT)
ACCUMULATED RETAINED COMMON STOCK ADDITIONAL OTHER EARNINGS -------------------- PAID-IN DEFERRED COMPREHENSIVE (ACCUMULATED SHARES AMOUNT CAPITAL COMPENSATION INCOME DEFICIT) ---------- ------- ------------ ------------ ------------- ------------ Balance at December 31, 1996....... 18,248,000 $18,000 $ 168,000 $ -- $ -- $(1,311,000) Comprehensive income: Net loss....................... -- -- -- -- -- (3,306,000) Accretion related to Redeemable, Convertible Preferred Stock.... -- -- (11,000) -- -- -- Deferred compensation related to stock options.................. -- -- 571,000 (571,000) -- -- Issuance of Common Stock......... 38,000 -- 32,000 -- -- -- ---------- ------- ------------ --------- -------- ----------- Balance at December 31, 1997....... 18,286,000 18,000 760,000 (571,000) -- (4,617,000) Comprehensive income: Net loss....................... -- -- -- -- -- (3,893,000) Translation adjustment......... -- -- -- -- 142,000 -- Issuance of Common Stock: Initial public offering........ 6,140,000 6,000 61,525,000 Conversion of Redeemable, Convertible Preferred Stock in connection with the initial public offering...... 11,474,000 12,000 8,866,000 Exercise of stock options...... 810,000 1,000 292,000 -- -- -- Acquisitions................... 316,000 -- 3,901,000 -- -- -- Issuance to consultant......... 2,000 -- 11,000 -- -- -- Subchapter S distributions of a pooled entity.................. -- -- -- -- -- (216,000) Buyout of former Subchapter S shareholder.................... -- -- (14,000) -- -- (438,000) Deferred compensation related to stock options.................. -- -- 811,000 (811,000) -- -- Amortization of deferred compensation................... -- -- -- 720,000 -- -- ---------- ------- ------------ --------- -------- ----------- Balance at December 31, 1998....... 37,028,000 37,000 76,152,000 (662,000) 142,000 (9,164,000) Comprehensive income: Net income..................... -- -- -- -- -- 7,490,000 Translation adjustment......... -- -- -- -- (42,000) -- Issuance of Common Stock: Secondary public offering...... 2,778,000 3,000 77,361,000 -- -- -- Exercise of stock options...... 1,033,000 1,000 3,948,000 -- -- -- Pooling-of-interests........... 141,000 -- 6,000 -- -- 164,000 Subchapter S distributions of a pooled entity.................. -- -- -- -- -- (657,000) Amortization of deferred compensation................... -- -- -- 374,000 -- -- ---------- ------- ------------ --------- -------- ----------- Balance at December 31, 1999....... 40,980,000 $41,000 $157,467,000 $(288,000) $100,000 $(2,167,000) ========== ======= ============ ========= ======== =========== TOTAL COMPREHENSIVE STOCKHOLDERS' INCOME EQUITY ------------- ------------- Balance at December 31, 1996....... $ -- $ (1,125,000) Comprehensive income: Net loss....................... $(3,306,000) (3,306,000) =========== Accretion related to Redeemable, Convertible Preferred Stock.... -- (11,000) Deferred compensation related to stock options.................. -- -- Issuance of Common Stock......... -- 32,000 ------------ Balance at December 31, 1997....... (4,410,000) Comprehensive income: Net loss....................... (3,893,000) (3,893,000) Translation adjustment......... 142,000 142,000 ----------- $(3,751,000) =========== Issuance of Common Stock: Initial public offering........ 61,531,000 Conversion of Redeemable, Convertible Preferred Stock in connection with the initial public offering...... 8,878,000 Exercise of stock options...... -- 293,000 Acquisitions................... -- 3,901,000 Issuance to consultant......... -- 11,000 Subchapter S distributions of a pooled entity.................. -- (216,000) Buyout of former Subchapter S shareholder.................... -- (452,000) Deferred compensation related to stock options.................. -- -- Amortization of deferred compensation................... -- 720,000 ------------ Balance at December 31, 1998....... -- 66,505,000 Comprehensive income: Net income..................... 7,490,000 7,490,000 Translation adjustment......... (42,000) (42,000) ----------- $ 7,448,000 =========== Issuance of Common Stock: Secondary public offering...... -- 77,364,000 Exercise of stock options...... -- 3,949,000 Pooling-of-interests........... -- 170,000 Subchapter S distributions of a pooled entity.................. -- (657,000) Amortization of deferred compensation................... -- 374,000 ------------ Balance at December 31, 1999....... $155,153,000 ============
See accompanying notes. 37 39 ISS GROUP, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, ---------------------------------------- 1997 1998 1999 ----------- ----------- ------------ OPERATING ACTIVITIES Net income (loss)...................................... $(3,306,000) $(3,893,000) $ 7,490,000 Adjustments to reconcile net income (loss) to net cash (used in) provided by operating activities: Depreciation......................................... 796,000 2,162,000 3,989,000 Amortization of goodwill and intangibles............. -- 230,000 992,000 Accretion of discount on marketable securities....... -- -- (1,176,000) Charge for in-process research and development....... -- 802,000 -- Deferred compensation expense........................ -- 720,000 374,000 Other non-cash expense............................... 46,000 118,000 (47,000) Changes in assets and liabilities, excluding the effects of acquisitions: Accounts receivable............................. (2,801,000) (10,590,000) (10,241,000) Inventory....................................... (28,000) 106,000 (425,000) Prepaid expenses and other assets............... (213,000) (541,000) (1,312,000) Accounts payable and accrued expenses........... 3,767,000 2,679,000 3,303,000 Deferred revenues............................... 1,727,000 5,299,000 8,822,000 ----------- ----------- ------------ Net cash (used in) provided by operating activities................................. (12,000) (2,908,000) 11,769,000 ----------- ----------- ------------ INVESTING ACTIVITIES Acquisitions, net of cash received..................... -- (5,206,000) -- Purchases of marketable securities..................... -- -- (55,517,000) Purchase of restricted marketable securities........... -- -- (12,500,000) Purchases of property and equipment.................... (3,317,000) (4,166,000) (6,356,000) ----------- ----------- ------------ Net cash used in investing activities........ (3,317,000) (9,372,000) (74,373,000) ----------- ----------- ------------ FINANCING ACTIVITIES Net proceeds from (payments on) long-term debt......... 425,000 161,000 (250,000) Net borrowings (payments) under line of credit......... 320,000 (320,000) -- Net proceeds from Redeemable, Convertible Preferred Stock issuances...................................... 5,253,000 -- -- Payments on long term debt and capital leases.......... (145,000) (326,000) (276,000) Capital transactions of merged entity.................. (402,000) (318,000) (1,107,000) Proceeds from exercise of stock options................ -- 292,000 3,949,000 Net proceeds from public offerings..................... -- 61,531,000 77,364,000 Other Common Stock activities.......................... 1,000 -- -- ----------- ----------- ------------ Net cash provided by financing activities.... 5,452,000 61,020,000 79,680,000 ----------- ----------- ------------ Foreign currency impact on cash........................ -- 142,000 (42,000) ----------- ----------- ------------ Net increase in cash and cash equivalents.............. 2,123,000 48,882,000 17,034,000 Cash and cash equivalents at beginning of year......... 2,051,000 4,174,000 53,056,000 ----------- ----------- ------------ Cash and cash equivalents at end of year............... $ 4,174,000 $53,056,000 $ 70,090,000 =========== =========== ============ SUPPLEMENTAL CASH FLOW DISCLOSURE Interest paid.......................................... $ 82,000 $ 134,000 $ 33,000 =========== =========== ============ Capital lease obligations incurred during the period... -- $ 468,000 $ 329,000 =========== =========== ============ Income taxes paid...................................... -- -- $ 47,000 =========== =========== ============
38 40 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS DECEMBER 31, 1999 1. SIGNIFICANT ACCOUNTING POLICIES DESCRIPTION OF BUSINESS ISS's business is focused on maintaining the latest security threat and vulnerability checks within existing products and creating new products and services that are consistent with ISS's goal of providing security management solutions. This approach entails continuous security risk monitoring and response to develop an active and informed network security policy. ISS Group, Inc. was incorporated in the State of Delaware on December 8, 1997 to be a holding company for Internet Security Systems, Inc., a Georgia company incorporated in 1994 to design, market, and sell computer network security assessment software. In addition, ISS has various other subsidiaries in the United States, Europe and the Asia/Pacific regions with primary marketing and sales responsibilities for ISS's products and services in their respective markets. ISS is organized as, and operates in, a single business segment that provides products, technical support, managed security services, and consulting and training services as components of providing security management solutions. On March 27, 1998 ISS completed an initial public offering ("IPO") of its Common Stock. A total of 6,900,000 shares were sold at $11 per share. ISS completed a second public offering of its Common Stock on March 2, 1999. A total of 5,178,000 shares were sold at $29.50 per share. The net proceeds of these offerings to ISS were approximately $138,895,000 and such proceeds will be used for general corporate purposes. ISS's shares are traded on the NASDAQ National Market under the ticker symbol "ISSX". BASIS OF CONSOLIDATION AND FOREIGN CURRENCY TRANSLATIONS The consolidated financial statements include the accounts of ISS Group, Inc. and its subsidiaries ("ISS"). All significant intercompany investment accounts and transactions have been eliminated in consolidation. Assets and liabilities of international operations are translated from the local currency into U.S. dollars at the approximate rate of currency exchange at the end of the fiscal period. Translation gains and losses of foreign operations that use local currencies as the functional currency are included in accumulated other comprehensive income (loss) as a component of stockholders' equity. Revenues and expenses are translated at average exchange rates for the period. Transaction gains and losses arising from exchange rate fluctuations on transactions denominated in currency other than the local functional currency are included in results of operations. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results may differ from those estimates, and such differences may be material to the consolidated financial statements. REVENUE RECOGNITION ISS recognizes its perpetual license revenue upon (i) delivery of software or, if the customer has evaluation software, delivery of the software key, and (ii) issuance of the related license, assuming no significant vendor obligations or customer acceptance rights exist. For perpetual license agreements, when payment terms extend over periods greater than twelve months, revenue is recognized as such amounts are billable. Product sales consist of software developed by third-party partners, combined in some instances with 39 41 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 1. SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED) associated hardware appliances and partner maintenance services. These sales are recognized upon shipment to the customer. Subscriptions revenue includes maintenance, term licenses and managed services. Annual renewable maintenance is a separate component of perpetual license agreements for which the revenue is recognized ratably over the maintenance contract term. Term licenses allow customer use of the product and maintenance for a specified period, generally twelve months, for which revenues are also recognized ratably over the contract term. Managed services consist of security monitoring services of information assets and systems and are recognized as such services are provided. Professional services revenue, including consulting and training, are recognized as such services are performed. COSTS OF REVENUES Costs of revenues include the costs of products and services. Cost of products represents the cost of product sales, which are incurred upon recognition of the associated product revenues. Cost of services includes the cost of ISS's technical support group who provide assistance to customers with maintenance agreements, the operations center costs of providing managed services and the costs related to ISS's professional services. CASH AND CASH EQUIVALENTS Cash equivalents include all highly liquid investments with maturity of three months or less when purchased. Such amounts are stated at cost, which approximates market value. MARKETABLE SECURITIES ISS's investment in marketable securities consists of debt instruments of the U.S. Treasury, U.S. government agencies and corporate commercial paper. All such marketable securities have a maturity of less than one year. These investments are classified as available-for-sale and reported at fair market value. The amortized cost of securities classified as available-for-sale is adjusted for amortization of premiums and accretion of discounts to maturity. Such amortization is included in interest income. Unrealized gains and losses on available-for-sale securities were immaterial for 1999. Realized gains and losses, and declines in value judged to be other-than-temporary are included in net securities gains (losses) and are included in our results of operations. There were no securities sold in 1999. Interest and dividends on securities classified as available-for-sale are included in interest income. CONCENTRATIONS OF CREDIT RISK Financial instruments that potentially subject ISS to significant concentrations of credit risk consist principally of cash and cash equivalents, marketable securities and accounts receivable. ISS maintains cash and cash equivalents in short-term money market accounts with two financial institutions and short-term, investment grade commercial paper. Marketable securities consist of United States government agency securities, money market accounts and investment grade commercial paper. ISS's sales are primarily to companies located in the United States, Europe, Brazil and the Asia/Pacific regions. ISS performs periodic credit evaluations of its customer's financial condition and does not require collateral. Accounts receivable are due principally from large U.S. companies under stated contract terms. ISS provides for estimated credit losses at the time of sale, which have not been significant to date. 40 42 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 1. SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED) FAIR VALUE OF FINANCIAL INSTRUMENTS The carrying amounts reported in the balance sheets for cash and cash equivalents, marketable securities, accounts receivable and accounts payable approximate their fair values. The carrying amounts reported in the balance sheets for long-term debt approximate their fair values, as the interest rate related to such debt is variable and commensurate with the credit worthiness of ISS. PROPERTY AND EQUIPMENT Property and equipment are stated at cost less accumulated depreciation. Depreciation is computed using the straight-line method for financial reporting purposes over the estimated useful lives of the assets (primarily three years). INVENTORY Inventory consists of finished goods purchased for resale and is recorded at the lower of cost or market. GOODWILL AND INTANGIBLES The major classes of intangible assets, including goodwill (excess of cost over acquired net assets), at December 31, 1998 and 1999 are as follows:
LIFE 1998 1999 ---- ---------- ---------- Goodwill................................................. 10 $3,171,000 $3,171,000 Less accumulated amortization............................ (77,000) (396,000) ---------- ---------- $3,094,000 $2,775,000 ========== ========== Core technology.......................................... 8 $3,853,000 $3,853,000 Developed technology..................................... 5 778,000 778,000 Work force............................................... 6 215,000 215,000 ---------- ---------- 4,846,000 4,846,000 Less accumulated amortization............................ (154,000) (827,000) ---------- ---------- $4,692,000 $4,019,000 ========== ==========
Goodwill and other intangible assets are amortized using the straight-line method for the period indicated. They are reviewed for impairment whenever events indicate that their carrying amount may not be recoverable. In such reviews, undiscounted cash flows associated with their carrying value are compared with their carrying values to determine if a write-down to fair value is required. RESEARCH AND DEVELOPMENT COSTS Research and development costs are charged to expense as incurred. ISS has not capitalized any such development costs under Statement of Financial Accounting Standards ("SFAS") No. 86, Accounting for the Costs of Computer Software to Be Sold, Leased, or Otherwise Marketed, because the costs incurred between the attainment of technological feasibility for the related software product through the date when the product is available for general release to customers has been insignificant. 41 43 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 1. SIGNIFICANT ACCOUNTING POLICIES -- (CONTINUED) ADVERTISING COSTS ISS incurred advertising costs $619,000 in 1997, $517,000 in 1998 and $1,312,000 in 1999, which are expensed as incurred and are included in sales and marketing expense in the statements of operations. STOCK BASED COMPENSATION SFAS No. 123, Accounting for Stock-Based Compensation establishes accounting and reporting standards for stock-based employee compensation plans. As permitted by SFAS 123, ISS continues to account for stock-based compensation in accordance with APB Opinion No. 25, Accounting for Stock Issued to Employees, and has elected the pro forma disclosure alternative of SFAS 123. INCOME (LOSS) PER SHARE On April 1, 1999 the Company's Board of Directors declared a two-for-one stock split affected in the form of a stock dividend paid on May 19, 1999 to stockholders of record on May 5, 1999. Accordingly, all share and income (loss) per share amounts have been retroactively restated for this 100% stock dividend. Basic historical net income (loss) per share (see Note 10) was computed by dividing net income (loss) plus accretion of the Series A and Series B Redeemable, Convertible Preferred Stock by the weighted average number of shares outstanding of Common Stock. Diluted historical net income (loss) per share was computed by dividing net income (loss) by the weighted average shares outstanding, including common equivalents (when dilutive). Unaudited pro forma net loss per share was computed by dividing net loss by the unaudited weighted average number of shares of Common Stock outstanding plus the assumed conversion of the Redeemable, Convertible Preferred Stock into 11,474,000 shares of Common Stock as of the later of (i) January 1, 1997 or (ii) the date of issuance of such preferred stock, instead of March 27, 1998 when such shares of preferred stock automatically converted into Common Stock. RECENTLY ISSUED ACCOUNTING STANDARDS In December 1999, the Securities and Exchange Commission Staff released Staff Accounting Bulletin ("SAB") No. 101, Revenue Recognition in Financial Statements. SAB No. 101 provides guidance on the recognition, presentation and disclosure of revenue in financial statements and is effective immediately. Adoption of SAB No. 101 is not expected to have a material impact on results of operations or financial position. 2. BUSINESS COMBINATION AND ASSET ACQUISITION On August 31, 1999, ISS acquired Netrex, Inc., ("Netrex") a leading provider of remote, security monitoring services of digital assets, in a transaction that was accounted for as a pooling-of-interests. To affect the business combination, ISS issued approximately 2,450,000 shares of ISS stock in exchange for all of the outstanding stock of Netrex. Additionally, options outstanding under the Netrex Stock Plan were assumed by ISS resulting in approximately 510,000 additional ISS shares being reserved for outstanding grants under the Netrex Stock Plan. The consolidated financial statements of ISS, including share and per share data, have been restated for all periods presented to include the results of Netrex with all intercompany transactions eliminated in such restatement. 42 44 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2. BUSINESS COMBINATION AND ASSET ACQUISITION -- (CONTINUED) Revenues and net income (loss) of the separate companies that includes periods preceding the Netrex merger were as follows:
YEAR ENDED DECEMBER 31, ---------------------------------------- 1997 1998 1999 ----------- ----------- ------------ Total revenues: ISS.................................................. $13,467,000 $35,929,000 $ 74,204,000 Netrex............................................... 11,958,000 21,159,000 42,283,000 ----------- ----------- ------------ Total revenues, as reported.................. $25,425,000 $57,088,000 $116,487,000 =========== =========== ============ Net income (loss): ISS.................................................. $(3,919,000) $(4,102,000) $ 7,326,000 Netrex............................................... 613,000 209,000 164,000 ----------- ----------- ------------ Combined............................................. $(3,306,000) $(3,893,000) $ 7,490,000 Business combination expenses.......................... -- -- 2,329,000 Pro forma income tax expense........................... -- -- (368,000) ----------- ----------- ------------ Pro forma net income (loss)............................ $(3,306,000) $(3,893,000) $ 9,451,000 =========== =========== ============
Pro forma net income (loss) reflects adjustments to net income (loss) to record an estimated provision for income taxes for each period presented assuming Netrex was a taxpaying entity and excludes merger costs. In September 1999, ISS acquired privately held NJH Security Consulting ("NJH"), which was based in Atlanta, Georgia. NJH is a consulting firm focused on providing information security services to organizations worldwide. Upon closing the acquisition in September 1999, approximately 142,000 shares of ISS common stock with a value of approximately $3.9 million were issued in exchange for all of the outstanding stock of NJH. The transaction is being accounted for using the pooling-of-interests method of accounting; however, this transaction was not material to ISS's consolidated operations and financial position and, therefore, the operating results of ISS have not been restated for this transaction. The operating results of ISS include the results of operations of NJH since the date of acquisition. The consolidated statements of operations include merger costs of $2,329,000 in 1999 that represent the direct out-of-pocket costs of these business combinations. These costs are principally investment advisor, legal and accounting fees. In October 1998, ISS acquired March Information Systems Limited ("March"), a United Kingdom-based developer of Windows NT and Unix-based security assessment technologies. Also in October 1998, ISS acquired the technology of DbSecure, Inc., a developer of database security risk assessment solutions. ISS issued 316,000 shares of ISS Common Stock and paid $5,206,000 in cash consideration and direct transaction costs for these acquisitions. Both of these acquisitions have been accounted for as purchases and their results have been included in the results of ISS's operations from the effective dates of acquisition. Substantially all of the aggregate consideration of $9,144,000 was allocated to identified intangibles, including core and developed technologies, in-process research and development, work force and goodwill (see Note 1). The valuations of core and developed technologies and in-process research and development were based on the present value of estimated future cash flows over the lesser of: (i) five years or (ii) the period in which the product is expected to be integrated into an existing ISS product. The resulting values were reviewed for reasonableness based on the time and cost spent on the effort, the complexity of the development effort and, in the case of in-process development projects, the stage to which it had progressed. For in-process research and development, the valuation was reduced for the core technology component of such product and the 43 45 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 2. BUSINESS COMBINATION AND ASSET ACQUISITION -- (CONTINUED) percentage of product development remaining at the acquisition date. The resulting in-process research and development amount of $802,000 is reflected as a charge in the 1998 statement of operations. The following table summarizes the unaudited pro forma results of operations as if the acquisition of March was concluded on January 1, 1998 (the effect of the DbSecure acquisition is not included as its impact was immaterial). This pro forma information is not necessarily indicative of what the combined operations would have been if ISS had control of such combined businesses for the periods presented. The adjustments to the historical data reflect the following (i) reduction of interest income in connection with the cash payments and (ii) amortization of goodwill and intangibles.
1998 ----------- (UNAUDITED) Revenues.................................................... $58,894,000 Operating loss.............................................. (6,537,000) Net loss.................................................... (4,619,000) Per share: Basic and diluted net loss................................ $ (0.14) Pro forma net loss........................................ $ (0.13)
3. MARKETABLE SECURITIES The following is a summary of available-for-sale marketable securities as of December 31, 1999:
ESTIMATED FAIR COST VALUE ----------- -------------- Unrestricted: U.S. Treasury securities and obligations of U.S government agencies................................... $18,907,000 $18,907,000 U.S. corporate commercial paper.......................... $37,786,000 $37,786,000 Restricted: U.S. corporate commercial paper.......................... $12,500,000 $12,500,000 ----------- ----------- $69,193,000 $69,193,000 =========== ===========
The contractual maturities of all of these investments were less than one year as of December 31, 1999. Marketable securities of $12,500,000 are restricted as of December 31, 1999 as collateral for a letter of credit issued by a financial institution related to the lease on the new ISS headquarters. The amount of restricted marketable securities and the related letter of credit will be reduced annually over the related lease term. 4. REDEEMABLE, CONVERTIBLE PREFERRED STOCK All of the outstanding shares of Redeemable, Convertible Preferred Stock were automatically converted into an aggregate of 11,474,000 shares of Common Stock on March 27, 1998 in connection with ISS's IPO. Redeemable, Convertible Preferred Stock consisted of the following:
SHARES ISSUED GROSS NET AND SERIES DATE OF ISSUANCE PROCEEDS PROCEEDS OUTSTANDING - ------ ----------------- ---------- ---------- ------------- A............................... February 2, 1996 $3,650,000 $3,607,000 7,300,000 B............................... February 14, 1997 5,280,000 5,253,000 4,174,000 ---------- ---------- ----------- $8,930,000 $8,860,000 11,474,000 ========== ========== ===========
44 46 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 4. REDEEMABLE, CONVERTIBLE PREFERRED STOCK -- (CONTINUED) Accretion related to the Series A and Series B Redeemable, Convertible Preferred Stock was recorded over the respective redemption period by charges against additional paid-in capital with corresponding increases to the carrying value of the Series A and Series B Redeemable, Convertible Preferred Stock. Such increases aggregated $11,000 for the year ended December 31, 1997 and were immaterial in 1998. 5. STOCK OPTION PLANS ISS's Incentive Stock Plan (the "Plan") provides for the granting of qualified or non-qualified options to purchase shares of ISS's Common Stock. Under the Plan, the shares reserved for future issuance increase automatically on the first trading day of each year, beginning with 1999, by an amount equal to 3% of the number of shares of Common Stock outstanding on the last trading day of the preceding year. Certain options granted under the Plan prior to the IPO are immediately exercisable, subject to a right of repurchase by ISS at the original exercise price for all unvested shares. Options granted after the IPO are generally exercisable as vesting occurs. Vesting is generally in equal annual installments over four years, measured from the date of the grant. Deferred compensation was determined by comparing the exercise price of stock options issued in December 1997 to the estimated price range for the IPO as set forth in the initial filing on January 20, 1998 of ISS's Registration Statement on Form S-1 and the exercise price of stock options issued in January and February 1998 to the final estimated price range contained in ISS's March pre-effective amendment to its Registration Statement for the IPO filed in March 1998. The amounts are being charged to operations proportionately over the four-year vesting period of the related stock options. Amortization of deferred compensation for the years ended December 31, 1998 and 1999 was $720,000 and $374,000, respectively. All other options are issued at fair market value on the date of grant. On December 8, 1997, the Board of Directors granted to each of the four non-employee directors a non-qualified option to purchase up to 40,000 shares of Common Stock outside the Plan, on the same terms as if those options had been granted under the program of the 1995 Plan. ISS reserved 160,000 shares of Common Stock for issuance under these options. A summary of ISS's stock option activity is as follows:
1997 1998 1999 --------------------- --------------------- --------------------- WEIGHTED WEIGHTED WEIGHTED AVERAGE AVERAGE AVERAGE NUMBER EXERCISE NUMBER EXERCISE NUMBER EXERCISE OF SHARES PRICE OF SHARES PRICE OF SHARES PRICE ---------- -------- ---------- -------- ---------- -------- Outstanding at beginning of year........................... 1,620,000 $0.08 3,776,000 $ 1.36 5,205,000 $ 5.35 Granted........................ 2,206,000 2.27 1,921,000 11.37 1,719,000 33.94 Exercised...................... (14,000) 0.08 (809,000) .36 (1,033,000) 3.81 Canceled....................... (36,000) 0.25 (129,000) 4.66 (884,000) 15.45 Assumed........................ -- -- 446,000 4.00 60,000 3.51 ---------- ---------- ---------- Outstanding at end of year....... 3,776,000 1.36 5,205,000 5.35 5,067,000 13.58 ========== ========== ========== Exercisable at end of year....... 3,776,000 1.36 3,219,000 1.95 2,693,000 3.00 ========== ========== ========== Weighted average fair value of options granted during the year........................... $ 1.17 $ 13.68 $ 29.01 ========== ========== ==========
45 47 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 5. STOCK OPTION PLANS -- (CONTINUED) The following table summarizes information about stock options outstanding at December 31, 1999:
OPTIONS FULLY OPTIONS OUTSTANDING VESTED AND EXERCISABLE ---------------------------- ----------------------- NUMBER OF WEIGHTED NUMBER OPTIONS AVERAGE EXERCISABLE WEIGHTED OUTSTANDING AT REMAINING AT AVERAGE DECEMBER 31, CONTRACTUAL DECEMBER 31, EXERCISE RANGE OF EXERCISE PRICES 1999 LIFE 1999 PRICE - ------------------------ -------------- ----------- ------------ -------- $0.08-0.36............................... 1,015,000 6.61 421,000 $ 0.14 $0.50-3.59............................... 1,296,000 8.10 472,000 3.25 $4.00-11.00.............................. 890,000 8.21 225,000 7.37 $12.00-25.00............................. 425,000 8.79 93,000 17.52 $25.25-55.00............................. 1,441,000 9.42 -- --
ISS has reserved approximately 5,200,000 shares of ISS common stock for the future exercise of stock options at December 31, 1999. Pro forma information regarding net income and net income per share is required by SFAS 123, which also requires that the information be determined as if ISS had accounted for its employee stock options granted subsequent to December 31, 1994 under the fair value method prescribed by that Statement. The fair value for options granted was estimated at the date of grant using the Black-Scholes option-pricing model. The following weighted average assumptions were used for 1997, 1998 and 1999, respectively: risk-free interest rates of 6.28%, 5.27% and 6.19%, respectively; no dividend yield; volatility factors of .60, .60 and 1.25, respectively; and an expected life of the options of 4, 5 and 5 years, respectively. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options that have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because employee stock options have characteristics different from those of traded options, and because the changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. For purposes of pro forma disclosures, the estimated fair value of the option is amortized to expense over the options' vesting period. The following pro forma information adjusts the net income (loss) and net income (loss) per share of Common Stock for the impact of SFAS 123:
YEAR ENDED DECEMBER 31, ------------------------------------ 1997 1998 1999 ----------- ----------- -------- Pro forma net income (loss)............................... $(3,370,000) $(6,551,000) $743,000 =========== =========== ======== Pro forma net income (loss) per share..................... $ (0.18) $ (0.20) $ 0.02 =========== =========== ========
6. LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS ISS has an agreement with a bank providing for a revolving working capital line of credit and a term loan facility. Under the terms of the agreement, ISS may borrow up to $3,000,000 (subject to a borrowing formula) and $500,000, respectively, with interest payable monthly at prime plus .5 percent. The line of credit and the term loan facility are collateralized by certain assets of the Company. 46 48 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 6. LONG-TERM DEBT AND CAPITAL LEASE OBLIGATIONS -- (CONTINUED) Capital lease obligations are as follows at December 31, 1998 and 1999:
1998 1999 --------- --------- Lease contracts payable in monthly installments aggregating $33,000 including interest at an average rate of 8.3%, maturing at various dates through 2004 collateralized by related equipment......................................... $ 725,000 $ 762,000 Less amount representing interest........................... (90,000) (74,000) --------- --------- 635,000 688,000 Less current portion........................................ (210,000) (327,000) --------- --------- Non-current portion......................................... $ 425,000 $ 361,000 ========= =========
The future minimum lease payment commitments are $374,000, $257,000, $69,000, $40,000 and $22,000 in 2000, 2001, 2002, 2003 and 2004, respectively. The charge to income resulting from the depreciation of assets recorded under capital leases is included in depreciation expense. The following is an analysis of the leased assets included in property and equipment:
1998 1999 -------- --------- Computer equipment.......................................... $388,000 $ 555,000 Furniture and fixtures...................................... 364,000 364,000 Office equipment............................................ 183,000 344,000 -------- --------- 935,000 1,263,000 Less accumulated depreciation............................. 368,000 641,000 -------- --------- Undepreciated cost.......................................... $567,000 $ 622,000 ======== =========
Long-term debt at December 31, 1998 and 1999 consists of the following:
1998 1999 --------- --------- Note payable to bank, due in monthly installments of $13,400, balance due November 2000, at interest rate of 8.6%, collateralized by related equipment................. $ 285,000 $ 144,000 Note payable to bank, due in monthly installments of $11,500, balance due May 2001, at interest rate of 8.29%, collateralized by related equipment....................... 291,000 184,000 --------- --------- 576,000 328,000 Less current maturities..................................... (260,000) (254,000) --------- --------- Non-current portion......................................... $ 316,000 $ 74,000 ========= =========
The non-current portion of long-term debt at December 31, 1999 matures in 2001. 7. COMMITMENTS AND CONTINGENT LIABILITIES ISS has non-cancelable operating leases for facilities that expire at various dates through April 2012. In 1999 ISS entered into an eleven and one-half year lease for a new corporate headquarters, which it expects to occupy in various stages beginning in November 2000. 47 49 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 7. COMMITMENTS AND CONTINGENT LIABILITIES -- (CONTINUED) Future minimum payments under non-cancelable operating leases with initial terms of one year or more consisted of the following at December 31, 1999:
OPERATING LEASES ----------- 2000........................................................ $ 4,102,000 2001........................................................ 6,156,000 2002........................................................ 6,195,000 2003........................................................ 5,503,000 2004........................................................ 5,606,000 Thereafter.................................................. 44,714,000 ----------- Total minimum lease payments...................... $72,276,000 ===========
Rent expense was approximately $749,000, $2,098,000 and $2,831,000 for the years ended December 31, 1997, 1998, and 1999, respectively. On July 13, 1999 ISS and Network Associates, Inc. announced that the patent infringement suit filed in July 1998 by Network Associates, Inc against Internet Security Systems, Inc. (a wholly-owned subsidiary of ISS) was resolved to the parties' mutual satisfaction. The resolution of this previously pending litigation had no material adverse effect on the business, operating results, or financial condition of ISS. 8. INCOME TAXES For financial reporting purposes, the provision for income taxes includes the following components, all of which are current:
YEAR ENDED DECEMBER 31, ------------------------- 1997 1998 1999 ---- ------- -------- Federal income taxes........................................ $ -- $ -- $730,000 State income taxes.......................................... -- -- 149,000 Foreign income taxes........................................ -- 62,000 97,000 ---- ------- -------- Total provision for income taxes.................. $ -- $62,000 $976,000 ==== ======= ========
A reconciliation of the provision for income taxes to the statutory federal income tax rate is as follows:
YEAR ENDED DECEMBER 31, --------------------------------------- 1997 1998 1999 ----------- ----------- ----------- Federal income taxes at 34%, applied to pretax income (loss)................................................ $(1,332,000) $(1,440,000) $ 2,878,000 State income taxes, net of federal income tax benefit... (157,000) (160,000) 149,000 Alternative Minimum Tax................................. -- -- 230,000 Intangibles............................................. -- 345,000 209,000 Research and development tax credits.................... (159,000) (384,000) (717,000) Merger expenses not deductible for tax purposes......... -- -- 792,000 S Corp earnings......................................... -- -- (255,000) Foreign operations...................................... -- 62,000 97,000 Other................................................... (26,000) 42,000 -- Change in valuation allowance........................... 1,674,000 1,597,000 (2,407,000) ----------- ----------- ----------- $ -- $ 62,000 $ 976,000 =========== =========== ===========
48 50 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 8. INCOME TAXES -- (CONTINUED) Deferred income taxes reflect the net income tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The net income tax effect has been computed using a combined statutory rate of 38% for federal and state taxes. Significant components of ISS's net deferred income taxes are as follows:
DECEMBER 31, -------------------------- 1998 1999 ----------- ------------ Deferred income tax liability -- core technology............ $ 494,000 $ 419,000 ----------- ------------ Deferred income tax assets: Depreciation and amortization............................. 72,000 267,000 Accrued liabilities....................................... 410,000 121,000 Allowance for doubtful accounts........................... 109,000 165,000 Deferred compensation..................................... 274,000 142,000 Net operating loss carryforwards.......................... 5,447,000 9,986,000 AMT credit carryforwards.................................. -- 230,000 Foreign net operating loss carryforwards.................. 298,000 647,000 Research and development tax credit carryforwards......... 571,000 1,336,000 ----------- ------------ Total deferred income tax assets.................. 7,181,000 12,894,000 Net deferred income tax assets.............................. 6,687,000 12,475,000 ----------- ------------ Less valuation allowance.................................... (6,687,000) (12,475,000) ----------- ------------ Net deferred income tax assets.................... $ -- $ -- =========== ============
For financial reporting purposes, a valuation allowance has been recognized to reduce the net deferred income tax assets to zero. ISS has not recognized any benefit from the future use of the deferred income tax assets because management's evaluation of all the available evidence in assessing the realizability of the tax benefits of such loss carryforwards indicates that the underlying assumptions of future profitable operations contain risks that do not provide sufficient assurance to recognize such tax benefits currently. The valuation allowances at December 31, 1998 and 1999 include items resulting from both operating losses and stock option deductions. The change in balance between December 31, 1998 and 1999 is the net result of a reduction of the valuation allowance related to operating losses (as shown in the provision reconciliation) and an increase in the valuation allowance related to stock option deductions. The deferred income tax assets include approximately $3,212,000 and $12,124,000 at December 31, 1998 and 1999, respectively, of assets related to stock option deductions. While income tax expense will be recorded on any future pre-tax profits from United States operations, these deferred income tax assets would reduce the related income taxes payable. This reduction in income taxes payable in future periods would be recorded as additional paid-in-capital. ISS has approximately $26,300,000 of net operating loss carryforwards for federal income tax purposes that expire in varying amounts between 2011 and 2019. The net operating loss carryforwards may be subject to certain limitations in the event of a change in ownership. ISS also has approximately $1,200,000 of net operating loss carryforwards related to its foreign operations and approximately $1,336,000 of research and development tax credit carryforwards that expire between 2011 and 2019. 49 51 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 9. EMPLOYEE BENEFIT PLANS ISS sponsors a 401(k) plan that covers substantially all employees over 21 years of age. ISS may make contributions to the plan at its discretion, but has made no contributions to the plan through December 31, 1999. 10. INCOME (LOSS) PER SHARE The following table sets forth the computation of basic and diluted net income (loss) per share:
YEAR ENDED DECEMBER 31, --------------------------------------- 1997 1998 1999 ----------- ------------ ---------- Numerator: Net income (loss)..................................... $(3,306,000) $ (3,893,000) $7,490,000 Accretion of Series A and Series B Redeemable, Convertible Preferred Stock............ (11,000) -- -- ----------- ------------ ---------- $(3,317,000) $ (3,893,000) $7,490,000 =========== ============ ========== Denominator: Denominator for basic net income (loss) per share -- weighted average shares............................ 18,399,000 32,351,000 39,996,000 Effect of dilutive stock options...................... -- -- 3,695,000 ----------- ------------ ---------- Denominator for diluted net income (loss) per share -- weighted average shares............................ 18,399,000 32,351,000 43,691,000 Redeemable, Convertible Preferred Stock............... 11,474,000 2,612,000 -- ----------- ------------ ---------- Weighted average shares for pro forma net loss per share................................................. 29,873,000 34,963,000 -- =========== ============ Basic net income (loss) per share....................... $ (0.18) $ (0.12) $ 0.19 =========== ============ ========== Diluted net income (loss) per share..................... $ (0.18) $ (0.12) $ 0.17 =========== ============ ========== Pro forma net income (loss) per share................... $ (0.11) $ (0.11) =========== ============
Options aggregating 3,776,000 and 5,205,000 at December 31, 1997 and 1998, respectively, are not included in the above calculations as they are antidilutive. 11. EXPORT SALES ISS generates export sales from the United States to the Europe, Asia/Pacific Rim and Latin America regions. Also, revenues are generated from ISS's foreign operations in these regions. ISS is organized as, and operates in, a single business segment. Revenues from any one country are not material. In the aggregate, the Europe, Asia/Pacific Rim and Latin America regions represented the following percentages of total revenues:
1997 1998 1999 ---- ---- ---- Europe...................................................... 5% 9% 11% Asia/Pacific Rim............................................ 6 3 5 Latin America............................................... -- -- 1
50 52 ISS GROUP, INC. NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 12. QUARTERLY FINANCIAL RESULTS (UNAUDITED) Summarized quarterly results for the two years ended December 31, 1998 and 1999 are as follows (in thousands, except per share data):
FIRST SECOND THIRD FOURTH ------- ------- ------- ------- 1998 by quarter: Revenues.................................. $10,477 $11,824 $13,812 $20,975 Operating income (loss)................... (1,599) (2,147) (1,258) (1,101) Net income (loss)......................... (1,539) (1,319) (528) (507) Loss per share: Basic..................................... $ (0.08) $ (0.04) $ (0.01) $ (0.01) Diluted................................... (0.08) (0.04) (0.01) (0.01) Pro forma................................. (0.05) -- -- -- 1999 by quarter: Revenues.................................. $22,975 $27,279 $30,001 $36,232 Operating income (loss)................... 396 739 (842) 2,407 Net income................................ 1,176 2,127 693 3,494 Income per share: Basic..................................... $ 0.03 $ 0.05 $ 0.02 $ 0.09 Diluted................................... 0.03 0.05 0.02 0.08
Because of the method used in calculating per share data, the quarterly per share data will not necessarily add to the per share data as computed for the year. 51 53 SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS
BALANCE AT BEGINNING OF BALANCE AT YEAR PROVISION WRITE-OFFS END OF YEAR ------------ --------- ---------- ----------- 1997 Allowance for Doubtful Accounts................. $ 96,000 $210,000 $ (20,000) $286,000 ======== ======== ========= ======== 1998 Allowance for Doubtful Accounts................. $286,000 $229,000 $(103,000) $412,000 ======== ======== ========= ======== 1999 Allowance for Doubtful Accounts................. $412,000 $554,000 $(118,000) $848,000 ======== ======== ========= ========
52 54 SIGNATURES Pursuant to the requirements of the Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized. ISS GROUP, INC. By: /s/ RICHARD MACCHIA ------------------------------------ Richard Macchia Vice President and Chief Financial Officer Dated: March 30, 2000 POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below hereby severally constitutes and appoints, Thomas E. Noonan, Richard Macchia and Jon Ver Steeg, and each or any of them, his true and lawful attorney-in-fact and agent, each with the power of substitution and resubstitution, for him in any and all capacities, to sign any and all amendments to this Annual Report (Form 10-K) and to file the same, with exhibits thereto and other documents in connection therewith, with the Securities and Exchange Commission, hereby ratifying and confirming all that each said attorney-in-fact and agent, or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof. Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
NAME TITLE DATE ---- ----- ---- /s/ THOMAS E. NOONAN Chairman, President and Chief March 30, 2000 - ----------------------------------------------------- Executive (Principal Thomas E. Noonan Executive Officer) /s/ CHRISTOPHER W. KLAUS Chief Technology Officer, March 30, 2000 - ----------------------------------------------------- Secretary and Director Christopher W. Klaus /s/ RICHARD MACCHIA Vice President and Chief March 30, 2000 - ----------------------------------------------------- Financial Officer (Principal Richard Macchia Financial and Accounting Officer) /s/ RICHARD S. BODMAN Director March 30, 2000 - ----------------------------------------------------- Richard S. Bodman /s/ ROBERT E. DAVOLI Director March 30, 2000 - ----------------------------------------------------- Robert E. Davoli /s/ SAM NUNN Director March 30, 2000 - ----------------------------------------------------- Sam Nunn
53 55
NAME TITLE DATE ---- ----- ---- /s/ KEVIN J . O'CONNOR Director March 30, 2000 - ----------------------------------------------------- Kevin J. O'Connor /s/ DAVID N. STROHM Director March 30, 2000 - ----------------------------------------------------- David N. Strohm
54 EX-10.10 2 SUBLEASE FOR ATLANTA FACILITIES 1 EXHIBIT 10.10 MOUNT VERNON PLACE LEASE AGREEMENT THIS LEASE, made and entered into as of this ________ day of November, 1999, by and between MOUNT VERNON PLACE PARTNERS, L.L.C., a Georgia limited liability company (hereinafter referred to as the "Landlord") and INTERNET SECURITY SYSTEMS, INC., a Georgia corporation (hereinafter referred to as the "Tenant"); W I T N E S S E T H : 1. PREMISES. The Landlord, for and in consideration of the rents, covenants, agreements, and stipulations hereinafter mentioned, reserved, and contained, to be paid, kept and performed by the Tenant, has leased and rented, and by these presents does lease and rent, unto the said Tenant, and said Tenant hereby agrees to lease and take upon the terms and conditions which hereinafter appear, the following described property (hereinafter referred to as the "Premises") two buildings known as Mount Vernon Place (hereinafter collectively referred to in the singular as the "Building" and respectively as the "Phase I Building" and the "Phase II Building") to be situated in Land Lot 35 of the 17th District, Fulton County, Georgia. A legal description of the land on which the Building is to be situated is attached hereto as Exhibit "B" (hereinafter referred to as the "Land"). (a) Exhibit "A" attached hereto represents a description and approximation of the Premises to be leased pursuant to this Lease, such Premises to comprise approximately 238,600 rentable square feet within the Building (inclusive of the bridges to be constructed by Landlord pursuant to Special Stipulation 2 attached to this Lease). For purposes of this Lease, the parties agree that the rentable square feet of the Premises shall be measured and determined in accordance with the Building Owners and Managers Association International standard of measurement ANSI/BOMA Z65.1 1996. Upon the final Drawings and Specifications, as this term is defined in the Work Letter, being ascertained, Landlord and Tenant's architect, Warner, Summers, Ditzel, Benefield, Ward & Associates, Inc. shall measure the rentable square footage of the Premises in accordance with such standard, which measure by Landlord and Tenant's architect shall be controlling, and the 238,600 rentable square foot figure set forth above shall be adjusted accordingly. The standard of measurement ANSI/BOMA Z65.1 1996 shall be used as the same is in effect as of the date of this Lease even if such standard shall change hereafter. (b) Within five (5) days after the Commencement Date (as defined below), Landlord shall deliver to Tenant a completed Tenant Acceptance Agreement (the "Tenant Acceptance Agreement") attached hereto as Exhibit "C" and incorporated herein, which shall contain an acknowledgment of the date upon which the Commencement Date (as defined below) of this Lease occurred, and Landlord's calculation of the exact number of rentable square feet within the Premises. Tenant shall have the right to object to the 2 Tenant Acceptance Agreement by delivering written notice to Landlord within five (5) days after Landlord delivers the Tenant Acceptance Agreement to Tenant, failing which Tenant shall be deemed to have agreed that all information contained in the Tenant Acceptance Agreement is correct. If Tenant objects to the Tenant Acceptance Agreement within said five (5) day period, Landlord and Tenant shall work together to resolve their differences and, after such differences have been resolved, Landlord shall execute the Tenant Acceptance Agreement and deliver same to Tenant and Tenant shall have a period of five (5) days to give written notice to Landlord objecting to the Tenant Acceptance Agreement, failing which Tenant shall be deemed to have agreed that the Tenant Acceptance Agreement is correct. Upon Tenant agreeing or being deemed to have agreed that all information contained in the Tenant Acceptance Agreement is correct, the Commencement Date as shown on the Tenant Acceptance Agreement shall be the Commencement Date for purposes of Section 2 of this lease and for all other purposes under this Lease and the rentable square feet of the Premises as shown on the Tenant Acceptance Agreement shall replace the rentable square feet of the leased premises referenced and defined in Section 1 above, and shall be deemed to be the rentable square feet of the Premises for all purposes under this lease. All payments of Base Monthly Rental (as defined below), and all other payments of rent and other sums of money required of Tenant herein shall be made as and when required herein, notwithstanding any unresolved objections to the Tenant Acceptance Agreement. All such payments shall be based upon the Tenant Acceptance Agreement prepared by Landlord until such objections have been finally resolved, whereupon any overpayment or any underpayment theretofore made shall be adjusted by increasing or reducing, as the case may be, the next installment of Base Monthly Rental coming due. 2. TERM. The term of this Lease shall be for a period of eleven (11) years and six (6) months commencing on the Commencement Date (as defined below) (such term being hereinafter referred to as the "Term"), unless sooner terminated as may be hereinafter provided. 3. COMPLETION OF IMPROVEMENTS. (a) Landlord agrees to proceed with due diligence to prepare the Premises in accordance with the Work Letter attached hereto as Exhibit "D" (hereinafter referred to as the "Work Letter") and in accordance with the terms of this Lease. Subject to Force Majeure (as defined in Section 45) and subject to Tenant Delay, as defined in Section 2.01(b) of the Work Letter, Landlord shall deliver the Premises to Tenant on or before November 1, 2000. At the time of delivery of the leased premises to Tenant, the "Base Building Condition" as described in Section 1.02 of the Work Letter (the "Base Building Condition") shall be constructed and installed by Landlord and Tenant's leasehold improvements shall be constructed and installed by Landlord pursuant to the terms, conditions and provisions of the Work Letter. SEE SPECIAL STIPULATION 25. SEE SPECIAL STIPULATION 28. As used herein, "Commencement Date" means the earlier of (i) the Commencement Date as calculated pursuant to Special Stipulation 4 or (ii) the date upon which Tenant commences conducting its business from all or any portion of the Premises; provided, however, in no event shall the Commencement Date be earlier than November 1, 2000. - 2 - 3 4. QUIET ENJOYMENT. Landlord hereby represents and warrants that, on the Commencement Date, Landlord will own indefeasible fee simple title in and to the Land and Building. So long as Tenant shall observe and perform the covenants and agreements binding on it hereunder and subject to the terms and provisions hereof, Tenant shall at all times during the Term peacefully and quietly have and enjoy possession of the Premises. 5. BASE MONTHLY RENTAL. Tenant agrees to pay Landlord, by payments to Mount Vernon Place Partners, L.L.C., and delivered to Landlord c/o Griffin Management Services, Inc., 800 Mt. Vernon Highway, Suite 300, Atlanta, Georgia 30328, promptly on the first day of each month in advance, during the Term of this Lease, without deduction or set off, in legal tender, a monthly rental as determined under Special Stipulation 16 (hereinafter referred to as "Base Monthly Rental"). If the Term commences on a day other than the first day of a month, or terminates on a day other than the last day of a month, the Base Monthly Rental for the first or last partial month shall be prorated based upon the actual number of days in such a month. Tenant hereby acknowledges that if any monthly payment of rent or any monies due hereunder from Tenant shall not be received by Landlord within five (5) business days after written notice from Landlord to Tenant that such payment is due, then Tenant shall pay the Landlord a late charge equal to 2 1/2% of such delinquent amount. Any amounts payable hereunder by Tenant to Landlord which are not paid within five (5) business days after written notice from Landlord to Tenant that such payment is due shall bear interest at the rate of one percent (1%) per month until paid. 6. BASE MONTHLY RENTAL ADJUSTMENT. For purposes of this Section 6 and all other provisions of this Lease, Base Monthly Rental shall be composed of two (2) components: (i) Net Rental which is defined as the total Base Monthly Rental less operating expenses per square foot of the Premises for the first twelve (12) months of the term of this Lease, and (ii) Remaining Rental which is defined as the remainder of Base Monthly Rental other than Net Rental, such that Net Rental and Remaining Rental when combined shall equal the total Base Monthly Rental. Commencing one year from the date of the initial Lease term hereof and continuing on the same day of each year during the initial and any renewal term hereof, the Net Rental component of Base Monthly Rental, as increased by previous rental adjustments hereunder, shall be increased by the lesser of the following: (i) the amount of the CPI Increase, as this term is defined below; or (ii) two and one-half percent (2 1/2%). As used in this Section 6, the term "Lease Year" shall mean the twelve (12) month period commencing on the Commencement Date, or, if the Commencement Date is not on the first day of the calendar month, commencing on the first day of the first calendar month following the Commencement Date, and each successive twelve (12) month period thereafter during the Term. The term "Subsequent Year" shall mean each Lease Year of the Term following the first year. The term "Prior Year" shall mean the Lease Year prior to the subsequent year. The term "Index" shall mean the Consumer Price Index-Seasonally Adjusted U.S. City Average for All Urban Consumers (Base Year 1982-1984 = 100) published by the Bureau of Labor Statistics of the United States Department of Labor. The term "Base Month" shall mean the calendar month which is two (2) months prior to the month during which the Lease is fully executed by Landlord and Tenant. The - 3 - 4 term "Comparison Month" shall mean the calendar month which is two (2) months prior to the first full month of each Subsequent Year in question. On the first day of each Subsequent Year, the CPI Increase shall be calculated as follows: the Net Rental component of Base Monthly Rental shall be increased to an amount equal to Net Rental for the first Lease Year plus an amount equal to the product of ten (10) times the percentage increase in the Index for the Comparison Month as compared to the Index for the Base Month multiplied by Net Rental for the first Lease Year; provided, however, in no event shall Net Rental for a Subsequent Year be less than Net Rental applicable to the Prior Year. In the event the Base Year (1982-1984 = 100) used in computing the Index is changed, the figures used in making the adjustment above shall accordingly be changed. Likewise, if the Index is discontinued, the index increase shall be in accordance with an industry wide standard for measuring the cost of living increase and used at the time of such discontinuation acceptable to Landlord. An estimated annual rent schedule of the Net Rental annual rate, assuming an annual escalation of two and one-half percent (2 1/2%) per year in Net Rental occurs pursuant to this Section 6 and assuming operating expenses for the first year of the Term of this Lease are $4.87 per square foot of the Premises, is set forth in the illustrative chart below:
LEASE YEAR NET RENTAL ANNUAL RATE ---------- ---------------------- First Year $16.18 Second Year $16.58 Third Year $17.00 Fourth Year $17.42 Fifth Year $17.86 Sixth Year $18.31 Seventh Year $18.76 Eighth Year $19.23 Ninth Year $19.71 Tenth Year $20.21 Eleventh Year $20.71 Last Six Months $21.23
In the event actual Operating Expenses for the first year of the Term are greater than $4.87 per square foot of the Premises, then the above Net Rental annual rates shall be adjusted downward accordingly. 7. [RESERVED] 8. ADDITIONAL RENT, OPERATING EXPENSE ADJUSTMENT. The Operating Expense Base Year of the rentable area of the Building shall be the calendar year of January 1, 2001 through December 31, 2001. Subject to Section 1(a) above, the total rentable area of the Building is anticipated to be 238,600 rentable square feet. SEE SPECIAL STIPULATION 2. If in any calendar year after the Operating Expense Base Year during the term hereof, the Operating - 4 - 5 Expenses of the rentable area of the Building should exceed the Operating Expenses of the Base Year (such excess being hereinafter referred to as the "Operating Expense Differential"), then as additional rent for the calendar year, Tenant shall pay within thirty (30) days after written notice by Landlord of said amount being due for each rentable square foot of floor space leased hereunder, and in any expansion or extensions hereof. For the purpose of this Paragraph 8, Operating Expenses are defined in Exhibit "E" of this Lease. In addition Operating Expenses shall be adjusted and grossed up so as to show actual Operating Expenses without computing or taking into account reduced costs because of first year warranties on materials and equipment. If during any calendar year of the Lease, the occupancy of the rentable area of the Building averages less than one hundred percent (100%), then it is agreed that the Operating Expense will be adjusted for such year so that all such Operating Expenses shall be computed as though the rentable area of the Building has been one hundred percent (100%) occupied for such calendar year. All such expense categories will be accounted for and reported in accordance with generally accepted accounting principles. At any time during the term of this Lease but not later than fifteen (15) days prior to the date an additional rental payment is due pursuant to this Section 8, Landlord may deliver to Tenant a written estimate of any additional rents which may be reasonably anticipated hereunder, estimated divided by the number of months remaining in the calendar year, and Tenant shall pay as additional rental to Landlord promptly on the first day of each month in advance without deduction or set off in legal tender the monthly amount called for under such estimate from Landlord to Tenant for those months for which such additional rental is due pursuant to this Section 8. Any such written estimate from Landlord to Tenant, as contemplated in this paragraph, may also include amounts reasonably estimated by Landlord to be due as a result of Landlord's replacing light bulbs and fixtures in the Premises, as contemplated in Section 14 of this Lease, or as a result of Landlord's paying utility bills on behalf of Tenant and thereafter receiving reimbursement from Tenant for such payments by Landlord on Tenant's behalf, as contemplated under Section 17 of this Lease. SEE SPECIAL STIPULATION 31. Statements showing the actual Operating Expenses of the Building and Tenant's proportionate share thereof (hereinafter referred to as "Statement of Actual Adjustment") shall be delivered by Landlord to Tenant within one hundred twenty (120) days after the end of any calendar year in which additional rental was paid or due by Tenant under provisions hereof. Within thirty (30) days after written notice by Landlord to Tenant of such Statement of Actual Adjustment, Tenant shall pay to Landlord the amount of any rentals shown as being due and unpaid thereon. Should such Statement of Actual Adjustment show the Tenant had paid to Landlord an aggregate amount in excess of the additional rental due for the preceding calendar year and Tenant is not then in default hereunder, Landlord shall refund the amount of overpayment. If the Term of this Lease begins on a day other than the first day of the calendar year, or should this Lease terminate on a day other than the last day of the calendar year, the amount shown as due by Tenant on the Statement of Actual Adjustment shall reflect a proration based on the proportion that the number of days this Lease was in effect during such calendar year bears to - 5 - 6 360. The Landlord's right to recover Operating Expenses Adjustment shall survive the termination of this Lease. Provided Tenant is not in default under the terms of this Lease Tenant shall have the right to inspect Landlord's books and records with respect to Operating Expenses and its proportionate share thereof for any preceding calendar year. This inspection shall be completed at the Tenant's sole cost and expense by independent, certified public accountants practicing for an accounting firm of national prominence and for the exclusive purpose of determining whether Landlord has complied with the terms of this Lease relating to Operating Expenses. Should Tenant's inspection reveal that Landlord has overstated or understated Operating Expenses an appropriate adjustment will be made. If Tenant owes any amount to Landlord based on such adjustment, it shall be paid to Landlord within thirty (30) days after the request thereof; if Landlord owes any amount to Tenant based on such adjustment, such amount shall be credited against the rent next coming due under this Lease. 9. USE OF PREMISES. The Premises shall be used for general office purposes, and purposes related thereto (which may include a cafeteria or food service facility for use by Tenant's employees if permitted by applicable laws, ordinances and regulations), and no other purposes, all in accordance with the Rules and Regulations attached hereto and incorporated herein by this reference. The Tenant shall not use, permit or allow the Premises to be used other than as strictly provided in this Lease and shall not use, permit or allow the Premises or any part thereof to be used for any unlawful purpose or otherwise in violation of any federal, state or local statute, law, ordinance, rule or regulation, including, without limitation, in violation of any zoning ordinances; nor shall the Tenant knowingly permit any nuisance within the Premises or permit the Premises to be used in any manner which will be a source of material annoyance or in any way knowingly interfere with the peaceful possession, enjoyment and proper use of other areas of the Building, nor shall the Premises be knowingly used in any manner so as to vitiate the insurance or increase the rate of insurance on the Premises or the Building, nor shall the Premises be used for any unlawful purpose which would tend to lower the quality or character of the Building, create unreasonable elevator loads or otherwise materially interfere with Building operations. Not by way of limitation of the foregoing but in addition thereto, neither the Premises nor any portion thereof shall be used or occupied for any or all of the following: governmental or quasi-governmental offices, spas (other than a health club or exercise facility for employees of Tenant), massage parlors, escort services offices, retail sales purposes, classroom facility purposes (other than in connection with Tenant's employee and client training), schools, auto leasing or auto sales offices, equipment or appliance repair shops, day care centers (other than for Tenant's employees' children), nurseries, churches, or places of religious or quasi-religious worship, religious facilities or offices of religious organizations, or retail or wholesale sale purposes, medical research laboratories or offices for medical or quasi-medical professionals providing medical treatments. 10. NO NUISANCE. Tenant shall conduct its business in such a manner so as not to knowingly create any nuisance or interference with Landlord in its operation of the Building. 11. ASSIGNMENT AND SUBLETTING. Tenant may sublease or assign any or all of the Premises without Landlord's prior written consent; provided, however, any assignee or - 6 - 7 subtenant of Tenant shall be bound by all of the terms, conditions and provisions of this Lease, including, without limitation, the provisions of Section 9 concerning use of the Premises, and Tenant shall remain primarily liable on this Lease for the entire Term hereof and shall in no way be released from the full and complete performance of all of the terms, obligations (including, without limitation, those under Special Stipulation 10), covenants and agreements contained herein. Prior to the time of any such assignment or sublease by Tenant, Tenant shall first provide Landlord with written notification of Tenant's intent to so assign or sublease and such written notification from Tenant to Landlord shall include, at a minimum, the following information regarding any applicable proposed assignee or sublessee: (i) financial statements and other relevant financial information regarding any proposed assignee or sublessee; (ii) the identity and type of business of such proposed assignee or sublessee; and (iii) such proposed assignee or sublessee's proposed use of the Premises which shall in all events be consistent and in compliance with the permitted use provisions set forth under Section 9 above. Landlord's consent shall not be required with respect to any such proposed assignee or sublessee; rather, the purpose of the preceding provisions regarding such notification and information from Tenant to Landlord shall be that of notifying Landlord with respect to any proposed assignee or sublessee. Further, in the event Tenant fails to comply with its obligations set forth under this Section 11 with respect to providing such information to Landlord and otherwise notifying Landlord as called for above under this Section 11, then any such breach by Tenant shall be considered a nonmonetary breach pursuant to nonmonetary event of default 16(ii) in Section 16 of this Lease which follows, as opposed to a monetary event of default pursuant to 16(i) in Section 16 of this Lease which follows, and accordingly, shall be subject to the notice and cure provisions set forth in said 16(ii). 12. HOLDING OVER. Should Tenant or any of its successors in interest continue to hold the Premises after termination of this Lease, whether such termination occurs by lapse of time or otherwise, with Landlord's acquiescence, and without any distinct agreement between the parties, then for the first six (6) month period of such holding over by Tenant, such holding over shall constitute and be construed as a tenancy at will at a monthly rental equal to 125% of the monthly rental (including Base Monthly Rental and any adjusted and additional rent) provided herein at the time of such termination. At all times following the first six (6) month period of such holding over by Tenant, such holding over shall then constitute and be construed as a month to month tenancy at will at a monthly rental equal to one hundred fifty percent (150%) of the monthly rental (including Base Monthly Rental and any adjusted and additional rent). At all times during the period of such holding over by Tenant (but only during such period of such holding over by Tenant and not prior to the expiration of the normal term of this Lease), Tenant shall be entitled to terminate this Lease upon thirty (30) days prior written notice to Landlord. Similarly, at all times following the first six (6) month period of such holding over by Tenant, Landlord shall be entitled to terminate this Lease upon sixty (60) days prior written notice to Tenant and at all times following the expiration of such sixty (60) day notice period from Landlord to Tenant, Tenant shall be regarded as a tenant at sufferance and not as a tenant at will; subject, however, to all the terms, provisions, covenants and agreements on the part of Tenant hereunder. At all times during the period of such tenancy at sufferance, no payments of money by Tenant to Landlord after the termination of this Lease shall reinstate, continue, renew or extend the Term and no extension of this Lease after the termination hereof shall be valid unless and until the same shall be reduced to writing and signed by both Landlord and Tenant. With respect to such tenancy at sufferance, Tenant shall be liable to - 7 - 8 Landlord for all damage which Landlord shall suffer by reason of Tenant's holding over and Tenant shall indemnify, defend and hold Landlord harmless against all claims made by any other tenant or prospective tenant against Landlord resulting from delay by Landlord in delivering possession of the Premises to such other tenant or prospective tenant. 13. ALTERATIONS AND IMPROVEMENTS. (a) No structural alteration in, or structural addition to, the Premises or the mechanical, electrical, or any other systems (other than security) of the Premises will be made without first obtaining Landlord's prior written consent, which shall not be unreasonably withheld, conditioned, or delayed, and any such work consented to, although paid for by Tenant, may be done by Landlord's contractor. However, in the event the same is performed by Tenant then all such work performed by Tenant shall meet any and all applicable building codes, and shall otherwise be performed in full compliance with any and all applicable laws, ordinances, codes and regulations, and further, Tenant shall (i) perform all such work in a reasonable manner; (ii) utilize only contractors or other vendors with a first class reputation; (iii) cause such work to be completed promptly on a lien free basis; (iv) cause such work to be completed in compliance with all applicable laws, ordinances, regulations and rules; (v) utilize the same or similar materials as any materials which may be replaced; (vi) obtain Landlord's prior written approval of all contractors, subcontractors and other vendors to be utilized by Tenant in performing any such work; and (vii) obtain any and all required building permits and other required approvals prior to performing any such work. Tenant shall, however, be entitled to perform nonstructural alterations or nonstructural additions to the Premises and shall be entitled to work on the security system (but not any other Building system) without Landlord's prior written consent but subject to and in compliance with the terms and conditions set forth in this Section 13 regarding any work performed by Tenant. (b) If Tenant's actions, omissions or occupancy of the Premises shall knowingly cause the rate of fire or other insurance either on the Building or the Premises to be increased, Tenant shall pay, as additional rent, the amount of any such increase promptly upon demand by Landlord; and (c) All erections, additions, fixtures and improvements, whether temporary or permanent in character (except only the movable office furniture of Tenant) made in or upon the Premises shall be and remain Landlord's property and shall remain upon the Premises at the termination of this Lease by lapse of time or otherwise, with no compensation to Tenant. At the expiration of the Term of this Lease, Tenant shall leave the Premises broom clean and in good condition, normal wear and tear accepted. 14. REPAIRS TO THE PREMISES. Landlord shall not be required to make any repairs or improvements to the Premises, except roof and structural repairs and repairs of latent defects necessary for safety and, tenantability, together with repairs to the mechanical, electrical and power, plumbing (including hot and cold water), HVAC, elevators and restrooms as may be required. Tenant shall, at its own cost and expense, keep in good repair all portions of the Premises, including but not limited to windows, interior glass, doors, interior walls and finish work, floors and floor coverings, and supplemental or special heating and air conditioning systems, and shall take good care of the Premises and its fixtures and permit no waste, except normal wear and tear with due consideration for the purpose for which the Premises are leased. Landlord shall maintain and - 8 - 9 replace, at its cost and expense, all light bulbs and fixtures in the Premises. To the extent Landlord incurs costs pursuant to the preceding sentence in excess of Landlord's costs associated with the Building's standard two foot by four foot fluorescent light fixtures and bulbs and any other Building standard lighting, Landlord shall invoice Tenant for such excess costs incurred by Landlord, and Tenant shall pay any and all such invoices as additional rental in accordance with the provisions of Section 8 and Special Stipulation 31 of this Lease. Tenant shall indemnify Landlord against any loss, damage, or expense arising by reason of any failure of Tenant to keep the Premises in good repair and tenantable condition as expressly required herein or due to any act or neglect of Tenant, its agents, employees, contractors, invitees, licensees, tenants, or assignees. If Tenant fails to perform after five (5) days prior written notice from Landlord to Tenant that any such maintenance or repair is required (except in the event of emergency in which event no such prior written notice shall be required), or cause to be performed, such maintenance and repairs, then at the option of Landlord, in its sole discretion, any such maintenance or repair may be performed or caused to be performed by Landlord and the cost and expense thereof charged to Tenant, and Tenant shall pay the amount thereof to Landlord on demand as additional rental. Tenant shall promptly report to Landlord in writing any damage to, or defective condition in or about the Building or Premises known to Tenant. 15. LANDLORD'S RIGHT TO ENTER PREMISES. Tenant shall not change the locks on any entrance to the Premises without prior written notice to Landlord, and in this event, Tenant shall provide copy keys to Landlord to the Premises; provided, however, Tenant shall have the right to utilize a card access system for entry to the Premises to which Landlord shall be subject but Landlord shall at all times have full access to the Premises and Building. However, notwithstanding the foregoing, Landlord and Tenant will agree upon certain limited specific areas of the Premises which will be off limits to Landlord at all times with such agreement by Landlord and Tenant to be reflected in an amendment to this Lease. Designated agents, employees, and contractors of Landlord shall have the right to enter the Premises upon one (1) business day prior written notice from Landlord to Tenant (except in the event of emergency in which event no such notice shall be required), at such times as Landlord deems reasonably necessary, to make necessary repairs, additions, alterations, and improvements to the Premises or the Building, including, without limitation, the erection, use, and maintenance of pipes and conduits. Landlord shall also be allowed to take into and through the Premises any and all needed materials that may be required to make such repairs, additions, alterations, and improvements, all without being liable to Tenant in any manner whatsoever. During such time as work is being carried on in or about the Premises, provided such work is carried out in a manner so as not to interfere unreasonably with the conduct of Tenant's business therein, the rent provided herein shall in no way abate, and Tenant waives any claim and cause of action against Landlord for damages by reason of loss or interruption to Tenant's business and profits therefrom because of the prosecution of any such work or any part thereof. In the event of emergency, or if otherwise necessary to prevent injury to persons or damage to property, such entry to the Premises may be made by force without any liability whatsoever on the part of Landlord for damage resulting from such forcible entry. 16. DEFAULT AND REMEDIES. The following events shall be deemed to be events of default by Tenant under this Lease: (i) Tenant shall fail to pay any installment of Base Monthly Rental, Additional Rent or any other charge or assessment against Tenant pursuant to the terms - 9 - 10 hereof within ten (10) days after notice thereof to Tenant; (ii) Tenant shall fail to comply with any term, provision, covenant or warranty made under this Lease by Tenant, other than the payment of the Base Monthly Rental or additional rent or any other charge or assessment payable by Tenant, and shall not cure such failure within thirty (30) days after notice thereof to Tenant except that if such matter, by its nature, requires more than thirty (30) business days to cure, then Tenant shall be entitled to additional time (but not to exceed an additional forty-five (45) business days) provided Tenant commences such cure promptly and diligently pursues such cure to completion in all events within such additional forty-five (45) business day period; (iii) Tenant or any guarantor of this Lease shall make a general assignment for the benefit of creditors, or shall admit in writing its inability to pay its debts as they become due, or shall file a petition in bankruptcy, or shall be adjudicated as bankrupt or insolvent, or shall file a petition in any proceeding seeking any reorganization, arrangement, composition, readjustment, liquidation, dissolution or similar relief under any present or future statute, law or regulation, or shall file an answer admitting or fail timely to contest the material allegations of a petition filed against it in any such proceeding; (iv) a proceeding is commenced against Tenant or any guarantor of this Lease seeking any reorganization, arrangement, composition, readjustment, liquidation, dissolution or similar relief under any present or future statute, law or regulation, and such proceeding shall not have been dismissed within sixty (60) business days after the commencement thereof; (v) a receiver or trustee shall be appointed for the Premises or for all or substantially all of the assets of Tenant or of any guarantor of this Lease; or (vi) Tenant shall fail to take possession of the Premises as provided in this Lease; (vii) Tenant shall knowingly do or permit to be done anything which creates a lien upon the Premises or the Building and such lien is not removed or discharged within thirty (30) business days after the filing thereof. Upon the occurrence of any of the aforesaid events of default, without notice or demand of Tenant in any instance, Landlord shall have the option to pursue any one or more of the following remedies: (a) Terminate this Lease by giving Tenant notice of termination, in which event this Lease shall expire and terminate on the date specified in such notice of termination, with the same force and effect as though the date so specified were the date herein originally fixed as the termination date of the Term of this Lease, and all rights of Tenant under this Lease and in and to the Premises shall expire and terminate, and Tenant shall remain liable for all obligations under this Lease arising up to the date of such termination, and Tenant shall surrender the Premises to Landlord on the date specified in such notice and if Tenant fails to do so, Landlord may without prejudice to any other remedy which it may have for possession or arrearage in rent, enter upon and take possession of the Premises and expel or remove Tenant and any other person who may be occupying the Premises or any portion thereof. (b) Landlord may immediately, or at any time thereafter so long as such event of default remains uncured, terminate this Lease, and in the event this Lease is so terminated, Landlord shall be entitled to recover forthwith against Tenant, as liquidated damages and not as a penalty, the present value determined by application of a reasonable discount rate selected by Landlord of the Aggregate Gross Rent (defined below) and the actual or estimated (as reasonably determined by Landlord) Reletting Costs (defined below) less the aggregate fair market rental - 10 - 11 value of the Premises for what otherwise would have been the unexpired balance of the Lease Term (Landlord and Tenant hereby agreeing that Landlord's actual damages in such event are impossible to ascertain and the amount set forth hereinabove as Landlord's liquidated damages is a reasonable estimate of the amount of actual damages which Landlord probably would suffer). In determining the aggregate fair market rental value pursuant to the preceding sentence, the parties hereby agree that all relevant factors shall be considered as of the time Landlord seeks to enforce such remedy, including, but not limited to, (i) the length of time remaining in what otherwise would have been the unexpired balance of the Lease Term (exclusive of renewals and extensions), (ii) the then current market conditions in the metropolitan Atlanta, Georgia area, (iii) the likelihood of reletting the Premises for a period of time equal to what otherwise would have been the unexpired balance of the Lease Term, (iv) the net effective rental rates (taking into account all concessions) then being obtained for space of similar type and size in similar type buildings in the metropolitan Atlanta, Georgia area, (v) the vacancy levels in comparable quality multi-tenant office buildings in the metropolitan Atlanta, Georgia area, (vi) the anticipated duration of the period the Premises will be unoccupied prior to the reletting, (vii) the anticipated cost of reletting, and (viii) the current levels of new construction of multi-tenant office buildings in the metropolitan Atlanta, Georgia area that will be completed during the period in what otherwise would have been the unexpired balance of the Lease Term and the degree to which such new construction will likely affect vacancy rates and rental rates in comparable quality multi-tenant office buildings in the metropolitan Atlanta, Georgia area. In the event Landlord shall relet the Premises for the period which otherwise would have constituted the unexpired portion of the Term (or any part thereof), the amount of rent and other sums payable by the tenant thereunder shall be deemed prima facie to be the rental value for the Premises (or the portion thereof so relet) for the Lease Term of such reletting. Tenant shall in no event be entitled to any rents collected or payable in respect of any reletting, whether or not such rents shall exceed the Base Monthly Rental and any additional rent reserved in this Lease. As used herein, the term "Aggregate Gross Rent" shall mean the Base Monthly Rental and any additional rent and any other sums due hereunder as of the date of termination of this Lease plus the Base Monthly Rental and any additional rent which would have been owing by Tenant hereunder for the balance of the Lease Term had this Lease not been terminated, less the net proceeds, if any, received as a result of any reletting of the Premises by Landlord subsequent to such termination, after deducting all of Landlord's expenses including, without limitation, all repossession costs, brokerage commissions, legal expenses, attorneys' fees, expenses of employees, alteration and repair costs and expenses of preparation for such reletting (collectively, the "Reletting Costs"). (c) Without terminating this Lease, terminate Tenant's right of possession and enter into and upon and take possession of the Premises or any part thereof, and at Landlord's option, expel and remove persons and property therefrom by entry (including the use of force if necessary), dispossessing suit or otherwise, without thereby releasing Tenant from any liability hereunder, without terminating this Lease, and without being liable to prosecution or any claim for damages therefor. Such property, if any, may be removed and stored in a warehouse or elsewhere at the cost of, and for the account of Tenant, all without being deemed guilty of trespass or becoming liable for any loss or damage which may be occasioned thereby, and Landlord may, but shall be under no obligation to do so relet the Premises or any portion thereof in Landlord's or Tenant's name, but for the account of Tenant, with or without advertisement, and by private negotiations, and receive the - 11 - 12 rent therefore, and for any term and upon such terms and conditions as Landlord may deem necessary or desirable. Landlord shall in no way be responsible or liable for any rental concessions or any failure to lease the Premises or any part thereof, or for any failure to collect any rent due upon such reletting. Upon each such reletting, all rentals received by Landlord from such reletting shall be applied as follows: first, to the payment of any indebtedness (other than any amounts due hereunder) from Tenant to Landlord; second, to the payment of any costs and expenses of such reletting, including, without limitation, brokerage fees and attorneys' fees and costs of alterations and repairs (Tenant agreeing that Landlord shall have the right to make such alterations and repairs as, in Landlord's judgement, may be necessary to relet the Premises); third, to the payment of rental and other charges then due and unpaid hereunder; and the residue, if any, shall be held by Landlord to the extent of and for application in payment of future amounts due hereunder as the same may become due and payable hereunder. In reletting the Premises as aforesaid, Landlord may grant rent concessions and Tenant shall not be credited therefor. If such rentals received from such reletting shall at any time or from time to time be less than sufficient to pay to Landlord the entire sums then due from Tenant hereunder, Tenant shall pay any such deficiency to Landlord. Such deficiency shall, at Landlord's option, be calculated and paid monthly. No such reletting shall be construed as an election by Landlord to terminate this Lease unless a written notice of such election has been given to Tenant by Landlord. Notwithstanding any such reletting without termination, Landlord may at any time thereafter elect to terminate this Lease for any such previous event of default provided same has not been cured. Notwithstanding anything contained herein to the contrary, no termination of Tenant's right of possession of the Premises by dispossessory action or otherwise shall release Tenant from the performance of Tenant's obligations under this Lease, including, without limitation, the timely payment of all rent reserved hereunder for the balance of the Term of this Lease following such termination of Tenant's right of possession, and Tenant agrees to so perform said obligations. (d) Without liability to Tenant or any other party and without constituting a constructive or actual eviction, suspend, or discontinue furnishing or rendering to Tenant any property, material, labor, utilities or other service, wherever Landlord is obligated to furnish or render the same, so long as Tenant is in default under this Lease. (e) Allow the Premises to remain unoccupied and collect Base Monthly Rental and other charges due hereunder from Tenant as they come due. (f) Landlord may perform, as agent for and at the expense of Tenant, any obligation of Tenant under this Lease which Tenant has failed to perform and of which Landlord shall have given Tenant notice and opportunity to cure as provided herein, the cost of which performance by Landlord together with interest thereon at the default rate from the date of such expenditure, shall be deemed additional rental and shall be payable by Tenant to Landlord upon demand, and Tenant agrees that Landlord shall not be liable for any damages resulting to Tenant from such action, whether caused by negligence of Landlord or otherwise. (g) Landlord may exercise any other legal or equitable right or remedy which it may have, including, but not limited to Landlord's right judicially to obtain possession pursuant to Georgia statutory law. - 12 - 13 Any costs and expenses incurred by Landlord (including, without limitation, reasonable (non-statutory) attorneys' fees actually incurred) in successfully enforcing any of its rights or remedies under this Lease shall be deemed additional rent and shall be repaid to Landlord by Tenant demand. Pursuit of any of the foregoing remedies shall not preclude pursuit of any other remedy herein provided or any other remedy provided by law or at equity, nor shall pursuit of any remedy herein provided constitute an election of remedies thereby excluding the later election of an alternate remedy, or a forfeiture or waiver of any Base Monthly Rental, additional rent or other charges and assessments payable by Tenant and due to Landlord hereunder or of any damage accruing to Landlord by reason or violation of any of the terms, covenants, warranties and provisions herein contained. No course of dealing between Landlord and Tenant or any failure or delay on the part of Landlord in exercising any rights of Landlord under this paragraph, or under any other provisions of this Lease, shall operate as a waiver of any rights of Landlord hereunder or under any other provisions of this Lease, nor shall any waiver of an event of default on one occasion operate as a waiver of any subsequent event of default or of any other event of default. No express waiver shall affect any condition, covenant, rule, or regulation other than the one specified in such waiver and that one only for the time and in the manner specifically stated. If this Lease is terminated by Landlord pursuant to clause (b) above, "present value" may be computed by discounting the amount of such excess to present worth at a discount rate equal to one percent (1%) above the discount rate then in effect at the Federal Reserve Bank of Atlanta, Georgia. Neither the commencement of any action or proceeding, nor the settlement thereof, nor entry of judgment thereon shall bar Landlord from bringing subsequent actions or proceedings from time to time, nor shall the failure to include in any action or proceeding any sum or sums then due be a bar to the maintenance of any subsequent actions or proceedings for the recovery of such sum or sums so omitted. Landlord's pursuit of any remedy or remedies, including, without limitation, any one or more of the remedies stated above, shall not (i) constitute an election of remedies or preclude pursuit of any other remedy or remedies provided in this Lease or separately or concurrently or in any combination, or (ii) serve as the basis for any claim of constructive eviction, or allow Tenant to withhold any payments under this Lease. The failure of Landlord to insist upon strict performance of any of the terms, conditions and covenants herein shall not be deemed to be a waiver of any subsequent breach or default in the terms, conditions, and covenants herein contained except as may be expressly waived in writing. Landlord shall in no event be in default in the performance of any of its obligations in this Lease unless and until Landlord shall have failed to perform such obligation within thirty (30) days or such additional time as is reasonably required to correct any such default, after notice by Tenant to Landlord properly specifying wherein Landlord has failed to perform any such obligation. If Tenant shall at any time be in default hereunder, and if Landlord shall deem it necessary to engage attorneys to enforce Landlord's rights hereunder, the determination of such necessity to be in the reasonable discretion of Landlord or if Landlord is made a party to litigation involving or - 13 - 14 pertaining to Tenant due to no fault of Landlord, then Tenant will reimburse Landlord for the reasonable expenses incurred thereby, including but not limited to court costs and reasonable attorneys' fees and other legal expenses. Tenant hereby covenants that, prior to the exercise of remedies, it will give the holder of any Mortgage (as defined below) notice and thirty (30) days to cure said default unless said default cannot be cured within thirty (30) days, in which case such holder shall have the right, but not the obligation, to commence and to diligently prosecute the cure of Landlord's default. 17. LANDLORD'S SERVICES. Landlord shall furnish the following services to Tenant during the Term of this Lease: (a) Janitor service shall be provided Monday through Friday of each week, exclusive of New Years Day, Memorial Day, Independence Day, Labor Day, Thanksgiving Day and Christmas Day, pursuant to specifications therefor described on Exhibit "G" attached hereto and incorporated herein by reference. The janitorial staff shall be subject to Tenant's security clearance procedures for the Premises. Additionally, Tenant shall have the right to replace the janitorial services provided by Landlord, and if Tenant so elects, then the rental under this Lease shall be reduced by Landlord's previous cost in providing such janitorial services as documented by an amendment to this Lease to be executed by Landlord and Tenant. Tenant will design Tenant's electrical system serving any equipment producing non-linear electrical loads to accommodate such non-linear electrical loads, including, but not limited to, over-sizing neutral conductors, de-rating transformers and/or providing power line filters. Tenant's final contract documents for the Tenant Improvements (as defined in the Work Letter) shall include a calculation of Tenant's fully connected design load with and without demand factors and shall indicate the number of watts of un-metered and sub-metered loads. The design and installation of any additional electrical equipment (or any related meter) required by Tenant shall be subject to the prior approval of Landlord (which approval shall not be unreasonably withheld). All expenses incurred by Landlord in connection with the review and approval of any additional electrical equipment shall also be reimbursed to Landlord by Tenant. If any of Tenant's electrical equipment requires conditioned air in excess of Building Standard air conditioning, the same shall be installed by Tenant at Tenant's sole cost in a manner previously approved by Landlord in writing, and Tenant shall pay all design, installation, metering and operating costs relating thereto. To the extent the services described hereinabove require electricity and water supplied by public utilities, Landlord's covenants thereunder shall only impose on Landlord the obligation to use its good faith, reasonable efforts to cause the applicable public utilities to furnish the same. All of the services (other than janitorial) contemplated under this Section 17 as well as any other applicable utility services shall be provided by Landlord to Tenant solely at Tenant's cost, and in no event, notwithstanding any other provision of this Lease to the contrary, shall Landlord incur - 14 - 15 any costs whatsoever associated with utility invoices from the applicable utilities. Rather, Landlord's only responsibility shall be to receive and remit payment for such invoices on Tenant's behalf to be reimbursed by Tenant in accordance with the following: In the course of Landlord's management of the Building, Landlord shall receive and remit payment for the utility invoices associated with the services set forth under this Section 17, and Tenant shall reimburse Landlord for such payments made by Landlord on Tenant's behalf within fifteen (15) days of Landlord's presentation of Landlord's invoice to Tenant associated with Landlord's payment on Tenant's behalf of any such utility payments. SEE SECTION 8 AND SPECIAL STIPULATION 31. Landlord's management of the Building shall include landscaping and other services commensurate with the following standard: such management shall be in a first class manner comparable to other office properties in the Central Perimeter Office Market of Atlanta, Georgia. SEE SPECIAL STIPULATION 19. 18. WINDOW DRESSINGS. All exterior windows of the Premises shall be equipped only with Building-standard blinds provided by the Landlord. Tenant may install other window treatments so long as same have solid white linings and so long as the Building-standard blinds remain affixed between the window glass and the other window treatments. 19. TELEPHONE SERVICE. Tenant acknowledges and agrees that securing and arranging for telephone service to the Premises is the sole responsibility of Tenant and that Landlord has no responsibility or obligation to provide or arrange such telephone service. 20. DESTRUCTION OF PREMISES. Should the Premises be so damaged by fire or other cause that rebuilding or repairs cannot, in the estimation of Landlord, be completed within one hundred twenty (120) days from the date of the fire, or other cause of damage, then either Landlord or Tenant may terminate this Lease by written notice to the other given within thirty (30) days of the date of such damage or destruction, in which event rent shall be abated from the date of such damage or destruction. However, if the damage or destruction is such that rebuilding or repairs can be completed within one hundred twenty (120) days, Landlord covenants and agrees, subject to the provisions of this paragraph, to make such repairs with reasonable promptness and dispatch within such one hundred twenty (120) day period, and to allow Tenant an abatement in the Base Monthly Rental for such time as the Premises are untenantable or proportionately for such portion of the Premises as shall be untenantable, and Tenant covenants and agrees that the terms of this Lease shall not be otherwise affected. In no event shall Landlord be required to repair or replace any trade fixtures, furniture, equipment or other property belonging to Tenant nor shall Landlord be required to rebuild, repair or replace any part of the partitions, fixtures, additions, or other improvements which may have been placed in or about the Premises by Tenant. Notwithstanding anything to the contrary contained in this paragraph, Landlord shall not have any obligation whatsoever to repair, reconstruct or restore the Premises when the damage resulting from any casualty contained under this paragraph occurs during the last six (6) months of the Term of this Lease, but rent shall abate to the extent set forth above in this Section 20 until such repairs are completed. 21. CONDEMNATION. If the whole of the Premises or access to the Premises, or such portion thereof, as will make Premises unusable for the purposes herein leased, be condemned by - 15 - 16 any legally constituted authority for any public use or purpose, then, in either of said events, the Term hereby granted shall cease from the date when possession thereof is taken by public authorities, and rental shall be accounted for as between Landlord and Tenant as of said date. Such termination, however, shall be without prejudice to the rights of either Landlord or Tenant to recover compensation and damage caused by condemnation from the condemnor; provided, however, Tenant shall not be entitled to claim compensation for items which would reduce Landlord's award. 22. INSURANCE. Landlord shall insure the initial Tenant Improvements to the Premises. Subject to the foregoing, Tenant shall insure subsequent alterations, additions, and improvements to the Premises and shall otherwise carry the required insurance under this Lease as follows: Tenant shall carry fire and extended coverage insurance insuring Tenant's interest in its improvements and betterment to the Premises and any and all furniture, equipment, supplies, and other property owned, leased, held, or possessed by it and contained therein, against loss or damage by fire, flood, windstorms, hail, earthquakes, explosion, riot, damage from aircraft and vehicles, smoke damage, vandalism and malicious mischief and such other risks as are from time to time covered under "extended coverage" endorsements and special extended coverage endorsements commonly known as "all risks" endorsements, such insurance coverage to be in an amount equal to the full replacement value of such improvements and property. Tenant also agrees to carry a policy or policies of workers' compensation and commercial general liability insurance, including personal injury and property damage in an amount of not less than Two Million and No/100 Dollars ($2,000,000.00) for the property damage and Five Million and No/100 Dollars ($5,000,000.00) per occurrence for personal injuries or deaths of persons occurring in or about the Premises. Said policies shall: (i) name Landlord, its agents and mortgagees as additional insureds and insure Landlord's contingent liability under this Lease (except for the workers' compensation policy, which shall instead include waiver of subrogation endorsement in favor of Landlord); (ii) be issued by an insurance company which is acceptable to Landlord and licensed to do business in the State of Georgia and maintains an A.M. Best credit rating of "B+" or better; and (iii) provide that said insurance shall not be cancelled unless thirty (30) days' prior written notice shall have been given to Landlord. Said policy or policies, or certificate thereof, shall be delivered to Landlord by Tenant upon commencement of the Term of the Lease and upon each renewal and/or modification of said insurance. If during the Term or any extension thereof additional coverage and/or higher limits of insurance than those mentioned above shall be deemed necessary by Landlord, Tenant shall procure such additional coverage provided such additional coverage is appropriate, customary and generally required for like premises utilized for similar purpose. If Tenant shall fail at any time to procure and/or maintain the insurance required herein, Landlord may, at its option, procure such insurance on Tenant's behalf and the cost thereof shall be payable upon demand, as additional rent. Payment by Landlord of any insurance premium or the carrying by Landlord of any such insurance policy shall not be deemed to waive or release the default of Tenant with respect thereto. Landlord shall procure and maintain at its expense (but with the expense to be included in Operating Expenses) throughout the Term a policy or policies of special form/all risk insurance covering the Building including the initial Tenant Improvements in the Premises up to the amount - 16 - 17 of the Tenant Improvement Allowance, but excluding Tenant's personal property and equipment, in an amount equal to the full insurable replacement costs thereof as such may increase from time to time (but such insurance may provide for a commercially reasonable deductible), and in an amount sufficient to comply with any coinsurance requirements in such policy, and a policy of worker's compensation insurance, if any, as required by applicable law. In addition, Landlord shall procure and maintain at its expense (but with the expense to be included in Operating Expenses) and shall thereafter maintain throughout the Term, a commercial general liability insurance policy covering the Building with combined single limits for damage to property and personal injury of not less than One Million Dollars ($1,000,000.00) per occurrence, subject to annual aggregate limits of not less than Two Million Dollars ($2,000,000.00). Landlord may also carry such other types of insurance in form and amounts which Landlord shall determine to be appropriate from time to time, and the costs thereof shall be included in Operating Expenses. All such policies procured and maintained by Landlord pursuant to this Section 22 shall be carried with companies licensed to do business in the State of Georgia. Any insurance required to be carried by Landlord hereunder may be carried under blanket policies covering other properties of Landlord and/or its members and/or their respective related or affiliated corporations and entities as long as such blanket policies provide insurance at all times for the Building as required by this Lease. Tenant shall be named as an additional insured on all such insurance carried by Landlord with respect to the Building. 23. WAIVER OF SUBROGATION. Landlord and Tenant each hereby releases the other from any and all liability or responsibility to the other or anyone claiming through or under them by way of subrogation or otherwise for any loss or damage to property caused by fire or any other perils that is insured against or that are required to be insured against under the terms of the Lease, even if such loss or damage shall have been caused by the fault or negligence of the other party, or anyone for whom such party may be responsible, including, without limitation, any other tenants or occupants of the remainder of the Building in which the Premises are located; provided, however, that this release shall be applicable and in force and effect only to the extent that such release shall be lawful at that time and in any event only with respect to loss or damage occurring during such time as the releaser's policies shall contain a clause or endorsement to the effect that any such release shall not adversely affect or impair said policies or prejudice the right of the releaser to recover thereunder and then only to the extent of the insurance proceeds payable under such policies. Landlord and Tenant each agrees that it will request its insurance carriers to include in its policies such a clause of endorsement. If extra cost shall be charged therefor, each party shall advise the other thereof and of the amount of the extra cost, and the other party, at its election, may pay the same, but shall not be obligated to do so. If such other party fails to pay such extra costs, the release provisions of this paragraph shall be inoperative against such other party to the extent necessary to avoid invalidation of such releaser's insurance. 24. NO ESTATE IN LAND. This contract shall create the relationship of Landlord and Tenant between the parties hereto; no estate shall pass out of Landlord. Tenant has only a usufruct, not subject to levy and sale, and not assignable by Tenant except by Landlord's consent. 25. INDEMNITY. Excepting for the willful acts or negligence of Landlord, its agents and employees, Tenant indemnifies and shall hold Landlord, its agents and employees, harmless from - 17 - 18 and defend Landlord, its agents, officers, directors, partners, attorneys and employees, against any and all claims or liability for injury or death to any person or damage to any property whatsoever: (a) either (i) occurring in, on, or about the Premises; or (ii) occurring in, on, or about any facilities (including, without limitation, elevators, stairways, passageways or hallways) the use of which Tenant may have in conjunction with other occupants of the Building, when such injury, death or damage shall be caused in part or in whole by the act, neglect or fault of, or omission of any duty with respect to the same by Tenant, its agents, employees, contractors, invitees, licensees, tenants, or assignees; or (b) arising from any work or thing whatsoever done by or benefiting the Tenant in or about the Premises or from transactions of the Tenant concerning the Premises; or (c) arising from any breach or default on the part of the Tenant in the performance of any covenant or agreement on the part of the Tenant to be performed pursuant to the terms of this Lease; or (d) otherwise arising from any act or neglect of the Tenant, or any of its agents, employees, contractors, invitees, licensees, tenants or assignees; and from and against all costs, expenses, counsel fees, and court costs incurred or assessed in connection with any or all of the foregoing. Furthermore, in case any action or proceeding be brought against Landlord by reason of any claims or liability, Tenant agrees to cause such action or proceeding to be defended at Tenant's sole expense by counsel reasonably satisfactory to Landlord. The provisions of this Lease with respect to any claims or liability occurring or caused prior to any expiration or termination of this Lease shall survive such expiration or termination. Tenant shall give immediate notice to Landlord in case of casualty or accidents in the Premises. The provisions of this paragraph shall survive the expiration or sooner termination of this Lease. Except for the willful acts or negligence of Tenant, its agents, contractors, employees, invitees, licensees, visitors, and customers, Landlord hereby indemnifies and shall hold Tenant harmless from and defend Tenant against any and all claims or liability for injury or death to any person or damage to any property whatsoever arising from any breach or default on the part of Landlord in the performance of any covenant or agreement on the part of Landlord to be performed pursuant to the terms of this Lease. 26. LIABILITY OF LANDLORD. Subject to the provisions of Special Stipulations 18 and 19, Landlord shall not be liable to Tenant or to any persons, firm, corporation, or other business association claiming by, through, or under Tenant for failure to furnish or for delay in furnishing any service provided for in this Lease, and no such failure or delay by Landlord shall be an actual or constructive eviction of Tenant nor shall any such failure or delay operate to relieve Tenant from the prompt and punctual performance of each and all the covenants to be performed herein by Tenant; nor for water discharged from sprinkler systems, if any, or from water pipes and plumbing facilities in the Building; nor for the theft, mysterious disappearance, or loss of any property of - 18 - 19 Tenant whether from the Premises or any part of the Building; and nor from interference, disturbance, or acts to or omitted against Tenant by third parties, including, without limitation other occupants of the Building and any such occurrences shall not constitute an actual or constructive eviction of Tenant. 27. LIMITATION OF LIABILITY. Landlord's obligations and liability with respect to this Lease shall be limited solely to Landlord's interest in the Building any insurance proceeds received by Landlord in connection therewith to the extent not yet applied by Landlord, as such interest is constituted from time to time, and neither Landlord nor any officer, director, shareholder, or partner of Landlord, or of any partner of Landlord, shall have any personal liability whatsoever with respect to this Lease. In no event shall Landlord be liable to Tenant nor shall any interest of Landlord in the Building be subject to execution by Tenant, for any indirect, special or consequential damages. 28. NO WAIVER OF RIGHTS. No failure or delay of Landlord to exercise any right or power given it herein or to insist upon strict compliance by Tenant of any obligation imposed on it herein and no custom or practice of either party hereto at variance with any term hereof shall constitute a waiver or a modification of the terms hereof by Landlord or any right it has herein to demand strict compliance with the terms hereof by Tenant. No person has or shall have any authority to waive any provision of this Lease unless such waiver is expressly made in writing and signed by Landlord. 29. ENTIRE AGREEMENT AND EXHIBITS. This Lease constitutes and contains the sole and entire agreement of Landlord and Tenant and no prior or contemporaneous oral or written representation or agreement between the parties and affecting the Premises shall have legal effect. The content of each and every exhibit which is referenced in this Lease as being attached hereto is incorporated into this Lease as fully as if set forth in the body of this Lease. 30. NOTICES. All notices required or desired to be given with respect to this Lease shall, in order to be effective, be in writing and shall be effectively given or delivered if hand delivered to the addresses for Landlord and Tenant specified hereinbelow, or if deposited, postage prepaid, to the United States mail, certified, return receipt requested, properly addressed to the addresses specified hereinbelow, or if delivered by Federal Express or other overnight commercial courier to the addresses for Landlord and Tenant hereinbelow. Any notice mailed or sent by overnight commercial courier shall be deemed to have been given upon receipt or refusal thereof. Notice effected by hand delivery shall be deemed to have been given at the time of actual delivery. In the event of a change of address by either party, such party shall give written notice thereof to the other party in accordance with the foregoing. Additionally, Tenant agrees to send copies of all notices required or permitted to be given to Landlord to each lessor under any ground or land lease covering all or any part of the Land and each holder of a mortgage or deed to secure debt encumbering the Building and/or the Land that notifies Tenant in writing of its interest in the address to which notices are to be sent. - 19 - 20 If to Tenant INTERNET SECURITY SYSTEMS, INC. (prior to Commencement Date): 6600 Peachtree-Dunwoody Road, N.E. 300 Embassy Row, Fifth Floor Atlanta, Georgia 30328 Attention: Mr. Richard Macchia If to Tenant (after Commencement Date): INTERNET SECURITY SYSTEMS, INC. 6303 Barfield Road Suite 100 Atlanta, Georgia 30328 Attn: Mr. Richard Macchia If to Landlord: MOUNT VERNON PLACE PARTNERS, L.L.C. c/o Griffin Management Services, Inc. 800 Mount Vernon Highway, Suite 300 Atlanta, Georgia 30328 Attn: Mr. Joel J. Griffin The foregoing addresses may be changed by thirty (30) days written notice from time to time. Tenant hereby appoints as his agent to receive the service of all dispossessory or distraint proceedings and notices thereunder, and all notices required under this Lease, the person in charge of or occupying the Premises at the time; and if no person is in charge of or occupying same, then such service or notice may be made by attaching the same on the main entrance to the Premises. To the extent permitted by law, Tenant hereby submits to the jurisdiction of any state or federal court located in Fulton County, Georgia, as well as to the jurisdiction of all courts from which an appeal may be taken from the aforesaid courts for the purpose of any suit, action or other proceeding arising out of Tenant's obligations under or with respect to this Lease and Tenant hereby expressly waives any and all objections that Tenant may have as to jurisdiction and/or venue in any of such courts. 31. SUCCESSORS AND ASSIGNS. The covenants, conditions and agreements herein contained shall inure to the benefit of and be binding upon Landlord, its successors and assigns, and shall be binding upon Tenant, its heirs, executors, administrators, successors and assigns, and shall inure to the benefit of Tenant. Nothing contained in this Lease shall in any manner restrict Landlord's right to assign or encumber this Lease in its sole discretion. Should Landlord assign this Lease as provided for above, Tenant shall be bound to said conditions of this Lease for the balance of the Term hereof remaining after such succession, and Tenant shall attorn to such succeeding party as its landlord under this Lease promptly under any such successions. Tenant agrees that should any party so succeeding to the interest of Landlord require a separate agreement of attornment regarding the matters covered by this Lease, then Tenant shall enter into any such "attornment agreement," provided the same does not modify any of the provisions of this Lease and has no adverse effect upon Tenant's continued occupancy of the Premises. - 20 - 21 32. SUBORDINATION. Landlord will obtain within thirty (30) days from the date of this Lease from its lender financing the acquisition of the Land, as this term is defined in Special Stipulation 1, and the construction of the Building in connection therewith, a subordination, non-disturbance and attornment agreement between Landlord, such lender, and Tenant. Tenant agrees that this Lease shall, subject to obtaining the aforesaid subordination, non-disturbance attornment agreement be and remain subject and subordinate to all present and future mortgages, deeds to secure debt or other security instruments (the "Security Deeds") affecting the Premises provided that such future lenders will not disturb Tenant as long as Tenant remains in full compliance with all terms and conditions of this Lease. Tenant shall promptly execute and deliver to Landlord such certificate or certificates in writing as Landlord may request, confirming the subordinate nature of the Lease to such Security Deeds. 33. ESTOPPEL CERTIFICATE. Tenant shall, within ten (10) days after request from Landlord, at any time and from time to time execute, acknowledge and deliver to Landlord a written statement certifying as follows: (a) that this Lease is unmodified and in full force and effect (or if there has been modification thereof, that the same is in full force and effect as modified and stating the nature thereof); (b) that to the best of its knowledge there are no uncured defaults on the part of Landlord (or if any such default exists, the specific nature and extent thereof); and (c) the date to which any rents and other charges have been paid in advance, if any; and (d) such other matters as Landlord may reasonably request. 34. TIME IS OF THE ESSENCE. Time is of the essence with the respect to the performance of each of the covenants and agreements of this Lease; provided, however, that failure of Landlord to provide Tenant with any notification regarding adjustments in Base Monthly Rental, or any other charges provided for hereunder, within the time periods prescribed in this Lease shall not relieve Tenant of its obligation to make such payments, which payments shall be made by Tenant at such time as notice is subsequently given. Unless specifically provided otherwise, all references to terms of days or months shall be construed as references to calendar days or calendar months, respectively. 35. CAPTIONS; GOVERNING LAW. The captions of this Lease are for convenience of reference only and in no way define, limit or describe the scope or intent of this Lease. The laws of the State of Georgia shall govern the validity, performance and enforcement of this Lease. 36. DEFINITIONS. "Landlord" as used in this Lease shall include his heirs, representatives, assigns and successors in title to Premises. "Tenant" shall include its heirs and representatives, and if this Lease shall be validly assigned or sublet, shall include also Tenant's assignees or sublessees, as to premises covered by such assignment or sublease. "Broker" and "Co-Broker" shall include its successors, assigns, heirs, and representatives. "Landlord," "Tenant," "Broker" and "Co-Broker," shall include male and female, singular and plural, corporation, partnership or individual, as may fit the particular parties. 37. SEVERABILITY. If any clause or provision of this Lease is or becomes illegal, invalid, or unenforceable because of present or future laws or any rule or regulation of any - 21 - 22 governmental body or entity, effective during its term, the intention of the parties hereto is that the remaining parts of this Lease shall not be affected thereby, unless such invalidity is, in the sole determination of Landlord, essential to the rights of both parties in which event Landlord has the right to terminate this Lease on written notice to Tenant. 38. LAWS AND REGULATIONS; BUILDING RULES AND REGULATIONS. Subject to the provisions of Special Stipulation 11, Tenant shall comply with, and Tenant shall cause its agents, contractors, customers, employees, invitees, licensees, servants and visitors to comply with (i) all applicable laws, ordinances, orders, directions, requirements, rules and regulations (state, federal, municipal and other agencies or bodies having any jurisdiction thereof) now in force or which may hereafter be in force, which shall impose any duty upon Landlord or Tenant relating to the use, condition or occupancy of the Premises or the conduct of Tenant's business therein, including, without limitation, the Americans With Disabilities Act of 1990 (as now or hereafter amended); and (ii) the Building Rules and Regulations set forth in Exhibit "F," as such Rules and Regulations are modified and supplemented by Landlord from time to time, and such other rules and regulations as are reasonably adopted by Landlord from time to time, for the safety, care or cleanliness of the Premises and the Building, or for preservation of good order therein, all of which will be sent by Landlord to Tenant in writing and shall be thereafter carried out and observed by Tenant, its agents, contractors, customers, employees, invitees, licensees, servants and visitors. Tenant hereby expressly waives the benefit of all existing and future rent control laws and similar governmental rules and regulations, whether in time of war or not, to the full extent permitted by law. 39. SPECIAL STIPULATIONS. The Special Stipulations attached hereto are hereby incorporated herein and made a part hereof. In the event the Special Stipulations conflict with any of the foregoing provisions of this Lease, the Special Stipulations shall control. 40. BROKER COMMISSION. Tenant represents and warrants to Landlord that, other than Insignia/ESG, Inc. ("Broker"), no broker, agent, commissioned salesperson or other person has represented Tenant in the negotiations for and procurement of this Lease, and that no commissions, fees or compensation of any kind are due in connection herewith to any broker, agent, commissioned salesperson or other person, other than Broker, which has acted as broker for Tenant in this transaction. Landlord shall pay Broker a real estate commission in connection with this transaction pursuant to the terms of a separate written Commission Agreement between Landlord and Broker. Landlord has disclosed that The Griffin Company ("Co-Broker") is acting on behalf of Landlord in this transaction and is receiving a commission pursuant to the terms of a separate written Commission Agreement. 41. REMOVAL OF PERSONAL PROPERTY. Tenant may (if not in default hereunder) prior to the expiration of this Lease, or any extension thereof, remove all unattached and movable personal property and equipment which Tenant has placed in the Premises, provided Tenant repairs all damages to Premises caused by such removal. All personal property of Tenant remaining on the Premises after the end of the Term shall be deemed conclusively abandoned, notwithstanding that title to or a security interest in such personal property may be held by an individual or entity other than Tenant, and Landlord may dispose of such personal property in any manner it deems proper, in - 22 - 23 its sole discretion. Tenant hereby waives and releases any claim against Landlord arising out of the removal or disposition of such personal property. Tenant shall reimburse Landlord for the cost of removing such personal property. 42. SIGNAGE. Subject to applicable laws, regulations, and ordinances, Tenant, at Tenant's sole cost and expense (but with Tenant allowed to use a portion of the Tenant Improvement Allowance as set forth in the Work Letter attached as Exhibit "D") and subject to Landlord's prior written approval as to the exact location and as to the plans and specifications for such signage, shall be entitled to install signage including Tenant's corporate name and logo on each Building and the parking deck together with a monument sign adjacent to each Building and the walls of elevator lobbies of the Building and on entrance doors to the Building on any full floors of the Building leased by Tenant. The location of such signage together with all plans and specifications for such signage shall be provided by Tenant to Landlord subject to Landlord's prior written approval not to be unreasonably withheld by Landlord. Subject to the foregoing, Tenant shall not place any other signs, decals, or other materials upon the windows or suite doors of the Premises nor on the exterior walls of Premises. Any additional signage other than as provided for under this Section 42 desired by Tenant shall be approved, in writing, by Landlord and the management company of the Building, which shall be granted in their sole discretion. 43. EFFECT OF TERMINATION OF LEASE. No termination of this Lease prior to the normal ending thereof, by lapse of time or otherwise, shall affect Landlord's right to collect rent for the period prior to termination thereof. 44. RIGHTS CUMULATIVE. All rights, powers and privileges conferred hereunder upon parties hereto shall be cumulative but not restrictive to those given by law. 45. FORCE MAJEURE. In the event of strike, lockout, labor trouble, civil commotion, act of God, or any other cause (hereinafter collectively referred to as "Force Majeure") outside and beyond Landlord's control, resulting in the impairment of Landlord's ability to perform any obligation or provide any service hereunder, this Lease shall not terminate, and Tenant's obligation to pay Base Monthly Rental, additional rental and all other charges and sums due payable by Tenant shall not be altered or excused and Landlord shall not be considered to be in default under this Lease or liable in damages to Tenant in any manner. 46. TENANT CORPORATION, PARTNERSHIP OR INDIVIDUAL. If Tenant executes this Lease as a corporation, each of the persons executing this Lease on behalf of Tenant does hereby covenant, warrant and represent that Tenant is a duly organized and validly existing corporation, that Tenant has and is qualified to do business in Georgia, that the corporation has full right and authority to enter into this Lease, and that each and all persons signing on behalf of the corporation were authorized to so do. Upon Landlord's request, Tenant shall provide Landlord with evidence reasonably satisfactory to Landlord confirming the foregoing covenants and warranties. If Tenant executes this Lease as a partnership, Tenant does hereby covenant, warrant and represent that all the persons who are general or managing - 23 - 24 partners in said partnership have executed this Lease on behalf of Tenant, or that this Lease has been executed and delivered pursuant to and in conformity with a valid and effective authorization therefor, by all of the general or managing partners of such partnership, and is and constitutes the valid and binding agreement of the partnership and each and every partner therein in accordance with its terms. Also, it is agreed that each and every present and future partner of Tenant shall be and shall remain at all times jointly and severally liable hereunder, and that the death, resignation, or withdrawal of any partner shall not release the liability of such partner under the terms of this Lease unless and until Landlord consents in writing to such release. If Tenant executes this Lease as an individual, Tenant does hereby covenant, warrant and represent that his legal residence address is that set forth below his signature on this Lease. If more than one individual or entity comprises and constitutes Tenant, then all individuals and entities comprising Tenant are and shall each be jointly and severally liable for the due and proper performance of Tenant's covenants, duties and obligations arising under or in connection with this Lease. 47. SUBMISSION OF LEASE. The submission of this Lease for examination does not constitute an offer to lease nor a reservation of space even if said lease is executed by Landlord, and this Lease shall be effective only upon execution hereof by Landlord and Tenant. 48. NO RECORDATION OF LEASE. This Lease is not in recordable form, and Tenant agrees not to record or permit the recording of this Lease or other evidence thereof except that Tenant shall be entitled to record a memorandum of this Lease, previously approved in writing by Landlord, which memorandum shall provide that this Lease is subject to present and future lenders as set forth in Section 32 of this Lease and subject to the terms and conditions of Section 32 of this Lease. 49. HAZARDOUS SUBSTANCES. Tenant hereby covenants and agrees that Tenant shall not cause or knowingly permit any "Hazardous Substances" (as hereinafter defined) to be generated, placed, held, stored, used, located or disposed of at the Building or any part thereof, except for Hazardous Substances as are commonly and legally used or stored as a consequence of using the Demised Premises for general office and administrative purposes, but only so long as the quantities thereof do not pose a threat to public health or to the environment or would necessitate a "response action", as that term is defined in CERCLA (as hereinafter defined), and so long as Tenant strictly complies or causes compliance with all applicable governmental rules and regulations concerning the use or production of such Hazardous Substances. For purposes of this paragraph, "Hazardous Substances" shall mean and include those elements or compounds which are contained in the list of Hazardous Substances adopted by the United States Environmental Protection Agency (EPA) or the list of toxic pollutants designated by Congress or the EPA which are defined as hazardous, toxic, pollutant, infectious or radioactive by any other federal, state or local statute, law, ordinance, code, rule, regulation, order or decree regulating, relating to or imposing liability (including, without limitation, strict liability) or standards of conduct concerning, any hazardous, toxic or dangerous waste, substance or material, as now or at any time hereinafter in effect (collectively "Environmental Laws"). Tenant hereby agrees to indemnify Landlord and hold Landlord harmless from and against any and all losses, liabilities, including strict liability, damages, injuries, expenses, including reasonable attorneys' fees, costs of settlement or judgment and claims of any and every kind whatsoever paid, incurred or suffered by, or asserted against, Landlord by any person, entity or governmental agency for, with respect to, or as a direct or indirect result of, the presence in, or the escape, leakage, spillage, discharge, - 24 - 25 emission or release from, the Demised Premises of any Hazardous Substances (including, without limitation, any losses, liabilities, including strict liability, damages, injuries, expenses, including reasonable attorneys' fees, costs of any settlement or judgment or claims asserted or arising under the Comprehensive Environmental Response, Compensation and Liability Act ["CERCLA"], any so-called federal, state or local "Superfund" or "Superlien" laws or any other Environmental Law); provided, however, that the foregoing indemnity is limited to matters arising solely from Tenant's violation of the covenant contained in this Article. The obligations of Tenant under this Article shall survive any expiration or termination of this Lease. SEE SPECIAL STIPULATION 12. 50. EXECUTION. This Lease may be executed in any number of counterparts, each of which shall be deemed an original and any of which shall be deemed to be complete in itself and may be introduced into evidence or used for any purpose without the production of the other counterparts. No modification or amendment of this Lease shall be binding upon the parties hereto unless such modification or amendment is in writing and signed by Landlord and Tenant. 51. LANDLORD AND TENANT RELATIONSHIP. The relationship between Landlord and Tenant shall be solely that of landlord and tenant only, and no provision of this Lease including, without limitation, the provisions of Special Stipulation 8 of this Lease, shall be deemed or construed by the parties hereto, or by any third party, as creating the relationship of principal and agent, or of partnership, or of joint venture, between the parties hereto, and accordingly, without limiting the generality of the foregoing provisions, Tenant shall have no authority to bind or enter into any agreements on behalf of Landlord whatsoever. 52. AUTHORITY. As a material inducement to Landlord to enter into this Lease, Tenant, acknowledging that Landlord may rely on each such representation and warranty, represent and warrant to Landlord that: (a) the execution, delivery and full performance of this Lease by Tenant do not and shall not constitute a violation of any contract, agreement, undertaking, judgment, statute, regulation, governmental or court order or other restriction of any kind to which Tenant is or may be bound; (b) Tenant has executed and entered into this Lease free from fraud, undue influence, duress, coercion or other defenses to the execution of this Lease; (c) Tenant is duly organized, validly existing and in good standing under the laws of the state of Georgia and has full power and authority to enter into this Lease, to perform Tenant's obligations under this Lease in accordance with the terms hereof, and to transact business in the State of Georgia; and (d) the execution and delivery of this Lease by the individual or individuals executing this Lease on behalf of Tenant, and Tenant's performance of its obligations under this Lease, have been duly authorized and approved by all necessary corporate or partnership action, as the case may be, and Tenant's execution, delivery and - 25 - 26 performance of this Lease are not in conflict with Tenant's bylaws or articles of incorporation, or other charters, agreements, rules or regulations governing Tenant's business, as any of the foregoing may have been supplemented, modified, amended, or altered in any manner. IN WITNESS WHEREOF, the parties hereto have set their hands and seals hereunder and have caused this Lease to be executed in their names and their corporate seals to be affixed by their officers duly authorized thereunto, upon the day and year set forth above. TENANT: Signed, sealed and delivered INTERNET SECURITY SYSTEMS, INC., in the presence of: a Georgia corporation By: - ------------------------------------- ---------------------------------- Notary Public or Witness Name: - ------------------------------------- -------------------------------- Name (Please Print) (Please Print) Title: ------------------------------- Attest: ------------------------------- Name: -------------------------------- (Please Print) Title: ------------------------------- [CORPORATE SEAL] LANDLORD: Signed, sealed and delivered MOUNT VERNON PLACE PARTNERS, in the presence of: L.L.C., A GEORGIA LIMITED LIABILITY COMPANY By - ------------------------------------- ---------------------------------- Notary Public or Witness JOEL J. GRIFFIN MANAGING MEMBER - ------------------------------------- Name (Please Print) - 26 - 27 MOUNT VERNON PLACE SPECIAL STIPULATIONS 1. Notwithstanding any provision of this Lease to the contrary, Landlord's obligations under this Lease are contingent upon Landlord's acquisition of the Land by December 31, 1999 and in the event Landlord has not acquired the Land by December 31, 1999, then Landlord shall be entitled to terminate this Lease by written notice to Tenant in which event neither party shall have any further liability or obligation hereunder to the other. Alternatively, Landlord may extend the contingency date for Landlord's acquisition of the Land from December 31, 1999, as described above, to January 31, 2000, and if Landlord elects to extend such date, then in the event Landlord has not then acquired the Land by January 31, 2000, then Landlord or Tenant shall then be entitled to terminate this Lease by written notice to the other in which event neither party shall have any further liability or obligation hereunder to the other. Upon the execution of this Lease, Landlord has paid to Tenant a payment of $25.00 as an option payment from Landlord to Tenant thereby making this Lease a mutually binding option agreement notwithstanding that this Lease is not binding upon Landlord unless and until the contingency set forth above in this Special Stipulation 1 with regarding Landlord's acquisition of the Land is removed. Tenant hereby acknowledges the receipt and sufficiency of such $25.00 option payment from Landlord to Tenant. 2. Within the thirty (30) days of the date of this Lease, Landlord shall apply for any and all necessary permits and approvals so as to allow for Landlord's construction of two (2) bridges connecting the Phase I Building and the Phase II Building, and Landlord shall diligently pursue any and all such required permits and approvals (collectively "Approvals"). In the event the Approvals are obtained, then Landlord shall construct such bridges connecting the Phase I and Phase II Buildings, but in the event Landlord is unable to obtain such Approvals, then Landlord shall not be obligated to construct such bridges nor shall Landlord be deemed to be in breach or default under this Lease; provided, however, Landlord shall construct a covered walk way between the Phase I building and the Phase II building pursuant to plans and specifications mutually acceptable to Landlord and Tenant. In the event such bridges are not constructed, then the rentable square feet of the Building shall be adjusted accordingly. 3. Landlord shall construct the Building substantially in accordance with the following plans and specifications: those certain project manuals and drawings styled "Mount Vernon Place Office Building, Atlanta, Georgia, November 4, 1999, Project Manuals & Drawings" as further enumerated in Exhibit "A-1" attached hereto and made a part hereof by reference. Any modifications by Landlord to the construction of the Building as determined by Landlord shall remain substantially in accordance with such plans and specifications provided that Landlord shall notify Tenant when any such modifications are made by Landlord to such plans and specifications. Landlord's general construction of the Building shall be comparable in quality to the following facility: Perimeter Place Office Building located at 800 Mount Vernon Highway. 28 4. Notwithstanding any provision of this Lease to the contrary, the Term of this Lease shall be for eleven (11) years and six (6) months commencing on the Commencement Date which shall be the date the construction of the Tenant Improvements is completed pursuant to the Work Letter (the "Work Letter") attached hereto as Exhibit "D" and made a part hereof by reference and a certificate of occupancy is issued by Fulton County. The target Commencement Date of November 1, 2000 would result in an expiration date of the Term on April 31, 2012. However, in the event of Tenant Delay, as this term is defined under Section 6 of the Work Letter, the Commencement Date shall be the date construction of the Tenant Improvements would have been completed pursuant to the Work Letter and a certificate of occupancy would have been issued by Fulton County had not such Tenant Delay occurred. The method for determining the rental Commencement Date set forth in this Special Stipulation 4 shall apply to each and every respective phase of the staged occupancy of the Premises described below in Special Stipulation 5. 5. The following represents the parties' agreement regarding staged occupancy of the Premises and the payment of rental in connection therewith: On the first initial Commencement Date (with an initial target Commencement Date of November 1, 2000), as determined pursuant to Special Stipulation 4 above, Tenant shall occupy and begin paying rental for all five (5) floors of the Phase I Building (consisting of 115,500 rentable square feet). Similarly, on the second target Commencement Date of February 1, 2001, with the actual second Commencement Date being determined as set forth above in Special Stipulation 4, Tenant shall begin paying rental for two (2) floors of the Phase II Building together with the two (2) bridges constructed by Landlord pursuant to Special Stipulation 2 above consisting of a total of 53,800 rentable square fee (46,200 square feet for such two (2) floors of the Phase II Building and 7,600 rentable square feet for such two (2) bridges). Similarly, on the third target Commencement Date of August 1, 2001, with the actual third Commencement Date being determined pursuant to Special Stipulation 4 above, Tenant shall begin paying rental for an additional floor of the Phase II Building consisting of 23,100 rentable square feet. Similarly, on the fourth target Commencement Date of February 1, 2002, with the actual fourth Commencement Date being determined pursuant to Special Stipulation 4 above, Tenant shall begin paying rental for an additional floor of the Phase II Building consisting of 23,100 rentable square feet. Finally, upon the fifth target Commencement Date of August 1, 2002, with the actual fifth Commencement Date being determined pursuant to Special Stipulation 4 above, Tenant shall begin paying rental for the last floor of the Phase II Building consisting of 23,100 rental square feet. Landlord and Tenant shall agree within sixty (60) days of the date of this Lease as to the exact sequences of floors in the Phase II Building to be occupied by Tenant on the respective second through fifth target Commencement Dates of February 1, 2001, August 1, 2001, February 1, 2002, and August 1, 2002 as set forth above in this Special Stipulation 5, and when Landlord and Tenant reach such agreement within such sixty (60) day period, an amendment to this Lease shall be executed reflecting such agreement by the parties. The schedule of Tenant's rental obligations for the staged occupancy of the Premises as set forth in this Special Stipulation 5 is set forth in Special Stipulation 17 below subject to the assumptions and terms and conditions set forth in Special Stipulation 17 below. Tenant shall occupy the respective 29 portions of the Premises at the respective Commencement Dates as determined pursuant to Special Stipulation 4 and Special Stipulation 5 of this Lease. 6. Tenant shall not be liable for any increase of, or reassessment in, real property taxes and assessments resulting from a sale, transfer, reapportionment of proprietary interest, or any other change in ownership of the Building or site during the Term or from major alterations, improvements, modifications, or renovations to the Building or site. However, subject only to the restrictions set forth in the preceding sentence, Tenant shall remain fully liable for real property taxes and assessments to the extent set forth in Section 8 and Exhibit "E" of the Lease and otherwise. 7. If used by Tenant to pay for the Tenant Costs, as such term is defined under Section 3.02 of the Work Letter attached hereto as Exhibit "D", up to $2.50 per rentable square foot of the Premises over and above the total $24.00 per rentable square foot Tenant Improvement Allowance, as this term is defined in Section 3.01 of the Work Letter, may be amortized as set forth herein and added as additional rental (over and above the amounts of the first sixty (60) monthly installments of Base Monthly Rental) with such amortization to be at an interest rate of ten percent (10%) per annum over the first five (5) years of the Term of this Lease, to the extent such extra amounts are used by Tenant to pay for the Tenant Costs. To the extent the total $24.00 per rentable square foot Tenant Improvement Allowance is not used in full ("Savings"), then Tenant may use such Savings for relocation expenses, wiring expenses, telecommunication expenses and for similar items and/or for moving expenses and/or for the permitted purposes set forth in Section 3.01 of the Work Letter and/or Tenant may elect to have Landlord apply up to $2.50 per rentable square foot of the Premises of such Savings (but not in excess of up to $2.50 per rentable square foot of the Premises of such Savings) as a credit toward Tenant's initial rental obligations under this Lease. 8. Subject to the terms, conditions and agreements set forth in this Special Stipulation 8, Landlord shall pay to Tenant a portion of the net cash flow (for purposes of this Special Stipulation 8, the term "net cash flow" shall be defined as Landlord's actual cash flow from Landlord's operation of the Building (after the Preferred Return, as this term is defined below, has been paid in full to each of Landlord's members) less Landlord's payment of expenses in connection with Landlord's operation of the Building and less Landlord's maintenance of reserves in connection with Landlord's operation of the Building subject to the limitation that any loans from Landlord's members to Landlord shall not bear interest at a rate in excess of the Preferred Return) otherwise payable to Landlord's members from the operation of the Building, which payments by Landlord to Tenant, the parties agree, shall constitute an expense of Landlord in the operation of the Building (but which shall not constitute an Operating Expense as set forth in Exhibit "E" and other applicable provisions of this Lease) upon the following terms and conditions: Unless otherwise approved by Tenant, Landlord's permanent financing for the Building shall contain an amortization based upon a period of not less than twenty-five (25) years. Landlord shall be entitled to determine the payment of all operating expenses and the maintenance of all reserves in connection with Landlord's operation of the Building. Each of Landlord's members has contributed and/or will from time to time contribute cash and/or other equivalent value 30 associated with each such member's investment in its membership interests in Landlord and otherwise as set forth in the operating agreement of Landlord and the books and records of Landlord maintained in connection therewith (hereinafter the respective contributions by each of Landlord's members are referred to respectively as "Cash Invested"). For purposes of this Special Stipulation 8, the respective amounts of the Cash Invested for each such member of Landlord shall not be decreased in any respect whatsoever and shall be deemed to be entitled to a twelve percent (12%) per annum preferred interest return ("Preferred Return") as further set forth in this Special Stipulation 8 and shall not be diminished by depreciation, return of capital, or any other accounting event which might otherwise be deemed to decrease the amount of Cash Invested or the capital account of any such member; rather, the aggregate Cash Invested, as the same may be increased from time to time, shall in no event ever be diminished for purposes of this Special Stipulation 8. Each member of Landlord shall be entitled to the Preferred Return on each such member's Cash Invested from and after the respective times of each increment of such Cash Invested by such member, and after each such member has received such member's total current Preferred Return on any and all Cash Invested, then subject to Landlord's payment of expenses in connection with the Building and the maintenance of normal reserves, as determined by Landlord, the remaining net cash flow shall on an annual basis within sixty (60) days from the expiration of each calendar year, or more frequently if net cash flow is distributed to the members of Landlord more frequently, be divided as follows: Landlord shall pay as an expense of Landlord in its operation of the Building to Tenant thirty percent (30%) of such net cash flow with the remaining seventy percent (70%) of such net cash flow to be distributed to Landlord's members contemporaneous with the payment of such thirty percent (30%) of net cash flow to Tenant. Such payment of thirty percent (30%) of net cash flow from Landlord to Tenant shall continue only for the first eight and one-half (8 1/2) years of the term of this Lease and shall not continue thereafter. In the event the Building is sold or refinanced during such eight and one-half (8 1/2) years initial term of this Lease, but not thereafter, then after the Preferred Return is paid to Landlord's members, Tenant shall be entitled to receive as an expense payment from Landlord to Tenant thirty percent (30%) of the remaining net proceeds from any such sale or refinancing with the remaining 70% to be distributed to Landlord's members. At any and all times during all terms of this Lease, Landlord shall be entitled to determine the financing of Landlord (both temporary and permanent) in connection with its acquisition, construction, and operation of the Building subject only to the restriction that permanent financing shall be based on an amortization period of not less than twenty-five (25) years as set forth above in this Special Stipulation 8, and further, Landlord shall determine expenses to be paid in connection with the operation of the Building, reserves to be maintained in connection therewith, and the terms of any such sale or refinancing. In no event shall Tenant be entitled to any payment of net cash flow or net proceeds from any sale or refinancing or any other payment under this Special Stipulation 8 after the first eight and one-half (8 1/2) years of the initial term of this Lease (the "Tenant Participation Period"). Further, following any sale of the Building from the initial landlord, Mount Vernon Place Partners, L.L.C. to a successor during the Tenant Participation Period, provided that Tenant is paid thirty percent (30%) of the remaining net proceeds from such sale as described above in this Special Stipulation 8, then Tenant shall not be entitled to receive any further payments from any successor landlord, 31 and the provisions of this Special Stipulation 8 shall accordingly, only be binding upon the initial landlord Mount Vernon Place Partners, L.L.C. during the Tenant Participation Period. Notwithstanding the preceding sentence, in the event the term of this Lease is extended past eleven and one-half (11 1/2) years by a mutually acceptable written extension agreement between Landlord and Tenant which is executed and entered into during such Tenant Participation Period, then the Tenant Participation Period shall also be extended by the same period as the extension term set forth in any such written extension agreement; provided, however, that in all events, Tenant's rights to receive the portion of net cash flow from operations and net proceeds from any sale or refinancing, as set forth above in this Special Stipulation 8, shall cease upon the date when three (3) years are left on the term of this Lease. Accordingly, in no event shall Tenant be entitled to any portion of net cash flow or net proceeds from any sale or refinancing during the last three (3) years of the Term of this Lease, and accordingly, the Tenant Participation Period shall not be extended by any holdover by Tenant either pursuant to Section 12 of this Lease or otherwise. However, in the event Tenant extends the Term of this Lease pursuant to Special Stipulation 13 below regarding Tenant's renewal of the Term of this Lease, then the Tenant Participation Period shall be extended in the manner set forth above, and if Tenant's rights to receive thirty percent (30%) of net cash flow as set forth above have lapsed, then such rights shall be revived by such extension of the Tenant Participation Period except that all lapsed payments due from Landlord to Tenant associated with such extension shall be paid by Landlord to Tenant as an expense in Landlord's operation of the Building (but which shall not constitute an Operating Expense as set forth in Exhibit "E" and other applicable provisions of this Lease) in the current year when such lapsed rights to receive payments are revived by such extension. Except as set forth in the preceding sentence, the Tenant Participation Period shall not be extended for any other reason except only as set forth above in this Special Stipulation 8. 9. Landlord agrees to provide Tenant in increments up to the aggregate amount of $700,000.00 to be utilized by Tenant to offset or buyout of Tenant's existing rental obligation for approximately 90,000 square feet at Embassy Row. Such amounts shall be payable by Landlord to Tenant to the extent of and at the respective times Tenant incurs offset or buyout obligations with respect to Tenant's office space at Embassy Row as indicated by the following illustrative examples: In the event Tenant buys out of its existing rental obligation at Embassy Row, then the payments from Landlord to Tenant pursuant to this Special Stipulation 9 shall be on or about the same time or times as Tenant's respective payments obligations under such buyout and similarly, in the event Tenant sublets its office space at Embassy Row, then for the incremental difference between the amount received by Tenant pursuant to such sublease and the amount due from Tenant to the landlord at Embassy Row, then Landlord shall pay the amounts of such incremental differences to Tenant pursuant to this Special Stipulation 9 on or about the respective times of Tenant's obligations for such incremental difference to its landlord at Embassy Row. To the extent such $700,000.00 amount set forth above in this Special Stipulation 9 is not utilized in full by Tenant pursuant to this Special Stipulation 9, then up to, but not in excess of, $350,000.00 of such unutilized amount will be applied by Landlord as a credit against Tenant's rental obligations under this Lease. 32 10. On or before November 19, 1999 (with the form of the letter of credit to be provided for Landlord's review and approval by November 10, 1999), Tenant shall deliver to Landlord an irrevocable standby letter of credit as security for Tenant's performance under this Lease and to compensate Landlord for Landlord's expenses incurred (said letter of credit and each letter of credit substituted therefor as hereinafter provided, being hereinafter referred to as the "Letter of Credit") issued in form and substance and by an issuing banking institution acceptable to Landlord containing the following terms and conditions: (i) the Letter of Credit shall provide for multiple draws; (ii) Landlord or Landlord's successor-in-title to the Premises shall be the beneficiary under the Letter of Credit; (iii) draws under the Letter of Credit shall be honored by the issuing lending institution upon presentation by an authorized representative of Landlord accompanied by (a) Landlord's sight draft, (b) a certification by Landlord that Tenant has defaulted under this Lease and, as a result of such default, Landlord is entitled to present the Letter of Credit for payment, and (c) a certification by Landlord that Landlord is entitled to payment of the sums set forth as rental due under this Lease, together with a certificate as to additional sums representing itemized costs and expenses incurred by Landlord as a result of the default by Tenant under this Lease and otherwise; (iv) the term of the Letter of Credit shall be one (1) year from the date of issuance thereof; and (v) in the event the Letter of Credit has not been replaced by Tenant with a substitute Letter of Credit in the amount set forth below by five (5) business days prior to the expiring date thereof, Landlord shall be entitled to present the Letter of Credit for payment of the entire remaining undisbursed balance thereof, accompanied solely by Landlord's sight draft. The first Letter of Credit shall be in the face amount of Ten Million and No/100 Dollars ($10,000,000.00); each successive Letter of Credit shall be in the face amount of One Million and No/100 Dollars ($1,000,000.00) less than the Letter of Credit replaced by such successive Letter of Credit, until the amount of the next successive Letter of Credit is $0.00 at which time Landlord shall return the issued and outstanding Letter of Credit and Tenant shall have no further obligation to cause the issuance of additional Letters of Credit. 33 11. Landlord warrants that the Building, Premises and all common areas will meet building codes in Fulton County at the Commencement Date and that the Premises will be in compliance with the Americans With Disabilities Act (42 U.S.C.ss. 12101 et. seq.). Landlord warrants that the offices, rooms, buildings, structures, and adjacently owned property, including all parking lots, walkways, entrances, hallways and other public spaces, elevators, and other devices or pathways for ingress and egress to the leased property that might be used by customers, clients, invitees of Tenant and the general public, conform to the requirements of the Americans with Disabilities Act and all regulations issued by the U.S. Attorney General or other authorized agencies under the authorization of the American with Disabilities Act. The Landlord promises to reimburse and indemnify and defend the Tenant for any expenses incurred because of the failure of the leased Premises and adjacently owned property to conform with the above cited law and regulations, including the costs of making any alterations, renovations, or accommodations required by the Americans with Disabilities Act, or any governmental enforcement agency, or any court, any and all fines, civil penalties, and damages awarded against the Tenant resulting from a violation or violations of the above-cited law and regulations, and all reasonable legal expenses incurred in defending claims made under the above-cited law and regulations, including reasonable attorneys' fees. Consistent with the foregoing, in addition, Tenant shall, at Tenant's sole expense but subject to Landlord's prior written approval, make each and every alteration or addition to the interior, non-structural portion of the Leased Premises required to bring the interior, non-structural portion of the Leased Premises into compliance with the requirements imposed by the Americans With Disabilities Act, (42 U.S.C. ss. 12101 et. seq.) and any regulations promulgated pursuant thereto (collectively such Act and regulations are referred to as "ADA Requirements") effective from time to time during the Term if (a) the requirement for such alteration or addition arises as a result of (i) any alteration or addition by Tenant; or (ii) any violation by Tenant of any ADA Requirements; or (iii) a special use of the Leased Premises or any part thereof by Tenant or any assignee or subtenant of Tenant (including, but not limited to, use for a facility which constitutes, or, if open to the public generally, would constitute, a "place of public accommodation" under the ADA Requirements); or (iv) the special needs of the employee(s) of Tenant or any assignee or subtenant of Tenant; or (b) the ADA Requirements would otherwise make Tenant, rather than Landlord, primarily responsible for making such alteration or addition. 12. Landlord represents that there is no asbestos or Hazardous Substances in, on or about the Building, including the Premises and the Land. Excepting for the willful act or negligence or violations of Environmental Laws by Tenant, or its agents, employees, contractors, customers, invitees, licensees, or visitors, Landlord indemnifies and shall hold Tenant harmless from and defend Tenant against any and all claims or liability solely resulting from a breach of the foregoing representation in the preceding sentence. 34 13. Landlord agrees to grant to Tenant, but not any sublessee, the right to renew this Lease on the same conditions and terms contained herein, except as hereafter provided, for three 5-year renewal terms, provided Tenant is not in default under this Lease at the time of Tenant's exercise of said right or at the commencement of each renewal term. Tenant shall give written notice to Landlord of Tenant's intent to negotiate of said right twelve (12) months prior to the Lease expiration or said right to renew shall expire. If Tenant exercises the right to renew, the annual base rent for each renewal term shall be equal to 95% of the then "current effective market rate" for comparable space in low rise Class "A" office buildings in the North Central/I 285 and North Fulton/Georgia 400 office submarkets of metropolitan Atlanta, Georgia, taking into account "free rent," tenant finish allowances, types and amount of parking, and other financial concessions as are typically given to tenants for such comparable space at the time of renewal. Within thirty (30) days of receipt of notice of Tenant's exercise of the right to renew, Landlord shall provide Tenant written notice of Landlord's proposal of the "current effective market rate." Should Tenant agree with Landlord's proposal, then Tenant shall within thirty (30) days execute an amendment renewing this Lease. In the event Tenant finds such proposal to be unsatisfactory, Tenant shall notify Landlord, in writing, within fifteen (15) days of receipt of Landlord's proposal and such notice shall contain Tenant's proposal for the "current effective market rate". Should Landlord agree with Tenant's proposal, then Tenant shall within thirty (30) days execute an amendment renewing this Lease. In the event Landlord finds Tenant's proposal unsatisfactory, Landlord shall so notify Tenant, in writing, within five (5) business days of the receipt of Tenant's proposal and in such event, Landlord and Tenant agree to negotiate in good faith in an attempt to agree upon the "current effective market rate." If Tenant and Landlord are unable to agree on the amount of the "current effective market rate" within an additional thirty (30) days after notification by Landlord that Tenant's proposal is unsatisfactory then at Tenant's option, such amount shall be determined by arbitration as described below, or the option to renew will expire. Landlord and Tenant shall agree to each choose an arbitrator to choose a third party arbitrator to determine the "current effective market rate". Upon such third party arbitrator determining the "current effective market rate", Landlord and Tenant shall renew the Lease by immediately executing an amendment renewing this Lease at such rate determined by the third party arbitrator. Such third party arbitrator shall determine the "current effective market rate" within thirty (30) days of being chosen. The third party arbitrator shall have at least ten (10) years' business experience in independent appraisal in commercial real estate transactions in the metropolitan Atlanta, Georgia area. Landlord and Tenant agree that each party shall pay for the costs incurred by the arbitrator it selects, and that the costs of the third party arbitrator will be divided equally between Landlord and Tenant. 35 14. During the Term and any renewals of this Lease, Landlord shall provide Tenant exclusive use a total of 785 parking spaces in the parking deck adjacent to the Building, at no charge for such primary term and any renewals. All such spaces, subject to the remaining terms and conditions of this Lease, will be available twenty-four (24) hours per day, seven (7) days per week, every day of the year. Additionally, by the Commencement Date, Landlord agrees to restripe and refurbish that certain additional parking lot (the "Additional Lot") consisting of surface parking available at the Sanbury Building located at 6405 Barfield Road, Fulton County, Georgia, and as of the Commencement Date, Tenant shall have the nonexclusive use of the parking from and out of such Additional Lot. It is also possible that Landlord may construct a third building upon the Land. Tenant acknowledges and agrees that in all events Landlord shall be fully entitled to construct such third building, and that if Landlord so elects to construct such third building, then any such construction by Landlord may be upon the Additional Lot, and accordingly, during the time of such construction and at all times thereafter, Tenant shall lose its right of parking use of the Additional Lot set forth in this Special Stipulation 14. Tenant agrees that Landlord shall not be deemed to be in breach or default of any provision of this Lease whatsoever if Landlord elects to construct the third building and Tenant accordingly loses its right to use such Additional Lot. Additionally, at any time during the first five (5) years of the Term of this Lease, Tenant shall have the right to notify Landlord in writing that Tenant requests forty-seven (47) additional parking spaces in addition to the seven hundred eighty-five (785) parking spaces described above, and if Tenant so notifies Landlord, Landlord shall provide such forty-seven (47) additional parking spaces to Tenant from and out of newly constructed parking by Landlord, which construction shall be at Landlord's cost but which construction shall not constitute an Operating Expense under Exhibit "E" and other applicable provisions of this Lease. 15. Landlord hereby acknowledges and agrees that Tenant shall have the right to install and operate satellite dishes (not to exceed one meter in diameter) for service to the Premises at a location on the roof and in a first-class manner acceptable to Landlord (hereinafter referred to as the "dish space") during the term of this Lease and any extension thereof. Tenant hereby agrees to install any such satellite dish on the dish space in a good and workmanlike manner, maintain and repair such satellite dish and dish space in proper condition and to secure all permits required for the installation and operation thereof, at no cost to Landlord, and hereby indemnifies Landlord from and against any claims against Landlord for personal injury, property damage or other damage, including reasonable attorney's fees, arising from the installation, use, operation, maintenance, repair and removal of the dish space, the satellite dish, or any cables or related equipment thereof. The provisions of this paragraph shall survive the expiration date or sooner termination of this Lease. The insurance required to be carried by Tenant under the Lease shall also apply to the satellite dish and dish space. Landlord understands and agrees that the satellite dish and related equipment is considered the personal property of Tenant, and that Tenant has the right to remove the same at any time during the Term, or during any renewals or extensions thereafter. 36 Accordingly, Tenant shall remove the satellite dish and restore the dish space to substantially the same condition as existed prior to the installation of the satellite dish, reasonable wear and tear excepted. All direct expenses incurred by Tenant in connection with the installation, operation or removal of the satellite dish shall be paid promptly by Tenant, and Tenant shall not permit any mechanic's or other lien to be filed against Landlord in connection with the installation, operation or removal of the satellite dish. Tenant shall provide Landlord with an executed contractor's lien waiver within thirty (30) days of completion of the work. Tenant shall be responsible for any and all utilities to be used in connection with the operation of the satellite dish should Landlord determine an additional charge is necessary for its operation. Tenant shall properly and promptly repair any damage or potentially damaging condition existing or caused by the existence or operation and use of the satellite dish or connecting cables or any part thereof within ten (10) days after receipt of Landlord's written notice; provided, however, if such repair cannot reasonably be cured within the said ten-day period, and Tenant shall, in good faith, commence to repair and diligently proceed to effect such repair, then the ten-day period shall be extended for such reasonable period as Tenant shall require to effect such repair. Should Tenant fail to satisfy the terms of this provision within said ten-day period, Landlord may repair the damaged condition at Tenant's cost. Tenant represents and warrants to Landlord that the specifications, location and contemplated use of the satellite dish comply with all laws, ordinances, codes and regulations promulgated by any governmental authority having jurisdiction over the Premises or the installation and operation of the satellite dish. The construction and installation shall be accomplished in a good and workmanlike manner and with no disruption to the other occupants of the Building. Tenant shall provide Landlord, prior to installation of the satellite dish, detailed drawings and specifications on the mounting method to be used in affixing the proposed dish to the roof. Tenant shall require all contractors and subcontractors to provide Landlord with certificates of insurance with Landlord being named as Additional Loss Payee prior to installation. 16. The scheduled rental payments from Tenant to Landlord with respect to the Base Monthly Rental due under Section 5 of the Lease taking into account the staged occupancy of the Premises as described in Special Stipulation 5 above are as set forth in the illustrative chart below: For purposes of calculating the Base Monthly Rental under Section 5 of the Lease, the monthly rental shall be calculated based upon an annual rental rate (the "Base Rental Rate") of $21.05 per rentable square foot of the Premises, as the rentable square footage of the Premises shall increase pursuant to Special Stipulation 5 above. Base Monthly Rental shall also increase as a result of increases in Net Rental as described under Section 6 of the Lease. Accordingly, the parties' agreement with respect to Tenant's rental 37 obligations to Landlord are set forth in Sections 5, 6 and 8 of the Lease and as set forth in Special Stipulations 4 and 5 above with respect to the staged occupancy of the Premises. The following illustrative chart of Tenant's rental obligations to Landlord for the first three (3) years of the Term of this Lease assumes that (i) Tenant's initial occupancy and staged occupancy of the respective portions of the Premises occurs on all of the target Commencement Dates of November 1, 2000, February 1, 2001, August 1, 2001, February 1, 2002, and August 1, 2002 as set forth in Special Stipulation 4, Special Stipulation 5 and other applicable provisions of this Lease and that (ii) the bridges are constructed by Landlord pursuant to Special Stipulation 2 and that (iii) Operating Expenses for the first twelve (12) months of the term of the Lease are $4.87 per square foot of the Premises and that the annual increase in Net Rental which results under Section 6 of this Lease is two and one-half percent (2 1/2%) per year for each and every year and that (iv) any payment obligations from Tenant to Landlord pursuant to Section 8 of the Lease and other applicable provisions resulting from increased Operating Expenses above those of the Operating Expense Base Year of calendar year 2001 are invoiced by Landlord to Tenant separately from and over and above the rental expenses set forth in the illustrative chart below and are therefore due in addition to those rental expenses set forth in the chart below, and accordingly, assuming that all of the foregoing assumptions in (i) through (iv) inclusive above apply, Tenant's Base Monthly Rental obligations for the period from November 1, 2000 through October 31, 2003 would be as follows:
- ------------------------------------------------------------------------------- MONTH RENTABLE SQUARE BASE RENTAL AMOUNT OF BASE FOOTAGE OF RATE MONTHLY RENTAL PREMISES SUBJECT TO ASSUMPTIONS SET FORTH ABOVE - ------------------------------------------------------------------------------- November, 2000 115,500 $ 21.05 $202,606.25 - ------------------------------------------------------------------------------- December, 2000 115,500 $ 21.05 $202,606.25 - ------------------------------------------------------------------------------- January, 2001 115,500 $ 21.05 $202,606.25 - ------------------------------------------------------------------------------- February, 2001 * 169,300 $ 21.05 $296,980.42 - ------------------------------------------------------------------------------- March, 2001 169,300 $ 21.05 $296,980.42 - ------------------------------------------------------------------------------- April, 2001 169,300 $ 21.05 $296,980.42 - ------------------------------------------------------------------------------- May, 2001 169,300 $ 21.05 $296,980.42 - ------------------------------------------------------------------------------- June, 2001 169,300 $ 21.05 $296,980.42 - ------------------------------------------------------------------------------- July, 2001 169,300 $ 21.05 $296,980.42 - ------------------------------------------------------------------------------- August, 2001* 192,400 $ 21.05 $337,501.67 - ------------------------------------------------------------------------------- September, 2001 192,400 $ 21.05 $337,501.67 - ------------------------------------------------------------------------------- October, 2001 192,400 $ 21.05 $337,501.67 - ------------------------------------------------------------------------------- November, 2001 192,400 $21.4545** $343,987.15 - ------------------------------------------------------------------------------- December, 2001 192,400 $21.4545 $343,987.15 - ------------------------------------------------------------------------------- January, 2002 192,400 $21.4545 $343,987.15 - ------------------------------------------------------------------------------- February, 2002* 215,500 $21.4545 $385,287.06 - ------------------------------------------------------------------------------- March, 2002 215,500 $21.4545 $385,287.06 - ------------------------------------------------------------------------------- April, 2002 215,500 $21.4545 $385,287.06 - ------------------------------------------------------------------------------- May, 2002 215,500 $21.4545 $385,287.06 - ------------------------------------------------------------------------------- June, 2002 215,500 $21.4545 $385,287.06 - -------------------------------------------------------------------------------
38 July, 2002 215,500 $21.4545 $385,287.06 - ------------------------------------------------------------------------------- August, 2002* 238,600 $21.4545 $426,586.98 - ------------------------------------------------------------------------------- September, 2002 238,600 $21.4545 $426,586.98 - ------------------------------------------------------------------------------- October, 2002 238,600 $21.4545 $426,586.98 - ------------------------------------------------------------------------------- November, 2002 238,600 $21.8691** $434,830.85 - ------------------------------------------------------------------------------- December, 2002 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- January, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- February, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- March, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- April, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- May, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- June, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- July, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- August, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- September, 2003 238,600 $21.8691 $434,830.85 - ------------------------------------------------------------------------------- October, 2003 238,600 $21.8691 $434,830.85 - -------------------------------------------------------------------------------
* Rentable square footage of Premises increases as per target Commencement Dates of staged occupancy ** Base Rental Rate increases as a result of annual 2 1/2% assumed increase in Net Rental For the remaining months of the Term of this Lease from November, 2003 through April, 2012, subject to the above assumptions, Net Rental shall continue to increase as set forth in Section 6 of this Lease (as of November of each applicable year if the initial target date of November 1, 2000 is met) resulting in increases in the Base Rental Rate and the Base Monthly Rental in connection therewith calculated in the manner set forth under Section 6 of the Lease. Additionally, at any time any rental rate changes as a result of any provision of this Lease, then Tenant agrees to execute an amendment to this Lease setting forth the revised rental rates as a result of such changes if requested to do so by Landlord provided, however, that any such amendment shall not change any other substantive provision of this Lease. 17. Notwithstanding the provisions of Special Stipulation 8, Special Stipulation 9, or any other provisions of this Lease, Tenant shall not be entitled to receive any payments from Landlord during any period that Tenant is in default under this Lease, and accordingly, any such payment due from Landlord to Tenant pursuant to Special Stipulation 8, Special Stipulation 9, or any other provisions of this Lease may be held by Landlord and at Landlord's election applied so as to cure any such default by Tenant. 18. Landlord shall not be relieved of liability pursuant to Section 26 of the Lease to the extent such liability results from Landlord's negligence or willful act. 39 19. If Landlord fails to maintain any portion of the Building which Landlord is expressly required to maintain in accordance with the terms of this Lease or if Landlord fails to provide any services to the Premises which Landlord is expressly required to provide in accordance with the terms of this Lease, and (i) as a result of such failure, Tenant's use and enjoyment of the Premises is interfered with in a material manner, and (ii) Landlord fails to commence to cure such failure within three (3) days after written notice from Tenant of such failure (specifying in such notice the nature of the failure), and thereafter fails to proceed with due diligence to cure such failure until completion, then Tenant shall have the right to perform such maintenance work on the Premises subject to the terms and limitations of this Special Stipulation 19. If Tenant is entitled and elects to perform any maintenance as aforesaid, Tenant shall (i) perform such maintenance work in a reasonable manner; (ii) utilize only contractors or other such vendors with a first class reputation; (iii) cause such work to be completed promptly and on a lien free basis; (iv) cause such work to be completed in compliance with all applicable laws, ordinances, regulations and rules; and (v) utilize the same or similar materials as replaced. Tenant shall not be entitled to alter the Building structure under any circumstance. Landlord shall reimburse Tenant, within thirty (30) days after receipt of copies of the invoices or other written evidence, reasonably satisfactory to Landlord in Landlord's reasonable judgment, of the costs incurred by Tenant for which Tenant claims reimbursement for the reasonable costs and expenses incurred by Tenant in curing Landlord's breach as aforesaid. In addition, in the event Landlord fails to commence to cure such failure within the three (3) day written notice period provided for above, then Landlord shall pay to Tenant $5,000.00 per day for each of the first five (5) days and $13,000.00 per day thereafter until Landlord commences to cure such failure (or if Tenant validly elects to cure such failure itself subject to the terms and conditions set forth above in this Special Stipulation 19, then the $5,000.00 per day payment for each of the first five (5) days and $13,000.00 per day thereafter shall continue until Tenant commences to effect such cure). Tenant agrees that the remedies in favor of Tenant under this Special Stipulation 19 and the payments from Landlord to Tenant as set forth in this Special Stipulation 19 shall constitute Tenant's sole remedies for any breach of the Lease by Landlord described or contemplated under this Special Stipulation 19. Landlord shall pay to Tenant the payments called for by Landlord under this Special Stipulation 19 within thirty (30) days from the time Landlord is obligated to pay such payments to Tenant. 20. As a part of the construction of the initial Tenant Improvements pursuant to the Work Letter, Tenant shall present a proposal to Landlord within thirty (30) days from the date of this Lease as to the location, size, specifications and other pertinent information regarding emergency generators that Tenant desires Landlord to install as a part of the initial Tenant Improvements and, subject to Landlord's written approval (not to be unreasonably withheld by Landlord) of the location, size, specifications and other pertinent information regarding such emergency generators, such emergency generators shall be installed by Landlord at Tenant's cost as a part of the initial Tenant Improvements to the Premises. 21. Notwithstanding the provisions of Rule and Regulation No. 1, Rule and Regulation No. 18, or any other provision of this Lease to the contrary, Tenant shall be responsible for all 40 security for the Premises and Building, and Landlord shall not be responsible for providing any such security services. 22. Landlord shall construct the Building such that seven and one-half (7 1/2) watts live load of power per square foot of Tenant office space will be available at the buss duct on each floor of the Building. 23. At all times during the Term of this Lease, Tenant shall be entitled to use any and all common areas of the Building for Tenant's purposes consistent with the requirements of this Lease. In addition, Tenant shall have exclusive use of the Building and those areas of the Land which are crosshatched on Exhibit "H" attached hereto and made a part hereof by reference. 24. Subject to the approval of applicable utilities providers, Landlord shall construct the Phase I Building and the Phase II Building such that power and fiber optic feeds are available at the north and south corners of the Phase I Building and the Phase II Building. 25. In the event any of the following occur: (i) Landlord has not begun construction of the footings for the Phase I Building by June 5, 2000; (ii) Landlord has not begun construction of the structure of the Phase I Building by July 17, 2000; (iii) Landlord has not begun construction of the precast for the Phase I Building by October 2, 2000; (iv) Landlord has not begun construction of the tenant finish for the Phase I Building by December 4, 2000; or (v) the initial Commencement Date for the Phase I Building has not occurred by March 1, 2001 (hereinafter any of such events are referred to as a "Material Delay") then as a result of such Material Delay, Tenant shall have a termination right subject to the terms and conditions of this Special Stipulation 26 provided, however, that Tenant shall have no such termination right if Material Delay has occurred if any of the following have caused such Material Delay: (i) Force Majuere, as this term is defined in Section 45 of this Lease; or (ii) Tenant Delay, as this term is defined in Section 2.01(b) of the Work Letter; or (iii) if Material Delay has occurred solely because Fulton County or any other applicable municipality, agency or jurisdiction has delayed in its issuance of the certificate of occupancy or any other required approvals for the Premises, and in the event Material Delay has occurred and such Material Delay is not due to either (i), (ii), or (iii) above, and Tenant desires to exercise such termination right, then prior to the exercise of such termination right, Tenant shall first provide Landlord thirty (30) days prior written notice and right to cure such breach by Landlord, and Landlord shall cure such breach within such thirty (30) day period, or longer if such breach by its nature requires longer to cure provided that Landlord promptly commences such cure within such thirty (30) day period and thereafter diligently pursues cure until completion, and in the event Landlord continues to breach and cause Material Delay beyond the applicable notice and cure period set forth in this Special Stipulation 25, then Tenant shall be entitled to terminate this Lease by written notice to Landlord in which event neither party shall have any further rights or obligations under this Lease, but Tenant shall have no claim for damages whatsoever against Landlord and Landlord shall not be liable to Tenant for any such damages in connection with such termination by Tenant. 41 Notwithstanding the preceding paragraph, in the event the initial Commencement Date for the Phase I Building has not occurred by July 1, 2001, then unless such initial Commencement Date has not occurred due to Tenant Delay, Tenant shall have the termination right set forth in this Special Stipulation 25 subject to the notice and cure provisions and the remaining provisions set forth in this Special Stipulation 25 (except that the termination right described in this second paragraph of this Special Stipulation 25 shall accrue in favor of Tenant even if the delay described in this second paragraph of this Special Stipulation 25 is attributable either to Force Majuere or to the failure of any governmental entity to issue any certificate of occupancy or other required approval). 26. [Reserved.] 27. Within thirty (30) days from the expiration of each calendar year during the term of this Lease, Tenant shall provide to Landlord audited annual financial statements of ISS Group, Inc., a Delaware corporation, prepared in accordance with generally accepted accounting principles and certified in writing to Landlord by the chief financial officer of Tenant. 28. In the event Landlord fails to deliver the Phase I Building on or before December 1, 2001, and such failure is not attributable to Force Majuere or Tenant Delay, then (i) notwithstanding the provisions of Section 3 of this Lease, the Commencement Date shall become the earlier of the following: (a) the date upon which Tenant commences conducting its business from all or any portion of the Premises; or (b) February 1, 2001. (Tenant shall not be obligated to occupy the Phase I Building prior to February 1, 2001 in the event Landlord fails to deliver the Phase I Building to Tenant on or before December 1, 2000 and such failure is not attributable to Force Majuere or Tenant Delay), and in the event this Special Stipulation 28 is invoked such that this (i) is applicable, then (a) the Term of the Lease shall remain eleven and one-half (11 1/2) years following the newly adjusted Commencement Date and (b) the respective terms of the required letter of credit and replacement letters of credit under Special Stipulation 10 above shall be in accordance with such newly adjusted Term and (c) the increases in Net Rental pursuant to Section 6 of this Lease shall also be in accordance with such newly adjusted Term, but (d) the staged occupancy schedule for the Premises set forth in Special Stipulation 5 shall remain as set forth in Special Stipulation 5 without change or adjustment; and (ii) again, in the event Landlord fails to deliver the Phase I Building to Tenant on or before December 1, 2000 and such failure is not attributable to Force Majuere or Tenant Delay, then additionally Tenant shall receive a two (2) month abatement in Base Monthly Rental for the months of February and March, 2001. 29. If Tenant occupies any other portion of the Premises other than the Phase I Building earlier than any of the subsequent target Commencement Dates set forth in Special Stipulation 5, then Tenant during the period of such early occupancy prior to any such subsequent target Commencement Date shall pay only one-half (1/2) of the rental with respect to the applicable portion of the Premises which Tenant occupies early and during the period of 42 such early occupancy only, and not thereafter, and only with respect to the applicable portion of such Premises which Tenant has occupied early. 30. The parties acknowledge that Tenant is applying for a property tax abatement with respect to the Premises. Any such savings which result from Tenant's successfully obtaining such property tax abatement shall inure to Tenant's benefit thereby resulting in a reduction of the additional rental otherwise due under Section 8 of this Lease with respect to ad valorem tax increases. For purposes of calculating Operating Expenses for either the first year of the Term or the base year of 2001, Operating Expenses shall be calculated based upon a fully assessed and occupied Building. 31. Notwithstanding the provisions of Section 8, Section 14, Section 17, or any other provision of this Lease to the contrary, the parties agree that Landlord may render to Tenant written estimates of amounts reasonably anticipated to be due from Tenant to Landlord as a result of Landlord's maintaining and replacing light bulbs and fixtures in the Premises as contemplated under Section 14 of the Lease or as a result of Landlord's paying utility bills on Tenant's behalf to be reimbursed by Tenant as contemplated under Section 17 of this Lease with respect to any and all months during the Term of this Lease (notwithstanding that Landlord shall not be entitled to render estimates to Tenant of additional Operating Expenses to be paid by Tenant until after the base year of 2001). It is acknowledged and agreed that such estimates may be rendered at all times from and after the Commencement Date, with fifteen (15) days prior notice, during the years 2000 and 2001 as well as the remainder of the Term of this Lease and any renewals thereof. To the extent as a result of such estimates rendered from Landlord to Tenant with respect to the applicable expenses under either Section 14 or Section 17 of this Lease, Tenant either overpays or underpays such expenses, then any such overpayment or underpayment shall be reconciled within one hundred twenty (120) days after the end of any calendar year and as otherwise provided in the manner set forth in the fourth (4th) paragraph of Section 8 of this Lease. As with all other written estimates from Landlord to Tenant described in either the third paragraph of Section 8 of this Lease or in this Special Stipulation 31, Tenant shall pay as additional rental to Landlord promptly on the first day of each month in advance without deduction or set off in legal tender the monthly amount called for under such estimate from Landlord to Tenant for those months for which additional rental is due pursuant to such estimates and as otherwise contemplated under this Lease. With respect to amounts due from Tenant to Landlord as a result of Landlord's maintaining and replacing light bulb and fixtures in the Premises as contemplated under Section 14 of the Lease, Landlord shall render such estimates to Tenant and Tenant shall pay such amounts in accordance with the terms and conditions of Section 8 and this Special Stipulation 31. With respect to amounts due from Tenant to Landlord as a result of Landlord's paying utility bills on Tenant's behalf to be reimbursed by Tenant as contemplated under Section 17 of this Lease, Landlord shall be entitled to either (i) render invoices to Tenant which shall be paid by Tenant within fifteen (15) days of Tenant's receipt of such invoice, as provided in Section 17 of this Lease; or (ii) render estimates and annual reconciliations to Tenant as provided in Section 8 and this Special Stipulation 31 of this 43 Lease. With respect to any particular utility bill due to be reimbursed by Tenant to Landlord, Landlord shall be entitled to chose from the foregoing (i) or (ii) as applicable. 32. The parties shall negotiate in good faith in an attempt to reach within ninety (90) days from the date of this Lease a conceptual plan for Landlord's development of and Tenant's leasing from Landlord of a Phase III building to be located upon the Land. Neither party shall be obligated to enter into any such lease. Rather, the parties' only obligations shall be to negotiate in good faith, and in no event shall this Lease be deemed dependant upon the parties' entering into any such subsequent lease. Further, in no event shall Tenant be required to occupy such Phase III building sooner than twelve (12) months following the last actual Commencement Date with respect to Tenant's staged occupancy of the Premises as described under Special Stipulation 5. 44 MOUNT VERNON PLACE INTERNET SECURITY SYSTEMS , INC., A GEORGIA CORPORATION EXHIBIT "A" The Premises shall consist of the entirety of the Phase I Building and the Phase II Building as these terms are defined in this Lease to be constructed pursuant to the project manuals and drawings more particularly described and enumerated in Exhibit "A-1" attached hereto and made a part hereof by reference. It is acknowledged that no floor plan of the Premises is attached to this Lease because Tenant is instead leasing the entirety of such Phase I and Phase II Building according to the terms and conditions of this Lease. EXHIBIT "A" 45 MOUNT VERNON PLACE INTERNET SECURITY SYSTEMS, INC., A GEORGIA CORPORATION EXHIBIT "B" - LEGAL DESCRIPTION [TO BE ATTACHED] EXHIBIT "B" 46 MOUNT VERNON PLACE INTERNET SECURITY SYSTEMS, INC., A GEORGIA CORPORATION EXHIBIT "C" - TENANT ACCEPTANCE AGREEMENT THIS AGREEMENT is an amendment to the Lease Agreement (the "Lease") for space in the office buildings known as MOUNT VERNON PLACE, located at 6303 Barfield Road, Atlanta, Fulton County, Georgia 30328, dated as of the ______ day of ____________, 1999, by and between MOUNT VERNON PLACE PARTNERS, LLC, as Landlord, and Internet Security Systems _____, a _____________________________, as Tenant. Pursuant to the provisions of Paragraph 3 of the Lease, Landlord and Tenant hereby mutually agree that: 1. Except for those items shown on the attached "Punch List," which Landlord will remedy within ____________ days hereof, Landlord has fully completed the construction work required under the terms of the Lease. 2. Tenant is in possession of, and has accepted the Premises. The Premises are tenantable, the Landlord has no further obligation for construction (except as specified above), and Tenant acknowledges that both the Building and the Premises are satisfactory in all respects except for any latent defects for which Landlord shall be and remain responsible. All conditions of the Lease required of Landlord as of this date have been fulfilled (except as specified above), and there are no defenses or setoffs against the enforcement of the Lease by Landlord. 3. The Commencement Date of the Lease is hereby agreed to be the ______ day of ___________________, 2000. 4. The Expiration Date of the Lease is hereby agreed to be the ______ day of ____________________, 2012. 5. The Premises are hereby agreed to contain _________________ rentable square feet. 6. The Building is hereby agreed to contain __________________ rentable square feet. 7. Tenant's Percentage Share is hereby agreed to be ____________ percent. All other terms and conditions of the Lease are hereby ratified and acknowledged to be unchanged. EXHIBIT "C" 47 Agreed and Executed this ___________ day of __________________, 1999. TENANT: Signed, sealed and delivered INTERNET SECURITY SYSTEMS, INC., this ________ day of a Georgia corporation ____________________, 1999 in the presence of: By: (Exhibit Purposes Only - Not for Signature) - ---------------------------- ---------------------------------------------- Notary Public/Witness Name: - ---------------------------- -------------------------------------------- Name (Please Print) (Please Print) Title: ------------------------------------------- Attest: ------------------------------------------ Name: -------------------------------------------- Title: ------------------------------------------- LANDLORD: ---------------------------------------- Signed, sealed and delivered MOUNT VERNON PLACE PARTNERS, LLC this ________ day of A GEORGIA LIMITED LIABILITY COMPANY ____________________, 1999 in the presence of: By: (Exhibit Purposes Only - Not for Signature) - ---------------------------- ---------------------------------------------- Witness Joel J. Griffin, Managing Member - ---------------------------- Name (Please Print) 48 MOUNT VERNON PLACE WORK LETTER WHEREAS, the undersigned Landlord and Tenant have executed, sealed and delivered the Lease, to which this Agreement is attached, and into which this Agreement is fully incorporated by this reference, as Exhibit "D"; WHEREAS, said Lease provides for the leasing of office space (the "Premises") within MOUNT VERNON PLACE located at 6303 Barfield Road, Atlanta, Fulton County, Georgia 30328 (the "Building"); WHEREAS, the terms "Landlord" and "Tenant," "Premises" and "Building," as used herein, shall have the same meanings ascribed thereto as set forth in the Lease; and WHEREAS, Landlord and Tenant desire to set forth herein their respective agreements regarding design and construction of the improvements to the Premises. NOW THEREFORE, in consideration of the Premises, the execution and delivery of the Lease by the parties hereto, the mutual covenants contained herein, and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Landlord and Tenant, intending to be legally bound, hereby agree as follows: SECTION 1. TENANT IMPROVEMENTS. Section 1.01. Definition. The term "Tenant Improvements" shall mean all improvements constructed or installed in or on the Premises in accordance with the Drawings and Specifications, as hereinafter defined. Section 1.02. Base Building Condition. Landlord agrees that the following shall be furnished, installed and, if appropriate, made operational as part of the Base Building at Landlord's sole expense: a) Finish interior of exterior walls, with drywall portions of such interior walls taped and floated and ready for surface treatment. All window glass and frames installed and ready for final finishing. All exterior windows equipped with Building-standard blinds; b) Building standard ceiling system and tile throughout elevator lobbies and other appropriate common Building facilities as shown on the Base Building plans; c) Broom-clean unfinished concrete floors; EXHIBIT "D" 49 d) Building standard light fixtures throughout elevator lobbies and other appropriate common Building facilities as shown on the Base Building plan; e) Landlord and Tenant agree that Base Building shall include the men's and women's restrooms on the Premises, as shown in Exhibit "A," including all bathroom and light fixtures, mirrors, doors, and partitions constructed to Building standard in compliance with applicable codes; f) Building standard drinking fountains; g) Main heating, ventilating and air conditioning (HVAC) plant and equipment as shown on the Base Building plans; h) Concrete columns unfinished; i) Building standard ceiling grid installed in the Premises; j) Sprinkler risers, main loop and sprinkler heads on the floor with capacity and number of heads as required by applicable laws, based on an open floor plan. Sprinkler heads in areas with unfinished ceilings will be turned up toward the structure; k) Building stairways and exits with surrounding walls taped, floated and finished and painted; l) Building core with surrounding walls taped, floated and ready for final finishing; m) Life safety systems as required by all applicable laws as shown on the Base Building Plans; n) Elevator, elevator shaft doors, frames and door facings prime painted and ready for final finishing; o) Building standard 2 x 4 parabolic light fixtures will be provided for installation by Landlord's Contractor at a ratio of one (1) fixture per eighty (80) square feet; and p) HVAC will be provided in all restrooms and elevator lobbies. Perimeter slot diffusers and P.I.U.'s will be installed on all tenant floors. Section 1.03. Architect. The term "Architect" herein referred to shall be Warner, Summers, Ditzel, Benefield, Ward & Associates, Inc., the architect for the Base Building and the architect selected by Tenant for the design, drawings, specifications and finish schedule for the Premises. 50 SECTION 2. DRAWINGS AND SPECIFICATIONS. Section 2.01. Definition. The term "Drawings and Specifications" shall mean the final drawings, specifications, and finish schedules for the Tenant Improvements which shall be prepared by Tenant and approved by Landlord in accordance with the following procedure: a) As provided in Section 3.02 (b) hereof, the cost of preparing the drawings, specifications, finish schedules and the like shall be paid by Tenant and be a part of Tenant Costs. b) As soon as reasonably possible but in all events not later than December 1, 1999, Tenant shall submit to Landlord for Landlord's review and comments Tenant's preliminary space plan for the Premises. Within thirty (30) days of Landlord's receipt of Tenant's preliminary space plan for the Premises, Landlord shall provide comments regarding such preliminary space plan, and promptly following Tenant's receipt of Landlord's comments, Tenant shall cause such preliminary space plan to be revised in accordance with Landlord's comments so as to cause such preliminary space plan to be acceptable to Landlord. In all events, Tenant shall provide a final space plan for the Premises acceptable to Landlord (which shall then become the "Drawings and Specifications" as defined above) not later than February 1, 2000. Landlord shall within one (1) month of Landlord's receipt of Tenant's final space plan for the Premises acceptable to Landlord, provide an initial construction estimate to Tenant. At its option, Tenant may review the initial construction estimate (which shall include a breakdown of the bids of the trades together with all other costs to be included within Tenant's Construction Costs with each such bid and cost to be set forth on a "line item basis") for all or any part of the work and if dissatisfied with the costs of all or any trade portion(s) or other cost items of such proposal, Tenant may require Landlord to solicit bids or obtain proposals from others or otherwise object to such costs items as hereinafter provided. If Tenant disapproves any portion of Landlord's initial construction estimate, Tenant may with regard to any trade bid (a) require Landlord to obtain no less than three (3) subcontractor bids and Tenant shall then have the right to select the chosen bid; (b) require the work to be performed on a time and materials basis by such trades. Tenant shall promptly provide any comments regarding Landlord's initial construction estimate. Further, Tenant shall promptly exercise all of its rights regarding Tenant's review and approval of Landlord's construction estimate, and Tenant shall in all events be responsible for causing such initial construction estimate to be finally approved by Tenant not later than May 1, 2000 ("Final Price Approval"). Within one (1) month of Landlord's receipt of Final Price Approval from Tenant, Landlord will apply for a building permit for construction for the Tenant Improvements for the Premises and Landlord will begin construction of 51 such Tenant Improvements no later than August 1, 2000. (THE PRECEDING SCHEDULE SET FORTH IN THIS SECTION 2.01(B) IS ONLY APPLICABLE TO THE PHASE I BUILDING AND LANDLORD'S CONSTRUCTION OF THE TENANT IMPROVEMENTS FOR THE PHASE I BUILDING. WITH RESPECT TO TENANT'S SUBSEQUENT STAGED OCCUPANCY OF THE PREMISES AS SET FORTH IN SPECIAL STIPULATION 5, THE PARTIES SHALL, BY A SERIES OF AMENDMENTS TO THIS LEASE, AGREE UPON AND EXECUTE SUBSEQUENT CONSTRUCTION SCHEDULES COMPARABLE IN FORMAT AND TIMING IN RELATION TO SUCH SUBSEQUENT STAGES OF OCCUPANCY AS SET FORTH ABOVE IN THIS SECTION 2.01(B). THE REMAINING PROVISIONS OF THIS WORK LETTER SHALL ALSO APPLY TO EACH OF SUCH OTHER CONSTRUCTION SCHEDULES ASSOCIATED WITH EACH SUBSEQUENT STAGED OCCUPANCY OF THE PREMISES.) As used herein throughout this Work Letter and throughout the body of the Lease, the term "Tenant Delay" shall mean any actual delay in causing the Premises to be ready for occupancy which is due to any act or omission of Tenant, its agents, contractors, or employees including, without limitation, Tenant's failure to adhere to the schedule and time frames and deadlines set forth above in this subparagraph (b). Tenant Delay shall include, without limitation: (i) delays due to changes by Tenant in or additions to the Drawings and Specifications or to the work and/or other plans and specifications in connection therewith, (ii) delays resulting from Tenant's failure to timely perform its obligations under the approved schedule set forth above, including any failure to submit or finalize any drawings, plans or specifications by the applicable dates and/or within the applicable time periods indicated in such approved schedule and including any failure to timely perform any of Tenant's work required in order for Landlord to obtain a certificate of occupancy for the Premises, and (iii) delays because of Tenant's specifications for materials or equipment (including, without limitation, computer room materials) not permitting timely completion under normal circumstances. For items identified by Landlord to cause a delay in construction, Tenant shall have the right to either (i) accept such items as Tenant Delay items or (ii) substitute materials that would eliminate such delay. Notwithstanding the foregoing, if any materials which Landlord did not designate as Tenant Delay items, because of Landlord's reasonable reliance on third party representations that such materials were available, should become unavailable during the course of construction for reasons beyond Landlord's reasonable control, such that completion of the Tenant Improvements for the Premises would be delayed, then Tenant shall cooperate in good faith with Landlord to use substitute materials which would avoid any such delay. c) Landlord shall be responsible for causing the Architect to certify to Landlord and Tenant that the proposed final working drawings, specifications and the like will comply with all state and local zoning laws, building laws, public safety, or any other ordinances applicable hereunder. Landlord's approval of the Drawings and Specifications shall not relieve Tenant from its obligation hereunder. d) For the purpose of this Agreement, Landlord shall retain and supervise, as its agent, the general contractor. Landlord agrees that the general contractor retained by 52 Landlord as Landlord's Contractor shall perform the Tenant Improvements. The aggregate cost for the Tenant Improvements, shall hereinafter be referred to as "Tenant Improvement Costs". Upon determination of the Tenant Improvement Costs, Tenant shall be deemed to have given final approval to the Drawings and Specifications and Landlord shall be deemed to have been authorized to proceed, through Landlord's Contractor, with the work of constructing and installing the Tenant Improvements in accordance with the Drawings and Specifications. SECTION 3. PAYMENT OF COSTS. Section 3.01. Landlord's Allowance for Tenant Costs. Landlord shall pay the Tenant Costs up to, but not in excess of, an amount equal to $24.00 per rentable square foot of the Premises (the "Landlord's Allowance for Tenant Costs" and also sometimes referred to as the "Tenant Improvement Allowance") as and when same are due. The Landlord's Allowance for Tenant Costs" may be used by Tenant to cover the costs of (i) its space planning, architectural and engineering firms, together with (ii) Tenant's signage costs, and together with (iii) the acquisition and installation of Tenant's furniture, fixtures and equipment, but not to exceed $2.50 per rentable square foot of the Premises for such acquisition and installation of Tenant's furniture, fixtures and equipment. Section 3.02. Tenant Costs. The aggregate of all costs described in the following subparagraphs (a) through (d) of this Section 3.02 are hereinafter referred to collectively as "Tenant Costs." a) The Tenant Improvement Costs; b) The cost of preparing and finalizing all drawings, specifications, finish schedules and the like as set forth in Sections 2.01(a) through (d) above; c) Fees for architects, engineers required for Tenant's space, interior designers, and other professionals and design specialists reasonably incurred by Landlord or Tenant in connection with the Tenant Improvements; and d) The cost of making any and all changes in and to the Drawings and Specifications and any increased or decreased costs in the Tenant Improvement Costs resulting therefrom; In the event the aggregate of Tenant Costs, as defined above, exceeds Landlord's Allowance for Tenant Costs, as specified in Section 3.01 above, then Tenant shall promptly pay the excess to Landlord upon demand; provided, however, that Tenant may amortize up to $2.50 per rentable square foot of the Premises of such excess amount as outlined in Special Stipulation 7 of this Lease. 53 Section 3.03. Changes in Drawings and Specifications. Landlord, at its option, may require Tenant to pay in lump sum to Landlord any and all increases in the Tenant Improvement Costs which result from approved changes to the Drawings and Specifications. Any delays in completing the Tenant Improvements which result from either changes in the Drawings and Specifications made by Tenant or from the unavailability of materials specified by Tenant, shall not operate to delay or extend the Commencement Date under the Lease nor the payment of the Base Monthly Rental or other charges due under this Lease. Section 3.04. Failure to Pay Tenant Costs. Failure by Tenant to pay Tenant Costs, in accordance with this Section 3, will constitute a failure by Tenant to pay rent when due under the Lease and for such failure to pay Tenant Costs, Landlord shall have all of the remedies available to it under this Lease and at law or in equity for nonpayment of rent. SECTION 4. INSPECTION. Landlord and Tenant each reserve the right to perform periodic inspections prior to the Commencement Date of the Tenant Improvements and Tenant shall notify Landlord at least twenty-four (24) hours in advance of such inspection procedures by Tenant. Tenant and the Architect shall be permitted to visit and walk through the Premises at any time during normal business hours. Any defective Tenant Improvement work discovered during either Landlord's or Tenant's inspection or work failing to conform to the Drawings and Specifications, together with any latent defects in the initial improvements shall be promptly corrected by Landlord's Contractor at Landlord's sole cost. SECTION 5. FINISH WORK IN ADDITION TO TENANT IMPROVEMENTS. All work in or about the Premises which is not within the scope of the work necessary to construct and install the Tenant Improvements, such as delivering and installing furniture, telephone equipment, and wiring, and office equipment, shall be furnished and installed by Tenant entirely at Tenant's expense. Tenant shall be entitled to begin installing its wiring sixty (60) days prior to completion of the Tenant Improvements. Tenant shall adopt a schedule for performing such additional work consistent with the schedule of Landlord's Contractor and shall see that such work is conducted in such a manner as to maintain harmonious labor relations and as not to interfere unreasonably with or to delay the work of constructing or installing the Tenant Improvements. Landlord shall give access and entry to the Premises to Tenant and its contract parties performing such additional work and reasonable opportunity and time to enable Tenant and such contract parties to perform and complete such work provided such additional work does not interfere with or otherwise encumber Landlord's work or construction progress. All of such additional work and Tenant's use (and the use by its contract parties) of the Premises for such purposes shall be entirely in accordance with the Lease, including without limitation this Work Letter. 54 SECTION 6. TIME IS OF THE ESSENCE. Time is of the essence of this Agreement. Unless specifically provided otherwise, all reference to days or months shall be construed as references to calendar days or months, respectively. In the event of Tenant Delay, then the date for completion by Landlord of Tenant Improvements shall be extended for the period of such delay, but the Commencement Date of Tenant's payment obligations hereunder, including, without limitation, Base Monthly Rental, shall not be extended and shall commence as scheduled under this Lease without regard to non-completion of Tenant Improvements. SECTION 7. APPROVAL OF PLANS. Any approval by Landlord of or consent by Landlord to any plans, specifications or other items to be submitted to and/or reviewed by Landlord pursuant to this Lease shall be deemed to be strictly limited to an acknowledgment of approval or consent by Landlord thereto and, whether or not the work is performed by Landlord or by Tenant's contractor, such approval or consent shall not constitute the assumption by Landlord of any responsibility for the accuracy, sufficiency or feasibility of any plans, specifications or other such items and shall not imply any acknowledgment, representation or warranty by Landlord that the design is safe, feasible, structurally sound or will comply with any legal or governmental requirements, and Tenant shall be responsible for all of the same. 55 MOUNT VERNON PLACE OPERATING EXPENSES - DEFINITIONS "Operating Expenses" for or attributable to the Premises shall mean the operating costs and expenses for the Property and the Building, including all expenses, costs and disbursements of every kind and nature, which Landlord shall (i) pay and/or; (ii) become obligated to pay, including, but not limited to, the following: - Wages and salaries of all employees engaged in the operation and maintenance of the Property and Building, including, but not limited to, taxes, insurance and benefits relating thereto; - All supplies and materials used in the operation and maintenance of the Property and Building; - Cost of all service agreements and maintenance for the Property and Building and the equipment therein, including, but not limited to, trash removal, alarm services, window cleaning, janitorial service, HVAC maintenance, elevator maintenance and grounds maintenance; - Cost of all insurance relating to the Property and Building, including, but not limited to, the cost of casualty and liability insurance applicable to the Property and Building and Landlord's personal property used in connection therewith; - All taxes (ad valorem and otherwise), assessments and governmental charges, whether federal, state, county or municipal, and whether by taxing districts or authorities presently taxing the Property and Building, or by others, subsequently created or otherwise, and any other taxes (other than federal and state income taxes) and assessments attributable to the Property and Building or its operation and any reasonable consultants' fees incurred with respect to issues or concerns involving the taxes of the Building, the Property, or both; - Cost of repairs and general maintenance of the interior and exterior of the Property and Building (including, but not limited to, glass breakage), parking areas and landscaping; - A management fee for general operation and management of the Property and Building, such management fee to be no greater than three percent (3%) of Base Monthly Rental net of electricity for the Term of this Lease; and - An amortization cost due to any capital expenditures incurred (i) which reduce or limit Operating Costs of the Property and Building, if such reduction or limitation EXHIBIT "E" 56 OPERATING EXPENSE EXCLUSIONS - CONTINUED inures to Tenant's benefit (but only to the extent and in the amount that such Operating Costs of the Property and Building are reduced); (ii) which may be required by governmental authority or by Landlord's insurance carrier; or (iii) which are designed to protect or enhance the health, safety or welfare of the tenants in the Building or their invitees. 57 OPERATING EXPENSE EXCLUSIONS - CONTINUED MOUNT VERNON PLACE OPERATING EXPENSE EXCLUSIONS 1. Franchise, income, transfer, inheritance, capital stock taxes or taxes imposed upon or measured by the income of the Landlord; 2. Depreciation of the Building, amortization and other non-cash charges; 3. The cost of any alteration, additions, changes or decorations which are made in order to prepare space (including Premises) for Tenant's occupancy; 4. The cost of performing work or furnishing services to or for any Tenant, other than Tenant, at Landlord's expense, to the extent that such work or service exceeds or is more favorable than comparable work or service provided to Tenant at Landlord's expense; 5. The cost (including, without limitation, attorney's fees and disbursements) of any judgement, settlement or arbitration award resulting from any tort liability; 6. The general overhead of Landlord and labor costs and all other compensation of all administrative personnel, officers, executives and staff members of Landlord or Landlord's agents above the grade of building manager or engineer. 7. The cost of installing, operating and maintaining any specialty service such as an observatory, broadcasting facility, luncheon club, athletic or recreational club; 8. The costs of defects in the construction, design or equipping of the Building with respect to the mechanical systems of the Building or with respect to any of the structural components of the Building; 9. Any cost or expense incurred in connection with correcting latent defects or inadequacies in the Building; 10. The cost of any special heating, ventilating, air-conditioning, janitorial or other special or extra services provided to tenants during other than regular business hours; 11. Legal or auditing fees, other than those reasonably incurred in connection with the maintenance and operation of the Land and Building or in connection with the preparation of statements required pursuant to Additional Rent or lease escalation provisions; 12. Any rent, additional rent or any other charge under any lease or sublease to or assumed directly or indirectly by Landlord; 58 OPERATING EXPENSE EXCLUSIONS - CONTINUED 13. Expenditure on account of Landlord acquisition of air rights; 14. Any Operating Expenses related exclusively to any retail or storage space in, on or about the Property or appurtenant or adjacent thereto; 15. Any accrued and unfunded pension or other benefits of any personnel; 16. Any amount paid to any affiliate of Landlord to the extent such amount is in excess of the amount which would be paid in the absence of such relationship; 17. Advertising, marketing or promotional expenditures; 18. Any costs incurred in the removal, containment, encapsulation, or disposal of or repair or cleaning or monitoring of areas affected by any hazardous material including without limitation, asbestos; 19. Costs incurred to correct any misrepresentation by Landlord expressly made herein; 20. The value or loss of income to Landlord of any space in the Building which is utilized for the management of the Building; 21. Any compensation paid to clerks, attendants or other persons in commercial concessions operated by Landlord or any affiliate of Landlord; 22. Late fees, penalties, interest charges or similar costs incurred by Landlord; 23. Costs associated with the operation of the business of the legal entity that constitute Landlord as the same is separate and apart from the costs of the operation of the Building, including the legal entity formation, internal accounting and legal matters; 24. Unrecovered expenses resulting directly from the negligence of the Landlord, its agents, servants or employees; 25. Costs incurred due to the violation by Landlord or any tenant of the Building of the terms of any lease or any laws, rules, regulations or ordinances applicable to the Building; and 26. Brokerage commissions paid by Landlord in its leasing of the Building. 59 MOUNT VERNON PLACE PROJECTED 2000 OPERATING EXPENSES (Per Square Foot) Building Maintenance .71 Janitorial Maintenance .85 Grounds Maintenance .33 Administrative .52 Property Tax 1.50 Insurance .13 Management Fee .63 Reserves .20 - ------------------------------------------------ TOTAL PROJECTED 2000 OPERATING EXPENSES $4.87 =====
EXHIBIT "E" 60 MOUNT VERNON PLACE RULES AND REGULATIONS Tenant shall observe the following Rules and Regulations (as amended, modified or supplemented from time to time by Landlord as provided in this Lease): 1. The following provisions of this Rule and Regulation No. 1 shall be applicable only in the event Landlord determines to invoke such rule and regulation in the event of multiple tenants of the Building which could result in the event Landlord approves partial assignments and/or subletting by Tenant. So long as Tenant is the single tenant of the Building, the parties acknowledge that Landlord will not provide security services and that Tenant will be responsible for the same, and that as such, the provisions of the following Rule and Regulation No. 1 shall be inapplicable: "Normal business hours" shall mean the days Monday through Friday, inclusive, except legal holidays, during the hours from 8:00 a.m. to 6:00 p.m., and Saturdays, except legal holidays, from 8:00 a.m. to 1:00 p.m. At all other times every person, including Tenant, Tenant's employees, agents clients, customers, invitees and guests entering and leaving the Building may be questioned by a security guard as to that person's business therein, and may be required to sign such person's name on a form for registering such person. Landlord reserves the right to exclude from the Building between the hours of 6:00 p.m. and 8:00 a.m. and at all hours on Saturdays, Sundays, and holidays all persons who are not occupants or their accompanied guests. Tenant shall be responsible for all persons for whom it allows to enter the Building and shall be liable to Landlord for all acts of such persons. Landlord reserves the right to exclude or expel from the Building any persons who, in the opinion of Landlord, are or appear to be intoxicated or under the influence of liquor or drugs or who is in violation of any of the rules and regulations of the Building. Landlord shall in no case be liable for damages for error with regard to the admission to or exclusion from the Building of any person. During the continuance of any invasion, mob, riot, public excitement or other circumstances rendering such action advisable in the opinion of Landlord, Landlord reserves the right to prevent access to the Building by closing the doors, or otherwise, for the safety of the occupants and protection of the Building and property in the Building. 2. Subject to Section 42 of the Lease which shall be controlling, no sign, advertisement, notice or other lettering shall be exhibited, inscribed, painted or affixed by Tenant on any part of the Building. 3. The sidewalks, entry passages, corridors, halls, elevators and stairways shall not be obstructed by Tenant, or used for any purpose other than for ingress and egress. Tenant will insure that movers take necessary measures required by Landlord to protect Building (e.g., windows, carpets, walls, doors and elevator cabs) from damage. The halls, passages, exits, entrances, elevators and stairways are for the use of Tenant and Tenant shall in all cases retain the right to control and prevent access thereto by all persons whose presence, in the judgment of Tenant, shall be prejudicial to the safety, character, reputation and interests of the Building and its occupants. The toilet rooms, toilets, urinals, wash bowls and other apparatus shall not be used EXHIBIT "F" 61 MOUNT VERNON PLACE - RULES AND REGULATIONS (CONTINUED) for any purpose other than that for which they were constructed and no foreign substance of any kind whatsoever, including, but not limited to, coffee grounds shall be thrown therein, and the expense of any breakage, stoppage or damage resulting from the violation of this rule shall be borne by the Tenant, if Tenant's employees, agents, clients, customers, invitees and guests, shall have caused it. 4. No curtains, draperies, blinds, shutters, shades, screens or other coverings, awnings, hangings or decorations shall be attached to, hung or placed in, or used in connection with, any window or door of the Premises without the prior written consent of Landlord. In any event with the prior written consent of Landlord, all such items shall be installed inboard of the Building standard window blinds and shall in no way be visible from the exterior of the Building. Tenant shall not remove the Building standard window blinds installed in the Premises. No articles shall be placed or kept on the window sills so as to be visible from the exterior of the Building. 5. Tenant, Tenant's employees, agents, clients, customers, invitees and guests shall maintain order in the Building, shall not make or permit any improper noise in the Building or interfere in any way with other occupants or those having business with them. Nothing shall be thrown by Tenant, Tenant's employees, agents, clients, customers, invitees and guests out of the windows or doors, or down the passages or atrium of the Building. No rooms shall be occupied or used as sleeping or lodging apartments at any time. No part of the Building shall be used or in any way appropriated for gambling, immoral or other unlawful practices, and no intoxicating liquor or liquors shall be sold in the Premises or Building without the written consent of Landlord. 6. Tenant shall not, without the written consent of Landlord, put up or operate any machinery or stove upon the Premises, or carry on any mechanical business thereon, or use or allow to be used upon the Premises, oil, burning fluids, camphene, gasoline or kerosene for heating, warming or lighting. No cooking shall be done or permitted by Tenant on the Premises except in conformity with law and then only in the utility kitchen, if any, as set forth in Tenant's layout, which is to be primarily used by Tenant's employees for heating beverages and light snacks. No article deemed extra hazardous on account of fire and no explosives shall be brought into the Premises. No offensive gases or liquids will be permitted. 7. No sunscreen or other films shall be applied to the interior or exterior surface of any window glass. All glass, locks and trimmings in or upon the doors and windows of the Building shall be kept whole and, when any part shall be broken, the same shall be immediately replaced or repaired and put in order under the direction and to the satisfaction of Landlord, and shall be left whole and in good repair. Tenant shall not injure, overload or deface the Building. 8. Upon commencement of this Lease, Landlord shall provide, at no expense to Tenant, two entrance door keys. The cost of providing additional keys to Tenant shall be borne by Tenant. At the termination of this Lease, Tenant shall return to Landlord all keys to doors in the 62 MOUNT VERNON PLACE - RULES AND REGULATIONS (CONTINUED) Building and all plastic cards for parking and entry to Building furnished to Tenant by Landlord and those keys otherwise procured by Tenant. 9. Tenant assumes any and all responsibility for protecting Premises from theft, robbery and pilferage, which includes keeping doors locked and other means of entry to the Premises closed. 10. Tenant shall not place a load upon any floor of the Premises which exceeds the load per square foot which such floor was designed to carry (i.e. fifty (50) pounds per square foot of live load) and which is allowed by law. Tenant, Tenant's employees, agents, clients, customers, invitees and guests, shall not bring in or take out, position, construct, install or move any safe, business machine or other heavy office equipment without first obtaining the consent of the Landlord. In giving such consent, Landlord shall have the right, in its sole discretion, to prescribe the weight permitted and the position thereof, and the use and design of planks, skids or platforms to distribute the weight thereof. All damage done to the Building by moving or using any such heavy equipment or other office equipment or furniture shall be repaired at the expense of Tenant. Safes and other heavy office equipment will be moved through the halls and corridors only upon steel bearing plates. 11. There shall not be used in any space, or in the public areas of the Building, either by 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. 12. Tenant shall not cause any unnecessary labor by reason of such Tenant's carelessness or indifference in the preservation of good order and cleanliness of the Premises. Landlord shall in no way be responsible to Tenant for any loss of property on the Premises however occurring, or for any damage done to the effects of Tenant by the janitor or any other employee or any other person. Tenant shall at the end of each business day leave the Premises in a reasonably tidy condition for the purpose of the performance of cleaning. 13. Landlord and its respective agents, employees and contractors shall have the right to enter the Premises upon one day (1) prior notice to Tenant (except in the event of emergency in which event no notice shall be required) at all reasonable hours for the purpose of making any repairs, alterations, or additions which it shall deem necessary for the safety, preservation, or improvement of the Building; and Landlord, its respective agents, employees and contractors shall be allowed to take all material into and upon said Premises that may be required to make such repairs, improvements, and additions, or any alterations for the benefit of the Tenant without in any way being deemed or held guilty of an eviction of the Tenant; and the rent reserved shall be in no way abate while said repairs, alterations, or additions are being made; and the Tenant shall not be entitled to maintain a setoff or counterclaim for damages against Landlord and its respective agents, employees and contractors by reason of loss or interruption to the business of the Tenant because of the prosecution of any such work. All such repairs, 63 MOUNT VERNON PLACE - RULES AND REGULATIONS (CONTINUED) decorations, additions, and improvements shall be done during normal business hours, or, if any such work is at the request of the Tenant to be done during any other hours, the Tenant shall pay for all overtime costs. 14. Tenant shall observe and obey all parking and traffic regulations as imposed by Landlord. The parking facilities shall be used by vehicles that may occupy a standard parking area only. 15. Canvassing, soliciting, distributing of handbills or any other written material, and peddling in the Building are prohibited and Tenant shall cooperate to prevent the same. Tenant shall not make room-to-room solicitation of business from other occupants in the Building. 16. Tenant will observe strict care and caution that all water faucets or water apparatus are entirely shut off before the Tenant, Tenant's employees, agents, clients, customers, invitees and guests leave the Premises, and that all utilities shall likewise be carefully shut off so as to prevent waste or damage, and for any default or carelessness, the Tenant shall make good all injuries sustained by other occupants of the Building. Tenant will comply with all energy conservation, safety, fire protection and evacuation procedures and regulations established by Landlord or any governmental agency. 17. Tenant shall store all trash and garbage within the interior of the Premises. No materials shall be placed in the trash boxes or receptacles if such materials 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 this area without violation of any law or ordinance governing such disposal. All trash, garbage and refuse disposal shall be made only through entryways and elevators provided for such purposes and at such times as Landlord may designate. 18. Tenant shall give prompt notice to Landlord of any accidents to or defects in plumbing, electrical fixtures, or heating apparatus so that such accidents or defects may be attended to properly. 19. Tenant shall be responsible for the observance of all of the foregoing Rules and Regulations by Tenant's employees, agents, clients, customers, invitees and guests. These Rules and Regulations are in addition to and as a supplement of, and shall not be construed to in any way otherwise modify, alter or amend, in whole or in part, the terms, covenants, agreements and conditions of the Lease Agreement. EX-10.11 3 RESTATED 1995 STOCK INCENTIVE PLAN 1 EXHIBIT 10.11 ISS GROUP, INC. RESTATED 1995 STOCK INCENTIVE PLAN (AMENDED AND RESTATED THROUGH JANUARY 18, 1999) ARTICLE ONE GENERAL PROVISIONS I. PURPOSE OF THE PLAN This Restated 1995 Stock Incentive Plan is intended to promote the interests of ISS Group, Inc., a Delaware corporation, by providing eligible persons with the opportunity to acquire a proprietary interest, or otherwise increase their proprietary interest, in the Corporation as an incentive for them to remain in the service of the Corporation. Capitalized terms herein shall have the meanings assigned to such terms in the attached Appendix. II. STRUCTURE OF THE PLAN A. The Plan shall be divided into three (3) separate equity programs: (i) the Discretionary Option Grant Program under which eligible persons may, at the discretion of the Plan Administrator, be granted options to purchase shares of Common Stock, (ii) the Stock Issuance Program under which eligible persons may, at the discretion of the Plan Administrator, be issued shares of Common Stock directly, either through the immediate purchase of such shares or as a bonus for services rendered the Corporation (or any Parent or Subsidiary), and (iii) the Automatic Option Grant Program under which eligible non-employee Board members shall automatically receive options at periodic intervals to purchase shares of Common Stock. B. The provisions of Articles One and Five shall apply to all equity programs under the Plan and shall accordingly govern the interests of all persons under the Plan. III. ADMINISTRATION OF THE PLAN A. Prior to the Section 12(g) Registration Date, the Plan shall be administered by the Board. 2 B. Beginning with the Section 12(g) Registration Date, the Board shall have the authority to administer the Discretionary Option Grant and Stock Issuance Programs with respect to Section 16 Insiders but may delegate such authority in whole or in part to the Primary Committee. Administration of the Plan with respect to all other persons eligible to participate may, at the Board's discretion, be vested in the Primary Committee or a Secondary Committee, or the Board may retain the power to administer the Plan with respect to all such persons. C. Members of the Primary Committee or any Secondary Committee shall serve for such period of time as the Board may determine and may be removed by the Board at any time. The Board may also at any time terminate the functions of any Secondary Committee and reassume all powers and authority previously delegated to such committee. D. Each Plan Administrator shall, within the scope of its administrative functions under the Plan, have full power and authority to establish such rules and regulations as it may deem appropriate for proper administration of the Plan and to make such determinations under, and issue such interpretations of, the provisions of such Plan and any outstanding options or stock issuances thereunder as it may deem necessary or advisable. Decisions of the Plan Administrator within the scope of its administrative functions under the Plan shall be final and binding on all parties who have an interest in the Plan or any option or stock issuance thereunder. E. Service on the Primary Committee or the Secondary Committee shall constitute service as a Board member, and members of each such committee shall accordingly be entitled to full indemnification and reimbursement as Board members for their service on such committee. No member of the Primary Committee or the Secondary Committee shall be liable for any act or omission made in good faith with respect to the Plan or any option grants or stock issuances under the Plan. F. Administration of the Automatic Option Grant Program shall be self-executing in accordance with the terms of such program. IV. ELIGIBILITY A. Prior to the Section 12(g) Registration Date, only Employees shall be eligible to participate in the Plan. B. Beginning with the Section 12(g) Registration Date, the persons eligible to participate in the Discretionary Option Grant and Stock issuance Programs shall be as follows: (i) Employees, (ii) non-employee members of the Board or the board of directors of any Parent or Subsidiary, and (iii) consultants and other independent advisors who provide services to the Corporation (or any Parent or Subsidiary). C. Only non-employee Board members shall be eligible to participate in the Automatic Option Grant Program. 2 3 D. Each Plan Administrator shall, within the scope of its administrative jurisdiction under the Plan, have full authority (subject to the provisions of the Plan) to determine, (i) with respect to the option grants under the Discretionary Option Grant Program, which eligible persons are to receive option grants, the time or times when such option grants are to be made, the number of shares to be covered by each such grant, the status of the granted option as either an Incentive Option or a Non-Statutory Option, the time or times at which each option is to become exercisable, the vesting schedule (if any) applicable to the option shares and the maximum term for which the option is to remain outstanding and (ii) with respect to stock issuances under the Stock Issuance Program, which eligible persons are to receive stock issuances, the time or times when such issuances are to be made, the number of shares to be issued to each Participant, the vesting schedule (if any) applicable to the issued shares and the consideration to be paid for such shares. E. The Plan Administrator shall have the absolute discretion either to grant options in accordance with the Discretionary Option Grant Program or to effect stock issuances in accordance with the Stock Issuance Program. V. STOCK SUBJECT TO THE PLAN A. The stock issuable under the Plan shall be shares of authorized but unissued or reacquired Common Stock. The maximum number of shares of Common Stock which may be issued over the term of the Plan shall not exceed 3,000,000 shares. B. The number of shares of Common Stock available for issuance under the Plan shall automatically increase on the first trading day of each calendar year, beginning with the 1999 calendar year, by an amount equal to three percent (3.0%) of the total number of shares of Common Stock outstanding on the last trading day of the immediately preceding calendar year. No Incentive Options may be granted on the basis of the additional shares of Common Stock resulting from such annual increases. C. No one person participating in the Plan may receive options, separately exercisable stock appreciation rights and direct stock issuances for more than 300,000 shares of Common Stock per calendar year beginning with the calendar year in which the Section 12(g) Registration Date occurs. D. Shares of Common Stock subject to outstanding options shall be available for subsequent issuance under the Plan to the extent (i) the options expire or terminate for any reason prior to exercise in full or (ii) the options are cancelled in accordance with the cancellation-regrant provisions of Article Two. Unvested shares issued under the Plan and subsequently repurchased by the Corporation at the original issue price paid per share pursuant to the Corporation's repurchase rights under the Plan shall be added back to the number of shares of Common Stock reserved for issuance under the Plan and shall accordingly be available for reissuance through one or more subsequent option grants or direct stock issuances under the Plan. However, should the exercise price of an option under the Plan be paid with shares of Common Stock or should shares of Common Stock otherwise issuable under the Plan be withheld by the corporation in satisfaction of the withholding taxes incurred in connection with the exercise of an option or the vesting of a stock issuance under the Plan, then the number of 3 4 shares of Common Stock available for issuance under the Plan shall be reduced by the gross number of shares for which the option is exercised or which vest under the stock issuance, and not by the net number of shares of Common Stock issued to the holder of such option or stock issuance. E. Should any change be made to the Common Stock by reason of any stock split, stock dividend, recapitalization, combination of shares, exchange of shares or other change affecting the outstanding Common Stock as a class without the Corporation's receipt of consideration, appropriate adjustments shall be made to (i) the maximum number and/or class of securities issuable under the Plan, (ii) the number and/or class of securities for which any one person may be granted options, separately exercisable stock appreciation rights and direct stock issuances per calendar year, (iii) the number and/or class of securities for which grants are subsequently to be made under the Automatic Option Grant Program to new and continuing non-employee Board members, and (iv) the number and/or class of securities and the exercise price per share in effect under each outstanding option in order to prevent the dilution or enlargement of benefits thereunder. The adjustments determined by the Plan Administrator shall be final, binding and conclusive. 4 5 ARTICLE TWO DISCRETIONARY OPTION GRANT PROGRAM I. OPTION TERMS Each option shall be evidenced by one or more documents in the form approved by the Plan Administrator; provided, however, that each such document shall comply with the terms specified below. Each document evidencing an Incentive Option shall, in addition, be subject to the provisions of the Plan applicable to such options. A. EXERCISE PRICE. 1. The exercise price per share shall be fixed by the Plan Administrator and may be equal to, greater than or less than the Fair Market Value per share of Common Stock on the option grant date. 2. The exercise price shall become immediately due upon exercise of the option and shall, subject to the provisions of Section I of Article Five and the documents evidencing the option, be payable in cash or check made payable to the Corporation. Should the Common Stock be registered under Section 12(g) of the 1934 Act at the time the option is exercised, then the exercise price may also be paid as follows: (i) in shares of Common Stock held for the requisite period necessary to avoid a charge to the Corporation's earnings for financial reporting purposes and valued at Fair Market Value on the Exercise Date, or (ii) to the extent the option is exercised for vested shares, through a special sale and remittance procedure pursuant to which the Optionee shall concurrently provide irrevocable instructions (A) to a Corporation-designated brokerage firm to effect the immediate sale of the purchased shares and remit to the Corporation, out of the sale proceeds available on the settlement date, sufficient funds to cover the aggregate exercise price payable for the purchased shares plus all applicable Federal, state and local income and employment taxes required to be withheld by the Corporation by reason of such exercise and (B) to the Corporation to deliver the certificates for the purchased shares directly to such brokerage firm in order to complete the sale. Except to the extent such sale and remittance procedure is utilized, payment of the exercise price for the purchased shares must be made on the Exercise Date. B. EXERCISE AND TERM OF OPTIONS. Each option shall be exercisable at such time or times, during such period and for such number of shares as shall be determined by the Plan Administrator and set forth in the documents evidencing the option grant. However, no option shall have a term in excess of ten (10) years measured from the option grant date. 5 6 C. EFFECT OF TERMINATION OF SERVICE. 1. The following provisions shall govern the exercise of any options held by the Optionee at the time of cessation of Service or death: (i) Should the Optionee cease to remain in Service for any reason other than Permanent Disability or Misconduct, then the Optionee shall have a period of three (3) months following the date of such cessation of Service during which to exercise each outstanding option held by such Optionee. (ii) Should the Optionee's Service terminate by reason of Permanent Disability, then the Optionee shall have a period of twelve (12) months following the date of such cessation of Service during which to exercise each outstanding option held by such Optionee. (iii) If the Optionee dies while holding an outstanding option, then the personal representative of his or her estate or the person or persons to whom the option is transferred pursuant to the Optionee's will or the laws of inheritance shall have a twelve (12)-month period following the date of the Optionee's death to exercise such option. (iv) Under no circumstances, however, shall any such option be exercisable after the specified expiration of the option term. (v) During the applicable post-Service exercise period, the option may not be exercised in the aggregate for more than the number of vested shares for which the option is exercisable on the date of the Optionee's cessation of Service. Upon the expiration of the applicable exercise period or (if earlier) upon the expiration of the option term, the option shall terminate and cease to be outstanding for any vested shares for which the option has not been exercised. However, the option shall, immediately upon the Optionee's cessation of Service, terminate and cease to be outstanding with respect to any and all option shares for which the option is not otherwise at the time exercisable or in which the Optionee is not otherwise at that time vested. (vi) Should the Optionee's Service be terminated for Misconduct, then all outstanding options held by the Optionee shall terminate immediately and cease to remain outstanding. (vii) In the event of a Corporate Transaction or Change in Control, the provisions of Section III of this Article Two shall govern the period for which outstanding options are to remain exercisable following the Optionee's cessation of Service and shall supersede any provisions to the contrary in this paragraph. 6 7 2. The Plan Administrator shall have the discretion, exercisable either at the time an option is granted or at any time while the option remains outstanding, to: (i) extend the period of time for which the option is to remain exercisable following the Optionee's cessation of Service or death from the limited period otherwise in effect for that option to such greater period of time as the Plan Administrator shall deem appropriate, but in no event beyond the expiration of the option term, and/or (ii) permit the option to be exercised, during the applicable post-Service exercise period, not only with respect to the number of vested shares of Common Stock for which such option is exercisable at the time of the Optionee's cessation of Service but also with respect to one or more additional installments in which the Optionee would have vested under the option had the Optionee continued in Service. D. LIMITED TRANSFERABILITY OF OPTIONS. During the lifetime of the Optionee, Incentive Options shall be exercisable only by the Optionee and shall not be assignable or transferable other than by will or by the laws of descent and distribution following the Optionee's death. However, a Non-Statutory Option may, in connection with the Optionee's estate plan, be assigned in whole or in part during the Optionee's lifetime to one or more members of the Optionee's immediate family or to a trust established exclusively for one or more such family members. The assigned portion may only be exercised by the person or persons who acquire a proprietary interest in the option pursuant to the assignment. The terms applicable to the assigned portion shall be the same as those in effect for the option immediately prior to such assignment and shall be set forth in such documents issued to the assignee as the Plan Administrator may deem appropriate. E. STOCKHOLDER RIGHTS. The holder of an option shall have no stockholder rights with respect to the shares subject to the option until such person shall have exercised the option, paid the exercise price and become a holder of record of the purchased shares. F. UNVESTED SHARES. The Plan Administrator shall have the discretion to grant options which are exercisable for unvested shares of Common Stock. Should the Optionee cease Service while holding such unvested shares, the Corporation shall have the right to repurchase, at the exercise price paid per share, any or all of those unvested shares. The terms upon which such repurchase right shall be exercisable (including the period and procedure for exercise and the appropriate vesting schedule for the purchased shares) shall be established by the Plan Administrator and set forth in the document evidencing such repurchase right. G. FIRST REFUSAL RIGHTS. Until the Section 12(g) Registration Date, the Corporation shall have the right of first refusal with respect to any proposed disposition by the Optionee (or any successor in interest) of any shares of Common Stock issued under the Plan. Such right of first refusal shall be exercisable in accordance with the terms established by the Plan Administrator and set forth in the document evidencing such right. 7 8 H. MARKET STAND-OFF. In connection with any underwritten public offering by the Corporation of its equity securities pursuant to an effective registration statement filed under the Securities Act of 1933, including the Corporation's initial public offering, the Optionee may not sell, make any short sale of, loan, hypothecate, pledge, grant any option for the purchase of, or otherwise dispose or transfer for value or otherwise agree to engage in any of the foregoing transactions with respect to, any shares of Common Stock acquired upon exercise of an option granted under the Plan without the prior written consent of the Corporation or its underwriters. Such restriction (the "Market Stand-Off") shall be in effect for such period of time from and after the effective date of the final prospectus for the offering as may be requested by the Corporation or such underwriters. The Optionee shall be required to execute such agreements as the Corporation or the underwriters request in connection with the Market Stand-Off. I. FORFEITURE FOR COMPETITION. If, at any time while the Optionee remains in Service or after the Optionee's termination of Service while the option remains outstanding, the Optionee provides services to a competitor of the Corporation (or any Parent or Subsidiary), whether as an employee, officer, director, independent contractor, consultant, agent or otherwise, such services being of a nature that can reasonably be expected to involve the skills and experience used or developed by the Optionee while in the Corporation's Service, then the Optionee's rights under any options outstanding under the Plan shall be forfeited and terminated, subject to a determination to the contrary by the Plan Administrator. II. INCENTIVE OPTIONS The terms specified below shall be applicable to all Incentive Options. Except as modified by the provisions of this Section II, all the provisions of the Plan shall be applicable to Incentive Options. Options which are specifically designated as Non-Statutory Options shall not be subject to the terms of this Section II. A. ELIGIBILITY. Incentive Options may only be granted to Employees. B. EXERCISE PRICE. The exercise price per share shall not be less than one hundred percent (100%) of the Fair Market Value per share of Common Stock on the option grant date. C. DOLLAR LIMITATION. The aggregate Fair Market Value of the shares of Common Stock (determined as of the respective date or dates of grant) for which one or more options granted to any Employee under the Plan (or any other option plan of the Corporation or any Parent or Subsidiary) may for the first time become exercisable as Incentive Options during any one (1) calendar year shall not exceed the sum of One Hundred Thousand Dollars ($100,000). To the extent the Employee holds two (2) or more such options which become exercisable for the first time in the same calendar year, the foregoing limitation on the exercisability of such options as Incentive Options shall be applied on the basis of the order in which such options are granted. D. 10% STOCKHOLDER. If any Employee to whom an Incentive Option is granted is a 10% Stockholder, then the option term shall not exceed five (5) years measured from the option grant date and the exercise price per share of the option shall be equal to at least one 8 9 hundred ten percent (110%) of the Fair Market Value per share of Common Stock on the option grant date. III. CORPORATE TRANSACTION/CHANGE IN CONTROL A. In the event of any Corporate Transaction, each outstanding option shall automatically accelerate so that each such option shall, immediately prior to the effective date of the Corporate Transaction, become fully exercisable for all of the shares of Common Stock at the time subject to such option and may be exercised for any or all of those shares as fully-vested shares of Common Stock. However, an outstanding option shall not so accelerate if and to the extent: (i) such option is, in connection with the Corporate Transaction, either to be assumed by the successor corporation (or parent thereof) or to be replaced with a comparable option to purchase shares of the capital stock of the successor corporation (or parent thereof), (ii) such option is to be replaced with a cash incentive program of the successor corporation which preserves the spread existing on the unvested option shares at the time of the Corporate Transaction and provides for subsequent payout in accordance with the same vesting schedule applicable to such option or (iii) the acceleration of such option is subject to other limitations imposed by the Plan Administrator at the time of the option grant. The determination of option comparability under clause (i) above shall be made by the Plan Administrator, and its determination shall be final, binding and conclusive. B. All outstanding repurchase rights shall also terminate automatically, and the shares of Common Stock subject to those terminated rights shall immediately vest in full, in the event of any Corporate Transaction, except to the extent: (i) those repurchase rights are to be assigned to the successor corporation (or parent thereof) in connection with such Corporate Transaction or (ii) such accelerated vesting is precluded by other limitations imposed by the Plan Administrator at the time the repurchase right is issued. C. Immediately following the consummation of the Corporate Transaction, all outstanding options shall terminate and cease to be outstanding, except to the extent assumed by the successor corporation (or parent thereof). D. If an outstanding option is assumed by the successor corporation (or parent thereof) in connection with a Corporate Transaction, and the Corporation's repurchase rights with respect to the unvested option shares are assigned to such successor corporation (or parent thereof), and at the time of or within twelve (12) months following such Corporate Transaction either (i) the Optionee is offered a Lesser Position in replacement of the position held by him or her immediately prior to the Corporate Transaction or (ii) the Optionee's Service terminates by reason of an Involuntary Termination, then, effective as of the date on which such Lesser Position is offered to the Optionee or the effective date of such Involuntary Termination, respectively, the option shall automatically accelerate in part so that, in addition to the number of vested shares of Common Stock for which the option is exercisable at such time, the option shall become exercisable with respect to the next annual installment of option shares for which the option is scheduled to become exercisable in accordance with the exercise schedule established for the option (and the Corporation's repurchase rights shall automatically lapse with respect to such option shares). Following such acceleration, to the extent the Optionee continues in Service, the exercise schedule for the option shall be adjusted so that the option shall become 9 10 exercisable, with respect to each subsequent annual installment of option shares under the original exercise schedule, on each subsequent anniversary of the effective date of such option acceleration. In the event that both the offer of a Lesser Position and a subsequent Involuntary Termination of an Optionee's Service occur within twelve (12) months following a Corporate Transaction, then acceleration of the option shares shall occur only in connection with the offer of such Lesser Position and no additional acceleration shall occur in connection with such subsequent Involuntary Termination. Following an Involuntary Termination that occurs within twelve (12) months following a Corporate Transaction, the option shall remain exercisable for any or all of the vested option shares until the earlier of (i) the expiration of the option term or (ii) the expiration of the one (1)-year period measured from the effective date of the Involuntary Termination. E. Each option which is assumed in connection with a Corporate Transaction shall be appropriately adjusted, immediately after such Corporate Transaction, to apply to the number and class of securities which would have been issuable to the Optionee in consummation of such Corporate Transaction had the option been exercised immediately prior to such Corporate Transaction. Appropriate adjustments shall also be made to (i) the number and class of securities available for issuance under the Plan following the consummation of such Corporate Transaction, (ii) the exercise price payable per share under each outstanding option, provided the aggregate exercise price payable for such securities shall remain the same and (iii) the maximum number of securities and/or class of securities for which any one person may be granted stock options, separately exercisable stock appreciation rights and direct stock issuances under the Plan. F. Notwithstanding Sections III.A., III.B. and III.D of this Article Two, the Plan Administrator shall have the discretion, exercisable either at the time the option is granted or at any time while the option remains outstanding, to provide for the automatic acceleration of one or more outstanding options (and the automatic termination of one or more outstanding repurchase rights with the immediate vesting of the shares of Common Stock subject to those rights) upon the occurrence of a Corporate Transaction, whether or not those options are to be assumed or replaced (or those repurchase rights are to be assigned) in the Corporate Transaction. The Plan Administrator shall also have the discretion to grant options which do not accelerate whether or not such options are assumed (and to provide for repurchase rights that do not terminate whether or not such rights are assigned) in connection with a Corporate Transaction. G. The Plan Administrator shall also have the discretion, exercisable at the time the option is granted or at any time while the option remains outstanding, to provide for the automatic acceleration, of any options which are assumed or replaced in a Corporate Transaction and do not otherwise accelerate at that time (and the termination of any of the Corporation's outstanding repurchase rights which do not otherwise terminate at the time of the Corporate Transaction) in the event that within twelve (12) months following the effective date of such Corporate Transaction either (i) the Optionee should be offered a Lesser Position in replacement of the position held by him or her immediately prior to the Corporate Transaction or (ii) the Optionee's Service should subsequently terminate by reason of an Involuntary Termination. Following an Involuntary Termination that occurs within twelve (12) months following a Corporate Transaction, any options accelerated under this Section III. G shall remain exercisable for the vested option shares until the earlier of (i) the expiration of the option term or (ii) the 10 11 expiration of the one (1)-year period measured from the effective date of the Involuntary Termination. H. The Plan Administrator shall have the discretion, exercisable either at the time the option is granted or at any time while the option remains outstanding, to (i) provide for the automatic acceleration of one or more outstanding options (and the automatic termination of one or more outstanding repurchase rights with the immediate vesting of the shares of Common Stock subject to those rights) upon the occurrence of a Change in Control or (ii) condition any such option acceleration (and the termination of any outstanding repurchase rights) upon the occurrence of either of the following events within a specified period (not to exceed twelve (12) months) following the effective date of such Change in Control: (a) the offer to the Optionee of a Lesser Position in replacement of the position held by him or her immediately prior to the Change in Control or (b) the Involuntary Termination of the Optionee's Service. Any options accelerated in connection with a Change in Control shall remain fully exercisable until the expiration or sooner termination of the option term; provided, however, that following an Involuntary Termination that occurs within twelve (12) months following a Change in Control, any options accelerated under this Section III.H shall remain exercisable for the vested option shares until the earlier of (i) the expiration of the option term or (ii) the expiration of the one (1)-year period measured from the effective date of the Involuntary Termination. I. The portion of any Incentive Option accelerated in connection with a Corporate Transaction or Change in Control shall remain exercisable as an Incentive Option only to the extent the applicable One Hundred Thousand Dollar ($100,000) limitation is not exceeded. To the extent such dollar limitation is exceeded, the accelerated portion of such option shall be exercisable as a Non-Statutory Option under the Federal tax laws. J. The grant of options under the Option Grant Program shall in no way affect the right of the Corporation to adjust, reclassify, reorganize or otherwise change its capital or business structure or to merge, consolidate, dissolve, liquidate or sell or transfer all or any part of its business or assets. IV. CANCELLATION AND REGRANT OF OPTIONS The Plan Administrator shall have the authority to effect, at any time and from time to time, with the consent of the affected option holders, the cancellation of any or all outstanding options under the Plan and to grant in substitution therefor new options covering the same or different number of shares of Common Stock but with an exercise price per share based on the Fair Market Value per share of Common Stock on the new option grant date. V. STOCK APPRECIATION RIGHTS A. The Plan Administrator shall have full power and authority to grant to selected Optionee's tandem stock appreciation rights and/or limited stock appreciation rights. B. The following terms shall govern the grant and exercise of tandem stock appreciation rights: 11 12 (i) One or more Optionees may be granted the right, exercisable upon such terms as the Plan Administrator may establish, to elect between the exercise of the underlying option for shares of Common Stock and the surrender of that option in exchange for a distribution from the Corporation in an amount equal to the excess of (a) the Fair Market Value (on the option surrender date) of the number of shares in which the Optionee is at the time vested under the surrendered option (or surrendered portion thereof) over (b) the aggregate exercise price payable for such shares. (ii) No such option surrender shall be effective unless it is approved by the Plan Administrator. If the surrender is so approved, then the distribution to which the Optionee shall be entitled may be made in shares of Common Stock valued at Fair Market Value on the option surrender date, in cash, or partly in shares and partly in cash, as the Plan Administrator shall in its sole discretion deem appropriate. (iii) If the surrender of an option is rejected by the Plan Administrator, then the Optionee shall retain whatever rights the Optionee had under the surrendered option (or surrendered portion thereof) on the option surrender date and may exercise such rights at any time prior to the later of (a) five (5) business days after the receipt of the rejection notice or (b) the last day on which the option is otherwise exercisable in accordance with the terms of the documents evidencing such option, but in no event may such rights be exercised more than ten (10) years after the option grant date. C. The following terms shall govern the grant and exercise of limited stock appreciation rights: (i) One or more Section 16 Insiders may be granted limited stock appreciation rights with respect to their outstanding options. (ii) Upon the occurrence of a Hostile Take-Over, each such individual holding one or more options with such a limited stock appreciation right shall have the unconditional right (exercisable for a thirty (30)-day period following such Hostile Take-Over) to surrender each such option to the Corporation, to the extent the option is at the time exercisable for vested shares of Common Stock. In return for the surrendered option, the Optionee shall receive a cash distribution from the Corporation in an amount equal to the excess of (a) the Take-Over Price of the shares of Common Stock which are at the time vested under each surrendered option (or surrendered portion thereof) over (b) the aggregate exercise price payable for such shares. Such cash distribution shall be paid within five (5) days following the option surrender date. (iii) The Plan Administrator shall pre-approve, at the time the limited right is granted, the subsequent exercise of that right in accordance with the terms of the grant and the provisions of this Section V.C. No 12 13 additional approval of the Plan Administrator or the Board shall be required at the time of the actual option surrender and cash distribution. (iv) The balance of the option (if any) shall continue in full force and effect in accordance with the documents evidencing such option. 13 14 ARTICLE THREE STOCK ISSUANCE PROGRAM I. STOCK ISSUANCE TERMS Shares of Common Stock may be issued under the Stock Issuance Program through direct and immediate issuances without any intervening option grants. Each such stock issuance shall be evidenced by a Stock Issuance Agreement which complies with the terms specified below. A. PURCHASE PRICE. 1. The purchase price per share shall be fixed by the Plan Administrator and may be less than, equal to or greater than the Fair Market Value per share of Common Stock on the issue date. 2. Subject to the provisions of Section I of Article Four, shares of Common Stock may be issued under the Stock Issuance Program for any of the following items of consideration which the Plan Administrator may deem appropriate in each individual instance: (i) cash or check made payable to the Corporation, or (ii) past services rendered to the Corporation (or any Parent or Subsidiary). B. VESTING PROVISIONS. 1. Shares of Common Stock issued under the Stock Issuance Program may, in the discretion of the Plan Administrator, be fully and immediately vested upon issuance or may vest in one or more installments over the Participant's period of Service or upon attainment of specified performance objectives. 2. Any new, substituted or additional securities or other property (including money paid other than as a regular cash dividend) which the Participant may have the right to receive with respect to the Participant's unvested shares of Common Stock by reason of any stock dividend, stock split, recapitalization, combination of shares, exchange of shares or other change affecting the outstanding Common Stock as a class without the Corporation's receipt of consideration shall be issued subject to (i) the same vesting requirements applicable to the Participant's unvested shares of Common Stock and (ii) such escrow arrangements as the Plan Administrator shall deem appropriate. 3. The Participant shall have full stockholder rights with respect to any shares of Common Stock issued to the Participant under the Stock Issuance Program, whether or not the Participant's interest in those shares is vested. Accordingly, the Participant shall have the right to vote such shares and to receive any regular cash dividends paid on such shares. 14 15 4. Should the Participant cease to remain in Service while holding one or more unvested shares of Common Stock issued under the Stock Issuance Program or should the performance objectives not be attained with respect to one or more such unvested shares of Common Stock, then those shares shall be immediately surrendered to the Corporation for cancellation, and the Participant shall have no further stockholder rights with respect to those shares. To the extent the surrendered shares were previously issued to the Participant for consideration paid in cash or cash equivalent (including the Participant's purchase-money indebtedness), the Corporation shall repay to the Participant the cash consideration paid for the surrendered shares and shall cancel the unpaid principal balance of any outstanding purchase-money note of the Participant attributable to such surrendered shares. 5. The Plan Administrator may in its discretion waive the surrender and cancellation of one or more unvested shares of Common Stock (or other assets attributable thereto) which would otherwise occur upon the non-completion of the vesting schedule applicable to such shares. Such waiver shall result in the immediate vesting of the Participant's interest in the shares of Common Stock as to which the waiver applies. Such waiver may be effected at any time, whether before or after the Participant's cessation of Service or the attainment or non-attainment of the applicable performance objectives. C. FIRST REFUSAL RIGHTS. Until the Section 12(g) Registration Date, the Corporation shall have the right of first refusal with respect to any proposed disposition by the Participant (or any successor in interest) of any shares of Common Stock issued under the Stock Issuance Program. Such right of first refusal shall be exercisable in accordance with the terms established by the Plan Administrator and set forth in the document evidencing such right. II. CORPORATE TRANSACTION/CHANGE IN CONTROL A. All of the Corporation's outstanding repurchase rights under the Stock Issuance Program shall terminate automatically, and all the shares of Common Stock subject to those terminated rights shall immediately vest in full, in the event of any Corporate Transaction, except to the extent (i) those repurchase rights are assigned to the successor corporation (or parent thereof) in connection with such Corporate Transaction or (ii) such accelerated vesting is precluded by other limitations imposed in the Stock Issuance Agreement. B. Notwithstanding Section II.A. of this Article Three, the Plan Administrator shall have the discretionary authority, exercisable either at the time the unvested shares are issued or any time while the Corporation's repurchase rights remain outstanding under the Stock Issuance Program, to provide that those rights shall automatically terminate in whole or in part, and the shares of Common Stock subject to those terminated rights shall immediately vest, in the event of a Corporate Transaction, whether or not those repurchase rights are to be assigned to the successor corporation (or its parent) in connection with such Corporate Transaction. The Plan Administrator shall also have the discretion to provide for repurchase rights with terms different from those in effect under this Section II in connection with a Corporate Transaction. C. The Plan Administrator shall have the discretion, exercisable either at the time the unvested shares are issued or at any time while the Corporation's repurchase rights 15 16 remain outstanding, to provide that any repurchase rights that are assigned in the Corporate Transaction shall automatically terminate, and the shares of Common Stock subject to those terminated rights shall immediately vest in full, in the event that either of the following events should occur either at the time of or within a specified period (not to exceed twelve (12) months) following the effective date of the Corporate Transaction: (a) the Participant is offered a Lesser Position in replacement of the position held by him or her immediately prior to the Corporate Transaction or (b) the Participant's Service terminates by reason of an Involuntary Termination. D. The Plan Administrator shall have the discretion, exercisable either at the time the unvested shares are issued or at any time while the Corporation's repurchase right remains outstanding, to (i) provide for the automatic termination of one or more outstanding repurchase rights and the immediate vesting of the shares of Common Stock subject to those rights upon the occurrence of a Change in Control or (ii) condition any such accelerated vesting upon the occurrence of either of the following events at the time of or within a specified period (not to exceed twelve (12) months) following the effective date of such Change in Control: (a) the Participant is offered a Lesser Position in replacement of the position held by him or her immediately prior to the Change in Control or (b) the Involuntary Termination of the Participant's Service. III. SHARE ESCROW/LEGENDS Unvested shares may, in the Plan Administrator's discretion, be held in escrow by the Corporation until the Participant's interest in such shares vests or may be issued directly to the Participant with restrictive legends on the certificates evidencing those unvested shares. IV. MARKET STAND-OFF In connection with any underwritten public offering by the Corporation of its equity securities pursuant to an effective registration statement filed under the Securities Act of 1933, including the Corporation's initial public offering, the Participant may not sell, make any short sale of, loan, hypothecate, pledge, grant any option for the purchase of, or otherwise dispose or transfer for value or otherwise agree to engage in any of the foregoing transactions with respect to, any shares of Common Stock acquired under the Plan without the prior written consent of the Corporation or its underwriters. Such restriction (the "Market Stand-Off") shall be in effect for such period of time from and after the effective date of the final prospectus for the offering as may be requested by the Corporation or such underwriters. The Participant shall be required to execute such agreements as the Corporation or the underwriters request in connection with the Market Stand-Off. 16 17 ARTICLE FOUR AUTOMATIC OPTION GRANT PROGRAM I. OPTION TERMS A. GRANT DATES. Options shall be made on the dates specified below: 1. Each individual who is first elected or appointed as a non-employee Board member after January 18, 1999 shall automatically be granted, on the date of such initial election or appointment, a Non-Statutory Option to purchase 20,000 shares of Common Stock, provided that individual has not previously been in the employ of the Corporation or any Parent or Subsidiary. 2. On the date of each Annual Stockholders Meeting, beginning with the meeting held in 1999, each individual who is to continue to serve as a non-employee Board member, whether or not that individual is standing for re-election to the Board, shall automatically be granted a Non-Statutory Option to purchase 2,500 shares of Common Stock, provided such individual has served as a non-employee Board member for at least six (6) months. B. EXERCISE PRICE. 1. The exercise price per share shall be equal to one hundred percent (100%) of the Fair Market Value per share of Common Stock on the option grant date. 2. The exercise price shall be payable in one or more of the alternative forms authorized under the Discretionary Option Grant Program. Except to the extent the sale and remittance procedure specified thereunder is utilized, payment of the exercise price for the purchased shares must be made on the Exercise Date. C. OPTION TERM. Each option shall have a term of ten (10) years measured from the option grant date. D. EXERCISE AND VESTING OF OPTIONS. Each option shall be immediately exercisable for any or all of the option shares. However, any shares purchased under the option shall be subject to repurchase by the Corporation, at the exercise price paid per share, upon the Optionee's cessation of Board service prior to vesting in those shares. Each initial 20,000-share option shall vest, and the Corporation's repurchase right shall lapse, in a series of four (4) successive equal annual installments upon the Optionee's completion of each year of Board service over the four (4)-year period measured from the option grant date. Each annual 2,500-share option shall be fully-vested at the time of grant. 17 18 E. CESSATION OF BOARD SERVICE. The following provisions shall govern the exercise of any options outstanding at the time of the Optionee's cessation of Board service: (i) The Optionee (or, in the event of Optionee's death, the personal representative of the Optionee's estate or the person or persons to whom the option is transferred pursuant to the Optionee's will or in accordance with the laws of descent and distribution) shall have a twelve (12)-month period following the date of such cessation of Board service in which to exercise each such option. (ii) During the twelve (12)-month exercise period, the option may not be exercised in the aggregate for more than the number of vested shares of Common Stock for which the option is exercisable at the time of the Optionee's cessation of Board service. (iii) Should the Optionee cease to serve as a Board member by reason of death or Permanent Disability, then all shares at the time subject to the option shall immediately vest so that such option may, during the twelve (12)-month exercise period following such cessation of Board service, be exercised for all or any portion of those shares as fully-vested shares of Common Stock. (iv) In no event shall the option remain exercisable after the expiration of the option term. Upon the expiration of the twelve (12)-month exercise period or (if earlier) upon the expiration of the option term, the option shall terminate and cease to be outstanding for any vested shares for which the option has not been exercised. However, the option shall, immediately upon the Optionee's cessation of Board service for any reason other than death or Permanent Disability, terminate and cease to be outstanding to the extent the option is not otherwise at that time exercisable for vested shares. II. CORPORATE TRANSACTION/CHANGE IN CONTROL/HOSTILE TAKE-OVER A. In the event of any Corporate Transaction, the shares of Common Stock at the time subject to each outstanding option but not otherwise vested shall automatically vest in full so that each such option shall, immediately prior to the effective date of the Corporate Transaction, become fully exercisable for all of the shares of Common Stock at the time subject to such option and may be exercised for all or any portion of those shares as fully-vested shares of Common Stock. Immediately following the consummation of the Corporate Transaction, each automatic option grant shall terminate and cease to be outstanding, except to the extent assumed by the successor corporation (or parent thereof). B. In connection with any Change in Control, the shares of Common Stock at the time subject to each outstanding option but not otherwise vested shall automatically vest in full so that each such option shall, immediately prior to the effective date of the Change in Control, become fully exercisable for all of the shares of Common Stock at the time subject to 18 19 such option and may be exercised for all or any portion of those shares as fully-vested shares of Common Stock. Each such option shall remain exercisable for such fully-vested option shares until the expiration or sooner termination of the option term or the surrender of the option in connection with a Hostile Take-Over. C. Upon the occurrence of a Hostile Take-Over, the Optionee shall have a thirty (30)-day period in which to surrender to the Corporation each of his or her outstanding automatic option grants. The Optionee shall in return be entitled to a cash distribution from the Corporation in an amount equal to the excess of (i) the Take-Over Price of the shares of Common Stock at the time subject to each surrendered option (whether or not the Optionee is otherwise at the time vested in those shares) over (ii) the aggregate exercise price payable for such shares. Such cash distribution shall be paid within five (5) days following the surrender of the option to the Corporation. D. Each option which is assumed in connection with a Corporate Transaction shall be appropriately adjusted, immediately after such Corporate Transaction, to apply to the number and class of securities which would have been issuable to the Optionee in consummation of such Corporate Transaction had the option been exercised immediately prior to such Corporate Transaction. Appropriate adjustments shall also be made to the exercise price payable per share under each outstanding option, provided the aggregate exercise price payable for such securities shall remain the same. E. The grant of options under the Automatic Option Grant Program shall in no way affect the right of the Corporation to adjust, reclassify, reorganize or otherwise change its capital or business structure or to merge, consolidate, dissolve, liquidate or sell or transfer all or any part of its business or assets. III. REMAINING TERMS The remaining terms of each option granted under the Automatic Option Grant Program shall be the same as the terms in effect for options made under the Discretionary Option Grant Program. 19 20 ARTICLE FIVE MISCELLANEOUS I. FINANCING The Plan Administrator may permit any Optionee or Participant to pay the option exercise price under the Discretionary Option Grant Program or the purchase price of shares issued under the Stock Issuance Program by delivering a full-recourse, interest bearing promissory note payable in one or more installments. The terms of any such promissory note (including the interest rate and the terms of repayment) shall be established by the Plan Administrator in its sole discretion. In no event may the maximum credit available to the Optionee or Participant exceed the sum of (i) the aggregate option exercise price or purchase price payable for the purchased shares (less the par value, if any, of those shares) plus (ii) any Federal, state and local income and employment tax liability incurred by the Optionee or the Participant in connection with the option exercise or share purchase. II. TAX WITHHOLDING A. The Corporation's obligation to deliver shares of Common Stock upon the exercise of options or upon the issuance or vesting of such shares under the Plan shall be subject to the satisfaction of all applicable Federal, state and local income and employment tax withholding requirements. B. The Plan Administrator may, in its discretion, provide any or all holders of Non-Statutory Options or unvested shares of Common Stock under the Plan with the right to use shares of Common Stock in satisfaction of all or part of the Taxes incurred by such holders in connection with the exercise of their options or the vesting of their shares. Such right may be provided to any such holder in either or both of the following formats: (i) STOCK WITHHOLDING: The election to have the Corporation withhold, from the shares of Common Stock otherwise issuable upon the exercise of such Non-Statutory Option or the vesting of such shares, a portion of those shares with an aggregate Fair Market Value equal to the percentage of the Taxes (not to exceed one hundred percent (100%)) designated by the holder. (ii) STOCK DELIVERY: The election to deliver to the Corporation, at the time the Non-Statutory Option is exercised or the shares vest, one or more shares of Common Stock previously acquired by such holder (other than in connection with the option exercise or share vesting triggering the Taxes) with an aggregate Fair Market Value equal to the percentage of the Taxes (not to exceed one hundred percent (100%)) designated by the holder. III. EFFECTIVE DATE AND TERM OF PLAN A. The Plan became effective when adopted by the board of directors of Internet Security Systems, Inc., a Georgia Corporation, (the "Predecessor Corporation") on 20 21 September 6, 1995 and was approved by the stockholders of the Predecessor Corporation on January 31, 1996. Effective as of February 28, 1997, the board of directors of the Predecessor Corporation restated, subject to approval by the stockholders, the Plan to make the following changes: (i) to re-name the Plan the "Restated 1995 Stock Incentive Plan", (ii) to increase the number of shares of the Predecessor Corporation's common stock available for issuance thereunder by 600,000 shares from 948,029 to 1,548,029 shares, (iii) to add the Stock Issuance Program, (iv) to give the Plan Administrator additional discretion to structure options as immediately exercisable options, subject to repurchase at the option exercise price paid per share, (v) to give the Plan Administrator additional discretion to provide for the accelerated vesting of options or issued shares of Common Stock in connection with a Corporate Transaction or Change in Control or upon either (a) the offer to an Optionee or Participant of a Lesser Position or (b) the Involuntary Termination of an Optionee or Participant's Service following such Corporate Transaction or Change in Control and (vi) to incorporate certain features which would be appropriate after the Section 12(g) Registration Date including, in particular the power to grant stock appreciation rights, certain amendments to the administrative provisions of the Plan to comply with applicable Federal securities and tax laws and the imposition of a 300,000-share limit on the number of shares which may be awarded to any individual under the Plan after the Section 12(g) Registration Date, as required by Section 162(m) of the Code. The provisions of the February 28, 1997 restatement of the Plan shall apply only to options granted and stock issuances made under the Plan from and after February 28, 1997. All options outstanding under the Plan at the time of the February 28, 1997 restatement shall continue to be governed by the terms and conditions of the Plan (and the respective instruments evidencing each such option) as in effect on the date each such option was granted; provided, however, that one or more provisions of the restated Plan, may, in the Plan Administrator's discretion, be extended to one or more such options. B. On December 3, 1997, in connection with incorporation of the Corporation, the Plan was assumed by the Corporation and each option outstanding thereunder was assumed by the Corporation and converted into an option to purchase shares of the Corporation's Common Stock on a 1-for-1 basis, at the original option exercise price per share and subject to the original terms and conditions of each such option. Also on December 3, 1997, the Board, in anticipation of the initial public offering of the Common Stock and subject to approval by the Corporation's stockholders, further amended the Plan to (i) render non-employee Board members and consultants and independent advisors eligible to receive option grants under the Plan after the Section 12(g) Registration Date, (ii) add the Automatic Option Grant Program, (iii) increase the number of shares of Common Stock issuable under the Plan from 1,548,029 to 3,000,000 shares and (iv) provide for an automatic annual increase in the total number of shares of Common Stock authorized for issuance under the Plan. C. The Plan shall terminate upon the earliest of (i) September 6, 2005, (ii) the date on which all shares available for issuance under the Plan shall have been issued as vested shares or (iii) the termination of all outstanding options in connection with a Corporate Transaction. All options and unvested stock issuances outstanding at that time under the Plan shall continue to have full force and effect in accordance with the provisions of the documents evidencing such options or issuances. 21 22 IV. AMENDMENT OF THE PLAN A. The Board shall have complete and exclusive power and authority to amend or modify the Plan in any or all respects. However, no such amendment or modification shall adversely affect the rights and obligations with respect to options or unvested stock issuances at the time outstanding under the Plan unless the Optionee or the Participant consents to such amendment or modification. In addition, certain amendments may require stockholder approval pursuant to applicable laws and regulations. B. Options may be granted under the Discretionary Option Grant Program and shares may be issued under the Stock Issuance Program which are in each instance in excess of the number of shares of Common Stock then available for issuance under the Plan, provided any excess shares actually issued under those programs shall be held in escrow until there is obtained stockholder approval of an amendment sufficiently increasing the number of shares of Common Stock available for issuance under the Plan. If such stockholder approval is not obtained within twelve (12) months after the date the first such excess issuances are made, then (i) any unexercised options granted on the basis of such excess shares shall terminate and cease to be outstanding and (ii) the Corporation shall promptly refund to the Optionees and the Participants the exercise or purchase price paid for any excess shares issued under the Plan and held in escrow, together with interest (at the applicable Short Term Federal Rate) for the period the shares were held in escrow, and such shares shall thereupon be automatically cancelled and cease to be outstanding. V. USE OF PROCEEDS Any cash proceeds received by the Corporation from the sale of shares of Common Stock under the Plan shall be used for general corporate purposes. VI. WITHHOLDING The Corporation's obligation to deliver shares of Common Stock upon the exercise of any options or upon the vesting of any shares issued under the Plan shall be subject to the satisfaction of all applicable Federal, state and local income and employment tax withholding requirements. VII. REGULATORY APPROVALS A. The implementation of the Plan, the granting of any options under the Plan and the issuance of any shares of Common Stock (i) upon the exercise of any option or (ii) under the Stock Issuance Program shall be subject to the Corporation's procurement of all approvals and permits required by regulatory authorities having jurisdiction over the Plan, the options granted under it and the shares of Common Stock issued pursuant to it. B. No shares of Common Stock or other assets shall be issued or delivered under the Plan unless and until there shall have been compliance with all applicable requirements of Federal and state securities laws and all applicable listing requirements of any stock exchange (or the Nasdaq National Market, if applicable) on which Common Stock is then listed for trading. 22 23 VIII. NO EMPLOYMENT OR SERVICE RIGHTS Nothing in the Plan shall confer upon the Optionee or the Participant any right to continue in Service for any period of specific duration or interfere with or otherwise restrict in any way the rights of the Corporation (or any Parent or Subsidiary employing or retaining such person) or of the Optionee or the Participant, which rights are hereby expressly reserved by each, to terminate such person's Service at any time for any reason, with or without cause. 23 24 APPENDIX The following definitions shall be in effect under the Plan: A. AUTOMATIC OPTION GRANT PROGRAM shall mean the automatic option grant program in effect under the Plan. B. BOARD shall mean the Corporation's Board of Directors. C. CHANGE IN CONTROL shall mean a change in ownership or control of the Corporation effected through either of the following transactions: (i) the acquisition, directly or indirectly, by any person or related group of persons (other than the Corporation or a person that directly or indirectly controls, is controlled by, or is under common control with, the Corporation), of beneficial ownership (within the meaning of Rule 13d-3 of the 1934 Act) of securities possessing more than fifty percent (50%) of the total combined voting power of the Corporation's outstanding securities pursuant to a tender or exchange offer made directly to the Corporation's stockholders, or (ii) a change in the composition of the Board over a period of thirty-six (36) consecutive months or less such that a majority of the Board members ceases, by reason of one or more contested elections for Board membership, to be comprised of individuals who either (A) have been Board members continuously since the beginning of such period or (B) have been elected or nominated for election as Board members during such period by at least a majority of the Board members described in clause (A) who were still in office at the time the Board approved such election or nomination. D. CODE shall mean the Internal Revenue Code of 1986, as amended. E. COMMITTEE shall mean a committee of one (1) or more Board members appointed by the Board to exercise one or more administrative functions under the Plan. F. COMMON STOCK shall mean the Corporation's common stock. G. CORPORATE TRANSACTION shall mean either of the following stockholder-approved transactions to which the Corporation is a party: (i) a merger or consolidation in which securities possessing more than fifty percent (50%) of the total combined voting power of the Corporation's outstanding securities are transferred to a person or persons different from the persons holding those securities immediately prior to such transaction, or (ii) the sale, transfer or other disposition of all or substantially all of the Corporation's assets in complete liquidation or dissolution of the Corporation. A-1 25 H. CORPORATION shall mean ISS Group, Inc., a Delaware corporation. I. DISCRETIONARY OPTION GRANT PROGRAM shall mean the option grant program in effect under the Plan. J. EMPLOYEE shall mean an individual who is in the employ of the Corporation (or any Parent or Subsidiary), subject to the control and direction of the employer entity as to both the work to be performed and the manner and method of performance. K. EXERCISE DATE shall mean the date on which the Corporation shall have received written notice of the option exercise. L. FAIR MARKET VALUE per share of Common Stock on any relevant date shall be determined in accordance with the following provisions: (i) If the Common Stock is at the time traded on the Nasdaq National Market, then the Fair Market Value shall be the closing selling price per share of Common Stock on the date in question, as such price is reported by the National Association of Securities Dealers on the Nasdaq National Market. If there is no closing selling price for the Common Stock on the date in question, then the Fair Market Value shall be the closing selling price on the last preceding date for which such quotation exists. (ii) If the Common Stock is at the time listed on any Stock Exchange, then the Fair Market Value shall be the closing selling price per share of Common Stock on the date in question on the Stock Exchange determined by the Plan Administrator to be the primary market for the Common Stock, as such price is officially quoted in the composite tape of transactions on such exchange. If there is no closing selling price for the Common Stock on the date in question, then the Fair Market Value shall be the closing selling price on the last preceding date for which such quotation exists. (iii) For purposes of any option grants made on the Underwriting Date, the Fair Market Value shall be deemed to be equal to the price per share at which the Common Stock is sold in the initial public offering pursuant to the Underwriting Agreement. (iv) For purposes of any option grants made prior to the Underwriting Date, the Fair Market Value shall be determined by the Plan Administrator after taking into account such factors as the Plan Administrator shall deem appropriate. M. HOSTILE TAKE-OVER shall mean the acquisition, directly or indirectly, by any person or related group of persons (other than the Corporation or a person that directly or indirectly controls, is controlled by, or is under common control with, the Corporation) of beneficial ownership (within the meaning of Rule 13d-3 of the 1934 Act) of securities possessing more than fifty percent (50%) of the total combined voting power of the Corporation's A-2 26 outstanding securities pursuant to a tender or exchange offer made directly to the Corporation's stockholders which the Board does not recommend such stockholders to accept. N. 1934 ACT shall mean the Securities Exchange Act of 1934, as amended. O. INCENTIVE OPTION shall mean an option which satisfies the requirements of Code Section 422. P. INVOLUNTARY TERMINATION shall mean the termination of the Service of any individual which occurs by reason of: (i) such individual's involuntary dismissal or discharge by the Corporation for reasons other than Misconduct, or (ii) such individual's voluntary resignation following the offer to such individual of a Lesser Position in replacement of the position held by him or her immediately prior to the Corporate Transaction or Change in Control. Q. LESSER POSITION FOR AN OPTIONEE OR PARTICIPANT shall mean a new position or a change in the Optionee or Participant's position which, compared with such individual's position with the Corporation immediately prior to the Corporate Transaction or Change in Control, (i) offers a lower level of compensation (including base salary, fringe benefits and target bonuses under any corporate-performance based bonus or incentive programs), or (ii) materially reduces such individual's duties or level of responsibility. R. MISCONDUCT shall mean the commission of any act of fraud, embezzlement or dishonesty by the Optionee or Participant, any unauthorized use or disclosure by such person of confidential information or trade secrets of the Corporation (or any Parent or Subsidiary), or any other intentional misconduct by such person adversely affecting the business or affairs of the Corporation (or any Parent or Subsidiary) in a material manner. The foregoing definition shall not be deemed to be inclusive of all the acts or omissions which the Corporation (or any Parent or Subsidiary) may consider as grounds for the dismissal or discharge of any Optionee, Participant or other person in the Service of the Corporation (or any Parent or Subsidiary). S. 1934 ACT shall mean the Securities Exchange Act of 1934, as amended. T. NON-STATUTORY OPTION shall mean an option not intended to satisfy the requirements of Code Section 422. U. OPTIONEE shall mean any person to whom an option is granted under the Plan. V. PARENT shall mean any corporation (other than the Corporation) in an unbroken chain of corporations ending with the Corporation, provided each corporation in the unbroken chain (other than the Corporation) owns, at the time of the determination, stock A-3 27 possessing fifty percent (50%) or more of the total combined voting power of all classes of stock in one of the other corporations in such chain. W. PARTICIPANT shall mean any person who is issued shares of Common Stock under the Stock Issuance Program. X. PERMANENT DISABILITY OR PERMANENTLY DISABLED shall mean the inability of the Optionee or the Participant to engage in any substantial gainful activity by reason of any medically determinable physical or mental impairment expected to result in death or to be of continuous duration of twelve (12) months or more. However, solely for purposes of the Automatic Option Grant Program, Permanent Disability or Permanently Disabled shall mean the inability of the non-employee Board member to perform his or her usual duties as a Board member by reason of any medically determinable physical or mental impairment expected to result in death or to be of continuous duration of twelve (12) months or more. Y. PLAN shall mean the Corporation's Restated 1995 Stock Incentive Plan, as set forth in this document. Z. PLAN ADMINISTRATOR shall mean the particular entity, whether the Primary Committee, the Board or the Secondary Committee, which is authorized to administer the Option Grant and Stock Issuance Programs with respect to one or more classes of eligible persons, to the extent such entity is carrying out its administrative functions under those programs with respect to the persons under its jurisdiction. AA. PRIMARY COMMITTEE shall mean the committee of two (2) or more non-employee Board members appointed by the Board to administer the Option Grant and Stock Issuance Programs with respect to Section 16 Insiders. BB. SECONDARY COMMITTEE shall mean a committee of one (1) or more Board members appointed by the Board to administer the Option Grant and Stock Issuance Programs with respect to eligible persons other than Section 16 Insiders. CC. SECTION 12(G) REGISTRATION DATE shall mean the date on which the Common Stock is first registered under Section 12(g) of the 1934 Act. DD. SECTION 16 INSIDER shall mean an officer or director of the Corporation subject to the short-swing profit liabilities of Section 16 of the 1934 Act. EE. SERVICE shall mean the provision of services to the Corporation (or any Parent or Subsidiary) by a person in the capacity of an Employee, a non-employee member of the board of directors or a consultant or independent advisor, except to the extent otherwise specifically provided in the documents evidencing the option grant. FF. STOCK EXCHANGE shall mean either the American Stock Exchange or the New York Stock Exchange. A-4 28 GG. STOCK ISSUANCE AGREEMENT shall mean the agreement entered into by the Corporation and the Participant at the time of issuance of shares of Common Stock under the Stock Issuance Program. HH. STOCK ISSUANCE PROGRAM shall mean the stock issuance program in effect under the Plan. II. SUBSIDIARY shall mean any corporation (other than the Corporation) in an unbroken chain of corporations beginning with the Corporation, provided each corporation (other than the last corporation) in the unbroken chain owns, at the time of the determination, stock possessing fifty percent (50%) or more of the total combined voting power of all classes of stock in one of the other corporations in such chain. JJ. TAKE-OVER PRICE shall mean the greater of (i) the Fair Market Value per share of Common Stock on the date the option is surrendered to the Corporation in connection with a Hostile Take-Over or (ii) the highest reported price per share of Common Stock paid by the tender offeror in effecting such Hostile Take-Over. However, if the surrendered option is an Incentive Option, the Take-Over Price shall not exceed the clause (i) price per share. KK. TAXES shall mean the Federal, state and local income and employment tax liabilities incurred by the holder of Non-Statutory Options or unvested shares of Common Stock in connection with the exercise of those options or the vesting of those shares. LL. 10% STOCKHOLDER shall mean the owner of stock (as determined under Code Section 424(d)) possessing more than ten percent (10%) of the total combined voting power of all classes of stock of the Corporation (or any Parent or Subsidiary). MM. UNDERWRITING AGREEMENT shall mean the agreement between the Corporation and the underwriter or underwriters managing the initial public offering of the Common Stock. NN. UNDERWRITING DATE shall mean the date on which the Underwriting Agreement is executed and the initial public offering price of the Common Stock is established. A-5 EX-21.1 4 SUBSIDIARIES OF REGISTRANT 1 EXHIBIT 21.1 Subsidiaries of the Registrant 1. Internet Security Systems, Inc. (Georgia) 2. Internet Security Systems, Inc. (Delaware) 3. ISS Group Ltd. (United Kingdom) 4. ISS Investment Holdings, Inc. (Delaware) 5. Internet Security Systems NV (Belgium) 6. Internet Security Systems KK (Japan) 7. Netrex, Inc. (Michigan) 8. NJH Security Consulting, Inc. (Georgia) 9. Intelligent Shopping, Inc. (Georgia) EX-23.1 5 CONSENT OF ERNST & YOUNG, LLP. 1 EXHIBIT 23.1 Consent of Independent Auditors We consent to the incorporation by reference in the Registration Statements and in the related prospectuses of ISS Group, Inc. listed below of our report dated January 21, 2000, with respect to the consolidated financial statements and schedule of ISS Group, Inc. included in this Annual Report (Form 10-K) for the year ended December 31, 1999: Registration Statement No. 333-53279 on Form S-8 (Restated 1995 Stock Incentive Plan) Registration Statement No. 333-89563 on Form S-8 (ISS Group Inc. 1995 Stock Incentive Plan, 1999 Employee Stock Purchase Plan, 1999 International Employee Stock Purchase Plan, Netrex, Inc. 1998 Stock Plan) Registration Statement No. 333-87557 on Form S-3 for the registration of 723,987 shares of Common Stock /s/ ERNST & YOUNG LLP Atlanta, Georgia March 29, 2000 EX-23.2 6 CONSENT OF PRICEWATERHOUSECOOPERS LLP 1 EXHIBIT 23.2 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the Registration Statements on Form S-3 (No. 333-87557) and on Forms S-8 (No. 333-53279 and No. 333-89563) of ISS Group, Inc. of our report dated May 17, 1999 relating to the financial statements, which appears in this Form 10-K. PricewaterhouseCoopers LLP Bloomfield Hills, Michigan March 27, 2000 EX-23.3 7 REPORT OF PRICEWATERHOUSECOOPERS LLP 1 EXHIBIT 23.3 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Shareholders of Netrex, Inc.: In our opinion, the balance sheets as of December 31, 1998 and the related statements of income, stockholders' equity and cash flows for the year ended December 31, 1998 of Netrex, Inc., (not presented separately herein) present fairly, in all material respects, the financial position, results of operations and cash flows of Netrex, Inc. at December 31, 1998 and for the year ended December 31, 1998, in conformity with generally accepted accounting principles. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit of these statements in accordance with generally accepted auditing standards, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for the opinion expressed above. We have not audited the financial statements of Netrex, Inc. for any period subsequent to December 31, 1998. PricewaterhouseCoopers LLP Bloomingfield Hills, Michigan May 17, 1999 EX-27.1 8 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED FINANCIAL STATEMENTS OF ISS GROUP, INC. AS OF AND FOR THE TWELVE MONTHS ENDED DECEMBER 31, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000 YEAR DEC-31-1999 JAN-01-1999 DEC-31-1999 70,090 56,693 27,782 848 473 168,812 16,210 7,277 184,845 29,177 0 0 0 41 155,112 184,845 0 116,487 0 113,787 136 0 0 8,466 976 7,490 0 0 0 7,490 0.19 0.17
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