-----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, RtIyOXLRXrkIqWVONfkwXCMk6qRrLNdGjk3m17ChJFRiPMsRDrPy2PHEtEmU8VjI QscT46kiT2BEF+cxQ7JHgw== /in/edgar/work/20000906/0000891618-00-004525/0000891618-00-004525.txt : 20000922 0000891618-00-004525.hdr.sgml : 20000922 ACCESSION NUMBER: 0000891618-00-004525 CONFORMED SUBMISSION TYPE: S-1/A PUBLIC DOCUMENT COUNT: 6 FILED AS OF DATE: 20000905 FILER: COMPANY DATA: COMPANY CONFORMED NAME: COSINE COMMUNICATIONS INC CENTRAL INDEX KEY: 0001060824 STANDARD INDUSTRIAL CLASSIFICATION: [3576 ] IRS NUMBER: 943280301 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: S-1/A SEC ACT: SEC FILE NUMBER: 333-35938 FILM NUMBER: 716887 BUSINESS ADDRESS: STREET 1: 3200 BRIDGE PARKWAY STREET 2: SUITE 200 CITY: REDWOOD CITY STATE: CA ZIP: 94065 BUSINESS PHONE: 6506374777 MAIL ADDRESS: STREET 1: 3200 BRIDGE PARKWAY CITY: REDWOOD CITY STATE: CA ZIP: 94065 S-1/A 1 f60862a4s-1a.txt AMENDMENT NO. 4 TO FORM S-1 1 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON SEPTEMBER 5, 2000 REGISTRATION NO. 333-35938 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ AMENDMENT NO. 4 TO FORM S-1 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 COSINE COMMUNICATIONS, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 3576 94-3280301 (STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
3200 BRIDGE PARKWAY REDWOOD CITY, CALIFORNIA 94065 (650) 637-4777 (ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES) DEAN E. G. HAMILTON PRESIDENT AND CHIEF EXECUTIVE OFFICER COSINE COMMUNICATIONS, INC. 3200 BRIDGE PARKWAY REDWOOD CITY, CALIFORNIA 94065 (650) 637-4777 (NAME, ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF AGENT FOR SERVICE) COPIES TO: JOHN A. FORE JOHN L. SAVVA DANIEL J. WEISER JAMES J. VIECELI, III IAN J. STOCK SULLIVAN & CROMWELL PAUL W. HARTZEL 1870 EMBARCADERO ROAD WILSON SONSINI GOODRICH & ROSATI PALO ALTO, CA 94303 PROFESSIONAL CORPORATION (650) 461-5600 650 PAGE MILL ROAD PALO ALTO, CA 94304 (650) 493-9300
------------------------ APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after the effective date of this Registration Statement. If any of the securities being registered on this Form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, check the following box. [ ] If this form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] ________ If this form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] ________ If this form is a post-effective amendment filed pursuant to Rule 462(d) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [ ] ________ If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. [ ] ------------------------ CALCULATION OF REGISTRATION FEE - ---------------------------------------------------------------------------------------------------------------------------------- - ---------------------------------------------------------------------------------------------------------------------------------- PROPOSED MAXIMUM PROPOSED MAXIMUM AMOUNT OF TITLE OF EACH CLASS OF AMOUNT TO BE OFFERING PRICE AGGREGATE OFFERING REGISTRATION SECURITIES TO BE REGISTERED REGISTERED(1) PER SHARE(2) PRICE(1)(2) FEE(3) - ---------------------------------------------------------------------------------------------------------------------------------- Common Stock ($.0001 par value)....... 11,500,000 shares $17.00 $195,500,000 $51,612 - ---------------------------------------------------------------------------------------------------------------------------------- - ----------------------------------------------------------------------------------------------------------------------------------
(1) Includes 1,500,000 shares of common stock issuable upon exercise of the underwriters' overallotment option. (2) Estimated solely for the purpose of determining the registration fee pursuant to Rule 457(a) promulgated under the Securities Act. (3) $45,540 previously paid. ------------------------ THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE SECURITIES ACT OF 1933 OR UNTIL THIS REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE SECURITIES AND EXCHANGE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(a), MAY DETERMINE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 THE INFORMATION IN THIS PRELIMINARY PROSPECTUS IS NOT COMPLETE AND MAY BE CHANGED. THESE SECURITIES MAY NOT BE SOLD UNTIL THE REGISTRATION STATEMENT FILED WITH THE SECURITIES AND EXCHANGE COMMISSION IS EFFECTIVE. THIS PRELIMINARY PROSPECTUS IS NOT AN OFFER TO SELL NOR DOES IT SEEK AN OFFER TO BUY THESE SECURITIES IN ANY JURISDICTION WHERE THE OFFER OR SALE IS NOT PERMITTED. SUBJECT TO COMPLETION. DATED SEPTEMBER 5, 2000. 10,000,000 Shares [COSINE COMMUNICATIONS LOGO] Common Stock ---------------------- This is an initial public offering of shares of common stock of CoSine Communications, Inc. All of the 10,000,000 shares of common stock are being sold by CoSine. Before this offering, there has been no public market for the common stock. It is currently estimated that the initial public offering price will be between $15.00 and $17.00 per share. Application has been made for quotation of the common stock on the Nasdaq National Market under the symbol COSN. See "Risk Factors" beginning on page 7 to read about factors you should consider before buying shares of the common stock. ---------------------- NEITHER THE SECURITIES AND EXCHANGE COMMISSION NOR ANY OTHER REGULATORY BODY HAS APPROVED OR DISAPPROVED OF THESE SECURITIES OR PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. ----------------------
Per Share Total --------- --------- Initial public offering price............................... $ $ Underwriting discount....................................... $ $ Proceeds, before expenses, to CoSine........................ $ $
If the underwriters sell more than 10,000,000 shares of common stock, the underwriters have the option to purchase up to an additional 1,500,000 shares from CoSine at the initial public offering price less the underwriting discount. ---------------------- The underwriters expect to deliver the shares in New York, New York on , 2000. GOLDMAN, SACHS & CO. CHASE H&Q ROBERTSON STEPHENS J.P. MORGAN & CO. ---------------------- Prospectus dated , 2000. 3 This diagram shows a picture of a CoSine service processing switch box, called an IPSX 9000, located at the center of the diagram. To the left of the IPSX 9000, there is a picture of a computer monitor with keyboard, with the words InVision on top, and the words Scalable Service Management System below. To the right of the IPSX 9000, there is another picture of a computer monitor with keyboard, with the words InGage on top, and the words Secure Browser-based Customer Network Management System below. Below the IPSX 9000 there are three arrow-shaped icons evenly distributed and pointing to the IPSX 9000. Each icon is labeled IPSX 9000 Functions and contains a picture of computer networking equipment. The first icon, on the bottom left side of the diagram, is labeled Switching & Routing. The second icon, on the bottom center, is labeled Computing. The third icon, on the bottom right side of the diagram, is labeled High Speed Access. Beneath the three icons are the words CoSine Internet Protocol Network Operating System. At the top left corner, there is the following text: CoSine Communications. To the left of this text is a square icon. Beneath that text and icon is the following text: The Next Wave in Carrier Services. At the bottom left corner, there is the following text: CoSine Internet Protocol Service Delivery Platform. 4 PROSPECTUS SUMMARY The following summary highlights information we present more fully elsewhere in this prospectus. This summary does not contain all of the information you should consider before buying shares in the offering. You should read the entire prospectus carefully. COSINE COMMUNICATIONS, INC. We develop, market and sell a communications platform designed to enable network service providers to rapidly deliver computer applications and communications services from within their networks. Our communications platform is a combination of hardware and software that uses IP, or internet protocol, and consists of three independent elements: - IPSX 9000 processing switch; - InVision service management system for network management; and - InGage customer network management software. Our IP service delivery platform is designed to allow simultaneous delivery of applications and services to thousands of subscribers. It addresses cost, management complexity and scalability issues of existing systems by moving the implementation of network services from the customers' premises to the service provider's facilities. Our products are designed to offer customers potential benefits such as: - fewer pieces of equipment; - a centralized platform that allows automated delivery of services, customer activation of services, centralized billing and fewer service calls; - enhanced reliability and ease of expansion; - network management software that can be accessed securely through the internet; and - an architecture that supports network standards and permits the implementation of third-party applications. Our objective is to become the leading supplier of network systems designed to enable the delivery of applications and services from within a service provider's network. We began shipping the IPSX 9000 and InVision in the first quarter of 2000, and we have made InGage generally available in the third quarter of 2000. Our customers potentially include traditional local, regional, national and international communications carriers, IP carriers and internet service providers, or ISPs. We have entered into contracts with Qwest Communications Corporation, AduroNet Ltd., BroadBand Office, Inc., Nissho Electronics Corporation, Internet Initiative Japan Inc., Telia TeleCom, Telenordia AB, and American MetroComm Corporation. Qwest, AduroNet and Broadband Office have received warrants to purchase CoSine stock, Nissho Electronics and Internet Initiative Japan are investors in CoSine, and American MetroComm will receive a warrant to purchase CoSine stock if it receives financing for the purchase of the products it has ordered. We ceased being a development stage company when we began shipping products and recognizing revenue during the first quarter of 2000. We have recognized substantially all of our revenue during the first six months of 2000 from sales to two customers. We anticipate that our IP service delivery platform, which is our only product line, and related software applications will constitute the majority of our future revenue. We had an accumulated deficit of $104.2 million as of June 30, 2000 and expect to continue to incur substantial operating losses in the future. At June 30, 2000, we had $88.8 million in cash and short-term investments. Our principal executive offices are located at 3200 Bridge Parkway, Redwood City, California 94065 and our telephone number is (650) 637-4777. We do not intend for information contained on our website, www.cosinecom.com, to constitute part of this prospectus. We were incorporated in the State of California in April 1997. We reincorporated in the State of Delaware in August 2000. 3 5 THE OFFERING Shares offered............. 10,000,000 shares Shares to be outstanding after this offering........ 100,079,828 shares Proposed Nasdaq National Market symbol............ COSN Use of proceeds............ For general corporate purposes, including working capital and capital expenditures, and potential acquisitions of complementary products, technologies or businesses. Except as otherwise indicated, the total number of shares to be outstanding after this offering includes: - 20,406,737 shares of common stock outstanding at June 30, 2000; - 69,673,091 shares of common stock issuable upon: - the assumed exercise of 2,324,476 warrants that are automatically exercisable before or upon the closing of this offering; - the automatic conversion upon the closing of this offering of preferred stock outstanding at June 30, 2000 into 67,348,615 shares of common stock; and - 10,000,000 shares offered in this offering. The number of shares to be outstanding after this offering excludes: - 9,860,629 shares of common stock issuable upon exercise of stock options outstanding at June 30, 2000, with a weighted average exercise price of $4.18 per share; - an additional 4,748,587 shares of common stock reserved for future issuance under our 1997 stock plan at June 30, 2000, including the options for 2,544,200 shares of common stock issuable upon exercise of stock options granted subsequent to June 30, 2000, with a weighted average exercise price of $10.55 per share; - an additional 5,400,000 shares of common stock reserved for future issuance under our 2000 stock plan, director option plan and employee stock purchase plan; and - 895,915 shares of common stock issuable upon exercise of warrants outstanding at June 30, 2000, at a weighted average exercise price of $2.60 per share, which are not automatically exercisable before or upon the closing of this offering. Except as otherwise indicated, information in this prospectus: - reflects a 4-for-1 stock split of our common stock in May 1998; - reflects the issuance of 69,673,091 shares of common stock upon the exercise of warrants that are automatically exercisable before or upon the closing of this offering and the conversion of all of our outstanding shares of preferred stock into shares of common stock upon the closing of this offering; - reflects our reincorporation in Delaware in August 2000; and - assumes no exercise of the underwriters' option to purchase additional shares in the offering. 4 6 SUMMARY CONSOLIDATED FINANCIAL INFORMATION The following tables present our summary consolidated financial data. The data presented in these tables are from "Selected Consolidated Financial Data" and our historical consolidated financial statements and notes to those financial statements included elsewhere in this prospectus. You should read those sections for a further explanation of the financial data summarized here. Pro forma basic and diluted net loss per share have been calculated assuming the exercise of warrants that are automatically exercisable before or upon the closing of this offering and the conversion of all outstanding preferred stock into common stock.
PERIOD FROM YEAR ENDED SIX MONTHS ENDED INCEPTION DECEMBER 31, JUNE 30, (APRIL 14, 1997) TO ------------------ ------------------- DECEMBER 31, 1997 1998 1999 1999 2000 ------------------- ------- -------- -------- -------- (UNAUDITED) (IN THOUSANDS, EXCEPT PER SHARE DATA) CONSOLIDATED STATEMENT OF OPERATIONS DATA: Revenue........................... $ -- $ -- $ -- $ -- $ 11,321 Non-cash charges related to equity issuances............. -- -- -- -- 3,699 ------ ------- -------- -------- -------- Revenue, net of non-cash charges related to equity issuances..... -- -- -- -- 7,622 Cost of sales: Cost of goods sold.............. -- -- -- -- 6,332 Non-cash charges related to equity issuances............. -- -- -- -- 943 -------- -------- Gross profit (loss)............... -- -- -- -- 347 -------- -------- Loss from operations.............. (134) (9,078) (38,393) (15,138) (58,311) Net loss.......................... (131) (9,293) (37,721) (15,098) (57,036) Deemed dividend to series D preferred stockholders.......... -- -- -- -- (2,500) Net loss allocable to common stockholders.................... (131) (9,293) (37,721) (15,098) (59,536) Basic and diluted net loss per common share.................... (0.25) (4.53) (7.49) (3.63) (7.19) Shares used in computing basic and diluted net loss per common share........................... 522 2,051 5,034 4,156 8,286 Pro forma basic and diluted net loss per common share (unaudited)..................... $ (0.75) $ (0.83) Shares used in computing pro forma basic and diluted net loss per common share (unaudited)........ 50,575 71,922
5 7
JUNE 30, 2000 ---------------------------------- PRO FORMA AS ACTUAL PRO FORMA ADJUSTED ------- --------- ------------ (UNAUDITED) (IN THOUSANDS) CONSOLIDATED BALANCE SHEET DATA: Cash, cash equivalents, and short-term investments....... 88,823 88,823 234,623 Working capital.......................................... 100,115 100,115 245,915 Total assets............................................. 147,812 147,812 293,612 Long-term obligations, less current portion.............. 11,712 11,712 11,712 Redeemable convertible preferred stock................... 174,682 -- -- Total stockholders' equity (net capital deficiency)...... (66,893) 107,789 253,589
The pro forma consolidated balance sheet data includes: - - the assumed exercise of warrants that are automatically exercisable before or upon the closing of this offering; and - - the conversion into common stock upon the closing of this offering of our preferred stock outstanding at June 30, 2000. The pro forma as adjusted consolidated balance sheet data includes: - - the assumed exercise of warrants that are automatically exercisable before or upon the closing of this offering; - - the conversion into common stock upon the closing of this offering of our preferred stock outstanding at June 30, 2000; and - - the sale of our common stock in this offering at an assumed initial public offering price of $16.00, after deducting an assumed underwriting discount and estimated offering expenses payable by us. 6 8 RISK FACTORS You should carefully consider the risks described below before making an investment decision. If any of the following risks actually occurs, our business, financial condition and results of operations could be seriously harmed. This could cause the trading price of our common stock to decline, and you may lose all or part of your investment. RISKS RELATED TO OUR BUSINESS WE HAVE A HISTORY OF LOSSES THAT WE EXPECT WILL CONTINUE, AND IF WE NEVER ACHIEVE PROFITABILITY WE MAY CEASE OPERATIONS. At June 30, 2000, we had an accumulated deficit of $104.2 million. We have incurred net losses since our incorporation. We have only recently begun to recognize revenue, and we cannot be certain that our revenue will grow or that we will generate sufficient revenue to become profitable. If we do not achieve profitability, we may cease operations. We have incurred significant expenses in the past. For example, for the six months ended June 30, 2000, we incurred research and development, sales and marketing, and general and administrative expenses of $58.7 million. Although we cannot quantify the amount, we expect expenses to continue to increase for the balance of 2000 and to continue to incur losses. THE LIMITED SALES HISTORY OF OUR IP SERVICE DELIVERY PLATFORM MAKES FORECASTING OUR REVENUE DIFFICULT, WHICH MAY IMPAIR OUR ABILITY TO MANAGE OUR BUSINESS AND YOUR ABILITY TO ASSESS OUR PROSPECTS. We were founded in April 1997, shipped our first test IP service delivery platform product in March 1999, and sold our first IP service delivery platform product in March 2000. We have limited meaningful historical financial data upon which to forecast our revenues and upon which you may evaluate us and our prospects. IF OUR CUSTOMERS ARE UNABLE TO GENERATE SALES OF SERVICES DELIVERED USING OUR PRODUCTS AND TO MANAGE DELIVERY OF THESE SERVICES TO THEIR CUSTOMERS, WE MAY BE UNABLE TO SELL OUR PRODUCTS. Our future success depends on network service providers, which are our customers, generating revenue from the sale of services delivered using our products. Sales of our products may decline or be delayed if our customers do not successfully introduce commercial services derived from our IP service delivery platform or if our customers do not generate revenue from these services sufficient to realize an attractive return on their investment in our IP service delivery platform. Our ability to generate future revenue also depends on whether network service providers successfully: - - sell and deliver services using our IP service delivery platform to their customers; and - - forecast market trends and identify the services and features that our products should offer their customers. IF OUR IP SERVICE DELIVERY PLATFORM DOES NOT RAPIDLY ACHIEVE MARKET ACCEPTANCE, WE MAY BE UNABLE TO ACHIEVE PROFITABILITY. Our products offer a new approach for delivering services by network service providers, which may perceive our products as being more expensive than the other technologies and products they purchase. If network service providers do not accept our IP service delivery platform as a method for delivering services to their customers, our ability to increase our revenue, achieve profitability and continue operations would be harmed. Our success also depends on third-party software providers recognizing the advantages of our service delivery method and on our ability to effectively support their software development efforts. OUR IP SERVICE DELIVERY PLATFORM IS OUR ONLY PRODUCT LINE, AND OUR FUTURE REVENUE DEPENDS ON ITS COMMERCIAL SUCCESS. Our IPSX 9000 and InVision products are the only products that have been shipped 7 9 to our customers. Our future revenue depends on the commercial success of our IP service delivery platform product line. If customers do not adopt, purchase and successfully implement our IP service delivery platform in large numbers, our revenue will not grow. OUR PRODUCTS ARE TECHNICALLY COMPLEX AND MAY CONTAIN ERRORS OR DEFECTS THAT ARE NOT FOUND UNTIL OUR PRODUCTS ARE PUT TO FULL USE BY OUR CUSTOMERS. ERRORS OR DEFECTS IN OUR PRODUCTS COULD SERIOUSLY HARM OUR REPUTATION AND OUR ABILITY TO SELL OUR PRODUCTS. Our products are more complicated than most networking products. They can be adequately tested only when put to full use in very large and diverse networks with high amounts of traffic. Because none of our customers has put our products to full use, we are unable to assess the likelihood or magnitude of this risk. Errors or defects in our products could result in: - - loss of current customers and failure to attract new customers or achieve market acceptance; and - - increased service and warranty costs. THE LONG SALES CYCLE FOR OUR PLATFORM, AS WELL AS THE EXPECTATION THAT CUSTOMERS WILL SPORADICALLY PLACE LARGE ORDERS, MAY CAUSE OUR REVENUE AND OPERATING RESULTS TO VARY SIGNIFICANTLY FROM QUARTER TO QUARTER, AND THE PRICE OF OUR STOCK TO DECLINE. A customer's decision to purchase our IP service delivery platform involves a significant commitment of its resources and a lengthy evaluation, testing and product qualification process. Network service providers and other customers with complex networks usually expand their networks in large increments on a periodic basis. We may receive purchase orders for significant dollar amounts on an irregular and unpredictable basis. These events may cause our revenue and operating results to vary significantly and unexpectedly from quarter to quarter, which could cause our stock price to decline. IF WE FAIL TO DEVELOP NEW PRODUCTS OR FEATURES, WE WILL HAVE DIFFICULTY ATTRACTING CUSTOMERS. Based on our prior experience, we expect that our customers will require product features that our current IP service delivery platform does not have. Our products are technically complex, and the development of new products or features is an uncertain, time-consuming and labor intensive process. We may experience design, manufacturing or marketing problems with new products. If we fail to develop new or enhanced products that meet customer requirements, our ability to attract and retain customers will be hindered. WE RELY UPON A LIMITED NUMBER OF CUSTOMERS, AND ANY DECREASE IN REVENUE FROM THESE CUSTOMERS OR FAILURE TO INCREASE OUR CUSTOMER BASE COULD HARM OUR OPERATING RESULTS. We have received substantially all of our revenue from two customers and have received additional purchase orders from six other customers. Six of these customers, directly or indirectly, hold or may be issued our equity securities. The loss of one or more of our customers, a reduction in purchases of our products by our customers or the decline of our customers' business may limit our revenue growth and harm our operating results. We do not have long-term contracts with our customers, and our customers may reduce or discontinue purchases of our products at any time. Our future success will depend on attracting additional customers. Failure to increase our customer base would hinder our growth and harm our operating results. IF WE DO NOT EFFECTIVELY MANAGE OUR GROWTH, INTEGRATE NEWLY-HIRED KEY PERSONNEL AND HIRE ADDITIONAL PERSONNEL, OUR OPERATIONS WILL SUFFER. The growth of our operations places a significant strain on our management systems and resources. If we do not effectively manage our growth and improve our financial and managerial controls and systems, we may be unable to provide adequate service and support to our customers and our 8 10 operations will suffer. At December 31, 1999, we had 185 employees, and at August 11, 2000, we had 428 employees. We plan to continue to hire a significant number of employees this year, but we may be unable to hire and retain the kind and number that we need. We recently hired many of our key executives, including our chief financial officer and other managerial personnel. These personnel have worked together for only a short period of time and must learn our business while performing their regular duties. Our operations could be disrupted if we do not rapidly integrate these new key personnel. A FAILURE OF OUR CONTRACT MANUFACTURERS OR OUR SOLE SOURCE AND LIMITED SOURCE SUPPLIERS TO MEET OUR NEEDS WOULD SERIOUSLY HARM OUR ABILITY TO TIMELY FILL CUSTOMER ORDERS. We use three third-party contract manufacturers: Solectron, SMTC Manufacturing and Sonic Manufacturing. If any of them terminates its relationship with us or is unable to produce sufficient quantities of our products in a timely manner and at satisfactory quality levels, our ability to fill customer orders on time, our reputation and our operating results will suffer. Our contract manufacturers do not have a long-term obligation to supply products to us. Qualifying new contract manufacturers and starting volume production is expensive and time consuming and would disrupt our business. We currently purchase several key components, including field programmable gate arrays, some integrated circuits and memory devices, and power supplies from a single source or limited sources. We do not have long-term supply contracts for these components. If our supply of these components is interrupted, we may be unable to locate an alternate source in a timely manner or at favorable prices. Interruption or delay in the supply of these components could cause us to lose sales to existing and potential customers. IF WE FAIL TO PREDICT OUR MANUFACTURING REQUIREMENTS ACCURATELY, WE COULD INCUR ADDITIONAL COSTS OR MANUFACTURING DELAYS. We provide forecasts of our demand to our contract manufacturers up to twelve months before scheduled delivery of products to our customers. If we overestimate our manufacturing requirements, our contract manufacturers may have excess or obsolete inventory, which would harm our operating results if we were required to purchase the excess or obsolete inventory. If we underestimate our requirements, our contract manufacturers may have an inadequate inventory, which could interrupt manufacturing of our products and result in delays in shipments and revenue. If we do not accurately anticipate lead times for components, we may experience component shortages. IF NECESSARY LICENSES OF THIRD-PARTY TECHNOLOGY ARE TERMINATED OR BECOME UNAVAILABLE OR TOO EXPENSIVE, OUR COMPETITIVE POSITION AND OUR PRODUCT OFFERING WILL SUFFER. We license from third-party suppliers several key software applications incorporated in our IP service delivery platform, such as firewall software from Network Associates, Inc. and database software from Oracle Corporation. We will be required to license technology from other third-party suppliers to enable us to develop new products or features. Our inability to renew or obtain any third-party license that we need could require us to obtain substitute technology of lower quality or at greater cost. Either of these outcomes could seriously impair our ability to sell our products and harm our operating results. 9 11 RISKS RELATED TO OUR INDUSTRY WE PARTICIPATE IN SEVERAL HIGHLY COMPETITIVE MARKETS, AND OUR FAILURE TO COMPETE SUCCESSFULLY WOULD LIMIT OUR ABILITY TO INCREASE OUR MARKET SHARE AND HARM OUR BUSINESS. Competition in the network infrastructure market is intense, and we expect that competition in the market for IP networking services will also be intense. If we are unable to compete effectively, our revenue and market share will be reduced. We face competition from: - - companies in the network infrastructure market, including Cisco Systems, Inc., Lucent Technologies, Inc., Nortel Networks Corporation, Alcatel, Ericsson Business Networks AB and Siemens AG; and - - companies, including Cisco, that market products for installation on the premises of network service providers' customers and which offer some services that compete with the services delivered using our IP service delivery platform. We believe that there is likely to be consolidation in this industry. We expect to face increased competition from larger companies with significantly greater resources than we have. Some of these larger competitors have pre-existing relationships involving a range of product lines with the network service providers who are the principal potential customers for our IP service delivery platform. These competitors may offer vendor financing, which we do not offer, undercut our prices or use their pre-existing relationships with our customers to induce them not to use our IP service delivery platform. IF ANY OF OUR SIGNIFICANT SUPPLIERS WERE TO TERMINATE THEIR RELATIONSHIPS WITH US OR COMPETE AGAINST US, OUR REVENUE AND MARKET SHARE WILL LIKELY BE REDUCED. Many of our suppliers also have significant development and marketing relationships with our competitors and have significantly greater financial and marketing resources than we do. If they develop and market products in the future in competition with us, or form or strengthen arrangements with our competitors, our revenue and market share will likely be reduced. IF WE BECOME SUBJECT TO UNFAIR HIRING CLAIMS, WE COULD BE PREVENTED FROM HIRING NEEDED PERSONNEL, OR FROM PURSUING OR IMPLEMENTING OUR RESEARCH, AND COULD INCUR SUBSTANTIAL LIABILITIES OR COSTS. Companies in our industry whose employees accept positions with competitors frequently claim that these competitors have engaged in unfair hiring practices or that the employment of these persons would involve the disclosure or use of trade secrets. In June 2000, Ericsson Inc. filed a complaint against us, which they subsequently agreed to withdraw, alleging that we misappropriated trade secrets known to several employees who recently joined us from Ericsson. We have been threatened with claims like this in the past and may receive claims of this kind in the future. These claims could prevent us from hiring personnel or from using the intellectual property alleged to be trade secrets brought to us by the personnel that we hired. We could also incur substantial costs and damages in defending ourselves or our employees against these claims, regardless of their merits. Defending ourselves from these claims could divert the attention of our management away from our operations. IF OUR PRODUCTS DO NOT WORK THE WAY OUR CUSTOMERS EXPECT, ORDERS FOR OUR PRODUCTS MAY BE CANCELLED AND THE MARKET PERCEPTION OF OUR PRODUCTS COULD BE HARMED. If our products do not work with our customers' or their end users' networks, the market perception of our products could be harmed and orders for our products could be cancelled. In particular, if an actual or perceived breach of network security occurs in a customer's or its end-user's network that uses our products, we may be subject to lawsuits for losses suffered by customers or their end-users. 10 12 If we have to redesign or modify our products to make them compatible with a customer's or end user's network, our sales cycle could be extended, our research and development expenses may increase, and profit margins on our products may be reduced. BECAUSE THE MARKETS IN WHICH WE COMPETE ARE PRONE TO RAPID TECHNOLOGICAL CHANGE AND THE ADOPTION OF STANDARDS DIFFERENT FROM THOSE THAT WE USE, OUR PRODUCTS COULD BECOME OBSOLETE, AND WE COULD BE REQUIRED TO INCUR SUBSTANTIAL EXPENSES TO MODIFY OUR PRODUCTS TO REMAIN COMPETITIVE. The market for our IP service delivery platform is prone to rapid technological change, the adoption of new standards, frequent new product introductions and changes in customer and end user requirements. We may be unable to respond quickly or effectively to these developments. We may experience difficulties that could prevent our development of new products and features. The introduction of new products or technologies by competitors, or the emergence of new industry standards could render our products obsolete or could require us to incur expenses to redesign our products. WE RELY ON OUR INTELLECTUAL PROPERTY RIGHTS TO BE COMPETITIVE, AND IF WE ARE UNABLE TO PROTECT THESE RIGHTS, WE MAY NEVER BECOME PROFITABLE. We rely on a combination of copyright, trademark and trade secret laws and restrictions on disclosure to protect our intellectual property rights. Monitoring unauthorized use of our products is difficult, and we cannot be certain that the steps we have taken will prevent unauthorized use of our technology. If we are unable to protect our intellectual property rights, our ability to supply our products as they have been designed could suffer, and our ability to become profitable could be harmed. IF WE BECOME INVOLVED IN AN INTELLECTUAL PROPERTY DISPUTE, WE COULD BE SUBJECT TO SIGNIFICANT LIABILITY, THE TIME AND ATTENTION OF OUR MANAGEMENT COULD BE DIVERTED AND WE COULD BE PREVENTED FROM SELLING OUR PRODUCTS. We may become a party to litigation in the future to protect our intellectual property or because others may allege infringement of their intellectual property. These claims and any resulting lawsuit could subject us to significant liability for damages and invalidate our proprietary rights. These lawsuits, regardless of their merits, likely would be time-consuming and expensive to resolve and would divert management time and attention. Any potential intellectual property litigation alleging our infringement of a third-party's intellectual property also could force us to do one or more of the following: - - stop selling our products or services that use the challenged intellectual property; - - obtain from the owner of the infringed intellectual property right a license to sell the relevant technology, which license may not be available on reasonable terms, or at all; or - - redesign those products or services that use the infringed technology. WE HAVE LIMITED EXPERIENCE MARKETING AND SELLING OUR PRODUCTS INTERNATIONALLY. WE INTEND TO EXPAND OUR OPERATIONS INTERNATIONALLY, AND OUR OPERATING RESULTS WILL SUFFER IF WE DO NOT GENERATE REVENUE FROM INTERNATIONAL OPERATIONS THAT EXCEEDS THE COST OF ESTABLISHING AND MAINTAINING THE OPERATIONS. We intend to enter new markets in Europe and Asia. We have limited experience in marketing and distributing our products internationally and may be unable to develop international market demand for our products. If we are unable to generate revenue from international operations that exceed the cost of establishing and maintaining these operations, our operating results will suffer. 11 13 The success of our international operations may be affected by: - - our ability to establish relationships with international distributors who can effectively market and support our products; and - - difficulties inherent in developing versions of our products that comply with local standards or regulatory requirements. RISKS RELATED TO THIS OFFERING INSIDERS WILL CONTINUE TO HAVE SUBSTANTIAL CONTROL OVER US AFTER THIS OFFERING, AND THEY COULD DELAY OR PREVENT A CHANGE IN OUR CORPORATE CONTROL EVEN IF OUR OTHER STOCKHOLDERS WANTED IT TO OCCUR. Upon completion of this offering, our executive officers, directors and principal stockholders who hold 5% or more of the outstanding common stock and their affiliates will beneficially own, in the aggregate, approximately 23.60% of our outstanding common stock. These stockholders will be able to exercise significant control over all matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions. This could delay or prevent an outside party from acquiring or merging with us even if our other stockholders wanted it to occur. THE SUBSTANTIAL MAJORITY OF OUR 100,079,828 SHARES TO BE OUTSTANDING AFTER THE OFFERING WILL BE EITHER FREELY TRADEABLE UPON CONSUMMATION OF THE OFFERING OR SALEABLE UPON EXPIRATION OF THE LOCK-UP AGREEMENTS COVERING THESE SHARES. THIS COULD CAUSE THE MARKET PRICE OF OUR COMMON STOCK TO DROP SIGNIFICANTLY, REGARDLESS OF THE PERFORMANCE OF OUR BUSINESS. After this offering, we will have outstanding 100,079,828 shares of common stock. This includes the shares we are selling in this offering, which may be resold in the public market immediately. Stockholders holding an aggregate of 89,854,508 of these securities have entered into to lock-up agreements with the underwriters. Approximately 15% of these shares may be released from the lock-up and sold into the market as early as 2 days after our fourth quarter operating results are released, and approximately 25% of these shares may be released from the lock-up and sold into the market as early as 30 days after our fourth quarter operating results are released, and the remaining shares subject to the lock-up agreement with the underwriters will be eligible for sale into the market 180 days after the date of this prospectus. In addition, Goldman, Sachs & Co. can waive the restrictions of these lock-up agreements at an earlier time without prior notice or announcement and allow stockholders to sell their shares. Stockholders holding an aggregate of 211,103 shares are subject to lock-up agreements they have entered into with us, but are not subject to a lock-up arrangement with the underwriters. We have agreed with the underwriters that these 211,103 shares will not be eligible for sale until 180 days after the date of this prospectus, without the prior written consent of the underwriters. However, our agreement with the holders of these shares is not as restrictive as the agreement the stockholders have entered into with the underwriters. For example, our agreement with the holders of these 211,103 shares does not prohibit certain types of hedging transactions. The market price of our common stock could drop significantly if the holders of these shares sell them or are perceived by the market as intending to sell them. 12 14 YOU SHOULD NOT RELY ON FORWARD LOOKING STATEMENTS BECAUSE THEY ARE INHERENTLY UNCERTAIN This prospectus contains forward-looking statements that involve risks and uncertainties. We use words such as anticipate, believe, plan, expect, future, intend and similar expressions to identify forward-looking statements. Our actual results could differ materially from the results contemplated by these forward-looking statements because of any of the risks to our business described in this prospectus. You should not unduly rely on these forward-looking statements, which apply only as of the date of this prospectus. 13 15 USE OF PROCEEDS The net proceeds from the sale of the 10,000,000 shares of common stock offered by us are estimated to be $145.8 million, or $168.1 million if the underwriters exercise in full their option to purchase additional shares in the offering. These estimates are calculated based on an assumed initial public offering price of $16.00 per share and after deducting an assumed underwriting discount and estimated offering expenses payable by us. The principal purposes of this offering are to: - - increase our working capital; - - create a public market for our common stock; - - facilitate our future access to public equity markets; and - - provide us with increased visibility and credibility. We have no specific plans for the use of the net proceeds of this offering. We intend to use the net proceeds primarily for general corporate purposes, including working capital, expansion of our sales and marketing organization and capital expenditures. We may, when and if the opportunity arises, use a portion of the net proceeds to acquire complementary products, technologies or businesses. Until we use the net proceeds of this offering, we intend to invest the net proceeds in interest-bearing, investment-grade securities. DIVIDEND POLICY We have never declared or paid any cash dividends on our capital stock. We currently expect to retain future earnings, if any, for use in the operation and expansion of our business and do not anticipate paying any cash dividends. Our lease lines and bank lines of credit prohibit the payment of dividends without prior approval. 14 16 CAPITALIZATION ACTUAL, PRO FORMA AND PRO FORMA AS ADJUSTED CAPITALIZATION The following table summarizes our capitalization as of June 30, 2000: - - on an actual basis; - - on a pro forma basis as of such date to reflect: - the assumed exercise of warrants that are automatically exercisable before or upon the closing of this offering; and - the automatic conversion into common stock upon the closing of this offering of our preferred stock outstanding at June 30, 2000; and - - on a pro forma as adjusted basis to reflect the sale of 10,000,000 shares of common stock at an assumed initial public offering price of $16.00 per share after deducting an assumed underwriting discount and estimated offering expenses payable by us. You should read the information below with our consolidated financial statements and the notes to those statements included elsewhere in this prospectus.
JUNE 30, 2000 ------------------------------------ PRO FORMA AS ACTUAL PRO FORMA ADJUSTED --------- --------- ------------ (IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA) Long-term debt, net of current portion................. $ 11,712 $ 11,712 $ 11,712 Redeemable convertible preferred stock, $.0001 par value, 66,248,993 shares authorized and 59,848,615 shares issued and outstanding (actual); no shares authorized, issued or outstanding (pro forma and pro forma as adjusted)................................... 174,682 -- -- Stockholders' equity: Preferred stock, $.0001 par value, 2,150,000 shares authorized and 1,875,000 shares issued and outstanding (actual); 3,000,000 shares authorized and no shares issued and outstanding (pro forma and pro forma as adjusted)........................ -- -- -- Common stock, $.0001 par value, 200,000,000 shares authorized, 20,406,737 shares issued and outstanding (actual); 300,000,000 shares authorized and 90,079,828 shares issued and outstanding (pro forma); 300,000,000 shares authorized and 100,079,828 issued and outstanding (pro forma as adjusted)........................... 2 9 10 Additional paid-in capital........................... 122,002 296,677 442,476 Notes receivable from stockholders................... (18,613) (18,613) (18,613) Accumulated other comprehensive income (loss)........ 13 13 13 Deferred compensation................................ (66,116) (66,116) (66,116) Deficit accumulated during the development stage..... (104,181) (104,181) (104,181) --------- --------- --------- Total stockholders' equity (net capital deficiency)..................................... (66,893) 107,789 253,589 --------- --------- --------- Total capitalization............................ $ 119,501 $ 119,501 $ 265,301 ========= ========= =========
15 17 ADDITIONAL SHARE INFORMATION The number of outstanding shares excludes: - - 9,860,629 shares issuable upon exercise of outstanding stock options at June 30, 2000, with a weighted average exercise price of $4.18 per share; - - an additional 4,748,587 shares reserved for future issuance under our 1997 stock plan at June 30, 2000, including the options for 2,544,200 shares of common stock issuable upon exercise of stock options granted subsequent to June 30, 2000, with a weighted average exercise price of $10.55 per share; - - an additional 5,400,000 shares reserved for issuance under our 2000 stock plan, director option plan and employee stock purchase plan; and - - 895,915 shares of common stock issuable upon exercise of warrants outstanding at June 30, 2000 at a weighted average exercise price of $2.60 per share, which are not automatically exercisable before or upon the closing of this offering. 16 18 DILUTION If you invest in our common stock, your interest per share will be diluted by an amount equal to the difference between the initial public offering price per share of our common stock and the pro forma net tangible book value per share of our common stock after this offering. We calculate net tangible book value per share by dividing the net tangible book value, or total assets less intangible assets and total liabilities, by the number of outstanding shares of common stock. PRO FORMA NET TANGIBLE BOOK VALUE Our pro forma net tangible book value per share is based on 90,079,828 shares outstanding at June 30, 2000, after reflecting: - - the assumed exercise of warrants that are automatically exercisable before or upon the closing of this offering; and - - automatic conversion into common stock of our outstanding preferred stock. DILUTION AFTER THIS OFFERING After reflecting the sale of the 10,000,000 shares of common stock at an assumed initial public offering price of $16.00 per share less an assumed underwriting discount and estimated offering expenses payable by us, our pro forma net tangible book value at June 30, 2000 would be $253.6 million, or $2.53 per share. This represents an immediate increase in pro forma net tangible book value of $1.33 per share to existing stockholders and an immediate dilution in pro forma net tangible book value of $13.47 per share to new investors, or approximately 84% of the assumed initial public offering price of $16.00 per share. The table below illustrates this per share dilution: Assumed initial public offering price per share............. $16.00 Pro forma net tangible book value per share at June 30, 2000................................................... $1.20 Increase per share attributable to new investors.......... 1.33 ----- Pro forma net tangible book value per share after this offering.................................................. 2.53 ------ Dilution per share to new investors......................... $13.47 ======
COMPARATIVE INVESTMENT INFORMATION The table below shows at June 30, 2000, on the pro forma basis described above, the differences between the number of shares of common stock purchased from us, the total consideration paid to us and the average price per share paid by existing stockholders and by new investors purchasing common stock in this offering. We used an assumed initial public offering price of $16.00 per share, before deducting an assumed underwriting discount and estimated offering expenses in our calculations.
SHARES PURCHASED TOTAL CONSIDERATION ---------------------- ----------------------- AVERAGE PRICE NUMBER PERCENT AMOUNT PERCENT PER SHARE ----------- ------- ------------ ------- ------------- Existing stockholders........ 90,079,828 90% $171,875,000 52% $ 1.91 New investors......... 10,000,000 10 160,000,000 48% 16.00 ----------- --- ------------ --- Total............... 100,079,828 100% $331,875,000 100% =========== === ============ ===
17 19 ADDITIONAL SHARE INFORMATION The discussion and table above are based on the number of outstanding shares of our common stock after this offering, which excludes: - 9,860,629 shares issuable upon exercise of outstanding stock options as of June 30, 2000, with a weighted average exercise price of $4.18 per share; - an additional 4,748,587 shares reserved for future issuance under our 1997 stock plan at June 30, 2000, including the options for 2,544,200 shares of common stock issuable upon exercise of stock options granted subsequent to June 30, 2000, with a weighted average exercise price of $10.55 per share; - an additional 5,400,000 plan shares reserved for issuance under our 2000 stock plan, director option plan and employee stock purchase plan; and - 895,915 shares of common stock issuable upon exercise of warrants outstanding as of June 30, 2000, at a weighted average exercise price of $2.60 per share, which are not automatically exercisable before or upon the closing of this offering. If any of these options or warrants are exercised, there will be further dilution to investors. 18 20 SELECTED CONSOLIDATED FINANCIAL DATA The selected consolidated financial data should be read with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and our consolidated financial statements and the notes to those statements included elsewhere in this prospectus. The consolidated statement of operations data for the period from April 14, 1997, the date of our incorporation, to December 31, 1997, and for the fiscal years ended December 31, 1998 and 1999, and the consolidated balance sheet data at December 31, 1998 and 1999 have been derived from our audited consolidated financial statements included elsewhere in this prospectus, which have been audited by Ernst & Young LLP, Independent Auditors. The consolidated balance sheet data at December 31, 1997 is derived from the audited consolidated financial statements that are not included in this prospectus. The consolidated statement of operations data for the six-month periods ended June 30, 1999 and 2000, and the consolidated balance sheet data at June 30, 1999 and 2000, are unaudited and have been prepared on the same basis as the audited consolidated financial statements appearing elsewhere in this prospectus. In the opinion of management, all necessary adjustments consisting only of normal recurring adjustments have been included to present fairly the unaudited consolidated quarterly results when read with the audited consolidated financial statements and the notes to those statements appearing elsewhere in this prospectus. The historical results are not necessarily indicative of results to be expected for any future period. 19 21
PERIOD FROM INCEPTION YEAR ENDED SIX MONTHS ENDED (APRIL 14, 1997) DECEMBER 31, JUNE 30, TO DECEMBER 31, ------------------ --------------------- 1997 1998 1999 1999 2000 ---------------- ------- -------- -------- -------- (UNAUDITED) (IN THOUSANDS, EXCEPT SHARES AND PER SHARE DATA) CONSOLIDATED STATEMENT OF OPERATIONS DATA: Revenue.................................. $ -- $ -- $ -- $ -- $ 11,321 Non-cash charges related to equity issuances............................ -- 3,699 ------ ------- -------- -------- -------- Revenue, net of non-cash charges related to equity issuances.................... -- 7,622 Cost of sales: Cost of goods sold..................... -- -- -- -- 6,332 Non-cash charges related to equity issuances............................ -- -- -- -- 943 ------ ------- -------- -------- -------- Gross profit (loss)...................... -- -- -- -- 347 Operating expenses: Research and development............... 87 7,353 25,088 11,358 24,103 Non-cash research and development charges related to equity issuances............................ -- 13 2,248 106 10,000 Sales and marketing.................... -- 601 4,601 1,325 11,153 Non-cash sales and marketing charges related to equity issuances.......... -- 5 1,476 432 5,089 General and administrative............. 47 1,106 4,266 1,865 3,705 Non-cash general and administrative charges related to equity issuances............................ -- -- 714 52 4,608 ------ ------- -------- -------- -------- Total operating expenses............. 134 9,078 38,393 15,138 58,658 ------ ------- -------- -------- -------- Loss from operations..................... (134) (9,078) (38,393) (15,138) (58,311) Interest income (expense), net........... 3 (1) 698 64 1,333 Non-cash interest expense related to equity issuances....................... -- (211) (47) (24) (54) Other income (expense)................... -- (3) 21 -- (4) ------ ------- -------- -------- -------- Net loss................................. (131) (9,293) (37,721) (15,098) (57,036) Deemed dividend to series D preferred stockholders........................... -- -- -- -- (2,500) ------ ------- -------- -------- -------- Net loss allocable to common stockholders........................... $ (131) $(9,293) $(37,721) $(15,098) $(59,536) ====== ======= ======== ======== ======== Basic and diluted net loss per common share.................................. $(0.25) $ (4.53) $ (7.49) $ (3.63) $ (7.19) ====== ======= ======== ======== ======== Shares used in computing basic and diluted net loss per common share.................................. 522 2,051 5,034 4,156 8,286 ====== ======= ======== ======== ======== Pro forma basic and diluted net loss per common share (unaudited)............... $ (0.75) $ (0.83) ======== ======== Shares used in computing pro forma basic and diluted net loss per common share (unaudited)............................ 50,575 71,922 ======== ========
DECEMBER 31, JUNE 30, ----------------------------- ---------------------- 1997 1998 1999 1999 2000 ------ ------- -------- -------- -------- (UNAUDITED) (IN THOUSANDS) CONSOLIDATED BALANCE SHEET DATA: Cash, cash equivalents, and short-term investments.............................. $1,301 $ 6,580 $ 54,586 $ 16,881 $ 88,823 Working capital............................ 1,238 2,900 49,584 11,725 100,115 Total assets............................... 1,443 11,099 66,070 23,382 147,812 Long-term obligations, less current portion.................................. -- 2,710 7,907 5,106 11,712 Redeemable convertible preferred stock..... -- 9,823 89,388 32,157 174,682 Total stockholders' equity (net capital deficiency)................. 1,370 (6,038) (38,374) (20,720) (66,893)
Note 1 of the notes to our consolidated financial statements explains how we determined the shares used to compute basic and diluted net loss per share and basic and diluted pro forma net loss per share. 20 22 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW From our incorporation on April 14, 1997 through June 30, 2000, our operating activities were primarily devoted to increasing our research and development capabilities, designing our hardware, developing our software and testing our products. In March 2000, after extensive field testing of our IP service delivery platform, we began shipping to our first customers. We market our products through our direct sales force to service providers in Asia, North America and Europe. We provide customer service and support for our products. REVENUE. Substantially all of our revenue has been derived from sales of the IPSX 9000 product and InVision service management software. Substantially all of our revenue has been generated from two customers. We expect that the majority of our future revenue will continue to come from sales of our IP service delivery platform and related software applications to a small number of customers. We expect to receive a substantial portion of our revenue from these initial customers until we can sufficiently penetrate additional accounts. Because the market for our IP service delivery platform is new and evolving, the volume and timing of orders are difficult to predict. A customer's decision to purchase our platform typically involves a significant commitment of its resources and a lengthy evaluation, testing and product qualification process. Long sales and implementation cycles for our platform, as well as the expectation that customers will tend to sporadically place large orders with short lead times, may cause our revenue and operating results to vary significantly and unexpectedly from quarter to quarter. The standard payment terms offered to our customers are net 30 days. In the case of our first two customers, Qwest and AduroNet, the payment terms were negotiated to be net 45 days. REVENUE RECOGNITION. We generally recognize product revenue at the time of shipment, assuming that persuasive evidence of an arrangement exists, the sales price is fixed or determinable and collectibility is probable, unless we have future obligations for installation or have to obtain customer acceptance, in which case we defer recognizing revenue until these obligations are met. Our product incorporates software that is not incidental to the related hardware, and accordingly, we recognize revenue as indicated above, which complies with the American Institute of Certified Public Accountants' Statement of Position 97-2 "Software Revenue Recognition". For arrangements that include the delivery of multiple products, the revenue is allocated to the various products based on vendor-specific objective evidence of fair value, or VSOE. We establish VSOE based on either the price charged for the product when the same product is sold separately, or for products not yet sold separately, VSOE is based on the prices established for such products by management with the relevant authority to do so. In establishing VSOE for products not yet sold separately, we believe that the price of these products likely will not change before they are sold separately in the marketplace. Revenue from post-contract support obligations for specified future periods is deferred and recognized on a straight-line basis over the service period. Revenue from consulting services is recognized as the services are provided. Amounts billed in excess of revenue recognized are included as deferred revenue in the accompanying consolidated balance sheets. At June 30, 2000, a total of $6.3 million of revenue was deferred. We expect that this deferred revenue will be recognized in 2000 and 2001. Our initial customer was provided limited price protection rights which expire in October 2000. We believe that the likelihood 21 23 of a price adjustment is remote, primarily because: - - our products are technologically advanced and are of a unique design; - - we expect our products to have long sales and deployment cycles; and - - the length of time until the price protection rights expire is short compared to these lengthy sales and deployment cycles. We reserve for warranty costs based on our experience in the networking industry. NON-CASH CHARGES RELATED TO EQUITY ISSUANCES. Non-cash charges related to equity issuances significantly affect our reporting of revenue, cost of goods sold and operating expense. The non-cash charges relate to warrants granted to customers and suppliers in exchange for services, stock options granted to employees and consultants and stock granted in lieu of cash compensation to suppliers. REVENUES Our reporting of revenue is affected significantly by warrants issued to our initial customers, including Qwest, AduroNet and Broadband Office. These warrants were issued upon receipt of substantial purchase orders which were preceded by a period of cooperation with us in the marketing, development and refinement of our products. We have issued the following warrants to customers: - - A warrant exercisable for 1,233,499 shares of our Series C preferred stock at an exercise price of $0.81 per share issued to Qwest upon receipt of a purchase order from Qwest for $18.3 million of our products and services; - - A warrant exercisable for 200,000 shares of our common stock at an exercise price of $4.00 per share issued to AduroNet upon receipt of a purchase order from AduroNet for $20.7 million of our products and services; and - - A warrant exercisable for 468,849 shares of our common stock at an exercise price of $3.73 per share issued to BroadBand Office upon receipt of a purchase order from BroadBand Office for $20.0 million of our products and services. We calculate the fair value of these customer-related warrants to be $16.2 million ($10.3 million in the case of Qwest, $1.8 million in the case of AduroNet, and $4.1 million in the case of BroadBand Office). These values were calculated using a Black-Scholes option pricing model, using volatility of 0.6, a risk-free interest rate of 5% and an expected life of 4 years. Of this amount, $3.7 million ($3.2 million related to Qwest and $0.5 million related to AduroNet) was recognized as an offset to gross revenue during the six months ended June 30, 2000. The remaining $12.5 million will be amortized in future periods as an offset to gross revenue to the extent of and as the revenue associated with these customers' orders is recognized. COST OF SALES AND OPERATING EXPENSES Our reporting of cost of sales and operating expenses is also affected significantly by charges related to warrants and options issued for services, which are shown on the statement of operations under the appropriate line items. On the balance sheet, deferred compensation is presented as a reduction of stockholders' equity and is amortized over the vesting period of the applicable options using the graded vesting method. We accrued deferred compensation of $34.0 million during 1999 and $55.5 million during the six months ended June 30, 2000, in connection with stock options granted to employees, representing the difference between the fair values of the common stock, as reevaluated after our initial offering process began, and the exercise price of these options at the date of grant. We expect that we will accrue deferred compensation of $12.3 million in periods subsequent to June 30, 2000, as a result of 2,544,200 options issued to employees since that date. We amortized $3.6 million of deferred compensation during 1999 and $19.8 million of deferred compensation during the six months ended June 30, 2000. Based on options granted through June 30, 2000, we expect to amortize additional deferred compensation of $24.8 million during the 22 24 remainder of 2000 using the accelerated method. We incurred $0.2 million, $0.9 million, and $0.9 million of non-cash charges in 1998, 1999, and during the six months ended June 30, 2000, respectively, in connection with stock, warrants and stock options granted to suppliers and nonemployees in lieu of cash compensation. In connection with consulting services, we have issued warrants to purchase 43,067 shares of common stock at an exercise price of $0.15 per share. The warrants have a variable measurement date and accordingly the unvested portions are revalued at each balance sheet date. The fair value of the warrants is being amortized over the expected life of the warrants and is charged to sales and marketing. We have also issued 640,979 options to nonemployees for services provided to CoSine. The fair value of these options, of which the unvested portions are periodically remeasured using the Black-Scholes model, is being amortized over the related service period and is charged to research and development expense. COST OF GOODS SOLD. Cost of goods sold includes all costs of producing our products, including the cost of outsourced manufacturing, software royalties, warranties, related manufacturing overhead costs, as well as costs of providing our service offerings, including personnel engaged in providing maintenance and consulting to our customers. We have also incurred non-cash charges arising from equity issuances as discussed above. We have outsourced the majority of our manufacturing, repair and supply chain management operations. A significant portion of our cost of goods sold consists of payments to Solectron, SMTC Manufacturing, and Sonic Manufacturing, our contract manufacturers. We conduct manufacturing engineering, final assembly, configuration testing and documentation control at our facility in Redwood City, California. RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses consist primarily of salaries and related personnel costs, fees paid to contractors and outside service providers, laboratory equipment and prototype costs related to the design, development and testing of our products. We have also incurred non-cash charges arising from the issuance of stock options to purchase common stock to members of our technical advisory boards and consultants. We expense our research and development costs as they are incurred. Several components of our research and development effort require significant expenditures, the timing of which can cause significant quarterly variability in our expenses. The number of prototypes required to build and test a complex product such as the IP service delivery platform is large, and this building and testing process occurs over a short period of time. We are devoting substantial resources to the continued development and enhancement of our products. We believe that our research and development is critical to our strategic product development objectives and that to take advantage of our technology and meet the changing requirements of our customers, we will need to fund several development projects simultaneously. Because of these needs we expect that research and development expenses, excluding non-cash charges resulting from the issuance of stock options to employees, will increase in absolute dollars in the future. SALES AND MARKETING EXPENSES. Sales and marketing expenses consist primarily of salaries and related expenses for personnel engaged in marketing, sales and customer evaluations, as well as the costs of customer evaluation units and other promotional and marketing expenses. The complexity of our IP service delivery platform and the networks in which it is installed and integrated require highly trained systems engineers and service and support personnel. We have also incurred non-cash charges arising from equity issuances as discussed above. We expect to hire additional systems engineers and to expand our customer support organization to organize and administer the increasing number of customer evaluations and trials. We expect that sales and marketing expenses, excluding non-cash charges resulting from the issuance of stock 23 25 options to employees, will increase substantially in absolute dollars as we hire additional sales and marketing personnel, initiate additional marketing programs to support the IP service delivery platform, establish additional sales offices and expand existing direct sales offices in the United States and abroad, and engage in more customer evaluations and trials. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses consist primarily of salaries and related expenses for executive, business development, finance and accounting and human resources personnel as well as other corporate expenses, including non-cash charges resulting from the issuance of stock options to employees. We expect general and administrative expenses, excluding stock-based compensation, to increase in absolute dollars as we add personnel and incur additional costs related to the growth of our business and our operation as a public company. We have also incurred non-cash charges arising from equity issuances as discussed above. NET OPERATING LOSS CARRYFORWARDS. At December 31, 1999, we had $25.6 million of federal net operating loss carryforwards and $28.9 million of state net operating loss carryforwards for tax reporting purposes available to offset future taxable income. These net operating loss carryforwards expire at various dates beginning 2005 if they are not used. We have not recognized any benefit from the future use of net operating loss carryforwards for these periods, or for any other periods, since our incorporation. We are not recognizing the potential tax benefits of our net operating loss carryforwards because we do not have sufficient evidence that we will generate adequate profits to use them. RESULTS OF OPERATIONS SIX MONTHS ENDED JUNE 30, 2000 AND 1999 REVENUE. From inception through the year ended December 31, 1999, we were a development stage company and had no revenue. Revenue for the six months ended June 30, 2000, was $11.3 million, of which: - - $9.8 million was from hardware sales; - - $1.4 million was from software sales; and - - $0.1 million was from services. During the six-months ended June 30, 2000, we recognized, as an offset to gross revenue, approximately $3.7 million of non-cash charges related to warrants issued to our initial customers upon receipt of substantial purchase orders from those customers. During the six months ended June 30, 2000, we also deferred recognizing $6.3 million of revenue from hardware and software sales from contracts that allow for immediate invoicing but provide for subsequent customer acceptance, consulting services and post-contract support services. We will recognize this deferred revenue in future periods in accordance with the revenue recognition policy discussed above. COST OF SALES. Cost of Sales for the six months ended June 30, 2000, was $7.3 million, of which: - - $4.8 million represented materials, labor and production overhead; - - $1.5 million represented warranty costs; and - - $0.9 million represented amortization of deferred compensation on stock options granted to employees in manufacturing operations. We expect warranty costs to decline as a percentage of revenue over the next two years. In addition, we anticipate our cost of sales increasing in future periods as our revenues increase. GROSS MARGIN. For the six months ended June 30, 2000, gross margin was $0.3 million. We expect our gross margin to increase in future periods as we achieve economies of scale, and because we do not expect to distribute warrants to future customers for technical, marketing and market-related product development services. Gross margins are highly variable and dependent on many factors, some of which 24 26 are outside our control, such as the demand for our products and the mix of products sold. RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses were $34.1 million for the six months ended June 30, 2000, an increase of $22.6 million or 197% over the comparable period in 1999. The increase resulted from: - - amortization of $10.0 million of non-cash charges resulting from the issuance of stock options to employees and consultants; - - $6.1 million of expenses for additional research and development personnel; - - $1.9 million of prototype development expenses; - - $1.8 million of facilities costs; - - $1.7 million of information technology costs; and - - $1.1 million of equipment and software depreciation. SALES AND MARKETING EXPENSES. Sales and marketing expenses were $16.2 million for the six months ended June 30, 2000, an increase of $14.5 million over the comparable period in 1999. The increase resulted from: - - $5.0 million of expenses for additional sales and marketing personnel; - - $4.6 million of amortization of non-cash charges resulting from the issuance of stock options to employees and consultants; - - $1.6 million of travel, lodging and other travel related expenses; - - $1.0 million of marketing and advertising programs and public relations events; - - $1.0 million in infrastructure and depreciation costs; - - $0.8 million in expenses related to evaluation units; and - - $0.5 million in rent expense and other facilities costs. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses were $8.3 million for the six months ended June 30, 2000, an increase of $6.4 million over the comparable period in 1999. The increase resulted from: - - $4.5 million of amortization of non-cash charges resulting from the issuance of stock options to employees and consultants; - - $1.9 million of expenses for additional general and administrative personnel, facilities and professional services. INTEREST AND OTHER INCOME. Interest and other income was $2.1 million for the six months ended June 30, 2000, an increase of $1.8 million over the comparable period in 1999. The increase was due to larger cash balances available for investing resulting from sales of preferred stock in prior periods. INTEREST EXPENSE. Interest expense was $0.8 million for the six months ended June 30, 2000, an increase of $0.6 million over the comparable period in 1999. The increase resulted from an increase in equipment loans and an increase in interest expense resulting from the issuance of warrants to holders of bridge loans. DEEMED DIVIDEND. During the six months ended June 30, 2000, we sold 625,000 shares of series D redeemable convertible preferred stock at $8.00 per share for which we received proceeds of approximately $5.0 million. At the date of issuance, we believed that the per share price of $8.00 represented the fair value of the preferred stock. After our initial public offering process began, we reevaluated and increased the fair value of our common stock at March 2000. The increase in fair value has resulted in a beneficial conversion feature of $2.5 million, which has been recorded as a deemed dividend to preferred stockholders in 2000. We recorded the deemed dividend at the date of issuance by offsetting charges and credits to stockholders' equity. The preferred stock dividend increased the net loss allocable to common stockholders in the calculation of basic and diluted net loss per common share for the six months ended June 30, 2000. 25 27 Our order backlog as of June 30, 2000, based on orders and billings, was $49.8 million. Our first order was in January 2000. Accordingly, we did not have a backlog at June 30, 1999. YEARS ENDED DECEMBER 31, 1999 AND 1998 RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses were $27.3 million in 1999, an increase of $20.0 million compared to 1998. The increase resulted from: - - $9.9 million of expenses for additional research and development personnel; - - $3.0 million of prototype development expenses; - - $2.8 million of outside engineering services and other; - - $2.2 million of amortization for non-cash charges resulting from the issuance of stock options to employees and consultants; - - $1.1 million of facilities costs; and - - $1.0 million of equipment depreciation. SALES AND MARKETING EXPENSES. Sales and marketing expenses were $6.1 million in 1999, an increase of $5.5 million compared to 1998. The increase resulted from: - - $2.4 million of expenses for additional sales and marketing personnel; - - $1.5 million of amortization of non-cash charges resulting from the issuance of stock options to employees and consultants; - - $1.0 million for marketing programs and public relations events and other; and - - $0.6 million for travel. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses were $5.0 million in 1999, an increase of $3.9 million compared to 1998. The increase resulted from: - - $1.8 million of expenses for additional general and administrative personnel; - - $0.8 million in outside legal and accounting costs and other; - - $0.7 million of amortization for non-cash charges resulting from the issuance of stock options to employees and consultants; and - - $0.6 million of accounting, customer management and manufacturing software installation cost. INTEREST AND OTHER INCOME. Interest and other income was $1.3 million in 1999, an increase of $1.2 million compared to 1998. The increase was due to larger cash balances available for investing resulting from the proceeds of the issuance of preferred stock. INTEREST EXPENSE. Interest expense was $0.6 million in 1999, an increase of $0.3 million compared to 1998. The increase resulted from an increase in equipment loans, which was partially offset by a decrease in the interest expense resulting from the issuance of warrants to the holders of bridge loans. LIQUIDITY AND CAPITAL RESOURCES From incorporation through June 30, 2000, we have financed our operations primarily through the sale of convertible preferred stock for net proceeds of $164.1 million, plus equipment and working capital loans. CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS. At June 30, 2000, cash, cash equivalents and short-term investments were $88.8 million. This compares with $54.6 million at December 31, 1999. The increase from December 31, 1999 resulted from sales of our series E convertible preferred stock in May 2000. Cash, cash equivalents and short-term investments were $6.6 million at December 31, 1998. Most of the increase at December 31, 1999 resulted from the receipt of $79.2 million from sales of preferred stock in March, September and October 1999. OPERATING ACTIVITIES. For the six months ended June 30, 2000, we used $34.5 million in cash for operations, an increase of $22.8 million from the $11.7 million used in the 26 28 comparable period in 1999. The increase resulted from the increase in our net loss from $15.1 million for the six months ended June 30, 1999 to $57.0 million for the six months ended June 30, 2000, offset, in part, by $24.4 million increase in non-cash expense from the issuance of warrants and options and amortization of deferred stock compensation. In 1999, we used $30.8 million in cash for operations, an increase of $25.5 million from the $5.3 million used in 1998. The increase resulted from an increase in our net loss from $9.3 million in 1998 to $37.7 million in 1999. INVESTING ACTIVITIES. For the six months ended June 30, 2000, we used $23.0 million in cash for investing activities, an increase of $20.7 million from the $2.3 million used in the comparable period in 1999. The increase resulted from proceeds of $30.2 million from the sale and maturity of short-term investments during the six months ended June 30, 2000, offset, in part, by $13.4 million of capital equipment purchases and the purchase of $39.8 million of short-term investments. In 1999, we used $41.3 million in cash for investing activities, an increase of $38.3 million from $3.0 million used in 1998. The increase resulted from investments of $34.5 million in short-term securities and the purchase of $6.8 million of capital equipment in 1999, most of which was financed through equipment loans. FINANCING ACTIVITIES. For the six months ended June 30, 2000, we generated $82.1 million in cash from financing activities, an increase of $57.8 million from the $24.3 million generated in the comparable period in 1999. The majority of the increase resulted from proceeds of $75.0 million from the issuance of convertible preferred stock and $7.1 million in proceeds from equipment and working capital loans during the six months ended June 30, 2000, offset, in part, by $1.4 million in principal payments of equipment and working capital loans. In 1999, we generated $85.6 million in cash from financing activities, an increase of $72.0 million from the $13.6 million generated in 1998. The increase resulted from the issuance of convertible preferred stock in 1999. We have used equipment loans to partially finance capital equipment purchases. USE OF CAPITAL RESOURCES. We expect to devote substantial capital resources to continue our research and development efforts, to hire and expand sales, customer service and support and marketing organizations, to increase our marketing programs and to expand our general corporate support activities. We believe that the net proceeds from this offering plus our existing cash balances and equipment loans will be sufficient to meet our operating and capital requirements through the next 12 months. Our capital requirements during 2000 and for the long term will depend on numerous factors, including market acceptance of our products, the resources we devote to developing, marketing, selling and supporting our products, and the timing and extent of establishing international operations. Our capital commitments were approximately $1.0 million at December 31, 1999 and approximately $3.8 million at June 30, 2000. RECENT ACCOUNTING PRONOUNCEMENTS In March 1998, the American Institute of Certified Public Accountants, or AICPA, issued Statement of Position No. 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use". SOP No. 98-1 requires entities to capitalize some costs related to internal-use software once some criteria have been met. We expect that the adoption of SOP No. 98-1 will not have a material impact on our financial position or results of operations. We adopted SOP No. 98-1 effective January 1, 1999. In June 1998, the Financial Accounting Standards Board issued FAS No. 133, "Accounting for Derivative Instruments and Hedging Activities". FAS No. 133 establishes accounting methods for derivative financial instruments and hedging activities related to those instruments, as well as other hedging activities. Because we do not hold any derivative instruments and do not engage in hedging activities, we expect that the adoption of FAS No. 133 will not have a material impact on our financial position or 27 29 results of operations. We adopted FAS No. 133 effective January 1, 1999. In December 1999, the SEC issued Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements". This bulletin summarizes some of the SEC's views in applying generally accepted accounting principles to revenue recognition in financial statements. We believe that our revenue recognition policy complies with the bulletin at June 30, 2000. In March 2000, the Emerging Issues Task Force reached a consensus on Issue 00-2, "Accounting for the Costs of Developing a Web Site". In general, EITF 00-2 states that the costs of developing a web site should be accounted for under provisions of Statement of Position 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use". Although we intend to comply with EITF 00-2, the adoption of EITF 00-2 will not have a significant impact on our financial position, results of operations or cash flows because although we maintain a web site, it is not a significant focus of our business. EITF 00-2 is effective for costs incurred after June 30, 2000. In March 2000, the Financial Accounting Standards Board issued FASB Interpretation No. 44 "Accounting for Certain Transactions Involving Stock Compensation". FIN 44 provides guidance for issues arising in the application of APB Opinion No. 25 "Accounting for Stock Issued to Employees". We believe that our accounting policy for stock issued to employees complies with FIN 44 at June 30, 2000. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK INTEREST RATE SENSITIVITY Our exposure to market risks from changes in interest rates relates primarily to corporate debt securities. We place our investments with high credit quality issuers and, by policy, limit the amount of the credit exposure to any one issuer. Our general policy is to limit the risk of principal loss and ensure the safety of invested funds by limiting market and credit risk. All highly liquid investments with a maturity of less than three months at the date of purchase are considered to be cash equivalents, and all investments with maturities of three months or greater are classified as available-for-sale and considered to be short-term investments. The following table presents the amounts of our cash equivalents and short-term investments that are subject to market risk by range of expected maturity and weighted average interest rates at December 31, 1999. This table does not include money market funds because those funds are not subject to market risk.
MATURING MATURING BETWEEN IN 3 3 MONTHS AND MONTHS 1 YEAR TOTAL -------- ------------ ------- Included in cash and cash equivalents and short-term investments............................................ $7,931 $34,490 $42,421 Weighted average interest rate........................... 6.0% 6.0% 6.0%
EXCHANGE RATE SENSITIVITY We operate primarily in the United States. All of our sales have been made in U.S. dollars; however, a small portion of our operational expenses have not been denominated in U.S. dollars. The effect of changes in foreign currency exchange rates on operating expenses has not been material. In the future, we intend to transact business in various foreign currencies and will be subject to exposure from adverse movements in foreign currency exchange rates. We intend to assess the need to use financial instruments to hedge currency exposures on an ongoing basis. We do not use derivative financial instruments for speculative trading purposes. 28 30 BUSINESS OVERVIEW We develop, market and sell a communications platform designed to enable network service providers to rapidly deliver computer applications and communications services from within their networks. Examples include: - - virtual private networks, which are secure private networks that run on the internet and other communications networks; - - firewalls, which are security programs designed to prevent unwanted network traffic; and - - secure broadband access, which is secure high-speed access to the internet and other communications networks. Our IP service delivery platform consists of three independent elements: our IPSX 9000 processing switch, InVision service management system for network management and InGage customer network management software. Our platform is designed to: - - allow delivery of applications and services simultaneously to thousands of subscribers; - - help address the cost, management complexity and scalability issues of service delivery; and - - reduce the need for equipment on a customer's premises to provide these applications and services. INDUSTRY BACKGROUND Data networks, including the internet, have rapidly evolved to become critical for the communications needs of many businesses and consumers. The explosive growth in the number of users and applications has created an enormous need for communications bandwidth. Numerous service providers have emerged to offer high-speed connectivity services to businesses and consumers. These service providers are building high-capacity networks using the latest broadband access, switching and routing products from both traditional and emerging communications equipment vendors. As new entrants in the service provider market emerge, the delivery of high-speed connectivity is becoming intensely competitive. This competition is making it difficult for service providers to differentiate their service offerings on price alone. As businesses have become more dependent on the internet and other data networks, they are increasingly seeking other communications services in addition to high-speed connectivity. To enable these services, a secure and reliable networking environment is required. The internet, however, suffers from an inherent lack of security and dependability, which businesses have struggled to overcome by using technologies installed on customer premises equipment, or CPE. These technologies include firewalls, computer virus detection, intrusion detection, which is the detection of unauthorized network access, and encryption, which is the coding of data for security purposes. Businesses use additional CPE as more services are needed. This equipment can be costly to install and maintain, requiring large numbers of expensive networking personnel to manage. We believe that most businesses will have difficulty implementing these new technologies and that many businesses will increasingly seek to outsource these activities. Network service providers have begun to provide management of CPE to address this demand and achieve three important business objectives: - - attracting subscribers through differentiated services that can be layered on top of basic high-speed connectivity services; - - increasing revenue from business subscribers who are demanding additional services; and - - reducing subscriber turnover, because customers must consider the total cost of replacing multiple services and to evaluate the risk of moving critical business services to a new service provider. 29 31 Although network service providers have started to offer additional services through the CPE-based approach, this approach is subject to a number of limitations. THE PROBLEMS OF A CPE-BASED APPROACH The following diagram illustrates a typical CPE-based model for a single corporate customer linked by encrypted connections dedicated to individual sites: [DIAGRAM] This diagram contains 9 building icons laid out in a circle. The icons represent customer sites, and they are connected to each other by lines representing CPE-based encrypted connections, which means customer premises equipment that includes coded data for security purposes. Each customer site requires multiple pieces of on-site equipment provided by numerous vendors. This equipment enables various functions, including routing, firewall protection and detection of unauthorized intrusion. We believe that the CPE-based model creates the following challenges that constrain the delivery of services for both network service providers as well as their customers. HIGH COST TO INSTALL AND MANAGE. Installing and managing equipment located at dispersed customer sites can result in high costs for both service providers and their customers. Each new customer site or service requires new CPE, or the modification of existing CPE, as well as on-site service calls. This approach is costly and time consuming and often leads to delays in establishing service. Both service providers and their subscribers can incur significant maintenance and monitoring expenses for the CPE and for expensive personnel needed to manage these complex networks. DIFFICULT TO EXPAND. We believe that the CPE-based service delivery model is difficult to expand because on-site installation is required for each new site or service. Implementation challenges increase significantly as new services and devices are added, since each new network site must be connected to all existing network sites. LIMITED NETWORK SERVICES. In a CPE-based model, a subscriber's data is typically encrypted before entering the service provider's network. This encryption limits the service provider to simple data transmission because additional services must be implemented before encryption. DIFFICULT TO INTEGRATE. CPE-based services often involve the integration of hardware and software from a variety of vendors. We believe that integrating and ensuring compatibility among diverse hardware and software is a significant challenge. INCONSISTENT QUALITY OF SERVICE. Service providers may have difficulty offering consistent quality of service across all of these disparate network devices and implementing and supporting agreed levels of service. THE NEED FOR A NEW NETWORK-BASED SERVICE DELIVERY MODEL We believe that the problems with CPE-based service delivery models have created a significant need for service providers to offer network-based services that operate on equipment located within the service providers' networks. Delivering services in this manner requires the creation of a new and more intelligent network, through which services can be delivered quickly and cost- effectively. It also must serve thousands of customer sites from within a service provider's network, without the need for equipment to be installed or managed on customers' premises. We believe that this network must also be based on an open architecture, which will support network standards and allow for the implementation of third-party applications. 30 32 LIMITATIONS OF EXISTING NETWORK-BASED APPROACHES RELOCATION OF CUSTOMER PREMISES EQUIPMENT. While reducing the installation and management costs resulting from broad geographic dispersion of customer premises equipment, relocating this equipment in the service providers' facilities does not fully address the remaining problems of CPE-based approaches. For example, this approach introduces costs incurred in requiring large numbers of devices to be located in the already constrained space of the service providers' facilities. CARRIER SWITCHES AND ROUTERS. Switches and routers used by service providers are specifically designed to forward packets of data through networks. We believe that this equipment lacks the flexibility and general-purpose computing capacity necessary to directly provide a wide range of services. LARGE GENERAL-PURPOSE COMPUTERS. Large general-purpose computers, commonly used in computer data centers, do not have routing capabilities or network access interfaces and are not designed specifically for data forwarding. We believe that these computers do not have the network management and operational systems required to meet stringent service provider standards. NEED FOR AN OPEN ARCHITECTURE Most of today's network equipment is designed around proprietary architectures and operating systems. This equipment has not been designed to support the use of third-party applications in the network. Since network equipment vendors generally do not maintain core competencies in all application technologies, we believe that service providers need a system that employs an open architecture, facilitating the development of new applications and the adaptation of existing applications by third parties, for use on that device. An open architecture also allows service providers to rapidly change services and implement new applications without having to replace existing equipment. We believe there is substantial demand for systems that enable the delivery of network-based services and applications in a scalable and reliable manner. THE COSINE COMMUNICATIONS SOLUTION Our IP service delivery platform provides a solution that is designed to allow service providers to build intelligent data networks and deliver a variety of third-party applications to their end-users. Intelligent data networks are those designed to deliver applications from within a network without the need for specialized customer premises equipment. Each IPSX 9000 is designed to deliver applications to thousands of subscribers simultaneously. The following diagram illustrates an intelligent data network using the CoSine solution for a single organization with multiple sites. [DIAGRAM] This diagram contains three images of the CoSine service processing switchbox, called the CoSine IPSX 9000. The boxes are labeled Seattle IPSX 9000, San Francisco IPSX 9000 and New York IPSX 9000. An icon labeled InVision lies at the center of the diagram. The three IPSX 9000s are connected by lines to each other, and each is also connected to three building icons. Our IP service delivery platform consists of three independent key elements: our IPSX 9000 service processing switch, InVision service management system and InGage customer network management software. We began shipping the IPSX 9000 and InVision in the first quarter of 2000, and we have made InGage generally available in the third quarter of 2000. 31 33 We believe our products will offer the following benefits for service providers and their customers: - - the ability for service providers to increase revenue by delivering a variety of services to their customers; - - faster availability of new services for delivery by service providers; - - reduced operating expenses for service providers through automated delivery, customer activation, centralized billing and fewer on-site service calls; - - the ability of service providers to attract new customers and reduce customer turnover; - - the ability for subscribers to monitor and control services; - - reliability and scalability; - - software-based network management capabilities for service providers and their customers; - - a flexible open architecture that can support third-party applications and services; and - - the ability to support and operate with existing network standards and applications. Our IP service delivery platform is designed for a wide range of service providers that potentially includes traditional local, regional, national and international communications carriers, IP carriers and ISPs. STRATEGY Our objective is to become the leading supplier of network systems designed to enable the delivery of applications and services from within a service provider's network. The key elements of our strategy are: - - USE OUR ARCHITECTURE TO OFFER THIRD-PARTY SERVICES AND APPLICATIONS. The open architecture approach of the IPSX 9000 enables us to offer service providers the capability of using third-party software technologies. We currently offer several of these technologies from a number of software providers. Our goal is to continue developing relationships with additional third-party software providers to expand our portfolio of services. - - ESTABLISH OUR PLATFORM AS THE LEADING SOLUTION IN KEY MARKETS. We focus on achieving commercial acceptance of our products by customers representing various types of service providers to allow us to demonstrate and validate distinct applications. We believe that early success with these customers will better enable us to market our products to other similar service providers, which will enable us to establish our products as their primary service delivery platform. - - WORK CLOSELY WITH CUSTOMERS TO FACILITATE NEW SERVICES. We work closely with our customers to develop features to meet their complex and distinct needs. We believe that our customers' input and cooperation are essential to the design of our platform and its use in their networks. - - EXPAND SALES, DISTRIBUTION, SUPPORT AND SERVICE CAPABILITIES. We intend to rapidly expand our domestic and international sales and distribution capabilities. We have built a team of support and service professionals to assist our customers with the design, implementation and efficient operation of our platform within their networks. - - DEVELOP NEW TECHNOLOGIES AND PRODUCTS. We have developed a modular and scalable hardware and software architecture that we believe will allow us to rapidly develop future products and enhancements. We intend to continue our significant investment in research and development to create new technologies and products. - - PURSUE STRATEGIC ALLIANCES AND ACQUISITIONS. We intend to expand our products and services through selected acquisitions and alliances. These may include acquisitions of complementary products, technologies and businesses that enhance our technology leadership and product breadth. We also believe that working with companies that provide complementary products or services for 32 34 intelligent data networks will assist us in bringing greater value to our customers. PRODUCTS AND TECHNOLOGY IP SERVICE DELIVERY PLATFORM In January 2000, we released our IPSX 9000 service processing switch and InVision service management system for general availability. We released our InGage customer network management software for customer trials in the second quarter of 2000, and we have made InGage generally available in the third quarter of 2000. Our products are offered in various configurations and combinations depending on the size of the service provider and the specific service offerings. The IPSX 9000 processing switch comes with the operating system software already loaded. A network service provider may buy the IPSX 9000 processing switch with no additional software applications. However, the IPSX 9000 will often be ordered with the InVision service management system. The InGage software can be purchased at a later date as the service providers' customers request network management capability. Additional ISPX 9000 processing switches may also be purchased at a later date. The operating system software is loaded into the IPSX 9000 switch at the time of manufacture. As the product is fully functional at the time of shipment, no significant installation services are necessary once the product has been received at the customer's site. The list price for our IP service delivery platform ranges from $73,000 to several million dollars, depending on the hardware and software configuration. IPSX 9000 SERVICE PROCESSING SWITCH Our IPSX 9000 service processing switch combines the functionality of high-performance networking hardware, distributed computing hardware and operating system software. It is designed to be installed in a service provider's facility and is the product from which services are delivered. Our platform is based on a computing architecture that allows distributed computing to occur simultaneously within a multi-processor system. This approach combines the computing power of multiple computer processors, or processing engines, to deliver the performance of a more powerful computing system. This approach, which is designed to be scalable, allows additional processing resources to be added as they are needed. Our architecture enables applications to be distributed among available processing resources. These processing resources are located within processing engines on printed circuit board assemblies, which we refer to as blades. IPSX HARDWARE ARCHITECTURE. The IPSX hardware architecture involves two key design elements, our chassis design and blade design, that create a modular and flexible platform. Our IPSX 9000 is shown below. [DIAGRAM] This diagram contains an image of the CoSine service processing switch box, called the IPSX 9000 box. The diagram indicates that the IPSX 9000 contains 13 front main system blade slots and 13 rear main system blade slots. Our chassis design provides a total of 26 slots for system blades, 13 in the front and 13 in the rear. This chassis supports four types of system blades: - - access blades -- interfaces to subscriber networks; - - trunk blades -- interfaces to the carrier backbone; - - processing blades -- multiple processing engines for service applications; and - - control blades -- processing for shelf management and administrative functions. 33 35 Access, trunk and control blades can also support multiple processing engines for the delivery of services. We offer the following blades for the IPSX 9000: ACCESS BLADES 2 Port DS-3 Channelized 2 Port DS-3 UnChannelized 3 Port E3 Channelized 2 Port E3 UnChannelized 1 Port OC-3c/STM-1 ATM 1 Port Fast Ethernet TRUNK BLADES 2 Port DS-3 UnChannelized 2 Port E3 UnChannelized 1 Port OC-3c/STM-1 ATM 1 Port OC-3c/STM-1 POS 1 Port Fast Ethernet PROCESSOR BLADES 4 Processor Service Blade CONTROL BLADES Control Blade with Fast Ethernet IPNOS SOFTWARE. Our operating system software, or IPNOS, is designed to provide: - - real-time processing, which allows the IPSX 9000 to perform its functions without significant delay; - - an object-oriented environment, which provides a simple framework for multiple instances of the same application to operate securely and independently; - - fault-tolerance, with the goal that if any component fails, a backup will immediately take its place with no loss of service; and - - distributed computing, which spreads applications and data over multiple processors at the same time. IPNOS combines the capabilities of real-time operating system software typically found in networking infrastructure products with the capabilities of large scale general-purpose computing operating system software typically found in large scale general-purpose computers and traditional servers. IPNOS is a distributed operating system designed to allow applications to easily take advantage of our processing capabilities. IPNOS is designed to support high-performance routing and data transmission. It also provides an application programming interface, or API, which is designed to allow applications to be adapted and transferred from traditional general-purpose operating systems, such as UNIX or Windows. Finally, IPNOS provides a framework for secure system communications. INVISION SERVICE MANAGEMENT SYSTEM Our InVision service management system is a scalable network management software product that is designed to allow service providers to manage our IPSX 9000 platforms and the services being offered to their customers. It is designed to be installed in the service provider's network operations center and provides a broad range of management services for each application. It also enables service providers to develop templates and tools to facilitate the process of delivering new services. InVision is designed for scalability to meet the needs of the largest service provider networks and conforms to telecom industry network management standards. The InVision system runs on the Sun Solaris and Microsoft Windows NT operating systems. InVision also is designed to operate with network management systems from Hewlett-Packard Company, Concord Communications, Inc., VERITAS Software Corporation and Micromuse Inc. INGAGE CUSTOMER NETWORK MANAGEMENT InGage is designed to be a scalable network management software product, allowing subscribers to securely manage their services through an interface that can be securely accessed through the internet. We expect InGage to enable a subscriber to remotely manage services without affecting the services of any other subscriber and monitor the usage of various services. We expect InGage to provide subscribers with the ability to activate various service capabilities directly without contacting the service provider. We have made InGage, an optional enhancement to the IPSX 9000 and InVision, generally available in the third quarter of 2000. 34 36 IPSX SERVICE APPLICATIONS A service provider can deliver a variety of service applications running on our platform based on individual subscriber needs. Our IP service delivery platform is designed to enable each service to be available independently and privately for each enterprise subscriber. Although we license many of our service applications from application software vendors, we have also developed several of our own enterprise subscriber service applications. We plan to continue to add new services developed internally as well as by third parties. The table below shows service applications available for use on our IP service delivery platform.
- ---------------------------------------------------------------------------------------------- THIRD-PARTY-DEVELOPED APPLICATION CATEGORY COSINE-DEVELOPED (LICENSOR) - ---------------------------------------------------------------------------------------------- Access Protocol Cisco HDLC Frame Relay (Harris and Ethernet VLAN -- 802.1Q Jeffries) Packet-Over-SONET ATM (Trillium) PPP (RouterWare) - ---------------------------------------------------------------------------------------------- Virtual Routing Static Routing RIP V1/V2 (Epilog) OSPF (Epilog) BGP-4 (Epilog) - ---------------------------------------------------------------------------------------------- Security Network Address Translation Proxy Firewall (Network Packet Filter Associates) Encryption IPSec (SSH) - ---------------------------------------------------------------------------------------------- Broadband and Dial PPTP Aggregation PPPoATM - ---------------------------------------------------------------------------------------------- Emulation FRoIPSec Virtual FR Switch - ----------------------------------------------------------------------------------------------
35 37 SERVICE OFFERING EXAMPLES Our IP services delivery platform can provide the following network applications: - - enterprise virtual private network, or VPN, service; - - wholesale VPN service; - - secure broadband service; - - combined traditional and IP networking service; and - - frame relay transported over IP service. ENTERPRISE VIRTUAL PRIVATE NETWORK SERVICE [DIAGRAM] This diagram contains a cloud icon labeled Enterprise ISP, that means enterprise internet service provider. The cloud contains one CoSine service processing switch box labeled IPSX 9000 San Francisco and another box labeled IPSX 9000 New York. On the right and left sides of the cloud icon, there are three boxes labeled customers. Solid lines show the point to point connections between each of the IPSX 9000s and the customers. Broken lines show the Encrypted IP Traffic, or internet protocol traffic that contains coded data for security purposes, that travels between the IPSX 9000s. Our platform is designed to enable service providers with IP backbone networks to offer their enterprise subscribers virtual private network, or VPN, services without the need for costly customer premises equipment. Using traditional connections, enterprise subscribers can access our IP service delivery platform located at their service provider's closest facility. Each IPSX 9000 acts as a private aggregation point for these connections and can provide secure routing services between all of a customer's sites within a virtual network. Service providers can install our platform at the edge of their networks to reduce the distance that must be traversed using costly traditional connections from each enterprise subscriber to the nearest service provider facility. Once the traffic reaches the IPSX 9000, our platform can provide encryption and authentication services. The traffic can then be securely transmitted less expensively over public IP networks or the internet. 36 38 WHOLESALE VPN SERVICE [DIAGRAM] At the center of this diagram there is a cloud icon labeled Wholesale ISP, which provides wholesale virtual private networks and other services to regional internet service providers. The cloud icon contains one CoSine service processing switch box labeled IPSX 9000 San Francisco and one box labeled IPSX 9000 New York. On the right and left sides of the cloud icon, there are three boxes labeled customers. Dotted lines show the Encrypted IP Traffic, which means internet protocol traffic that contains coded data for security purposes, that travels from customers to each of the IPSX 9000 boxes. Small clouds labeled Multiple Regional ISPs, or internet service providers, intercept each of the dotted lines. Broken lines show the Encrypted IP Traffic that travels between the IPSX 9000 boxes. A wholesale ISP, which provides wholesale VPN and other services to regional ISPs, can use our IP service delivery platform to offer these regional ISPs services for resale to their subscribers. ISPs using CPE-based encryption cannot easily offer network-based services because traffic is encrypted on the customer's premises before being sent to the network. Once encrypted by the customer, the service provider cannot interpret the contents of the packet and, as a result, cannot layer on any services. When CPE-based encrypted traffic from a customer site is directed by the regional ISP to our IPSX 9000 within the wholesale ISP's network, the wholesale ISP can decrypt the traffic and offer services on behalf of regional ISPs. The wholesale ISP can then re-encrypt the traffic and forward it to its next destination. This allows the regional ISP to offer a wide range of services to its customers from the wholesale ISP's network in a cost-effective, scalable manner. 37 39 SECURE BROADBAND SERVICE [DIAGRAM] This diagram contains a CoSine internet processing switch box labeled IPSX 9000 connected to 9 house icons positioned to the left of the box. Each of the nine house icons represents a telecommuter, which is a customer that accesses the virtual network. Each telecommuter is connected to the IPSX 9000 box by DSL, or digital subscriber line, connections. On the right side of the diagram, there is a cloud image labeled Frame Relay, ATM or IP, which means frame relay, asynchronous transfer mode or internet protocol, that connects to three images labeled ISPs, or internet service providers. Broadband local access carriers installing digital subscriber line, or DSL, cable modem or broadband wireless data services control consumer and business access to the internet and other data networks. These carriers are very often in the position of providing wholesale broadband access to their service provider customers. We believe that wholesale broadband connectivity is becoming a commodity, and these data carriers are seeking ways to lower costs of providing this connectivity and to increase revenues through services. Our platform is designed to enable broadband data carriers to provide traffic aggregation and service switching. Additionally, our platform potentially lowers the cost of operation for carriers by allowing them to transport the aggregated traffic over IP networks instead of using traditional connections to reach their wholesale customers. Our platform also gives data carriers and their service provider customers several new revenue-generating opportunities. 38 40 COMBINED TRADITIONAL AND IP NETWORKING SERVICE [DIAGRAM] This diagram contains a CoSine service processing switch box labeled IPSX 9000 at the center. To the left of the CoSine IPSX 9000 box there are two lines. The top line is connected to an icon labeled New Remote Office, and the bottom line is connected to an icon labeled Telecommuter, which is a customer that accesses the virtual network. Each line passes through another CoSine IPSX 9000 box that connects back to the center box. To the right of the center IPSX 9000 box there are three lines. Each line is connected to an icon labeled a Remote Office and ends at the center box. Many traditional domestic and international carriers have invested in frame relay and asynchronous transfer mode, or ATM, network equipment. Frame relay is a data communications service which puts data into variable-sized units for transmission, while ATM is a communications switching technology which organizes data into standard-sized units for transmission. We believe that these networks and the enterprises using them will continue to grow. Large enterprise customers using these networks generally cannot afford to quickly migrate their entire organization to a new IP-based network. Our platform is designed to enable traditional service providers to use their frame relay or ATM networks to emulate IP networks and offer network-based services. We believe that this will enable service providers to pursue revenue opportunities from new services using their significant investments in equipment. 39 41 FRAME RELAY TRANSPORTED OVER IP [DIAGRAM] This diagram shows the connection between a Remote Office icon and a Headquarters icon. The Remote Office icon is connected to a CoSine service processing switch box, called an IPSX 9000 box, that connects to another CoSine IPSX 9000 box, that then connects to Headquarters. Between the IPSX 9000 boxes is a network cloud image through which the encrypted frame relay data is transported over the IP, or internet protocol. We believe that IP service providers will sometimes need to offer services enabling frame relay traffic to be transported over IP. We believe that these service providers are likely to continue to have customers that need to use traditional services to transport many traditional protocols, such as Novell, Inc.'s IPX. Although we believe that these services will not grow as quickly as next generation services, Frame relay connections are likely to continue to grow with the volume of traffic from large enterprises. Our IPSX 9000 is designed to permit frame relay traffic to be carried without requiring an IP-based carrier to invest in any frame relay equipment. 40 42 CUSTOMERS Through August 11, 2000, we have received orders for our products and services from Qwest Communications, Nissho Electronics, Internet Initiative Japan, BroadBand Office, AduroNet, Telia, Telenordia and American MetroComm. Although we have received a purchase order from American MetroComm, it is contingent on American MetroComm's receipt of financing, which has not yet been obtained, and we understand that American MetroComm has sought protection under Chapter 11 of the United States federal bankruptcy code. There can be no assurance that American MetroComm will purchase the products ordered. SALES AND MARKETING We sell our products primarily through our direct sales organization, which we intend to complement with resellers that target specific countries and international partners. At August 11, 2000, we had 69 people in our sales and marketing organization. DIRECT SALES Our North American direct sales organization is divided into western, central, and eastern regions and concentrates on network service providers offering IP-based services. Territory sales managers cover specified geographies, and account managers focus on large individual customers. Both types of sales managers work with our global sales and support organization systems engineers to provide customers with network design and buildout proposals. Sales and account managers are directed by regional vice presidents in the western, central and eastern regions who report directly to the vice president of worldwide sales. As part of our direct selling model, we use our field sales, engineering, and executive personnel to establish multiple contacts within a potential customer's business organization. We believe that maintaining ongoing customer relationships with key individuals in a customer's engineering, operations, marketing and executive departments is important to our success. INTERNATIONAL SALES AND RESELLERS We believe that to effectively market our products in other countries, we need to use local sales organizations that understand the business and network environment in their countries. We expect that the international sales organizations and resellers that we are selecting will enhance our ability to sell our products in complex international environments and provide high quality support for our foreign customers. CUSTOMER SERVICE AND SUPPORT Customer service and support play a key role in ensuring our customers' success in using the IP services delivery platform. The goal of our service organization is to enable service providers to generate sustainable new revenues in a short period of time. We seek to achieve this goal by providing a comprehensive set of service offerings ranging from professional services targeted at network architecture, design, and installation to product support. Our support offerings include hardware and software warranty services, access to our technical assistance center, on-site network engineers, and technical information and assistance. Our professional services include consulting offerings designed to support service providers from initial planning through implementation and ongoing operation. Our network engineers and consultants are skilled in network design and architecture, virtual private network technologies, IP security, IP routing protocols and network performance and availability. At August 11, 2000, we had 45 employees in customer service and support, with the majority located at our Redwood City, California corporate headquarters. RESEARCH AND DEVELOPMENT We have a team of skilled engineers with extensive experience in designing: - scalable internet software; 41 43 - high performance computing platforms; - application specific integrated circuits with advanced packaging technologies; - network communications protocols; - internet security protocols; - internet firewalls; - managed network services; - operating system design; and - network management software. These individuals have come from data networking, computer systems, computer security and telecommunications companies. Our research and development group is organized into teams that work on multiple generations of products. We seek to offer our customers new products as they are needed, as well as enhancements to existing products. We plan to enhance our core technology and develop additional applications for our IP service delivery platform. We are dedicating substantial resources to the development of new features for the IPSX 9000. We are in the design phase of these features and expect a minimum nine to 12 month development cycle. Our research and development efforts are driven by the availability of new technology, market demand and customer feedback. We have invested significant time and resources in creating a structured process for undertaking all product development projects. Following an assessment of market demand, our research and development team develops a set of functional product specifications based on input from the product management, sales, and service organizations. This process is designed to provide a framework for defining and addressing the steps, tasks, and activities required to bring product concepts and development projects to market. We work closely with our customers to determine the features and functionality they want from our products. We use their feedback to define and prioritize our product development efforts. To further the development of additional applications for our IP service delivery platform, we intend to continue working with current and potential customers to develop products that address the needs of the market. At August 11, 2000, we had 223 employees in our research and development group. Our research and development expenses totaled $34.3 million for the six months ended June 30, 2000, $27.3 million in 1999, $7.4 million in 1998, and $87,000 for the period from incorporation to December 31, 1997. MANUFACTURING We outsource manufacturing to three contract manufacturers: Solectron, SMTC Manufacturing and Sonic Manufacturing. These suppliers procure material and assemble and test all printed circuit boards and chassis assemblies used in our products. These printed circuit boards and chassis assemblies are delivered to our Redwood City, California facilities, where we perform the final testing, packaging and shipping. Our manufacturers produce our products within 30 miles of our Redwood City facilities. All manufacturing is done on a purchase order basis. We anticipate that Solectron will provide additional manufacturing services through systems integration, test and direct shipment to our customers by the end of 2000. We believe that our use of outsourced manufacturing minimizes the space and inventory investment needed for manufacturing operations and enables us to: - - adjust manufacturing volumes quickly to meet changes in customer demand; - - focus on production planning and key commodity management; and - - take advantage of the purchasing power of our contract manufacturers. At August 11, 2000, we had 29 employees in our manufacturing operations group. 42 44 COMPETITION The networking equipment business is extremely competitive, with numerous vendors offering products that enhance the functionality of a service provider's network. Because our IP service delivery platform enables a broad suite of services, our capabilities place us in direct competition with a variety of networking equipment vendors who can offer specific products addressing these customer needs. In specific service areas, our competitors include Alcatel, Cisco, Lucent, Nortel, Siemens and Spring Tide which was recently acquired by Lucent Technologies, Inc. Our competitors market and sell products offering virtual private network capabilities and firewall solutions. These competitors and other new entrants are developing new infrastructure solutions for use within a service provider's network. We also compete with companies that provide traditional enterprise products because our IP service delivery platform may reduce the need for these products. These vendors include Check Point Software Technologies, Ltd. and AXENT Technologies, Inc. for firewalls, and VPNet Technologies, Inc. and RedCreek Communications, Inc. for virtual private network encryption. Although we believe no single competitor is dominant in the market, we believe our single largest competitor is Nortel, which produces the Shasta Network application. Nortel has significant market penetration and sales strength. Many of these companies, particularly the large public companies, have substantially greater financial, marketing and development resources. Many of them have existing relationships with network service providers, which will make it more difficult for us to sell our products to those customers. Some competitors may seek to use intellectual property rights to limit our ability to compete. We believe that the principal methods of competition in these markets are product performance, reliability, expandability and the ability of a product to deliver cost-effective results. We believe that to be competitive in these markets, we must deliver products that: - - provide extremely high network reliability; - - provide high performance capabilities; - - scale easily and efficiently with minimum disruption to the network; - - operate with existing network designs and equipment vendors; - - reduce the complexity of the network by decreasing the need for multiple layers of equipment; - - provide a cost-effective solution for service providers; and - - are supported by responsive customer service and support. We believe that positive factors pertaining to our competitive position include our technology, the expertise of our research and development personnel, our service and support organization and our intellectual property rights. We believe that negative factors pertaining to our competitive position include our relative newness in the market and the fact that some of our competitors have large financial resources available to promote sales of their products and to develop products more directly competitive with ours. INTELLECTUAL PROPERTY Our IPNOS software, InVision service management system and InGage customer network management system were developed internally and are protected by United States and foreign copyright laws. Our IP service delivery platform system architecture and hardware were developed internally, and we own all rights to the core interfaces and protocols between subsystems. Although we rely on copyright, trade secret and trademark law to protect our intellectual property, we believe that the technological and creative skills of our personnel, new product developments and frequent product enhancements are essential to maintain our technology leadership. 43 45 We license software from network software application companies for integration into our IP service delivery platform. These licenses are terminable after a specified period or upon the occurrence of specified events. If one or more of these licenses is terminated, we may need to locate and incorporate alternative software providing comparable services to the customer. Our success will depend upon our ability to obtain necessary intellectual property rights and protect our intellectual rights. We cannot be certain that we will be able to obtain the necessary intellectual property rights or that other parties will not contest our intellectual property rights. LEGAL PROCEEDINGS Except as described below, we are not subject to any material legal proceedings. On June 6, 2000, Ericsson Inc. filed a complaint against us and five of our employees in the Superior Court of Wake County in North Carolina. The complaint alleged that we misappropriated trade secrets known to the five employees who had recently left Ericsson's employ and that we induced the employees to breach their contractual obligations to Ericsson. The complaint seeks injunctive relief and unspecified monetary damages, as well as punitive and treble damages. On June 16, 2000, the Court entered a modified temporary restraining order that prohibits CoSine from: - - allowing the CoSine employees formerly employed by Ericsson to work on some projects involving multi protocol label switching and virtual private networks; - - soliciting Ericsson employees to leave Ericsson; and - - using Ericsson's trade secrets and confidential information. Subsequent to a hearing on July 13, 2000, we signed a settlement terms sheet, under which we have agreed not to solicit the employment of any of Ericsson's employees. Under the agreement, we do not anticipate that we will incur financial liability. EMPLOYEES At August 11, 2000, we had 428 full-time employees, 223 of whom were engaged in research and development, 69 in sales and marketing, 45 in customer support, 62 in general corporate, finance and administration, and 29 in manufacturing. None of our employees is represented by a labor union. None of our officers or key employees is bound by an employment agreement for any specific term. We have not experienced any work stoppages, and we consider our relations with our employees to be good. FACILITIES We lease approximately 131,000 square feet located in San Carlos, California and Redwood City, California under leases which expire in July 2001, August 2002 and December 2011. Although we believe that our facilities are adequate to meet our current requirements, we expect that by the end of 2000 we will need additional space to accommodate our growth. 44 46 MANAGEMENT EXECUTIVE OFFICERS AND DIRECTORS The table below provides information about our executive officers and directors through August 22, 2000.
NAME AGE POSITION ---- --- -------- Dean E. G. Hamilton.... 38 President, Chief Executive Officer and Director Steve Goggiano......... 47 Executive Vice President and Chief Operating Officer Craig B. Collins....... 45 Chief Financial Officer Bill Ferone............ 56 Executive Vice President, Global Services and Support Lianghwa Jou........... 40 Executive Vice President and Chief Technology Officer Michael Nielsen........ 39 Senior Vice President of Engineering Larry Jackson.......... 37 Vice President of Worldwide Sales Vinton G. Cerf......... 57 Director Donald Green........... 69 Director Glenn Hartman.......... 43 Director R. David Spreng........ 38 Director Charles J. (Jay) 59 Director Abbe.................
Dean E. G. Hamilton has served as president, chief executive officer and has been a director of CoSine since founding CoSine in April 1997. From August 1996 to November 1997, Mr. Hamilton was the general manager of the carrier signaling infrastructure business unit at Ascend Communications, Inc., a telecommunications company. From April 1995 to August 1996, Mr. Hamilton was co-founder, chief executive officer, and president of Subspace Communications, a telecommunications company, which was acquired by Ascend. Steve Goggiano has served as chief operating officer since joining CoSine in December 1999. Before joining CoSine, Mr. Goggiano held various positions at SGI, formerly known as Silicon Graphics, Inc., a provider of computing systems and software, from 1989 to 1999. These positions included senior vice president/general manager of SGI's server and supercomputer division, and senior vice president of worldwide manufacturing and customer service. Mr. Goggiano holds a B.S. in business from San Jose State University. Craig B. Collins has served as chief financial officer since joining CoSine in May 2000 and served as secretary during May 2000. From February 2000 to May 2000, Mr. Collins was vice president of corporate finance and strategic planning at JDS Uniphase, a provider of fiberoptic components and, from September 1997 to February 2000, he was vice president and chief financial officer of Optical Coating Laboratory, Inc., which was acquired by JDS Uniphase in February 2000. From December 1993 to June 1996, Mr. Collins was senior vice president of finance and chief financial officer at Nestle Beverage Co. Mr. Collins holds a B.B.A. in quantitative methods and an M.S. in public and business administration from the University of Oregon. Bill Ferone has served as the executive vice president of global services and support since joining CoSine in July 1999. Before joining CoSine, Mr. Ferone was senior vice president of service at Nortel Networks from April 1998 to July 1999. He served as vice president and later as senior vice president of customer service at Amdahl Corporation, a wholly-owned subsidiary of Fujitsu Limited that is a provider of integrated computing services, from January 1991 to April 1998. Mr. Ferone holds a B.S. in business from the University of Cincinnati. Lianghwa Jou is a co-founder of CoSine and has served as chief technology officer since November 1999 and served as the vice president of engineering from November 1997 through October 1999. Mr. Jou worked as a director of engineering at Ascend Communications from July 1996 to September 45 47 1997. From March 1995 through June 1996, Mr. Jou was the vice president of engineering and a co-founder of Subspace Communications. He holds a B.S.E.E. from National Chiao Tung University and an M.S. in computer science from Indiana University. Michael Nielsen has served as senior vice president of engineering since joining CoSine in October 1999. From July 1992 to September 1999, Mr. Nielsen held various positions at SGI, formerly known as Silicon Graphics, Inc., most recently as vice president of engineering for the workstation division. Mr. Nielsen holds a B.S., an M.S. and a Ph.D. in electrical engineering from Stanford University. Larry Jackson has served as vice president of sales since joining CoSine in June 1998. From January 1997 to March 1998, Mr. Jackson served as vice president of sales for Europe, the Middle East and Africa, and before that as vice president of sales for Japan and the Pacific Rim, at Ascend Communications. Mr. Jackson holds a B.S. in computer science from the University of California, Santa Barbara. Charles J. Abbe has served as a director of CoSine since June 2000. Mr. Abbe has served as president and chief operating officer of JDS Uniphase Corporation, a designer, developer and manufacturer of fiber optic products, since April 2000, following the merger of Optical Coating Laboratory, Inc. with JDS Uniphase in February of the same year. Mr. Abbe served as Optical Coating Laboratory's president and chief executive officer from April 1998 to March 2000 and as its vice president and general manager for North America and Asia from April 1996 to April 1998. From 1991 to 1996, Mr. Abbe held various positions with Raychem Corporation, a materials science company, including vice president of strategic planning, vice president and general manager of wire and cable, and senior vice president, electronics sector. Mr. Abbe is also a director of True Time Inc., a designer and manufacturer of precision time and frequency products. Mr. Abbe holds a B.S. and an M.S. in chemical engineering from Cornell University and an M.B.A. from Stanford University. Vinton G. Cerf has served as a director of CoSine since April 2000. Dr. Cerf has served as the senior vice president for internet architecture and technology for MCI WorldCom Corporation, a telecommunications company, since September 1998. From January 1996 to September 1998, Dr. Cerf was the senior vice president for internet architecture and engineering at MCI Communications Corporation, a telecommunications company. Dr. Cerf was senior vice president for data architecture at MCI Telecommunications Corporation, a telecommunications company, from February 1994 to December 1995. Dr. Cerf is also a director of Avanex Corporation, a supplier of fiber optic-based products, and Nuance Communications, Inc., a speech recognition software company. Dr. Cerf holds a B.S. in mathematics from Stanford University and M.S. and Ph.D. degrees in computer science from the University of California, Los Angeles. Donald Green has served as a director of CoSine since June 1999. Mr. Green was a co-founder of Advanced Fibre Communications, Inc., a provider of multi-service access solutions for the telecommunications industry, and has served as its chairman of the board since May 1999, and served as chief executive officer from May 1992 to May 1999. Mr. Green is also a director of TCSI Corporation, a software company. Mr. Green holds a higher national certificate in electrical engineering from Willesdon Technical College. Glenn Hartman has served as a director of CoSine since its incorporation in April 1997. Mr. Hartman has served as the managing general partner of Falcon Capital, LLC, a private equity investment company, since September 1995. Mr. Hartman was the co-founder of Apex Data Inc., a manufacturer of telecommunication computer peripheral products, and served as its chief executive officer from June 1992 until September 1995. Mr. Hartman is also a director of Digital Courier Technologies, Inc., a provider of payment processing services to merchants and financial institutions, and two private organizations. Mr. Hartman holds a B.A. in economics from the University of California at Los Angeles. 46 48 R. David Spreng has served as a director of CoSine since December 1998. Mr. Spreng has served as the managing general partner of Crescendo Venture Management, LLC since September 1998. Mr. Spreng served as president of IAI Ventures, Inc. from March 1996 to September 1998 and served in various capacities at Investment Advisers, Inc. since 1989. Mr. Spreng is also a director of Allied Riser Communications Corporation, a broadband communications services provider, and Tut Systems, Inc., a developer of multi-service broadband access systems. Mr. Spreng holds a B.S. in finance and accounting from the University of Minnesota. BOARD OF DIRECTORS Our board of directors consists of six authorized members. Upon completion of this offering, our certificate of incorporation will provide for a classified board of directors consisting of three classes of directors, each serving staggered three-year terms, so that a portion of our board of directors will be elected each year. To implement the classified structure, before the completion of the offering, two of the nominees to the board will be elected to a one-year term, two will be elected to 2-year terms and two will be elected to three-year terms. Afterwards, directors will be elected for 3-year terms. Messrs. Hartman and Spreng have been designated Class I directors, whose terms expire at the 2001 annual meeting of stockholders. Messrs. Hamilton and Abbe have been designated class II directors, whose terms expire at the 2002 annual meeting of stockholders. Messrs. Green and Cerf have been designated class III directors, whose terms expire at the 2003 annual meeting of stockholders. This classification of the board of directors may delay or prevent a change in control of us or our management. Executive officers are appointed by the board of directors on an annual basis and serve until their successors have been elected and qualified. There are no family relationships among any of our directors, officers, or key employees. BOARD COMMITTEES We established an audit committee and a compensation committee in January 1999. AUDIT COMMITTEE. The audit committee consists of Messrs. Hartman, Green and Spreng. The audit committee: - - reviews our internal accounting procedures; - - consults with and reviews the services provided by our independent accountants; and - - makes recommendations to the board of directors about selecting independent accountants. COMPENSATION COMMITTEE The compensation committee consists of Messrs. Hartman, Green and Spreng. The compensation committee reviews and recommends to the board of directors the salaries, incentive compensation and benefits of our officers and employees, including stock compensation and loans, and administers our stock plans and employee benefit plans. Mr. Green purchased series D preferred stock from us on September 17, 1999. Please see "Related Party Transactions" for a discussion of our Series D preferred stock financing. COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION None of the members of the compensation committee is, or has ever been at any time since our incorporation, one of our officers or employees or an officer or employee of any of our subsidiaries. No member of the compensation committee serves as a member of the board of directors or compensation committee of any entity that has one or more of our executive officers serving as a member of our board of directors or compensation committee. DIRECTOR COMPENSATION MEETING FEES. Upon completion of this offering, we will begin paying fees to our non-employee directors for their services as directors. Each non-employee director will receive $1,000 for attending a board meeting in person, $500 for attending a committee 47 49 meeting in person, and $250 for attending a board or committee meeting by telephone. We do not compensate directors for committee meetings held in conjunction with a board meeting. We reimburse directors for their expenses for attending board and committee meetings. STOCK PLANS. Each non-employee director who is first appointed or elected after our initial public offering will automatically receive under our 2000 director option plan an option to acquire 80,000 shares of our common stock. The initial options vest in four equal annual installments. Under the director plan, each non-employee director in office for at least six months before each annual meeting of stockholders will receive an additional option to acquire 20,000 shares of our common stock. These options will vest on the fourth anniversary of the date of grant. We may grant directors options or restricted stock under our 1997 stock plan and, upon the completion of this offering, under our 2000 stock plan. Directors who are our employees are eligible to participate in our 2000 employee stock purchase plan. Non-employee directors have received option grants as listed in this table. All of these options vest over four years from the date of grant.
EXERCISE NO. OF NAME DATE OF GRANT PRICE SHARES ---- ------------- -------- ------- Donald Green......................................... July 1999 $0.545 160,476 Vinton G. Cerf....................................... April 2000 $ 9.50 80,000
TECHNICAL ADVISORY BOARDS We have technical advisory boards for both our U.S. operations and our international operations. These boards advise us on the performance of our current and future services and products in relation to client needs. These boards advise us on engineering issues related to our products. Our U.S. board is comprised of seven members, and our international board is comprised of two members. LIMITATIONS ON DIRECTORS' AND OFFICER'S LIABILITY AND INDEMNIFICATION DELAWARE LAW. Delaware law provides that directors of a corporation will not be personally liable for monetary damages for breach of their fiduciary duties as directors, except liability for: - - any breach of their duty of loyalty to the corporation or its stockholders; - - acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law; - - unlawful payments of dividends or unlawful stock repurchases or redemptions; or - - any transaction from which the director derived an improper personal benefit. This limitation of liability does not apply to liabilities arising under the federal securities laws and does not affect the availability of equitable remedies such as injunctive relief or rescission. INDEMNIFICATION UNDER OUR CERTIFICATE OF INCORPORATION AND BYLAWS. Our certificate of incorporation and bylaws provide that we will indemnify our directors and officers to the fullest extent permitted by law. We also have the power to indemnify other employees and agents to the extent permitted by law. We believe that indemnification under our bylaws covers at least negligence and gross negligence of indemnified parties. Our bylaws permit us to maintain insurance covering our officers, directors, employees or other agents for any liability arising out of their actions in our service, regardless of whether applicable laws would permit indemnification. INDEMNIFICATION AGREEMENTS. We intend to enter into agreements to indemnify our directors and officers, in addition to the indemnification provided for in our bylaws. These agreements provide for indemnification of our directors and officers for expenses including attorneys' fees, judgments, fines and settlement amounts incurred in any action or proceeding, including any action by us or on our behalf. Indemnifiable actions must 48 50 arise out of a director's or officer's service for us, any subsidiary, or other companies or enterprises if done so at our request. These indemnification agreements also provide that we will pay any taxes imposed on our officers and directors due to our payments to them under the agreement. We believe that these provisions and agreements are necessary to attract and retain qualified persons as directors and officers. None of our directors, officers or employees is involved in any litigation or proceeding in which indemnification is sought, and we are unaware of any threatened litigation that may result in claims for indemnification. EXECUTIVE COMPENSATION SUMMARY COMPENSATION TABLE. The table below summarizes the compensation earned for services provided to us in all capacities for the fiscal year ended December 31, 1999 by our chief executive officer and our two next most highly compensated executive officers, who we refer to as the named executive officers, who earned more than $100,000 in salary and bonus during the fiscal year ended December 31, 1999: SUMMARY COMPENSATION TABLE
LONG-TERM COMPENSATION AWARDS ------------ ANNUAL COMPENSATION SECURITIES --------------------- UNDERLYING NAME AND PRINCIPAL POSITION YEAR SALARY($) BONUS($) OPTION(#) --------------------------- ---- --------- -------- ---------- Dean E. G. Hamilton........................... 1999 $169,231 $-- 400,000 President, Chief Executive Officer and Director Larry Jackson................................. 1999 149,999 -- 66,678 Vice President of Sales Lianghwa Jou.................................. 1999 138,078 -- 250,000 Chief Technology Officer
49 51 OPTION GRANTS IN LAST FISCAL YEAR. This table provides information about the stock options granted to the named executive officers during the fiscal year ended December 31, 1999. All of these options were granted under our 1997 stock plan and have a term of ten years. An option may terminate earlier if the option holder stops providing services to us. We granted options to purchase 12,604,225 shares of our common stock in 1999. The percentage of total options in the table below was calculated based on options to purchase an aggregate of 12,150,370 shares of our common stock granted to our employees in 1999. Options were granted at an exercise price that we believed represented the fair value of our common stock, as determined in good faith by our board of directors. After our initial public offering process began, we reevaluated the grant date value of the common stock underlying the options. The grant date present value represents the value of the shares underlying each option multiplied by the per share present value of the common stock on the date that the option was granted. Each per share grant date present value was determined based on the: most recent sales price of our preferred stock to third-party investors prior to the grant date; assumed initial public offering price of $16.00 per share; and business milestones achieved prior to the grant date. OPTION GRANTS IN LAST FISCAL YEAR
NUMBER OF % OF SECURITIES TOTAL UNDERLYING OPTIONS EXERCISE OPTIONS GRANTED TO OR BASE GRANTED EMPLOYEES PRICE EXPIRATION GRANT DATE NAME (#) IN FISCAL YEAR ($/SH) DATE PRESENT VALUE($) ---- ------------- -------------- --------- ---------- ---------------- Dean E. G. Hamilton............................ 400,000 3.29% $0.2250 3/16/09 $144,000 Larry Jackson.................................. 64,678 0.53 0.15 3/10/09 23,284 2,000 0.02 1.00 10/19/09 8,060 Lianghwa Jou................................... 250,000 2.06 0.15 2/13/09 77,500
50 52 AGGREGATE OPTION EXERCISES AND OPTION VALUES. The following table sets forth information about the named executive officers concerning option exercises for the fiscal year ended December 31, 1999, and exercisable and unexercisable options held as of December 31, 1999. The value realized is based on the fair value of our stock as re-determined by the board of directors after our initial public offering process began, minus the exercise price, multiplied by the number of shares issued upon exercise of the option. The value of unexercised in-the-money options at fiscal year-end is based on an assumed initial public offering price of $16.00 per share minus the actual exercise price of the option, multiplied by the number of shares underlying the option. OPTION EXERCISES IN LAST FISCAL YEAR AND FY-END OPTION VALUES
NUMBER OF SECURITIES VALUE OF UNEXERCISED UNDERLYING UNEXERCISED IN-THE-MONEY OPTIONS AT SHARES OPTIONS AT FY-END(#) FY-END($) ACQUIRED ON VALUE --------------------------- ---------------------------- NAME EXERCISE(#) REALIZED($) EXERCISABLE UNEXERCISABLE EXERCISABLE UNEXERCISABLE ---- ----------- ----------- ----------- ------------- ----------- ------------- Dean E. G. Hamilton...... -- $ -- 400,000(1) -- $6,310,000 -- Larry Jackson............ 645,400 2,712,188 -- -- -- -- Lianghwa Jou............. -- -- 250,000(2) -- $3,962,500 --
- --------------- (1) Options for 75,000 shares were vested at December 31, 1999. (2) Options for 52,083 shares were vested at December 31, 1999. STOCK PLANS 1997 STOCK PLAN ADOPTION AND SHARES RESERVED. Our 1997 stock plan was adopted by our board of directors and by our stockholders in October 1997. Through June 30, 2000, we had reserved for issuance under the 1997 plan 27,620,000 shares of common stock, of which 9,860,629 shares were subject to outstanding options having a weighted average exercise price of approximately $4.18 per share and 4,748,587 shares remained available for future grant. OPTIONS. We expect that upon the adoption of the 2000 stock plan that no further options will be granted under the 1997 plan. However, its provisions will still govern outstanding options issued under the 1997 plan. Our 1997 plan provides for the grant of incentive stock options as defined in Section 422 of the Internal Revenue Code to our employees, and for the grant of nonstatutory stock options to our employees, directors and consultants. An incentive stock option means an option granted to a company's employee if: - - the option is granted under a plan approved by the stockholders of the company within 12 months before or after the plan is adopted; - - the option is granted within 10 years from the earlier of the date the plan is adopted or the date the plan was approved by the stockholders; - - the option is not exercisable after 10 years from the date of grant; - - the option price is at least 100% of the fair market value of the underlying stock on the date of grant; and - - the option holder, at the time the option is granted, does not own stock equal to 10% or more of the total combined voting power of all classes of stock of the company. ADJUSTMENTS UPON MERGER OR ASSET SALE. Our 1997 plan provides that if we merge with or into another corporation or sell all or substantially all of our assets, the successor corporation will assume or substitute each option or stock purchase 51 53 right. If the outstanding options or stock purchase rights are not assumed or substituted, the administrator will provide notice to holders of options and stock purchase rights that they have the right to exercise options or stock purchase rights for all of the shares subject to the options or stock purchase rights, including shares which would not otherwise be exercisable, for a period of 15 days from the date of the notice. The options or stock purchase rights will terminate upon the expiration of the 15-day period. 2000 STOCK PLAN ADOPTION AND SHARES RESERVED. Our 2000 stock plan was approved by our board of directors in May 2000 and approved by our stockholders in July 2000. The 2000 plan provides for the grant of incentive stock options, to our employees, and for the grant of nonstatutory stock options and stock purchase rights to our employees, directors and consultants. If this offering is completed, 2,500,000 shares of common stock plus the number of shares then reserved and unissued under our 1997 stock plan will be reserved for issuance under the 2000 stock plan. At June 30, 2000, 4,748,587 shares of our common stock remained available for issuance under the 1997 plan. Any shares of common stock that are subsequently returned to the 1997 plan because of termination of options or our repurchase of shares previously issued under that plan will be reserved for issuance under the 2000 plan. The 2000 plan provides for annual increases in the number of shares available for issuance on the first day of each fiscal year, beginning with our fiscal year 2001, equal to the lesser of: - - 12,500,000 shares; - - 5% of the outstanding shares of common stock on the first day of our fiscal year; or - - an amount determined by our board of directors. ADMINISTRATION. Our board of directors or a committee of our board administers the 2000 plan. If the options are intended to qualify as performance-based compensation under Section 162(m) of the Internal Revenue Code, a committee of two or more outside directors within the meaning of Section 162(m) will administer the 2000 plan. The administrator has the power to determine the terms of the options or stock purchase rights granted, including the exercise price, the number of shares subject to each option or stock purchase right, the exercisability of the options and the form of consideration payable upon exercise. EXERCISE PRICE. The administrator determines the exercise price of options granted under the 2000 plan, but for nonstatutory stock options intended to qualify as performance-based compensation under Section 162(m) and all incentive stock options, the exercise price must at least be equal to the fair market value of our common stock on the date of grant. The term of an incentive stock option may not exceed ten years and the administrator determines the term of all other options. No person may be granted an option to purchase more than 2,000,000 shares in any fiscal year. For his initial service, a person may be granted an additional option to purchase up to 8,000,000 shares. TERMINATION OF EMPLOYMENT. After termination of one of our employees, directors or consultants, the person may exercise an option for the period of time stated in the option agreement. In the absence of a period of time in the option agreement, the option will remain exercisable for 12 months if termination is due to death or disability. In all other cases, the option will generally remain exercisable for three months. However, an option may never be exercised later than the expiration of its term. REPURCHASE OPTION. The administrator determines the exercise price of stock purchase rights granted under our 2000 plan. Unless the administrator determines otherwise, a restricted stock purchase agreement will grant us a repurchase option that we may exercise upon the voluntary or involuntary termination of the purchaser's service with us for any reason including death or disability. The purchase price for shares 52 54 we repurchase will generally be the original price paid by the purchaser and may be paid by cancellation of any indebtedness of the purchaser to us. The administrator determines the rate at which our repurchase option will lapse. NON-TRANSFERABILITY OF OPTIONS. Our 2000 plan generally does not allow for the transfer of options or stock purchase rights and only the holder of an option or stock purchase right may exercise the option or stock purchase right during the holder's lifetime. ADJUSTMENTS UPON MERGER OR ASSET SALE. Our 2000 plan provides that if we merge with another corporation or sell all or substantially all of our assets, the successor corporation will assume or substitute each option or stock purchase right. If the outstanding options or stock purchase rights are not assumed or substituted, the administrator will provide notice to holders of options and stock purchase rights that they have the right to exercise the options or stock purchase rights for all of the shares subject to the options or stock purchase rights, including shares which would not otherwise be exercisable, for a period of 15 days from the date of the notice. The options or stock purchase rights will terminate upon the expiration of the 15-day period. AMENDMENT AND TERMINATION. Our 2000 plan will automatically terminate in 2010, unless we terminate it sooner. Our board of directors has the authority to amend, suspend or terminate the 2000 plan provided it does not adversely affect any option previously granted under it. 2000 EMPLOYEE STOCK PURCHASE PLAN ADOPTION AND SHARES RESERVED. In May 2000, our board of directors adopted the 2000 employee stock purchase plan, and we will submit the purchase plan to our stockholders for approval before completion of this offering. If this offering is completed, a total of 2,500,000 shares of common stock will be reserved for issuance under the purchase plan, plus annual increases equal to the lesser of: - - 5,000,000 shares, - - 2% of the outstanding shares on that date, or - - an amount determined by our board of directors. OFFERING PERIODS. The purchase plan contains consecutive six month offering and purchase periods. The offering periods generally start on the first trading day on or after May 15 and November 15 of each year, except for the first offering period which begins on the first trading day on or after the effective date of this offering and ends on the last trading day on or after May 15, 2002. ELIGIBILITY. Employees are eligible to participate if they are employed by us or any participating subsidiary for at least 20 hours per week and more than five months in any calendar year. However, any employee who: - - immediately after grant owns stock possessing 5% or more of the total combined voting power or value of all classes of our capital stock; or - - whose rights to purchase stock under all of our employee stock purchase plans accrues at a rate which exceeds $25,000 worth of stock for each calendar year may not be granted an option to purchase stock under this plan. OPTION TERMS. The purchase plan permits participants to purchase common stock through payroll deductions of up to 10% of the participant's compensation. Compensation includes the participant's base gross earnings and commissions but is exclusive of payments for overtime, shift premium payments, incentive compensation, incentive payments, bonuses and other compensation. The maximum number of shares a participant may purchase during a single purchase period is 5,000 shares. Amounts deducted and accumulated by the participant are used to purchase shares of common stock at the end of each purchase period. The price of stock purchased under 53 55 the purchase plan is 85% of the lower of the fair market value of the common stock: - - at the beginning of the offering period; or - - at the end of the purchase period. Participants may end their participation at any time during an offering period, and they will be paid their payroll deductions to date. Participation ends automatically upon termination of employment with us. NON-TRANSFERABILITY OF OPTIONS. Rights granted under the purchase plan are not transferable by a participant other than by will, the laws of descent and distribution or as otherwise provided under the plan. ADJUSTMENTS UPON MERGER OR ASSET SALE. The purchase plan provides that if we merge with another corporation or sell all or substantially all our assets, each outstanding option may be assumed or substituted for by the successor corporation. If the successor corporation refuses to assume or substitute for the outstanding options, the offering period then in progress will be shortened and a new exercise date will be set. The purchase plan will terminate automatically in 2010, unless terminated earlier. The board of directors has the authority to amend or terminate the purchase plan, except that the board of directors may not adversely affect any outstanding rights to purchase stock under the purchase plan. The board of directors has the exclusive authority to interpret and apply the provisions of the purchase plan. 2000 DIRECTOR OPTION PLAN ADOPTION AND INITIAL RESERVE. In May 2000, our board of directors adopted the 2000 director option plan, and we will submit the director plan to our stockholders for approval before completion of this offering. If this offering is completed, a total of 400,000 shares of common stock will be reserved for issuance under the director plan, plus annual increases equal to the lesser of: - - the number of shares granted under the director plan during our last fiscal year; or - - an amount determined by our board of directors. No awards will be made under the director plan until completion of this offering. The purpose of the director plan is to attract and retain the best available non-employee directors and to provide them additional incentives to promote the success of our business. OPTIONS. The director plan will automatically grant an option to purchase 80,000 shares of common stock to each non-employee director appointed or elected after this offering is completed. The director plan also provides that each non-employee director who has been a member of our board of directors for at least six months before the date of our annual stockholders' meeting will receive automatic annual grants of options to acquire 20,000 shares of our common stock. The options will have an exercise price per share equal to the fair market value of our common stock at the date of grant and will have a term of ten years. Initial options vest and become exercisable in four equal annual increments. Later options vest and become exercisable on the fourth anniversary of the date of grant. ADJUSTMENTS UPON MERGER OR ASSET SALE. If we merge with another corporation or sell all or substantially all of our assets, the successor corporation will assume or substitute each option. If assumption or substitution occurs, the options will continue to be exercisable according to the same terms as before the merger or sale of assets. Following assumption or substitution, if a non-employee director is terminated other than by voluntary resignation, the option will become fully exercisable and generally will remain exercisable for a period of three months. If the outstanding options are not assumed or substituted for, our board of directors will notify each non-employee director that he or she has the right to exercise the option for all shares subject to the option for a period of 30 days following the date of the notice. The option will terminate upon the expiration of the 30-day period. 54 56 EXERCISE OF OPTIONS. Options granted under the director option plan must be exercised within three months of the end of the non-employee director's tenure as a member of our board of directors, or within 12 months after a non-employee director's termination by death or disability, provided that the option does not terminate by its terms earlier. AMENDMENT AND TERMINATION. Our director option plan, unless earlier terminated, terminates automatically in 2010. Our board of directors may amend, suspend or terminate the plan, unless stockholder approval of an amendment is required by law or the action impairs an outstanding option, requiring the option holder's consent previously granted under the plan, unless agreed to by the affected non-employee director. 401(k) PLAN In July 1998, we adopted a 401(k) plan for which our employees generally will be eligible. The plan is intended to qualify under Section 401(k) of the Internal Revenue Code, so that contributions to the plan by employees or by us and the investment earnings on the contributions are not taxable to the employees until withdrawn. If our plan qualifies under Section 401(k), our contributions will be deductible by us when made. Our employees may elect to reduce their current compensation by an amount up to the annual limit permitted by law, $10,500 in 2000, and to have those funds contributed to the plan. Although we may make matching contributions to the plan on behalf of all participants, we have not made any contributions. CHANGE OF CONTROL ARRANGEMENTS Some options awarded under our 1997 stock plan provide that the options will become fully exercisable and fully vested if, anytime within 24 months following a change of control, the option holder's employment is terminated other than for cause or if a constructive termination of the option holder's employment occurs. Events constituting a constructive termination include a significant reduction in the option holder's duties, position or responsibilities without the option holder's prior written consent. Options containing these change of control provisions were granted to our named executive officers and other employees. 55 57 RELATED PARTY TRANSACTIONS Since we incorporated in April 1997, there has not been nor is there currently proposed any transaction or series of similar transactions to which we were or are to be a party in which: - the amount involved exceeds $60,000; and - in which any director, executive officer, holder of more than 5% of our common stock or any member of the immediate family of any of these persons had or will have a direct or indirect material interest other than: - compensation agreements and other arrangements, that are described where required in "Management"; and - the transactions described below. TRANSACTIONS WITH DIRECTORS, EXECUTIVE OFFICERS AND 5% STOCKHOLDERS COMMON STOCK. The table below summarizes the private placement transactions in which we sold common stock to our directors, executive officers, 5% stockholders and persons and entities affiliated with them.
SHARES OF PURCHASER DATE OF PURCHASE COMMON STOCK --------- ----------------- ------------ Dean E. G. Hamilton (executive officer, director and 5% stockholder).................................... September 1, 1997 4,000,000 February 9, 2000 300,000 Lianghwa Jou (executive officer)..................... January 15, 1998 1,833,332 Chow & Hamilton...................................... July 27, 1999 16,514 September 1, 1999 2,000
We issued the shares to Chow & Hamilton in exchange for legal services. Mr. Hamilton's brother, Duane Hamilton, is a partner at Chow & Hamilton. SERIES A PREFERRED STOCK. In November 1997 and April 1998, we sold 1,875,000 shares of our series A preferred stock at a price of $1.60 per share. Each share of our series A preferred stock is convertible into four shares of our common stock because of a conversion price adjustment resulting from our stock dividend declared in May 1998. SERIES B PREFERRED STOCK. In December 1998, we sold 12,884,205 shares of our series B preferred stock for $0.738 per share, and in May, October and November issued warrants to acquire 694,444 shares of our series B preferred stock. The table below summarizes the private 56 58 placement transactions in which we sold series B preferred stock to our directors, executive officers, 5% stockholders and persons and entities affiliated with them:
WARRANTS TO SHARES OF PURCHASE SERIES B SERIES B PREFERRED PREFERRED PURCHASER DATE OF PURCHASE OR ISSUE STOCK STOCK --------- ------------------------- ---------- ----------- Communications Ventures Affiliates Fund II, L.P...................... December 4, 1998 113,105 -- Communications Ventures III CEO and Entrepreneurs' Fund, L.P.......... December 4, 1998 106,465 -- Communications Ventures II, L.P..... December 4, 1998 1,379,339 -- Communications Ventures III, L.P.... December 4, 1998 2,129,306 -- Crescendo World Fund, LLC........... December 4, 1998 648,386 -- Crescendo III, L.P.................. December 4, 1998 3,048,780 -- Eagle Ventures WF, LLC.............. December 4, 1998 31,050 -- Worldview Technology International I, L.P............................ December 4, 1998 357,834 -- Worldview Strategic Partners I, L.P............................... December 4, 1998 79,081 -- Worldview Technology Partners I, L.P............................... December 4, 1998 918,099 -- Falcon Capital, LLC................. December 4, 1998 681,367 Crescendo World Fund, LLC........... November 1, 1998 -- 48,491 Eagle Ventures WF, LLC.............. November 1, 1998 -- 2,322 Communications Ventures II, L.P..... November 1, 1998 -- 46,962 Communications Ventures Affiliates Fund II, L.P...................... November 1, 1998 -- 3,851 Falcon Capital, LLC................. November 1, 1998 -- 101,627
Communications Ventures Affiliates Fund II, L.P., Communications Ventures III CEO and Entrepreneurs' Fund, L.P., Communications Ventures II, L.P. and Communications Ventures III, L.P. are affiliated entities and together are considered a holder of more than 5% of our common stock. Crescendo World Fund, LLC, Crescendo III, L.P., Crescendo III Executive Fund, L.P., Crescendo III, GbR and Eagle Ventures WF, LLC are affiliated entities and together are considered a holder of more than 5% of our common stock. R. David Spreng, one of our directors, is a managing member of Crescendo's related entities. Worldview Technology International I, L.P., Worldview Strategic Partners I, L.P. and Worldview Technology Partners I, L.P. are affiliated entities and together are considered a holder of more than 5% of our common stock. Glenn Hartman, one of our directors, is a manager of Falcon Capital, LLC. SERIES C PREFERRED STOCK. In March 1999, we sold 24,503,677 shares of our series C preferred stock at $0.897 per share. The table below summarizes the private placement 57 59 transactions in which we sold series C preferred stock to our directors, executive officers and 5% stockholders and persons and entities affiliates with them:
SHARES OF DATE OF SERIES C PURCHASER PURCHASE PREFERRED STOCK --------- ------------- --------------- Communications Ventures Affiliates Fund II, L.P............ March 2, 1999 69,078 Communications Ventures III CEO and Entrepreneurs' Fund, L.P...................................................... March 2, 1999 65,106 Communications Ventures II, L.P............................ March 2, 1999 842,410 Communications Ventures III, L.P........................... March 2, 1999 1,302,127 Crescendo World Fund, LLC.................................. March 2, 1999 638,328 Crescendo III, L.P......................................... March 2, 1999 2,954,292 Eagle Ventures WF, LLC..................................... March 2, 1999 30,569 Kleiner Perkins Caufield & Byers VIII, L.P................. March 2, 1999 5,239,866 KPCB Information Sciences Zaibatsu Fund II, L.P............ March 2, 1999 142,140 KPCB VIII Founders Fund, L.P............................... March 2, 1999 303,612 Norwest Ventures Partners VII, LP.......................... March 2, 1999 5,016,722 Worldview Technology International I, L.P.................. March 8, 1999 1,324,922 Worldview Strategic Partners I, L.P........................ March 8, 1999 292,786 Worldview Technology Partners I, L.P....................... March 8, 1999 3,399,114
SERIES D PREFERRED STOCK. In September and October 1999, we sold 17,118,253 shares of our series D preferred stock at $3.505 per share. In March, 2000 we sold 625,000 shares of our series D preferred stock at $8.00 per share. The table below summarizes the private placement transactions in which we sold series D preferred stock to our directors, executive officers and 5% stockholders and persons and entities affiliates with them:
SHARES OF DATE OF SERIES D PURCHASER PURCHASE PREFERRED STOCK --------- ------------------ --------------- Donald Green (director)............................. September 17, 1999 142,653 Communications Ventures Affiliates Fund II, L.P..... September 17, 1999 26,994 Communications Ventures III CEO and Entrepreneurs' Fund, L.P......................................... September 17, 1999 25,442 Communications Ventures II, L.P..................... September 17, 1999 329,197 Communications Ventures III, L.P.................... September 17, 1999 508,845 Crescendo World Fund, LLC........................... September 17, 1999 190,663 Crescendo III, L.P.................................. September 17, 1999 847,359 Crescendo III Executive Fund, L.P................... September 17, 1999 25,187 Crescendo III, GbR.................................. September 17, 1999 17,444 Eagle Ventures WF, LLC.............................. September 17, 1999 9,130 KPCB Holdings, Inc.................................. September 17, 1999 842,845 Norwest Ventures Partners VII, LP................... September 17, 1999 743,686 Worldview Technology International I, L.P........... September 17, 1999 188,360 Worldview Strategic Partners I, L.P................. September 17, 1999 41,628 Worldview Technology Partners I, L.P................ September 17, 1999 483,279
58 60 SERIES E PREFERRED STOCK. In May 2000, we sold 4,666,667 shares of our series E preferred stock at $15.00 per share. The table below summarizes the private placement transactions in which we sold series E preferred stock to our directors, executive officers and 5% stockholders and persons and entities affiliated with them:
SHARES OF DATE OF SERIES E PURCHASER PURCHASE PREFERRED STOCK --------- ------------ --------------- Crescendo III, L.P. ...................................... May 10, 2000 190,419 Crescendo III, Executive Fund, L.P. ...................... May 10, 2000 5,656 Crescendo III, GbR........................................ May 10, 2000 3,928
INDEBTEDNESS OF MANAGEMENT If there is a proposed transaction between us and our officers, directors, 5% stockholders or their affiliates, that transaction must be approved by a majority of the disinterested directors, must be on terms at least as favorable to us as those that could be obtained from unaffiliated parties and must be reasonably expected to benefit us. The individuals listed below elected to pay the exercise price for some of their outstanding options with full recourse promissory notes secured by the common stock underlying the options. The notes bear interest at 6.77% per year. At June 30, 2000, the principal amounts of these notes had not been repaid, and the original total principal amounts of the promissory notes executed by each executive officer in our favor are:
TOTAL ORIGINAL MATURITY EXECUTIVE OFFICER NOTE AMOUNT DATE ----------------- ----------- ----------------- Dean E. G. Hamilton/President and Chief Executive Officer.............................................. $1,200,000 February 2, 2010 Michael Nielsen/Senior Vice President.................. $ 500,000 December 20, 2009 Steve Goggiano/Chief Operating Officer................. $ 600,000 December 20, 2009 Bill Ferone/Executive Vice President................... $ 61,975 October 19, 2009
Principal and interest will be due and payable on the earlier of the maturity date, or if earlier and at our option, when the option holder ceases to be our employee, director or consultant. EQUITY INVESTMENT BY CUSTOMERS AND THEIR AFFILIATES On March 2, 1999, the Anschutz Family Investment Co. LLC and A.C.E. Investment Partnership acquired an aggregate of 1,114,826 shares of our series C preferred stock. On September 17, 1999, the Anschutz Family Investment Co. LLC and A.C.E. Investment Partnership acquired an aggregate of 184,014 shares of our series D preferred stock. On April 26, 2000, the Anschutz Family Investment Co. LLC agreed to acquire an aggregate of 80,000 shares of our series E preferred stock, which we issued on May 10, 2000. The Anschutz Family Investment Co. LLC and A.C.E. Investment Partnership are affiliates of Qwest Communications. Our initial customers, which represent different types of network service providers, have cooperated with us in the marketing, development and refinement of our product, culminating in our receipt of initial purchase orders. We: - - issued warrants to purchase up to 1,875,403 shares of our series C preferred stock at an average exercise price of $0.91 a share to U.S. Telesource, Inc., an affiliate of Qwest; - - issued a warrant to purchase up to 200,000 shares of our common stock at an exercise price of $4.00 per share to an affiliate of AduroNet; and - - issued warrants to purchase up to 468,849 shares of our common stock at an 59 61 exercise price of $3.73 per share to BroadBand Office. Officers of Qwest and The Anschutz Corporation, a Qwest affiliate, participated in our series D preferred stock financing. Nissho Electronics, Internet Initiative Japan and officers of AduroNet and of several potential customers participated in our series E preferred stock financing. INDEMNIFICATION AGREEMENTS We intend to enter into indemnification agreements with each of our directors and officers. The indemnification agreements will require us to indemnify our directors and officers to the fullest extent permitted by Delaware law. 60 62 PRINCIPAL STOCKHOLDERS The following table sets forth information about the beneficial ownership of our common stock at June 30, 2000, and as adjusted to reflect the sale of common stock offered by this prospectus, by: - - the individuals listed on the "Summary Compensation Table" above; - - our directors; - - each person or group of affiliated persons who is known to us to own beneficially 5% or more of our common stock; and - - all directors and executive officers as a group. BENEFICIAL OWNERSHIP. Beneficial ownership is determined under the rules of the Securities and Exchange Commission. In computing the number of shares beneficially owned by a person and the percentage ownership of that person, shares of common stock subject to options held by that person that are exercisable or exercisable within 60 days of June 30, 2000, are assumed to be issued and outstanding. These shares, however, are not assumed to be outstanding for purposes of computing percentage ownership of each other stockholder. Except as indicated in the footnotes to this table and subject to applicable community property laws, each stockholder named in the table has sole voting and investment power over the shares shown as beneficially owned by them. This table also includes shares owned by a spouse as community property. PERCENT BENEFICIALLY OWNED. The percentage of common stock beneficially owned is based on 90,079,828 shares of common stock outstanding on June 30, 2000 and 100,079,828 shares of common stock outstanding after completion of this offering. The percentage of common stock beneficially owned is calculated in accordance with the rules of the Securities and Exchange Commission. The pro forma calculation of common stock outstanding at June 30, 2000, assumes: - - the exercise of warrants that are automatically exercisable before or upon the closing of this offering; and - - the automatic conversion into common stock upon the closing of this offering of preferred stock outstanding at June 30, 2000. This table assumes no exercise of the underwriters' option to purchase additional shares in this offering. OTHER INFORMATION. Unless otherwise indicated, the address of the individuals named below is: c/o CoSine Communications, Inc., 3200 Bridge Parkway, Redwood City, California 94065
PERCENT NUMBER OF BENEFICIALLY OWNED SHARES -------------------- BENEFICIALLY BEFORE AFTER NAME AND ADDRESS OF BENEFICIAL OWNER OWNED OFFERING OFFERING ------------------------------------ ------------ -------- -------- Entities affiliated with Crescendo(1)............. 8,692,001 9.65% 8.69% 480 Cowper Street Suite 300 Palo Alto, CA 94301 Entities affiliated with Worldview(2)............. 7,085,003 7.87% 7.08% 45 Tasso Street Suite 120 Palo Alto, CA 94301 Entities affiliated with Communications Ventures(3)..................................... 6,948,227 7.71% 6.94% 505 Hamilton Avenue Suite 305 Palo Alto, CA 94301
61 63
PERCENT NUMBER OF BENEFICIALLY OWNED SHARES -------------------- BENEFICIALLY BEFORE AFTER NAME AND ADDRESS OF BENEFICIAL OWNER OWNED OFFERING OFFERING ------------------------------------ ------------ -------- -------- Entities affiliated with KPCB Holdings, Inc....... 6,528,463 7.25% 6.52% 2750 Sand Hill Road Menlo Park, CA 94025 Norwest Ventures Partners VII, LP................. 5,760,408 6.39% 5.76% 245 Lytton Street Suite 250 Palo Alto, CA 94301 Falcon Capital, LLC(4)............................ 4,570,494 5.07% 4.56% 3905 State Street Suite 7148 Santa Barbara, CA 93105 Dean E. G. Hamilton(5)............................ 4,700,000 5.19% 4.68% Larry Jackson..................................... 645,400 0.72% 0.64% Lianghwa Jou(6)................................... 2,083,332 2.31% 2.08% Glenn Hartman(7).................................. 4,970,494 5.52% 4.97% Donald Green(8)................................... 303,129 0.34% 0.30% R. David Spreng(1)................................ 8,692,001 9.65% 8.69% Vinton G. Cerf(9)................................. 80,000 0.09% 0.08% Charles J. Abbe................................... -- 0.00% 0.00% All directors and executive officers as a group (12 persons)(10)................................ 24,139,356 26.16% 23.60%
- --------------- (1) Includes: - 1,477,377 shares held by Crescendo World Fund, LLC; - 7,040,850 shares held by Crescendo III, L.P.; - 30,842 shares held by Crescendo III Executive Fund, L.P.; - 21,370 shares held by Crescendo III, GbR; - 70,749 shares held by Eagle Ventures WF, LLC; - a warrant to purchase 48,491 shares held by Crescendo World Fund, LLC; and - a warrant to purchase 2,322 shares held by Eagle Ventures WF, LLC. The sole general partner of Crescendo World Fund, LLC is Crescendo Ventures World Fund, LLC. The sole general partner of Crescendo III, L.P., Crescendo III Executive Fund, L.P., and Eagle Ventures WF, LLC is Crescendo Ventures III, LLC. The general partners of Crescendo III, GbR are Crescendo Ventures III, LLC and Verbier Ventures, LLC. R. David Spreng, one of our directors, is a managing member of Crescendo Ventures World Fund, LLC, Crescendo Ventures III, LLC and Verbier Ventures, LLC. Mr. Spreng and the other managing members disclaim beneficial ownership of the shares held by Crescendo World Fund, LLC, Crescendo III, L.P., Crescendo III Executive Fund, L.P., Crescendo III, GbR and Eagle Ventures WF, LLC, except for their pecuniary interest in the shares. 62 64 (2) Includes: - 1,871,016 shares held by Worldview Technology International I, L.P.; - 413,495 shares held by Worldview Strategic Partners I, L.P.; and - 4,800,492 shares held by Worldview Technology Partners I, L.P. (3) Includes: - 213,028 shares held by Communications Ventures Affiliates Fund II, L.P.; - 197,013 shares held by Communications Ventures III CEO and Entrepreneurs' Fund, L.P.; - 2,597,908 shares held by Communications Ventures II, L.P.; and - 3,940,278 shares held by Communications Ventures III, L.P. The sole general partner of Communications Ventures Affiliates Fund II, L.P. and Communications Ventures II, L.P. is ComVen II, L.L.C. The sole general partner of Communications Ventures III CEO & Entrepreneurs' Fund, L.P. and Communications Ventures III, L.P. is ComVen III, L.L.C. (4) Of the 4,570,494 shares, Falcon Capital, LLC held of record 4,468,867 shares and has the right to acquire 101,627 shares upon the exercise of a warrant within 60 days after June 30, 2000. (5) Of the 4,700,000 shares: - 3,975,000 shares are held of record by Mr. Hamilton; - 400,000 shares may be acquired by Mr. Hamilton upon the exercise of stock options within 60 days after June 30, 2000; - 150,000 shares are held by the Dean Hamilton Annuity Trust, for which Mr. Hamilton serves as trustee; - 150,000 shares are held by the Rosa Maria Hamilton Annuity Trust, for which Mr. Hamilton serves as trustee; - 10,000 shares are held by the Hamilton Alvarado Education Trust, for which Mr. Hamilton serves as a trustee; - 5,000 shares are held by the Daphne Wheeler Trust, for which Mr. Hamilton serves as a trustee; - 5,000 shares are held by the Hewley Hamilton Trust, for which Mr. Hamilton serves as a trustee; and - 5,000 shares are held by the Jesus and Herlinda Alvarado Trust, for which Mr. Hamilton serves as a trustee. Mr. Hamilton disclaims beneficial ownership of the shares held by the Rosa Maria Hamilton Annuity Trust, the Hamilton Alvarado Education Trust, the Daphne Wheeler Trust, the Hawley Hamilton Trust, and the Jesus and Herlinda Alvarado Trust, except to the extent of his pecuniary interest in the shares. (6) Of the 2,083,332 shares: - 1,622,812 shares are held of record by Mr. Jou; - 250,000 shares may be acquired by Mr. Jou upon the exercise of stock options within 60 days after June 30, 2000; 63 65 - 105,260 shares are held by Ching Ti Yang Annuity Trust, for which Mr. Jou serves as trustee; and - 105,260 shares are held by the Liangwha Jou Annuity Trust, for which Mr. Jou serves as trustee. Mr. Jou disclaims beneficial ownership of the shares held by the Ching Ti Yang Annuity Trust and the Liangwha Jou Annuity Trust, except to the extent of his pecuniary interest in the shares. (7) Includes: - 4,468,867 shares held by Falcon Capital, LLC and 101,627 shares issuable upon the exercise of a warrant held by Falcon Capital, LLC that is exercisable within 60 days after June 30, 2000. Mr. Hartman, a manager of Falcon Capital, LLC, disclaims beneficial ownership of the shares, except for his pecuniary interest in the shares. - 200,000 shares held by the Glenn Hartman Annuity Trust, for which Mr. Hartman serves as trustee; and - 200,000 shares held by the Colette A. Hartman Annuity Trust, for which Mr. Hartman serves as trustee. Mr. Hartman disclaims beneficial ownership of the shares held by the Collette A. Hartman Annuity Trust, except to the extent of his pecuniary interest in the shares. (8) Of the 303,129 shares: - 160,476 shares are held by Mr. Green; and - 142,653 shares are held by Green Venture Capital Limited Partnership II. Mr. Green disclaims beneficial ownership of the shares held by Green Venture Capital Limited Partnership II, except for his pecuniary interest in the shares. (9) Includes 80,000 shares that may be acquired by Mr. Cerf upon the exercise of stock options within 60 days after June 30, 2000. (10) Includes: - 2,051,775 shares issuable upon the exercise by our executive officers and directors of stock options that are exercisable within 60 days after June 30, 2000; and - 152,440 shares issuable upon the exercise of the warrants referenced in notes 1 and 7 above. 64 66 DESCRIPTION OF CAPITAL STOCK GENERAL Upon the closing of this offering, we will be authorized to issue 300,000,000 shares of common stock, $0.0001 par value, and 3,000,000 shares of undesignated preferred stock, $0.0001 par value. COMMON STOCK At June 30, 2000, 90,079,828 shares of common stock were outstanding and were held of record by approximately 450 stockholders. The number of outstanding shares of common stock assumes the exercise of warrants containing automatic exercise provisions and the automatic conversion of all outstanding shares of preferred stock. Our amended certificate of incorporation provides that each share of series E preferred stock will be initially convertible into one share of common stock upon completion of this offering. However, if the initial public offering price is less than $15.00, the series E conversion rate will increase to a number equal to $15.00 divided by the greater of $7.00 and the initial public offering price. For example, if the initial public offering price was $14.00, the series E conversion rate would increase to 1.0714, resulting in the issuance of an additional 333,310 shares of common stock upon conversion of the 4,666,667 outstanding shares of series E preferred stock. The holders of common stock are entitled to one vote per share on all matters to be voted upon by the stockholders. Subject to preferences that may be applicable to any outstanding preferred stock, the holders of common stock are entitled to ratably receive dividends, if any, as may be declared from time to time by the board of directors out of funds legally available for that purpose. If we liquidate, dissolve or wind up our affairs, the holders of common stock are entitled to share ratably in all assets remaining after payment of liabilities, subject to prior distribution rights of the holders of preferred stock, if any, then outstanding. The common stock has no preemptive or conversion rights or other subscription rights. There are no redemption or sinking fund provisions applicable to the common stock. All outstanding shares of common stock are fully paid and nonassessable, and the shares of common stock to be issued upon the closing of this offering will be fully paid and nonassessable. PREFERRED STOCK The board of directors has the authority, without action by the stockholders, to designate and issue preferred stock in one or more series and to designate the rights, preferences and privileges of each series, any or all of which may be greater than the rights of the common stock. It is not possible to state the actual effect of the issuance of any shares of preferred stock upon the rights of holders of the common stock until the board of directors determines the specific rights of the holders of preferred stock. However, the effects might include restricting dividends on the common stock, diluting the voting power of the common stock, impairing the liquidation rights of the common stock and delaying or preventing a change of our control without further action by the stockholders. No shares of preferred stock will be outstanding upon the completion of this offering. WARRANTS At June 30, 2000, there were warrants outstanding to purchase a total of 749,416 shares of common stock, 643,631 shares of series B preferred stock, 1,875,403 shares of series C preferred stock and 154,064 shares of series D preferred stock. Unless earlier exercised, warrants to purchase 243,067 shares of common stock, 1,875,403 shares of series C preferred stock and 154,064 shares of series D preferred stock will be exercised automatically because of this offering. Warrants exercisable for 254,065 shares of series B preferred stock will expire immediately before the closing of this offering unless earlier exercised. The remaining warrants will remain outstanding after the completion of this offering and will become exercisable for an aggregate of 895,915 shares of common stock. 65 67 REGISTRATION RIGHTS At June 30, 2000, the holders of 74,651,699 shares of common stock, as converted, and warrants to purchase 2,591,800 shares of common stock, as converted, are entitled to have these shares registered under the Securities Act at any time after 180 days following the closing of this offering. The holders of the registrable securities, by written request of holders holding at least 50% of the outstanding registrable securities, may require on two occasions that we register their shares at our expense. Holders of at least 20% of the registrable securities may request that we register their shares for public resale on form S-3 or similar short-form registration at our expense. We will be obligated to register the shares only if: - - we are eligible to use form S-3 or similar short-form registration; - - at least 180 days has elapsed since the most recent registration of our common stock; and - - the value of the securities to be registered is at least $1,000,000. If we register any of our securities for sale to the public for cash after this offering, the holders of registrable securities generally are entitled, at our expense, to include their shares of common stock in the registration, subject to the right of the underwriter to reduce the number of shares proposed to be registered in view of market conditions. DELAWARE ANTI-TAKEOVER LAW AND PROVISIONS OF OUR CERTIFICATE OF INCORPORATION AND BYLAWS Delaware law and our certificate of incorporation and bylaws could make it more difficult for another person to acquire us and to remove incumbent officers and directors. These provisions are intended to discourage coercive takeover practices and inadequate takeover bids and to encourage persons seeking to acquire control of us to first negotiate with us. We believe that protecting our ability to negotiate with the proponent of an unfriendly or unsolicited takeover proposal outweighs the disadvantages of discouraging a takeover proposal because negotiation of a proposal could result in an improvement of its terms. SECTION 203 OF THE DELAWARE GENERAL CORPORATION LAW. We are subject to section 203 of the Delaware General Corporation Law, an anti-takeover law. In general, section 203 prohibits a publicly held Delaware corporation from engaging in a business combination with an interested stockholder for a period of three years following the date the person became an interested stockholder. Section 203 generally does not apply if the business combination or the transaction in which the person became an interested stockholder is approved in advance. Generally, a business combination includes a merger, asset or stock sale, or other transaction resulting in a financial benefit to the interested stockholder. Generally, an interested stockholder is a person who, with affiliates and associates, owns or, within three years before the determination of interested stockholder status, did own 15% or more of a corporation's voting stock. Section 203 may delay or prevent a change in control of us without further action by the stockholders. CERTIFICATE OF INCORPORATION AND BYLAWS. Upon the closing of the offering, our certificate of incorporation and bylaws will: - - provide that stockholders must hold an annual or special meeting to take action and may not act by written consent; - - not provide for cumulative voting; - - provide that special meetings of stockholders may be called only by the board of directors, specified officers or holders of 50% or more of our outstanding shares; - - require stockholders to provide advance notice of nominations for election to the board of directors and proposals they intend to submit for approval at stockholder meetings; - - provide that our board of directors will be divided into three classes, with each class serving staggered three-year terms; and 66 68 - - require that: - significant amendments by the stockholders of the certificate of incorporation and of the bylaws; and - removal of directors without good reason, require the approval of holders of at least 66 2/3% of the voting power of all outstanding stock. Our certificate of incorporation allows our board of directors to issue preferred stock without stockholder approval. These provisions may discourage or delay a hostile takeover of us or changes in our control or management. TRANSFER AGENT AND REGISTRAR The transfer agent and registrar for the common stock is ChaseMellon Shareholder Services, L.L.C. 67 69 SHARES ELIGIBLE FOR FUTURE SALE SALES IN THE PUBLIC MARKET COULD HURT THE MARKET PRICE OF OUR STOCK Immediately before this offering, there was no public market for our common stock. Future sales of substantial amounts of common stock in the public market could adversely affect the market price of the common stock. WHAT SHARES ARE OUTSTANDING AND WHAT SHARES ARE FREELY TRADABLE Upon completion of this offering, we will have outstanding 100,079,828 shares of common stock. This assumes the issuance of the offered shares, no exercise of the underwriters' option to purchase additional shares and no exercise of options or warrants after June 30, 2000, other than warrants that are automatically exercisable because of or that expire immediately before the closing of this offering. The 10,000,000 shares sold in the offering will be freely tradable under the Securities Act, unless purchased by affiliates, as that term is defined in Rule 144 under the Securities Act, generally officers, directors or 10% stockholders. WHAT SHARES ARE RESTRICTED AND NOT FREELY TRADABLE The remaining 90,079,828 outstanding shares of common stock held by existing stockholders will be restricted securities under Rule 144. Restricted securities may be sold in the public market only if they are registered or if they qualify for an exemption from registration under Rules 144, 144(k) or 701 under the Securities Act, which are summarized below. We have the right to repurchase shares received by our employees, directors and consultants upon the early exercise of options if the holder of the shares ceases to be an employee, director or consultant and our right has not lapsed. EFFECTS OF THE 180-DAY LOCK-UP AGREEMENT ON SALES OF STOCK Stockholders holding an aggregate of 90,065,611 of these restricted securities are either subject to contractual restrictions on resale contained in agreements with the underwriters or with us. These restrictions generally provide that stockholders will not offer, sell or transfer any of their shares for a period of 180 days after the date of this prospectus. Goldman, Sachs & Co. may, without notice, release all or any portion of the shares subject to the contractual restrictions with the underwriters. We have agreed not to release any of the shares subject to the contractual restrictions with us. We also have entered into an agreement with the underwriters that we will not offer, sell or otherwise dispose of common stock for a period of 180 days from the date of this prospectus. Taking into account the lock-up agreements and assuming Goldman, Sachs & Co. does not release stockholders from these agreements, the following shares will be eligible for sale in the public market at the following times: - - on the date of this prospectus, the shares sold in the offering will be immediately available for sale in the public market; - - 2 business days after our December 31, 2000 quarterly results are released, 15% of the shares subject to contractual restrictions with the underwriters will be released and may be sold if the shares are eligible for sale under Rule 144 or Rule 701; - - 30 business days after our December 31, 2000 quarterly results are released, an additional 25% of the shares subject to contractual restrictions with the underwriters will be released and may be sold if the shares are eligible for sale under Rule 144 or Rule 701; - - 180 days after the effective date of this prospectus, approximately 12,751,070 shares could be eligible for sale under Rule 701; and - - shares not subject to lock up agreements may be eligible for sale under Rule 144 as 68 70 early as 90 days following the date of this prospectus subject to volume, manner of sale and other limitations under Rule 144. The remaining shares may be eligible for sale under Rule 144, after the expiration of the lock up agreements. The preceding table assumes that quarterly results are released on January 25, 2001 and that the effective date of the offering is September 25, 2000. The automatic partial release of shares is subject to the last reported trading price of the shares for at least 20 of the 30 trading days before the relevant date being at least twice the initial public offering price per share. REGISTRATION OF SHARES ISSUABLE UNDER OUR EMPLOYEE BENEFIT PLANS At June 30, 2000, there were outstanding options to purchase 9,860,629 shares of common stock. After the completion of the offering, we intend to file one or more registration statements on form S-8 under the Securities Act to register all of the shares of common stock issued or reserved for future issuance under our 1997 stock plan, 2000 stock plan, 2000 employee stock purchase plan and 2000 director option plan. Although the registration statement will become effective automatically upon filing, sales of shares under the registration statement are subject to the lock-up restrictions and repurchase rights described above. STOCKHOLDER REGISTRATION RIGHTS Following this offering, the holders of 74,651,699 shares of outstanding common stock, as converted, and warrants to purchase 2,591,800 shares of common stock, as converted, will, under some circumstances, have the right to require us to register their shares for future sale. EFFECTS OF RULE 144 ON SALES OF RESTRICTED SHARES In general, under Rule 144, beginning 90 days after the date of this prospectus, a person, including an affiliate, who has beneficially owned shares of our common stock for at least one year is entitled to sell, within any three-month period, a number of shares that does not exceed the greater of - - 1% of the number of shares of common stock then outstanding, which will equal approximately 1,000,798 shares immediately after this offering; or - - the average weekly trading volume of the common stock on the Nasdaq National Market during the four calendar weeks before the filing of a notice on Form 144 for the sale. Sales under Rule 144 are subject to requirements about the manner of sale, notice filing and the availability of current public information about us. EFFECTS OF RULE 144(k) ON SALES OF RESTRICTED SHARES Under Rule 144(k), a person who has not been one of our affiliates at any time during the 90 days before a sale, and who has beneficially owned the shares proposed to be sold for at least two years, including the holding period of any prior owner other than an affiliate, is entitled to sell the shares without complying with the manner of sale, notice filing, volume limitation provisions of Rule 144 and without current public information about us being available. Unless otherwise restricted, those shares may be sold immediately upon the effective date of this offering. EFFECTS OF RULE 701 ON SALES OF RESTRICTED SHARES In general, under Rule 701, any of our employees, directors, officers, consultants or advisors who purchases shares from us under a written compensatory stock purchase or option plan or other written agreement before the effective date of this offering is entitled to resell the shares 90 days after the effective date of this offering in reliance on the resale provisions of Rule 701. Rule 701, permits non-affiliates to sell their Rule 701 shares without complying with the public-information, holding-period, volume limitation or notice provisions of Rule 144. Rule 701 also permits affiliates to sell their Rule 701 shares without having to comply with the holding-period provisions of Rule 144. Unless otherwise restricted, Rule 701 shares may be sold 90 days after the effective date of this offering. 69 71 UNDERWRITING CoSine and the underwriters for the offering named below have entered into an underwriting agreement for the shares being offered. Subject to conditions in the underwriting agreement, each underwriter has severally agreed to purchase the number of shares indicated in the following table. Goldman, Sachs & Co., Chase Securities Inc., FleetBoston Robertson Stephens Inc. and J.P. Morgan Securities Inc. are the representatives of the underwriters.
Number of Underwriters Shares ------------ --------- Goldman, Sachs & Co......................................... Chase Securities Inc........................................ FleetBoston Robertson Stephens Inc.......................... J.P. Morgan Securities Inc.................................. ---------- Total..................................................... 10,000,000 ==========
If the underwriters sell more shares than the total number in the table above, the underwriters have an option to buy up to an additional 1,500,000 shares from CoSine to cover these sales. They may exercise that option for 30 days. If any shares are purchased under this option, the underwriters will severally purchase shares in approximately the same proportion as set forth in the table above. The following table shows the per share and total underwriting discounts and commissions to be paid to the underwriters by CoSine. Such amounts are shown assuming both no exercise and full exercise of the underwriters' option to purchase additional shares.
Paid by CoSine --------------------------- No Exercise Full Exercise ----------- ------------- Per Share............ $ $ Total................ $ $
Shares sold by the underwriters to the public will initially be offered at the initial public offering price on the cover of this prospectus. Any shares sold by the underwriters to securities dealers may be sold at a discount of up to $ per share from the initial public offering price. Any of these securities dealers may resell any shares purchased from the underwriters to other brokers or dealers at a discount of up to $ per share from the initial public offering price. If all the shares are not sold at the initial offering price, the representatives may change the offering price and the other selling terms. Before the offering, there has been no public market for the common stock. The initial public offering price will be negotiated among CoSine and the representatives. Among the factors to be considered in determining the initial public offering price of the shares will be prevailing market conditions and CoSine's historical performance, estimates of the business potential and earnings prospects of CoSine, an assessment of CoSine's management and the consideration of the above factors in relation to market valuation of companies in related businesses. CoSine and its executive officers, directors and stockholders holding shares have agreed with the underwriters not to dispose of or hedge any of their common stock or securities convertible into or exchangeable for shares of common stock during the period from the date of this prospectus continuing through the date 180 days after the date of this prospectus, except with the prior written consent of Goldman, Sachs & Co. On the second business day following the public release of CoSine's operating results for the fiscal 70 72 quarter ended December 31, 2000, these restrictions shall cease to apply to 15% of the shares of our capital stock owned by stockholders as of the date of this prospectus if the reported last sale price of CoSine's common stock on the Nasdaq National Market for at least 20 of the 30 trading days ending on the last trading day preceding that date is at least twice the initial public offering price per share in this offering. On the thirtieth day following the public release of CoSine's operating results for the fiscal quarter ended December 31, 2000, these restrictions shall cease to apply to 25% of the shares of our capital stock owned by stockholders as of the date of this prospectus if the reported last sale price of CoSine's common stock on the Nasdaq National Market for at least 20 of the 30 trading days ending on the last trading day preceding that date is at least twice the initial public offering price per share in this offering. These agreements do not apply to employee stock option or stock purchase plans described under "Executive Compensation", or upon the conversion, exchange or exercise of convertible or exchangeable securities or other securities or rights outstanding or existing on the date of this prospectus. In addition, stockholders holding 211,103 shares have agreed with CoSine not to sell, make a short sale of, grant any option for the purchase of or otherwise dispose of any shares without the prior written consent of the underwriters. These agreements with CoSine do not restrict all transactions by those stockholders to hedge their shares, for example through the purchase of a put option or similar derivative security. Those hedging transactions, if they were to occur, could result in sales of additional shares in the open market by one or more third parties participating in the transactions. CoSine has agreed to take reasonable steps to enforce and, without the prior written consent of the underwriters, not to waive these agreements. See "Shares Eligible for Future Sale" for a discussion of certain transfer restrictions. At the request of CoSine, the underwriters have reserved at the initial public offering price up to ten percent of the shares of common stock offered in this offering for sale to directors, officers, employees, business associates and related persons of CoSine. The number of shares of common stock available for sale to the general public will be reduced to the extent these individuals purchase these reserved shares. Any reserved shares which are not so purchased will be offered by the underwriters to the general public on the same basis as the other shares offered by this prospectus. In connection with the offering, the underwriters may purchase and sell shares of common stock in the open market. These transactions may include short sales, stabilizing transactions and purchases to cover positions created by short sales. Short sales involve the sale by the underwriters of a greater number of shares than they are required to purchase in the offering. "Covered" short sales are sales made in an amount not greater than the underwriters' option to purchase additional shares from CoSine in the offering. The underwriters may close out any covered short position by either exercising their option to purchase additional shares or purchasing shares in the open market. In determining the source of shares to close out the covered short position, the underwriters will consider, among other things, the price of shares available for purchase in the open market as compared to the price at which they may purchase shares through the overallotment option. "Naked" short sales are any sales in excess of the underwriters' option to purchase additional shares from CoSine. The underwriters must close out any naked short position by purchasing shares on the open market. A naked short position is more likely to be created if the underwriters are concerned that there may be downward pressure on the price of the common stock in the open market after pricing that could adversely affect investors who purchase in the offering. Stabilizing transactions consist of various bids for or purchases of common stock made by the underwriters in the open market prior to the completion of the offering. The underwriters also may impose a penalty bid. This occurs when a particular underwriter repays to the underwriters a portion of the underwriting discount received 71 73 by it because the representatives have repurchased shares sold by or for the account of such underwriter in stabilizing or short covering transactions. Purchases to cover a short position and stabilizing transactions may have the effect of preventing or retarding a decline in the market price of CoSine's stock, and together with the imposition of the penalty bid, may stabilize, maintain or otherwise affect the market price of the common stock. As a result, the price of the common stock may be higher than the price that otherwise might exist in the open market. If these activities are commenced, they may be discontinued at any time. These transactions may be effected on the Nasdaq National Market, in the over-the-counter market or otherwise. The underwriters do not expect sales to discretionary accounts to exceed five percent of the total number of shares offered. The common stock will be quoted on the Nasdaq National Market under the symbol "COSN". Entities affiliated with Goldman, Sachs & Co. beneficially own an aggregate of 798,859 shares of CoSine's series D preferred stock, which were purchased for $3.505 per share, and 66,667 shares of CoSine's series E preferred stock, which were purchased for $15.00 per share. Entities affiliated with Chase Securities Inc. beneficially own an aggregate of 159,772 shares of Cosine's series D preferred stock, which were purchased for $3.505 per share, and 9,333 shares of CoSine's series E preferred stock, which were purchased for $15.00 per share. Entities affiliated with Goldman, Sachs & Co. and entities affiliated with Chase Securities, Inc. have agreed that none of the shares of common stock held by them upon conversion of the series D preferred stock will be sold, transferred, assigned, pledged or hypothecated for a period of 90 days following the effective date of the offering, except to any underwriter or to officers or partners of the underwriters, and members of the selling group or their officers or partners. Entities affiliated with Goldman, Sachs & Co. and entities affiliated with Chase Securities, Inc. have agreed that none of the shares of common stock held by them upon conversion of the series E preferred stock will be sold, transferred, assigned, pledged or hypothecated for a period of one year following the effective date of the offering, except to any underwriter or to officers or partners of the underwriters, and members of the selling group or their officers or partners. Additionally, Access Technology Partners, L.P., a fund of outside investors that is managed by an affiliate of Chase Securities Inc., owns 639,087 shares of series D preferred stock, which were purchased for $3.505 per share, and 37,333 shares of series E preferred stock, which were purchased for $15.00 per share. Entities affiliated with Chase Securities Inc. also hold warrants that are immediately exercisable to purchase 154,064 shares of CoSine's series D preferred stock for $3.505 per share. Entities affiliated with Chase Securities Inc. have agreed that none of the shares of common stock held by them upon exercise of warrants to purchase shares of series D preferred stock and upon conversion of the series D preferred stock will be sold, transferred, assigned, pledged or hypothecated for a period of 90 days following the effective date of the offering, except to any underwriter or to officers or partners of the underwriters, and members of the selling group or their officers or partners. A prospectus in electronic format may be made available on the web sites maintained by one or more underwriters. The underwriters may agree to allocate a number of shares to underwriters for sale to their online brokerage account holders. Internet distributions will be allocated by the lead managers to underwriters that may make Internet distributions on the same basis as other allocations. CoSine estimates that its share of the total expenses of the offering, excluding underwriting discounts and commissions, will be approximately $3,000,000. CoSine has agreed to indemnify the several underwriters against certain liabilities, including liabilities under the Securities Act of 1933. 72 74 VALIDITY OF COMMON STOCK The validity of the common stock in this offering will be passed upon for us by Wilson Sonsini Goodrich & Rosati, Professional Corporation, Palo Alto, California, and for the underwriters by Sullivan & Cromwell, Palo Alto, California. An aggregate of 111,485 shares of our common stock are beneficially owned by: - - WS Investment Company 99A, an investment partnership composed of current and former members and employees of Wilson Sonsini Goodrich & Rosati, Professional Corporation; and - - a number of current individual members and employees of Wilson Sonsini Goodrich & Rosati, Professional Corporation. EXPERTS Ernst & Young LLP, independent auditors, have audited our consolidated financial statements: - - as of December 31, 1998 and 1999; - - for the years ended December 31, 1998 and 1999; and - - for the periods from inception (April 14, 1997) to December 31, 1997 and 1999, as set forth in their report. We have included our consolidated financial statements in this prospectus and elsewhere in the registration statement, in reliance on Ernst & Young LLP's report, given on their authority as experts in accounting and auditing. WHERE YOU MAY FIND ADDITIONAL INFORMATION We filed with the Securities and Exchange Commission a registration statement on Form S-1 under the Securities Act for the shares of common stock in this offering. This prospectus does not contain all of the information in the registration statement and the exhibits and schedule that were filed with the registration statement. For further information about us and our common stock, we refer you to the registration statement and the exhibits and schedule that were filed with the registration statement. A copy of the registration statement and the exhibits and schedule that we filed with the registration statement may be inspected without charge at the public reference room maintained by the SEC at 450 Fifth Street, N.W., Washington, D.C. 20549, and copies of all or any part of the registration statement may be obtained from the SEC upon payment of a fee. You may call the SEC at 1-800-SEC-0330 for further information on the operation of the public reference room. The SEC maintains a web site that contains reports, proxy and information statements and other information about registrants that file electronically with the SEC. The address of the site is http://www.sec.gov. Upon completion of this offering, we will become subject to the information and periodic reporting requirements of the Securities Exchange Act of 1934, and will file periodic reports, proxy statements and other information with the SEC. These periodic reports, proxy statements and other information will be available for inspection and copying at the regional offices, public reference facilities and web site of the SEC referred to above. 73 75 INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- Report of Ernst & Young LLP, Independent Auditors........... F-2 Consolidated Balance Sheets................................. F-3 Consolidated Statements of Operations....................... F-4 Consolidated Statement of Redeemable Convertible Preferred Stock and Stockholders' Equity (Net Capital Deficiency)... F-5 Consolidated Statements of Cash Flows....................... F-8 Notes to Consolidated Financial Statements.................. F-10
F-1 76 REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS The Board of Directors and Stockholders CoSine Communications, Inc. We have audited the accompanying consolidated balance sheets of CoSine Communications, Inc. (a development stage company) as of December 31, 1998 and 1999, and the related consolidated statements of operations, redeemable convertible preferred stock and stockholders' equity (net capital deficiency), and cash flows for the years ended December 31, 1998 and 1999 and for the periods from inception (April 14, 1997) to December 31, 1997 and 1999. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. 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 consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of CoSine Communications, Inc. (a development stage company) at December 31, 1998 and 1999, and the consolidated results of its operations and its cash flows for the years ended December 31, 1998 and 1999, and for the periods from inception (April 14, 1997) to December 31, 1997 and 1999, in conformity with accounting principles generally accepted in the United States. Palo Alto, California March 2, 2000 F-2 77 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARES)
PRO FORMA STOCKHOLDERS' DECEMBER 31, EQUITY AT ------------------ JUNE 30, JUNE 30, 1998 1999 2000 2000 ------- -------- --------- ------------- (UNAUDITED) ASSETS Current assets: Cash and cash equivalents.................................. $ 6,580 $ 20,089 $ 44,699 Short-term investments..................................... -- 34,497 44,124 Accounts receivable: Trade.................................................... -- -- 18,000 Other.................................................... -- -- 44 Inventory.................................................. 670 327 7,360 Prepaid expenses and other current assets.................. 254 1,820 14,199 ------- -------- --------- Total current assets................................... 7,504 56,733 128,426 Property and equipment, net................................. 2,767 7,631 18,349 Other assets................................................ 828 1,706 1,037 ------- -------- --------- $11,099 $ 66,070 $ 147,812 ======= ======== ========= LIABILITIES AND STOCKHOLDERS' EQUITY (NET CAPITAL DEFICIENCY) Current liabilities: Accounts payable........................................... $ 2,840 $ 2,505 $ 10,267 Accrued liabilities........................................ 730 1,468 5,413 Accrued compensation....................................... 121 812 1,763 Note payable............................................... 201 -- 223 Deferred revenue........................................... -- 30 6,268 Current portion of equipment and working capital loans..... 712 2,274 2,660 Current portion of obligations under capital lease......... -- -- 1,708 Other current liabilities.................................. -- 60 9 ------- -------- --------- Total current liabilities.............................. 4,604 7,149 28,311 Long-term portion of equipment and working capital loans.... 1,948 6,037 5,867 Long-term portion of obligations under capital lease........ -- -- 3,777 Accrued rent................................................ 762 1,648 1,876 Other long-term liabilities................................. -- 222 192 Commitments Redeemable preferred stock: Series B convertible preferred stock, $.0001 par value: 13,578,649 shares authorized, 12,884,205 shares issued and outstanding at December 31, 1998 and 1999, and 12,935,018 at June 30, 2000; 12,935,018 on an as-if converted basis; no shares issued and outstanding -- pro forma; aggregate liquidation preference of $9,509 and $9,546 at December 31, 1999 and June 30, 2000, respectively.............................. 9,823 9,823 9,861 -- Series C convertible preferred stock, $.0001 par value: 27,503,677 shares authorized, 24,503,677 shares issued and outstanding at December 31, 1999, and June 30, 2000; none at December 31, 1998; 24,503,677 on an as-if converted basis; no shares issued and outstanding -- pro forma; aggregate liquidation preference of $21,980 at December 31, 1999 and June 30, 2000...................... -- 22,342 32,642 -- Series D convertible preferred stock, $.0001 par value: 20,500,000 shares authorized, 17,118,253 and 17,743,253 shares issued and outstanding shares at December 31, 1999, and June 30, 2000 respectively; none at December 31, 1998; 17,743,253 on an as-if converted basis; no shares issued and outstanding -- pro forma; aggregate liquidation preference of $59,999 and $62,190 at December 31, 1999 and June 30, 2000, respectively................. -- 57,223 62,184 -- Series E convertible preferred stock, $.0001 par value: 4,666,667 shares authorized, 4,666,667 shares issued and outstanding at June 30, 2000; none at December 31, 1998 and 1999; 4,666,667 on an as-if converted basis; no shares issued and outstanding -- pro forma; aggregate liquidation preference of $70,000 at June 30, 2000....... -- -- 69,995 -- Stockholders' equity (net capital deficiency): Preferred stock, $0.0001 par value, 3,000,000 shares authorized and 0 shares issued and outstanding -- pro forma.................................................... -- -- -- -- Series A convertible preferred stock, $.0001 par value: 2,150,000 shares authorized, 1,875,000 shares issued and outstanding at December 31, 1998 and 1999 and June 30, 2000; 7,500,000 on an as-if-converted basis; no shares issued and outstanding -- pro forma; aggregate liquidation preference of $3,000 at December 31, 1998 and 1999 and June 30, 2000................................... -- -- -- -- Common stock, $.0001 par value, 200,000,000 shares authorized (300,000,000 pro forma), 6,666,664, 10,764,151 and 20,406,737 shares issued and outstanding at December 31, 1998 and 1999, and June 30, 2000 respectively; 90,079,828 shares issued and outstanding -- pro forma.... 1 1 2 9 Additional paid-in capital................................. 3,465 40,048 122,002 296,677 Notes receivable from stockholders......................... (80) (903) (18,613) (18,613) Accumulated other comprehensive income (loss).............. -- 11 13 13 Deferred compensation...................................... -- (30,386) (66,116) (66,116) Deficit accumulated during the development stage........... (9,424) (47,145) (104,181) (104,181) ------- -------- --------- -------- Total stockholders' equity (net capital deficiency).... (6,038) (38,374) (66,893) 107,789 ------- -------- --------- ======== $11,099 $ 66,070 $ 147,812 ======= ======== =========
See accompanying notes. F-3 78 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA)
PERIOD FROM PERIOD FROM INCEPTION INCEPTION (APRIL 14, 1997) YEARS ENDED (APRIL 14, 1997) SIX MONTHS ENDED TO DECEMBER 31, TO JUNE 30, DECEMBER 31, ------------------- DECEMBER 31, -------------------- 1997 1998 1999 1999 1999 2000 ---------------- ------- -------- ---------------- -------- -------- (UNAUDITED) Revenue............................ $ -- $ -- $ -- $ -- $ -- $ 11,321 Non-cash charges related to equity issuances............... -- 3,699 ------ ------- -------- -------- -------- -------- Revenue, net of non-cash charges related to equity issuances...... -- 7,622 Cost of sales: Cost of goods sold............... -- -- -- -- -- 6,332 Non-cash charges related to equity issuances............... -- -- -- -- -- 943 ------ ------- -------- -------- -------- -------- Total cost of sales............ -- 7,275 Gross profit (loss)................ -- -- -- -- -- 347 Operating expenses: Research and development......... 87 7,353 25,088 32,528 11,358 24,103 Non-cash research and development charges related to equity issuances...................... -- 13 2,248 2,261 106 10,000 Sales and marketing.............. -- 601 4,601 5,202 1,325 11,153 Non-cash sales and marketing charges related to equity issuances...................... -- 5 1,476 1,481 432 5,089 General and administrative....... 47 1,106 4,266 5,419 1,865 3,705 Non-cash general and administrative charges related to equity issuances............ -- -- 714 714 52 4,608 ------ ------- -------- -------- -------- -------- Total operating expenses......................... 134 9,078 38,393 47,605 15,138 58,658 ------ ------- -------- -------- -------- -------- Loss from operations............... (134) (9,078) (38,393) (47,605) (15,138) (58,311) Other income (expenses): Interest income.................. 3 55 1,250 1,308 255 2,065 Interest expense................. -- (56) (552) (608) (191) (732) Non-cash interest expense related to equity issuances............ -- (211) (47) (258) (24) (54) Other............................ -- (3) 21 18 0 (4) ------ ------- -------- -------- -------- -------- Total other income (expenses)................... 3 215 672 460 40 1,275 ------ ------- -------- -------- -------- -------- Net loss........................... (131) (9,293) (37,721) (47,145) (15,098) (57,036) Deemed dividend to series D preferred stockholders........... -- -- -- -- -- (2,500) ------ ------- -------- -------- -------- -------- Net loss allocable to common stockholders..................... $ (131) $(9,293) $(37,721) $(47,145) $(15,098) $(59,536) ====== ======= ======== ======== ======== ======== Basic and diluted net loss per common share..................... $(0.25) $ (4.53) $ (7.49) $ (3.63) $ (7.19) ====== ======= ======== ======== ======== Shares used in computing basic and diluted net loss per common share............................ 522 2,051 5,034 4,156 8,286 ====== ======= ======== ======== ======== Pro forma basic and diluted net loss per common share (unaudited)...................... $ (0.75) $ (0.83) ======== ======== Shares used in computing pro forma basic and diluted net loss per common share (unaudited)......... 50,575 71,922 ======== ========
See accompanying notes. F-4 79 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENT OF REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (NET CAPITAL DEFICIENCY) (IN THOUSANDS, EXCEPT SHARES AND PER SHARE DATA)
REDEEMABLE NOTES ACCUMULATED CONVERTIBLE CONVERTIBLE ADDITIONAL RECEIVABLE OTHER PREFERRED PREFERRED COMMON PAID-IN FROM COMPREHENSIVE STOCK STOCK STOCK CAPITAL STOCKHOLDERS INCOME ----------- ----------- ------- ---------- --------------- ------------- Issuance of 4,000,000 shares of common stock to founder in September 1997 at $0.00025 per share for cash.............. $ -- $ -- $ 1 $ -- $ -- $-- Issuance of 1,562,500 shares of series A preferred stock in November 1997 to investors at $1.60 per share for cash and promissory notes......................... -- -- -- 2,500 (1,000) -- Net loss and comprehensive loss............ -- -- -- -- -- -- ------- ------ ------- ------ ------- --- Balance at December 31, 1997................. -- -- 1 2,500 (1,000) -- Issuance of 2,666,664 shares of common stock to founders in January 1998 and February 1998 at $0.0375 per share for cash and notes........................... -- -- -- 100 (80) -- Issuance of 312,500 shares of series A preferred stock to investors in April 1998 at $1.60 per share, net of issuance costs of $11............................. -- -- -- 489 -- -- Issuance of 12,884,205 shares of series B preferred stock to investors in December 1998 at $0.738 per share, net of issuance costs of $37............................. 9,471 -- -- -- -- -- Issuance of warrants to purchase 43,067 shares of common stock in connection with services................................. -- -- -- 5 -- -- Issuance of warrants to purchase 159,105 shares of series A preferred stock in connection with lease of building........ -- -- -- 371 -- -- Issuance of warrants to purchase 694,444 shares of series B preferred stock in connection with loan financing........... 352 -- -- -- -- -- Repayment of notes receivable from stockholders............................. -- -- -- -- 1,000 -- Net loss and comprehensive loss............ -- -- -- -- -- -- ------- ------ ------- ------ ------- --- Balance at December 31, 1998 (carried forward)................................... $ 9,823 $ -- $ 1 $3,465 $ (80) $-- DEFICIT TOTAL ACCUMULATED STOCKHOLDERS' DURING THE EQUITY DEFERRED DEVELOPMENT (NET CAPITAL COMPENSATION STAGE DEFICIENCY) ------------ ----------- -------------- Issuance of 4,000,000 shares of common stock to founder in September 1997 at $0.00025 per share for cash.............. $ -- $ -- $ 1 Issuance of 1,562,500 shares of series A preferred stock in November 1997 to investors at $1.60 per share for cash and promissory notes......................... -- -- 1,500 Net loss and comprehensive loss............ -- (131) (131) -------- -------- -------- Balance at December 31, 1997................. -- (131) 1,370 Issuance of 2,666,664 shares of common stock to founders in January 1998 and February 1998 at $0.0375 per share for cash and notes........................... -- -- 20 Issuance of 312,500 shares of series A preferred stock to investors in April 1998 at $1.60 per share, net of issuance costs of $11............................. -- -- 489 Issuance of 12,884,205 shares of series B preferred stock to investors in December 1998 at $0.738 per share, net of issuance costs of $37............................. -- -- -- Issuance of warrants to purchase 43,067 shares of common stock in connection with services................................. -- -- 5 Issuance of warrants to purchase 159,105 shares of series A preferred stock in connection with lease of building........ -- -- 371 Issuance of warrants to purchase 694,444 shares of series B preferred stock in connection with loan financing........... -- -- -- Repayment of notes receivable from stockholders............................. -- -- 1,000 Net loss and comprehensive loss............ -- (9,293) (9,293) -------- -------- -------- Balance at December 31, 1998 (carried forward)................................... $ -- $ (9,424) $ (6,038)
See accompanying notes. F-5 80 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENT OF REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (CONTINUED) (NET CAPITAL DEFICIENCY) (IN THOUSANDS, EXCEPT SHARES AND PER SHARE DATA)
REDEEMABLE NOTES ACCUMULATED CONVERTIBLE CONVERTIBLE ADDITIONAL RECEIVABLE OTHER PREFERRED PREFERRED COMMON PAID-IN FROM COMPREHENSIVE STOCK STOCK STOCK CAPITAL STOCKHOLDERS INCOME ----------- ----------- ------- ---------- --------------- ------------- Balance at December 31, 1998 (brought forward)................................... $ 9,823 $ -- $ 1 3,465 $ (80) $-- Issuance of 73,667 shares of common stock for services at various dates at prices ranging from $0.545 to $2.60 per share... -- -- -- 163 -- -- Issuance of 24,503,677 shares of series C preferred stock to investors in March 1999 at $0.897 per share, net of issuance costs of $29............................. 21,950 -- -- -- -- -- Issuance of 17,118,253 shares of series D preferred stock to investors in September and October 1999 at $3.505 per share, net of issuance costs of $3,079.............. 56,921 -- -- -- -- -- Issuance of warrants to purchase 641,904 shares of series C preferred stock for technical, marketing and market-related product development services............. 392 -- -- -- -- -- Issuance of warrants to purchase 154,064 shares of series D preferred stock in connection with services................. 302 -- -- -- -- -- Issuance of 4,023,820 shares of common stock in connection with stock options for cash and promissory notes............ -- -- -- 1,603 (873) -- Increase in value of variable award warrants of series A preferred stock issued in connection with lease of building................................. -- -- -- 396 -- -- Increase in value of variable award warrants of common stock issued in connection with services................. -- -- -- 255 -- -- Repayment of notes receivable from stockholders............................. -- -- -- -- 50 -- Deferred stock-based compensation.......... -- -- -- 33,955 -- -- Amortization of deferred stock-based compensation............................. -- -- -- -- -- -- Issuance of options to non-employees to purchase common stock.................... -- -- -- 211 -- -- Components of comprehensive loss:.......... Net loss................................. -- -- -- -- -- -- Unrealized gains on investments.......... -- -- -- -- -- 11 ------- ------ ------- ------ ------- --- Total comprehensive loss............. -- -- -- -- -- 11 ------- ------ ------- ------ ------- --- Balance at December 31, 1999 (carried forward)................................... $89,388 $ -- $ 1 40,048 $ (903) $11 DEFICIT TOTAL ACCUMULATED STOCKHOLDERS' DURING THE EQUITY DEFERRED DEVELOPMENT (NET CAPITAL COMPENSATION STAGE DEFICIENCY) ------------ ----------- -------------- Balance at December 31, 1998 (brought forward)................................... $ -- $ (9,424) $ (6,038) Issuance of 73,667 shares of common stock for services at various dates at prices ranging from $0.545 to $2.60 per share... -- -- 163 Issuance of 24,503,677 shares of series C preferred stock to investors in March 1999 at $0.897 per share, net of issuance costs of $29............................. -- -- -- Issuance of 17,118,253 shares of series D preferred stock to investors in September and October 1999 at $3.505 per share, net of issuance costs of $3,079.............. -- -- -- Issuance of warrants to purchase 641,904 shares of series C preferred stock for technical, marketing and market-related product development services............. -- -- -- Issuance of warrants to purchase 154,064 shares of series D preferred stock in connection with services................. -- -- -- Issuance of 4,023,820 shares of common stock in connection with stock options for cash and promissory notes............ -- -- 730 Increase in value of variable award warrants of series A preferred stock issued in connection with lease of building................................. -- -- 396 Increase in value of variable award warrants of common stock issued in connection with services................. -- -- 255 Repayment of notes receivable from stockholders............................. -- -- 50 Deferred stock-based compensation.......... (33,955) -- -- Amortization of deferred stock-based compensation............................. 3,569 -- 3,569 Issuance of options to non-employees to purchase common stock.................... -- -- 211 Components of comprehensive loss:.......... Net loss................................. -- (37,721) (37,721) Unrealized gains on investments.......... -- -- 11 -------- -------- -------- Total comprehensive loss............. -- (37,721) (37,710) -------- -------- -------- Balance at December 31, 1999 (carried forward)................................... $(30,386) $(47,145) $(38,374)
See accompanying notes. F-6 81 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENT OF REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (CONTINUED) (NET CAPITAL DEFICIENCY) (IN THOUSANDS, EXCEPT SHARES AND PER SHARE DATA)
REDEEMABLE NOTES ACCUMULATED CONVERTIBLE CONVERTIBLE ADDITIONAL RECEIVABLE OTHER PREFERRED PREFERRED COMMON PAID-IN FROM COMPREHENSIVE STOCK STOCK STOCK CAPITAL STOCKHOLDERS INCOME ----------- ----------- ------ ---------- --------------- ------------- Balance at December 31, 1999 (brought forward)................. $ 89,388 $-- $ 1 $ 40,048 $ (903) $11 Issuance of 19,202 shares of common stock for services in February, March and April 2000 at $4.00 and $9.50 per share (unaudited)....... -- -- -- 96 -- -- Issuance of warrants to purchase 1,233,499 shares of series C preferred stock to a customer upon issuance of a purchase order (unaudited)....................... 10,300 -- -- -- -- -- Issuance of warrants to purchase 668,849 shares of common stock to customers upon issuance of purchase orders (unaudited)....... -- -- -- 5,952 -- -- Issuance of warrants to purchase 37,500 shares of common stock in connection with lease agreement (unaudited)....................... -- -- -- 357 -- -- Issuance of 625,000 shares of Series D preferred stock to investors in March 2000 at $8.00 per share, net of issuance costs of $39 (unaudited)................ 4,961 -- -- -- -- -- Issuance of 4,666,667 shares of Series E preferred stock to investors in May 2000 at $15.00 per share, net of issuance costs of $5 (unaudited)................. 69,995 -- -- -- -- -- Issuance of 9,047,564 shares of common stock in connection with stock options for cash and notes (unaudited)....................... -- -- 1 19,177 (17,814) -- Increase in value of variable award warrants of common stock in connection with services (unaudited)....................... -- -- -- 219 -- -- Exercise of warrants to purchase 159,105 shares of Series A convertible preferred stock (unaudited)....................... -- -- -- 10 -- -- Conversion of 159,105 shares of Series A convertible preferred stock into 636,420 shares of common stock (unaudited).......... -- -- -- -- -- -- Exercise of warrants to purchase 50,813 shares of Series B convertible preferred stock (unaudited)....................... 38 -- -- -- -- -- Repayment of notes receivable from shareholders (unaudited).......... -- -- -- -- 43 -- Deferred stock-based compensation (unaudited)....................... -- -- -- 55,496 -- -- Amortization of deferred stock-based compensation (unaudited)....................... -- -- -- -- -- -- Issuance of options to non-employees to purchase common stock (unaudited)................. -- -- -- 708 -- -- Repurchase of unvested shares (unaudited)....................... -- -- -- (61) 61 -- Components of comprehensive loss... -- -- -- -- -- -- Net loss (unaudited).............. -- -- -- -- -- -- Unrealized gains (losses) on investments (unaudited)......... -- -- -- -- -- 2 -------- --- --- -------- -------- --- Total Comprehensive loss (unaudited)............... -- -- -- -- -- 2 -------- --- --- -------- -------- --- Balance at June 30, 2000 (unaudited)....................... $174,682 $-- $ 2 $122,002 $(18,613) $13 ======== === === ======== ======== === DEFICIT TOTAL ACCUMULATED STOCKHOLDERS' DURING THE EQUITY DEFERRED DEVELOPMENT (NET CAPITAL COMPENSATION STAGE DEFICIENCY) ------------ ----------- -------------- Balance at December 31, 1999 (brought forward)................. $(30,386) $ (47,145) $(38,374) Issuance of 19,202 shares of common stock for services in February, March and April 2000 at $4.00 and $9.50 per share (unaudited)....... -- -- 96 Issuance of warrants to purchase 1,233,499 shares of series C preferred stock to a customer upon issuance of a purchase order (unaudited)....................... -- -- -- Issuance of warrants to purchase 668,849 shares of common stock to customers upon issuance of purchase orders (unaudited)....... -- -- 5,952 Issuance of warrants to purchase 37,500 shares of common stock in connection with lease agreement (unaudited)....................... -- -- 357 Issuance of 625,000 shares of Series D preferred stock to investors in March 2000 at $8.00 per share, net of issuance costs of $39 (unaudited)................ -- -- -- Issuance of 4,666,667 shares of Series E preferred stock to investors in May 2000 at $15.00 per share, net of issuance costs of $5 (unaudited)................. -- -- -- Issuance of 9,047,564 shares of common stock in connection with stock options for cash and notes (unaudited)....................... -- -- 1,364 Increase in value of variable award warrants of common stock in connection with services (unaudited)....................... -- -- 219 Exercise of warrants to purchase 159,105 shares of Series A convertible preferred stock (unaudited)....................... -- -- 10 Conversion of 159,105 shares of Series A convertible preferred stock into 636,420 shares of common stock (unaudited).......... -- -- -- Exercise of warrants to purchase 50,813 shares of Series B convertible preferred stock (unaudited)....................... -- -- -- Repayment of notes receivable from shareholders (unaudited).......... -- -- 43 Deferred stock-based compensation (unaudited)....................... (55,496) -- -- Amortization of deferred stock-based compensation (unaudited)....................... 19,766 -- 19,766 Issuance of options to non-employees to purchase common stock (unaudited)................. -- -- 708 Repurchase of unvested shares (unaudited)....................... -- -- -- Components of comprehensive loss... -- -- -- Net loss (unaudited).............. -- (57,036) (57,036) Unrealized gains (losses) on investments (unaudited)......... -- -- 2 -------- --------- -------- Total Comprehensive loss (unaudited)............... -- (57,036) (57,034) -------- --------- -------- Balance at June 30, 2000 (unaudited)....................... $(66,116) $(104,181) $(66,893) ======== ========= ========
See accompanying notes. F-7 82 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
PERIOD FROM PERIOD FROM INCEPTION YEARS ENDED INCEPTION SIX MONTHS ENDED (APRIL 14, 1997) TO DECEMBER 31, (APRIL 14, 1997) TO JUNE 30, DECEMBER 31, ------------------- DECEMBER 31, -------------------- 1997 1998 1999 1999 1999 2000 ------------------- ------- -------- ------------------- -------- -------- (UNAUDITED) OPERATING ACTIVITIES: Net loss.............................. $ (131) $(9,293) $(37,721) $(47,145) $(15,098) $(57,036) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation........................ 2 284 1,921 2,207 638 2,650 Non-cash warrant expense -- preferred stock................... -- 227 511 738 438 3,256 Non-cash warrant expense -- common stock............................. -- -- 29 29 14 574 Common stock issued for services.......................... -- -- 163 163 -- 96 Amortization of deferred stock compensation...................... -- -- 3,569 3,569 150 19,766 Issuance of options to purchase common stock...................... -- -- 211 211 12 708 Accrued expense on bridge note converted into preferred stock.... -- 9 -- 9 -- -- Changes in unrealized gains or losses............................ -- -- 11 11 -- 2 Changes in operating assets and liabilities: Accounts receivable (trade)....... -- -- -- -- -- (18,000) Other receivables................. -- -- -- -- -- (44) Inventory......................... -- (670) 343 (327) 11 (7,033) Prepaid expenses and other current assets.......................... (10) (169) (1,437) (1,616) (767) (3,761) Other assets...................... (100) (302) (504) (906) 518 1,117 Accounts payable.................. 73 2,767 (335) 2,505 186 7,762 Accrued liabilities............... -- 730 738 1,468 551 3,943 Accrued compensation.............. -- 121 691 812 961 951 Note payable...................... -- 201 (201) -- -- -- Obligations under capital lease... -- -- -- -- -- -- Deferred revenue.................. -- 10,173 Deferred rent..................... -- 762 886 1,648 707 228 Other liabilities................. -- -- 312 312 -- 141 ------ ------- -------- -------- -------- -------- Net cash used in operating activities.......................... (166) (5,333) (30,813) (36,312) (11,679) (34,507) ------ ------- -------- -------- -------- -------- INVESTING ACTIVITIES: Capital expenditures.................. (34) (3,019) (6,785) (9,838) (2,273) (13,368) Purchase of short-term investments......................... -- -- (34,497) (34,497) -- (39,831) Proceeds from maturities of short-term investments......................... -- -- -- -- -- 23,017 Proceeds from sales of short-term investments......................... -- -- -- -- -- 7,187 ------ ------- -------- -------- -------- -------- Net cash provided by (used in) investing activities................ (34) (3,019) (41,282) (44,335) (2,273) (22,995) ------ ------- -------- -------- -------- --------
See accompanying notes. F-8 83 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) CONSOLIDATED STATEMENTS OF CASH FLOWS (CONTINUED) (IN THOUSANDS)
PERIOD FROM PERIOD FROM INCEPTION YEARS ENDED INCEPTION SIX MONTHS ENDED (APRIL 14, 1997) TO DECEMBER 31, (APRIL 14, 1997) TO JUNE 30, DECEMBER 31, ------------------- DECEMBER 31, -------------------- 1997 1998 1999 1999 1999 2000 ------------------- ------- -------- ------------------- -------- -------- (UNAUDITED) FINANCING ACTIVITIES: Proceeds from equipment and working capital loans..................... -- 2,853 7,001 9,854 2,739 7,111 Principal payments of equipment and working capital loans............. -- (193) (1,350) (1,543) (514) (1,410) Proceeds from issuance of bridge loans............................. -- 1,500 -- 1,500 -- -- Proceeds from issuance of preferred stock, net........................ 1,500 8,451 79,173 89,124 21,942 75,004 Proceeds from issuance of common stock............................. 1 20 730 751 38 1,364 Proceeds from notes receivable from stockholders...................... -- 1,000 50 1,050 48 43 ------ ------- -------- -------- -------- -------- Net cash provided by financing activities........................ 1,501 13,631 85,604 100,736 24,253 82,112 ------ ------- -------- -------- -------- -------- Net increase in cash and cash equivalents....................... 1,301 5,279 13,509 20,089 10,301 24,610 Cash and cash equivalents at beginning of period............... -- 1,301 6,580 -- 6,580 20,089 ------ ------- -------- -------- -------- -------- Cash and cash equivalents at end of period............................ $1,301 $ 6,580 $ 20,089 $ 20,089 $ 16,881 $ 44,699 ====== ======= ======== ======== ======== ======== SUPPLEMENTAL INFORMATION: Cash paid for interest.............. $ -- $ 56 $ 552 $ 608 $ 203 $ 720 ====== ======= ======== ======== ======== ======== SUPPLEMENTAL SCHEDULE OF NONCASH INVESTING AND FINANCING ACTIVITIES: Issuance of preferred stock in exchange for bridge loans......... $ -- $ 1,500 $ -- $ 1,500 $ -- $ -- ====== ======= ======== ======== ======== ======== Issuance and remeasurement of warrants.......................... $ -- $ 728 $ 1,345 $ 2,073 $ 568 $ 16,828 ====== ======= ======== ======== ======== ======== Notes receivable received from stockholders (in exchange for issuance of common stock)......... $1,000 $ 80 $ 873 $ 1,953 $ -- $ 17,814 ====== ======= ======== ======== ======== ========
See accompanying notes. F-9 84 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES DESCRIPTION OF BUSINESS CoSine Communications, Inc. was incorporated in California on April 14, 1997 and is engaged in the development of network-based, high-performance internet service delivery platforms for the global business IP Service Provider market. Since inception, CoSine's principal activities have been recruiting personnel, raising capital, and performing product development. Accordingly, CoSine is classified as a development stage enterprise at December 31, 1999. During the first half of 2000, CoSine began shipping product and recognizing revenue, and therefore ceased to be classified as a development stage enterprise. BASIS OF PRESENTATION The consolidated financial statements include all of the accounts of CoSine and its wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated. MANAGEMENT'S PLANS As of December 31, 1999, CoSine had an accumulated deficit of approximately $47.1 million. Even though CoSine began shipping product and recognizing revenue in the first half of 2000, management expects to continue to incur substantial operating losses for the foreseeable future primarily because of expected increases in expenses for: - - Sales and marketing activities - - Research and product development activities - - General and administrative activities CoSine does not have a credit facility or committed sources of capital. If operating and capital resources are insufficient to meet future requirements, CoSine will have to raise additional funds to continue the development and commercialization of future technologies. These funds may not be available on favorable terms, or at all. If adequate funds are not available on attractive terms, CoSine may be required to curtail operations significantly or to obtain funds by entering into financing, supply or operating agreements on unattractive terms. CoSine may choose to raise additional capital due to market conditions or strategic considerations even if it has sufficient funds for current or future operating plans. CoSine believes that its available cash, cash equivalents, and short-term investments of $54.6 million as of December 31, 1999 plus the cash proceeds raised from the issuance of series E redeemable convertible preferred stock (see Note 11) will be adequate to fund its operations through December 31, 2000. UNAUDITED PRO FORMA INFORMATION In February 2000, the Board of Directors authorized the management of CoSine to file a registration statement with the Securities and Exchange Commission permitting CoSine to sell shares of its common stock to the public. If the initial public offering is consummated under the terms presently anticipated, all of the convertible preferred stock outstanding, and certain of the warrants to purchase common and preferred stock which are automatically exercised upon the closing of an initial public offering of CoSine's common stock, will automatically convert into common stock. Unaudited pro forma stockholders' equity, as adjusted for the assumed conversion of the preferred stock, and the automatic and assumed exercise of certain of the warrants to purchase common and preferred stock, is shown on the consolidated balance sheet. F-10 85 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) INTERIM CONSOLIDATED FINANCIAL DATA The consolidated financial information at June 30, 2000 and for the six months ended June 30, 1999 and 2000 is unaudited but has been prepared on the same basis as the annual consolidated financial statements and, in the opinion of management, includes all adjustments, consisting only of normal recurring adjustments, that CoSine considers necessary for a fair presentation of the consolidated financial position at these dates and the consolidated operating results and cash flows for these periods. Results for the interim periods are not necessarily indicative of the results to be expected for any subsequent period. USE OF ESTIMATES The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and the accompanying notes. Actual results could differ from these estimates. REVENUE RECOGNITION CoSine generally recognizes product revenue at the time of shipment, assuming that persuasive evidence of an arrangement exists, the sales price is fixed or determinable and collectibility is probable, unless CoSine has future obligations for installation or has to obtain customer acceptance, in which case revenue is deferred until these obligations are met. The Company's product incorporates software that is not incidental to the related hardware and, accordingly, the Company recognizes revenue in accordance with the American Institute of Certified Public Accountants issued Statement of Position 97-2 "Software Revenue Recognition". For arrangements that include the delivery of multiple products, the revenue is allocated to the various products based on "vendor-specific objective evidence of fair value" ("VSOE"). The Company establishes VSOE based on either the price charged for the product when the same product is sold separately or for products not yet sold separately, based on the prices of such products individually established by management with the relevant authority to do so. In such cases, the Company believes that it is probable that the price will not change before the separate introduction of the products into the marketplace. Revenue from post-contract support obligations for specified future periods is deferred and recognized on a straight-line basis over the service period. Revenue from consulting services is recognized as the services are provided. Amounts billed in excess of revenue recognized are included as deferred revenue in the accompanying consolidated balance sheets. CoSine's initial customer was provided limited price protection rights which expire in October 2000. CoSine believes that the likelihood of a price adjustment is remote primarily because: - - our products are technologically advanced and of a unique design; - - we expect our products to have long sales and deployment cycles; and - - the length of time until the price protection rights expire is short compared to the lengthy sale and deployment cycles. During the six month period ended June 30, 2000, the Company issued warrants to its initial customers. The warrants were issued upon receipt of substantial purchase orders which were preceded by a period of cooperation with the Company in the marketing, development and refinement of its product. The fair value of these customer-related warrants was calculated to be $16.2 F-11 86 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) million. Approximately $3.7 million was recognized as an offset to gross revenue during the six months ended June 30, 2000. The remaining $12.5 million will be amortized in future periods as an offset to gross revenue to the extent of and as the revenue associated with these orders is recognized. COST OF SALES Cost of goods sold is comprised primarily of material, labor, overhead and estimated warranty reserves. In addition, cost of sales includes non-cash stock based expense arising from the issuance suppliers of options to purchase common stock. WARRANTY RESERVES The warranty period for CoSine's product is generally outlined in the specific sales agreements. Estimated expenses for warranty obligations are accrued as revenue is recognized and included in cost of goods sold. CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS CoSine considers all highly liquid investments purchased with original maturities of three months or less from the date of purchase to be cash equivalents. Investments with maturities in excess of three months and less than one year are considered to be short-term investments. Management determines the appropriate classification of its cash equivalents and investment securities at the time of purchase and reevaluates its determination as of each balance sheet date. Management has classified CoSine's marketable securities as available-for-sale securities in the accompanying consolidated financial statements. Available-for-sale securities are carried at fair value, with unrealized gains and losses reported in a separate component of stockholders' equity. Realized gains and losses and declines in value judged to be other-than-temporary on available-for-sale securities are included in interest income. Interest on securities classified as available-for-sale is also included in interest income. The cost of securities sold is based on the specific identification method. CoSine invests its excess cash in U.S. government and agency securities, debt instruments of financial institutions and corporations, and money market funds with strong credit ratings. CoSine has established guidelines about the diversification of its investments and their maturities which should maintain safety and liquidity. INVENTORIES Inventories, stated at the lower of cost (first-in, first-out) or market, consist principally of raw materials at December 31, 1998 and 1999, and work-in-process at June 30, 2000. PROPERTY AND EQUIPMENT Property and equipment are stated at cost, net of accumulated depreciation. Property and equipment are depreciated using the straight-line method over estimated useful lives of the assets (ranging from three to five years) or the related lease term. IMPAIRMENT OF LONG-LIVED ASSETS In accordance with the provisions of Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of", CoSine reviews long-lived assets, including property and equipment, for impairment whenever events or changes in business circumstances indicate that the carrying amount of the assets may not be fully recoverable. Under SFAS 121, an impairment loss would be recognized when estimated undiscounted future cash flows expected to result from the use of the asset and its eventual disposition F-12 87 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) is less than its carrying amount. Impairment, if any, is assessed using discounted cash flows. Through December 31, 1999, there have been no impairment losses. RESEARCH AND DEVELOPMENT Research and development expenditures, consisting primarily of materials, labor, and overhead costs for the development and testing of prototypes and salaries and related personnel costs associated with independent research, are generally charged to operations as incurred. Statement of Financial Accounting Standards No. 86, "Accounting for the Costs of Computer Software to be Sold, Leased or Otherwise Marketed," requires the capitalization of certain software development costs subsequent to the establishment of technological feasibility. Based on CoSine's product development process, technological feasibility is established upon the completion of a working model. Through December 31, 1999, capitalizable costs incurred after achieving technological feasibility have not been significant for any development project. Accordingly, CoSine has charged all costs to research and development expense in the periods they were incurred. STOCK-BASED COMPENSATION CoSine accounts for employee and director stock option grants using the intrinsic value method in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" which does not require the recognition of compensation expense for options granted to employees and directors with exercise prices equal to the fair value of the common stock at the date of grant. The fair value disclosures required by Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" are included in Note 8. SFAS 123 requires the disclosure of pro forma information about net loss and net loss per share as if CoSine had accounted for its stock options under the fair value method. Stock options granted to non-employees are accounted for in accordance with SFAS 123 and the Emerging Issues Task Force Consensus No. 96-18, "Accounting for Equity Instruments That Are Issued to Other Than Employees for Acquiring, or in Conjunction with Selling, Goods or Services" which requires the value of the options to be periodically re-measured as they vest over a performance period. The fair value of the options is determined using the Black- Scholes model. COMPREHENSIVE INCOME (LOSS) As of January 1, 1998, CoSine adopted Statement of Financial Accounting Standards No. 130, "Reporting Comprehensive Income". SFAS 130 requires unrealized gains or losses on CoSine's available-for-sale securities to be included in other comprehensive income. For the year ended December 31, 1999, comprehensive loss was reduced by $11,000 in unrealized gains on available-for-sale securities. During the six months ended June 30, 2000, comprehensive loss was decreased by $3,000 in unrealized gains on available-for-sale securities. For the period from the date of incorporation to December 31, 1997 and the year ended December 31, 1998, comprehensive loss equaled net loss. SEGMENT REPORTING Effective January 1, 1998, CoSine adopted Statement of Financial Accounting Standards No. 131, "Disclosures about Segments of an Enterprise and Related Information". SFAS 131 establishes annual and interim reporting standards for an enterprise's operating segments and related disclosures about its products, services, geographic areas and major customers. F-13 88 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) CoSine has determined that it operates in only one segment. Accordingly, the adoption of SFAS 131 had no impact on CoSine's financial statements. For the six months ended June 30, 2000, CoSine generated $5,609,000 of gross revenue from a customer based in Europe. Approximately $500,000 of charges associated with warrants issued to the customer upon issuance of a purchase order was amortized as an offset to gross revenues during the six months ended June 30, 2000. Substantially all of CoSine's assets are located in the United States at December 31, 1998 and 1999 and at June 30, 2000. SIGNIFICANT CONCENTRATIONS Financial instruments that potentially subject CoSine to concentrations of credit risk primarily consist of cash equivalents and short-term investments (see Note 2). CoSine relies on a few companies as the sole source of various materials in its production process. CoSine also utilizes a few third-party subcontractors to manufacture all of the product that it sells. If these suppliers were unable to satisfy CoSine's material and production requirements, CoSine may be unable to meet customer demand. For the six months ended June 30, 2000, two customers accounted for all of CoSine's revenue. ADVERTISING EXPENSE The cost of advertising is expensed as incurred. CoSine's advertising costs through December 31, 1999 have been immaterial. RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Financial Instruments and for Hedging Activities" which provides a comprehensive and consistent standard for the recognition and measurement of derivatives and hedging activities. SFAS 133 is effective for fiscal years beginning after June 15, 2000. CoSine will assess the impact of SFAS 133 if it uses derivatives or conducts hedging activities. In March 1998, the AICPA issued Statement of Position 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use". SOP 98-1 requires that entities capitalize some costs related to internal use software once specific criteria have been met. CoSine adopted the provisions of SOP 98-1 on January 1, 1999. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin No. 101, "Revenue Recognition in Financial Statements". The bulletin summarizes some of the commission's views in applying generally accepted accounting principles to revenue recognition in financial statements. CoSine believes its revenue recognition policy complied with the bulletin as of June 30, 2000. In March 2000, the Emerging Issues Task Force reached a consensus on Issue 00-2, "Accounting for the Costs of Developing a Web Site". In general, EITF 00-2 states that the costs of developing a web site should be accounted for under provisions of Statement of Position 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." Although CoSine intends to comply with EITF 00-2, the adoption of EITF 00-2 will not have a significant impact on its financial position, results of operations or cash flows because while CoSine maintains a website, it is not a significant focus of its business. EITF 00-2 is effective for costs incurred after June 30, 2000. F-14 89 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) In March 2000, the Financial Accounting Standards Board issued FASB Interpretation No. 44 "Accounting for Certain Transactions involving Stock Compensation". FIN 44 provides guidance for certain issues arising in the application of APB Opinion No. 25 "Accounting for Stock Issued to Employees". CoSine believes that its accounting policy for stock issued to employees is in compliance with FIN 44 as of June 30, 2000. NET LOSS PER COMMON SHARE Basic net loss per common share is calculated based on the weighted-average number of common shares outstanding during the periods presented, less the weighted-average shares outstanding which are subject to CoSine's right of repurchase. Diluted net loss per common share would give effect to the dilutive effect of common stock equivalents consisting of convertible preferred stock, stock options and warrants (calculated using the treasury stock method). Potentially dilutive securities have been excluded from the diluted net loss per common share computations as their inclusion would be antidilutive. The computation of pro forma basic and diluted net loss per common share includes shares issuable upon the conversion of outstanding shares of convertible preferred stock (using the as-if converted method) from the original date of issuance. Shares issuable upon exercise of some of CoSine's warrants for common and preferred stock, which are automatically exercised upon closing of an initial public offering, do not affect the computation, because the shares are issued on the date of the assumed conversion. F-15 90 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) The following table presents the calculation of historical basic and diluted net loss per share and pro forma basic and diluted net loss per share (in thousands, except per share data):
PERIOD FROM SIX MONTHS INCEPTION YEARS ENDED ENDED (APRIL 14, 1997) DECEMBER 31, JUNE 30, TO DECEMBER 31, ------------------ ------------------- 1997 1998 1999 1999 2000 ---------------- ------- -------- -------- -------- Historical: Net loss allocable to common stockholders................. $ (131) $(9,293) $(37,721) $(15,098) $(59,536) ======= ======= ======== ======== ======== Basic and diluted: Weighted-average shares of common stock outstanding..... 1,868 6,484 7,659 6,906 17,226 Less: weighted-average shares subject to repurchase........ (1,346) (4,433) (2,625) (2,750) (8,940) ------- ------- -------- -------- -------- Weighted-average shares used in basic and diluted net loss per common share............. 522 2,051 5,034 4,156 8,286 ======= ======= ======== ======== ======== Basic and diluted net loss per common share.................... $ (0.25) $ (4.53) $ (7.49) $ 3.63 $ (7.19) ======= ======= ======== ======== ======== Pro forma: Net loss allocable to common stockholders................. $(37,721) $(59,536) ======== ======== Pro forma basic and diluted: Shares used above............... 5,034 8,286 Pro forma adjustment to reflect weighted-average effect of assumed conversion of convertible preferred stock (unaudited).................. 45,541 63,636 -------- -------- Weighted-average shares used in pro forma basic and diluted net loss per common share (unaudited).................. 50,575 71,922 ======== ======== Pro forma basic and diluted net loss per common share (unaudited).................. $ (0.75) $ (0.83) ======== ========
During all periods presented, CoSine had securities outstanding which could potentially dilute basic earnings per share in the future, but were excluded from the computation of diluted F-16 91 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) net loss per share as their effect would have been antidilutive. These outstanding securities consist of the following:
PERIOD FROM SIX MONTHS INCEPTION YEARS ENDED ENDED (APRIL 14, 1997) DECEMBER 31, JUNE 30, TO DECEMBER 31, --------------- --------------- 1997 1998 1999 1999 2000 ---------------- ------ ------ ------ ------ (IN THOUSANDS) Convertible preferred stock (as-if converted basis)....................... 6,250 20,384 62,006 44,888 67,348 Stock options............................ -- 2,618 10,762 6,182 9,861 Warrants to purchase common stock........ -- 43 43 43 749 Warrants to purchase preferred stock (as- if converted basis).................... -- 1,331 2,127 1,973 2,674
2. SHORT-TERM INVESTMENTS Short-term investments as of December 31, 1999, including cash equivalents and short-term investments, were as follows (in thousands): Money market funds.......................................... $ 11,448 Commercial paper............................................ 17,751 Corporate bonds............................................. 24,670 -------- 53,869 Amounts classified as cash equivalents...................... (19,372) -------- Short-term investments...................................... $ 34,497 ========
As of December 31, 1999, the fair value approximated the amortized cost of available-for-sale securities. As of December 31, 1999, the average portfolio duration was 122 days. There were no short-term investments as of December 31, 1998. F-17 92 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) 3. PROPERTY AND EQUIPMENT Property and equipment consists of:
DECEMBER 31, ----------------- JUNE 30, 1998 1999 2000 ------ ------- --------- (IN THOUSANDS) Computer equipment......................................... $1,716 $ 2,175 $ 5,437 Furniture and fixtures..................................... 526 1,069 2,187 Leasehold improvements..................................... 155 364 1,542 Computer software.......................................... 656 2,002 3,607 Manufacturing and laboratory equipment..................... -- 4,228 10,433 ------ ------- ------- 3,053 9,838 23,206 Less accumulated depreciation.............................. (286) (2,207) (4,857) ------ ------- ------- Property and equipment, net................................ $2,767 $ 7,631 $18,349 ====== ======= =======
4. LEASES CoSine leases its facilities under an operating lease which began August 1, 1998 and has been extended to expire July 31, 2011. Minimum future lease payments due under this lease agreement are as follows at December 31, 1999:
AMOUNT -------------- (IN THOUSANDS) 2000.................................................... $ 1,924 2001.................................................... 1,983 2002.................................................... 2,038 2003.................................................... 2,088 2004.................................................... 2,148 Thereafter.............................................. 16,710 ------- Total minimum lease payments.......................... $26,891 =======
Rent expense was $19,000 for the period from inception (April 14, 1997) to December 31, 1997, $1,045,000 in 1998 and $2,093,000 in 1999, and is calculated on a straight-line basis. CoSine subleases a portion of the space at its facility. Rental income relating to the sublease was $0 for the period from inception (April 14, 1997) to December 31, 1997, $13,000 in 1998 and $323,000 in 1999. The sublease arrangements, which expire on June 30, 2001, provide for income of $531,000 in 2000 and $261,000 in 2001. For its facility lease, CoSine has issued a noninterest-bearing promissory note due January 2001 for approximately $222,000 relating to a security deposit, which is included in other long-term liabilities at December 31, 1999. During the six months ended June 30, 2000, CoSine leased additional facilities in various locations. All the leases, including the F-18 93 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) lease above run for periods ranging from 2 months to 156 months. The minimum annual rental commitments under the operating leases are $5,136,000 in 2000/2001, $4,919,000 in 2001/2002, $4,477,000 in 2002/2003, $4,452,000 in 2003/2004, $4,503,000 in 2004/2005, and $4,619,000 in 2005/2006. 5. EQUIPMENT AND WORKING CAPITAL LOANS As of December 31, 1999, CoSine has entered into equipment and working capital loan agreements totaling $9,854,000 that are secured by the assets purchased using the loans. Principal and interest are due in monthly installments through 2003. Interest accrues at annual rates between 12.9% and 14.1%. As of December 31, 1999, total principal payments due under these agreements are $8,311,000. The fair value of the loans is estimated based on current interest rates available to CoSine for debt instruments with similar terms, degrees of risk, and remaining maturities. The carrying value of the loans approximates their fair value. Future minimum principal payments under these equipment and working capital loans at December 31, 1999 are as follows:
AMOUNT -------------- (IN THOUSANDS) 2000.................................................... $ 3,221 2001.................................................... 3,005 2002.................................................... 2,528 2003.................................................... 1,570 ------- Total minimum payments.................................. 10,324 Less: amount representing interest...................... (2,013) ------- 8,311 Less: current portion................................... (2,274) ------- $ 6,037 =======
During the six months ended June 30, 2000, CoSine obtained additional equipment loans totaling $1,486,000 that are secured by the assets purchased using the loans. Principal and interest are due in monthly installments through 2004. Interest accrues at 14.3% per annum. As of June 30, 2000, total principal payments due under these agreements are $1,382,000. Future minimum principal payments under these loans are as follows: 2000 -- $204,000, 2001 -- $308,000, 2002 -- $355,000, 2003 -- $385,000, and 2004 -- $130,000. 6. COMMITMENTS As of December 31, 1999, CoSine had commitments of approximately $6,067,000 relating to purchases of raw material components and $3,813,000 relating to the minimum amount of royalties payable on software licenses on future product sales regardless of the amount of these sales. Depending on the level of CoSine's future product sales, CoSine must pay additional royalties on these contracts when it exceeds the minimum sales thresholds under the contracts. F-19 94 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) 7. 401(k) PLAN CoSine has a defined contribution benefit plan established under the provisions of section 401(k) of the Internal Revenue Code. All employees may elect to contribute up to 20% of their compensation to the plan through salary deferrals, subject to IRS limits. CoSine may contribute a discretionary matching contribution. Since inception (April 14, 1997) through December 31, 1999, CoSine made no matching contributions to the plan. 8. REDEEMABLE CONVERTIBLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (NET CAPITAL DEFICIENCY) At December 31, 1999, CoSine has convertible preferred stock that consists of (i) series A convertible preferred stock and (ii) series B, C, and D redeemable convertible preferred stock, collectively referred to as "preferred stock." CONVERTIBLE PREFERRED STOCK SERIES A Series A convertible preferred stock ranks senior to CoSine's common stock and junior to the series B, C and D preferred stock as to liquidation preference. Series A convertible preferred stock has a liquidation preference of $1.60 per share, plus any accrued dividends. Each share of series A convertible preferred stock is, at the option of the holder, convertible into common stock as determined by dividing the original issue price by the following conversion price: $0.40 (subject to adjustment). The outstanding shares of series A convertible preferred stock automatically convert into common stock either immediately before the closing of an underwritten public offering of common stock in which CoSine receives at least $15,000,000 in gross proceeds, and the price per share is at least $5.00 per share, or at the election of the holders of a majority of the then outstanding shares of series A convertible preferred stock. Series A convertible preferred stock is not redeemable by CoSine. The series A convertible preferred stockholders have voting rights equal to the common shares issuable upon conversion. In addition, the holders of series A convertible preferred stock, voting together as a class, are entitled to elect one member of CoSine's board of directors (as long as 500,000 shares of the class are outstanding). Series A convertible preferred stock ranks senior to the common stock as to dividends. Each fiscal year, series A convertible stockholders are entitled to cumulative dividends of $0.16 per share. Dividends will be paid only when declared by the board of directors, out of legally available funds. No dividends have been declared. REDEEMABLE CONVERTIBLE PREFERRED STOCK SERIES B Series B convertible preferred stock ranks senior to the series A preferred stock and pari passu with the series C and D preferred stock as to liquidation preference. Series B convertible preferred stock has a liquidation preference of $0.738 per share, plus any accrued dividends. The aggregate per share liquidation amount for the holders of series B convertible preferred stock will not exceed $2.50. Each share of series B convertible preferred stock is, at the option of the holder, convertible into common stock as determined by dividing the original issue price by the following conversion price: $0.738 (subject to adjustment). The outstanding shares of series B convertible preferred stock automatically convert into common stock F-20 95 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) either immediately before the closing of an underwritten public offering of common stock in which CoSine receives at least $15,000,000 in gross proceeds, and the price per share is at least $5.00 per share, or at the election of the holders of a majority of the then outstanding shares of series B convertible preferred stock. If at any time within the 90 day period following November 23, 2003, CoSine receives a written request from the holders of not less than 67% of the then outstanding series B, C and D convertible preferred stock, requesting redemption of all or a portion of the series B, C and D convertible preferred stock, CoSine shall redeem pro rata to their respective requests for redemption one-third of each of the series B, C and D convertible preferred stock requested to be redeemed, and shall redeem the series B, C and D convertible preferred stock remaining outstanding after this redemption pro rata to the respective number of shares of each then outstanding, in two equal installments on November 23, 2004 and November 23, 2005. CoSine shall pay in cash for series B preferred the higher of $0.738 per share or the fair market value of the shares as determined by a qualified independent appraiser. The series B convertible preferred stockholders have voting rights equal to the common shares issuable upon conversion. In addition, the holders of series B convertible preferred stock, voting together as a class, are entitled to elect two members of CoSine's board of directors (as long as 500,000 shares of the class are outstanding). Series B convertible preferred stock ranks senior to the common stock as to dividends. Each fiscal year, series B convertible stockholders are entitled to noncumulative dividends of $0.0738 per share. Dividends will be paid only when declared by the board of directors, out of legally available funds. No dividends have been declared. SERIES C Series C convertible preferred stock ranks senior to the series A preferred stock and pari passu with the series B and D preferred stock as to liquidation preference. Series C convertible preferred stock has a liquidation preference of $0.897 per share, plus any accrued dividends. The aggregate per share liquidation amount for the holders of series C preferred stock will not exceed $3.588. Each share of series C convertible preferred stock is, at the option of the holder, convertible into common stock as determined by dividing the original issue price by the following conversion price: $0.897 (subject to adjustment). The outstanding shares of series C convertible preferred stock automatically convert into common stock either upon the close of business on the day immediately before the closing of an underwritten public offering of common stock in which CoSine receives at least $15,000,000 in gross proceeds, and the price per share is at least $5.00 per share, or at the election of the holders of a majority of the then outstanding shares of series C convertible preferred stock. If at any time within the 90 day period following November 23, 2003, CoSine receives a written request from the holders of not less than 67% of the then outstanding series B, C and D convertible preferred stock, requesting redemption of all or a portion of the series B, C and D convertible preferred stock, CoSine shall redeem pro rata to their respective requests for redemption one-third of each of the series B, C and D convertible preferred stock requested to be redeemed, and shall redeem the series B, C and D convertible preferred stock remaining outstanding after this redemption pro rata to F-21 96 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) the respective number of shares of each then outstanding, in two equal installments on November 23, 2004 and November 23, 2005. CoSine shall pay in cash for series C preferred the higher of $0.897 per share or the fair market value of the shares as determined by a qualified independent appraiser. The series C convertible preferred stockholders have voting rights equal to the common shares issuable upon conversion. Series C convertible preferred stock ranks senior to the common stock as to dividends. Each fiscal year, series C convertible stockholders are entitled to noncumulative dividends of $0.0897 per share. Dividends will be paid only when declared by the board of directors, out of legally available funds. No dividends have been declared. SERIES D Series D convertible preferred stock ranks senior to the series A preferred stock and pari passu with the series B and C preferred stock as to liquidation preference. Series D convertible preferred stock has a liquidation preference of $3.505 per share, plus any accrued dividends. The aggregate per share liquidation amount for the holders of series D preferred stock will not exceed $14.02. Each share of series D convertible preferred stock is, at the option of the holder, convertible into common stock as determined by dividing the original issue price by the following conversion price: $3.505 (subject to adjustment). The outstanding shares of series D convertible preferred stock automatically convert into common stock either immediately before the closing of an underwritten public offering of common stock in which CoSine receives at least $15,000,000 in gross proceeds, and the price per share is at least $7.00 per share, or at the election of the holders of a majority of the then outstanding shares of series D convertible preferred stock. If at any time within the 90 day period following November 23, 2003, CoSine receives a written request from the holders of not less than 67% of the then outstanding series B, C and D convertible preferred stock, requesting redemption of all or a portion of the series B, C and D convertible preferred stock, CoSine shall redeem pro rata to their respective requests for redemption one-third of each of the series B, C and D convertible preferred stock requested to be redeemed, and shall redeem the series B, C and D convertible preferred stock remaining outstanding after this redemption pro rata to the respective number of shares of each then outstanding, in two equal installments on November 23, 2004 and November 23, 2005. CoSine shall pay in cash for series D preferred the higher of $3.505 per share or the fair market value of the shares as determined by a qualified independent appraiser. The series D convertible preferred stockholders have voting rights equal to the common shares issuable upon conversion. Series D convertible preferred stock ranks senior to the common stock as to dividends. Each fiscal year, series D convertible stockholders are entitled to noncumulative dividends of $0.3505 per share. Dividends will be paid only when declared by the board of directors, out of legally available funds. No dividends have been declared. DEEMED DIVIDEND In March 2000, CoSine consummated the sale of an additional 625,000 shares of series D redeemable convertible preferred stock from which CoSine received proceeds F-22 97 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) of approximately $5 million or $8.00 per share. At the date of issuance, CoSine believed the per share price of $8.00 represented the fair value of the preferred stock. After CoSine's initial public offering process began, CoSine reevaluated the fair value of its common stock as of March 2000. Accordingly, the increase in fair value has resulted in a beneficial conversion feature of $2.5 million, which has been recorded as a deemed dividend to preferred stockholders in 2000. CoSine recorded the deemed dividend at the date of issuance by offsetting charges and credits to stockholders' equity. The preferred stock dividend increases the net loss allocable to common stockholders in the calculation of basic and diluted net loss per common share for the six months ended June 30, 2000. RESERVED SHARES At December 31, 1999, CoSine has reserved a total of 159,105 shares of series A convertible preferred stock, 694,444 shares of series B convertible preferred stock, 641,904 shares of series C convertible preferred stock, and 154,064 shares of series D convertible preferred stock for issuance under warrant agreements. As of December 31, 1999, warrants were outstanding and exercisable for similar amounts of shares of series A, B, C, and D preferred stock. COMMON STOCK In September 1997, January and February 1998, 6,666,664 shares of common stock were issued to founders of CoSine for cash and full-recourse notes. The outstanding shares are subject to certain transfer restrictions. These shares are also subject to repurchase at the issuance price upon termination of employment. CoSine's right of repurchase expires ratably over periods ranging from 3 to 4 years. As of December 31, 1999, 1,666,666 shares of common stock issued to the two founders are subject to repurchase. CoSine issued 4,023,820 shares of common stock in 1999 and 9,047,564 shares of common stock during the six months ended June 30, 2000, upon stock option exercises for cash and notes. At December 31, 1999, CoSine has reserved shares of common stock for future issuance as follows: Stock options: Options outstanding....................................... 10,761,834 Reserved for future grants................................ 6,834,346 Convertible preferred stock................................. 64,288,738 Warrants outstanding........................................ 2,169,899 ---------- 84,054,817 ==========
Holders of common stock, voting together as a class, are entitled to elect one member of CoSine's board of directors. STOCK DIVIDEND In May 1998, a stock dividend was authorized for the issuance of three common shares for every common share held on the record date (effectively a 4-for-1 stock split). As a result, the conversion price for series A preferred stock was reduced from $1.60 to $0.40. Holders of options for shares of common stock on the record date are entitled to receive four times the number of shares of common stock for the same aggregate price upon exercise. The stock dividend was F-23 98 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) accounted for as a stock split and common share numbers have been adjusted accordingly. 1997 STOCK OPTION PLAN In October 1997, the board of directors adopted the 1997 stock plan for issuance of common stock and grants of options for common stock to employees, consultants and directors. Incentive stock options granted under the plan are at prices not less than the fair value of stock at the date of grant, except in the case of a sale to a person who owns stock representing more than 10% of all the voting power of all classes of stock of CoSine, in which case the purchase price will be 110% of the fair market value of the common stock on the date of grant. Nonstatutory stock options granted under the plan are at prices not less than 85% of the fair value of stock at the date of grant, except in the case of a sale to a person who owns stock representing more than 10% of all the voting power of all classes of stock of CoSine, in which case the purchase price will be 110% of the fair market value of the common stock on the date of grant. Options granted under the plan generally vest over four years at a rate of 25% one year from the grant date and ratably monthly thereafter and expire ten years after the grant, or earlier upon termination. Options may be granted with different vesting terms. The plan also allows for the exercise of options before vesting and the related issuance of restricted stock that is subject to right of repurchase by CoSine. The right of repurchase generally lapses at the rate noted above. An aggregate 2,782,227 and 10,412,422 shares of common stock acquired through the exercise of options are subject to repurchase at an aggregate repurchase price of $1,485,000 as of December 31, 1999 and $20,280,000 as of June 30, 2000. As discussed in Note 1, CoSine has elected to follow APB 25 and related interpretations in accounting for its employee stock options. Under APB 25, when the exercise price of CoSine's employee stock options equals the fair value of the underlying stock on the date of grant, no compensation expense is recognized. F-24 99 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) Stock activity under the 1997 Stock Option Plan was as follows:
SHARES WEIGHTED- AVAILABLE OPTIONS AVERAGE FOR GRANT OUTSTANDING EXERCISE PRICE ----------- ----------- -------------- Authorized................................... 833,332 -- -- ----------- ---------- Balance as of December 31, 1997.............. 833,332 -- -- Authorized................................... 1,786,668 -- -- Granted...................................... (2,618,127) 2,618,127 $0.08 ----------- ---------- Balance as of December 31, 1998.............. 1,873 2,618,127 $0.08 Authorized................................... 19,000,000 -- -- Granted...................................... (12,604,225) 12,604,225 $0.70 Exercised.................................... -- (4,023,820) $0.40 Canceled..................................... 436,698 (436,698) $0.17 ----------- ---------- Balance as of December 31, 1999.............. 6,834,346 10,761,834 $0.69 Authorized (subject to stockholders' approval) (unaudited)...................... 6,000,000 -- -- Granted (unaudited).......................... (8,820,883) 8,820,883 $6.14 Exercised (unaudited)........................ -- (9,047,564) $2.12 Canceled (unaudited)......................... 674,524 (674,524) $1.80 Repurchased (unaudited)...................... 60,600 -- -- ----------- ---------- Balance as of June 30, 2000 (unaudited)...... 4,748,587 9,860,629 $4.18 =========== ==========
The following table summarizes information concerning outstanding options at December 31, 1999:
OPTIONS OUTSTANDING AND EXERCISABLE - ------------------------------------ WEIGHTED- AVERAGE REMAINING EXERCISE NUMBER CONTRACTUAL PRICE OUTSTANDING LIFE - -------- ----------- ----------- (IN YEARS) $0.038 570,163 8.1 $0.150 1,697,976 9.1 $0.225 853,544 9.2 $0.545 1,537,763 9.5 $1.000 6,102,388 9.9 ---------- --- 10,761,834 9.5 ========== ===
STOCK-BASED COMPENSATION During the year ended December 31, 1999 and the six months ended June 30, 2000, CoSine issued stock options to employees with exercise prices which it believed represented the fair value of the stock. In March 2000, after CoSine began the initial offering process, CoSine reevaluated F-25 100 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) the fair value of its common stock. In connection with the reevaluation, CoSine recorded deferred stock compensation for these stock option grants of $33,955,000 in the year ended December 31, 1999 and $55,496,000 in the six months ended June 30, 2000 representing the difference between the fair value of the common stock for financial reporting purposes and the exercise price of the underlying options. This amount is recorded as a reduction of stockholders' equity and is being amortized over the vesting period of the individual options, generally four years, using the graded vesting method. CoSine recorded amortization of deferred stock compensation of $3,569,000 for the year ended December 31, 1999 and $19,766,000 for the six months ended June 30, 2000. During the years ended December 31, 1998 and 1999 and the six months ended June 30, 2000, CoSine granted common stock options to nonemployees at exercise prices that range from $0.15 to $9.50 per share for services provided to CoSine. These options are included in the option tables disclosed above. The options generally vest over four years at a rate of 25% one year from the grant date and ratably monthly thereafter and expire ten years after the grant date. CoSine recognized expense of $211,000 in 1999 and $708,000 during the six months ended June 30, 2000, for these transactions. The related expense in 1998 was not material. The fair value of these options is periodically re-measured as they vest over the performance period and was estimated using the Black-Scholes model with the following assumptions: risk-free interest rate of 5%, expected life of 10 years, a dividend yield of zero, and an expected volatility of CoSine's common stock of 0.6. PRO FORMA INFORMATION Pro forma information about net loss and net loss per share is required by FAS 123, which also requires the information to be determined as if CoSine has accounted for its employee stock options granted under the fair value method of that statement. The fair value of CoSine's options was estimated at the grant date using the Black-Scholes option pricing model with the following assumptions: volatility of 0.6, risk-free interest rate of 5%, an expected life of four years, and a dividend yield of zero. The weighted-average fair value of options granted during 1998 and 1999 was $0.02 and $2.92, respectively. Pro forma information is as follows:
YEARS ENDED DECEMBER 31, ----------------------------- 1997 1998 1999 ------ ------- -------- As reported: Net loss (in thousands)................................... $ (131) $(9,293) $(37,721) Net loss per share........................................ $(0.25) $ (4.53) $ (7.80) Pro forma: Net loss (in thousands)................................... $ (131) $(9,299) $(37,721) Net loss per share........................................ $(0.25) $ (4.53) $ (7.80)
Pro forma net loss and net loss per share equals actual net loss and net loss per share in 1999 due to the fact that the amortization of deferred stock-based compensation exceeds pro forma F-26 101 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) compensation expense calculated under FAS 123. WARRANTS In November 1998, in connection with consulting services, CoSine issued warrants to purchase 43,067 shares of common stock. The warrants are exercisable at any time at $0.15 per share and expire on the earlier of ten years following the issue date or a corporate reorganization. The warrants are automatically exercised upon the closing of an initial public offering or other defined events. The warrants have a variable measurement date and accordingly they are periodically revalued based on the guidance of Emerging Issues Task Force Consensus No. 96-18. The warrants vest over a period of four years and their fair value was calculated to be $260,000 at December 31, 1999 and $479,000 at June 30, 2000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an initial expected life of 10 years. The fair value of the warrants is being amortized over the expected life of the warrants. In August 1998, in connection with a facilities lease arrangement, CoSine issued warrants to purchase 157,915 shares of series A preferred stock. The warrants are exercisable at any time at no cost to the holder and expire on the earlier of five years following the issue date or a corporate reorganization. The warrants have a variable measurement date and accordingly they are periodically revalued based on the guidance of Emerging Issues Task Force Consensus No. 96-18. The warrants vest over a period of one year and their fair value was calculated to be $767,000 at December 31, 1999 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an initial expected life of 5 years. The fair value of the warrants is being amortized over the term of the lease. These warrants were exercised and converted into 631,660 shares of common stock in June 2000. In May 1998, in connection with a loan and security agreement, CoSine issued warrants to purchase 84,688 shares of series B preferred stock. The warrants are fully vested immediately upon issuance and exercisable at any time at $0.738 per share and expire five years following the issue date. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the issuance date. The fair value of the warrants was calculated to be $35,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an expected life of 5 years, and was expensed in full during 1998. In October 1998, in connection with an equipment and working capital loan arrangement, CoSine issued warrants to purchase 304,878 shares of series B preferred stock. The warrants are fully vested immediately upon issuance and exercisable at any time at $0.738 per share and expire eight years following the issue date. The fair value of the warrants was calculated to be $152,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an expected life of 8 years. The fair value of the warrants is being amortized over the term of the loan. In November 1998, in connection with a bridge note agreement, CoSine issued warrants to purchase 304,878 shares of series B preferred stock. The warrants are fully vested immediately upon issuance and exercisable at any time at $0.738 per share and expire on the earlier of ten years following the issue date and a corporate reorganization. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the issuance date. The F-27 102 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) fair value of the warrants was calculated to be $165,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an expected life of 10 years, and was expensed in full during 1998. In May 1999, for technical, marketing and market-related product development services, CoSine issued warrants to a customer to purchase 641,904 shares of series C preferred stock. The warrants are fully vested immediately upon issuance and exercisable at any time at $1.0905 per share and expire five years following the issue date. The warrants are automatically exercised upon the closing of an initial public offering or other defined events. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the issuance date. The fair value of the warrants was calculated to be $392,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an expected life of 5 years, and was expensed in full during 1999. In September 1999, in connection with placement services for the first round of series D issuance, CoSine issued warrants to purchase 148,929 shares of series D preferred stock. The warrants are fully vested immediately upon issuance and exercisable at any time at $3.505 per share and expire five years following the issue date. The warrants are automatically exercised upon the closing of an initial public offering or other defined events. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the issuance date. The fair value of the warrants was calculated to be $292,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an expected life of 5 years, and was recorded as series D first round issuance costs. In October 1999, in connection with placement services for the second round of series D issuance, CoSine issued warrants to purchase 5,135 shares of series D preferred stock. The warrants are fully vested immediately upon issuance and exercisable at any time at $3.505 per share and expire five years following the issue date. The warrants are automatically exercised upon the closing of an initial public offering or other defined events. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the issuance date. The fair value of the warrants was calculated to be $10,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5%, and an expected life of 5 years, and was recorded as series D second round issuance costs. In January 2000, upon receipt of a purchase order from a customer, CoSine issued warrants to the customer to purchase 1,233,499 shares of series C preferred stock at $0.81 per share, subject to adjustment. The warrants have a life of 4 years. They are fully vested and exercisable immediately and are automatically exercised upon the closing of an initial public offering of CoSine's common stock or other defined events. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the issuance date. The fair value of the warrants was calculated to be $10,300,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5% and expected lives of 4 years. The fair value of the warrants has been deferred and will be amortized in future periods as an offset to gross revenue to the extent of and as the revenue associated with this order is recognized. Approximately $3.2 million of the F-28 103 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) fair value was amortized as an offset to gross revenue during the six-month period ended June 30, 2000. In February 2000, upon receipt of a purchase order from a customer, CoSine issued warrants to the customer to purchase 200,000 shares of common stock at $4.00 per share, subject to adjustment. The warrants have a life of 4 years. They are fully vested and exercisable immediately and are automatically exercised upon the closing of an initial public offering of CoSine's common stock or other defined events. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the issuance date. The fair value of the warrants was calculated to be $1,840,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5% and expected lives of 4 years. The fair value of the warrants has been deferred and will be amortized in future periods as an offset to gross revenue to the extent of and as the revenue associated with these orders is recognized. Approximately $500,000 of the fair value was amortized as an offset to gross revenue during the six-month period ended June 30, 2000. In March 2000, upon receipt of a purchase order from a customer, CoSine agreed to issue warrants to the customer to purchase 468,849 shares of common stock at $3.73 per share, subject to adjustment. The warrants have a life of 4 years. They are fully vested and exercisable immediately. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the assumed issuance date. The fair value of the warrants was calculated to be $4,112,000 using the Black-Scholes valuation method, utilizing a volatility factor of 0.6, risk-free interest rate of 5% and expected lives of 4 years. The fair value of the warrants has been deferred and will be amortized in future periods as an offset to gross revenue to the extent of and as the revenue associated with these orders is recognized. No amount of the fair value was amortized as an offset to gross revenue during the six-month period ended June 30, 2000 as no revenue had been recognized in connection with this purchase order. In March 2000, in connection with an equipment lease, CoSine issued warrants for the purchase of 37,500 shares of its common stock at $8.00 per share to a leasing company. The warrants may be exercised at any time before to the earlier of 10 years from the date of the warrant or the fifth anniversary of the first public offering of CoSine's common stock. There are no forfeiture rights. As there are no future performance obligations, the measurement date of the warrants was fixed at the issuance date. The fair value of the warrant was calculated to be $357,000 using the Black-Scholes valuation method utilizing a volatility factor of 0.6, risk-free interest rate of 5% and expected lives of 10 years. This amount has been deferred as prepaid interest and will be amortized over the lease term of 3 years. For the six months ended June 30, 2000, the amount amortized as interest expense was $29,800. In April 2000, for assistance with specific marketing activities CoSine agreed to issue a warrant to a customer for the purchase of 75,000 shares of common stock at $15.00 per share, subject to adjustment. The issuance of the warrant is contingent upon the customer obtaining financing for its purchase order. The Company understands that the customer has sought protection under Chapter 11 of the United States federal bankruptcy code. 9. RELATED PARTIES CoSine has full-recourse promissory notes of $80,000 as of December 31, 1998 F-29 104 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) and $30,000 as of December 31, 1999, from officers of CoSine. In addition, the notes are secured by a pledge of CoSine's common stock and bear an annual interest at 6.13%. The notes and interest accrued but unpaid are due and payable during 2008. As of December 31, 1999, CoSine had full recourse promissory notes totaling $873,000 from employees of CoSine for the payment of stock option exercises (none at December 31, 1998). Yearly interest on the notes ranges from 6.39% to 6.77%. The notes are due and payable at the earliest of the following events: 10 years from the date of loan, termination of the employee or sale of the shares. In 1999, CoSine issued 18,604 shares of common stock to a firm of immigration attorneys in lieu of compensation. A partner of that firm is a relative of an officer of CoSine. 10. INCOME TAXES Due to operating losses and CoSine's inability to recognize an income tax benefit from these losses, there is no provision for income taxes for the period from inception (April 14, 1997) to December 31, 1997, and for the years ended December 31, 1998 and 1999. The difference between the provision (benefit) for income taxes and the amount computed by applying the federal statutory income tax rate to income (loss) before taxes is explained below:
PERIOD FROM INCEPTION YEARS ENDED (APRIL 14, 1997) TO DECEMBER 31, DECEMBER 31, ------------------ 1997 1998 1999 ------------------- ------- -------- (IN THOUSANDS) Tax (benefit) at federal statutory rate............. $(45) $(3,253) $(13,206) Loss for which no tax benefit is currently recognizable...................................... 45 3,253 13,206 ---- ------- -------- Total provision (benefit)................. $ -- $ -- $ -- ==== ======= ========
Significant components of CoSine's deferred tax assets are as follows:
DECEMBER 31, ------------------- 1998 1999 ------- -------- (IN THOUSANDS) Deferred tax assets: Net operating loss carryforwards............................ $ 3,100 $ 10,300 Tax credit carryforwards.................................... 270 900 Accruals and reserves not currently deductible.............. 600 3,300 ------- -------- Total deferred tax assets................................... 3,970 14,500 Valuation allowance......................................... (3,970) (14,500) ------- -------- Net deferred tax assets..................................... $ -- $ -- ======= ========
F-30 105 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) Financial Accounting Standards Board Statement No. 109 provides for the recognition of deferred tax assets if realization of the deferred tax assets is more likely than not. Based upon the weight of available evidence, which includes CoSine's historical operating performance and the reported cumulative net losses in all prior years, CoSine has provided a full valuation allowance against its net deferred tax assets. The valuation allowance increased by $10,530,000 in 1998 and $3,925,000 in 1999. As of December 31, 1999, CoSine had federal and state net operating loss carryforwards of approximately $25,600,000 and $28,900,000, respectively. As of December 31, 1999, CoSine also had federal and state research and development tax credit carryforwards of approximately $600,000 and $500,000, respectively. The net operating loss and tax credit carryforwards will expire at various dates beginning in 2005, if not utilized. Use of the net operating loss and tax credit carryforwards may be subject to substantial annual limitation due to the ownership change limitations provided by the Internal Revenue Code of 1986, and similar state provisions. The annual limitation may result in the expiration of net operating loss and tax credit carryforwards before utilization. 11. SUBSEQUENT EVENTS CAPITAL LEASES During the six months ended June 30, 2000, CoSine entered into various capital leases under sale and leaseback agreements to finance the purchase of computer and other equipment. Capitalized costs of $5,625,000 and accumulated amortization of $215,000 are included in property and equipment at June 30, 2000. Future minimum payments under this capital lease as of June 30, 2000 are as follows (in thousands): 2000/2001......................... $ 2,175 2001/2002......................... 2,175 2002/2003......................... 2,089 ------- Total minimum lease payments...... $ 6,439 Less amount representing interest........................ (954) ------- Present value of net minimum lease payments........................ $ 5,485 Less current portion.............. (1,708) ------- Long-term portion................. $ 3,777 =======
SERIES E REDEEMABLE CONVERTIBLE PREFERRED STOCK On May 10, 2000, CoSine sold 4,666,667 shares of series E redeemable convertible preferred stock at $15.00 per share. The shares automatically convert into common stock upon the closing of an underwritten public offering of common stock in which CoSine receives gross proceeds of at least $15,000,000, and the price per share is at least $7.00. The conversion price upon the closing of an underwritten public offering is $15.00 per share. If the offering price is less than $15.00 per share, the conversion price will be reduced to the actual offering price. However, it will not be reduced to less than $7.00 per share. The shares are redeemable on substantially the same terms as those described above for series D (Note 8) except that the redemption price will be the higher of $15.00 per share or the fair market value of the shares as determined by a qualified independent appraiser. Series E redeemable convertible preferred stock ranks senior to Series A preferred stock and pari passu with Series B, C and D preferred stock as to liquidation preference. F-31 106 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) 2000 STOCK OPTION PLAN In May 2000, the board of directors adopted the 2000 Stock Plan (2000 Plan), which will be submitted to the stockholders for approval before completion of the initial public offering. The 2000 Plan provides for the grant of incentive stock options to employees, and for the grant of nonstatutory stock options and stock purchase rights to employees, directors and consultants. Incentive stock options granted under the 2000 Plan will be at prices not less than the fair value of the common stock at the date of grant. The term of each option will be determined by the administrator of the plan, generally 10 years or less. Shares issued under the plan are subject to repurchase rights at a rate to be determined by the administrator. If the initial public offering is completed, 2,500,000 shares of common stock, plus the number of shares reserved and unissued under the 1997 Stock Plan, will be reserved for issuance under the 2000 Plan. 2000 EMPLOYEE STOCK PURCHASE PLAN In May 2000, the board of directors adopted the 2000 Employee Stock Purchase (Purchase Plan), which will be effective upon the closing of the initial public offering if it is approved by the stockholders. The Purchase Plan is intended to qualify under the provisions of section 423 of the 1986 Internal Revenue Code of the United States. A total of 2,500,000 shares have been reserved for issuance under the Purchase Plan. Under the terms of the Purchase Plan, employees may contribute via payroll deductions up to 10% of their compensation to purchase shares at a price equal to 85% of the lower of the fair market value of the common stock at the beginning of the offering period or at the end of the offering period. 2000 DIRECTOR OPTION PLAN In May 2000, the board of directors adopted the 2000 Director Option Plan (Director's Plan), which will be effective upon the closing of the initial public offering if it is approved by the stockholders. A total number of 400,000 shares of common stock have been reserved for issuance under the Director's Plan. The Director's Plan will automatically grant an option to purchase 80,000 shares of common stock to each non-employee director when he or she is first elected to CoSine's board of directors following completion of this offering. The Director's Plan also provides that each non-employee director who has been a member of the board of directors for at least six months before the date of the annual stockholders' meeting will receive an automatic annual grant of options to acquire 20,000 shares of common stock. The options will have an exercise price per share equal to the fair market value of common stock at the date of grant and will have a term of ten years. Initial options vest and become exercisable in four equal annual increments immediately following the date of grant. Later options vest and become exercisable on the fourth anniversary of the date of grant. LEGAL PROCEEDINGS On June 6, 2000, Ericsson Inc. filed a complaint against CoSine and five of its employees in the Superior Court of Wake County in North Carolina. The complaint alleged that CoSine misappropriated trade secrets known to the five employees who had recently left Ericsson's employ and that CoSine induced the employees to breach their contractual obligations to Ericsson. The complaint seeks injunctive relief and unspecified monetary damages, as well as punitive and treble damages. F-32 107 COSINE COMMUNICATIONS, INC. (A DEVELOPMENT STAGE COMPANY) NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) (INFORMATION AS OF JUNE 30, 2000 AND FOR THE SIX MONTHS ENDED JUNE 30, 1999 AND 2000 IS UNAUDITED) Subsequent to a hearing on July 13, 2000, CoSine and Ericsson signed a settlement terms sheet, in which CoSine has agreed not to solicit Ericsson employees for the purpose of recruiting. Under the agreement, CoSine will not incur financial liability. DELAWARE REINCORPORATION In August 2000, The Company completed its reincorporation in the State of Delaware. The par value of the preferred and common stock is $.0001 per share. The Company's reincorporation has been reflected in the December 31, 1998 and 1999 and June 30, 2000 financial statements. F-33 108 DESCRIPTION OF GRAPHICS INSIDE BACK COVER / ARTWORK: This diagram shows two levels of six evenly distributed icons that are connected to a central icon labeled the core. There are a total of 12 icons that connect to the core. At the core there is a circuit cloud surrounded by a second larger circuit cloud. Along the border of the larger circuit cloud there are pictures of 6 CoSine service processing switch boxes, called IPSX 9000s, that are connected to the core. Extending out from the IPSX 9000s are the other 6 icons. Starting from the upper left side of the diagram, there is a circular icon labeled Enterprise Subscriber Sites. On the upper right side of the diagram, there is a circuit cloud icon labeled Regional Internet Service Provider. On the right side of the diagram, there is a circular icon labeled Internet, and to the bottom right of this icon there is a cluster of 3 circular icons collectively labeled High Speed Access. On the bottom left side of the diagram, there is a circular icon labeled Application Service Provider Data Center. On the left side of the diagram, there is one last icon labeled Dial Up Users, which means internet dial up customers. At the top right corner, there is the following text: CoSine Communications. To the left of this text is a square icon. Beneath that text and icon is the following text: The Next Wave in Carrier Services. At the bottom of the diagram, there is the following text: Cosine Service Application Software: Public Key Infrastructure: Provides trusted management of digital certificates (electronic signatures) Anti Virus: Provides protection against computer viruses Intrusion Detection: Provides for monitoring of unwanted access to user's information on the Internet Dial Tunnel Termination: Provides secure Internet access for mobile users Network Address Translation: Provides translation from private to public Internet addresses Secure Broadband Switching: Connects high-speed Internet users to Internet Service Providers securely Virtual Routing: Provides secure routers for the private network Encrypted Virtual Private Network: secure private networks that run on the Internet Firewall: Security programs designed to prevent unwanted network traffic. At the bottom right corner, there is the following text: Market Applications. 109 - ------------------------------------------------------ - ------------------------------------------------------ No dealer, salesperson or other person is authorized to give any information or to represent anything not contained in this prospectus. You must not rely on any unauthorized information or representations. This prospectus is an offer to sell only the shares offered hereby, but only under circumstances and in jurisdictions where it is lawful to do so. The information contained in this prospectus is current only as of its date. ---------------------- TABLE OF CONTENTS
Page ---- Prospectus Summary................... 3 Risk Factors......................... 7 You Should Not Rely on Forward Looking Statements Because They Are Inherently Uncertain............... 13 Use of Proceeds...................... 14 Dividend Policy...................... 14 Capitalization....................... 15 Dilution............................. 17 Selected Consolidated Financial Data............................... 19 Management's Discussion and Analysis of Financial Condition and Results of Operations...................... 21 Business............................. 29 Management........................... 45 Related Party Transactions........... 56 Principal Stockholders............... 61 Description of Capital Stock......... 65 Shares Eligible for Future Sale...... 68 Underwriting......................... 70 Validity of Common Stock............. 73 Experts.............................. 73 Where You May Find Additional Information........................ 73 Index to Consolidated Financial Statements......................... F-1
---------------------- Throughout and including , 2000, the 25th day after the date of this prospectus, all dealers effecting transactions in these securities, whether or not participating in this offering, may be required to deliver a prospectus. This is in addition to a dealer's obligation to deliver a prospectus when acting as an underwriter and with respect to an unsold allotment or subscription. - ------------------------------------------------------ - ------------------------------------------------------ - ------------------------------------------------------ - ------------------------------------------------------ 10,000,000 Shares COSINE COMMUNICATIONS, INC. Common Stock ---------------------- [COSINE LOGO] ---------------------- GOLDMAN, SACHS & CO. CHASE H&Q ROBERTSON STEPHENS J.P. MORGAN & CO. Representatives of the Underwriters - ------------------------------------------------------ - ------------------------------------------------------ 110 PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The table below lists the costs and expenses, other than underwriting discounts and commissions, payable by us for the sale of Common Stock being registered. All amounts are estimates except the SEC registration fee and the NASD filing fee. SEC registration fee........................................ $ 51,612 NASD filing fee............................................. 20,050 Nasdaq National Market listing fee.......................... 95,000 Printing and engraving costs................................ 600,000 Legal fees and expenses..................................... 1,000,000 Accounting fees and expenses................................ 800,000 Blue Sky fees and expenses.................................. 15,000 Transfer Agent and Registrar fees........................... 77,210 Miscellaneous expenses...................................... 341,128 ---------- Total..................................................... $3,000,000 ==========
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS Sections 145(a) and (b) of the Delaware General Corporation Law permit us to indemnify any person who was or is a party or is threatened to be made a party to any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative by reason of the fact that the person is or was one of our directors, officers, employees or agents, or is or was serving at our request as a director, officer, employee or agent of another enterprise, against expenses (including attorneys' fees), judgments, fines and amounts paid in settlement actually and reasonably incurred by the person if the person acted in good faith and in a manner the person reasonably believed to be in or not opposed to our best interests, and, with respect to any criminal action or proceeding, had no reasonable cause to believe the person's conduct was unlawful; provided, that with respect to actions or suits brought on our behalf, the person may only be indemnified with respect to expenses (including attorneys' fees) and may not be indemnified with respect to any claim, issue or matter for which the person is adjudged to be liable unless a court determines otherwise. Under Section 145(c), to the extent that one of our present or former directors or officers is successful on the merits or otherwise in defense of any of these actions, suits or proceedings, or in defense of any claim, issue or matter, the director or officer shall be indemnified against expenses (including attorneys' fees) that the director or officer actually and reasonably incurs because of the action, suit or proceeding. Section 145 of the Delaware General Corporation Law permits a corporation to include in its charter documents, and in agreements between the corporation and its directors and officers, provisions expanding the scope of indemnification beyond that specifically provided by the current law. Article XI of our certificate of incorporation requires us to indemnify our directors, officers, employees and agents if permitted by law. Article XI also requires us or our stockholders, if permitted by Delaware law, to indemnify our directors for monetary damages for breach of fiduciary duty as a director. Article VI of our bylaws requires us to indemnify our directors, officers, employees, and agents if permitted by Sections 145(a) and (b) of the Delaware General Corporation Law. Article VI also provides that, to the extent that a director, officer, employee or agent has been successful on the merits or otherwise in defense of any such action, suit or proceeding, or in II-1 111 defense of any claim, issue or matter, we shall indemnify the person for his reasonable expenses incurred because of his defense. In addition to the indemnification provided for in our restated certificate of incorporation and bylaws, we intend to enter into indemnification agreements with our existing and future directors and officers. We also intend to obtain, as permitted by Article VI of our bylaws, liability insurance for the benefit of our directors and officers. ITEM 15. RECENT SALES OF UNREGISTERED SECURITIES During the last three years, we have issued unregistered securities to a limited number of persons as described below: 1. On September 1, 1997, we sold 4,000,000 shares of our common stock to Dean E.G. Hamilton for an aggregate purchase price of $1,000.00. 2. On January 15, 1998, we sold 1,833,332 shares of our common stock to Lianghwa Jou for an aggregate purchase price of $68,749.95 of which approximately $20,625 was paid in cash and approximately $48,125 was paid by issuance of a promissory note payable to us. 3. On February 19, 1998 we sold 833,332 shares of our common stock to a former member of our board of directors for an aggregate purchase price of approximately $31,250, which consideration was paid for by issuance of a promissory note payable to us. 4. On November 7, 1997 and April 2, 1998, we sold 1,562,500 shares and 312,500 shares, respectively, of our series A preferred stock for $1.60 per share to a group of private investors for an aggregate purchase price of $3,000,000. 5. On May 29, 1998 and June 22, 1998, as partial payment for an equipment lease and loan facility, we issued to the equipment financier a warrant to purchase an aggregate of 84,688 shares of our series B preferred stock at an exercise price of $0.738 per share. 6. On August 26, 1998, as partial payment for a lease of office space in Redwood City, California, we issued to the lessor a warrant to purchase an aggregate of 157,915 shares of our series A preferred stock at no cost to the grantee. 7. On October 21, 1998 and January 20, 1999, as partial payment for an equipment lease and loan facility, we issued to the equipment financier warrants to purchase an aggregate of 304,878 shares of our series B preferred stock at an exercise price of $0.738 per share. 8. On November 2 and November 9, 1998, as partial payment for a bridge loan financing, we issued to a group of private investors warrants to purchase an aggregate of 304,878 shares of our series B preferred stock at an exercise price of $0.738 per share. 9. On November 17, 1998, we issued a warrant to purchase 43,067 shares of our common stock to a public relations firm at an exercise price of $0.15 per share. 10. On November 17, 1998, as partial payment for a lease of office space in Redwood City, California, we issued to an affiliate of the lessor a warrant to purchase an aggregate of 1,190 shares of our series A preferred stock at an exercise price of $8.41 per share. 11. On December 4, 1998, we sold 12,884,205 shares of our series B preferred stock for $0.738 per share to a group of private investors for an aggregate purchase price of approximately $8,000,000. Each share of our series B preferred stock is convertible into one share of our common stock. 12. On March 2 and 8, 1999, we sold an aggregate of 24,503,677 shares of our series C preferred stock for $0.897 per share to a group of private investors for an II-2 112 aggregate purchase price of approximately $21,979,799. Each share of our series C preferred stock is convertible into one share of our common stock. 13. On May 28, 1999, as payment for technical, marketing and market-related product development services, we issued a warrant to purchase an aggregate of 641,904 shares of our series C preferred stock to an affiliate of Qwest at an exercise price of $1.0905 per share. 14. On June 28, 1999, we sold 7,374 shares of our common stock to a recruiting services firm in exchange for services we received that were valued at approximately $8,111. 15. On June 28, 1999, we issued 5,000 shares of our common stock valued at $5,500 in settlement of a dispute to the complaining party. 16. On July 27, 1999, we sold 16,514 shares of our common stock to a recruiting services firm in exchange for services we received that were valued at $9,000. 17. On September 13, 1999, we issued 15,000 shares of our common stock valued at $39,450 in settlement of a dispute to the complaining party. 18. On September 1, 1999, we sold 2,000 shares of our common stock to a recruiting services firm in exchange for services we received that were valued at $2,000. 19. On September 17 and October 14, 1999, we sold 17,118,253 shares of our series D preferred stock at $3.505 per share to a group of private investors for an aggregate purchase price of approximately $59,999,477. Each share of our series D preferred stock is convertible into one share of our common stock. 20. On September 17 and October 14, 1999, as partial payment for the private placement of our series D preferred stock, we issued to the placement agent warrants to purchase an aggregate of 154,064 shares of our series D preferred stock at an exercise price of $3.505 per share 21. On September 1, 1999, we sold 22,297 shares of our common stock to a recruiting services firm in exchange for services we received that were valued at $22,297. 22. On December 8, 1999, we sold 5,482 shares of our common stock to two recruiting services firms in exchange for services we received that were valued at $41,115. 23. On January 26, 2000, upon receipt of a purchase order from Qwest, we issued a warrant to purchase an aggregate of 1,233,499 shares of our series C preferred stock to an affiliate of Qwest at an exercise price of $0.8107 per share. 24. On February 3, 2000, we sold an aggregate of 9,101 shares of our common stock at a price of $4.00 per share for an aggregate purchase price of $36,404 to executive and technical recruitment companies. 25. On March 9, 2000, we sold an aggregate of 6,325 shares of our common stock at a price of $4.00 per share for an aggregate purchase price of $25,300 to executive and technical recruitment companies. 26. On February 11, 2000, upon receipt of a purchase order from Aduronet, we issued a warrant to purchase an aggregate of 200,000 shares of our common stock to an affiliate of Aduronet at an exercise price of $4.00 per share. 27. On March 27, 2000, we sold an aggregate of 625,000 shares of our series D preferred stock at $8.00 per share to a group of private investors for an aggregate purchase price of $5,000,000. II-3 113 28. On March 31, 2000, as partial payment for an equipment lease and loan facility, we issued to the equipment financier and an entity affiliated with the equipment financier warrants to purchase an aggregate of 37,500 shares of our common stock at an exercise price of $8.00 per share. 29. On April 7, 2000, upon receipt of a purchase order from BroadBand Office, we issued to BroadBand Office a warrant to purchase an aggregate of 468,849 shares of our common stock at an exercise price of $3.7325 per share. 30. On May 10, 2000, we sold 4,666,667 shares of our series E preferred stock to a group of private investors for an aggregate purchase price of $70,000,005. Each share of series E preferred stock is convertible into one share of our common stock. 31. From our incorporation through June 30, 2000 (the most recent practicable date), we granted stock options to purchase an aggregate of 24,043,235 shares of our common stock at prices ranging from $0.15 to $9.50 per share to employees, consultants and directors pursuant to our 1997 Stock Plan. 32. From our incorporation through June 30, 2000 (the most recent practicable date), we issued and sold an aggregate of 13,010,784 shares of our common stock to employees, consultants and directors for aggregate consideration of approximately $20,720,000, consisting of a mix of cash and promissory notes, pursuant to the exercise of options granted under our 1997 Stock Plan. For additional information concerning these equity investment transactions, reference is made to the information contained under the caption "Related Party Transactions" in the form of prospectus included herein. None of the transactions involved a public offering, and we believe that each transaction was exempt from the registration requirements of the Securities Act by virtue of Section 4(2) of the Securities Act, Regulation D promulgated under the Securities Act, Regulation S promulgated under the Securities Act or Securities Act Rule 701 pursuant to compensatory benefit plans and contracts relating to compensation as provided under Rule 701. Except as indicated above, none of the transactions involved any underwriters, underwriting discounts or commissions. The recipients in these transactions represented their intention to acquire the securities for investment only and not with a view to or for sale in any distribution thereof, and appropriate legends were affixed to the share certificates and instruments issued in the transactions. All recipients had adequate access, through their relationships with us, to information about us. All share amounts indicated above reflect a 4-for-1 stock split of our common stock that was effected as a stock dividend in May 1998. Each share of our series A preferred stock is convertible into four shares of our common stock pursuant to a conversion price adjustment resulting from the May 1998 stock dividend and the series A share amounts above reflect the conversion price adjustment. ITEM 16. EXHIBITS AND CONSOLIDATED FINANCIAL STATEMENT SCHEDULES (a) INDEX TO EXHIBITS
EXHIBIT NUMBER DESCRIPTION OF DOCUMENT - ------- ----------------------- 1.1 Form of Underwriting Agreement. 3.1** First Amended and Restated Certificate of Incorporation of the Registrant. 3.2*** Second Amended and Restated Certificate of Incorporation to be filed upon the closing of the offering made pursuant to this Registration Statement. 3.3*** Amended and Restated Bylaws of the Registrant. 4.1** Form of Registrant's Common Stock certificate.
II-4 114
EXHIBIT NUMBER DESCRIPTION OF DOCUMENT - ------- ----------------------- 5.1 Opinion of Wilson Sonsini Goodrich & Rosati, Professional Corporation. 10.1** Form of Indemnification Agreement entered into by the Registrant with each of its directors and officers. 10.2** 2000 Stock Plan and forms of agreements thereunder. 10.3** 2000 Employee Stock Purchase Plan and forms of agreements thereunder. 10.4** 2000 Director Option Plan and forms of agreements thereunder. 10.5** 1997 Stock Plan (as amended and restated) and forms of agreements thereunder. 10.6** Third Amended and Restated Investors' Rights Agreement. 10.7** Master Equipment Lease Agreement between the Registrant and Relational Funding Corporation dated as of February 1, 2000. 10.8** Loan and Security Agreement between Registrant and Venture Lending and Leasing II, Inc. dated as of September 21, 1998. 10.9** Amended and Restated Supplement between Registrant and Venture Lending and Leasing II, Inc. dated as of October 21, 1998. 10.10** Master Loan and Security Agreement between Registrant and Finova Capital Corporation dated as of May 19, 1999. 10.11** Loan and Security Agreement between Registrant and Silicon Valley Bank dated as of May 29, 1998. 10.12** Loan Modification Agreement between Registrant and Silicon Valley Bank dated as of June 22, 1998 10.13** Loan and Security Agreement between Registrant and Silicon Valley Bank dated as of September 30, 1999. 10.14** Building Lease Agreement between Registrant and Westport Joint Venture dated as of May 26, 1998. 10.15** Amendment No. 1 to Lease between Registrant and Westport Joint Venture dated as of September 9, 1999. 10.16** Building Lease Agreement between Registrant and Westport Joint Venture dated as of September 20, 1999. 10.17 Sublease between Registrant and Liberate Technologies dated as of June 28, 2000. 21.1** Subsidiaries of Registrant 23.1 Consent of Ernst & Young LLP, independent auditors. 23.2 Consent of Counsel. Reference is made to Exhibit 5.1. 24.1** Power of Attorney (see page II-7 of the initial filing of this Registration Statement). 24.2** Power of Attorney (see pages II-7 and II-8 of Amendment No. 3 to this Registration Statement). 27.1 Financial Data Schedule.
- ------------------------- * To be filed by amendment. ** Previously filed. *** Incorporated by reference to the corresponding exhibit to Registrant's Form 8-A filed with the Securities and Exchange Commission on May 26, 2000 (file number 000-30715). (b) CONSOLIDATED FINANCIAL STATEMENT SCHEDULES Schedules not listed above have been omitted because the information required to be presented in them is inapplicable or is shown in the consolidated financial statements or the notes to those statements. II-5 115 ITEM 17. UNDERTAKINGS We hereby undertake to provide to the Underwriters at the closing specified in the Underwriting Agreement certificates in such denominations and registered in such names as required by the Underwriters to permit prompt delivery to each purchaser. Insofar as indemnification by Registrant for liabilities arising under the Securities Act may be permitted to directors, officers and controlling persons of Registrant pursuant to the provisions referenced in Item 14 of this Registration Statement or otherwise, Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act, and is, therefore, unenforceable. If a claim for indemnification against such liabilities other than the payment by Registrant of expenses incurred or paid by a director, officer, or controlling person of Registrant in the successful defense of any action, suit or proceeding is asserted by a director, officer or controlling person in connection with the securities being registered hereunder, Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of such issue. Registrant hereby undertakes that: (1) For purposes of determining any liability under the Securities Act, the information omitted from the form of Prospectus filed as part of this Registration Statement in reliance upon Rule 430A and contained in a form of Prospectus filed by Registrant pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of this Registration Statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Securities Act, each post-effective amendment that contains a form of Prospectus shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. II-6 116 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, the Registrant has duly caused this Amendment No. 4 to Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the city of Redwood City, State of California, on September 5, 2000. COSINE COMMUNICATIONS, INC. By: /s/ CRAIG B. COLLINS ------------------------------------ Craig B. Collins Chief Financial Officer Pursuant to the requirements of the Securities Act of 1933, this Amendment No. 4 to Registration Statement has been signed by the following persons in the capacities and on the dates indicated:
SIGNATURE TITLE DATE --------- ----- ---- * President, Chief Executive Officer September 5, 2000 - --------------------------------------------- and Director (Principal Executive Dean E.G. Hamilton Officer) * Director September 5, 2000 - --------------------------------------------- Glenn Hartman * Director September 5, 2000 - --------------------------------------------- Donald Green * Director September 5, 2000 - --------------------------------------------- R. David Spreng * Director September 5, 2000 - --------------------------------------------- Vinton G. Cerf * Director September 5, 2000 - --------------------------------------------- Charles J. Abbe /s/ CRAIG B. COLLINS Chief Financial Officer (Principal September 5, 2000 - --------------------------------------------- Financial and Accounting Officer) Craig B. Collins *By: /s/ CRAIG B. COLLINS --------------------------------------- Craig B. Collins Attorney-in-Fact
II-7 117 INDEX TO EXHIBITS
EXHIBIT NUMBER DESCRIPTION OF DOCUMENT - ------- ----------------------- 1.1 Form of Underwriting Agreement. 3.1** First Amended and Restated Certificate of Incorporation of the Registrant. 3.2*** Second Amended and Restated Certificate of Incorporation to be filed upon the closing of the offering made pursuant to this Registration Statement. 3.3*** Amended and Restated Bylaws of the Registrant. 4.1** Form of Registrant's Common Stock certificate. 5.1 Opinion of Wilson Sonsini Goodrich & Rosati, Professional Corporation. 10.1** Form of Indemnification Agreement entered into by the Registrant with each of its directors and officers. 10.2** 2000 Stock Plan and forms of agreements thereunder. 10.3** 2000 Employee Stock Purchase Plan and forms of agreements thereunder. 10.4** 2000 Director Option Plan and forms of agreements thereunder. 10.5** 1997 Stock Plan (as amended and restated) and forms of agreements thereunder. 10.6** Third Amended and Restated Investors' Rights Agreement. 10.7** Master Equipment Lease Agreement between the Registrant and Relational Funding Corporation dated as of February 1, 2000. 10.8** Loan and Security Agreement between Registrant and Venture Lending and Leasing II, Inc. dated as of September 21, 1998. 10.9** Amended and Restated Supplement between Registrant and Venture Lending and Leasing II, Inc. dated as of October 21, 1998. 10.10** Master Loan and Security Agreement between Registrant and Finova Capital Corporation dated as of May 19, 1999. 10.11** Loan and Security Agreement between Registrant and Silicon Valley Bank dated as of May 29, 1998. 10.12** Loan Modification Agreement between Registrant and Silicon Valley Bank dated as of June 22, 1998. 10.13** Loan and Security Agreement between Registrant and Silicon Valley Bank dated as of September 30, 1999. 10.14** Building Lease Agreement between Registrant and Westport Joint Venture dated as of May 26, 1998. 10.15** Amendment No. 1 to Lease between Registrant and Westport Joint Venture dated as of September 9, 1999. 10.16** Building Lease Agreement between Registrant and Westport Joint Venture dated as of September 20, 1999. 10.17 Sublease between Registrant and Liberate Technologies dated as of June 28, 2000. 21.1** Subsidiaries of Registrant 23.1 Consent of Ernst & Young LLP, independent auditors. 23.2 Consent of Counsel. Reference is made to Exhibit 5.1. 24.1** Power of Attorney (see page II-7 of the initial filing of this Registration Statement). 24.2** Power of Attorney (see pages II-7 and II-8 of Amendment No. 3 to this Registration Statement). 27.1 Financial Data Schedule.
- ------------------------- * To be filed by amendment. ** Previously filed. *** Incorporated by reference to the corresponding exhibit to Registrant's Form 8-A filed with the Securities and Exchange Commission on May 26, 2000 (file number 000-30715). EX-1.1 2 f60862a4ex1-1.txt EXHIBIT 1.1 1 EXHIBIT 1.1 COSINE COMMUNICATIONS, INC. COMMON STOCK, $0.0001 PAR VALUE ------------------------------- UNDERWRITING AGREEMENT ................ 2000 Goldman, Sachs & Co., FleetBoston Robertson Stephens Inc., Chase Securities Inc., J.P. Morgan Securities Inc. As representatives of the several Underwriters named in Schedule I hereto, c/o Goldman, Sachs & Co., 85 Broad Street, New York, New York 10004. Ladies and Gentlemen: CoSine Communications, Inc., a Delaware corporation (the "Company"), proposes, subject to the terms and conditions stated herein, to issue and sell to the Underwriters named in Schedule I hereto (the "Underwriters") an aggregate of ........ shares (the "Firm Shares") and, at the election of the Underwriters, up to ........ additional shares (the "Optional Shares") of Common Stock, $0.0001 par value ("Stock") of the Company (the Firm Shares and the Optional Shares that the Underwriters elect to purchase pursuant to Section 2 hereof being collectively called the "Shares"). 1. The Company represents and warrants to, and agrees with, each of the Underwriters that: (a) A registration statement on Form S-1 (File No. 333-....) (the "Initial Registration Statement") in respect of the Shares has been filed with the Securities and Exchange Commission (the "Commission"); the Initial Registration Statement and any post-effective amendment thereto, each in the form heretofore delivered to you, and, excluding exhibits thereto, to you for each of the other Underwriters, have been declared effective by the Commission in such form; other than a registration statement, if any, increasing the size of the offering (a "Rule 462(b) Registration Statement"), filed pursuant to Rule 462(b) under the Securities Act of 1933, as amended (the "Act"), which became effective upon filing, no other document with respect to the Initial Registration Statement has heretofore been filed with the Commission; and no stop order suspending the effectiveness of the Initial Registration Statement, any post-effective amendment thereto or the Rule 462(b) Registration Statement, if any, has been issued and no proceeding for that purpose has been initiated or threatened by the Commission (any preliminary prospectus included in the Initial Registration Statement or filed with the Commission pursuant to Rule 424(a) of the rules and 2 regulations of the Commission under the Act is hereinafter called a "Preliminary Prospectus"; the various parts of the Initial Registration Statement and the Rule 462(b) Registration Statement, if any, including all exhibits thereto and including the information contained in the form of final prospectus filed with the Commission pursuant to Rule 424(b) under the Act in accordance with Section 5(a) hereof and deemed by virtue of Rule 430A under the Act to be part of the Initial Registration Statement at the time it was declared effective, each as amended at the time such part of the Initial Registration Statement became effective or such part of the Rule 462(b) Registration Statement, if any, became or hereafter becomes effective, are hereinafter collectively called the "Registration Statement"; and such final prospectus, in the form first filed pursuant to Rule 424(b) under the Act, is hereinafter called the "Prospectus"); (b) No order preventing or suspending the use of any Preliminary Prospectus has been issued by the Commission, and each Preliminary Prospectus, at the time of filing thereof, conformed in all material respects to the requirements of the Act and the rules and regulations of the Commission thereunder, and did not contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading; provided, however, that this representation and warranty shall not apply to any statements or omissions made in reliance upon and in conformity with information furnished in writing to the Company by an Underwriter through Goldman, Sachs & Co. expressly for use therein; (c) The Registration Statement conforms, and the Prospectus and any further amendments or supplements to the Registration Statement or the Prospectus will conform, in all material respects to the requirements of the Act and the rules and regulations of the Commission thereunder and do not and will not, as of the applicable effective date as to the Registration Statement and any amendment thereto, and as of the applicable filing date as to the Prospectus and any amendment or supplement thereto, contain an untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading; provided, however, that this representation and warranty shall not apply to any statements or omissions made in reliance upon and in conformity with information furnished in writing to the Company by an Underwriter through Goldman, Sachs & Co. expressly for use therein; (d) Neither the Company nor any of its subsidiaries has sustained since the date of the latest audited financial statements included in the Prospectus any material loss or interference with its business from fire, explosion, flood or other calamity, whether or not covered by insurance, or from any labor dispute or court or governmental action, order or decree, otherwise than as set forth or contemplated in the Prospectus; and, since the respective dates as of which information is given in the Registration Statement and the Prospectus, there has not been any change in the capital stock or long-term debt of the Company and its subsidiaries, taken as a whole, or any material adverse change, or any development that could reasonably be expected to result in a material adverse change in the business, financial condition or results of operations of the Company and its subsidiaries taken as a whole (a "Material Adverse Effect"), otherwise than as set forth or contemplated in the Prospectus; None of the Company's subsidiaries constitutes a "significant subsidiary" as such term is defined in Rule 1-02(w) of Regulation S-X promulgated by the Commission; (e) The Company does not own any real property and has good title to all personal property owned by it which is material to the business of the Company, free and clear of all liens, 2 3 encumbrances and defects except such as are described in the Prospectus or such as do not materially affect the value of such property and do not interfere with the use made and proposed to be made of such property by the Company; and any real property and buildings held under lease by the Company are held by it under valid, subsisting and enforceable leases with such exceptions as are not material and do not interfere with the use made and proposed to be made of such property and buildings by the Company; (f) The Company has been duly incorporated and is validly existing as a corporation in good standing under the laws of the state of Delaware, with power and authority (corporate and other) to own its properties and conduct its business as described in the Prospectus, and has been duly qualified as a foreign corporation for the transaction of business and is in good standing under the laws of each other jurisdiction in which it owns or leases properties or conducts any business so as to require such qualification, except where the failure to be so qualified could not reasonably be expected to have a Material Adverse Effect; (g) The Company has an authorized capitalization as set forth in the Prospectus, and all of the outstanding shares of capital stock of the Company have been duly and validly authorized and issued, are fully paid and non-assessable and conform, in all material respects, to the description thereof contained in the Prospectus; (h) The Shares have been duly and validly authorized and, when issued and delivered against payment therefor as provided herein, will be duly and validly issued and fully paid and non-assessable and will conform, in all material respects, to the description of the Stock contained in the Prospectus; (i) The issue and sale of the Shares by the Company and the compliance by the Company with all of the provisions of this Agreement and the consummation of the transactions herein contemplated will not conflict with or result in a breach or violation of any of the terms or provisions of, or constitute a default under, any indenture, mortgage, deed of trust, loan agreement or other agreement or instrument to which the Company is a party or by which the Company is bound or to which any of the property or assets of the Company is subject, nor will such action result in any violation of the provisions of the Certificate of Incorporation or By-laws of the Company or any statute applicable to the Company or any order, rule or regulation of any court or governmental agency or body having jurisdiction over the Company or any of its properties; and no consent, approval, authorization, order, registration or qualification of or with any such court or governmental agency or body is required for the issue and sale of the Shares or the consummation by the Company of the transactions contemplated by this Agreement, except (i) the registration under the Act of the Shares, (ii) approval by the National Association of Securities Dealers, Inc. of the underwriters' compensation, and (iii) such consents, approvals, authorizations, registrations or qualifications as may be required under state securities or Blue Sky laws in connection with the purchase and distribution of the Shares by the Underwriters; (j) The Company is not in violation of its Certificate of Incorporation or By-laws or in default in the performance or observance of any material obligation, agreement, covenant or condition contained in any indenture, mortgage, deed of trust, loan agreement, lease or other agreement or instrument to which it is a party or by which it or any of its properties may be bound; (k) The statements set forth in the Prospectus under the caption "Description of Capital Stock", insofar as they purport to constitute a summary of the terms of the Stock and under the 3 4 caption "Underwriting", insofar as they purport to describe the provisions of the laws and documents referred to therein, are accurate in all material respects and fairly summarize the matters referred to therein in all material respects; (l) Other than as set forth in the Prospectus, there are no legal or governmental proceedings pending to which the Company is a party or of which any property of the Company is the subject which, if determined adversely to the Company, would individually or in the aggregate have a Material Adverse Effect; and, to the best of the Company's knowledge, no such proceedings are threatened or contemplated by governmental authorities or threatened by others; (m) The Company is not and, after giving effect to the offering and sale of the Shares, will not be an "investment company", as such term is defined in the Investment Company Act of 1940, as amended (the "Investment Company Act"); (n) Neither the Company nor any of its affiliates does business with the government of Cuba or with any person or affiliate located in Cuba within the meaning of Section 517.075, Florida Statutes; (o) Ernst & Young LLP, who have certified certain financial statements of the Company and its subsidiaries, are independent public accountants as required by the Act and the rules and regulations of the Commission thereunder; and (p) Except as described in the Prospectus, the Company owns, possesses or has the right to employ or can acquire, upon reasonable terms, the right to employ the patents, patent rights, licenses, inventions, copyrights, know-how (including trade secrets and other unpatented and/or unpatentable proprietary or confidential information, software, systems or procedures), trademarks, service marks and trade names, inventions, computer programs, technical data and information (collectively, the "Intellectual Property Rights") presently being employed to conduct its business as now conducted, except to the extent that the failure to have any such right could not reasonably be expected to have a Material Adverse Effect; and, except as described in the Prospectus, the expected expiration of any such Intellectual Property Rights could not reasonably be expected to result in a Material Adverse Effect. Except as described in the Prospectus, the Intellectual Property Rights presently employed by the Company in connection with the business now operated by it or which are proposed to be operated by it, as described in the Prospectus, are owned or licensed, to the Company's knowledge, without violating any right, claimed rights, charge, encumbrance, pledge, security interest, restriction or lien of any kind of any other person, and the Company has not received any notice of infringement of or conflict with asserted rights of others with respect to any of the foregoing except as would not reasonably be expected to individually or in the aggregate, result in a Material Adverse Effect. Except as described in the Prospectus, to the Company's knowledge, the Intellectual Property Rights the Company employs in connection with the business and operations of the Company do not infringe on the rights of any person, except as could not reasonably be expected to individually or in the aggregate result in a Material Adverse Effect. 2. Subject to the terms and conditions herein set forth, the Company agrees to issue and sell to each of the Underwriters, and each of the Underwriters agrees, severally and not jointly, to purchase from the Company, at a purchase price per share of $................, the number of Firm Shares set forth opposite the name of such Underwriter in Schedule I hereto and (b) in the event and to the extent that the Underwriters shall exercise the election to purchase Optional Shares as provided below, the Company agrees to issue and sell to each of the Underwriters, and each of the 4 5 Underwriters agrees, severally and not jointly, to purchase from the Company, at the purchase price per share set forth in clause (a) of this Section 2, that portion of the number of Optional Shares as to which such election shall have been exercised (to be adjusted by you so as to eliminate fractional shares) determined by multiplying such number of Optional Shares by a fraction, the numerator of which is the maximum number of Optional Shares which such Underwriter is entitled to purchase as set forth opposite the name of such Underwriter in Schedule I hereto and the denominator of which is the maximum number of Optional Shares that all of the Underwriters are entitled to purchase hereunder. The Company hereby grants to the Underwriters the right to purchase at their election up to ................... Optional Shares, at the purchase price per share set forth in the paragraph above, for the sole purpose of covering sales of shares in excess of the number of Firm Shares. Any such election to purchase Optional Shares may be exercised only by written notice from you to the Company, given within a period of 30 calendar days after the date of this Agreement, setting forth the aggregate number of Optional Shares to be purchased and the date on which such Optional Shares are to be delivered, as determined by you but in no event earlier than the First Time of Delivery (as defined in Section 4 hereof) or, unless you and the Company otherwise agree in writing, earlier than two or later than ten business days after the date of such notice. 3. Upon the authorization by you of the release of the Firm Shares, the several Underwriters propose to offer the Firm Shares for sale upon the terms and conditions set forth in the Prospectus. 4. (a) The Shares to be purchased by each Underwriter hereunder, in definitive form, and in such authorized denominations and registered in such names as Goldman, Sachs & Co. may request upon at least forty-eight hours' prior notice to the Company shall be delivered by or on behalf of the Company to Goldman, Sachs & Co., through the facilities of the Depository Trust Company ("DTC"), for the account of such Underwriter, against payment by or on behalf of such Underwriter of the purchase price therefor by wire transfer of Federal (same-day) funds to the account specified by the Company to Goldman, Sachs & Co. at least forty-eight hours in advance. The Company will cause the certificates representing the Shares to be made available for checking and packaging at least twenty-four hours prior to the Time of Delivery (as defined below) with respect thereto at the office of DTC or its designated custodian (the "Designated Office"). The time and date of such delivery and payment shall be, with respect to the Firm Shares, 9:30 a.m., New York City time, on ............., 2000 or such other time and date as Goldman, Sachs & Co. and the Company may agree upon in writing, and, with respect to the Optional Shares, 9:30 a.m., New York time, on the date specified by Goldman, Sachs & Co. in the written notice given by Goldman, Sachs & Co. of the Underwriters' election to purchase such Optional Shares, or such other time and date as Goldman, Sachs & Co. and the Company may agree upon in writing. Such time and date for delivery of the Firm Shares is herein called the "First Time of Delivery", such time and date for delivery of the Optional Shares, if not the First Time of Delivery, is herein called the "Second Time of Delivery", and each such time and date for delivery is herein called a "Time of Delivery". (b) The documents to be delivered at each Time of Delivery by or on behalf of the parties hereto pursuant to Section 7 hereof, including the cross receipt for the Shares and any additional documents requested by the Underwriters pursuant to Section 7(k) hereof, will be delivered at the offices of Wilson Sonsini Goodrich & Rosati, Professional Corporation, 650 Page Mill Road, Palo Alto, California 94304 (the "Closing Location"), and the Shares will be delivered at the 5 6 Designated Office, all at such Time of Delivery. A meeting will be held at the Closing Location at 4:00 p.m., Pacific time, on the New York Business Day next preceding such Time of Delivery, at which meeting the final drafts of the documents to be delivered pursuant to the preceding sentence will be available for review by the parties hereto. For the purposes of this Section 4, "New York Business Day" shall mean each Monday, Tuesday, Wednesday, Thursday and Friday which is not a day on which banking institutions in New York are generally authorized or obligated by law or executive order to close. 5. The Company agrees with each of the Underwriters: (a) To prepare the Prospectus in a form approved by you and to file such Prospectus pursuant to Rule 424(b) under the Act not later than the Commission's close of business on the second business day following the execution and delivery of this Agreement, or, if applicable, such earlier time as may be required by Rule 430A(a)(3) under the Act; to make no further amendment or any supplement to the Registration Statement or Prospectus which shall be disapproved by you promptly after reasonable notice thereof; to advise you, promptly after it receives notice thereof, of the time when any amendment to the Registration Statement has been filed or becomes effective or any supplement to the Prospectus or any amended Prospectus has been filed and to furnish you with copies thereof; to advise you, promptly after it receives notice thereof, of the issuance by the Commission of any stop order or of any order preventing or suspending the use of any Preliminary Prospectus or prospectus, of the suspension of the qualification of the Shares for offering or sale in any jurisdiction, of the initiation or threatening of any proceeding for any such purpose, or of any request by the Commission for the amending or supplementing of the Registration Statement or Prospectus or for additional information; and, in the event of the issuance of any stop order or of any order preventing or suspending the use of any Preliminary Prospectus or prospectus or suspending any such qualification, promptly to use its best efforts to obtain the withdrawal of such order; (b) Promptly from time to time to take such action as you may reasonably request to qualify the Shares for offering and sale under the securities laws of such jurisdictions as you may request and to comply with such laws so as to permit the continuance of sales and dealings therein in such jurisdictions for as long as may be necessary to complete the distribution of the Shares, provided that in connection therewith the Company shall not be required to qualify as a foreign corporation or to file a general consent to service of process in any jurisdiction or assume any ongoing reporting obligations to the authorities in such jurisdiction; (c) Prior to 12:00 P.M., New York City time, on the New York Business Day next succeeding the date of this Agreement and from time to time, to furnish the Underwriters with copies of the Prospectus in New York City in such quantities as you may reasonably request, and, if the delivery of a prospectus is required at any time prior to the expiration of nine months after the time of issue of the Prospectus in connection with the offering or sale of the Shares and if at such time any event shall have occurred as a result of which the Prospectus as then amended or supplemented would include an untrue statement of a material fact or omit to state any material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made when such Prospectus is delivered, not misleading, or, if for any other reason it shall be necessary during such period to amend or 6 7 supplement the Prospectus in order to comply with the Act, to notify you and upon your request to prepare and furnish without charge to each Underwriter and to any dealer in securities as many copies as you may from time to time reasonably request of an amended Prospectus or a supplement to the Prospectus which will correct such statement or omission or effect such compliance, and in case any Underwriter is required to deliver a prospectus in connection with sales of any of the Shares at any time nine months or more after the time of issue of the Prospectus, upon your request but at the expense of such Underwriter, to prepare and deliver to such Underwriter as many copies as you may request of an amended or supplemented Prospectus complying with Section 10(a)(3) of the Act; (d) To make generally available to its securityholders as soon as practicable, but in any event not later than eighteen months after the effective date of the Registration Statement (as defined in Rule 158(c) under the Act), an earnings statement of the Company and its subsidiaries (which need not be audited) complying with Section 11(a) of the Act and the rules and regulations thereunder (including, at the option of the Company, Rule 158); (e) During the period beginning from the date hereof and continuing to and including the date 180 days after the date of the Prospectus, not to offer, sell, contract to sell or otherwise dispose of, except as provided hereunder any securities of the Company that are substantially similar to the Shares, including but not limited to any securities that are convertible into or exchangeable for, or that represent the right to receive, Stock or any such substantially similar securities (other than pursuant to employee stock option or stock purchase plans described in the Prospectus, or upon the conversion, exchange or exercise of convertible or exchangeable securities or other securities or rights outstanding or existing as of the date of this Agreement), without your prior written consent; (f) So long as the Company is subject to the reporting requirements under the Securities Exchange Act of 1934, as amended, to furnish to its stockholders as soon as practicable after the end of each fiscal year an annual report (including a balance sheet and statements of income, stockholders' equity and cash flows of the Company and its consolidated subsidiaries certified by independent public accountants) and, as soon as practicable after the end of each of the first three quarters of each fiscal year (beginning with the fiscal quarter ending after the effective date of the Registration Statement), to make available to its stockholders consolidated summary financial information of the Company and its subsidiaries for such quarter in reasonable detail; (g) During a period of three years from the effective date of the Registration Statement, to furnish to you copies of all reports or other communications (financial or other) furnished to stockholders, and to deliver to you (i) as soon as they are publicly available, copies of any reports and financial statements furnished to or filed with the Commission or any national securities exchange on which any class of securities of the Company is listed; and (ii) such additional publicly available information concerning the business and financial condition of the Company as you may from time to time reasonably request (such financial statements to be on a consolidated basis to the extent the accounts of the Company and its subsidiaries are consolidated in reports furnished to its stockholders generally or to the Commission); (h) To use the net proceeds received by it from the sale of the Shares pursuant to this Agreement in the manner specified in the Prospectus under the caption "Use of Proceeds"; 7 8 (i) To use its best efforts to list for quotation the Shares on the National Association of Securities Dealers Automated Quotations National Market System ("NASDAQ"); (j) To file with the Commission such information on Form 10-Q or Form 10-K as may be required by Rule 463 under the Act; and (k) If the Company elects to rely upon Rule 462(b), the Company shall file a Rule 462(b) Registration Statement with the Commission in compliance with Rule 462(b) by 10:00 P.M., Washington, D.C. time, on the date of this Agreement, and the Company shall at the time of filing either pay to the Commission the filing fee for the Rule 462(b) Registration Statement or give irrevocable instructions for the payment of such fee pursuant to Rule 111(b) under the Act. 6. The Company covenants and agrees with the several Underwriters that the Company will pay or cause to be paid the following: (i) the fees, disbursements and expenses of the Company's counsel and accountants in connection with the registration of the Shares under the Act and all other expenses in connection with the preparation, printing and filing of the Registration Statement, any Preliminary Prospectus and the Prospectus and amendments and supplements thereto and the mailing and delivering of copies thereof to the Underwriters and dealers, except as set forth in Section 5(c); (ii) the cost of printing or word processing any Agreement among Underwriters, this Agreement, the Blue Sky Memorandum, closing documents (including any compilations thereof) and any other documents in connection with the offering, purchase, sale and delivery of the Shares; (iii) all reasonable expenses in connection with the qualification of the Shares for offering and sale under state securities laws as provided in Section 5(b) hereof, including the reasonable fees and disbursements of counsel for the Underwriters in connection with such qualification and in connection with the Blue Sky survey; (iv) all fees and expenses in connection with listing the Shares on the NASDAQ; (v) the filing fees incident to, and the fees and disbursements of counsel for the Underwriters in connection with, securing any required review by the National Association of Securities Dealers, Inc. of the terms of the sale of the Shares; (vi) the cost of preparing stock certificates; (vii) the cost and charges of any transfer agent or registrar; and (viii) all other costs and expenses incident to the performance of its obligations hereunder which are not otherwise specifically provided for in this Section. It is understood, however, that, except as provided in this Section, and Sections 8 and 11 hereof, the Underwriters will pay all of their own costs and expenses, including the fees of their counsel, stock transfer taxes on resale of any of the Shares by them, and any advertising expenses connected with any offers they may make. 7. The obligations of the Underwriters hereunder, as to the Shares to be delivered at each Time of Delivery, shall be subject, in their discretion, to the condition that all representations and warranties and other statements of the Company herein are, at and as of such Time of Delivery, true and correct, the condition that the Company shall have performed all of its obligations hereunder theretofore to be performed, and the following additional conditions: (a) The Prospectus shall have been filed with the Commission pursuant to Rule 424(b) within the applicable time period prescribed for such filing by the rules and regulations under the Act and in accordance with Section 5(a) hereof; if the Company has elected to rely upon Rule 462(b), the Rule 462(b) Registration Statement shall have become effective by 10:00 P.M., Washington, D.C. time, on the date of this Agreement; no stop order suspending the effectiveness of the Registration Statement or any part thereof shall have been issued and no proceeding for that purpose shall have been initiated or threatened by the Commission; and 8 9 all requests for additional information on the part of the Commission shall have been complied with to your reasonable satisfaction; (b) Sullivan & Cromwell, counsel for the Underwriters, shall have furnished to you such written opinion or opinions, dated such Time of Delivery, with respect to such matters as you may reasonably request, and such counsel shall have received such papers and information as they may reasonably request to enable them to pass upon such matters; (c) Wilson Sonsini Goodrich & Rosati, Professional Corporation, counsel for the Company, shall have furnished to you their written opinion (a draft of such opinion is attached as Annex II hereto), dated such Time of Delivery, in form and substance satisfactory to you, to the effect that: (i) Immediately prior to reincorporation in the state of Delaware, CoSine Communications, Inc., a California corporation, was duly incorporated and was an existing corporation in good standing under the laws of California, with corporate power to own its properties and conduct its business as described in the Prospectus; (ii) The Company has been duly incorporated and is an existing corporation in good standing under the laws of the state of Delaware, with corporate power and authority to own its properties and conduct its business as described in the Prospectus; (iii) The Company has an authorized capitalization as set forth in the Prospectus, and all of the issued shares of capital stock of the Company (including the Shares being delivered at such Time of Delivery) have been duly and validly authorized and issued and, to such counsel's knowledge based on an a certificate of an officer of the Company, are fully paid and non-assessable; and the Shares conform in all material respects to the description of the Stock contained in the Prospectus; (iv) The Company is in good standing as a foreign corporation qualified to transact business in each U.S. jurisdiction in which it owns or leases properties or conducts any business so as to require such qualification, except where the failure to be so qualified could not reasonably be expected to have a Material Adverse Effect (such counsel being entitled to rely upon certificates of appropriate government officials); (v) To such counsel's knowledge and other than as set forth in the Prospectus, there are no legal or governmental proceedings pending to which the Company is a party or of which any property of the Company is the subject which such counsel believes will have a Material Adverse Effect; and, to such counsel's knowledge, no such proceedings are threatened in writing or contemplated by governmental authorities or threatened in writing by others; (vi) This Agreement has been duly authorized, executed and delivered by the Company; (vii) The issue and sale of the Shares being delivered at such Time of Delivery by the Company in accordance with the provisions of this Agreement does not conflict with or result in a breach or violation of any of the terms or provisions of, or 9 10 constitute a default under, any "Reviewed Agreement", nor will such action result in any violation of the provisions of the Certificate of Incorporation or By-laws of the Company or any California or U.S. federal statute applicable to the Company or any order, rule or regulation known to such counsel of any California of U.S. federal court or governmental agency or body having jurisdiction over the Company or any of its properties; For purposes of such counsel's opinion, "Reviewed Agreements" means the agreements and instruments binding on the Company as of the date of such opinion and which have been identified to such counsel as material in a certificate executed and delivered by an officer of the Company; (viii) No consent, approval, authorization, order, registration or qualification of or with any such California or U.S. federal court or governmental agency or body is required to be made or obtained by the Company for the issue and sale of the Shares as contemplated by this Agreement, except the registration under the Act and the Securities Exchange Act of 1934, as amended, of the Shares, and such consents, approvals, authorizations, registrations or qualifications as may be required under state securities or Blue Sky laws in connection with the purchase and distribution of the Shares by the Underwriters; (ix) To such counsel's knowledge, the Company is not in violation of its Certificate of Incorporation or By-laws; (x) The statements set forth in the Prospectus under the caption "Description of Capital Stock", insofar as they purport to constitute a summary of the terms of the Stock, and under the caption "Underwriting", insofar as they purport to describe the provisions of the laws and documents referred to therein, fairly summarize the matters referred to therein in all material respects; (xi) The Company is not an "investment company", as such term is defined in the Investment Company Act; and (xii) Such counsel shall also have furnished to you a written statement (included in such written opinion or in a separate letter) to the effect that, although such counsel has not verified, and is not passing upon and does not assume any responsibility for, the accuracy, completeness or fairness of the statements contained in the Registration Statement and the Prospectus and any further amendments and supplements thereto made by the Company prior to such Time of Delivery, except as set forth in paragraph (x) above, such counsel has acted as counsel to the Company in connection with the preparation of the Registration Statement and Prospectus and any such further amendments or supplements and such counsel has reviewed and discussed the contents of the Registration Statement and the Prospectus and any such further amendments and supplements with representatives of the Company, its auditors, you and your counsel, and on the basis of the information that such counsel gained in the course of this review and discussion, such counsel advises you that in its opinion the Registration Statement and any further amendment thereto made prior to such Time of Delivery, as of its effective date, and the Prospectus and any further amendment or supplement thereto made by the Company prior to such Time of Delivery, as of its date, 10 11 appeared on their face to be appropriately responsive in all material respects to the requirements of the Act and the rules and regulations thereunder, and that in the course of this review and discussion, but without independent check or verification, no facts have come to such counsel's attention that caused it to believe (i) that, as of its effective date, the Registration Statement or any further amendment thereto made by the Company prior to such Time of Delivery contained an untrue statement of a material fact or omitted to state a material fact required to be stated therein or necessary to make the statements therein not misleading or that, as of its date or such Time of Delivery, the Prospectus or any further amendment or supplement thereto made by the Company prior to such Time of Delivery contained an untrue statement of a material fact or omitted to state a material fact necessary to make the statements therein, in the light of the circumstances under which they were made, not misleading, or (ii) that any amendment to the Registration Statement was required to be filed at or prior to such Time of Delivery or that there were any contracts or other documents of a character required to be filed as an Exhibit to the Registration Statement or required to be described in the Registration Statement or Prospectus which were not filed or described in all material respects as required. Such counsel need not express any opinion or make any statement as to the financial statements and related schedules or other financial data derived from accounting records included in or omitted from the Registration Statement or the Prospectus or any amendment or supplement thereto. Such counsel's opinion shall be limited to U.S. federal laws, the laws of the State of California, and the General Corporation Law of the State of Delaware. (d) On the date of the Prospectus at a time prior to the execution of this Agreement, at 9:30 a.m., New York City time, on the effective date of any post-effective amendment to the Registration Statement filed subsequent to the date of this Agreement and also at each Time of Delivery, Ernst & Young LLP shall have furnished to you a letter or letters, dated the respective dates of delivery thereof, in form and substance satisfactory to you, to the effect set forth in Annex I hereto (the executed copy of the letter delivered prior to the execution of this Agreement is attached as Annex I(a) hereto and a draft of the form of letter to be delivered on the effective date of any post-effective amendment to the Registration Statement and as of each Time of Delivery is attached as Annex I(b) hereto); (e) (i) Neither the Company nor any of its subsidiaries shall have sustained since the date of the latest audited financial statements included in the Prospectus any loss or interference with its business from fire, explosion, flood or other calamity, whether or not covered by insurance, or from any labor dispute or court or governmental action, order or decree, otherwise than as set forth or contemplated in the Prospectus, and (ii) since the respective dates as of which information is given in the Prospectus there shall not have been any change in the capital stock or long-term debt of the Company or any of its subsidiaries or any change, or any development involving a prospective change, in or affecting the general affairs, management, financial position, stockholders' equity or results of operations of the Company and its subsidiaries, otherwise than as set forth or contemplated in the Prospectus, the effect of which, in any such case described in clause (i) or (ii), is in the judgment of the Representatives so material and adverse as to make it impracticable or inadvisable to 11 12 proceed with the public offering or the delivery of the Shares being delivered at such Time of Delivery on the terms and in the manner contemplated in the Prospectus; (f) On or after the date hereof (i) no downgrading shall have occurred in the rating accorded the Company's debt securities or preferred stock by any "nationally recognized statistical rating organization", as that term is defined by the Commission for purposes of Rule 436(g)(2) under the Act, and (ii) no such organization shall have publicly announced that it has under surveillance or review, with possible negative implications, its rating of any of the Company's debt securities or preferred stock; (g) On or after the date hereof there shall not have occurred any of the following: (i) a suspension or material limitation in trading in securities generally on the New York Stock Exchange or on NASDAQ; (ii) a suspension or material limitation in trading in the Company's securities on NASDAQ; (iii) a general moratorium on commercial banking activities declared by either Federal or New York or California State authorities; or (iv) the outbreak or escalation of hostilities involving the United States or the declaration by the United States of a national emergency or war, if the effect of any such event specified in this clause (iv) in the judgment of the Representatives makes it impracticable or inadvisable to proceed with the public offering or the delivery of the Shares being delivered at such Time of Delivery on the terms and in the manner contemplated in the Prospectus; (h) The Shares to be sold at such Time of Delivery shall have been duly listed for quotation on NASDAQ; (i) The Company has obtained and delivered to the Underwriters executed copies of an agreement from each of its directors, officers and stockholders listed or described on Schedule II hereto, substantially to the effect set forth in Subsection 5(e) hereof in form and substance satisfactory to you; (j) The Company shall have complied with the provisions of Section 5(c) hereof with respect to the furnishing of prospectuses on the New York Business Day next succeeding the date of this Agreement; and (k) The Company shall have furnished or caused to be furnished to you at such Time of Delivery certificates of officers of the Company satisfactory to you as to the accuracy of the representations and warranties of the Company herein at and as of such Time of Delivery, as to the performance by the Company of all of its obligations hereunder to be performed at or prior to such Time of Delivery, as to the matters set forth in subsections (a) and (e) of this Section and as to such other matters as you may reasonably request. 8. (a) The Company will indemnify and hold harmless each Underwriter against any losses, claims, damages or liabilities, joint or several, to which such Underwriter may become subject, under the Act or otherwise, insofar as such losses, claims, damages or liabilities (or actions in respect thereof) arise out of or are based upon an untrue statement or alleged untrue statement of a material fact contained in any Preliminary Prospectus, the Registration Statement or the Prospectus, or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, and will reimburse each Underwriter for any legal or other expenses reasonably incurred by such Underwriter in connection with investigating or defending any such action or claim as such expenses are incurred; provided, however, that the Company shall not 12 13 be liable in any such case to the extent that any such loss, claim, damage or liability arises out of or is based upon an untrue statement or alleged untrue statement or omission or alleged omission made in any Preliminary Prospectus, the Registration Statement or the Prospectus or any such amendment or supplement in reliance upon and in conformity with written information furnished to the Company by any Underwriter through Goldman, Sachs & Co. expressly for use therein. (b) Each Underwriter will indemnify and hold harmless the Company against any losses, claims, damages or liabilities to which the Company may become subject, under the Act or otherwise, insofar as such losses, claims, damages or liabilities (or actions in respect thereof) arise out of or are based upon an untrue statement or alleged untrue statement of a material fact contained in any Preliminary Prospectus, the Registration Statement or the Prospectus, or any amendment or supplement thereto, or arise out of or are based upon the omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, in each case to the extent, but only to the extent, that such untrue statement or alleged untrue statement or omission or alleged omission was made in any Preliminary Prospectus, the Registration Statement or the Prospectus or any such amendment or supplement in reliance upon and in conformity with written information furnished to the Company by such Underwriter through Goldman, Sachs & Co. expressly for use therein; and will reimburse the Company for any legal or other expenses reasonably incurred by the Company in connection with investigating or defending any such action or claim as such expenses are incurred. (c) Promptly after receipt by an indemnified party under subsection (a) or (b) above of notice of the commencement of any action, such indemnified party shall, if a claim in respect thereof is to be made against the indemnifying party under such subsection, notify the indemnifying party in writing of the commencement thereof; but the omission so to notify the indemnifying party shall not relieve it from any liability which it may have to any indemnified party otherwise than under such subsection. In case any such action shall be brought against any indemnified party and it shall notify the indemnifying party of the commencement thereof, the indemnifying party shall be entitled to participate therein and, to the extent that it shall wish, jointly with any other indemnifying party similarly notified, to assume the defense thereof, with counsel satisfactory to such indemnified party (who shall not, except with the consent of the indemnified party, be counsel to the indemnifying party), and, after notice from the indemnifying party to such indemnified party of its election so to assume the defense thereof, the indemnifying party shall not be liable to such indemnified party under such subsection for any legal expenses of other counsel or any other expenses, in each case subsequently incurred by such indemnified party, in connection with the defense thereof other than reasonable costs of investigation. No indemnifying party shall, without the written consent of the indemnified party, effect the settlement or compromise of, or consent to the entry of any judgment with respect to, any pending or threatened action or claim in respect of which indemnification or contribution may be sought hereunder (whether or not the indemnified party is an actual or potential party to such action or claim) unless such settlement, compromise or judgment (i) includes an unconditional release of the indemnified party from all liability arising out of such action or claim and (ii) does not include a statement as to or an admission of fault, culpability or a failure to act, by or on behalf of any indemnified party. (d) If the indemnification provided for in this Section 8 is unavailable to or insufficient to hold harmless an indemnified party under subsection (a) or (b) above in respect of any losses, claims, damages or liabilities (or actions in respect thereof) referred to therein, then each indemnifying party shall contribute to the amount paid or payable by such indemnified party as a result of such losses, 13 14 claims, damages or liabilities (or actions in respect thereof) in such proportion as is appropriate to reflect the relative benefits received by the Company on the one hand and the Underwriters on the other from the offering of the Shares. If, however, the allocation provided by the immediately preceding sentence is not permitted by applicable law or if the indemnified party failed to give the notice required under subsection (c) above, then each indemnifying party shall contribute to such amount paid or payable by such indemnified party in such proportion as is appropriate to reflect not only such relative benefits but also the relative fault of the Company on the one hand and the Underwriters on the other in connection with the statements or omissions which resulted in such losses, claims, damages or liabilities (or actions in respect thereof), as well as any other relevant equitable considerations. The relative benefits received by the Company on the one hand and the Underwriters on the other shall be deemed to be in the same proportion as the total net proceeds from the offering (before deducting expenses) received by the Company bear to the total underwriting discounts and commissions received by the Underwriters, in each case as set forth in the table on the cover page of the Prospectus. The relative fault shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission or alleged omission to state a material fact relates to information supplied by the Company on the one hand or the Underwriters on the other and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The Company and the Underwriters agree that it would not be just and equitable if contributions pursuant to this subsection (d) were determined by pro rata allocation (even if the Underwriters were treated as one entity for such purpose) or by any other method of allocation which does not take account of the equitable considerations referred to above in this subsection (d). The amount paid or payable by an indemnified party as a result of the losses, claims, damages or liabilities (or actions in respect thereof) referred to above in this subsection (d) shall be deemed to include any legal or other expenses reasonably incurred by such indemnified party in connection with investigating or defending any such action or claim. Notwithstanding the provisions of this subsection (d), no Underwriter shall be required to contribute any amount in excess of the amount by which the total price at which the Shares underwritten by it and distributed to the public were offered to the public exceeds the amount of any damages which such Underwriter has otherwise been required to pay by reason of such untrue or alleged untrue statement or omission or alleged omission. No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Act) shall be entitled to contribution from any person who was not guilty of such fraudulent misrepresentation. The Underwriters' obligations in this subsection (d) to contribute are several in proportion to their respective underwriting obligations and not joint. (e) The obligations of the Company under this Section 8 shall be in addition to any liability which the Company may otherwise have and shall extend, upon the same terms and conditions, to each person, if any, who controls any Underwriter within the meaning of the Act; and the obligations of the Underwriters under this Section 8 shall be in addition to any liability which the respective Underwriters may otherwise have and shall extend, upon the same terms and conditions, to each officer and director of the Company (including any person who, with his or her consent, is named in the Registration Statement as about to become a director of the Company) and to each person, if any, who controls the Company within the meaning of the Act. 9. (a) If any Underwriter shall default in its obligation to purchase the Shares which it has agreed to purchase hereunder at a Time of Delivery, you may in your discretion arrange for you or another party or other parties to purchase such Shares on the terms contained herein. If within 14 15 thirty-six hours after such default by any Underwriter you do not arrange for the purchase of such Shares, then the Company shall be entitled to a further period of thirty-six hours within which to procure another party or other parties satisfactory to you to purchase such Shares on such terms. In the event that, within the respective prescribed periods, you notify the Company that you have so arranged for the purchase of such Shares, or the Company notifies you that it has so arranged for the purchase of such Shares, you or the Company shall have the right to postpone such Time of Delivery for a period of not more than seven days, in order to effect whatever changes may thereby be made necessary in the Registration Statement or the Prospectus, or in any other documents or arrangements, and the Company agrees to file promptly any amendments to the Registration Statement or the Prospectus which in your opinion may thereby be made necessary. The term "Underwriter" as used in this Agreement shall include any person substituted under this Section with like effect as if such person had originally been a party to this Agreement with respect to such Shares. (b) If, after giving effect to any arrangements for the purchase of the Shares of a defaulting Underwriter or Underwriters by you and the Company as provided in subsection (a) above, the aggregate number of such Shares which remains unpurchased does not exceed one-eleventh of the aggregate number of all the Shares to be purchased at such Time of Delivery, then the Company shall have the right to require each non-defaulting Underwriter to purchase the number of shares which such Underwriter agreed to purchase hereunder at such Time of Delivery and, in addition, to require each non-defaulting Underwriter to purchase its pro rata share (based on the number of Shares which such Underwriter agreed to purchase hereunder) of the Shares of such defaulting Underwriter or Underwriters for which such arrangements have not been made; but nothing herein shall relieve a defaulting Underwriter from liability for its default. (c) If, after giving effect to any arrangements for the purchase of the Shares of a defaulting Underwriter or Underwriters by you and the Company as provided in subsection (a) above, the aggregate number of such Shares which remains unpurchased exceeds one-eleventh of the aggregate number of all the Shares to be purchased at such Time of Delivery, or if the Company shall not exercise the right described in subsection (b) above to require non-defaulting Underwriters to purchase Shares of a defaulting Underwriter or Underwriters, then this Agreement (or, with respect to the Second Time of Delivery, the obligations of the Underwriters to purchase and of the Company to sell the Optional Shares) shall thereupon terminate, without liability on the part of any non-defaulting Underwriter or the Company, except for the expenses to be borne by the Company and the Underwriters as provided in Section 6 hereof and the indemnity and contribution agreements in Section 8 hereof; but nothing herein shall relieve a defaulting Underwriter from liability for its default. 10. The respective indemnities, agreements, representations, warranties and other statements of the Company and the several Underwriters, as set forth in this Agreement or made by or on behalf of them, respectively, pursuant to this Agreement, shall remain in full force and effect, regardless of any investigation (or any statement as to the results thereof) made by or on behalf of any Underwriter or any controlling person of any Underwriter, or the Company, or any officer or director or controlling person of the Company, and shall survive delivery of and payment for the Shares. 11. If this Agreement shall be terminated pursuant to Section 9 hereof, the Company shall not then be under any liability to any Underwriter except as provided in Sections 6 and 8 hereof; but, if for any other reason, any Shares are not delivered by or on behalf of the Company as provided 15 16 herein, the Company will reimburse the Underwriters through you for all out-of-pocket expenses approved in writing by you, including fees and disbursements of counsel, reasonably incurred by the Underwriters in making preparations for the purchase, sale and delivery of the Shares not so delivered, but the Company shall then be under no further liability to any Underwriter except as provided in Sections 6 and 8 hereof. 12. In all dealings hereunder, you shall act on behalf of each of the Underwriters, and the parties hereto shall be entitled to act and rely upon any statement, request, notice or agreement on behalf of any Underwriter made or given by you jointly or by Goldman, Sachs & Co. on behalf of you as the representatives. All statements, requests, notices and agreements hereunder shall be in writing, and if to the Underwriters shall be delivered or sent by mail, telex or facsimile transmission to you as the representatives in care of Goldman, Sachs & Co., 32 Old Slip, 21st Floor, New York, New York 10005, Attention: Registration Department; and if to the Company shall be delivered or sent by mail to the address of the Company set forth in the Registration Statement, Attention: President; provided, however, that any notice to an Underwriter pursuant to Section 8(c) hereof shall be delivered or sent by mail, telex or facsimile transmission to such Underwriter at its address set forth in its Underwriters' Questionnaire, or telex constituting such Questionnaire, which address will be supplied to the Company by you upon request. Any such statements, requests, notices or agreements shall take effect upon receipt thereof. 13. This Agreement shall be binding upon, and inure solely to the benefit of, the Underwriters, the Company and, to the extent provided in Sections 8 and 10 hereof, the officers and directors of the Company and each person who controls the Company or any Underwriter, and their respective heirs, executors, administrators, successors and assigns, and no other person shall acquire or have any right under or by virtue of this Agreement. No purchaser of any of the Shares from any Underwriter shall be deemed a successor or assign by reason merely of such purchase. 14. Time shall be of the essence of this Agreement. As used herein, the term "business day" shall mean any day when the Commission's office in Washington, D.C. is open for business. 15. THIS AGREEMENT SHALL BE GOVERNED BY AND CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK. 16. This Agreement may be executed by any one or more of the parties hereto in any number of counterparts, each of which shall be deemed to be an original, but all such counterparts shall together constitute one and the same instrument. 16 17 If the foregoing is in accordance with your understanding, please sign and return to us eight counterparts hereof, and upon the acceptance hereof by you, on behalf of each of the Underwriters, this letter and such acceptance hereof shall constitute a binding agreement between each of the Underwriters and the Company. It is understood that your acceptance of this letter on behalf of each of the Underwriters is pursuant to the authority set forth in a form of Agreement among Underwriters, the form of which shall be submitted to the Company for examination upon request, but without warranty on your part as to the authority of the signers thereof. Very truly yours, CoSine Communications, Inc. By: -------------------------- Name: Title: 17 18 Accepted as of the date hereof: Goldman, Sachs & Co. FleetBoston Robertson Stephens Inc., Chase Securities Inc., J.P. Morgan Securities Inc. By:_____________________________________ (Goldman, Sachs & Co.) On behalf of each of the Underwriters 18 19 SCHEDULE I
NUMBER OF OPTIONAL SHARES TO BE TOTAL NUMBER OF PURCHASED IF FIRM SHARES MAXIMUM OPTION UNDERWRITER TO BE PURCHASED EXERCISED ----------- --------------- ------------------ Goldman, Sachs & Co................................... FleetBoston Robertson Stephens Inc., Chase Securities Inc., J.P. Morgan Securities Inc............................ [NAMES OF OTHER UNDERWRITERS]......................... --------------- ------------------ Total................................ =============== ==================
19 20 SCHEDULE II 2 21 ANNEX I Pursuant to Section 7(d) of the Underwriting Agreement, the accountants shall furnish letters to the Underwriters to the effect that: (i) They are independent certified public accountants with respect to the Company and its subsidiaries within the meaning of the Act and the applicable published rules and regulations thereunder; (ii) In their opinion, the financial statements and any supplementary financial information and schedules (and, if applicable, financial forecasts and/or pro forma financial information) examined by them and included in the Prospectus or the Registration Statement comply as to form in all material respects with the applicable accounting requirements of the Act and the related published rules and regulations thereunder; and, if applicable, they have made a review in accordance with standards established by the American Institute of Certified Public Accountants of the unaudited consolidated interim financial statements, selected financial data, pro forma financial information, financial forecasts and/or condensed financial statements derived from audited financial statements of the Company for the periods specified in such letter, as indicated in their reports thereon, copies of which have been separately furnished to the representatives of the Underwriters (the "Representatives"); (iii) They have made a review in accordance with standards established by the American Institute of Certified Public Accountants of the unaudited condensed consolidated statements of income, consolidated balance sheets and consolidated statements of cash flows included in the Prospectus as indicated in their reports thereon copies of which have been separately furnished to the Representatives and on the basis of specified procedures including inquiries of officials of the Company who have responsibility for financial and accounting matters regarding whether the unaudited condensed consolidated financial statements referred to in paragraph (vi)(A)(i) below comply as to form in all material respects with the applicable accounting requirements of the Act and the related published rules and regulations, nothing came to their attention that cause them to believe that the unaudited condensed consolidated financial statements do not comply as to form in all material respects with the applicable accounting requirements of the Act and the related published rules and regulations; (iv) The unaudited selected financial information with respect to the consolidated results of operations and financial position of the Company for the five most recent fiscal years included in the Prospectus agrees with the corresponding amounts (after restatements where applicable) in the audited consolidated financial statements for such five fiscal years which were included or incorporated by reference in the Company's Annual Reports on Form 10-K for such fiscal years; (v) They have compared the information in the Prospectus under selected captions with the disclosure requirements of Regulation S-K and on the basis of limited procedures specified in such letter nothing came to their attention as a result of the foregoing procedures that caused them to believe that this information does not conform in all material respects with the disclosure requirements of Items 301, 302, 402 and 503(d), respectively, of Regulation S-K; 22 (vi) On the basis of limited procedures, not constituting an examination in accordance with generally accepted auditing standards, consisting of a reading of the unaudited financial statements and other information referred to below, a reading of the latest available interim financial statements of the Company and its subsidiaries, inspection of the minute books of the Company and its subsidiaries since the date of the latest audited financial statements included in the Prospectus, inquiries of officials of the Company and its subsidiaries responsible for financial and accounting matters and such other inquiries and procedures as may be specified in such letter, nothing came to their attention that caused them to believe that: (A) (i) the unaudited consolidated statements of income, consolidated balance sheets and consolidated statements of cash flows included in the Prospectus do not comply as to form in all material respects with the applicable accounting requirements of the Act and the related published rules and regulations, or (ii) any material modifications should be made to the unaudited condensed consolidated statements of income, consolidated balance sheets and consolidated statements of cash flows included in the Prospectus for them to be in conformity with generally accepted accounting principles; (B) any other unaudited income statement data and balance sheet items included in the Prospectus do not agree with the corresponding items in the unaudited consolidated financial statements from which such data and items were derived, and any such unaudited data and items were not determined on a basis substantially consistent with the basis for the corresponding amounts in the audited consolidated financial statements included in the Prospectus; (C) the unaudited financial statements which were not included in the Prospectus but from which were derived any unaudited condensed financial statements referred to in clause (A) and any unaudited income statement data and balance sheet items included in the Prospectus and referred to in clause (B) were not determined on a basis substantially consistent with the basis for the audited consolidated financial statements included in the Prospectus; (D) any unaudited pro forma consolidated condensed financial statements included in the Prospectus do not comply as to form in all material respects with the applicable accounting requirements of the Act and the published rules and regulations thereunder or the pro forma adjustments have not been properly applied to the historical amounts in the compilation of those statements; (E) as of a specified date not more than five days prior to the date of such letter, there have been any changes in the consolidated capital stock (other than issuances of capital stock upon exercise of options and stock appreciation rights, upon earn-outs of performance shares and upon conversions of convertible securities, in each case which were outstanding on the date of the latest financial statements included in the Prospectus) or any increase in the consolidated long-term debt of the Company and its subsidiaries, or any decreases in consolidated net current assets or stockholders' equity or other items specified by the Representatives, or any increases in any items specified by the Representatives, in each case as compared with amounts shown in the latest balance sheet included in 2 23 the Prospectus, except in each case for changes, increases or decreases which the Prospectus discloses have occurred or may occur or which are described in such letter; and (F) for the period from the date of the latest financial statements included in the Prospectus to the specified date referred to in clause (E) there were any decreases in consolidated net revenues or operating profit or the total or per share amounts of consolidated net income or other items specified by the Representatives, or any increases in any items specified by the Representatives, in each case as compared with the comparable period of the preceding year and with any other period of corresponding length specified by the Representatives, except in each case for decreases or increases which the Prospectus discloses have occurred or may occur or which are described in such letter; and (vii) In addition to the examination referred to in their report(s) included in the Prospectus and the limited procedures, inspection of minute books, inquiries and other procedures referred to in paragraphs (iii) and (vi) above, they have carried out certain specified procedures, not constituting an examination in accordance with generally accepted auditing standards, with respect to certain amounts, percentages and financial information specified by the Representatives, which are derived from the general accounting records of the Company and its subsidiaries, which appear in the Prospectus, or in Part II of, or in exhibits and schedules to, the Registration Statement specified by the Representatives, and have compared certain of such amounts, percentages and financial information with the accounting records of the Company and its subsidiaries and have found them to be in agreement. 3 EX-5.1 3 f60862a4ex5-1.txt EXHIBIT 5.1 1 EXHIBIT 5.1 [LETTERHEAD OF WILSON SONSINI GOODRICH & ROSATI] August 31, 2000 CoSine Communications, Inc. 3200 Bridge Parkway Redwood City, CA 94065 RE: REGISTRATION STATEMENT ON FORM S-1 Ladies and Gentlemen: We have examined the Registration Statement on Form S-1 filed by you with the Securities and Exchange Commission on April 28, 2000 (as such has been and may be further amended or supplemented, the "Registration Statement") in connection with the registration under the Securities Act of 1933, as amended (the "Act"), of up to 11,500,000 shares of your Common Stock (the "Shares"). The Shares, which include up to 1,500,000 shares of Common Stock issuable pursuant to an over-allotment option granted to the underwriters (the "Underwriters"), are to be sold to the Underwriters for resale to the public as described in the Registration Statement. As your counsel in connection with this transaction, we have examined the proceedings proposed to be taken by you in connection with the issuance and sale of the Shares. Based on the foregoing, it is our opinion that, the Shares, when issued and sold in the manner described in the Registration Statement, will be legally and validly issued, fully paid and nonassessable. We consent to the use of this opinion as an exhibit to the Registration Statement, and further consent to the use of our name wherever appearing in the Registration Statement, including the prospectus (the "Prospectus") constituting a part thereof, which has been approved by us, as such may be further amended or supplemented, or incorporated by reference in any registration statement filed pursuant to Rule 462(b) of the Act that incorporates the Prospectus by reference. Sincerely, WILSON SONSINI GOODRICH & ROSATI Professional Corporation /s/ WILSON SONSINI GOODRICH & ROSATI, P.C. EX-10.17 4 f60862a4ex10-17.txt EXHIBIT 10.17 1 EXHIBIT 10.17 SUBLEASE THIS SUBLEASE ("Sublease"), is entered into by and between Liberate Technologies, a Delaware corporation, formerly known as Network Computer, Inc. ("Sublandlord"), and Cosine Communications, Inc., a California corporation ("Subtenant"), as of June 28, 2000. RECITALS A. Sublandlord leases certain premises (the "Master Lease Premises") located in that certain building ("Building") located at One Circle Star Way, San Carlos, California, from Circle Star Center Associates, L.P., a California limited partnership (the "Master Landlord"), pursuant to that certain Lease dated April 27, 1999, as amended by an undated letter agreement entitled "Confirmation of Addition of Second Building," complete copies of which are attached hereto as Exhibit A (collectively, the "Master Lease"). Capitalized terms used but not defined herein have the same meanings as they have in the Master Lease. B. Sublandlord desires to sublease a portion of the Master Lease Premises to Subtenant, and Subtenant desires to sublease a portion of the Master Lease Premises from Sublandlord on the terms and provisions hereof. NOW, THEREFORE, in consideration of the mutual covenants and conditions contained herein, Sublandlord and Subtenant covenant and agree as follows: AGREEMENT 1. SUBLEASED PREMISES. On and subject to the terms and conditions below, Sublandlord hereby leases to Subtenant, and Subtenant hereby leases from Sublandlord, approximately 25,179 square feet of space located and comprising all rentable space on the second floor of the Building, which space is shown on Exhibit B attached hereto (the "Subleased Premises"). 2. TERM. This Sublease shall commence on the date Sublandlord makes the Subleased Premises available to Subtenant (the "Commencement Date"), which date shall be the later of (i) July 1, 2000 or (ii) one (1) day after Subtenant has received a fully-executed copy of the Master Landlord's Consent (defined in paragraph 13 below), which shall not be later than July 15, 2000. The term shall expire on the last day of the twelfth full month after the Commencement Date (the "Expiration Date"), unless sooner terminated pursuant to any provision hereof. 3. RENT; DEPOSITS. Within two (2) business days of the Commencement Date Subtenant shall pay rent ("Rent") to Sublandlord for the entire term of this Sublease. Rent shall be calculated at the rate of Two Hundred Two Thousand Six Hundred Ninety and 95/100 Dollars ($202,690.95) per month (Two Million Four Hundred Thirty-Two Thousand Two Hundred Ninety-One and 40/100 Dollars ($2,432,291.40) per year). Rent shall be payable to Sublandlord in lawful money of the United States, without offset, at the address specified for notice to 1. 2 Sublandlord below. If this Sublease shall terminate prior to the Expiration Date (other than due to a Subtenant default), then all Rent attributable to the period from the actual termination date to the Expiration Date shall be returned to Subtenant within ten (10) days after such termination date. If the Commencement Date does not fall on the first day of a calendar month, Rent for any partial month shall be prorated on a daily basis upon a thirty day calendar month. If this Sublease shall terminate before the Expiration Date because of a Subtenant default, then unused Rent shall be applied to Sublandlord's damages and the balance, if any, returned to Subtenant. (a) SUBTENANT'S SHARE OF EXPENSES AND REAL ESTATE TAXES. Subtenant shall pay, in advance on the first day of each calendar month, fourteen percent (14%) of Expenses and Real Estate Taxes ("Subtenant's Share") allocable to the Building. For the term of the Sublease, Subtenant's Share is estimated to be Twenty-Five Thousand One Hundred Seventy-Nine and No/100 Dollars ($25,179.00) per month. Sublandlord may adjust the amount of Subtenant's Share at any time the amount of Expenses and Real Estate Taxes being charged to Sublandlord under the Master Lease is adjusted in accordance with the terms thereof. Promptly following reconciliation of the amounts charged to Sublandlord under Sections 3(c)(2) and 3(c)(3) of the Master Lease, the amounts charged to Subtenant pursuant to this Section 3(a) shall be reconciled in accordance with the provisions of Sections 3(c)(2) and 3(c)(3) of the Master Lease, which are incorporated herein by Section 7 below. (b) PERSONAL PROPERTY. During the entire term of this Sublease, Subtenant shall have the right to use the furniture, cabling system, telephone system, printers, and various other items of personal property located in the Subleased Space and described on Exhibit C attached hereto (collectively, the "Personal Property") at an additional cost of Twenty-Five Thousand One Hundred Seventy-Nine and No/100 Dollars ($25,179.00) per month ("Personal Property Rent"). Subtenant shall pay Personal Property Rent in advance on the first day of each calendar month together with Subtenant's Share. Subtenant shall keep the Personal Property in good condition and repair and shall return the same to Sublandlord at the end of the Sublease term, subject to damage by fire or other casualty and ordinary wear and tear. (c) FIRST PAYMENT OF PERSONAL PROPERTY RENT AND SUBTENANT'S SHARE. Upon execution of this Sublease, Subtenant shall pay to Sublandlord the sum of Fifty Thousand Three Hundred Fifty-Eight and No/100 Dollars ($50,358.00), constituting payment in advance of the first full month's Personal Property Rent and the first estimated month's payment of Subtenant's Share. (d) SECURITY DEPOSIT. Upon execution of this Sublease, Subtenant shall pay to Sublandlord the sum of Fifty Thousand Three Hundred Fifty-Eight and 00/100 Dollars ($50,358.00) to secure the performance of Subtenant's obligations hereunder (the "Security Deposit"). The Security Deposit is not advance rental, nor a measure of Sublandlord's damages. Sublandlord shall not be required to keep the Security Deposit separate from its general accounts. Upon the occurrence of any default by Subtenant, if the default shall continue after the expiration of any applicable notice and cure period, Sublandlord may, from time to time and without prejudice to any other remedy available to Sublandlord provided herein or by law, use the Security Deposit to the extent necessary to make good any arrears in Rent or other payments due hereunder, or other damage, injury, expense or liability caused by such default. Subtenant shall pay to Sublandlord, upon demand, the amount so applied to restore the Security Deposit to 2. 3 the original amount. Any remaining balance shall be returned to Subtenant after Subtenant has surrendered the Subleased Premises in the condition required by this Sublease and all Subtenant's other obligations under this Sublease have been fulfilled. 4. ACCEPTANCE OF SUBLEASED PREMISES. Sublandlord shall deliver the Subleased Premises to Subtenant in broom clean condition with any and all damage caused by Sublandlord's occupancy of or move from the Subleased Premises repaired. Subject to the foregoing, Subtenant has inspected the Subleased Premises and accepts the same in its current condition "AS-IS" and waives the right to make any claim against Sublandlord for any matter directly or indirectly arising out of the condition of the Subleased Premises, appurtenances thereto, and the improvement thereof. Subtenant acknowledges that the taking of possession of the Subleased Premises by Subtenant shall be conclusive evidence that the Subleased Premises are in good and satisfactory condition at the time such possession was so taken. Subtenant has determined to its satisfaction that the Subleased Premises can be used for the purposes for which the same is leased. EXCEPT AS SPECIFICALLY SET FORTH HEREIN, SUBLANDLORD MAKES NO WARRANTIES, EXPRESS OR IMPLIED, INCLUDING BUT NOT LIMITED TO ANY IMPLIED WARRANTIES OF FITNESS FOR A PARTICULAR PURPOSE OR HABITABILITY OF THE SUBLEASED PREMISES. Sublandlord represents and warrants to Subtenant that as of the Commencement Date, the Subleased Premises are in good condition. 5. RIGHT OF EARLY ENTRY. Sublandlord shall use reasonable efforts to give Subtenant seven (7) days notice prior to the Commencement Date. Following such notice, Subtenant may enter the Subleased Premises for the purposes of making the Subleased Premises ready for occupancy. Such early entry shall be subject to each and every provision of this Sublease except Subtenant's obligation to pay Rent and Subtenant's Share. 6. USE. Subtenant may use the Subleased Premises only for uses permitted by the Master Lease. Subtenant shall not use or permit the use of the Subleased Premises in a manner that will create waste or a nuisance, interfere with or disturb other tenants in the Building or violate the provisions of the Master Lease. 7. INCORPORATION OF SUBLEASE. All of the terms and provisions of the Master Lease, except as specifically excluded therefrom in this paragraph, are incorporated into and made a part of this Sublease and the rights and obligations of the parties under the Master Lease are hereby imposed upon the parties hereto with respect to the Subleased Premises, Sublandlord being substituted for the "Landlord" in the Master Lease (except in Sections 1, 7, 9, 10(f), 12, 16, 20, 21, 39(c); the introductory paragraph of 39, in which references to "Landlord" shall continue to be deemed to refer to the Master Landlord, not Sublandlord) and Subtenant being substituted for the "Tenant" in the Master Lease. It is further understood that where reference is made in the Master Lease to the "Premises," the same shall mean the Subleased Premises as defined herein; where reference is made to the "Commencement Date," the same shall mean the Commencement Date as defined herein; and where reference is made to "this Lease," the same shall mean this Sublease. Notwithstanding the foregoing, Sublandlord shall have no obligation to perform any of Master Landlord's obligations under the Master Lease but upon request of Subtenant, Sublandlord shall use commercially reasonable efforts to cause Master Landlord to perform such obligations. The following Sections of the Master Lease are not incorporated herein; Basic Lease Information, Sections 2, 3(a), 3(b), 3(c)(1)(B), 32, 34, 37, 41 (other than main lobby and 3. 4 floor lobby directory signage rights, which shall apply), 42, 43, 44, 45, Exhibit B (Work Letter), Exhibit F (Form of Letter of Credit), and Exhibit G (Description of Second Building). Sublandlord represents and warrants to Subtenant that (i) except as specifically set forth herein, the Master Lease is unmodified and in full force and effect, (ii) to the best of Sublandlord's knowledge, Sublandlord is not in default under the Master Lease, nor is there any event or circumstance which has occurred or is occurring that with notice or the passage of time or both would result in a default by Sublandlord under the Master Lease, (iii) to the best of Sublandlord's knowledge, Master Landlord is not in default under the Master Lease, nor is there any event or circumstance which has occurred or is occurring that with notice or the passage of time or both would result in a default by Master Landlord under the Master Lease, (iv) Sublandlord shall not exercise its termination rights, if any, under the Master Lease (except any such rights arising from a condemnation or casualty of the Master Lease Premises) or otherwise agree to an early termination of the Master Lease or surrender of the Subleased Premises unless Master Landlord accepts this Sublease as a direct lease between Master Landlord and Subtenant and (v) Sublandlord shall not amend or otherwise modify the terms of the Master Lease in a manner that would materially and adversely affect Subtenant's use and enjoyment of the Subleased Premises as contemplated by this Sublease. Section 6 of the Master Lease, which is incorporated herein, requires that Sublandlord notify Subtenant whether any Alterations will be required to be removed and the Subleased Premises restored to its condition upon delivery to Subtenant. Sublandlord hereby notifies Subtenant that at the expiration or earlier termination of this Sublease, any alterations or additions to the Subleased Premises performed by Subtenant must be removed and the Subleased Premises returned to the condition in which they were first delivered to Subtenant (damage by fire or other casualty, eminent domain and ordinary wear and tear excepted), all at Subtenant's sole cost and expense. 8. ASSIGNMENT AND SUBLETTING. Subtenant may not assign, sublet, transfer, pledge, hypothecate or otherwise encumber the Subleased Premises (each, a "Transfer"), in whole or in part, or permit the use or occupancy of the Subleased Premises by anyone other than Subtenant unless Subtenant has obtained the consent of the Master Landlord and otherwise complied with the terms of the Master Lease, except any obligation to pay Bonus Rent to Master Landlord thereunder, which shall be paid to Master Landlord by Sublandlord. Regardless of Sublandlord's and/or Master Landlord's consent, no subletting or assignment shall release Subtenant from its obligations hereunder. Subtenant may not Transfer all or any portion of the Subleased Premises without first obtaining the consent of Sublandlord, which consent shall not be unreasonably withheld, conditioned or delayed. In the event of such a Transfer, Subtenant shall deliver to Sublandlord fifty percent (50%) of all sums received from the assignee, sublessee or other transferee in excess of the Rent and other sums due from Subtenant to Sublandlord under this Sublease; provided that Subtenant may first deduct from such excess its "Transfer Costs." As used herein, "Transfer Costs" shall mean (i) any brokerage commissions paid by Subtenant in connection with the Transfer, (ii) any improvement allowance or other concessions or payments made by Subtenant to the transferee as an inducement to enter into the Transfer, and (iii) the costs of any alterations, additions or 4. 5 improvements made by Subtenant to the Subleased Premises to make the same suitable for occupancy by the transferee. Notwithstanding anything to the contrary in this Section 8, Subtenant may assign this Sublease or sublet the Subleased Premises or any portion thereof, without first obtaining Sublandlord's consent, to any partnership, corporation or other entity which controls, is controlled by or is under common control with Subtenant or Subtenant's parent (control being defined for such purposes as ownership of at least 50% of the equity interests in, or the power to direct the management of, the relevant entity), or to any partnership, corporation or other entity resulting from a merger or consolidation with Subtenant or Subtenant's parent, or to any person, partnership, corporation or other entity which acquires (whether by means of an asset purchase of all or substantially all of the assets of Subtenant or by means of a transfer of Subtenant capital stock) Subtenant as a going concern including as part of an initial public offering of Subtenant's stock or other equity interests or as part of a re-incorporation of Subtenant in another jurisdiction) (collectively, an "Affiliate"), provided that (i) in the event of such assignment or subletting, the Affiliate assumes in writing all of Subtenant's obligations under this Sublease pertaining to the portion of the Subleased Premises which is the subject of the assignment or sublease (but no such assumption shall relieve Subtenant from primary liability under this Sublease) and (ii) in the event of such assignment, the financial strength of the Affiliate is equal to or greater than the financial strength of Subtenant at the date of this Sublease and at the date of such assignment or subletting. In no event shall any public offering of Subtenant's capital stock or other equity interests, whether as part of an initial public offering or any secondary public offering, or any transfer of Subtenant's capital stock or other equity interests through the "over the counter" market or any recognized national or international securities exchange, be deemed a Transfer hereunder. 9. PARKING. Subtenant shall have the right to use 83 unassigned parking spaces in common with other occupants of the Building and the project of which the Building is a part. 10. NOTICES. The addresses specified in the Master Lease for receipt of notices to each of the parties are deleted and replaced with the following: TO SUBLANDLORD AT: the Master Lease Premises Attn: Director of Operations TO SUBTENANT AT: 3200 Bridge Parkway Redwood City, CA 94065 Attn: Mr. Steve Hirai 11. BROKERS. Each party hereto represents and warrants that it has dealt with no broker, finder or real estate agent in connection with this Sublease and the transaction contemplated herein. Each party shall indemnify, protect, defend and hold the other party harmless from all costs and expenses (including reasonable attorneys' fees) arising from or relating to a breach of the foregoing representation and warranty. 12. RIGHT OF FIRST REFUSAL. Sublandlord hereby grants to Subtenant a right of first refusal ("First-Refusal Right") to lease all or any portion of the remaining Master Lease Premises 5. 6 (the "First-Refusal Space"). Upon receipt of a third-party offer to lease all or any portion of the First-Refusal Space, which offer Sublandlord desires to accept, Sublandlord shall provide Subtenant with written notice (the "First-Refusal Notice") of such offer and all terms thereof, including rent, tenant improvement allowances or other concessions, lease term and landlord's pre-delivery work obligations, if any. Sublandlord shall ensure that the First-Refusal Notice specifically describes the First-Refusal Space that will be available for lease (the "Specific First-Refusal Space"). If Subtenant wishes to exercise its First-Refusal Right with respect to the Specific First-Refusal Space, Subtenant, within five (5) business days after the delivery of the First-Refusal Notice to Subtenant, shall deliver notice to Sublandlord of Subtenant's intention to exercise its First-Refusal Right with respect to all the Specific First-Refusal Space. If Subtenant does not exercise its First-Refusal Right within the five (5) business day period, the First-Refusal Right shall terminate for the Specific First-Refusal Space, and Sublandlord thereafter shall be free for a period of 120 days to lease the Specific First-Refusal Space to anyone on the terms set forth in the First Refusal Notice. If Subtenant exercises its First-Refusal Right, Sublandlord and Subtenant shall promptly enter into a written sublease agreement on the same general terms and conditions as this Sublease except that Rent and all other economic terms for the Specific First-Refusal Space shall be as set forth in the First Refusal Notice and this First-Refusal Right shall be of no further effect. The term of this Sublease as it pertains to the Specific First Refusal Space shall be co-terminus with the term of this Sublease as it pertains to the balance of the Subleased Premises. 13. MASTER LANDLORD'S CONSENT. This Sublease is conditioned upon Master Landlord's written approval hereof as evidenced by Master Landlord's execution of a consent to sublease substantially in the form attached hereto as Exhibit D ("Master Landlord's Consent"). If Sublandlord and Subtenant shall not have obtained Master Landlord's consent to this Sublease by July 15, 2000, then either Subtenant or Sublandlord may terminate this Sublease and all sums paid by Subtenant to Sublandlord hereunder immediately shall be returned to Subtenant. 14. AUTHORITY. Sublandlord hereby warrants and represents that it is a corporation, duly authorized and in good standing under the laws of the State of Delaware and has the power to execute and deliver this Sublease. The persons signing on behalf of the Sublandlord hereby represent and warrant that they are the duly authorized representatives of the Sublandlord and have the power and authority to bind the Sublandlord. Subtenant hereby warrants and represents that it is a corporation, duly authorized and in good standing under the laws of the State of California and has the power to execute and deliver this Sublease. The persons signing on behalf of the Subtenant hereby represent and warrant that they are the duly authorized representatives of the Subtenant and have the power and authority to bind the Subtenant. 15. NO ANIMALS. Subtenant shall not permit any animals to be brought into the Premises, the Building or the common areas of the project of which the Building is a part, except animals assisting disabled persons. 16. COUNTERPARTS. This Sublease may be executed in two (2) or more counterparts, each of which shall be deemed an original but when taken together shall constitute one and the same instrument. (Remainder of Page Intentionally Left Blank) 6. 7 IN WITNESS WHEREOF, the parties have executed this Sublease as of the date first written above. SUBLANDLORD: LIBERATE TECHNOLOGIES, a Delaware corporation By: /s/ Mitchell Kertzman --------------------------- Print Name: Mitchell Kertzman ------------------ Its: President [STAMP] Date: ------------------------- And By: /s/ Gordon Yamate ----------------------- [STAMP] Print Name: Gordon Yamate ------------------ Its: Secretary SUBTENANT: COSINE COMMUNICATIONS, INC., a California corporation By: /s/ Steve Goggiano -------------------------- Print Name: Steve Goggiano ----------------- Its: COO Date: 6/29/00 ------------------------ And By: /s/ Jill Bresnahan ---------------------- Print Name: Jill Bresnahan ----------------- Its: Secretary 1. 8 CONSENT OF MASTER LANDLORD 9 CONSENT TO SUBLEASE THIS AGREEMENT ("Agreement") is made as of July 5, 2000, by and among Circle Star Center Associates, L.P., a California limited partnership ("Landlord"), Liberate Technologies, a Delaware corporation ("Sublessor"), and Cosine Communications, a California corporation ("Subtenant"). Recitals A. Landlord is the landlord and Network Computer, Inc. (n/k/a Liberate Technologies) is the tenant under a lease dated April 27, 1999, as amended by Confirmation of Addition of Second Building (the "Master Lease"), for a total of 180,815 square feet of space located in certain premises commonly known and designated as Suites 100, 300 and 400 at Two Circle Star Way and all space at One Circle Star Way in San Carlos, California 94070 ("Premises"). Capitalized terms not otherwise defined herein shall have the meanings given them in the Master Lease. B. Sublessor has requested that Landlord consent to the subletting by Sublessor to Subtenant of a portion of the Premises, consisting of approximately 25,179 rentable square feet on the third floor of One Circle Star Way and generally shown on the floor plan attached hereto as Exhibit B ("Sublet Premises"), pursuant to the Sublease dated June 28, 2000 (the "Sublease"), to which this Agreement is attached. NOW, THEREFORE, in consideration of the foregoing recitals and the covenants contained herein, Landlord hereby consents to the Sublease subject to and upon the following terms and conditions, as to each of which Sublessor and Subtenant expressly agree: 1. Nothing contained in this Agreement shall: (a) operate as a consent to or approval or ratification by Landlord of any specific provisions of the Sublease or as a representation or warranty by Landlord, or cause Landlord to be estopped or bound in any way by any of the provisions of the Sublease, or (b) be construed to modify, waive or affect (i) any of the provisions, covenants or conditions in the Master Lease, or (ii) any of Sublessor's obligations under the Master Lease, or (iii) any rights or remedies of Landlord under the Master Lease or otherwise; or to enlarge or increase Landlord's obligations or Sublessor's rights under the Master Lease or otherwise, or (c) be deemed to make Subtenant a third party beneficiary of the provisions of the Master Lease, or create or permit any direct right of action by Subtenant against Landlord for breach of the covenant of quiet enjoyment or any other covenant of Landlord under the Master Lease, or (d) be construed to waive any past, present or future breach or default on the part of Sublessor under the Master Lease. 1 10 2. The Sublease shall be subject and subordinate at all times to the Master Lease and to all of its provisions, covenants and conditions. Except for rent payable under the Master Lease, Subtenant shall perform faithfully and be bound by all of the terms, covenants, conditions, provisions and agreements of the Master Lease (including, without limitation, insurance requirements, as though Subtenant were the "Tenant" under the Master Lease), for the period covered by the Sublease, but only to the extent applicable to the Sublet Premises. In case of any conflict between the provisions of the Master Lease and the provisions of the Master Lease and the provisions of the Sublease as among Landlord, Sublessor and Subtenant, the provisions of the Master Lease shall prevail unaffected by the Sublease. As between Sublessor and Subtenant, the provisions of the Sublease shall control. 3. Neither the Sublease nor this consent thereto shall release or discharge Sublessor from any liability under the Master Lease. Sublessor shall remain liable and responsible for the full performance and observance of all the provisions, covenants and conditions set forth in the Master Lease on the part of Sublessor to be performed and observed. Any breach or violation of any provision of the Master Lease by Subtenant shall be deemed to be, and shall constitute, a default by Sublessor in fulfilling such provision. 4. This consent by Landlord shall not be assignable or transferable and shall not be construed as a consent by Landlord to any further subletting by Sublessor or Subtenant or to any assignment by Sublessor of the Master Lease or assignment by Subtenant of the Sublease, whether or not the Sublease purports to permit the same, and, without limiting the generality of the foregoing, both Sublessor and Subtenant agree that Subtenant has no right whatsoever to assign, mortgage or encumber the Sublease nor to sublet any portion of the Sublet Premises or permit any portion of the Sublet Premises to be used or occupied by any other party or in any other manner to transfer all or any part of Subtenant's rights with respect to the Sublease or the Sublet Premises. All provisions in the Master Lease restricting or prohibiting transfer of Tenant's interests shall also apply to restrict or prohibit transfer by Subtenant (but, except only as otherwise expressly provided to the contrary in this Agreement, no provisions in the Master Lease permitting any transfer by Sublessor shall apply to permit any transfer by Subtenant). This consent may not be construed as a consent by Landlord to any modification, amendment, extension or renewal of the Sublease, without Landlord's prior written consent. 5. Sublessor hereby absolutely and irrevocably assigns to Landlord any and all rights to receive rent and other consideration from any sublease, including the Sublease, during the pendency of any Event of Default under the Master Lease, and agrees that Landlord, as assignee for Sublessor for purposes hereof, or a receiver for Sublessor appointed on Landlord's application may (but shall not be obligated to) collect such rents and other consideration and apply the same toward Sublessor's obligations to Landlord under the Master Lease during the pendency of any default under the Master Lease; provided, however, that Landlord grants to Sublessor at all times prior to occurrence of any default under the Master Lease, the right to collect such rents. Sublessor and Subtenant agree that upon receipt of notice from Landlord directing Subtenant to pay the sublease rent directly to Landlord, Subtenant shall pay rent due under the Sublease to Landlord. Landlord shall credit Sublessor with any rent received by Landlord under such assignment, but the acceptance of any payment on account of rent from Subtenant as the result of any such default shall in no manner whatsoever serve to release Sublessor from any liability under the Master Lease, except to the extent of the rent so credited. 6. Upon the expiration or any earlier termination of the term of the Master Lease, the 2 11 voluntary or involuntary surrender of the Master Lease by Sublessor to Landlord, or a mutual cancellation of the Master Lease by Landlord and Sublessor, the Sublease and its term shall terminate and Subtenant shall vacate the Premises on or before the effective date of such termination. In the event of the failure of Subtenant to so vacate the Premises, Landlord shall be entitled to enforce against Subtenant all of the rights and remedies available to a landlord against a tenant holding over after the expiration of a term. 7. Both Sublessor and Subtenant shall be and continue to be liable for the payment of (a) all bills rendered by Landlord for charges incurred by Subtenant for services and materials supplied to the Sublet Premises beyond that which is required by the terms of the Master Lease, and (b) any additional costs incurred by Landlord for maintenance and repair of the Sublet Premises (beyond that which is required by the Master Lease) as the result of Subtenant occupying the Sublet Premises (including, but not limited to, any excess cost to Landlord of services furnished to or for the Sublet Premises). 8. Notwithstanding anything to the contrary contained in the Sublease, Landlord may require that requests for any service to be supplied by Landlord to the Sublet Premises, requests to alter the Sublet Premises, requests to further sublet the Sublet Premises or assign the Sublease, and other requests for Landlord's consent or approval be made by Sublessor on behalf of Subtenant. 9. Sublessor and Subtenant each covenants and agrees that under no circumstances shall Landlord be liable for any brokerage commission or other charge or expense in connection with the Sublease. 10. Sublessor and Subtenant understand and acknowledge that Landlord's consent to the Sublease expressed herein is not a consent to any improvement or alteration work to be performed in the Sublet Premises (including without limitation any improvement work contemplated in the Sublease), that Landlord's consent for such work must be separately sought and that any such work shall be subject to all the provisions of the Master Lease with respect thereto. 11. In the event of any conflict between the provisions of this Agreement and the provisions of the Sublease as between Landlord and Sublessor or between Landlord and Subtenant, the provisions of this Agreement shall prevail. 12. In addition to complying with all provisions of the Master Lease concerning estoppel certificates, Sublessor and Subtenant each also agree to execute and deliver from time to time upon request such other estoppel certificates as Landlord may require with respect to the Sublease. 13. In the event of any arbitration or action or proceeding at law or in equity between or among the parties to this Agreement as a consequence of any controversy, claim, or dispute relating to this agreement or the breach thereof or to enforce any of the provisions and/or rights hereunder, the unsuccessful party or parties to such arbitration, action or proceeding shall pay to the successful party or parties all costs and expenses, including attorneys' fees incurred therein by such successful party or parties. 14. Each of Subtenant and Sublessor, jointly and severally, shall indemnify, defend and hold Landlord harmless from and against any and all claims arising out of any claim for brokerage commissions or other charges or expenses in connection with the Sublease; and from and against any 3 12 and all damages, losses, liabilities, lawsuits, judgments, and costs and expenses (including without limitation reasonable attorneys' fees) arising in connection with any such claim or claims, or any action or proceeding brought thereon. If any such action or proceeding be brought against Landlord, the indemnifying party, upon notice from Landlord, shall defend the same at the indemnifying party's sole expense by counsel reasonably satisfactory to Landlord. 15. This Agreement shall be construed in accordance with the laws of the State of California and, together with the Sublease and the Master Lease, contains the entire agreement of the parties hereto with respect to the subject matter hereof and may not be changed or terminated orally or by course of conduct. 16. This Agreement is hereby incorporated into the Sublease and shall be attached to the Sublease. 17. Master Landlord represents and warrants to Subtenant that (i) the Master Lease is unmodified and in full force and effect, (ii) Master Landlord is not in default under the Master Lease, nor is there any event or circumstance which has occurred or is occurring that with notice or the passage of time or both would result in a default by Master Landlord under the Master Lease, and (iii) to the best of Master Landlord's knowledge, Sublandlord is not in default under the Master Lease, nor is there any event or circumstance which has occurred or is occurring that with notice or the passage of time or both would result in a default by Sublandlord under the Master Lease. 18. Master Landlord agrees that its waiver and covenants in Paragraph 11 of the Master Lease, entitled "Waiver of Subrogation", shall apply in favor of Subtenant and its agents, employees, successors, assignees and subtenants. 19. Master Landlord agrees that Subtenant may assign the Sublease or sublet the Subleased Premises or any portion thereof, without Master Landlord's consent, to any partnership, corporation or other entity which controls, is controlled by, or is under common control with Subtenant or Subtenant's parent (control being defined for such purposes as ownership of at least 50% of the equity interests in, or the power to direct the management of, the relevant entity), or to any partnership, corporation or other entity resulting from a merger or consolidation with Subtenant or Subtenant's parent, or to any person, partnership, corporation or other entity which acquires (whether by means of an asset purchase of all or substantially all the assets of Subtenant or by means of a transfer of Subtenant's capital stock) Subtenant as a going concern (including as part of an initial public offering of Subtenant's stock or other equity interests or as part of a re-incorporation of Subtenant in another jurisdiction) (collectively, an "Affiliate"), provided that, in the event of an assignment, the Affiliate assumes in writing all of Subtenant's obligations under the Sublease (but no such assumption shall relieve Subtenant from liability under this Sublease). Subtenant shall give Master Landlord notice of any assignment or sublet to an Affiliate. In no event shall any public offering of Subtenant's capital stock or other equity interests, whether as part of an initial public offering or any secondary public offering, or any transfer of Subtenant's capital stock or other equity interests through the "over the counter" market or any 4 13 recognized national or international securities exchange, be deemed an assignment of the Sublease or a sublease of the Subleased Premises. 20. Master Landlord does not consent hereby to Subtenant's right to sublease any other part of Sublessor's premises leased under the terms of the Master Lease, including without limitation the First Refusal Space (as defined in Section 12 of the Sublease). 5 14 IN WITNESS WHEREOF, the parties hereto have duly executed this Agreement as of the day and year first above written. LANDLORD: CIRCLE STAR CENTER ASSOCIATES, L.P. a California limited partnership By: M-D Ventures, Inc. Its: General Partner By /s/ JAMES FREITAS ----------------------------- Name: James Freitas Title: Assistant Secretary SUBLESSOR: LIBERATE TECHNOLOGIES, a Delaware corporation By: /s/ NANCY J. HILKER ----------------------------- [STAMP] Name: Nancy J. Hilker Title: VP, CFO SUBTENANT: COSINE COMMUNICATIONS a California corporation By: /s/ DEAN HAMILTON ----------------------------- Name: Dean Hamilton Title: President & CEO 6 15 EXHIBIT A MASTER LEASE 16 ================================================================================ CIRCLE STAR LEASE AGREEMENT by and between CIRCLE STAR CENTER ASSOCIATES, L.P. ("Landlord") and NETWORK COMPUTER, INC. ("Tenant") ================================================================================ 17 TABLE OF CONTENTS PARAGRAPH DESCRIPTION PAGE - --------- ----------- ---- BASIC LEASE INFORMATION .................................................iv 1. Occupancy and Use .................................................. 1 2. Terms and Possession ............................................... 1 3. Rent; Rent Adjustments; Additional Charges for Expenses and Taxes... 2 (A) Monthly Base Rent .............................................. 2 (B) Adjustments in Base Rent ....................................... 3 (C) Additional Charges for Expenses and Taxes ...................... 3 (1) Definitions of Additional Charges: ............................. 3 (A) "Tax Year" ..................................................... 3 (B) "Tenant's Share" ............................................... 3 (C) "Real Estate Taxes" ............................................ 3 (D) "Expenses" ..................................................... 4 (E) "Expense Year" ................................................. 5 (2) Payment of Real Estate Taxes: .................................. 5 (3) Payment of Expenses: ........................................... 6 (4) Other: ......................................................... 6 (5) Audit: ......................................................... 6 (D) Late Charges ................................................... 6 4. Restrictions on Use ................................................ 7 5. Compliance with Laws ............................................... 7 6. Additional Alterations ............................................. 8 7. Repair and Maintenance ............................................. 9 8. Liens ..............................................................10 9. Assignment and Subletting ..........................................10 10. Insurance and Indemnification ......................................13 11. Waiver of Subrogation ............................................. 14 12. Services and Utilities ............................................ 15 13. Tenant's Certificates ............................................. 16 14. Holding over ...................................................... 16 15. Subordination ..................................................... 17 16. Rules and Regulations ............................................. 17 i 18 17. Re-entry by Landlord............................................ 18 18. Insolvency or Bankruptcy........................................ 18 19. Default......................................................... 18 20. Damage by Fire, Etc............................................. 19 21. Eminent Domain.................................................. 21 22. Sale by Landlord................................................ 21 23. Right of Landlord to Perform.................................... 21 24. Surrender of Premises........................................... 22 25. Waiver.......................................................... 22 26. Notices......................................................... 22 27. Taxes Payable by Tenant......................................... 23 28. Abandonment..................................................... 23 29. Successors and Assigns.......................................... 23 30. Attorney's Fees................................................. 23 31. Light and Air................................................... 23 32. Security Deposit................................................ 23 33. Corporate Authority; Financial Information...................... 25 34. Parking......................................................... 26 35. Miscellaneous................................................... 26 36. Tenant's Remedies............................................... 26 37. Real Estate Brokers............................................. 27 38. Lease Effective Date............................................ 27 39. Hazardous Substance Liability................................... 27 40. Arbitration of Disputes......................................... 28 41. Signage......................................................... 28 42. Option to Renew................................................. 28 ii 19 43. Rent During Extension Term..................................... 28 44. Satellite Antenna.............................................. 30 45. Rent During Extension Term..................................... 30 Exhibit "A" Premises Exhibit "B" Work Letter Exhibit "B-1" Landlord's Plans Exhibit "B-2" Minimum Information Required Exhibit "C" Rules and Regulations Exhibit "D" Form of Tenant Estoppel Certificate Exhibit "E" Encumbrances Exhibit "F" Form of Letter of Credit Exhibit "G" Second Building iii 20 BASIC LEASE INFORMATION Lease Date: April 27 1999 LANDLORD: CIRCLE STAR CENTER ASSOCIATES, L.P. a California limited partnership Managing Agent: THE MOZART DEVELOPMENT COMPANY Landlord's and Managing Agent's Address: c/o THE MOZART DEVELOPMENT COMPANY 1068 East Meadow Circle Palo Alto, CA 94303 TENANT: NETWORK COMPUTER, INC. a Delaware Corporation Tenant's Address: Prior to Occupancy: After Commencement Date: 1000 Bridge Parkway at the Premises Redwood Shores, CA 94065 Attn: Chief Financial Officer Building: Two Circle Star Way, San Carlos, California Suite: 100, 300, and 400 Rentable Area of the Premises: First Floor: 24,696; Third Floor: 26,561; Fourth Floor: 26,561; Total: 77,818 Rentable Area of the Building: 102,997 square feet Tenant's Use of the Premises: General Office and Administration, research and development; hardware and software labs, and incidental uses including demonstration rooms and multi-purpose rooms. Lease Term: Ten (10) years Option to Terminate: See paragraph 2(e) Scheduled Commencement Date: August 1, 1999 Scheduled Expiration Date: July 31, 2009 Tenant Allowance: $1,945,450 ($25 psf x 77,818 sf). Additional Allowance: $389,090 ($5 psf x 77,818 sf). Tenant's Plan Delivery Date: April 21, 1999 Outside Delivery Date: December 31, 1999 Monthly Base Rent: $2.60 per Rentable Square Foot of the Rentable Area of the Premises, provided, however, the Monthly Base Rent for the first month (in respect of the Initial Premises) shall be waived. The term "Initial Premises" shall mean the premises described on Exhibit "A" prior to the effect of any increase in the Premises that results from an election of Tenant to lease any First Right Space pursuant to Paragraph 45.
iv 21 Base Rent Adjustment: On each anniversary of the Commencement Date the Monthly Base Rent shall increase by three percent (3%) over the Monthly Base Rent applicable to the month immediately prior to the applicable anniversary. (Note: there is also an initial adjustment to Monthly Base Rent required by Paragraph 3(b)(i)). Tenant's Share of Expenses and Taxes ("Additional Charges"): 75.55% Security Deposit: See Paragraph 32. Guarantor of Lease: Oracle Corporation, a Delaware corporation Broker: Cornish & Carey Commercial (Landlord & Tenant) Broker's Fee or Commission, If Any, Paid By: Landlord
The foregoing Basic Lease Information is hereby incorporated into and made a part of this Lease. Each reference in this Lease to any of the Basic Lease Information shall mean the respective information hereinabove set forth and shall be construed to incorporate all of the terms provided under the particular paragraph pertaining to such information. In the event of any conflict between any Basic Lease Information and the Lease, the latter shall control. v 22 LANDLORD: CIRCLE STAR CENTER ASSOCIATES, L.P. a California limited partnership By: M-D Ventures, Inc. Its: General Partner By: /s/ STEVE DOSTART ----------------------------------- Steve Dostart Its: Vice President TENANT: NETWORK COMPUTER, INC. a Delaware corporation By: /s/ MITCHELL KERTZMAN ---------------------------------------- Mitchell Kertzman Its: CEO & President By: /s/ NANCY J. HILKER ---------------------------------------- Nancy J. Hilker Its: Vice President & Chief Financial Officer vi 23 LEASE AGREEMENT THIS LEASE AGREEMENT is made and entered into as of April 27, 1999, by and between CIRCLE STAR CENTER ASSOCIATES, L.P., a California limited partnership, (herein called "Landlord"), and NETWORK COMPUTER, INC., a Delaware corporation, (herein called "Tenant"). Upon and subject to the terms, covenants and conditions hereinafter set forth, Landlord hereby leases to Tenant and Tenant hereby hires from Landlord those premises (the "Premises") comprising the area substantially as crosshatched on the attached Exhibit "A", in the building (hereinafter referred to as the "Building") specified in the Basic Lease Information attached hereto. The number of square feet designated as Rentable Area of the Premises on the Basic Lease Information may include portions of the Building Common Area attributed to the Premises and not located within the area outlined on Exhibit A. Tenant acknowledges that the number of square feet of Rentable Area of the Premises and the Building has been determined according to the measurement standard described in the letter of Kenneth Rodriguez Associates dated September 18, 1998. The Building is located on land on which Landlord intends to develop two buildings as an integrated project (the "Project"). The term "Common Area" shall mean all areas and facilities within the Project that are not designated by Landlord for the exclusive use of Tenant or any other tenant or other occupant of the Project, including the parking areas, access and perimeter roads, pedestrian sidewalks, landscaped areas, trash enclosures, recreation areas and the like. 1. OCCUPANCY AND USE. Tenant may use and occupy the Premises for the purpose specified in the Basic Lease Information and for no other use or purpose without the prior written consent of Landlord. Landlord shall have the right to grant or withhold consent to a proposed change of use in its sole discretion. Tenant shall be entitled to the benefit on a nonexclusive basis of (i) the Building Common Areas with other occupants of the Building, and (ii) to the extent and for so long as Landlord continues to own the Project, the Project Common Areas with other occupants of the Project in accordance with the Rules and Regulations established by Landlord from time to time. Provided, however, that if Landlord sells a portion of the Project, Landlord shall assure to Tenant that Tenant's rights to access and parking are assured through a Reciprocal Easement Agreement or other like mechanism. Notwithstanding the above, Tenant understands and agrees that (a) a Declaration of Covenants, Conditions and Restrictions made as of June 24, 1997 by and between Mozad, L.P., a California limited partnership and Homestead Village Inc., a Maryland corporation ("CC&R's"), (b) the Lease between Mozad, L.P. as Lessor and Circle Star Center Associates, L.P. as Lessee dated as of October 15, 1997 ("Ground Lease") and (c) a Conditional Use Permit, Office Complex, 1717 Industrial Road, San Carlos, CA 94070, effective date June 12, 1997, may encumber the Land and Project and that Tenant's Occupancy and Use of the Premises may be restricted by such encumbrances. If necessary, Tenant shall execute such documents as are reasonably necessary to cause this Lease to become subordinate to such encumbrances (see attached Exhibit "E", Encumbrances). 2. TERM AND POSSESSION; OPTION TO TERMINATE. (a) The Term of this Lease (the "Term") shall be for the period specified in the Basic Lease Information (or until sooner terminated as herein provided), subject extension pursuant to Paragraph 42 and/or Paragraph 45(c)(3)(E). Subject to Tenant's termination right set forth below in this Paragraph, if Landlord, for any reason whatsoever, cannot deliver possession of the Premises in the condition required under this Lease (including the Substantial Completion of the Tenant Improvements), with all governmental permits required for the occupancy of the Premises, to Tenant on the date specified in the Basic Lease Information for the commencement of the Term, this Lease shall not be void or voidable, nor shall Landlord be liable to Tenant for any loss or damage resulting therefrom. In that event, however, the Term of the Lease shall not commence until such commencement date as is determined pursuant to Exhibit B. In such event, the scheduled commencement date and scheduled expiration date shall be adjusted accordingly. Payment of Rent and Additional Charges by Tenant due to delay in delivery of the Premises caused by Tenant shall also be governed by Exhibit B hereof. Notwithstanding the provisions above and of Exhibit B, if the delivery of the Premises is delayed beyond Outside Delivery Date, as set forth in the Basic Lease Information, Tenant shall have the right to terminate this Lease by notifying Landlord in writing of its intent to do so no later than ten (10) business days after the Outside Delivery Date. The Outside Delivery Date shall be extended one day for each day of 1 24 delay caused by (i) Tenant Delays as more particularly set forth in Exhibit B hereof and (ii) acts of God or the elements, acts of the Government, labor disturbances of any character, a shortage of material or labor, or other causes beyond the reasonable control of Landlord for a period up to sixty (60) days (any of the foregoing, "Force Majeure"). The dates upon which the Term shall actually commence and terminate pursuant to this Paragraph 2(a) are herein called the "Commencement Date" and the "Expiration Date," respectively. (b) Completion of the improvements to the Premises and Building shall be governed by the terms and conditions of the separate work letter ("Work Letter"), attached hereto as Exhibit "B". (c) The Premises shall be deemed "delivered" and the Term shall commence as defined in Exhibit B. (d) Tenant shall, no later than thirty (30) days after Substantial Completion of the Tenant Improvements, occupy a portion of the Premises or deliver a letter to Landlord confirming that possession of the Premises has been tendered to and accepted by Tenant and that Tenant, by virtue of such acceptance, is in occupancy of the Premises. Time is of essence. This subparagraph 2(d) shall not be construed as an obligation of Tenant to continuously occupy the Premises. (e) Tenant shall have the option to terminate this Lease with respect to not less than all of the Initial Premises effective upon the end of the eighth anniversary of the Commencement Date (subject to the extension of this period pursuant to Paragraph 45(c)(3)(C)) if, and only if, Tenant provides written notice to Landlord no less than twenty (20) months prior to the effective date of such termination. This option to terminate shall not be exercisable from and after Tenant's exercise of its option to renew pursuant to Paragraph 42 below. As a condition to Tenant's termination of this Lease pursuant to this subparagraph (e), Tenant shall pay the unamortized portion of the Additional Allowance applicable to the Initial Premises as of the date of such termination based upon amortization over the period commencing on the first day of the second month of the Term and ending on the Expiration Date, with the return of nine percent (9%) per annum. In the event Tenant exercises its option to terminate pursuant to this paragraph, effective upon such termination all of its rights to occupy the Initial Premises and the portions of the Project associated therewith shall terminate including but not limited to its right to building signage pursuant to the second sentence of Paragraph 41 and its right to use the roof top for an Antenna pursuant to Paragraph 44. 3. RENT; RENT ADJUSTMENTS; ADDITIONAL CHARGES FOR EXPENSES AND TAXES. (a) Monthly Base Rent. (i) Payment of Base Rent. Commencing on the Commencement Date (but subject to the waiver in clause (ii) below), Tenant shall pay to Landlord throughout the Term an amount equal to the Monthly Base Rent rate specified in the Basic Lease Information as adjusted pursuant to Paragraph 3(b), multiplied by the Rentable Area of the Premises, as specified in the Basic Lease Information ("Base Rent"), which sum shall be payable by Tenant in equal monthly installations on, or, at Tenant's election, before, the first day of each month, in advance, in lawful money of the United States (without any prior demand therefor and without deduction or offset whatsoever, except as expressly provided for in Paragraphs 20 & 21) to Landlord or its managing agent at the address specified in the Basic Lease Information or to such other firm or to such other place as Landlord or its Managing Agent may from time to time designate in writing. Tenant shall pay to Landlord all charges and other amounts whatsoever as provided in this Lease ("Additional Charges") at the place where the Base Rent is payable, and Landlord shall have the same remedies for a default in the payment of Additional Charges as for a default in the payment of Base Rent. As used herein, the term "Rent" shall include all Base Rent and Additional Charges (including, without limitation, Additional Charges for Real Estate Taxes and Expenses pursuant to Paragraph 3(c) below, and Additional Charges pursuant to Paragraphs 7(b), 8, 10(d) and 23). If the Commencement Date should occur on a day other than the first day of a calendar month, or the Expiration Date should occur on a day other than the last day of a calendar month, then the Rent and Additional Charges for such fractional month shall be prorated on a daily basis. 2 25 (ii) Partial Waiver of Monthly Base Rent. Landlord shall waive the Monthly Base Rent for the first month (in respect of the Initial Premises) of the Term. (b) Adjustments in Monthly Base Rent. (i) Adjustment for Additional Allowance. Effective as of the first day of the second month of the Term, the initial Monthly Base Rent shall be increased by $12.73 per $1,000 of the Additional Allowance drawn by Tenant pursuant to the Work Letter. (ii) Annual Adjustment. The Monthly Base Rent under Paragraph 3(a) (excluding the amount payable pursuant to Paragraph 3(b)(i)), shall be adjusted as provided in the Basic Lease Information under the "Base Rent Adjustment". (c) Additional Charges for Expenses and Taxes. (1) Definitions of Additional Charges: For purposes of this Paragraph 3(c), the following terms shall have the meanings hereinafter set forth: (A) "Tax Year" shall mean each twelve (12) consecutive month period commencing January 1st of the calendar year during which the Commencement Date of this Lease occurs, provided that Landlord, upon notice to Tenant, may change the Tax Year from time to time to any other twelve (12) consecutive month period and, in the event of any such change, Tenant's Share of Real Estate Taxes (as hereinafter defined) shall be equitably adjusted for the Tax Years involved in any such change. (B) "Tenant's Share" shall mean the percentage figure so specified in the Basic Lease Information. (C) "Real Estate Taxes" shall mean all taxes, assessments and charges levied upon or with respect to the Project or any personal property of Landlord used in the operation of thereof, or Landlord's interest in the Project or such personal property. Real Estate Taxes shall include, without limitation, all general real property taxes and general and special assessments, charges, fees or assessments for transit, housing, police, fire or other governmental services or purported benefits to the Building (provided, however, that any refunds of Real Estate Taxes paid by Tenant (as part of Tenant's Share of Real Estate Taxes) shall be credited against Tenant's further obligation to pay Real Estate Taxes during the Term, or paid to Tenant if received after expiration of the Term), service payments in lieu of taxes, and any tax, fee or excise on the act of entering into this Lease, or any other lease of space in the Building, or on the use or occupancy of the Building or any part thereof, or on the rent payable under any lease or in connection with the business of renting space in the Building, that are now or hereafter levied or assessed against Landlord by the United States of America, the State of California, or any political subdivision, public corporation, district or any other political or public entity, and shall also include any other tax, fee or other excise, however described, that may be levied or assessed as a substitute for, or as an addition to, in whole or in part, any other Real Estate Taxes, whether or not now customary or in the contemplation of the parties on the date of this Lease. Real Estate Taxes shall not include franchise, transfer, inheritance or capital stock taxes, gift or estate taxes, any assessments in excess of the amount which would be payable if such tax or assessment expense were paid in installments over the longest permitted term, any increases in taxes due to the improvement of the Project for the sole use of other occupants, or income taxes measured by the net income of Landlord from all sources unless, due to a change in the method of taxation, any of such taxes is levied or assessed against Landlord as a substitute for, in whole or in part, any other tax that would otherwise constitute a Real Estate Tax. Additionally, Real Estate Taxes shall not include any assessments or like charges to pay for any remediation of contamination from any Hazardous Substance (which are not the liability of Tenant pursuant to Paragraph 39 hereof). Real Estate Taxes shall also include reasonable legal fees, costs and disbursements incurred in connection with proceedings to contest, determine or reduce Real Estate Taxes; provided that such fees, costs and disbursements do not 3 26 exceed the actual savings in Real Estate Taxes obtained by Tenant over the Term of the Lease. If any assessments are levied on the Project, Tenant shall have no obligation to pay more than that amount of annual installments of principal and interest that would become due during the Lease Term had Landlord elected to pay the assessment in installment payments, even if Landlord pays the assessment in full. From and after commencement of construction of the Second Building (as defined in Paragraph 45 below) Real Estate Taxes shall be adjusted so as to exclude any taxes attributable to the construction of such Second Building during the period of construction thereof. Upon completion of construction of the Second Building, Real Estate Taxes shall include only the Building's Share (as defined below) thereof. (D) "Expenses" shall mean the total costs and expenses reasonably paid or incurred by Landlord in connection with the management, operation, maintenance and repair of the Building, including, without limitation (i) the cost of air conditioning, electricity, steam, heating, mechanical, ventilating, elevator systems and all other utilities and the cost of supplies and equipment and maintenance and service contracts in connection therewith; (ii) the cost of repairs and general maintenance and cleaning; (iii) the cost of fire, extended coverage, boiler, sprinkler, public liability, property damage, rent, earthquake (if Landlord determines that it is available at commercially reasonable rates) and other insurance obtained by Landlord in connection with the Project, all including, without limitation, insurance premiums and any deductible amounts paid by Landlord; (iv) fees, charges and other costs, including management fees, consulting fees, legal fees (which are allowed elsewhere in the Lease) and accounting fees of all independent contractors engaged by Landlord directly related to the operation of the Building or reasonably charged by Landlord if Landlord performs management services in connection with the Building, (though the management fee shall not exceed the cap noted in the following paragraph); (v) the cost of any capital improvements made to the Building after the Commencement Date (a) as a labor saving device or to effect other economies in the operation or maintenance of the Building (from which a reasonable person would anticipate that savings would actually result), (b) to repair or replace capital items which are no longer capable of providing the services required of them, or (c) that are made to the Building after the date of this Lease and are required under any Laws (as defined in Paragraph 5), where such capital improvements were not required under any such Laws to be completed with respect to the Building prior to the date the Lease was executed, and the cost of any such capital improvements incurred during any calendar year, shall be amortized over the useful life (but not more than ten years) of the capital item in question as determined in accordance with generally accepted accounting principles ("GAAP"), together with interest on the unamortized balance at (x) the rate paid by Landlord on funds borrowed for the purpose of constructing such capital improvements; or (y) if paid from Landlord's own funds, 10% per annum; provided, however, the first $.24 per square foot of the Rentable Area of the Premises of such cost of capital improvements may be included in Expenses even if such amount exceeds the foregoing amortization and any remaining balance of the cost of such capital improvements shall be amortized in accordance with the foregoing (such amortization to commence in the year following the year in which the $.24 was taken as an expense item); and (vi) any other reasonable expenses of any other kind whatsoever reasonably incurred in managing, operating, maintaining and repairing the Building, including, but not limited to, costs incurred pursuant to the Encumbrances identified in Exhibit "E" and the Building's Share of Project Common Expenses. "Project Common Expenses" shall mean any expenses reasonably paid or incurred by Landlord in connection with the management, operation, maintenance and repair of the Project Common Areas in the Project and any other Expenses reasonably paid or incurred by Landlord for the benefit of the Project as a whole, including, but not limited to, the cost of maintaining the parking lot and facilities and landscaping. "Building's Share" shall mean the pro rata portion of all Project Common Expenses based on the amount of gross floor area of the Building as a portion of the gross floor area of all applicable buildings in the Project, all as reasonably determined by Landlord. Any "deductible" amounts relating to capital improvements required to be paid by Tenant hereunder in connection with any casualty policy carried by Landlord shall be amortized over the useful life of the restoration work in accordance with GAAP; provided, however, such amounts shall no longer constitute Expenses from and after the date upon which Monthly Base Rent is adjusted to fair market rental pursuant to the terms and conditions of this Lease. 4 27 Notwithstanding anything to the contrary herein contained, Expenses shall not include, and in no event shall Tenant have any obligation to pay for pursuant to this Paragraph 3 or Paragraph 7(b), (aa) the initial construction cost of the Project or real property on which the Building is located; (bb) the cost of providing tenant improvements, renovations, painting or redecorating (other than in Common Areas) to Tenant or any other tenant; (cc) any Base Monthly Rental or Percentage Rental payable pursuant to the Ground Lease and/or debt service (including, but without limitation, interest, principal and any impound payments) required to be made on any mortgage or deed of trust recorded with respect to the Building and/or the real property on which the Building is located other than debt service and financing charges imposed pursuant to Paragraph 3(c)(1)(D)(v) above; (dd) the cost of special services, goods or materials provided to any tenant; (ee) depreciation; (ff) the portion of a management fee paid to Landlord or affiliate in excess of three percent (3%) of Base Rent and Additional Charges (excluding the management fee); (gg) the portion of a management fee paid in excess of two percent (2%) of Base Rent and Additional Charges (excluding the management fee) if Tenant manages all services (e.g. janitorial, HVAC, security, etc.) in respect of its Premises; (hh) costs occasioned by Landlord's fraud or willful misconduct under applicable laws; (ii) costs for which Landlord has a right of reimbursement from others; (ii) costs to correct any construction or design defects in the original construction of the Premises, the Building or the Project; (kk) costs arising from a disproportionate use of any utility or service supplied by Landlord to any other occupant of the Building; (ll) repairs, replacement and upgrades to the structural elements of the Building (including foundation, floor slabs, exterior walls and roof structure); (mm) environmental pollution remediation related costs in connection with the remediation of the Project including costs for which Landlord has indemnified Tenant pursuant to Paragraph 39, except any such costs incurred as the result of Tenant's use of the Premises; (nn) advertising or promotional costs; (oo) leasing commissions; (pp) except as provided in Paragraph 20, costs occasioned by casualties or by the exercise of the power of eminent domain (other than deductible amounts under insurance policies which shall be included as an Expense); and (qq) legal costs incurred in connection with negotiations or disputes with any other occupant (or prospective occupant) of the Project. In the event that the Building or the Project is not at least ninety-five percent (95%) occupied during any fiscal year of the Term as determined by Landlord, an adjustment shall be made in computing the Expenses and/or the Project Common Expenses, as applicable, for such year so that Expenses and/or Project Common Expenses, as applicable, which vary with occupancy shall be computed as though the Building or Project, as applicable, had been ninety-five percent (95%) occupied; provided, however, that in no event shall Landlord be entitled to collect in excess of one hundred percent (100%) of the total Expenses from all of the tenants in the Building including Tenant. All costs and expenses shall be determined in accordance with generally accepted accounting principles which shall be consistently applied (with accruals appropriate to Landlord's business). Expenses shall not include specific costs incurred for the account of, separately billed to specific tenants. (E) "Expense Year" shall mean each twelve (12) consecutive month period commencing January 1 of the calendar year during which the Commencement Date of the Lease occurs, provided that Landlord, upon notice to Tenant, may change the Expense Year from time to time to any other twelve (12) consecutive month period, and, in the event of any such change, Tenant's Share of Expenses shall be equitably adjusted for the Expense Years involved in any such change. (2) Payment of Real Estate Taxes: Commencing on the Commencement Date, unless otherwise provided for in Paragraph 3(a), Tenant shall pay to Landlord as Additional Charges one-twelfth (1/12th) of Tenant's Share of Real Estate Taxes fairly allocable to the Building as reasonably determined by Landlord for each Tax Year on or before the first day of each month during such Tax Year, in advance, in an amount reasonably estimated by Landlord and billed by Landlord to Tenant, and Landlord shall have the right initially to determine monthly estimates and to revise such estimates from time to time. With reasonable promptness after Landlord has received the tax bills for any Tax Year, Landlord shall furnish Tenant with a statement (herein called "Landlord's Tax Statement") setting forth the amount of Real Estate Taxes for such Tax Year, and Tenant's Share thereof. If the actual Tenant's Share of Real Estate Taxes for such Tax Year exceed the estimated Real Estate Taxes paid by Tenant for such Tax Year, Tenant shall pay to Landlord the difference between the amount paid by Tenant and the actual Real Estate Taxes within twenty (20) days after the receipt of Landlord's Tax Statement, and if the total amount paid by Tenant for any such Tax Year shall exceed 5 28 the actual Tenant's Share of Real Estate Taxes for such Tax Year, such excess shall be credited against the next installment of Real Estate Taxes due from Tenant to Landlord hereunder. If it has been determined that Tenant has overpaid Real Estate Taxes during the last year of the Lease Term, then Landlord shall reimburse Tenant for such overage on or before the twentieth (20th) day following the Expiration Date. Upon Tenant's written request, Landlord will provide an explanation of any allocation of taxes made by Landlord among different parts of the Project. (3) Payment of Expenses: Commencing on the Commencement Date, unless otherwise provided for in Paragraph 3(a), Tenant shall pay to Landlord as Additional Charges one-twelfth (1/12th) of Tenant's Share of the Expenses for each Expense Year on or before the first day of each month of such Expense Year, in advance, in an amount reasonably estimated by Landlord and billed by Landlord to Tenant, and Landlord shall have the right initially to determine monthly estimates and to revise such estimates from time to time. With reasonable promptness after the expiration of each Expense Year, Landlord shall furnish Tenant with a statement (herein called "Landlord's Expense Statement"), setting forth in reasonable detail the Expenses for such Expense Year and Tenant's Share thereof. If the actual Expenses for such Expense Year exceed the estimated Expenses paid by Tenant for such Expense Year, Tenant shall pay to Landlord the difference between the amount paid by Tenant and the actual Tenant's Share of Expenses within twenty (20) days after the receipt of Landlord's Expense Statement, and if the total amount paid by Tenant for any such Expense Year shall exceed the actual Tenant's Share of Expenses for such Expense Year, such excess shall be credited against the next installment of the estimated Expenses due from Tenant to Landlord hereunder or if the Term has ended it shall be returned to Tenant within twenty (20) days. Any utility rebates for the Project which Landlord receives for payments made by Tenant (as part of Tenant's Share of Expenses) shall be forwarded to Tenant so long as such rebate is received within one year following the Expiration Date or sooner termination of the Lease. If it has been determined that Tenant has overpaid Expenses during the last year of the Lease Term (including rebates of utilities applicable to Tenant), then Landlord shall reimburse Tenant for such overage on or before the twentieth (20th) day following the Expiration Date. Upon Tenant's written request, Landlord will explain any "gross-up" of expenses and the allocation of any particular item of expense among different parts of the Project. (4) Other: To the extent any item of Real Estate Taxes or Expenses is payable by Landlord in advance of the period to which it is applicable (e.g. insurance and tax escrows required by Landlord's Lender), or to the extent that prepayment is customary for the service or matter, Landlord may (i) include such items in Landlord's estimate for periods prior to the date such item is to be paid by Landlord and (ii) to the extent Landlord has not collected the full amount of such item prior to the date such item is to be paid by Landlord, Landlord may include the balance of such full amount in a revised monthly estimate for Additional Charges. If the Commencement Date or Expiration Date shall occur on a date other than the first day of a Tax Year and/or Expense Year, Tenant's share of Real Estate Taxes and Expenses, for the Tax Year and/or Expense Year in which the Commencement Date occurs shall be prorated. (5) Audit: Within twelve (12) months after receipt of any Expense Statement or Tax Statement from Landlord, Tenant shall have the right to examine Landlord's books and records, copies of which shall be maintained in the San Francisco, Bay Area relating to such Expense Statements and Tax Statements, or cause an independent audit thereof to be conducted by an accounting firm to be selected by Tenant and subject to the reasonable approval of Landlord. If the audit conclusively proves that Tenant has overpaid either Expenses or Real Estate Taxes, then Landlord shall promptly reimburse Tenant for such overage, and if such overage exceeds five percent (5%) of the actual amount of Expenses or Real Estate Taxes paid by Landlord for the Tax or Expense Year covered by such audit, then Landlord shall bear the reasonable cost of such audit, up to a maximum cost of $10,000. If Tenant fails to object to any such Expense Statement or Tax Statement or request an independent audit thereof within such twelve (12) month period, such Expense Statement and/or Tax Statement shall be final and shall not be subject to any audit, challenge or adjustment. (d) Late Charges. Tenant recognizes that late payment of any Base Rent or Additional Charges will result in administrative expenses to Landlord, the extent of which additional expense is extremely difficult and economically impractical to ascertain. Tenant therefore agrees that if any Base Rent of Additional Charges remain unpaid three (3) days after such amount is due, the amount of such unpaid Base Rent or 6 29 Additional Charges shall be increased by a late charge to be paid to Landlord by Tenant in an amount equal to four percent (4%) of the amount of the delinquent Base Rent or Additional Charges. Tenant shall be excused once each twelve (12) month period of the Term from the application of a late fee to any Base Rent or Additional Charge which became delinquent without a prior written invoice or other notice of Landlord of such delinquency; provided, however, the late fee shall nevertheless be payable if Tenant does not cure the delinquency within ten (10) days after written notice from Landlord. In addition, any outstanding Base Rent, Additional Charges, late charges and other outstanding amounts shall accrue interest at an annualized rate of the lesser of (i) the greater of, 10% or The Federal Reserve Discount Rate plus 5%, or (ii) the maximum rate permitted by law (the "Default Rate"), until paid to Landlord. Tenant agrees that such amount is a reasonable estimate of the loss and expense to be suffered by Landlord as a result of such late payment by Tenant and may be charged by the Landlord to defray such loss and expense. The provisions of this Paragraph 3(d) in no way relieve Tenant of the obligation to pay Rent or Additional Charges on or before the date on which they are due, nor do the terms of this Paragraph 3(d) in any way affect Landlord's remedies pursuant to Paragraph 19 in the event any Base Rate or Additional Charges are unpaid after the due date. 4. RESTRICTIONS ON USE. Tenant shall not do or permit anything to be done in or about the Premises which will unreasonably obstruct or interfere with the rights of other tenants or occupants of the Building or the Project or injure or annoy them, nor use or allow the Premises to be used for any unlawful purpose, nor shall Tenant cause or maintain or permit any nuisance in, on or about the Premises. Tenant shall not commit or suffer the commission of any waste in, on or about the Premises. 5. COMPLIANCE WITH LAWS. (a) Tenant's compliance Obligations. Tenant shall not use the Premises or permit anything to be done in or about the Premises which will in any way conflict with any present and future laws, statutes, ordinances, resolutions, regulations, proclamations, orders or decrees of any municipal, county, state or federal government or other governmental or regulatory authority with jurisdiction over the Project, or any portion thereof, whether currently in effect or adopted in the future and whether or not in the contemplation of the parties hereto (collectively, "Laws"), and Tenant shall promptly, at its sole expense, maintain the Premises, any Alterations (as defined in Paragraph 6 below) permitted hereunder and Tenant's use and operations thereon in strict compliance at all times with all Laws. "Laws" shall include, without limitation, all Laws relating to health and safety (including, without limitation, the California Occupational Safety and Health Act of 1973 and the California Safe Drinking Water and Toxic Enforcement Act of 1986, including posting and delivery of notices required by such Laws with respect to the Premises) and disabled accessibility (including, without limitation, the Americans with Disabilities Act, 42 U.S.C Paragraph 12101 et seq.), Hazardous Substances, and all present and future life safety, fire, sprinkler, seismic retrofit, building code and municipal code requirements; provided however, that the Tenant's obligation to comply with Laws relating to Hazardous Substances is subject to the terms and conditions of Paragraph 39, and Tenant shall not be responsible for compliance with clean-up provisions of any Laws with respect to Hazardous Substances except to the extent of any release caused by the Tenant Parties or otherwise included in Tenant's indemnity contained in Paragraph 39. Notwithstanding the foregoing, Landlord, and not Tenant, shall be responsible for correcting any condition at the Premises which is in violation of applicable Laws on or prior to the Commencement Date, except to the extent such condition is caused by the acts or omissions of the Tenant Parties or such violation results from Tenant's use of the Premises in a manner other than as permitted under this Lease. Notwithstanding the first sentence of this Paragraph 5(a), Tenant shall not be required to make any alterations to the Premises in order to comply with Laws unless the requirement that such alterations be made is triggered by any of the following (or, if such requirement results from the cumulative effect of any of the following when added to other acts, omissions, negligence or events, to the extent such alterations are required by any of the following): (i) the installation, use or operation of any Alterations, or any of Tenant's trade fixtures or personal property; (ii) the acts, omissions or negligence of Tenant, or any of its servants, employees, contractors, agents or licensees; or (iii) the particular use or particular occupancy or manner of use or occupancy of the Premises by Tenant, or any or its servants, employees, contractors, agents or licensees (as opposed to the use of the Premises for general office use). Any alterations that are Tenant's responsibility pursuant to this Paragraph 5 shall be made in accordance with Paragraph 6 below. The parties acknowledge and agree that Tenant's obligation to comply with all Laws as provided in this paragraph (subject to the limitations contained herein) is a material part of the bargained-for 7 30 consideration under this Lease. Tenant's obligations under this Paragraph and under Paragraph 7(c) below shall include, without limitation, the responsibility of Tenant to make substantial or structural repairs and alternations to the Premises to the extent provided above, regardless of, among other factors, the relationship of the cost of curative action to the Rent under this Lease, the length of the then remaining Term hereof, the relative benefit of the repairs to Tenant or Landlord, the degree to which the curative action may interfere with Tenant's use or enjoyment of the Premises, and the likelihood that the parties contemplated the particular Law involved. (b) INSURANCE REQUIREMENTS. Tenant shall not do or permit anything to be done in or about the Premises or bring or keep anything therein which will in any way increase the rate of any insurance upon the Project or any of its contents (unless Tenant agrees to pay for such increase) or cause a cancellation of any insurance on the Project or otherwise violate any requirements, guidelines, conditions, rules or orders with respect to such insurance. Tenant shall at its sole cost and expense promptly comply with the requirements of the ISO, board of fire underwriters, or other similar body now or hereafter constituted relating to or affecting Tenant's use or occupancy of the Project (other than in situations where compliance involves repair, maintenance or replacement of items that Landlord is expressly required to repair, maintain or replace under this Lease). (c) NO LIMITATION ON OBLIGATIONS. The provisions of this Paragraph 5 shall in no way limit Tenant's maintenance, repair and replacement obligations under Paragraph 7 or Tenant's obligation to pay Expenses under Paragraph 3(c). The judgment of any court of competent jurisdiction or the admission of Tenant in an action against Tenant, whether Landlord is a party thereto or not, that Tenant has so violated any such Law shall be conclusive of such violation as between Landlord and Tenant. 6. ADDITIONAL ALTERATIONS. Tenant shall not make or suffer to be made any additional alterations, additions or improvements ("Alterations") in, on or to the Premises or any part thereof without the prior written consent of Landlord. Landlord shall not unreasonably delay its processing of Tenant's written request for such request. Tenant's written request for consent shall contain the following language in bold print: "THIS REQUEST IS MADE PURSUANT TO PARAGRAPH 6 OF THE LEASE AND REQUIRES A RESPONSE WITHIN A REASONABLE TIME". Any alterations in, on or to the Premises, except for Tenant's movable furniture and equipment (including the telephone system, security system, demountable partitions, secretarial stations, cubicles, cabinets or shelving systems and kitchen equipment, except to the extent paid for with the Tenant Improvement Allowance or Additional Allowance), shall be the property of Tenant during the Term and shall become Landlord's property at the end of the Term without compensation to Tenant. Landlord shall not unreasonably withhold its consent to Alterations that (i) do not materially affect the structure of the Building or its electrical, plumbing, HVAC, security or other systems, (ii) are not visible from the exterior of the Premises, (iii) are consistent with Tenant's permitted use hereunder, and (iv) do not adversely affect the value or marketability of Landlord's reversionary interest upon termination or expiration of this Lease. In the event Landlord consents to the making of any Alterations by Tenant, the same shall be made by Tenant, at Tenant's sole cost and expense, in accordance with plans and specifications reasonably approved by Landlord, and any contractor or person selected by Tenant to make the same must first be reasonably approved in writing by Landlord. Upon the expiration or sooner termination of the Term, Tenant shall upon demand by Landlord, at Landlord's election either (x) at Tenant's sole cost and expense, forthwith and with all due diligence remove any Alterations made by or for the account of Tenant, designated by Landlord to be removed (provided, however, that upon the written request of Tenant prior to installation of such Alterations, Landlord shall advise Tenant at that time whether or not such Alterations must be removed upon the expiration or sooner termination of this Lease), and restore the Premises to its original condition as of the Commencement Date, subject to normal wear and tear and the rights and obligations of Tenant concerning casualty damage pursuant to Paragraph 20 or (y) pay Landlord the reasonable estimated cost thereof; provide, however, if Tenant wishes to proceed pursuant to clause (x) it may do so if it completes all such work prior to the expiration or termination of the Term. Notwithstanding the foregoing Tenant shall be permitted to make Alterations without Landlord's prior written consent if all of the following conditions are met: (A) The Alterations meet the conditions specified in clauses (i)-(iii) above; 8 31 (B) Tenant provides Landlord at least twenty (20) days prior written notice of the commencement of construction of such Alterations together with the plans and specifications for such Alterations; (C) Such Alterations are constructed by Devcon Construction; (D) Such Alterations are consistent with the floor plan of the floor of the Premises being altered; and (E) The total cost of such Alterations when taken together with all Alterations constructed by Tenant in reliance upon this provision (allowing construction without Landlord's prior written approval) over the prior 24 months, does not exceed $50,000. 7. REPAIR AND MAINTENANCE. (a) Landlord shall be responsible for the following repair, replacement and maintenance obligations: (i) maintenance and repair of the exterior of the Building, roof (including roof membrane) and structural portions of the Building, (ii) repairs, replacement, and maintenance of the Building systems, including, without limitation, electrical, mechanical, HVAC and plumbing and all controls appurtenant thereto, (iii) repairs, replacement and maintenance of any elevators in the Building, (iv) repair, replacement and maintenance of Common Areas, (v) alterations to the Premises required under applicable Laws to the extent not the responsibility of Tenant pursuant to Paragraph 5 or 6 hereof, (vi) any repair, maintenance or improvements which could be treated as a "capital expenditure" under generally accepted accounting principles, (vii) any repair, maintenance or improvements which are a result of casualty or the exercise of the power of eminent domain which are Landlord's responsibility under Paragraph 20 or 21, (viii) repairs and replacements of lighting equipment (including light bulbs), (ix) any repair, maintenance or improvements which are required as a consequence of construction defects in Landlord's work or the Tenant Improvements, (x) any repair, maintenance or improvements for which Landlord has a right of reimbursement from others. As part of Landlord's maintenance of the building systems, Landlord shall implement and carry out throughout the term of this Lease an ongoing program of regular and preventative maintenance of all building systems (such program to include the periodic replacement of HVAC filters in accordance with manufacturers' specifications and the monitoring of HVAC systems settings (i.e., percentage of outside air to ensure compliance with the specifications of the equipment manufacturers and the design of the HVAC system)) and shall in any event cause the Building HVAC system and indoor air quality of the Common Areas within the Building and the Premises to meet for the entire term of this Lease the standards set forth in Standard 62-1989 ("Ventilation for Acceptable Indoor Air Quality "), including both the requirements of the Ventilation Rate Procedure and Indoor Air Quality Procedure and the maintenance requirements, recommendations and guidelines contained therein, promulgated by the American Society of Heating, Refrigerating and Air Conditioning Engineers ("ASHRAE"), and any applicable laws, ordinances, rules air regulations now in effect or thereafter promulgated by any governmental authority having jurisdiction over the Building or persons occupying or working in the Building relating to office building indoor air quality (collectively, the "Indoor Air Quality Standard"). Landlord shall make available to Tenant Landlord's records evidencing such maintenance efforts by Landlord, and Landlord shall cooperate with Tenant's efforts to monitor and to maintain the Indoor Air Quality Standard in the Premises. Tenant shall have the right, from time to time, to test the air quality within the Premises; if at any time air within the Premises or a portion thereof is determined to contain carbon dioxide in excess of 1,000 parts per million (PPM) (or such lesser amount as may then violate the applicable Indoor Air Quality Standard), at Tenant's request, Landlord will promptly make such adjustments or alterations to the ventilation system serving the Premises as are reasonably necessary to be performed which will increase ventilation in the Premises such that carbon dioxide levels in the Premises are in compliance with the Indoor Air Quality Standard. Notwithstanding the foregoing, Tenant shall be responsible for Tenant's Share of the costs described in this paragraph to the extent such costs are properly included in Expenses. (b) Tenant shall maintain and repair the interior portion of the Premises and any Alterations installed by or on behalf of Tenant within the Premises, however, excluding any portions thereof which are structural in nature or which are the obligation of Landlord under Paragraph 7(a) (subject to Paragraphs 5 and 9 32 7(c)). Tenant shall be responsible for the expense of installation, operation, and maintenance of its telephone and other communications cabling from the point of entry into the Building to the Premises and throughout the Premises; though Landlord shall have the right to perform such work on behalf of Tenant in Common Areas. Tenant hereby waives and releases its right to make repairs at Landlord's expense under Paragraphs 1941 and 1942 of the California Civil Code or under any similar law, statute or ordinance now or hereafter in effect. In addition, Tenant hereby waives and releases its right to terminate this Lease under Paragraph 1932(1) of the California Civil Code or under any similar law, statute or ordinance now or hereafter in effect. If Tenant fails after thirty (30) days' written notice by Landlord to proceed with due diligence to make repairs required to be made by Tenant, the same may be made by Landlord at the expense of Tenant and the expenses thereof incurred by Landlord shall be reimbursed (with interest at the Default Rate from the date Landlord incurs such cost) as Additional Charges within thirty (30) days after submission of a bill or statement therefor. (c) The purpose of Paragraph 7(a) and 7(b) is to define the obligations of Landlord and Tenant to perform various repair and maintenance functions; the allocation of the costs therefor are covered under this Paragraph 7(c) and Paragraph 3. Tenant shall bear the full cost of repairs or maintenance, interior or exterior, structural or otherwise, to preserve the Premises and the Building in good working order and condition, arising out of (i) the existence, installation, use or operation of any Alterations, or any of Tenant's trade fixtures or personal property; (ii) the moving of Tenant's property or fixtures in or out of the Building or Project or in and about the Premises; or (iii) except to the extent any claims arising from any of the foregoing are reimbursed by insurance carried by Landlord, are covered by the waiver of subrogation in Paragraph 11 or are otherwise provided for in Paragraph 20, the acts, omissions or negligence of Tenant, or any of its servants, employees, contractors, agents, visitors, or licensees, or the particular use or particular occupancy or manner of use or occupancy of the Premises by Tenant or any such person (as opposed to general office use). Any Alterations required with respect to Tenant's responsibilities pursuant to this Paragraph 7(c) shall be made in accordance with Paragraph 6. (d) Except to the extent any claims arising from any of the foregoing are reimbursed by rental abatement insurance carried by Landlord, are covered by the waiver of subrogation in Paragraph 11 or are otherwise provided for in Paragraph 20, there shall be no abatement of Rent with respect to, and except for Landlord's active negligence or willful misconduct, Landlord shall not be liable for any injury to or interference with Tenant's business arising from, any repairs, maintenance, alteration or improvement in or to any portion of the Building, including the Premises, or in or to the fixtures, appurtenances and equipment therein. 8. LIENS. Tenant shall keep the Premises free from any liens arising out of any work performed, material furnished or obligations incurred by Tenant. In the event that Tenant shall not, within thirty (30) days after Tenant receives actual notice of the imposition of any such lien, cause the same to be released of record by payment or posting of a proper bond, Landlord shall have, in addition to all other remedies provided herein and by law, the right, but not the obligation, to cause the same to be released by such means as it shall deem proper, including payment of the claim giving rise to such lien. All such sums paid by Landlord and all expenses incurred by it in connection therewith shall be considered Additional Charges and shall be payable to it by Tenant on demand with interest at the Default Rate. Landlord shall have the right at all times to post and keep posted on the Premises any notices permitted or required by law, or which Landlord shall deem proper, for the protection of Landlord, the Premises, the Building and any other party having an interest therein, from mechanics' and materialmen's liens, and Tenant shall give notice to Landlord at least five (5) business days' prior notice of commencement of any construction on the Premises. 9. ASSIGNMENT AND SUBLETTING. (a) Tenant shall not directly or indirectly, voluntarily or by operation of law, sell, assign, encumber, pledge or otherwise transfer or hypothecate all or any part of the Premises or Tenant's leasehold estate hereunder (collectively, "Assignment"), or permit the Premises to be occupied by anyone other than Tenant or sublet the Premises or any portion thereof (collectively, "Sublease"), without Landlord's prior written consent in each instance, which consent shall not be unreasonably withheld or delayed by Landlord. Without otherwise limiting the criteria upon which Landlord may withhold its consent to any proposed Sublease or Assignment, if Landlord withholds its consent where either (i) the creditworthiness of the proposed Sublessee or 10 33 Assignee (given to financial obligations of the proposed Sublease or Assignment) is not reasonably acceptable to Landlord or, (ii) the proposed Sublessee's or Assignee's use of the Premises is not in compliance with the allowed Tenant's Use of the Premises as described in the Basic Lease Information, such, withholding of consent shall be presumptively reasonable. If Landlord consents to the Sublease or Assignment, Tenant may thereafter enter into a valid Sublease or Assignment upon the terms and condition set forth in this Paragraph 9. Notwithstanding anything to the contrary herein, unless and until the Guaranty of this Lease by Oracle Corporation terminates pursuant to Paragraph 22(a) thereof, Landlord shall have no obligation to consent to any Sublease or Assignment or to respond to any request by Tenant for approval thereto, unless and until Landlord receives written approval by Oracle Corporation of the proposed Sublease or Assignment executed by an Authorized Officer of Oracle Corporation which includes the identity of the proposed sublessee or assignee, in substantially the following form: Oracle Corporation, as Guarantor of the obligations of the tenant under that certain Lease dated April__, 1999 by and between Circle Star Center Associates, L.P. as Landlord, and Network Computer, Inc. as Tenant, for the benefit of Landlord hereby approves the proposed [sublease or assignment] of [describe the portion of the Premises subleased and term of sublease or the entire Premises and entire term if an assignment] to [identify proposed sublessee or assignee]. Oracle Corporation hereby confirms to Landlord and its successors and assigns that the Guaranty by Oracle Corporation of the obligations under the above mentioned Lease shall remain in full force and effect notwithstanding the proposed [sublease or assignment]. Oracle Corporation ------------------ By: -------------- Its: ------------- The term "Authorized Officer" shall have the meaning given in Paragraph 45 below. The above referenced approval of Oracle Corporation shall be accompanied by an incumbency certificate signed by the Secretary or Assistant Secretary of Oracle Corporation certifying that the person signing the above referenced approval on behalf of Oracle Corporation is a corporate officer of Oracle Corporation holding one of the offices constituting an Authorized Officer. (b) If Tenant desires at any time to enter into an Assignment of this Lease or a Sublease of the Premises or any portion thereof, it shall first give written notice to Landlord of its desire to do so, which notice shall contain (i) the name of the proposed assignee, subtenant or occupant; (ii) the name of the proposed assignee's, subtenant, or occupant's business to be carried on in the Premises; (iii) the terms and provisions of the proposed Assignment or Sublease; (iv) such financial information as Landlord may reasonably request concerning the proposed assignee, subtenant or occupant; and (v) the following language in bold print: "THIS REQUEST IS MADE PURSUANT TO PARAGRAPH 9(b) OF THE LEASE AND REQUIRES A RESPONSE WITHIN FIFTEEN (15) DAYS FROM THE DATE OF THIS NOTICE". (c) At any time within fifteen (15) days after Landlord's receipt of the notice specified in Paragraph 9(b), Landlord may by written notice to Tenant elect to (i) consent to the Sublease or Assignment or (ii) disapprove the Sublease or Assignment. 11 34 If Landlord consents to Sublease or Assignment within said fifteen (15) day period, Tenant may thereafter within one hundred twenty (120) days after Landlord's consent, but not later than the expiration of said one hundred twenty (120) days, enter into such Assignment or Sublease of the Premises or portion thereof upon the terms and conditions set forth in the notice furnished by Tenant to Landlord pursuant to Paragraph 9(b). However, during any period of time in which Tenant directly occupies less than seventy-five percent (75%) of the Premises (regardless of whether such occupancy threshold is not met at the time the Sublease is entered into or at any time during the term of such Sublease), fifty percent (50%) of any rent or other consideration realized by Tenant under any such Sublease in excess of the Base Rent and Additional Charges payable hereunder (or the amount thereof proportionate to the portion of the Premises subject to such Sublease) shall be paid to Landlord ("Bonus Rent"), after first deducting from such excess the unamortized costs of any portion of the Tenant Improvements paid for by Tenant (and not from the Tenant Improvement Allowance or Additional Allowance) or costs reasonably incurred for tenant improvements installed by Tenant to obtain the Sublease in question, each of which are installed in that portion of the Premises which is the subject of the Sublease and which unamortized costs shall be amortized on a straight line basis (without interest) over the term of the Sublease in equal installments, and after deducting therefrom any customary brokers' commissions that Tenant has incurred in connection with such Sublease amortized on a straight line basis (without interest) over the term of the Sublease. (b) No consent by Landlord to any Assignment or Sublease by Tenant shall relieve Tenant of any obligation to be performed by Tenant under this Lease, whether arising before or after the Assignment or Sublease. The consent by Landlord to any Assignment or Sublease shall not relieve Tenant from the obligation to obtain Landlord's express written consent to any other Assignment or Sublease. Any Assignment or Sublease that is not in compliance with this Paragraph 9 shall be void and, at the option of Landlord, shall constitute a material default by Tenant under this Lease. The acceptance of Base Rent or Additional Charges by Landlord from a proposed assignee or sublessee shall not constitute the consent to such Assignment or Sublease by Landlord. (e) The following shall be deemed a voluntary assignment of Tenant's interest in this Lease: (i) any dissolution, merger, consolidation, or other reorganization of Tenant; and (ii) if the capital stock of Tenant is not publicly traded, the sale or transfer to one person or entity stock possessing more than fifty percent (50%) of the total combined voting power of all classes of Tenant's stock issued, outstanding and entitled to vote for the election of directors. Notwithstanding anything to the contrary contained in this Paragraph 9, Tenant may enter into any of the following transfers (a "Permitted Transfer") without Landlord's prior written consent: (1) Tenant may assign its interest in the Lease to a corporation which results from a merger, consolidation or other reorganization, so long as the surviving corporation has a net worth immediately following such transaction that is equal to or greater than the net worth of Tenant as of the date immediately prior to such transaction; and (2) Tenant may assign this Lease to a corporation which purchases or otherwise acquires all or substantially all of the assets of Tenant, so long as such acquiring corporation has a net worth immediately following such transaction that is equal to or greater than the net worth of Tenant as of the date immediately prior to such transaction. (f) No Assignment shall be binding on Landlord unless the assignee or Tenant shall deliver to Landlord a counterpart of the Assignment in form that contains a covenant of assumption by the assignee satisfactory in substance and form to Landlord, consistent with the requirements of this Paragraph 9(f), but the failure or refusal of the assignee to execute such instrument of assumption shall not release or discharge the assignee from its liability hereunder. No Sublease shall be binding on Landlord unless Landlord shall agree in writing following termination of this Lease to recognize such Sublessee and such Sublessee agrees in writing to attorn to Landlord on the terms and conditions of the sublease (including the obligations under this Lease to the extent that they relate to the portion of the Premises subleased). (g) Tenant shall have the right, without Landlord's consent but with written notice to Landlord at least ten (10) days prior thereto, to enter into an Assignment of Tenant's interest in the Lease or a Sublease of all or any portion of the Premises to an Affiliate (as defined below) of Tenant, provided that in connection with an Assignment that is not a sublease, (i) the Affiliate delivers to Landlord concurrent with such Assignment a written notice of the Assignment and an assumption agreement whereby the Affiliate assumes and agrees to 12 35 perform, observe and abide by the terms, conditions, obligations, and provisions of this Lease; and (ii) the entity remains an Affiliate throughout the term of this Lease (and the assumption agreement shall contain provisions consistent with the provisions of this subparagraph allowing Landlord to terminate this Lease at such time as the entity is no longer an Affiliate of the original Tenant). If this Lease is assigned to an Affiliate and thereafter any circumstance occurs which causes such assignee to no longer be an Affiliate of the original Tenant, Tenant shall give written notice thereof to Landlord, which notice, to become effective, shall refer to Landlord's right to terminate this Lease pursuant to this subparagraph ("Affiliation Termination Notice"). Following occurrence of the circumstance giving rise to the discontinuation of such assignee being an Affiliate ("Affiliate Termination") of the original Tenant, Landlord shall be entitled to terminate this Lease unless Landlord has given its prior written consent to such circumstance, which consent shall not be unreasonably withheld by Landlord so long as such assignee (after giving effect to such circumstance) has financial strength (as demonstrated by audited financial statements) equal to or greater than the original Tenant (including its net worth) as of the date of execution of this Lease, or the original Tenant executes a guaranty in usual form reasonably acceptable to Landlord (however, this does not imply that Tenant would be released without such guaranty). No Sublease or Assignment by Tenant made pursuant to this Paragraph shall relieve Tenant of Tenant's obligations under this Lease. As used in this paragraph, the term "Affiliate" shall mean and collectively refer to a corporation or other entity which controls, is controlled by or is under common control with Tenant, by means of an ownership of either (aa) more than fifty percent (50%) of the outstanding voting shares of stock or partnership or other ownership interests, or (bb) stock, or partnership or other ownership interests, which provide the right to control the operations, transactions and activities of the applicable entity. (h) Notwithstanding anything to the contrary herein (x) Guarantor is hereby approved in respect of an Assignment or Sublease by Tenant to Guarantor regardless of whether Guarantor is an Affiliate of Tenant at the time and (y) in connection with an Assignment to Guarantor, Guarantor shall assume all of Tenant's obligations under this Lease. Upon such assumption by Guarantor any security held by Landlord in respect to the portion of the Premises which is the subject of the Assignment or Sublease assumed by Guarantor, shall be released by Landlord. 10. INSURANCE AND INDEMNIFICATION. (a) Except to the extent caused by the negligence or willful misconduct of Tenant Parties (as defined in Paragraph 10(c) below) or Tenant's breach of this Lease, Landlord shall indemnify and hold Tenant harmless from and defend Tenant against any and all claims or liability for any injury or damage to any person or property including any reasonable attorney's fees (but excluding any consequential damages or loss of business) occurring in, on, or about the Project to the extent such injury or damage is caused by the negligence or willful misconduct of Landlord, its agents, servants, contractors, employees (collectively, including Landlord, "Landlord Parties") or Landlord's breach of this Lease. (b) Landlord shall not be liable to Tenant, and Tenant hereby waives all claims against Landlord Parties for any injury or damage to any person or property in or about the Premises by or from any cause whatsoever (other than the negligence or willful misconduct of Landlord Parties, including Landlord's negligence or willful misconduct as related to construction or property management), and without limiting the generality of the foregoing, whether caused by water leakage of any character from the roof, walls, basement, or other portion of the Premises or the Building, or caused by gas, fire, oil, electricity, or any cause whatsoever, in, on, or about the Premises, the Building or any part thereof (other than that caused by the negligence or willful misconduct of Landlord Parties). Tenant acknowledges that any casualty insurance carried by Landlord will not cover loss of income to Tenant or damage to the alterations in the Premises installed by Tenant or Tenant's personal property located within the Premises. Tenant shall be required to maintain the insurance described in Subparagraph 10(d) below during the Term. (c) Except to the extent caused by the negligence or willful misconduct of Landlord Parties or Landlord's breach of this Lease, Tenant shall indemnify and hold Landlord harmless from and defend Landlord against any and all claims or liability for any injury or damage to any person or property whatsoever; (i) occurring in or on the Premises; or (ii) occurring in, on, or about any other portion of the Project to the extent such injury or damage shall be caused by the negligence or willful misconduct by Tenant, its agents, servants, 13 36 employees, or invitees (collectively, including Tenant, "Tenant Parties"). Tenant further agrees to indemnify and hold Landlord harmless from, and defend Landlord against, any and all claims, losses, or liabilities (including damage to Landlord's property) arising from (x) any breach of this Lease by Tenant and/or (y) the conduct of any work or business of Tenant Parties in or about the Project and/or (z) any matter referred to in Paragraph 10(g). This Paragraph 10 does not govern liability for Hazardous Substances, which subject is governed by Paragraph 39 of the Lease concerning Hazardous Substance liability. (d) Tenant shall procure at its cost and expense and keep in effect during the Term the following insurance: (i) commercial general liability insurance including contractual liability with a minimum combined single limit of liability of Three Million Dollars ($3,000,000). Such insurance shall name Landlord as an additional insured, shall specifically include the liability assumed hereunder by Tenant, and shall provide that it is primary insurance, and not excess over or contributory with any other valid, existing, and applicable insurance in force for or on behalf of Landlord, and shall provide that Landlord shall receive thirty (30) days' written notice from the insurer prior to any cancellation or change of coverage; (ii) "all risk" property insurance (including, without limitation, boiler and machinery (if applicable); sprinkler damage, vandalism and malicious mischief) on all leasehold improvements installed in the Premises by Tenant at its expense (if any), and on all Tenant's personal property. Such insurance shall be an amount equal to full replacement cost of the aggregate of the foregoing and shall provide coverage comparable to the coverage in the standard ISO All Risk form, when such form is supplemented with the coverages required above; (iii) worker's compensation insurance; and (iv) such other insurance as may be required by the law. Tenant shall deliver policies of such insurance or certificates thereof to Landlord on or before the Commencement Date, and thereafter at least thirty (30) days before the expiration dates of expiring policies; and, in the event Tenant shall fail to procure such insurance, or to deliver such policies or certificates, Landlord may, at its option, procure same for the account of Tenant, and the cost thereof shall be paid to Landlord as Additional Charges within five (5) days after delivery to Tenant of bills therefor. (e) The provisions of this paragraph 10 shall survive the expiration or termination of this Lease with respect to any claims or liability occurring prior to such expiration or termination. (f) Landlord shall maintain insurance on the Project against fire and risks covered by "all risk" (excluding earthquake and flood, though Landlord, at its option, may include this coverage) on a 100% of "replacement cost" basis (though reasonable deductibles may be included under such coverage). Landlord's insurance shall also cover the improvements installed by Landlord prior to the commencement of the Term, shall have a building ordinance provision, and shall provide for rental interruption insurance covering a period of twelve (12) full months. In no event shall Landlord be deemed a co-insurer under such policy. Landlord shall also maintain contractual liability coverage (or with contractual liability endorsement) on an occurrence basis in amounts not less than Three Million Dollars ($3,000,000) per occurrence with respect to bodily injury or death and property damage. Notwithstanding the foregoing obligations of Landlord to carry insurance, Landlord may modify the foregoing coverages if and to the extent it is commercially reasonable to do so. (g) Tenant acknowledges that even if Landlord installs and operated security cameras or other security equipment and/or provides any other services that could be construed as being intended to enhance security, Landlord shall have no obligation to Tenant or to any of Tenant's employees, customers or invitees for any damage, claim, loss or liability related to any claim that Landlord had a duty to provide security or that the equipment or services provided by Landlord were inadequate, inoperative or otherwise failed to provide adequate security. Any such claim made against Landlord by any employee, customer or invitee of Tenant shall be included within Tenant's obligation of indemnity and defense set forth in subparagraph (c) above. 11. WAIVER OF SUBROGATION. Notwithstanding anything to the contrary in this Lease, the parties hereto release each other and their respective agents, employees, successors, assignees and subtenants from all liability for injury to any person or damage to any property that is caused by or results from a risk (i) which is actually insured against, to the extent of receipt of payment under such policy (unless the failure to receive payment under any such policy results from a failure of the insured party to comply with or observe the terms and conditions of the insurance policy covering such liability, in which event, such release shall not be so limited), (ii) which is required to be insured against under this Lease, or (iii) which would normally be covered 14 37 by the standard form of "all risk-extended coverage" casualty insurance, without regard to the negligence or willful misconduct of the entity so released. Landlord and Tenant shall each obtain from their respective insurers under all policies of fire, theft, and other property insurance maintained by either of them at any time during the Term insuring or covering the Project or any portion thereof of its contents therein, a waiver of all rights of subrogation which the insurer of one party might otherwise, if at all, have against the other party, and Landlord and Tenant shall each indemnify the other against any loss or expense, including reasonable attorneys' fees, resulting from the failure to obtain such waiver. 12. SERVICES AND UTILITIES. (a) Landlord shall provide the maintenance and repairs described in paragraph 7(a), except for damage occasioned by the act of Tenant, in which case, but in any event subject to the terms of Paragraph 11 above, such damage shall be repaired by Landlord at Tenant's expense. (b) Subject to the provisions elsewhere herein contained and to the rules and regulations of the Building, Landlord agrees to furnish to the premises during ordinary business hours of generally recognized business days, to be determined by Landlord (but exclusive, in any event, of Saturdays, Sundays and legal holidays), hot and cold water and electricity suitable for the intended use of the Premises, heat and air conditioning required in Landlord's judgment for the comfortable use and occupation of the Premises, janitorial services during the times and in the manner that such services are, in Landlord's judgment, customarily furnished in comparable office buildings in the immediate market area, and elevator service (if the Building has an elevator) which shall mean service either by non-attended automatic elevators or elevators with attendants, or both, at the option of the Landlord. Notwithstanding the above, except in the case of emergencies, utilities to the Building and elevator service shall be provided every day. At Tenant's request, Landlord shall provide additional or after hours heating or air conditioning and Tenant shall pay to Landlord a reasonable charge for such services as determined by Landlord (not to exceed Landlord's actual costs, which costs do not include depreciation). Tenant agrees at all times to cooperate fully with Landlord and to abide by all the regulations and requirements which Landlord may prescribe for the proper functioning and protection of the heating, ventilating and air conditioning system. Wherever heat generating machines, excess lighting or equipment are used in the Premises which affect the temperature otherwise maintained by the air conditioning system, Landlord reserves the right to install supplementary air conditioning units in the Premises, and the cost thereof, including the cost of installation and the cost of operation and maintenance thereof, shall be paid by Tenant to Landlord upon demand by Landlord. To the extent Tenant requires water, electricity, heat, air conditioning or other services in portions of the Premises which are not metered separately from other tenants of the Project and in amounts in excess of amounts delivered to such other tenants of the Project as reasonable determined by Landlord. Tenant shall pay to Landlord a reasonable charge for such excess amounts as determined by Landlord. Landlord shall make available to Tenant reasonable documentation supporting its charges for such excess services. (c) Tenant will not without the written consent of Landlord, which consent shall not be unreasonable withheld or delayed, use any apparatus or device in the Premises which, when used, puts an excessive load on the Building or its structure or systems, including, without limitation, electronic data processing machines, punch card machines and machines using excess lighting or voltage in excess of the amount for which the Building is designed, which will in any way materially increase the amount of gas, electricity or water usually furnished or supplied for use of the Premises as general office space; nor connect with electric current, except through existing electrical outlets in the Premises, or water pipes or gas outlets, any apparatus or device for the purposes of using gas, electrical current or water. If Tenant shall require water or electrical current or any other resource in excess of that usually furnished or supplied for use of the Premises as general office space, Tenant shall first obtain the consent of Landlord, which Landlord may refuse, to the use thereof, and Landlord may cause a special meter to be installed in the Premises so as to measure the amount of water, electric current or other resource consumed for any such other use. The cost of any such meters and of installation, maintenance and repair thereof shall be paid for by Tenant, and Tenant agrees to pay Landlord promptly upon demand by Landlord for all such water, electric current or other resource consumed, as shown by said meters, at the rates charged by the local public utility, furnishing the same, plus any additional expense incurred in keeping account of the water, electric current or other resource so consumed. 15 38 (d) Landlord shall not be in default hereunder, nor be deemed to have evicted Tenant, nor be liable for any damages directly or indirectly resulting from, nor shall the rental herein reserved be abated by reason of (i) the installation, use or interruption of use of any equipment in connection with the foregoing utilities and services; (ii) failure to furnish or delay in furnishing any services to be provided by Landlord when such failure or delay is caused by Force Majeure, or by the making of repairs or improvements to the Premises or to the Building (unless such failure or delay is caused by Landlord's negligence or willful misconduct); or (iii) the limitation, curtailment, rationing or restriction on use of water, electricity, gas or any other form of energy, or any other service or utility whatsoever serving the Premises, the Building or the Project. Furthermore, Landlord shall be entitled to cooperate with the mandatory requirements of national, state or local governmental agencies or utilities suppliers in connection with reducing energy or other resources consumption. If the Premises become unsuitable for Tenant's use as a consequence of cessation of gas and electric utilities or other services provided to the Premises resulting from a casualty covered by Landlord's insurance, then Tenant's Base Rent and Additional Charges shall abate during the period of time in which Tenant cannot occupy the Premises for Tenant's use, but only to the extent of rental abatement insurance proceeds received by Landlord. Landlord shall use reasonable diligence to make such repairs as may be required to lines, cables, wires, pipes equipment or machinery within the Project to provide restoration of the services Landlord is responsible for providing under this Paragraph 12 and, where the cessation or interruption of such services has occurred due to circumstances or conditions beyond Project boundaries, to cause the same to be restored, by diligent application or request to the provider hereof. In no event shall any mortgagee or beneficiary under any mortgage or deed of trust on all or any portion of the Project, the Building, or the land on which all or any portion of the Project is located (any such mortgagee or beneficiary, a "Mortgagee") be or become liable for any default of Landlord under this Paragraph 12. 13. TENANT'S CERTIFICATES. Tenant, at any time and from time to time, within ten (10) days from receipt of written notice from Landlord, will execute, acknowledge and deliver to Landlord and, at Landlord's request, to any prospective tenant, purchaser, ground or underlying lessor or Mortgagee or any other party acquiring an interest in Landlord, a certificate of Tenant substantially in the form attached as Exhibit "D" and also containing any other information that may reasonably be required by any of such persons. It is intended that any such certificate of Tenant delivered pursuant to this Paragraph 13 may be relied upon by Landlord and any prospective tenant, purchaser, ground or underlying lessor or Mortgagee, or such other party. If requested by Tenant, Landlord shall provide Tenant with a similar certificate. 14. HOLDING OVER. If Tenant (directly or through any successor-in-interest of Tenant) remains in possession of any or all of the Premises after the expiration or termination of this Lease with the consent of landlord, such continued possession shall be construed to be a tenancy from month to month at one hundred twenty-five percent (125%) of the Monthly Base Rent herein specified (and shall be increased in accordance with Paragraph 4(b) [Adjustments in Base Rent]), together with an amount estimated by Landlord for the monthly Additional Charges payable under this Lease, and shall otherwise be on the terms and conditions herein specified so far as applicable. If Tenant (directly or through any successor-in-interest of Tenant) remains in possession of all or any portion of the Premises after the expiration or termination of this Lease without the consent of Landlord, Tenant's continued possession shall be on the basis of a tenancy at the sufferance of Landlord. In such event, Tenant shall continue to comply with or perform all the terms and obligations of Tenant under this Lease, except that the Monthly Base Rent during Tenant's holding over shall be greater of the then-fair market rent for the Premises (as reasonably determined by Landlord) or one hundred fifty percent (150%) of the Monthly Base Rent and Additional Charges payable in the last full month prior to the termination hereof (and shall be increased in accordance with Paragraph 4(b) [Adjustment in Base Rent]). In addition to Rent, Tenant shall pay Landlord for all damages proximately caused by reason of the Tenant's retention of possession. Landlord's acceptance of Rent after the termination of this Lease shall not constitute a renewal of this Lease, and nothing contained in this provision shall be deemed to waive Landlord's right to re-entry or any other right hereunder or at law. Tenant acknowledges that, in Landlord's marketing and re-leasing efforts for the Premises, Landlord is relying on Tenant's vacation of the Premises on the Expiration Date. Accordingly, Tenant shall indemnify, defend and hold Landlord harmless from and against all claims, liabilities, losses, costs, expenses and damages arising or resulting directly or indirectly from Tenant's failure to timely surrender the Premises, including (i) any loss, cost or damages suffered by any prospective tenant of all or any part of the Premises, and (ii) Landlord's damages as a result of such prospective tenant rescinding or refusing to 16 39 enter into the prospective lease of all or any portion of the Premises by reason of such failure of Tenant to timely surrender the Premises. 15. SUBORDINATION. (a) Without the necessity of any additional document being executed by Tenant for the purpose of effecting a subordination, this Lease shall be subject and subordinate at all times to: (i) the Encumbrances and all ground leases or underlying leases which may now exist or hereafter be executed affecting the Building or the land upon which the Building is situated or both; (ii) any CC&R's, currently in effect or that Landlord may enter into in the future, that affect the Building or the Common Areas; and (iii) the lien of any mortgage or deed of trust which may now exist or hereafter be executed in any amount for which the Building, land, ground leases or underlying leases, or Landlord's interest or estate in any of said items, is specified as security. Notwithstanding the foregoing, Landlord shall have the right to subordinate or cause to be subordinated any such ground leases or underlying leases or any such liens to this Lease. In the event that any ground lease or underlying lease terminates for any reason or any mortgage or deed of trust is foreclosed or a conveyance in lieu of foreclosure is made for any reason, Tenant shall, notwithstanding any subordination, attorn to and become the Tenant of the successor in interest to Landlord at the option of such successor in interest. Notwithstanding anything to the contrary contained herein (but subject to subparagraph 15(b) below), this Lease shall not be subject or subordinate to any ground or underlying lease or to any lien, mortgage, deed of trust or other security interest affecting the Premises, unless the ground lessor, lender or other holder of the interest to which this lease would be subordinated executes a reasonable recognition and non-disturbance agreement which provides that Tenant shall be entitled to continue in possession of the Premises on the terms and conditions of this Lease if and for so long as Tenant fully performs all of its obligations hereunder. Tenant covenants and agrees to execute and deliver upon demand by Landlord and in the form requested by Landlord and reasonably acceptable to Tenant, any customary additional documents evidencing the priority or subordination of this Lease with respect to any such ground leases or underlying leases or the lien of any such mortgage or deed of trust. Tenant shall execute, deliver and record any such documents within twenty (20) days after Landlord's written request. (b) Notwithstanding the provisions of subparagraph 15(a) above to the contrary, specifically with regard to the Ground Lease (as defined in Exhibit "E"), this Lease shall be subject to and subordinate to the terms, covenants and conditions of the Ground Lease and the rights of the Lessor (as defined in the Ground Lease), without the requirement that the Lessor enter into a separate recognition and non-disturbance agreement as contemplated by subparagraph 15(a), provided that Landlord and Tenant agree to the following conditions as required by Article 25 of the Ground Lease: (1) Upon any termination or surrender of the Ground Lease, this Lease shall continue in full force and effect and the Tenant (defined as "sublessee" in the Ground Lease) shall attorn to, or, at the option of Lessor (as defined in the Ground Lease), enter into a direct lease on identical terms (i.e. the terms of this Lease) with, Lessor; (2) Lessor shall not be bound by any prepayment of rent hereunder; and (3) Tenant and Landlord agree that this Lease is an arm's length transaction between Landlord (defined as "Lessee" in the Ground Lease) and Tenant (defined as "the subtenant" in the Ground Lease), and that Tenant is not an Affiliate (as defined in the Ground Lease) of Landlord. 16. RULES AND REGULATIONS. Tenant shall faithfully observe and comply with the rules and regulations attached to this Lease as Exhibit "C" and all reasonable modifications thereof and additions thereto from time to time put into effect by Landlord. Landlord shall not be responsible for the nonperformance by any other Tenant or occupant of the Building or the Project of any said rules and regulations. In the event of an express and direct conflict between the terms, covenants, agreements and conditions of this Lease and those set forth in the rules and regulations, as modified and amended from time to time by Landlord, this Lease shall control. 17 40 17. RE-ENTRY BY LANDLORD. Landlord reserves and shall at all reasonable times, upon reasonable prior notice (except in the case of an emergency), and subject to Tenant's reasonable security precautions and the right of Tenant to accompany Landlord at all times, have the right to re-enter the Premises to inspect the same, to supply janitor service and any other service to be provided by Landlord to Tenant hereunder (unless Tenant is supplying such service), to show the Premises to prospective purchasers, Mortgagees or tenants (as to prospective tenants, only during the last twelve (12) months of the Lease Term), to post notices of nonresponsibility or as otherwise required or allowed by this Lease or by law, and to alter, improve or repair the Premises and any portion of the Building and may for that purpose erect, use, and maintain scaffolding, pipes, conduits, and other necessary structures in and through the Premises where reasonably required by the character of the work to be performed. Landlord shall not be liable in any manner for any inconvenience, disturbance, loss of business, nuisance or other damage arising from Landlord's entry and acts pursuant to this Paragraph and Tenant shall not be entitled to an abatement or reduction of Base Rent or Additional Charges if Landlord exercises any rights reserved in this paragraph. Tenant hereby waives any claim for damages for any injury or inconvenience to or interference with Tenant's business, any loss of occupancy or quiet enjoyment of the Premises, and any other loss occasioned thereby, except for Landlord's negligence or willful misconduct. For each of the aforesaid purposes, Landlord shall at all times have and retain a key with which to un-lock all of the doors in, upon and about the Premises, excluding Tenant's vaults and safes, or special security areas (designated in advance), and Landlord shall have the right to use any and all means which Landlord may deem necessary or proper to open said doors in an emergency, in order to obtain entry to any portion of the Premises, and any entry to the Premises, or portion thereof obtained by Landlord by any of said means, or otherwise, shall not under any emergency circumstances be construed or deemed to be a forcible or unlawful entry into, or a detainer of, the Premises, or an eviction, actual or constructive, of Tenant from the Premises or any portions thereof. Landlord shall use best efforts during re-entry to not unreasonably interfere with Tenant's use of the Premises or its business conducted therein. Tenant acknowledges that the first floor telephone equipment room provides third party access to the electronic sign equipment that operates the sign facing Highway 101 and that Landlord retains the right to access to such facilities at all times without notice. Tenant acknowledges that it has no right hereunder to use of such electronic sign. 18. INSOLVENCY OR BANKRUPTCY. The appointment of a receiver to take possession of all or substantially all of the assets of Tenant, or an assignment of Tenant for the benefit of creditors, or any action taken or suffered by Tenant under any insolvency, bankruptcy, reorganization or other debtor relief proceedings, whether now existing or hereafter amended or enacted (collectively "Insolvency Proceeding"), shall at Landlord's option constitute a breach of this Lease by Tenant unless a petition in bankruptcy, or receiver attachment, or other remedy pursued by a third party is discharged within sixty (60) days. Upon the happening of any such event or at any time thereafter, this Lease shall terminate five (5) days after written notice of termination from Landlord to Tenant. In no event shall this Lease be assigned or assignable by operation of law or by voluntary or involuntary bankruptcy proceedings or otherwise and in no event shall this Lease or any rights or privileges hereunder be an asset of Tenant under any bankruptcy, insolvency, reorganization or other debtor relief proceedings. 19. DEFAULT. (a) The failure to perform or honor any covenant, condition or representation made under this Lease shall constitute a "default" hereunder by Tenant upon expiration of the appropriate grace or cure period hereinafter provided. Tenant shall have a period of three (3) days from the date of written notice from Landlord (which notice shall be in lieu of and not in addition to the notice required by Section 1161 of the California Code of Civil Procedure) within which to cure any failure to pay Base Rent or Additional Charges; provided, however, that Landlord shall not be required to provide such notice more than four times during any two (2) year period during the Term with respect to non-payment of Base Rent or Additional Charges, the fifth such non-payment constituting default without requirement of notice. Tenant shall have a period of thirty (30) days from the date of written notice from Landlord within which to cure any other curable failure to perform any obligation under this Lease; provided, however, that with respect to any curable failure to perform other than the payment of Base Rent or Additional Charges that cannot reasonably be cured within thirty (30) days, the cure period shall be extended if Tenant commences to cure within thirty (30) days from Landlord's notice and continues to prosecute diligently the curing thereof. Notwithstanding the foregoing, (i) if a different cure 18 41 period is specified elsewhere in this Lease or the Work Letter with respect to any specific obligation of Tenant, such specific cure period shall apply with respect to a failure of such obligation; and (ii) the foregoing cure rights shall not extend the specified time for compliance with any required delivery, approval or performance obligation of Tenant under the Work Letter. Upon a default of this Lease by Tenant, Landlord shall have the following rights and remedies in additional to any other rights or remedies available to Landlord at law or in equity. (1) The rights and remedies provided by California Civil Code, Section 1951.2, including but not limited to, recovery of the worth at the time of award of the amount by which the unpaid Basic Rent and Additional Charges for the balance of the Term after the time of award exceeds the amount of rental loss for the same period that the Tenant proves could be reasonably avoided, as computed pursuant to subsection (b) of said Section 1951.2; (2) The rights and remedies provided by California Civil Code, Section 1951.4, that allows Landlord to continue this Lease in effect and to enforce all of its rights and remedies under this Lease, including the right to recover Base Rent and Additional Charges as they become due, for so long as Landlord does not terminate Tenant's right to possession; provided, however, if Landlord elects to exercise its remedies described in this Paragraph 19(a)(ii) and Landlord does not terminate this Lease, and if Tenant requests Landlord's consent to an assignment of this Lease or a sublease of the Premises at such time as Tenant is in default, Landlord shall not unreasonably withhold its consent to such assignment or sublease. Acts of maintenance or preservation, efforts to relet the Premises or the appointment of receiver upon Landlord's initiative to protect its interest under this Lease shall not constitute a termination of Tenant's rights to possession; (3) The right to terminate this Lease by giving notice to Tenant in accordance with applicable law; (4) If Landlord elects to terminate this Lease, the right and power to enter the Premises and remove therefrom all persons and property and, to store such property in a public warehouse or elsewhere at the cost of and for the account of Tenant, and to sell such property and apply such proceeds therefrom pursuant to applicable California law. (b) Landlord shall have a period of thirty (30) days from the date of written notice from Tenant within which to cure any default by Landlord under this Lease; provided, however, that with respect to any default that cannot reasonably be cured within thirty (30) days, the default shall not be deemed to be uncured if Landlord commences to cure within thirty (30) days from Tenant's notice and continues to prosecute diligently the curing thereof. Tenant agrees to give any Mortgagee, by registered or certified mail, a copy of any Notice of Default served upon the Landlord, provided that prior to such notice Tenant has been notified in writing, (by way of Notice of Assignment of Rents and Leases, or otherwise) of the address of such Mortgagee. Tenant further agrees that if Landlord shall have failed to cure such default within the time provided for in this Lease, then the Mortgagee shall have an additional thirty (30) days (provided that Tenant notifies Mortgagee concurrently with Tenant's notice to Landlord at the beginning of Landlord's thirty (30) day period; otherwise Mortgagee shall have sixty days from the date on which it is noticed) within which to cure such default or if such default cannot be cured within that time, then the cure period shall be extended for such additional time as may be necessary to cure such default shall be granted if within such applicable period Mortgagee has commenced and continues to prosecute diligently the cure of such default (including, but not limited to, commencement of foreclosure proceedings, if necessary to effect such cure). 20. DAMAGE BY FIRE, ETC. If the Premises or the Building are damaged by fire or other casualty, Landlord shall forthwith repair the same, provided that such repairs can be made within two hundred seventy (270) days after the date of such damage under the laws and regulations of the federal, state and local governmental authorities having jurisdiction thereof. In such event, this Lease shall remain in full force and effect except that Tenant shall be entitled to a proportionate reduction of Base Rent and Additional Charges while such repairs to be made hereunder by Landlord are being made. Such reduction of rent, if any, shall be based upon the greater of (i) the proportion that the area of the Premises rendered untenantable by such damage. 19 42 bears to the total area of the Premises; or (ii) the extent to which such damage and the making of such repairs by Landlord shall interfere with the business carried on by Tenant in the Premises, where clause (ii) is limited to the extent of rental abatement insurance allowed by Landlord's casualty insurance policy. Within twenty (20) days after the date of such damage, Landlord shall notify Tenant of the approximate date by which Landlord believes that it can complete the repair of such damage ("Estimated Damage Completion Date") (including such dates for each floor of the Premises if the completion thereof will occur on different dates) and the date by which Landlord would need to commence construction ("Estimated Construction Commencement Date") in order to complete repairs by the Estimated Damage Completion Date and Landlord's determination thereof shall be binding on Tenant. If Landlord's Estimated Damage Completion Date is more than two hundred seventy (270) days from the date of such damage, Landlord shall have the option within thirty (30) days after the date of such damage either to: (i) notify Tenant of Landlord's intention to repair such damage and diligently prosecute such repairs, in which event (subject to Tenant's right to terminate specified below) this Lease shall continue in full force and effect and the Base Rent and Additional Charges shall be reduced as provided herein; or (ii) notify Tenant of Landlord's election to terminate this Lease as of a date specified in such notice, which date shall not be less than thirty (30) days nor more than sixty (60) days after notice is given; provided, however, in the event the damage giving rise to such right to terminate this Lease by Landlord is the result of damage in only one of the two buildings in the Project, Landlord's right to terminate this Lease shall not apply to the portion of the Premises, if any, in such building, and in such event the Lease shall remain in full force and effect with respect to the balance of the Premises and the Base Rent and Tenant's Share shall be appropriately adjusted to reflect the portion of the Premises, if any, with respect to which this Lease is terminated. In the event that such notice to terminate is given by Landlord, this Lease shall terminate on the date specified in such notice. In the event that Landlord notifies Tenant that Landlord's Estimated Damage Completion Date is more than two hundred seventy (270) days following the date of the damage, Tenant shall have a right to terminate the Lease in respect of all floors of the Premises to which Landlord's notice applies ("Affected Premises Portion") within fifteen (15) days following receipt of Landlord's notice, by providing Landlord with written notice of its election to do so. In such event (and also in the event Landlord terminates the lease pursuant to the immediately preceding sentence), Tenant shall have no liability in respect of the portion of the Premises with respect to which the Lease was terminated, for payment of the deductible under Landlord's insurance relating to such damage. In case of termination by either event, the Base Rent and Additional Charges shall be reduced by a proportionate amount based upon the extent to which such damage interfered with the business carried on by Tenant in the Premises, and Tenant shall pay such reduced Base Rent and Additional Charges up to the date of termination. Landlord agrees to refund to Tenant any Base Rent and Additional Charges previously paid in respect of a portion of the Premises with respect to which the Lease has terminated, for any period of time subsequent to such date of such termination. In the event the Lease is terminated in respect of only a portion of the Premises leaving the Lease in effect with respect to the balance of the Premises the Base Rent and Tenant's Share shall be appropriately adjusted. If, and to the extent, neither Landlord nor Tenant have terminated this Lease pursuant to the provisions set forth above, and the construction of the repairs has not commenced within ninety (90) days of the Estimated Construction Commencement Date, Tenant shall have the additional right to terminate this Lease in respect of the Affected Premises Portion during the first five (5) business days of each calendar month following the end of such period until such time as construction of the repairs has commenced, by notice to Landlord (the "Damage Termination Notice"), effective as of a date set forth in the Damage Termination Notice (the "Damage Termination Date"), which Damage Termination Date shall be no earlier than thirty (30) days or later than sixty (60) days following the date of such Damage Termination Notice. At any time, from time to time, after the date occurring sixty (60) days after the date of the damage, Tenant may request that Landlord inform Tenant of Landlord's reasonable opinion of the date of completion of the repairs and Landlord shall respond to such request in reasonable detail within five (5) business days following receipt of such request. The repairs to be made hereunder by Landlord shall not include, and Landlord shall not be required to repair, any damage by fire or other cause to the property of Tenant or any repairs or replacements of any paneling, decorations, railings, floor coverings or any alterations, additions, fixtures or improvements installed on the Premises by or at the expense of Tenant (excluding the initial Tenant Improvements constructed by Landlord). Tenant hereby waives the provisions of Section 1932.2, and Section 1933.4, of the Civil Code of California. Notwithstanding anything contained herein to the contrary, if a Major Casualty occurs with respect to any portion of the Building, and the net insurance proceeds obtained as a result of such casualty are ninety percent (90%) or a lesser percentage of the cost of restoration, rebuilding or replacement, then Landlord shall not be obligated to undertake such restoration, rebuilding or replacement 43 unless Landlord elects to do so in writing. For the purpose of this Lease, a "Major Casualty" shall mean a casualty that renders unusable twenty percent (20%) or more of the Net Rentable Area of the Building or which materially adversely affects the use of such Building. 21. EMINENT DOMAIN. If any part over 15% of the Premises shall be taken or appropriated under the power of eminent domain or conveyed in lieu thereof, Tenant shall have the right to terminate this Lease at its option. If any part of the Building shall be taken or appropriated under power of eminent domain or conveyed in lieu thereof and such taking is so extensive that it renders the remaining portion of the Building unsuitable for the use being made of the Building on the date immediately preceding such taking, Landlord may terminate this Lease at its option. In either of such events, Landlord shall receive (and Tenant shall assign to Landlord upon demand from Landlord) any income, rent, award or any interest therein which may be paid in connection with the exercise of such power of eminent domain, and Tenant shall have no claim against Landlord for any part of sum paid by virtue of such proceedings, whether or not attributable to the value of the unexpired term of this Lease, except that Tenant shall be entitled to petition the condemning authority for the following: (1) the then unamortized cost of any Alterations or tenant improvements paid for by Tenant from its own funds (as opposed to any allowance provided by Landlord); (ii) the value of Tenant's trade fixtures; (iii) Tenant's relocation costs; (iv) Tenant's goodwill, loss of business and business interruption; and (v) one-half of the amount which is the lesser of (a) the bonus value of this lease, or (b) the amount of the award in excess of the sum of amounts payable to Landlord's ground lessor (if any) and any holder of a mortgage or other third party lien encumbering Landlord's ground lease estate or fee simple ownership in the Property. If a part of the Premises shall be so taken or appropriated or conveyed and neither party hereto shall elect to terminate this Lease and the Premises have been damaged as a consequence of such partial taking or appropriation or conveyance, Landlord shall restore the Premises continuing under this Lease at Landlord's cost and expense; provided, however, that Landlord shall not be required to repair or restore any injury or damage to the property of Tenant or to make any repairs or restoration of any Alterations installed on the Premises by or at the expense of Tenant. Thereafter, the Base Rent and Additional Charges to be paid under this Lease for the remainder of the Term shall be proportionately reduced, such that thereafter the amounts to be paid by Tenant shall be in the ratio that they are of the portion of the Premises not so taken bears to the total area of the Premises prior to such taking. Notwithstanding anything to the contrary contained in this Paragraph 21, if the temporary use or occupancy of any part of the Premises shall be taken or appropriated under power of eminent domain during the Term, this Lease shall be and remain unaffected by such taking or appropriation and Tenant shall continue to pay in full all Base Rent and Additional Charges payable hereunder by Tenant during the Term; in the event of any such temporary appropriation or taking, Tenant shall be entitled to receive that portion of any award which represents compensation for the use of or occupancy of the Premises during the Term, and Landlord shall be entitled to receive that portion of any award which represents the cost of restoration of the Premises and the use and occupancy of the Premises after the end of the Term. If such temporary taking is for a period longer than two hundred and seventy (270) days and unreasonably interferes with Tenant's use of the Premises or the Project Common Areas, then Tenant shall have the right to terminate the Lease. Landlord and Tenant understand and agree that the provisions of this Paragraph 21 are intended to govern fully the rights and obligations of the parties in the event of a Taking of all or any portion of the Premises. Accordingly, the parties each hereby waives any right to terminate this Lease in whole or in part under Sections 1265.120 and 1265.130 of the California Code of Civil Procedure or under any similar Law now or hereafter in effect. 22. SALE BY LANDLORD. If Landlord sells or otherwise conveys its interest in the Premises, Landlord shall be relieved of its obligations under the Lease from and after the date of sale or conveyance (including the obligations of Landlord under Paragraph 39), only when Landlord transfers any security deposit of Tenant to its successor and the successor assumes in writing the obligations to be performed by Landlord on and after the effective date of the transfer (including the obligations of Landlord under Paragraph 39), whereupon Tenant shall attorn to such successor. 23. RIGHT OF LANDLORD TO PERFORM. All covenants and agreements to be performed by Tenant under any of the terms of this Lease shall be performed by Tenant at Tenant's sole cost and expense and without any abatement of Base Rent or Additional Charges. If Tenant shall default in the payment of any sum of money, other than Base Rent or Additional Charges, required to be paid by it hereunder or shall fail to perform any other act on its part to be performed hereunder, and such failure shall continue for the applicable 21 44 cure period provided in Paragraph 19 (except in the event of emergency, when no cure period shall be required), Landlord may, but shall not be obligated so to do, and without waiving or releasing Tenant from any obligations of Tenant, make any such payment or perform any such act on Tenant's part to be made or performed as provided in this Lease. All sums so paid by Landlord and all necessary incidental costs together with interest thereon at the Default Rate, from the date of such payment by Landlord shall be payable as Additional Charges to Landlord on demand. 24. SURRENDER OF PREMISES (a) At the end of the Term or any renewal thereof or other sooner termination of this Lease, Tenant will peaceably deliver to Landlord possession of the Premises, together with all improvements or additions upon or belonging to Landlord, by whomsoever made, in the same condition as received, or first installed, subject to the terms of Paragraphs 39 & 21 and the rights and obligation of Tenant concerning casualty damage pursuant to Paragraph 20, damage by fire, earthquake, Act of God, ordinary wear and tear, Hazardous Substances (other than those for which Tenant is indemnifying Landlord pursuant to Paragraph 39) or the elements alone excepted, Tenant may, upon the termination of this Lease, remove all movable furniture and equipment belonging to Tenant, at Tenant's sole cost, provided that Tenant repairs any damage caused by such removal. Property not so removed shall be deemed abandoned by Tenant, and title to the same shall thereupon pass to Landlord. Upon request by Landlord, and unless otherwise agreed to in writing by Landlord, Tenant shall remove, at Tenant's sole cost, any or all Alterations to the Premises installed by or at the expense of Tenant and all movable furniture and equipment belonging to Tenant which may be left by Tenant and repair any damage resulting from such removal. (b) The voluntary or other surrender of this Lease by Tenant, or a mutual cancellation thereof, shall not work a merger, and shall, at the option of Landlord, terminate all or any existing subleases or subtenancies, or may, at the option of Landlord, operate as an assignment to it of any or all such subleases or subtenancies. 25. WAIVER. If either Landlord or Tenant waives the performance of any term, covenant or condition contained in this Lease, such waiver shall not be deemed to be a waiver of any subsequent breach of the same or any other term, covenant or condition contained herein. Furthermore, the acceptance of Base Rent or Additional Charges by Landlord shall not constitute a waiver of any preceding breach by Tenant of any term, covenant or condition of this Lease, regardless of Landlord's knowledge of such preceding breach at the time Landlord accepted such Base Rent or Additional Charges. Failure by Landlord to enforce any of the terms, covenants or conditions of this Lease for any length of time shall not be deemed to waive or to decrease the right of Landlord to insist thereafter upon strict performance by Tenant. Waiver by Landlord of any term, covenant or condition contained in this Lease may only be made by a written document signed by Landlord. 26. NOTICES. Except as otherwise expressly provided in this Lease, any bills, statements, notices, demands, requests or other communications given or required to be given under this Lease shall be effective only if rendered or given in writing, sent by certified mail, return receipt requested, reputable overnight carrier, or delivered personally, (i) to Tenant (A) at Tenant's address set forth in the Basic Lease Information, if sent prior to Tenant's taking possession of the Premises, or (B) at the Premises if sent subsequent to Tenant's taking possession of the Premises, or (C) at any place where Tenant may be found if sent subsequent to Tenant's vacating, deserting, abandoning or surrendering the Premises; or (ii) to Landlord at Landlord's address set forth in the Basic Lease Information; or (iii) to such other address as either Landlord or Tenant may designate as its new address for such purpose by notice given to the other in accordance with the provisions of this Paragraph 26. If and for so long as Oracle Corporation is a Guarantor of the obligations of Tenant under this Lease any notice sent to Tenant shall be given to Oracle Corporation in writing in the manner described above with respect to notices to Tenant. Any such bill, statement, notice, demand, request or other communication shall be deemed to have been rendered or given on the date the return receipt indicate delivery of or refusal of delivery if sent by certified 22 45 mail, the day upon which recipient accepts and signs for delivery from a reputable overnight carrier, or on the date a reputable overnight carrier indicates refusal of delivery, or upon the date personal delivery is made. If Tenant is notified in writing of the identity and address of any Mortgagee or ground or underlying lessor, Tenant shall give to such Mortgagee or ground or underlying lessor notice of any default by Landlord under the terms of this Lease in writing sent by registered or certified mail, and such Mortgagee or ground or underlying lessor shall be given the opportunity to cure such default (as defined in Paragraph 19(b)) prior to Tenant exercising any remedy available to it. 27. TAXES PAYABLE BY TENANT. At least ten (10) days prior to delinquency Tenant shall pay all taxes levied or assessed upon Tenant's equipment, furniture, fixtures and other personal property located in or about the Premises. If the assessed value of Landlord's property is increased by the inclusion therein of a value placed upon Tenant's equipment, furniture, fixtures or other personal property, Tenant shall pay to Landlord, upon written demand, the taxes so levied against Landlord, or the proportion thereof resulting from said increase in assessment. 28. ABANDONMENT. Tenant shall not abandon the Premises and cease performing its financial and maintenance obligations under this Lease at any time during the Term, and if Tenant shall abandon and cease performing its financial and maintenance obligations under this Lease, or surrender the Premises or be dispossessed by process of law, or otherwise, any personal property belonging to Tenant and left on the Premises shall, at the option of Landlord, be deemed to be abandoned and title thereto shall thereupon pass to Landlord. Notwithstanding anything to contrary contained herein, Tenant shall not be allowed to vacate the Premises if such would result in a termination of Landlord's insurance. Upon Tenant's request, Landlord will ask its insurer if such vacation of the Premises would result in termination of its current insurance policy. For purposes of this Paragraph 28, the Tenant shall not be deemed to have abandoned the Premises solely because the Tenant is not occupying the Premises. 29. SUCCESSORS AND ASSIGNS. Subject to the provisions of Paragraph 9, the terms, covenants and conditions contained herein shall be binding upon and inure to the benefit of the parties hereto and their respective legal and personal representatives, successors and assigns. 30. ATTORNEY'S FEES. If Tenant or Landlord brings any action for any relief against the other, declaratory or otherwise, arising out of this Lease, including any suit by Landlord for the recovery of Base Rent or Additional Charges or possession of the Premises, the losing party shall pay to the prevailing party a reasonable sum for attorney's fees, which shall be deemed to have accrued on the commencement of such action and shall be paid whether or not the action is prosecuted to judgment. 31. LIGHT AND AIR. Tenant covenants and agrees that no diminution of light, air or view by any structure which may hereafter be erected (whether or not by Landlord) shall entitle Tenant to any reduction of rent under this Lease, resulting in any liability of Landlord to Tenant, or in any other way affect this Lease or Tenant's obligations hereunder. 32. SECURITY DEPOSIT. (a) LETTER OF CREDIT. Concurrently with Tenant's execution of this Lease, Guarantor shall deliver to Landlord its Guaranty of Tenant's obligations hereunder. Such Guaranty provides for the termination of the Guaranty when certain criteria have been met including the deposit with Landlord of a letter of credit meeting the requirements of this Paragraph 32. Concurrently with Landlord's written confirmation of termination of the Guaranty, Tenant shall deliver to Landlord an unconditional, irrevocable, transferable letter of credit, in an amount equal to the "Required Amount" (defined below) issued by a financial institution acceptable to Landlord in the form attached hereto as Exhibit "F", with an original term of no less than one year and automatic extensions through the end of the Term of this Lease and sixty (60) days thereafter (the "Letter of Credit"). Landlord shall not unreasonably withhold its approval of such a financial institution if it is a national bank with office in the San Francisco Bay Area (including an office allowing the Letter of Credit to be presented to and paid by such office) with assets in excess of twenty billion dollars. The term "Required Amount" shall mean a sum reasonably determined by Landlord as of the date the Letter of Credit is delivered 23 46 hereunder to be the amount of ten (10) months Base Rent plus Additional Charges. Tenant shall keep the Letter of Credit, as its expense, in full force and effect until the sixtieth (60th) day after the Expiration Date or other termination of this Lease, to insure the faithful performance by Tenant of all of the covenants, terms and conditions of this Lease, including, without limitation, Tenant's obligations to repair, replace or maintain the Premises and Tenant's obligations under the Work Letter; provided, however, at any time during the term that Landlord holds cash as a security deposit hereunder in the amount of the Letter of Credit, Tenant shall not be in default hereunder for failing to maintain the Letter of Credit. Landlord shall be entitled to draw the full amount of the Letter of Credit (i) at any time Tenant is in "default" (as defined in Paragraph 19(a)), (ii) at any time an event has occurred which, with the passage of time or giving of notice or both, would constitute a default, where Landlord is prevented from, or delayed in, giving such notice because of an Insolvency Proceeding or (iii) on or after thirty (30) days prior to the expiration of the Letter of Credit. The Letter of Credit shall provide for full payment to Landlord, upon presentation of the following to the issuer of the Letter of Credit (x) a letter signed by an authorized agent of Landlord stating that Landlord is entitled to draw the Letter of Credit and (y) the original Letter of Credit. In the event of such payment to Landlord, Landlord shall hold the funds so obtained as the security deposit required under this Lease. Any unused portion of the funds so obtained by Landlord shall be returned to Tenant upon replacement of the Letter of Credit or deposit of cash security in the full amount required as the face amount of the Letter of Credit hereunder. If Landlord uses any portion of the Letter of Credit, or the cash security deposit resulting from a draw on the Letter of Credit, to cure any default by Tenant hereunder, Tenant shall replenish the security deposit to the original amount within ten (10) days of notice from Landlord. Tenant's failure to do so shall become a material breach of this Lease. Landlord shall keep any cash security funds separate from its general funds, and shall invest such cash security at Tenant's reasonable direction, and any interest actually earned by Landlord on such cash security shall be paid to Tenant quarterly. If an event of default occurs under this Lease or the Work Letter (including, without limitation, any default by Tenant with respect to its payment and performance obligations under the Work Letter), or if Tenant is the subject of any Insolvency Proceeding, Landlord may present its written demand for payment of the entire face amount of the Letter of Credit and the funds so obtained shall become due and payable to Landlord. Landlord may retain such funds to the extent required to compensate Landlord for damages incurred, or to reimburse Landlord as provided herein, in connection with any such default, and any remaining funds shall be held as a cash security deposit. Without limiting the foregoing, in the event of a default in Tenant's obligations to complete or pay for the Tenant Improvements in accordance with the Work Letter, Landlord may use the security deposit to complete and/or pay for the Tenant Improvements to the extent of Tenant's obligations as contemplated by the Work Letter. Landlord shall be entitled to assign the Letter of Credit and its rights thereto in connection with an assignment of this Lease to its Lender as security for the obligations of Landlord to such lender. Tenant shall cooperate with Landlord in connection with any modifications of the Letter of Credit that may be reasonably requested in connection with such assignment. (b) ANNUAL REDUCTION OF LETTER OF CREDIT. Tenant shall be entitled to reduce the Letter of Credit on the sixth through tenth anniversaries of the Commencement Date in the amount of one-fifth (1/5th) of the initial balance, so long as (i) Tenant is not in default (and no event has occurred which, with the passage of time or giving of notice or both, would constitute a default) under the Lease on such anniversary date, and (ii) Landlord has not delivered a notice of Tenant's failure to perform any of its monetary obligations hereunder during the previous six months, regardless of whether such failure was cured by Tenant within any applicable grace or cure period; provided, however, that any such notice of failure to perform relating to a non-monetary failure to perform which was disputed, in good faith, by Tenant and ultimately determined (by agreement of the parties, arbitration or judicial action) not to be a violation of this Lease shall not be considered for purposes of determining whether such condition has been met. (c) RETURN OF LETTER OF CREDIT. The Letter of Credit shall be returned to Tenant if, at any time after the fifth anniversary of the Commencement Date, Tenant (A) can establish to Landlord's reasonable satisfaction that as of the end of any fiscal year of Tenant following the fifth anniversary of the Commencement Date, Tenant has (i) had revenues for eight consecutive quarters in excess of an annual rate of $75,000,000 "Revenue Criteria", (ii) Market Capitalization of an average of $750,000,000 over the proceeding twelve months, and (iii) cash and cash equivalents ("Cash Criteria") (including up to twenty five percent (25%) of which may be comprised of the amount Tenant would receive from a factor, without recourse in respect of current ninety day or less accounts receivables (which are not and shall not be pledged or factored), certified to 24 47 Landlord by an independent third party factor) in excess of Forty Million Dollars ($40,000,000), all as determined in accordance with GAAP and as reflected on certified, audited financial statements; and (b) is not in default (and no event has occurred which, with the passage of time or giving of notice or both, would constitute a default) under the Lease as of the date the Letter of Credit is returned to Tenant. The term "Market Capitalization" shall mean the average daily closing price of a class of Tenant's stock which is publicly traded multiplied by the number of shares of Tenant's stock that is held by shareholders who may freely trade such stock. (d) Conversion of Deposit to Loan. Landlord and Tenant acknowledge and agree that, if Tenant defaults under this Lease and Landlord elects to pursue its remedies under California Civil Code Section 1951.2 or under this Lease to terminate this Lease (any such event, a "Landlord Action"), (i) Landlord will incur certain damages, costs and expenses, including, without limitation, marketing costs, commissions, relocation costs, tenant improvement costs (but limited to costs for improvements consistent with the level of finish and build out of Tenant's Improvement), and carrying costs in connection with releasing the Premises, in addition to the other damages, costs and expenses Landlord may incur as a result of such default and/or other defaults under this Lease (all of the foregoing collectively, "Default Damages"); (ii) Landlord has no assurance of a source of funds to cover such Default Damages other than the proceeds of the Letter of Credit (or cash collateral); and (iii) the proceeds of the Letter of Credit (or cash collateral) should be available to Landlord to apply to Default Damages, even if the amount thereof exceeds that amount to which Landlord is ultimately determined to be entitled under this Lease and pursuant to applicable law. Accordingly, at Landlord's sole election, Landlord shall be entitled to draw the full amount of the Letter of Credit (or the full amount of cash collateral shall be released to Landlord) which is then existing (after any previous application of funds by Landlord and/or replenishment by Tenant pursuant to Paragraph 32(a) above), simultaneously with commencement of a Landlord Action or at any time thereafter. All proceeds thereof in excess of amounts applied (pursuant to Paragraph 32(a)) to Default Damages incurred by Landlord prior to commencement of the Landlord Action shall be deemed a loan from Tenant to Landlord (the "Default Loan"). The Default Loan shall be unsecured and shall not bear interest, and repayment thereof shall be limited to the terms and conditions set forth in this paragraph. Any sums to which Landlord from time to time becomes entitled hereunder and pursuant to law as a result of Tenant's default and any previous defaults of the Lease, to which the Letter of Credit (or cash collateral) has not previously been applied pursuant to Paragraph 32(a), shall be offset against the principal balance of the Loan. The amount of the Default Loan remaining, if any, after such offset shall be referred to herein as the "Excess Amount". The Excess Amount shall be payable by Landlord to Tenant from, and only from, first any proceeds from the Letter of Credit (or cash collateral) which have not been applied to Default Damages incurred by Landlord after the same are finally determined (the "Remaining Proceeds"), and then Excess Rent. The Remaining Proceeds shall be paid by Landlord to Tenant promptly upon final determination after the entire Premises are leased to a third party or parties. If Tenant disputes the amount of Remaining Proceeds paid by Landlord, Tenant may submit such dispute to arbitration in accordance with Paragraph 40 [Arbitration of Disputes] of this Lease. "Excess Rent" shall mean the amount by which (x) rent received by Landlord (from the tenant or tenants leasing all or any portion of the Premises after Tenant's default) in any month exceeds (y) the amount of rent that would have been payable under this Lease for such month if this Lease had not been terminated. Landlord shall pay Tenant one-half of the Excess Rent until the earlier of (A) the date the Excess Amount is fully repaid or (B) the date that would have been the Expiration Date (excluding any Renewal Term) of this Lease. Any remaining balance of the Default Loan on such date shall be deemed forgiven. If the Default Loan is insufficient to cover all Default Damages, Tenant shall pay Landlord any such shortfall immediately upon demand by Landlord, and Landlord shall have all rights and remedies available at law or elsewhere in the Lease with respect to such shortfall. 33. CORPORATE AUTHORITY; FINANCIAL INFORMATION. If Tenant signs as a corporation each of the persons executing this Lease on behalf of Tenant does hereby covenant and warrant that Tenant is a duly authorized and existing corporation, that Tenant has and is qualified to do business in California, that the corporation has full right and authority to enter into this Lease, and that each and both of the persons signing on behalf of the corporation were authorized to do so. Upon Landlord's request, Tenant shall provide Landlord with evidence reasonably satisfactory to Landlord confirming the foregoing covenants and warranties. Tenant hereby further covenants and warrants to Landlord that all financial information and other descriptive information regarding Tenant's business, which has been or shall be furnished to Landlord, is to 25 48 Tenant's best knowledge accurate and complete at the time of delivery to Landlord. 34. PARKING. Tenant shall have the right to use the Building's parking spaces in common with other tenants or occupants of the Buildings, if any, subject to the Encumbrances and the rules and regulations of Landlord for such parking facilities which may be established or altered by Landlord at any time or from time to time during the term. Landlord represents and warrants to Tenant that the number of parking spaces initially constructed by Landlord in connection with the Project shall be equal to or greater than the minimum number required by the City of San Carlos and that Landlord will not thereafter voluntarily reduce the number of parking spaces available to the Project below such minimum number except as may be required by law or in connection with condemnation. Landlord shall not voluntarily agree to an amendment or modification or waiver of provisions of the CC&Rs in a manner that reduces or impairs the parking available to the Project except as may be required by law or in connection with condemnation. Tenant acknowledges that the parking structure is not scheduled to be completed by the Scheduled Commencement Date. Neither Tenant nor any of its employees, visitors or invitees shall have an obligation to pay for parking in the parking structure or otherwise on the Project. Landlord will operate a valet parking service from 8:30 a.m. to 5:30 p.m. Monday through Friday excluding holidays from the date Tenant first takes possession of the Initial Premises (for the operation of its business) through the date the parking structure is completed and available for use. 35. MISCELLANEOUS. (a) The term "Premises" wherever it appears herein includes and shall be deemed or taken to include (except where such meaning would be clearly repugnant to the context) the office space demised and improvements now or at any time hereafter comprising or built in the space hereby demised. The paragraph headings herein are for convenience of reference and shall in no way define, increase, limit or describe the scope or intent of any provision of this Lease. The term "Landlord" shall include Landlord and its successors and assigns. In any case where this Lease is signed by more than one person, the obligations hereunder shall be joint and several. The term "Tenant" or any pronoun used in place thereof shall indicate and include the masculine or feminine, the singular or plural number, individuals, firms or corporations, and their and each of their respective successors, executors, administrators, and permitted assigns, according to the context hereof. (b) Time is of the essence of this Lease and all of its provisions. This Lease shall in all respects be governed by the laws of the State of California. This lease, together with its exhibits, contains all the agreements of the parties hereto and supersedes any previous negotiations. There have been no representations made by the Landlord or understandings made between the parties other than those set forth in this Lease and its exhibits. This Lease may not be modified except by a written instrument by the parties hereto. (c) If for any reason whatsoever any of the provisions hereof shall be unenforceable or ineffective, all of the other provisions shall be and remain in full force and effect. (d) Upon Tenant paying the Base Rent and Additional Charges and performing all of Tenant's obligations under this Lease, Tenant may peacefully and quietly enjoy the Premises during the Term as against all persons or entities lawfully claiming by or through Landlord; subject, however, to the provisions of this Lease. 36. TENANT'S REMEDIES. If any default hereunder by Landlord is not cured within the applicable cure period provided in Subparagraph 19(b), Tenant's exclusive remedies shall be an action for specific performance or action for actual damages. Tenant hereby waives the benefit of any laws granting it (A) the right to perform Landlord's obligation, or (B) the right to terminate this Lease or withhold Rent on account of any Landlord default. Tenant shall look solely to Landlord's interest in the Project for the recovery of any judgment from Landlord. Landlord, or if Landlord is a partnership, its partners whether general or limited, or if Landlord is a corporation, its directors, officers or shareholders, shall never be personally liable for any such judgment. Any lien obtained to enforce such judgment and any levy of execution thereon shall be subject and subordinate to any mortgage or deed of trust (excluding any mortgage or deed of trust which was created as part of an effort to defraud creditors, i.e., a fraudulent conveyance); provided, however that any such judgement 26 49 and any such levy of execution thereon shall not be subject or subordinated to any mortgage or deed of trust that shall have been created or recorded in the official records of Santa Clara County after the date of the judgment giving rise to such lien. Landlord's interest in the Project shall include any insurance proceeds received by Landlord which are not controlled by Landlord's lender and any proceeds of the Security Deposit under this Lease that are then held by Landlord. 37. REAL ESTATE BROKERS. Each party represents that it has not had dealings with any real estate broker, finder or other person with respect to this Lease in any manner, except for any broker named in the Basic Lease Information, whose fees or commission, if earned, shall be paid as provided in the Basic Lease Information. Each party shall hold harmless the other party from all damages resulting from any claims that may be asserted against the other party by any other broker, finder or other person with whom the other party has or purportedly has dealt. 38. LEASE EFFECTIVE DATE. Submission of this instrument for examination or signature by Tenant does not constitute a reservation of or option for lease, and it is not effective as a lease or otherwise until execution and delivery by both Landlord and Tenant. 39. HAZARDOUS SUBSTANCE LIABILITY. Tenant has received from Landlord a copy of the following reports (the "Environmental Reports"): "Phase I and II Environmental Assessment Report, Circle Star Theater Property, 1717 Industrial Way, San Carlos, California, January 31, 1997" prepared by McLaren/Hart Environmental Engineering Corporation. Except as noted in the Environmental Reports, Landlord represents and warrants that to the best of its knowledge, the Premises and Project are presently free of asbestos, toxic waste, underground storage tanks and other Hazardous Substances in amounts exceeding legally established maximum thresholds. Additionally, except as noted in the Environmental Reports, Landlord represents that it has received no written notice of any violation or claimed violation with respect to the presence of toxic or Hazardous Substances on, in or under the Project or of any pending or contemplated investigation or other action relating thereto. (a) DEFINITION OF HAZARDOUS SUBSTANCES. For the purpose of this Lease, "Hazardous Substances" shall be defined, collectively, as oil, flammable explosives, asbestos, radioactive materials, hazardous wastes, toxic or contaminated substances or similar materials, including, without limitation, any substances which are "hazardous substances," "hazardous wastes," "hazardous materials" or "toxic substances" under applicable environmental laws, ordinance or regulation. (b) TENANT INDEMNITY. Tenant releases Landlord from any liability for, waives all claims against Landlord and shall indemnify, defend and hold harmless Landlord, its employees, partners, agents, subsidiaries and affiliate organizations against any and all claims, suits, loss, costs (including costs of investigation, clean up, monitoring, restoration and reasonably attorney fees), damage or liability, whether foreseeable or unforeseeable, by reason of property damage (including diminution in the value of the property of Landlord), personal injury or death directly arising from or related to Hazardous Substances released, manufactured, discharged, disposed, used or stored on, in, or under the Property or Premises during the initial Term and any extensions of this Lease by Tenant or its employees, agents, sublessees, assignees or contractors. The provisions of this Tenant Indemnity regarding Hazardous Substances shall survive the termination of the Lease. (c) LANDLORD INDEMNITY. Landlord releases Tenant from any liability for, waives all claims against Tenant and shall indemnify, defend and hold harmless Tenant, its officers, employees, and agents to the extent of Landlord's interest in the Project, against any and all actions by any governmental agency for clean up of Hazardous Substances on or under the Property, including costs of legal proceedings, investigation, clean up, monitoring, and restoration, including reasonable attorney fees, if, and to the extent, arising from the presence of Hazardous Substances on, in or under the Property or Premises, except to the extent caused by the release, disposal, use or storage of Hazardous Substances in, on or about the Premises by Tenant, its employees, agents, sublessees, assignees, or contractors. The provision of this Landlord Indemnity regarding Hazardous Substances shall survive the termination of the Lease. 27 50 Tenant has informed Landlord, that except for very immaterial amounts of toxic materials incidental to its office use (e.g. copier toner). Tenant will not use any Hazardous Substances in material amounts within the Building and shall comply with any applicable laws to the extent that it does. 40. ARBITRATION OF DISPUTES. ANY CONTROVERSY OR CLAIM ARISING OUT OF THIS LEASE OR A BREACH OF THIS LEASE SOLELY BETWEEN LANDLORD AND TENANT RELATING TO A MONETARY DEFAULT IN AN AMOUNT OF LESS THAN TWENTY-FIVE THOUSAND DOLLARS ($25,000), BUT NOT INCLUDING A DEFAULT WITH RESPECT TO THE TIMELY PAYMENT OF BASE RENT AND ADDITIONAL CHARGES, SHALL BE SETTLED BY ARBITRATION BEFORE THE JUDICIAL ARBITRATION MEDIATION SERVICE (JAMS) IN ACCORDANCE WITH THE RULES OF THE AMERICAN ARBITRATION ASSOCIATION, AND JUDGMENT ON THE AWARD RENDERED BY THE ARBITRATOR(S) MAY BE ENTERED IN ANY COURT HAVING JURISDICTION. NOTICE: BY INITIALING IN THE SPACE BELOW YOU ARE AGREEING TO HAVE ANY DISPUTE ARISING OUT OF THE MATTERS INCLUDED IN THE "ARBITRATION OF DISPUTES" PROVISION DECIDED BY NEUTRAL ARBITRATION AS PROVIDED BY CALIFORNIA LAW AND YOU ARE GIVING UP ANY RIGHTS YOU MIGHT POSSESS TO HAVE THE DISPUTE LITIGATED IN A COURT OR JURY TRIAL. BY INITIALING IN THE SPACE BELOW YOU ARE GIVING UP YOUR JUDICIAL RIGHTS TO DISCOVERY AND APPEAL, UNLESS THOSE RIGHTS ARE SPECIFICALLY INCLUDED IN THE "ARBITRATION OF DISPUTES" PROVISION. IF YOU REFUSE TO SUBMIT TO ARBITRATION AFTER AGREEING TO THIS PROVISION, YOU MAY BE COMPELLED TO ARBITRATE UNDER THE AUTHORITY OF THE CALIFORNIA CODE OF CIVIL PROCEDURE. YOUR AGREEMENT TO THIS ARBITRATION PROVISION IS VOLUNTARY. [STAMP] WE HAVE READ AND UNDERSTAND THE FOREGOING AND AGREE TO SUBMIT DISPUTES ARISING OUT OF THE MATTERS INCLUDED IN THE "ARBITRATION OF DISPUTES" PROVISION TO NEUTRAL ARBITRATION. Consent to neutral arbitration by: /s/ [ILLEGIBLE] (Landlord): /s/ [ILLEGIBLE] (Tenant). 41. SIGNAGE. Tenant shall be allowed to use a proportional share (based on square footage) of the main lobby directory and the monument sign located at the Project's entry off of Industrial Road, as well as building standard signage at the lobby on Tenant's floor as well as Tenant's main entry door. In addition Tenant shall be entitled to one sign each on the northeast (i.e. the glass curtain wall adjacent to the Highway 101 freeway frontage) and northwest (i.e. the pre-cast concrete panel visible from the southbound lanes of Highway 101) sides of the Building, such signs (in the aggregate) to comprise no more than one half of the square footage of such exterior building surface signage allowed in respect of the Project by the City of San Carlos. Such signage shall be in conformity with standards provided by Landlord, and subject to approval by Landlord. All signage shall be at Tenant's expense. Landlord shall work with Tenant to obtain approval of the applicable governmental authorities for construction of (i) signage on top of the Building and (ii) monument signage at the main entry to the Project. Such signage shall be subject to the reasonable approval of Landlord as well as all applicable governmental authorities. 42. OPTION TO RENEW. Upon condition that (i) no event of default is continuing under this Lease at the time of exercise or at the commencement of the option term, and (ii) Tenant or its affiliate continues to physically occupy at least fifty percent (50%) of the Premises, then Tenant shall have the right to extend the Term for one (1) period of six (6) years ("Extension Term(s)") following the initial Expiration Date, by giving written notice ("Exercise Notice") to Landlord at least eighteen (18) months prior to the Expiration of the Term. 43. RENT DURING EXTENSION TERM. The Monthly Base Rent during the six (6) year Extension Term shall be the greater of the average Monthly Base Rent (excluding adjustments pursuant to Paragraph 3(b)(i)) paid during the initial Term or the Fair Market Rental Value for the Premises as of the 28 51 commencement of the option term, as determined below: (a) Within thirty (30) days after receipt of Tenant's Exercise Notice, Landlord shall notify Tenant of Landlord's estimate of the Fair Market Rental Value for the Premises, as determined below, for determining Monthly Base Rent during the ensuing Extension Term; provided, however, if Tenant's Exercise Notice is given more than eighteen (18) months before the Expiration Date, Landlord's estimate of Fair Market Rental Value may, but need not be given more than eighteen (18) months before the Expiration Date. Within fifteen (15) days after receipt of such notice from Landlord, Tenant shall notify landlord in writing that it (i) agrees with such rental rate or (ii) disagrees with such rental rate. No response shall constitute agreement. In the event that Tenant disagrees with Landlord's estimate of Fair Market Rental Value for the Premises, then the parties shall meet and endeavor to agree within fifteen (15) days after Landlord receives Tenant's notice described in the immediately preceding sentence. If the parties cannot agree upon the Fair Market Rental Value within said fifteen (15) day period, then the parties shall submit the matter to binding appraisal in accordance with the following procedure except that in any event neither party shall be obligated to start such procedure sooner than eighteen (18) months before the expiration of the Lease Term. Within fifteen (15) days of the conclusion of the period during which the two parties fail to agree (but not sooner than eighteen (18) months before the expiration of the Lease Term), the parties shall either (i) jointly appoint an appraiser for this purpose or (ii) failing this joint action, each separately designate a disinterested appraiser. No person shall be appointed or designated an appraiser unless such person has at least five (5) years experience in appraising major commercial property in San Mateo County and is a member of a recognized society of real estate appraisers. If within thirty (30) days after the appointment, the two appraisers reach agreement on the Fair Market Rental Value for the Premises, that value shall be binding and conclusive upon the parties. If the two appraisers thus appointed cannot reach agreement on the Fair Market Rental Value for the Premises within thirty (30) days after their appointment, then the appraisers thus appointed shall appoint a third disinterested appraiser having like qualifications within five (5) days. If within thirty (30) days after the appointment of the third appraiser a majority of the appraisers agree on the Fair Market Rental Value of the Premises, that value shall be binding and conclusive upon the parties. If within thirty (30) days after the appointment of the third appraiser a majority of the appraisers cannot reach agreement on the Fair Market Rental Value for the Premises, then the three appraisers shall each simultaneously submit their independent appraisal to the parties, the appraisal farthest from the median of the three appraisals shall be disregarded, and the mean average of the remaining two appraisals shall be deemed to be the Fair Market Value for the Premises and shall be binding and conclusive upon the parties. Each party shall pay the fees and expenses of the appraiser appointed by it and shall share equally the fees and expenses of the third appraiser. If the two appraisers appointed by the parties cannot agree on the appointment of the third appraiser, they or either of them shall give notice of such failure to agree to the parties and if the parties fail to agree upon the selection of such third appraiser within ten (10) days after the appraisers appointed by the parties give such notice, then either of the parties, upon notice to the other party, may request such appointment by the American Arbitration Association or, on it failure, refusal or inability to act, may apply for such appointment to the presiding judge of the Superior Court of San Mateo County, California. (b) Wherever used throughout this Paragraph (Rent during Extension Term) the term "Fair Market Rental Value" shall mean the fair market rental value of the Premises, using as a guide the rate of monthly base rent which would be charged during the Extension Term (including periodic increases during the Extension Term, if any) in the Mid-Peninsula area for comparable high image, Class A office space in comparable condition, of comparable quality, as of the time that the Extension Term commences, with appropriate adjustments regarding taxes, insurance and operating expenses as necessary to insure comparability to this Lease, as the case may be, and also taking into consideration amount and type of parking, location, leasehold improvements, proposed term of lease, amount of space leased, extent of service provided or to be provided, and any other relevant terms or conditions (including consideration of whether or not the monthly base rent is fixed). (c) In the event of a failure, refusal or inability of any appraiser to act, his successor shall be appointed by the party who originally appointed him, but in the case of the third appraiser, his successor shall be appointed in the same manner as provided for appointment of the third appraiser. 29 52 (d) The appraisers shall render their appraisals in writing with counterpart copies to Landlord and Tenant. The appraisers shall have no power to modify the provisions of this Lease. (e) To the extent that binding appraisal has not been completed prior to the expiration of any preceding period for which Monthly Base Rent has been determined, Tenant shall pay Monthly Base Rent at the rate estimated by Landlord, with an adjustment to be made once Fair Market Rental Value is ultimately determined by binding appraisal. (f) From and after the commencement of the Extension Term, all of the other terms, covenants and conditions of the Lease shall also apply; provided, however, that Tenant shall have no further rights to extend the Term. 44. SATELLITE ANTENNA. During the Term, Tenant shall have the non-exclusive right, subject to relevant regulatory approvals, availability of space within the roofscreen and Landlord's consent, such consent not to be unreasonably withheld or delayed, to install a satellite antenna ("Antenna") within the roofscreen on the roof of the Building in a location satisfactory to both Landlord and Tenant. Without otherwise limiting the criteria upon which Landlord may withhold its consent to any proposed Antenna, if Landlord withholds its consent due to concerns regarding the appearance of the Antenna or the impact on structural aspects of the Building, such withholding of consent shall be presumptively reasonable. Tenant shall not be charged any rent for roof space. Prior to submitting any plans to the City of San Carlos or proceeding with any installation of an Antenna, Tenant shall submit to Landlord elevations and specifications for the Antenna. Tenant shall install any approved Antenna at its sole expense and shall be responsible for any damage caused by the installation of the Antenna or related to the Antenna. At the end of the Term, Tenant shall remove the Antenna from its location and repair any damage caused by such removal. 45. SECOND BUILDING. (a) Prior to September 1, 1999, for so long as Tenant is not in default hereunder, Landlord shall not execute a letter of intent or Lease with another tenant for any portion of the Second Building. The term "Second Building" shall mean the improvements proposed to be built by Landlord as part of the Project and more fully described on Exhibit "G"; the Second Building is commonly known as One Circle Star Way. From and after September 1, 1999 through October 31, 2000, Tenant shall have the rights described in this Paragraph ("First Right Offer") to lease the First Right Space (defined below). During the period of time commencing on September 1, 1999, Landlord shall be free to negotiate and enter into letters of intent or leases with other parties for all or any portion of the First Right Space, provided that Landlord shall provide Tenant with a written "Offer Notice" if Landlord believes that a letter of intent that it receives from, or submits to, another party is likely to result in a letter of intent acceptable to Landlord. If such letter of intent is for the lease of less than the entire Second Building, the Offer Notice will indicate which portion of the First Right Space the letter of intent covers. Tenant shall have seven (7) business days (ending at 5:00 p.m. on such seventh business day) after receipt of the Offer Notice ("Offer Notice Deadline") to deliver to Landlord the Tenant's Election Notice electing to lease the space described in the Offer Notice on the terms and conditions set forth in Paragraph 45(c). If Tenant does not deliver to Landlord its Tenant Election Notice within such seven (7) business day period, Landlord shall be entitled to complete the transaction with the party with whom Landlord is negotiating or, within one hundred twenty (120) days following the Offer Notice Deadline, with any other tenant for the space described in the Offer Notice. The "Tenant Election Notice" a letter notifying Landlord of Tenant's unconditional election to exercise its option to lease the space described in the Offer Notice executed by Tenant. To be effective, the Tenant's Election Notice must contain the following additional paragraph and be signed by an Authorized Officer of Oracle Corporation: Oracle Corporation, as Guarantor of the obligations of the Tenant under that certain Lease dated April ___, 1999 by and between Circle Star Center Associates, L.P. as Landlord and Network Computer, Inc. as Tenant, hereby agrees that the additional obligations of Network Computer, Inc. associated with the foregoing election to lease additional 30 53 space from Landlord is approved by Oracle Corporation pursuant to Oracle Corporation's guaranty of the obligations of Network Computer, Inc. under such Lease. Oracle Corporation By: ______________ Its:______________ An "Authorized Officer" shall mean the President or any Executive Vice-President, Vice-President or Assistant Vice-President, Treasurer or Assistant Treasurer of Oracle Corporation. In order for the Tenant Election Notice to be effective, it must be accompanied by an incumbency certificate signed by the Secretary or Assistant Secretary of Oracle Corporation certifying that the person signing the Tenant's Election Notice on behalf of Oracle Corporation is a corporate officer of Oracle Corporation holding one the offices specified above. Unless Tenant's Election Notice meets all of the foregoing requirements and is delivered to Landlord within the seven (7) business day period specified above, such document shall be ineffective and may be disregarded by Landlord. (b) Notwithstanding anything to the contrary herein, Tenant's rights under this Paragraph 45 shall not apply to the third or fourth floor of the Second Building in the event that Landlord elects to lease such space to Centraal Corporation (and its Affiliates). In the event that Centraal Corporation (or it Affiliates) leases both the third and fourth floors of the Second Building, then Centraal Corporation (and its Affiliates) shall be required to vacate the second floor of the Building and the Second Floor of the Building shall be subject to Tenant's First Right of Offer under the terms and conditions of this Paragraph 45; provided, however, there shall be no Tenant Improvement Allowance for the second floor of the Building except such amount as is required to a ceiling grid with ceiling tiles and install lighting and HVAC ducting consistent with the initial space leased by Tenant in the Building, but in no event shall such Tenant Improvement Allowance exceed $7 per rentable square feet of space located on the second floor of the Building. The term "First Right Space" shall mean the Second Building (subject to the right of Landlord to lease portions thereof to Centraal Corporation (or its Affiliates) in accordance with the foregoing) and the second floor of the Building if, and when, Centraal Corporation leases both the third and fourth floors of the Second Building. (c) Terms of Lease of First Right Space. (1) RENT. The Base Rent for the First Right Space leased by Tenant pursuant to this Paragraph 45 shall be based on a Rentable Area of the Second Building and 25,179 square feet for the second floor of the Building. Landlords's architect shall determine the Rentable Area of the Second Building and each floor thereof, and shall certify such Rentable Area in writing to Landlord and Tenant. The computations called for in the prior two sentences to be made by Landlord's architect shall be carried out in a manner consistent with the computations for the Building and so that the total Rentable Square Feet for all of the floors of the Second Building shall be the sum of the aggregate Rentable Area of the Building. The initial Base Rent for each First Right Space shall be the Monthly Base Rent specified on the Basic Lease information subject to the adjustment pursuant to Paragraph 3(b)(i) for the Additional Allowance applicable to the First Right Space but at a rate and for the period described in Paragraph 45(c)(2) below. (2) RENT COMMENCEMENT AND EXPIRATION DATE. If Tenant elects to lease all or part of the First Right Space pursuant to this Paragraph 45, the date Rent shall commence for each First Right Space (the "First Right Space Rent Commencement Date") shall be a date which is the sum of (i) the number of weeks of Tenant's Plan Approval Period (defined below) plus (ii) Landlord's Construction Period (defined below), following the date of Tenant's notice pursuant to Paragraph 45(a), as extended by the number of days in excess of three (3) business days that it takes Landlord to review and comment upon any plans submitted by Tenant to Landlord pursuant to the 31 54 Work Letter. The term "Tenant's Plan Approval Period" shall mean forty-two (42) days. The term "Landlord's Construction Period" shall mean the following time periods depending upon the number of floors that the First Right Space comprises: Number of Floors Landlord's Construction Period ---------------- ------------------------------ 1 6 Weeks 2 8 Weeks 3 10 Weeks The above described Landlord's Construction Periods are estimates of the time period between the date Tenant has completed Tenant's Plans and obtained Landlord's approval and processed building permits in respect of the Tenant's Improvements for the First Right Space, on the one hand, and the date Landlord achieves Substantial Completion of the Tenant Improvements (excluding any Tenant Delay), on the other hand. The Rent payable by Tenant in respect of any First Right Space shall be abated for the number of days, if any, that it takes Landlord to achieve Substantial Completion in excess of the applicable Landlord's Construction Period (as reasonably increased if Tenant's proposed improvements are of a character as will require a longer construction period than the character of the improvements to be constructed in respect of the Initial Premises), excluding from such period, Tenant Delays. Landlord and Tenant acknowledge that until the Tenant Improvements in respect of any First Right Space are completed it will not be possible to compute the adjustment to Monthly Base Rent attributable to the Additional Allowance. Accordingly, Landlord and Tenant agree that upon Substantial Completion of such Tenant Improvements, Landlord shall deliver written notice to Tenant of its calculation of the adjustment to Monthly Base Rent in respect of the Additional Allowance. The Monthly Base Rent shall be increased by an amount equal to the sum determined by amortizing the amount of the Additional Allowance on a straight line basis at 9% per annum over the period from the date of such Substantial Completion through a date ten (10) years following the applicable First Right Space Rent Commencement Date ("Amortization Ending Date"). There shall be no Outside Delivery Date in respect of any First Right Space. (3) LEASE TERMS. If Tenant leases any First Right Space pursuant to this Paragraph 45, in addition to the terms set forth in clauses (1) and (2) above, this Lease shall automatically be modified to provide as follows: (A) Both the Initial Premises and the First Right Space shall be part of the "Premises" under this Lease, such that the term "Premises" as used in this Lease shall refer collectively to both the Initial Premises and the First Right Space; (B) Tenant's Share of Real Estate Taxes and Expenses shall be adjusted to reflect the Increased Rentable Area of the Premises, based on the ratio of the Rentable Area of the collective Premises to the total Rentable Area of the Project; (C) Tenant's right to terminate this Lease pursuant to pursuant to Paragraph 2(e) shall be modified by extending the effective date of such termination to the eighth anniversary of the last First Right Space Rent Commencement Date (with a corresponding adjustment to the date by which notice of the exercise of such termination option must be given by Tenant) and such right to terminate shall apply only to all (and not less than all) of the portion of the Initial Premises and shall not be applicable to any First Right Space; 32 55 (D) Tenant's lease of the First Right Space shall be on the same terms and conditions as in effect for the Premises from time to time, except as expressly provided in this Paragraph 45; (E) The Expiration Date applicable to the Initial Premises and the First Right Space shall be the date which is ten (10) years following the last First Right Space Rent Commencement Date. The Base Rent in respect of any portion of the Initial Premises for the period of the initial Term (excluding any extension of the Term pursuant to Paragraph 42) in excess of ten (10) years shall be adjusted by reducing the Base Rent for such excess period by the amount of the adjustment for the Additional Allowance provided for in Paragraph 3(b)(i) in respect of the Initial Premises. The Base Rent in respect of any First Right Space for the period of the initial Term (excluding any extension of the Term pursuant to Paragraph 42) beyond the Amortization Ending Date in respect of such First Right Space shall be adjusted by reducing the Base Rent for such excess period by the amount of the adjustment for the Additional Allowance provided for in Paragraph 45(c)(2); (F) All references to percentage of destruction or taking in Paragraph 20 [Damage by Fire, Etc.] and Paragraph 21 [Eminent Domain] shall be deemed to mean each of the Building and Second Building separately; (G) Landlord shall provide the same Base Building Improvements as provided for the Building (and conduit between the Building and the Second Building and a covered walk way from the side of the Second Building nearest the parking garage to the parking garage, subject to receiving all necessary applicable approvals, which Landlord will use its best efforts to obtain) together with a Tenant Improvement Allowance (increased by 3% on each anniversary of the Commencement Date for the Initial Premises that occurs prior to the Effective Date of Tenant's written exercises of its right to lease First Right Space pursuant to this Paragraph 45) and Additional Allowance in the same amounts per Rentable Square Foot as shown in the Basic Lease Information with respect to the initial Premises (except as provided in Paragraph 45(b) above); (H) The Required Amount of the letter of credit required pursuant to Paragraph 32(a) and the "Market Capitalization", "Revenue Criteria" and "Cash Criteria" requirements for the return of the letter of credit pursuant to Paragraph 32(c) shall be adjusted to the following amounts based upon the number of additional floors leased by Tenant pursuant to this Paragraph 45 ("M" means million and "B" means billion):
Additional Number of Additional Months of Base Rent Market Revenue Cash Floors plus Additional Charges Capitalization Criteria Criteria ---------- ----------------------- -------------- -------- -------- 1 12 $ 850M $100M $65M 2 13 $ 950M $100M $75M 3 14 $ 1.1B $125M $85M 4 15 $1.25B $150M $95M
The parties shall execute a written confirmation of the addition of the Second Building and the foregoing terms and conditions within thirty (30) days after either party's request, provided that failure to execute such confirmation shall not affect the automatic modification of the Lease as provided in this Paragraph 45(c). (I) In the event Tenant leases two floors in the Second Building, Tenant shall be entitled to one sign on the Second Building similar to the two signs on the Building to 33 56 which Tenant is entitled pursuant to Paragraph 41, subject to the terms, conditions and limitations thereof. (d) NO BROKERS. Neither party has had any contact or dealings regarding the Second Building through any licensed real estate broker or other person who may claim a right to a commission or finder's fee as a procuring cause of any lease that might be entered into with respect to the Second Building as contemplated by this Paragraph 45 or otherwise, except for the broker named in the Basic Lease Information, whose fees or commission, if earned, shall be paid by Landlord in accordance with a separate agreement with Landlord. If any other broker or finder makes a claim for a commission or finder's fee based upon any such contact, dealings, or communications, the party through whom the broker or finder makes his claim shall be responsible for such commission or fee, and all costs and expenses (including reasonable attorneys' fees) incurred by the other party in defending against such claim. 34 57 IN WITNESS WHEREOF, the parties hereto have executed this Lease as of the date first above written. LANDLORD: CIRCLE STAR CENTER ASSOCIATES, L.P. a California limited partnership By: M-D Ventures, Inc. Its: General Partner By: /s/ STEVE DOSTART ---------------------------- Steve Dostart Its: Vice President TENANT: NETWORK COMPUTER, INC. a Delaware corporation By: /s/ MITCHELL KERTZMAN ---------------------------- Mitchell Kertzman Its: CEO & President By: /s/ NANCY J. HILKER ---------------------------- Nancy J. Hilker Its: Vice President & Chief Financial Officer [STAMP] 35 58 [FLOOR PLAN of the First Floor of 1717 Industrial Road, San Carlos, CA 94070] 1ST FLOOR EXHIBIT "A" Page 1 of 2 59 [FLOOR PLAN of the 3rd/4th floor of 1717 Industrial Road, San Carlos, CA 94070] 3RD/4TH FLOOR EXHIBIT "A" Page 2 of 2 60 EXHIBIT "B" WORK LETTER 1. Base Building: Landlord shall furnish and install the office building, as defined in the plans listed in the attached Exhibit B-1, "Landlord's Plans," at Landlord's expense ("Base Building"). 2. Tenant's Plans: Landlord approves Tenant's use of the architectural firm known as Ehrlich-Rominger ("Tenant's Architect"). On or before April 1, 1999 Tenant shall submit preliminary plans and specifications including specifications for finishes for Tenant's proposed tenant improvements ("Preliminary Plans"). Landlord shall have three (3) business days to review and comment upon, or approve, Tenant's Preliminary Plans, and Landlord's approval shall not be reasonably withheld or delayed so long as Tenant's Preliminary Plans are consistent with the Basic Standards as defined below. As part of Landlord's review of Tenant's Preliminary Plans, Landlord will notify Tenant of those items, if any, which are "long lead time" items (i.e., items which cannot reasonably be delivered to the job site early enough to maintain the approved construction schedule without substantial overtime work), specifying in such notice the delay in Substantial Completion of the Premises which will be caused by selection of such items ("Long Lead Time Items"), so long as Tenant's Preliminary Plans specify sufficient detail (e.g., finishes, materials, etc.) to allow Landlord to make such determination. Thereafter, in the preparation of the final Tenant's Plans, Tenant shall have the right to replace such Long Lead Time Items with other specified items that would not be considered Long Lead Time Items. On or before Tenant's Plan Delivery Date, as specified in the Basic Lease Information, Tenant shall submit plans and specifications for Tenant's proposed tenant improvements within the Premises consistent with Tenant's Preliminary Plans as approved by Landlord ("Tenant's Plans"). Tenant's Plans shall include all such information required to prepare construction drawings sufficient to allow Landlord's contractor to bid and construct said improvements, including but not limited to those items in Exhibit B-2, "Minimum Information Required." Such plans shall be subject to Landlord's approval, which shall not be unreasonably withheld so long as the tenant improvements contemplated therein are generally generic with drop ceilings throughout, perimeter private offices around at least 25% of the perimeter of the floor plate, and otherwise reasonably comparable to the improvements existing at Tenant's existing premises at 1000 Bridge Parkway ("Basic Standards"). Landlord's contractor shall prepare complete mechanical, electrical, plumbing, and other engineering plans for the installation of the heating, ventilating, air conditioning, electrical and plumbing to be installed in the Premises, on a design/build basis, and the costs charged by Landlord's contractor for such services shall be included in the scope of work by Landlord's contractor for the Tenant Improvements and in the cost estimate described in paragraph 5 below. The engineering fees for plumbing and fire sprinkler work shall be competitively bid as design/build with engineered drawings to be included in Landlord's contractor's scope of work for the Tenant Improvements. 3. Tenant Improvements: Landlord shall cause Landlord's contractor to construct, at Tenant's expense, subject to the Tenant Allowance as noted below, the additional work in addition to the Base Building to complete the Premises ("Tenant Improvements") as required by the plans and specifications approved by Landlord and Tenant pursuant to this Work Letter. The quantities, EXHIBIT "B" 1 61 character and manner of installation of all of the foregoing work shall be subject to the limitations imposed by any applicable regulations, laws, ordinance, codes and rules. 4. Tenant's Expense: The cost of the Tenant Improvements, as well as space planning and preparing the working drawings (including Tenant's Plans) for the Tenant Improvements or any change to the original instruction and/or plans and specifications shall be paid by Tenant; provided, however, that Landlord shall provide to Tenant an allowance of the amount specified in the Basic Lease Information as the "Tenant Allowance". The Tenant Allowance may be applied toward the following items in respect of the Tenant Improvements: Architectural and engineering fees, space planning, building permits or other governmental fees, cost of labor materials and other charges included in the construction contract for construction of Tenant Improvements. The cost of the Tenant Improvements to be paid from the Tenant Allowance or by Tenant shall not include the following (which shall be Landlord's responsibility): (a) costs attributable to improvements installed outside the demising walls of the Premises; (b) costs for improvements which are not shown on or described in the Tenant's Plans as finally approved by Landlord, other than changes required by the City of San Carlos or other governmental authorities in connection with their review of Tenant's Plans or issuance of permits, changes necessitated by Tenant Delays (as defined below), or changes that are requested or approved by Tenant; (c) attorneys' fees incurred in connection with negotiation of construction contracts, and attorneys' fees, experts' fees and other costs in connection with disputes with third parties related to the Tenant Improvements, except to the extent such disputes result from Tenant's acts or omissions; (d) interest and other costs incurred by Landlord to finance Landlord's construction costs; (e) costs incurred as a consequence of delay (other than Tenant Delays), construction defects or default by Landlord's contractor; (f) costs recoverable by Landlord upon account of warranties and insurance; (g) restoration costs in excess of insurance proceeds as a consequence of casualties; (h) penalties and late charges attributable to Landlord's failure to pay construction costs; (i) costs to bring the Base Building into compliance with applicable laws and restrictions at the time building permits are issued for the Tenant Improvements, including, without limitation, the Americans with Disabilities Act and environmental law, except to the extent such laws and restrictions are only triggered by Tenant's acts, improvements or particular use of the Premises; (j) wages, labor and overhead for overtime and premium time, unless required due to Tenant Delays; (k) offsite construction management or other general construction overhead costs incurred by Landlord; and (l) a General Contractor's fee in excess of that contemplated in Paragraph 5 below. Upon the approval by Landlord and Tenant of the Landlord's contractor's cost estimate in accordance with Paragraph 5 below, Tenant shall provide Landlord with a detailed breakdown of the final costs to be incurred or which have been incurred in connection with the design and construction of the Tenant Improvements (the "Final Costs"). Prior to the commencement of construction of the Tenant Improvements, Tenant shall supply Landlord with cash in an amount (the "Over-Allowance Amount") equal to the difference between the amount of the Final Costs and the Tenant Allowance (less any portion thereof already disbursed by Landlord, on or before the commencement of construction of the Tenant Improvements). Interest actually accrued on the Over-Allowance Amount shall be credited to Tenant and disbursed with the Over-Allowance Amount. The Over-Allowance Amount shall be disbursed by Landlord pro rata with the Tenant Allowance as costs are incurred for Tenant Improvements. Any amounts payable by Tenant under this Work Letter which are in excess of the Tenant Allowance and Over-Allowance Amount deposited with Landlord shall be paid by Tenant to Landlord within twenty (20) days of receipt of an invoice from Landlord. Landlord shall keep full and detailed accounts and shall exercise such control as may by necessary for the proper financial EXHIBIT "B" 2 62 management of the construction of the Tenant Improvements and disbursement of the Tenant Allowance and Over-Allowance Amount. Tenant and Tenant's representative shall be afforded access, from time to time, upon advance written or oral notice to Landlord, to Landlord's records, books, correspondence, instructions, drawings, receipts, invoices, agreements (including, without limitation, subcontracts and purchase orders), vouchers and other data relating to the Tenant Improvements and the disbursement of the Tenant Allowance and Over-Allowance Amount for the purpose of reviewing, auditing and/or copying such material. Landlord shall, on not less than a monthly basis on or before the tenth (10th) day of each month, deliver to Tenant a statement showing in complete detail (itemized by contractor, subcontractor, vendors, consultants, etc.) all monies paid out or costs incurred by the Landlord in connection with the Tenant Improvements and the disbursement of the Tenant Allowance and the Over-Allowance Amount, during the period commencing on the first day of each month preceding the then current month and ending on the last day of said preceding month, together with such supporting documentation as may be reasonably required by Tenant. In addition, the Tenant Improvements shall include window shades meeting the following specifications: Hunter Douglas 8 Mil Atlantis Mini-Blinds; Color: 190 Bright Aluminum. 5. Cost Estimate: Upon receipt of Tenant's Plans, Landlord shall obtain a cost estimate for the Tenant Improvements from Landlord's contractor, such cost estimate to include such detail as may be reasonably requested by Tenant. Landlord shall require that its general contractor secure independent sealed bids from three (3) unionized subcontractors mutually acceptable to Landlord and Tenant for each trade whose costs are in excess of five percent (5%) of the total cost estimate. All bids shall be submitted to Landlord and Tenant simultaneously; at Tenant's request, Landlord and Tenant shall open the bids together at the offices of the Landlord's general contractor. Landlord agrees to permit Tenant to designate that the lowest bidding subcontractor be selected. The General Contractor's fee shall be calculated on a "cost plus a fee" basis where the fee for overhead and profit is four percent (4%) of cost and the amount charged for general conditions and supervision is approved by Tenant, such approval not to be unreasonably withheld. Tenant shall not be charged any fee for Landlord's oversight of the construction of Tenant's Improvements. If the cost estimate exceeds the Tenant Allowance, the cost estimate shall be submitted to Tenant. Tenant shall approve or disapprove such estimate within seven (7) days. Failure to disapprove within such period shall constitute approval. If disapproved, Tenant shall provide new sufficient instruction within such seven (7) days for the revision of plans and cost estimates for approval by Landlord. Tenant shall be obligated to approve the cost estimate if the cost is within the Tenant Allowance or any greater budget approved by Tenant. If the cost estimate is in excess of the Tenant Allowance or such greater budget, Tenant shall provide new sufficient instruction which will reduce the cost estimate for the Tenant Improvements to a level acceptable to Tenant and within any allowance provided by Landlord within ten (10) days after receipt of the cost estimate. In the event that, after receiving Tenant's approval of the cost estimate based upon Tenant's Plans as approved by Landlord and Tenant, changes to such plans are requested by any governmental agency or building inspector in order to obtain any required permits or to proceed with the construction of the Tenant Improvements, Tenant shall promptly respond to such governmental request and cause such request to be withdrawn or Tenant's Plans to be revised to comply with such request; and if such revision causes an increase in the cost of the Tenant Improvements such increase shall be made by a change order approved by Tenant. Any delay in achieving Substantial Completion resulting from Tenant's response to such governmental request or EXHIBIT "B" 3 63 approving such change order shall be a Tenant Delay provided for in Paragraph 9 below. 6. Construction of Tenant Improvements: After Tenant's approval of the cost estimate for Tenant's Plans, Landlord shall administer and diligently prosecute the construction of Tenant Improvements in accordance with Tenant's Plans; provided, however, that Landlord shall not be required to install any Tenant Improvements which do not conform to the plans and specifications for the Base Building, or do not conform to any applicable regulations, laws, ordinances, codes and rules; such conformity shall be the obligation of Tenant (other than mechanical, electrical, plumbing and engineering components of the Tenant Improvements that are design/build by Landlord's contractor, the conformity of which with Landlord's Plans and applicable laws shall be the obligation of Landlord). After the cost estimate has been approved by Landlord and Tenant as provided above, neither party shall have the right to require extra work or change orders with respect to the construction of the Tenant Improvements without the prior written consent of the other, which consent shall not be unreasonably withheld or delayed. All change orders shall specify any change in the cost estimate as a consequence of the change order. All Tenant Improvements shall be constructed by Landlord's contractor, which shall be a reputable, unionized general contractor, subject to approval by Tenant which approval shall not be unreasonably withheld, who will complete the work in a good and workmanlike manner and in accordance with the approved Tenant's Plans and relevant laws and codes. Subject to the limitation on the General Contractor's fee imposed by Paragraph 5, Tenant approves the use of Devcon Construction, the General Contractor for the Base Building, as the General Contractor for the Tenant Improvements. Tenant shall be entitled to receive copies of all of the general contractor's progress payment request. 7. Tenant's Contractors: Cable TV connections, telephone, data and audio-visual equipment and wiring, office equipment and computer wiring, and furniture and security equipment shall be installed by Tenant's contractors and shall conform with Landlord's contractor's schedule and work of installation and shall be handled in such a manner as to maintain harmonious labor relations and as not to interfere with or delay the work of Landlord's contractors. To the extent that any such improvements furnished and installed by Tenant's contractors cause Landlord's contractor to be dependent upon the work of Tenant's contractors in order for Landlord's contractor to complete its work, any resulting delays in Landlord's contractor's work shall be "Tenant Delays" (as defined in Paragraph 9 below). Tenant's contractors, subcontractors and labor shall be subject to approval by Landlord which approval shall not be unreasonably withheld or delayed and shall be subject to the reasonable administrative supervision of Landlord's general contractor and reasonable rules of the site. Contractors and subcontractors engaged by Tenant shall employ laborers and means to insure, so far as may be possible, the progress of the work without interruption on account of strikes, work stoppage or similar causes for delay. Landlord shall give access and entry to the Leased Premises to Tenant's contractors as may be reasonably necessary during the course of construction of the Tenant Improvements, and at various points during construction as each floor progresses, subject to the requirements of this Paragraph 7; provided, however, that if such entry is prior to the first day of the Term such entry shall be subject to all of the terms and conditions of this Lease except payment of Rent and Additional Charges and Tenant shall not be allowed to commence business in the Premises. 8. Substantial Completion/Punch List: "Substantial Completion" shall be defined as when Landlord's contractor has substantially completed all work to be performed by Landlord in EXHIBIT "B" 4 64 accordance with Tenant's Plans, subject only to (i) the completion or correction of items on a punch list to be prepared jointly by Landlord, Tenant and their respective architects which do not substantially interfere with Tenant's use or occupancy of the Premises (the "Punchlist"), (ii) a certificate of occupancy, or its equivalent, for the Premises having been obtained, (iii) all utilities having been turned on and available for use, (iv) all Building common areas having been substantially completed, and (v) Tenant having reasonable access to the Premises and use of parking to the extent required by the Lease. The items on the Punchlist shall be completed by Landlord's contractor promptly using commercially reasonable efforts. Landlord agrees to include a provision in its construction contract with its general contractor requiring retention of one hundred fifty percent (150%) of the estimated amount of the cost to complete the items on the Punchlist until the Punchlist is fully completed. 9. Tenant Delays: "Tenant Delays" shall be defined as those delays caused in achieving Substantial Completion due to: (a) Tenant's failure to submit (i) Tenant's Plans, (ii) approval of the cost estimates, or (iii) sufficient instruction to change Tenant's Plans as a result of disapproval of a cost estimate on or before the dates or time periods called for; (b) Tenant's change(s) in plans and specifications after said dates that actually delay construction, but only to the extent that Tenant received prior written notice from the Landlord of the amount of delay associated with the changes before the changes were finally approved and authorized by Tenant; (c) Tenant's request for Long Lead Time Items; (d) any delays caused by Tenant's contractors as set forth in Paragraph 7, including, without limitation, strikes, work stoppage or similar delay caused by labor disharmony between Tenant's contractors and Landlord's contractor, and delays caused by Landlord's contractor's dependence on any work done by Tenant's contractors; or (e) other delays caused by Tenant in construction; provided, however, no Tenant Delay shall be deemed to have occurred unless and until Landlord has given written notice to Tenant specifying any action or inaction which Landlord is aware of and that may cause a Tenant Delay. If Tenant does not take appropriate measures within one (1) business day after Tenant's receipt of such notice to prevent such action or inaction from occurring, then a Tenant Delay, as set forth in such notice, shall be deemed to have occurred commencing as of the date Tenant received such notice and continuing for the number of days the Substantial Completion of the Premises was in fact delayed as a direct result of such action or inaction; provided, further, that no such notice shall be required in order for Tenant Delay to be deemed to have occurred if such delay results from Tenant's failure to perform any obligation within a specific date or time period. 10. Commencement Date: The Premises shall be deemed completed and possession delivered and Tenant shall accept the Premises upon Substantial Completion. Notwithstanding anything to the contrary in the Lease, effective upon delivery of the Premises to Tenant, Landlord does hereby warrant that, (a) the construction (as opposed to the design which is Tenant's responsibility) of the Tenant Improvements was performed in accordance with all rules, regulations, codes, statutes, ordinances, and laws of all applicable governmental and quasi-governmental authorities and in a good and workman-like manner, (b) all materials and equipment installed therein was new and otherwise of good quality, (c) the electrical, plumbing, and mechanical systems servicing the Premises are in working order and in good condition, and (d) the Base Building is in good condition and water tight. The foregoing warranties shall automatically expire one year after Substantial Completion. Tenant's obligation under the Lease to pay Rent and Additional Charges EXHIBIT "B" 5 65 shall commence upon the later of (i) the Scheduled Commencement Date, as specified in the Basic Lease Information, or (ii) Substantial Completion. If Landlord shall be delayed in substantial completion as a result of Tenant Delays, then the Commencement Date, and Tenant's obligation to begin paying Base Rent and Additional Charges, shall be adjusted to reflect what the Commencement Date would have been if there had been no Tenant Delays. Notwithstanding the forgoing, if Tenant Delays occur and, as a result thereof, Landlord reasonably anticipates that Substantial Completion will not occur on or before the Scheduled Commencement Date, then at Landlord's sole election and in addition to any other remedies that may be available to Landlord under the Lease or at law or in equity, at Landlord's written request Tenant shall commence payment of Base Rent and Additional Charges on the date one month following the Scheduled Commencement Date. If Landlord makes such election, then the installment of Base Rent, and any installments of any components of Additional Charges, that are first due after Substantial Completion occurs shall be adjusted to reflect the actual Commencement Date. Landlord's election, as set forth above, shall not constitute a waiver of any default by Tenant or any other remedy available to Landlord as a result thereof, to the extent the circumstances giving rise to a Tenant Delay constitute a default by Tenant hereunder or under the Lease. Within seven (7) days after written request of Landlord, Tenant agrees to give Landlord a letter confirming the Commencement Date and certifying that Tenant has accepted delivery of the Premises and that the condition of the Premises complies with Landlord's obligations hereunder. EXHIBIT "B" 6 66 EXHIBIT "B-1" - ------------------------------------------------------------------------------- LANDLORD'S PLANS The plans and specifications related to Two Circle Star Way as drawn or assembled by Kenneth Rodrigues & Partners, Inc. as called out below: GENERAL A0.0 COVER SHEET A0.1 GENERAL INFORMATION SHEET/ 1/22/98 TITLE 24 ENERGY COMPLIANCE 1/22/98 CIVIL C0.2 STORM WATER POLLUTION PREVENTION PLAN 11/14/97 C1.1 LAYOUT AND PAVING PLAN 12/19/97 C1.2 LAYOUT AND PAVING PLAN 11/14/97 C2.1 GRADING PLAN 11/14/97 C2.2 GRADING PLAN 11/14/97 C3.1 UTILITY PLAN 11/14/97 C3.2 UTILITY PLAN 11/14/97 C4.1 DETAILS 11/14/97 C4.2 DETAILS 11/14/97 C4.3 DETAILS 12/19/97 ARCHITECTURAL A2.1 BUILDING ONE FIRST FLOOR PLAN 2/26/98 A2.2 BUILDING ONE SECOND FLOOR PLAN 1/22/98 A2.3 BUILDING ONE THIRD FLOOR PLAN 1/22/98 A2.4 BUILDING ONE FOURTH FLOOR PLAN 1/22/98 A2.5 ENLARGED CORE PLAN 1/22/98 A2.6 ENLARGED BATHROOM PLANS 1/22/98 A3.1 BUILDING ONE ROOF PLAN 1/22/98 A4.1 BUILDING ONE ELEVATIONS 2/26/98 A4.2 BUILDING ONE ELEVATIONS 1/22/98 A5.1 BUILDING SECTION 1/22/98 A5.2 TYPICAL WALL SECTIONS 1/22/98 A7.1 REFLECTED CEILING PLANS 3/5/97 A7.2 ENLARGED STAIR PLANS AND SECTIONS 1/22/98 A7.3 ENLARGED ELEVATOR PLANS AND SECTIONS 1/22/98 A7.4 DOOR AND HARDWARE SCHEDULE/ROOM 3/11/98 FINISH SCHEDULE A8.1 EXTERIOR DETAILS 1/22/98 A8.2 DOOR/WINDOW DETAILS 1/22/98 A8.3 ROOF DETAILS 1/22/98 A9.1 WALL TYPES 1/22/98 A9.2 INTERIOR DETAILS 1/22/98
EXHIBIT "B-1" 1 67 A9.3 UL ASSEMBLIES 11/14/97 STRUCTURAL S0.1 GENERAL NOTES 10/6/97 S2.1 BUILDING ONE FOUNDATION/FIRST 10/6/97 FLOOR FRAMING PLAN S2.2 BUILDING ONE 2ND FLR. FRAMING PLAN 10/6/97 S2.3 BUILDING ONE 3RD FLR. FRAMING PLAN 10/6/97 S2.4 BUILDING ONE 4TH FLR. FRAMING PLAN 10/6/97 S2.5 BUILDING ONE ROOF FRAMING PLAN 10/6/97 S2.5A BUILDING ONE ROOF SCREEN/SLAB 10/6/97 REINFORCING PLAN S3.1 TYPICAL CONCRETE DETAILS 7/23/97 S3.2 CONCRETE DETAILS NO. 1 10/6/97 S3.3 CONCRETE DETAILS NO. 2 10/6/97 S3.4 CONCRETE DETAILS NO. 3 10/6/97 S5.1 TYPICAL METAL DECK DETAILS NO. 1 10/6/97 S5.2 TYPICAL METAL DECK DETAILS NO. 2 10/6/97 S5.3 TYPICAL STEEL DETAILS 10/6/97 S5.4 COLUMN SCHEDULE AND DETAILS 10/6/97 S5.5 BRACED FRAME ELEVATIONS AND DETAILS 10/6/97 S5.6 STEEL DETAILS NO. 1 10/6/97 S5.7 STEEL DETAILS NO. 2 10/6/97 S9.1 PRECAST PANEL SUPPORT PLAN 10/6/97 S9.2 PRECAST PANEL SUPPORT PLAN 7/30/97 S9.3 PRECAST PANEL SUPPORT DETAILS 10/6/97 LANDSCAPE L-1 PHASE ONE NOTES AND LEGEND 2/6/98 L-2 PHASE ONE LAYOUT AND GRADING PLAN 2/6/98 L-3 PHASE ONE PLATING PLAN 2/6/98 L-4 PHASE ONE IRRIGATION 2/6/98 L-5 PHASE ONE DETAILS 7/28/97 L-6 PHASE ONE DETAILS 11/26/97 L-7 PHASE ONE DETAILS 2/6/98 MECHANICAL AC0.01 TITLE 24, DRAWING SCHEDULE, MANDATORY 3/10/98 MEASURES, AND GENERAL NOTES 3/10/98 AC0.02 EQUIPMENT SCHEDULE 3/10/98 AC1.01 FIRST FLOOR HVAC PLAN 3/10/98 AC1.02 SECOND FLOOR HVAC PLAN 3/10/98 AC1.03 THIRD FLOOR HVAC PLAN 3/10/98 AC1.04 FOURTH FLOOR HVAC PLAN 3/10/98 AC1.05 ROOF PLAN 3/10/98 AC1.06 ROOF COORDINATION PLAN 3/10/98 AC2.01 PIPING SCHEMATICS AND DETAILS 3/10/98
EXHIBIT "B-1" 2 68 AC7.01 WIRING AND CONTROLS 3/10/98 ELECTRICAL CIR-E0 COVER SHEET 7/23/97 CIR-SE1 SITE LIGHTING PLAN 7/23/97 CIR-SE2 SITE LIGHTING PLAN 7/23/97 CIR-E1 FIRST FLOOR LIGHTING PLAN 7/23/97 CIR-E2 SECOND FLOOR LIGHTING PLAN 7/23/97 CIR-E3 THIRD FLOOR LIGHTING PLAN 7/23/97 CIR-E4 FOURTH FLOOR LIGHTING PLAN 7/23/97 CIR-E5 FIRST FLOOR POWER PLAN 7/23/97 CIR-E6 SECOND FLOOR POWER PLAN 7/23/97 CIR-E7 THIRD FLOOR POWER PLAN 7/23/97 CIR-E8 FOURTH FLOOR POWER PLAN 7/23/97 CIR-E9 FIRST FLOOR MECHANICAL PLAN 7/23/97 CIR-E10 SECOND FLOOR MECHANICAL PLAN 7/23/97 CIR-E11 THIRD FLOOR MECHANICAL PLAN 7/23/97 CIR-E12 FOURTH FLOOR MECHANICAL PLAN 7/23/97 CIR-E13 ROOF MECHANICAL PLAN 7/23/97 CIR-E14 SINGLE LINE DIAGRAM 11/24/97 CIR-E15 PANEL SCHEDULES 7/23/97 CIR-E16 PANEL SCHEDULES 7/23/97 CIR-E17 TITLE 24 7/23/97 PLUMBING P1A 1ST FLOOR BELOW GRADE 12/18/97 P1B 1ST FLOOR ABOVE GRADE 12/18/97 P2 2ND FLOOR 12/18/97 P3 3RD FLOOR 12/18/97 P4 4TH FLOOR 12/18/97 P5 ROOF PLAN 12/18/97 FIRE ALARM SYSTEM FA-1 FIRST FLOOR BUILDING ONE 12/5/97 FA-2 SECOND FLOOR BUILDING ONE 12/5/97 FA-3 THIRD FLOOR BUILDING ONE 12/5/97 FA-4 FOURTH FLOOR BUILDING ONE 12/5/97 FA-5 ROOF PLAN BUILDING ONE 12/5/97
EXHIBIT "B-1" 3 69 EXHIBIT "B-2" - -------------------------------------------------------------------------------- MINIMUM INFORMATION REQUIRED FLOOR PLANS INDICATING: 1. Location and type of all partitions; 2. Location and type of all doors. Indicate hardware and provide keying schedule; 3. Location and type of glass partitions, windows and doors. Indicate framing if not Building Standard; 4. Location of telephone equipment room; 5. Indicate critical dimensions necessary for construction; 6. Location of all Building Standard electrical items (outlets, switches, telephone outlets). Building Standard lighting will be subject to approval by Landlord's architect and contractor; 7. Location and type of all non-Building Standard electrical items, including lighting. 8. Location and type of equipment that will require special electrical requirements. Provide manufacturer's specifications for use and operation; 9. Location, weight per square foot, and description of any exceptionally heavy equipment or filing system exceeding 50 lbs. psf live load; 10. Requirements for special air conditioning or ventilation; 11. Type and color of floor covering; 12. Location, type, and color of wall covering; 13. Locations, type and color of Building Standard and non-Building Standard paint or finishes; 14. Location and type of plumbing; 15. Location and type of kitchen equipment. EXHIBIT "B-2" 1 70 DETAILS SHOWING: 1. All millwork with verified dimensions (such dimensions to be verified by Landlord's contractor in the field) and dimensions of all equipment to be built in; 2. Corridor entrance; 3. Bracing or support of special walls, glass partitions, etc., if desired. EXHIBIT "B-2" 2 71 EXHIBIT "C" RULES AND REGULATIONS 1. Sidewalks, halls, passages, exits, entrances, elevators, escalators and stairways shall not be obstructed by Tenant or used by Tenant for any purpose other than for ingress to and egress from the Premises. The halls, passages, exits, entrances, elevators and stairways are not for the use of the general public and Landlord shall in all cases retain the right to control and prevent access thereto by all persons whose presence, in the judgement of the Landlord, shall be prejudicial to the safety, character, reputation and interests of the Building and its tenants, provided that nothing herein contained shall be construed to prevent such access to persons whom Tenant normally deals in the ordinary course of Tenant's business unless such persons are engaged in illegal activities. Tenant, and Tenant's employees or invitees, shall not go upon the roof of the Building, except as authorized by Landlord. 2. No sign, placard, picture, name, advertisement or notice visible from the exterior of the Premises shall be inscribed, painted, affixed, installed or otherwise displayed by Tenant either on the Premises or any part of the Building without the prior written consent of Landlord, and Landlord shall have the right to remove any such sign, placard, picture, name, advertisement or notice without notice to and at the expense of the Tenant. If Landlord shall have given such consent to Tenant at any time, whether before or after the execution of the Lease, such consent shall not in any way operate as a waiver or release of any of the provisions hereof or of the Lease, and shall be deemed to relate only to the particular sign, placard, picture, name, advertisement or notice so consented to by Landlord and shall not be construed as dispensing with the necessity of obtaining the specific written consent of Landlord with respect to any other such sign, placard, picture, name, advertisement or notice. All approved signs or lettering on doors and walls shall be printed, painted, affixed or inscribed at the expense of the Tenant by a person approved by Landlord. 3. The bulletin board or directory of the Building will be provided exclusively for the display of the name and location of tenants (including subtenants) only and Landlord reserves the right to exclude any other names therefrom. 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, door or patio on 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 Landlord's window coverings and shall not in any way be visible from the exterior of the Building. No articles shall be placed or kept on the window sills so as to be visible from the exterior of the Building. No articles shall be placed against glass partitions or doors which might appear unsightly from outside of Building. 5. 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 do not possess a building access card provided by Landlord or who are not accompanied by Tenant's employees. Landlord will furnish access cards to the persons for whom Tenant requests the same in writing. Tenant shall be responsible for all persons from who it requests access cards and shall be liable to Landlord for all EXHIBIT "C" 1 72 acts of such persons. 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 circumstance rendering such action advisable in Landlord's opinion, Landlord reserves the right to prevent access to the Building by closing the doors, or otherwise, for the safety of tenants and protection of the Building and property in the Building. 6. Tenant shall not employ any person or persons other than the janitor of Landlord for the purpose of cleaning the Premises unless otherwise agreed to by Landlord in writing. Except with the written consent of Landlord, no person or persons other than those approved by Landlord shall be permitted to enter the Building for the purpose of cleaning the same. Tenant shall not cause any unnecessary labor by reason of Tenant's carelessness or indifference in the preservation of good order and cleanliness of the Premises. Landlord shall not in any 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. 7. Tenant shall not obtain for use upon the Premises ice, drinking water, food, beverage, towel or other similar services except through facilities approved in writing by Landlord and under regulations fixed by Landlord, or accept barbering or bootblacking services in the Premises except from persons authorized by Landlord. Tenant may have a Lunchroom/Break room in the Premises that has a refrigerator and microwave. 8. Tenant shall see that the doors of the Premises are closed and securely locked and must observe strict care and caution that all water faucets or water apparatus are entirely shut off before Tenant or its employees leave such Premises, and that all utilities shall likewise be carefully shut off, so as to prevent waste or damage. On multiple-tenancy floors, all tenants shall keep the door or doors to the Building corridors closed at all times except for ingress and egress. 9. As more specifically provided in the Lease, Tenant shall not waste electricity, water or air conditioning and agrees to cooperate fully with Landlord to assure the most effective operation of the Building's heating and air conditioning, and shall refrain from attempting to adjust any controls other than room thermostats installed for Tenant's use. 10. Tenant shall not alter any lock or access device or install a new or additional lock or access device or any bolt on any door of the Premises without the prior written consent of Landlord. If Landlord shall give its consent, Tenant shall in each case furnish Landlord with a key for any such lock. 11. Tenant shall not make or have made additional copies of any keys or access devices provided by Landlord. Tenant, upon the termination of the tenancy, shall deliver to Landlord all the keys or access devices for the Building, offices, rooms and toilet rooms which shall have been furnished to Tenant or which Tenant shall have had made. In the event of the loss of any keys or access devices so furnished by Landlord, Tenant shall pay Landlord therefor. 12. The toilet rooms, toilets, urinals, wash bowls and other apparatus shall not be used for any purpose other than that for which they were constructed and no foreign substance of any kind EXHIBIT "C" 2 73 whatsoever shall be thrown therein, and the expense of any breakage, stoppage or damage resulting from the violation of this rule by Tenant or Tenant's employees or invitees shall be borne by Tenant. 13. Tenant shall not use or keep in the Premises or the Building any kerosene, gasoline or inflammable or combustible fluid or material other than limited quantities necessary for the operation or maintenance of office or office equipment. Tenant shall not use any method of heating or air conditioning other than supplied by Landlord. 14. Tenant shall not use, keep or permit to be used or kept in the Premises any foul or noxious gas or substance or permit or suffer the Premises to be occupied or used in a manner offensive or objectionable to Landlord or other occupants of the Building by reason of noise, odors and/or vibrations or interfere in any way with other tenants or those having business therein, nor shall any animals or birds be brought or kept in or about the Premises or the Building. 15. No cooking shall be done or permitted by Tenant on the Premises (except that use by the Tenant of Underwriter's Laboratory approved equipment for the preparation of coffee, tea, hot chocolate and similar beverages for Tenant and its employees shall be permitted, provided that such equipment and use are in accordance with all applicable federal, state and city laws, codes, ordinances, rules and regulations), nor shall Premises be used for lodging. See Paragraph 7. 16. Except with the prior written consent of Landlord, Tenant shall not sell, or permit the sale, at retail, of newspapers, magazines, periodicals, theater tickets or any other goods or merchandise in or on the Premises, nor shall Tenant carry on, or permit or allow any employee or other person to carry on, the business of stenography, typewriting or any similar business in or from the Premises for the service or accommodation of occupants of any other portion of the Building, nor shall the Premises be used for the storage of merchandise (other than incidental merchandise that Tenant may have on hand from time to time) or for manufacturing of any kind, or the business of a public barber shop or beauty parlor, nor shall the Premises be used for any improper, immoral or objectionable purpose, or any business or activity other than that specifically provided for in Tenant's Lease. 17. If Tenant requires telegraphic, telephonic, burglar alarm or similar services, it shall first obtain and comply with Landlord's reasonable instructions in their installation. 18. Landlord will direct electricians as to where and how telephone, telegraph and electrical wires are to be introduced or installed. No boring or cutting for wires will be allowed without the prior written consent of Landlord. The location of burglar alarms, telephones, call boxes and other office equipment affixed to the Premises shall be subject to the written approval of Landlord, which shall not be unreasonably withheld. 19. Tenant shall not install any radio or television antenna (not including the satellite antenna referred to in Paragraph 44 of the Lease), loudspeaker or any other device on the exterior walls or the roof of the Building. Tenant shall not interfere with radio or television broadcasting or reception from or in the Building or elsewhere. 20. Tenant shall not lay linoleum, tile, carpet or any other floor covering so that the same shall be affixed to the floor of the Premises in any manner except as approved in writing by Landlord. EXHIBIT "C" 3 74 The expense of repairing any damage resulting from a violation of this rule by Tenant or Tenant's contractors, employees or invitees or the removal of any floor covering shall be borne by Tenant. 21. The freight elevator shall be available for use by all tenants in the Building, subject to such reasonable scheduling as Landlord in its discretion shall deem appropriate. No furniture, freight, equipment, materials, supplies, packages, merchandise or other property will be received in the Building or carried up or down the elevators except between such hours and in such elevators as shall be designed by Landlord. Landlord shall have the right to prescribe the weight, size, and position of all safes, furniture or other heavy equipment brought into the Building. Safes or other heavy objects shall, if considered necessary by Landlord, stand on wood strips of such thickness as determined by Landlord to be necessary to properly distribute the weight thereof. Landlord will not be responsible for loss of or damage to any such safe, equipment or property from any cause, and all damage done to the Building by moving or maintaining any such safe, equipment or other property shall be repaired at the expense of Tenant. Business machines and mechanical equipment belonging to Tenant which cause noise or vibration that may be transmitted to the structure of the Building or to any space therein to such a degree as to be objectionable to Landlord or to any tenants in the Building shall be placed and maintained by Tenant, at Tenant's expense, on vibration eliminators or other devices sufficient to eliminate noise or vibration. The persons employed to move such equipment in or out of the Building must be acceptable to Landlord. 22. 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 and which is allowed by law. Tenant shall not mark, use double-sided adhesive tape on, or drive nails, screw or drill into, the partitions, woodwork or plaster or in any way deface the Premises or any part thereof, without repairing any resulting damage. Tenant may hang pictures on walls in the Premises. Any damage to the walls caused by molley bolts, or like hanging materials, will be repaired by Tenant. 23. 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. No other vehicles of any kind shall be brought by Tenant into or kept in or about the Premises. 24. Tenant shall store all trash and garbage within the interior of the Premises. No material shall be placed in the trash boxes or receptacles if such material is of such nature that it may not be disposed of in the ordinary and customary manner of removing and disposing of trash and garbage in the jurisdiction in which the Premises is located, 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 shall designate. 25. Canvassing, soliciting, distribution 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 tenants in the Building. EXHIBIT "C" 4 75 26. Landlord shall have the right, exercisable without notice and without liability to Tenant, to change the name and address of the Building. 27. Landlord reserves the right to exclude or expel from the Building any person who, in Landlord's judgment, is intoxicated or under the influence of liquor or drugs or who is in violation of any of the rules or regulations of the Building. 28. Without the prior written consent of Landlord, Tenant shall not use the name of the Building in connection with or in promoting or advertising the business of Tenant except as Tenant's address. Tenant may use Project's name on its stationery and business cards. 29. Tenant shall comply with all safety, fire protection and evacuation procedures and regulations established by Landlord or any governmental agency. 30. Tenant assumes any and all responsibility for protecting the Premises from theft, robbery and pilferage, which includes keeping doors locked and other means of entry to the Premises closed, unless caused by the gross negligence or willful misconduct of Landlord, its agents, servants, or employees ("Landlord Parties"). 31. The requirements of Tenant will be attended to only upon application at the office of the Building by an authorized individual. Employees of Landlord shall not perform any work or do anything outside of their regular duties unless under special instructions from Landlord, and no employees will admit any person (Tenant or otherwise) to any office without specific instructions from Landlord. 32. Landlord may waive any one or more of these Rules and Regulations for the benefit of any particular tenant or tenants, but no such waiver by Landlord shall be construed as a waiver of such Rules and Regulations in favor of any other tenant or tenants, nor prevent Landlord from thereafter enforcing any such Rules and Regulations against any or all tenants of the Building. 33. Landlord reserves the right to make such other and reasonable rules and regulations as in its judgment may from time to time be needed for safety and security, for care and cleanliness of the Building and for the preservation of good order therein. Tenant agrees to abide by all such Rules and Regulations hereinafter stated and any additional rules and regulations which are adopted. No new Rule or Regulation shall be designed to discriminate solely against Tenant. 34. 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. 35. Unless otherwise defined, terms used in these Rules and Regulations shall have the same meaning as in the Lease. EXHIBIT "C" 5 76 EXHIBIT "D" - -------------------------------------------------------------------------------- FORM OF TENANT ESTOPPEL CERTIFICATE TO: _________________, or Assignee ("Lender"), and/or whom else it may concern: THIS IS TO CERTIFY THAT: 1. The undersigned is the lessee ("Tenant") under that certain lease dated ________, 19___, ("Lease"), by and between ___________________________ as lessor ("Landlord") and _________________________________ as Tenant, covering those certain premises commonly known and designated as _________________________ ("Premises"). 2. The Lease has not been modified, changed, altered, assigned, supplemented or amended in any respect (except as indicated below; if none, state "none"). To the best of Tenant's knowledge, the Lease is not in default and is valid and in full force and effect on the date hereof. The Lease is the only Lease or agreement between the Tenant and the Landlord affecting or relating to the Premises. The Lease represents the entire agreement between the Landlord and the Tenant with respect to the Premises, ________________. 3. The Tenant is not entitled to,and has made no agreement(s) with the Landlord or its agents or employees concerning free rent, partial rent, rebate of rent payments, credit or offset or deduction in rent, or any other type of rental concession, including, without limitation, lease support payments or lease buy-outs (except as indicated below; if none, state "none"), _______________________________________________________ ____________________________________________________________________. 4. The Tenant has accepted and now occupies the Premises, and is and has been open for business since _______________, 19___. The Lease term began ___________, 19____. The termination date of the present term of the lease, excluding unexercised renewals, is ________________, 19____. 5. The tenant has paid rent for the Premises for the period up to and including ______________________, 19___. The fixed minimum rent and any additional rent (including the Tenant's share of tax increases and cost of living increases) payable by the Tenant presently is $_____________ per month. No such rent has been paid more than two (2) months in advance of its due date, except as indicated below (if none, state "none"). The Tenant's security deposit is $_______________. 6. To the best of Tenant's knowledge, no event has occurred and no condition exists which, with the giving notice or the lapse of time or both, will constitute a default under the Lease. To the EXHIBIT "D" 1 77 best of Tenant's knowledge, the Tenant has no existing defenses or offsets against the enforcement of this Lease by the Landlord, except _____________________________. 7. The Tenant has received or will receive payment or credit for tenant improvement work in the total amount $___________________ (or if other than cash, describe below; if none, state "none"). To the best of Tenant's knowledge, all conditions under this Lease to be performed to date by the Landlord have been satisfied. All required contributions by the Landlord to the Tenant on account of Tenant's tenant improvements have been received by the Tenant, except ______________________________ ____________________________________________________. 8. The Lease contains, and the Tenant has, no outstanding options or rights of first refusal to purchase the Premises or any part thereof or all or any part of the real property of which the Premises are a part. 9. No actions, whether voluntary or otherwise, are pending against the Tenant or any general partner of the Tenant under the bankruptcy laws of the United States or any state thereof. 10. The Tenant has not sublet the Premises to any sublessee and has not assigned any of its rights under the Lease, except as indicated below (if none, state "none"). No one except the Tenant and its employees occupies the Premises. ________________________________________________ ___________________. 11. The address for notices to be sent to the Tenant is as set forth in the Lease. 12. Except as otherwise provided in the Lease, the Premises have not been used and the Tenant does not plan to use the Premises for any activities which, directly or indirectly, involve the use, generation, treatment, storage, transportation or disposal of any petroleum product or any toxic or hazardous chemical, material, substance, pollutant or waste. 13. (INCLUDE THIS PARAGRAPH FOR LOAN TRANSACTIONS.) The Tenant acknowledges that all the interest of the Landlord in and to the Lease is being duly assigned to Lender, and that pursuant to the terms thereof, all rent payments under the Lease shall continue to be paid to the Landlord in accordance with the terms of the Lease unless and until the Tenant is notified otherwise in writing by Lender or its successors or assigns. It is particularly noted that: (a) Under the provisions of this assignment, the Lease cannot be terminated (either directly or by the exercise of any option which could lead to termination) or modified in any of its terms, or consent be given to the release of any party having liability thereon, without the prior written consent of Lender or it successors or assigns, and without such consent, no rent may be collected or accepted more than two (2) months in advance. (b) The interest of the Landlord in the Lease has been assigned to Lender for the purposes specified in the assignment. Lender, or its successors or assigns, assumes no duty, liability or obligation whatsoever under the Lease or any extension or renewal thereof. EXHIBIT "D" 2 78 (c) Any notices sent to Lender or its affiliates should be sent by registered mail and addressed as follows: ____________________ __________________________________. 14. Tenant agrees to give any Mortgagee and/or Trust Deed Holders (Mortgagee"), by registered mail, a copy of any notice of default served upon the Landlord, provided that prior to such notice Tenant has been notified in writing (by way of Notice of Assignment of Rents and Leases, or otherwise), of the address of such Mortgagee. Tenant further agrees that if Landlord shall have failed to cure such default within the time provided for in this Lease, then the Mortgagee shall have an additional sixty (60) days within which to cure such default of it such default cannot be cured within that time, then such additional time as may be necessary to cure such default shall be granted if within such sixty (60) days Mortgagee has commenced and is diligently pursuing the remedies necessary to cure such default (including, but not limited to, commencement of foreclosure proceedings, if necessary to effect such cure), in which event the Lease shall not be terminated while such remedies are being so diligently pursued. 15. This certification is made to induce Lender to make certain fundings, knowing that Lender relies upon the truth of this certification in disbursing said funds. 16. The undersigned is authorized to execute this Tenant Estoppel Certificate on behalf of the Tenant. DATED THIS _________________________ DAY OF ____________________________, 19___. ----------------------------------- (Tenant) By: ------------------------------- Its: -------------------------- Date: EXHIBIT "D" 3 79 The undersigned hereby certifies that the certifications set forth above are true as of the date hereof. -------------------------------------------- (Owner/Landlord) By: ----------------------------------- Its: ----------------------------- Date: ----------------------------- EXHIBIT "D" 4 80 FORM OF LETTER OF CREDIT DATE: -------------- IRREVOCABLE STANDBY LETTER OF CREDIT NUMBER ---------------- BENEFICIARY APPLICANT - ----------------------------------- ----------------------------------- - ----------------------------------- ----------------------------------- - ----------------------------------- ----------------------------------- - ----------------------------------- ----------------------------------- ATTN: ------------------------------ AMOUNT: $ -------------------------- EXPIRATION: ------------------------ We hereby establish in your favor our irrevocable standby letter of credit no. ______________ which is available with [BANK] by payment against presentation of the original of this letter of credit and your draft at sight drawn on [BANK]. This letter of credit shall be deemed automatically extended without amendment for periods of one (1) year unless at least 30 (thirty) days prior to the then current expiration date, we notify you by registered mail or overnight courier service at the above address, that we elect not to renew this letter of credit. This letter of credit is transferable. Transfer of this letter of credit is subject to our receipt of our standard form of beneficiary's instructions regarding the transfer accompanied by the original letter of credit and amendment(s) if any. Costs or expenses of such transfer shall be for the account of the beneficiary. We hereby agree with the beneficiary that the draft drawn under and in compliance with the terms of this letter of credit will be duly honored upon presentation, as specified herein. This letter of credit is subject to the uniform customs and practice for the documentary letter of credit (1993 revision) international chamber of commerce publication no. 500 and engaged us pursuant to the terms therein. EXHIBIT "F" 81 EXHIBIT "E" - -------------------------------------------------------------------------------- ENCUMBRANCES 1. Ground Lease: That certain Lease between Mozad, L.P., as Lessor and Circle Star Center Associates, L.P., as Lessee, dated October 15, 1997. 2. C, C&R's: "Declaration of Covenants, Conditions and Restrictions" dated June 24, 1997 by and between Mozad, L.P. and Homestead Village Incorporated. 3. Other: "Approved Conditional Use Permit - Office Complex, 1717 Industrial Road, San Carlos, CA 94070," effective date June 12, 1997. EXHIBIT "E" 1 82 Exhibit "G" Description of Second Building: The Second Building is the same size and a mirror image of the Building and will be located as set forth on Schedule 1 attached hereto and incorporated herein by reference. Exhibit "G" 83 [MAP of One Circle Star Way showing buildings and parking spaces] SCHEDULE 1 to EXHIBIT "G" 84 [LIBERATE LETTERHEAD] August 9, 1999 Lease Administrator Oracle Corporation 500 Oracle Parkway LGN-2 Redwood Shores, CA 94065 RE: TERMINATION OF 1000 BRIDGE PARKWAY Greetings, Pursuant to the letter (attached) dated 5/3/99 that modifies the Sublease, Furniture and Maintenance Agreements between Oracle Corporation and Network Computer (now known as Liberate Technologies) dated 9/17/97, Liberate Technologies hereby gives notice that it will invoke its option to Early Termination on Monday, 9/13/99. If you have any questions or concerns regarding this matter, please do not hesitate to contact me at 650.631.4166. Sincerely, /s/ ED AXELSEN - -------------------------------- Ed Axelsen Senior Director, Operations Cc: Oracle Legal Dept., Box 50P7 Nancy Hilker File 85 Network Computer, Inc. 1000 Bridge Parkway Redwood City, California 94065 Attn: MITCHELL KERTZMAN Ladies and Gentlemen: The purpose of this letter is to provide the terms and conditions of the early termination (the "Early Termination") of the following three agreements (collectively, the "Agreements") between Network Computer, Inc. ("NCI") and Oracle Corporation ("Oracle"): Sublease Agreement, dated September 17, 1997 (the "Sublease Agreement"), Furniture and Equipment Lease, dated September 17, 1997, as amended February 1, 1999, and Maintenance Services Agreement, dated September 17, 1997. If you agree with the terms and conditions of the Early Termination of the Agreements, please execute this letter below and return it to the undersigned. Oracle and NCI shall mutually agree on the date of the Early Termination which shall be no less than thirty (30) days, but no more than sixty (60) days, following NCI's written notice to Oracle regarding such date. Oracle and NCI agree that their respective obligations under the Agreements shall cease after the date of the Early Termination. Notwithstanding the above, NCI shall be responsible for all of its obligations under the Agreements that have accrued through the date of the Early Termination, including without limitation, NCI's obligations related to the termination of the Agreements. ORACLE CORPORATION By: /s/ [ILLEGIBLE] Name: [ILLEGIBLE] Title: VP AND CORPORATE TREASURER Network Computer, Inc. agrees with the terms and conditions of the Early Termination of the Agreements. NETWORK COMPUTER, INC. By: /s/ MITCHELL KERTZMAN Name: MITCHELL KERTZMAN Title: PRESIDENT & CEO [STAMP] [STAMP] 86 [ORACLE LETTERHEAD] TERMINATION OF GUARANTY OF LEASE This Termination of Guaranty of Lease ("Termination Agreement") is made as of September 8, 1999, by and between CIRCLE STAR CENTER ASSOCIATES, L.P., a California limited partnership ("Landlord"), and ORACLE CORPORATION, A Delaware corporation ("Guarantor"). WITNESSETH: WHEREAS, Landlord has entered into that certain Lease Agreement dated April 27, 1999 (the "Lease") with Liberate Technologies (formerly named Network Computer, Inc.) ("Tenant") for certain premises in the building located at Two Circle Star Way, San Carlos, California; and WHEREAS, in connection with the execution and delivery of the Lease, Guarantor made and entered into a Guaranty of Lease dated April 27, 1999, in favor and for the benefit of Landlord with respect to the Tenant's obligations under the Lease (the "Guaranty of Lease"); and WHEREAS, pursuant to paragraph 23 of the Guaranty of Lease, the Guaranty of Lease is to terminate upon the occurrence of certain events as specified therein (the "Termination Events"); and WHEREAS, the Termination Events have occurred and Landlord and Guarantor desire to enter into this Termination Agreement to acknowledge the termination of the Guaranty of Lease; NOW, THEREFORE, in consideration of the foregoing and other good and valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Landlord and Guarantor hereby acknowledge and agree that, as of the date hereof, the Guaranty of Lease is terminated and shall be of no further force and effect, and Guarantor is hereby released of any further liability or obligation under the Guaranty of Lease. No further notice to or approval of Guarantor shall be required under the Lease, including the provisions of paragraphs 9, 26 and 45 thereof. This Termination Agreement shall be binding upon and inure to the benefit of Landlord and Guarantor and their respective successors and assigns. This Termination Agreement shall be governed by and construed in accordance with the laws of the State of California. 87 IN WITNESS WHEREOF, Landlord and Guarantor have executed this Termination Agreement as of the day and year first above written. LANDLORD: CIRCLE STAR CENTER ASSOCIATES, L.P., a California limited partnership By: M-D VENTURES, INC., Its: General Partner /s/ JOHN MOZART -------------------------- John Mozart President GUARANTOR: ORACLE CORPORATION a Delaware corporation By: /s/ BRUCE M. LANGE -------------------------- Bruce M. Lange Treasurer ACKNOWLEDGEMENT OF LANDLORD AND TENANT Circle Star Center Associates, L.P., as Landlord, and Liberate Technologies (formerly named Network Computer, Inc.), as Tenant, under the above-described Lease hereby acknowledge the termination of the Guaranty of Lease provided for hereinabove and agree that the consent and approval of, and notice to, Guarantor shall no longer be required with respect to any actions taken, elections made or options exercised by Tenant under the Lease, including, without limitation, Paragraph 9 - Assignment and Subletting and Paragraph 45 - Second Building. LANDLORD: CIRCLE STAR CENTER ASSOCIATES, L.P., a California limited partnership By: M-D VENTURES, INC., Its: General Partner /s/ JOHN MOZART -------------------------- John Mozart President 2 88 TENANT: LIBERATE TECHNOLOGIES, a Delaware corporation By /s/ [ILLEGIBLE] --------------------------------- Its Vice President & General Counsel --------------------------------- 3 89 [ORACLE LETTERHEAD] CERTIFICATE OF OFFICER OF ORACLE CORPORATION I, the undersigned, hereby certify that I am the duly elected, qualified and acting Vice President and Treasurer of Oracle Corporation, a Delaware corporation ("Oracle"), and as such, I do hereby certify to Circle Star Center Associates, L.P., a California limited partnership ("Landlord"), pursuant to Paragraph 23 of that certain Guaranty of Lease, made as of April 27, 1999, by Oracle for the benefit of Landlord in support of the obligations of Liberate Technologies, a Delaware corporation formerly known as Network Computer, Inc. ("Tenant"), and represent and warrant to Landlord on behalf of Oracle that: Based on the information supplied by Tenant to Oracle consisting of effective registration statements filed by Tenant with the Securities and Exchange Commission and a Certificate of Tenant's Secretary, dated as of August 24, 1999 (attached hereto), on or about August 2, 1999, Tenant completed an initial public offering which resulted in Tenant raising a minimum of $40,000,000 (net available to Tenant after payment of all costs associated with such initial public offering). IN WITNESS WHEREOF, I have executed this Certificate on this 8th day of September, 1999. /s/ BRUCE M. LANGE - ---------------------------- Bruce M. Lange Vice President and Treasurer 90 [THE MOZART DEVELOPMENT COMPANY LETTERHEAD] October 11, 1999 Ed Axelsen Liberate Technologies 2 Circle Star Way San Carlos, CA 94070 Dear Ed: Please find attached a fully executed copy of the Termination of Guaranty of Lease by and between Circle Star Center Associates, L.P. (Landlord) and Oracle Corporation (Guarantor), dated September 8, 1999. Sincerely, /s/ JAMES FREITAS James Freitas jfy Attachment 91 CONFIRMATION OF ADDITION OF SECOND BUILDING Circle Star Center Associates, L.P. as "Landlord" and Liberate Technologies (previously known as Network Computer, Inc.) as "Tenant" pursuant to that certain Lease Agreement dated April 27, 1999 ("Lease") hereby confirm the following: 1. On September 8, 1999, Tenant exercised its option to lease the entire Second Building pursuant to Tenant's "First Right of Offer" set forth in Paragraph 45. 2. The "Landlord's Construction Period" pursuant to Paragraph 45(c)(2) shall be 12 weeks. 3. The "Required Amount" of the letter of credit referred to in Paragraph 32(a) and 45(c)(3)(H) shall be increased to an aggregate of $8,787,609 and is required to be increased to this amount immediately. "LANDLORD" Circle Star Center Associates, L.P., a California limited partnership By: M-D Ventures, Inc. Its: General Partner /s/ JOHN MOZART ----------------------- John Mozart, President "TENANT" Liberate Technologies, a Delaware corporation /s/ [ILLEGIBLE] [STAMP] - ---------------------------- By: ----------------------- Its: ----------------------- 92 [Building floor plan for subleased premises showing office layout] EXHIBIT B - DEPICTION OF SUBLEASED PREMISES 93 EXHIBIT C SCHEDULE OF PERSONAL PROPERTY - - Furniture o (68) Steelcase Ansur partition system 8' x 8' cubicles (powered and wired). Each cube contains: (2) Corner Surfaces, (1) "Visitor" Surface, (1) Straight Surface, 66"h x 48"w panels, (1) Overhead Shelf w/tasklight, (1) Overhead locking bin w/tasklight, (2) Fixed Pedestals. o Furniture in Offices: (20) 2-person private offices, (7) 1-person offices, (7) 3-person offices. Each office contains 30"d surfaces, (1) Overhead Bin or (1) Overhead Shelf w/tackboard and tasklight per person, (1) BBF pedestal. o (6) Conference Rooms with laminate tables various sizes o (2) Break out areas with misc. "soft" seating o (134) Steelcase Turnstone Springboard Chairs o (50) Sweeper Stacker side chairs - - Telephone System o That portion of a Lucent Definity GSI (PBX) with Lucent Intuity w/Aria Interface voicemail capable of supporting up to 140 people in a normal office environment. - - Data System o Cisco WS-6509 Catalyst Switch. Dual Power supply, 4 100 Meg EN Blades Ser. # WS-X6248-RJ-45, 2 Gig Ethernet Blades with Flash WS-X6K-SUP1A-2GE - - Wiring o All cubicles and office desks wired with (4) CAT 5 (4) pair cables configured for (3) Ethernet and (1) Telephone (splitable). Cable and components by Lucent. Installed & tested by Lucent certified contractor. - - Equipment o Copier - Minolta Di520 o Fax Machine - Panasonic DX1000 with email o Espresso Machine & Grinder - Rio Jr. SME & Rio Grinder EX-23.1 5 f60862a4ex23-1.txt EXHIBIT 23.1 1 EXHIBIT 23.1 CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS We consent to the reference to our firm under the captions "Selected Consolidated Financial Data" and "Experts" and to the use of our report dated March 2, 2000, in the Registration Statement (Form S-1 No. 333-35938) and related Prospectus of CoSine Communications, Inc. for the registration of 10,000,000 shares of its common stock. /s/ ERNST & YOUNG LLP Palo Alto, California September 1, 2000 EX-27.1 6 f60862a4ex27-1.txt FINANCIAL DATA SCHEDULE
5 1,000 YEAR 6-MOS DEC-31-1999 JUN-30-2000 JAN-01-1999 JAN-01-2000 DEC-31-1999 JUN-30-2000 20,089 44,699 34,497 44,124 0 18,044 0 0 327 7,360 56,733 128,426 9,838 23,206 (2,207) (4,857) 66,070 147,812 7,149 28,311 6,037 9,644 89,388 174,682 0 0 1 2 (38,375) (66,895) 66,070 147,812 0 7,622 0 7,622 0 7,275 0 7,275 37,679 50,345 0 0 672 1,275 (37,721) (59,536) 0 0 (38,393) (58,311) 0 0 0 0 0 0 (37,721) (59,536) (7.49) (7.19) (7.49) (7.19)
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