-----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, PgalhYxKsoY5va36HozgmmtD8A26KOe/yRoljBDmbOkKZZ42oP9NtPJiQ13k7dJ/ ilLLJDOmYfGh1rs/URYm+Q== 0000936392-98-001607.txt : 19981209 0000936392-98-001607.hdr.sgml : 19981209 ACCESSION NUMBER: 0000936392-98-001607 CONFORMED SUBMISSION TYPE: 10-12G/A PUBLIC DOCUMENT COUNT: 14 FILED AS OF DATE: 19981208 FILER: COMPANY DATA: COMPANY CONFORMED NAME: HI/FN INC CENTRAL INDEX KEY: 0001065246 STANDARD INDUSTRIAL CLASSIFICATION: SEMICONDUCTORS & RELATED DEVICES [3674] IRS NUMBER: 330732700 STATE OF INCORPORATION: DE FISCAL YEAR END: 0930 FILING VALUES: FORM TYPE: 10-12G/A SEC ACT: SEC FILE NUMBER: 000-24765 FILM NUMBER: 98765456 BUSINESS ADDRESS: STREET 1: 2105 HAMILTON AVE STREET 2: STE 230 CITY: SAN JOSE STATE: CA ZIP: 95125 BUSINESS PHONE: 4085588066 MAIL ADDRESS: STREET 1: 2105 HAMILTON AVE STREET 2: STE 230 CITY: SAN JOSE STATE: CA ZIP: 95125 10-12G/A 1 FORM 10 AMENDMENT #3 1 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 8, 1998 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ AMENDMENT NO. 3 TO FORM 10 GENERAL FORM FOR REGISTRATION OF SECURITIES Pursuant to Section 12(b) or 12(g) of the Securities Exchange Act of 1934 ------------------------ hi/fn, inc. (Exact Name of Registrant as Specified in its Charter) DELAWARE 33-0732700 (State of Incorporation or Organization) (I.R.S. Employer Identification No.)
750 UNIVERSITY AVENUE LOS GATOS, CA 95302 (Address, Including Zip Code, of Principal Executive Offices) (408) 399-3500 (Registrant's Telephone Number, Including Area Code) ------------------------ Securities to be registered pursuant to Section 12(b) of the Act: None Securities to be registered pursuant to Section 12(g) of the Act: Common Stock, par value $.001 per share (Title of Class) - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- 2 INFORMATION REQUIRED IN REGISTRATION STATEMENT CROSS-REFERENCE SHEET BETWEEN INFORMATION STATEMENT AND ITEMS OF FORM 10
ITEM NO. ITEM CAPTION LOCATION IN INFORMATION STATEMENT - ---- ------------ --------------------------------- 1. Business..................................... "SUMMARY"; "THE DISTRIBUTION -- Background and Reasons for the Distribution"; "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS"; "THE COMPANY" and "BUSINESS." 2. Financial Information........................ "SUMMARY"; "RISK FACTORS"; "SELECTED HISTORICAL FINANCIAL DATA"; "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS" and "FINANCIAL STATEMENTS." 3. Properties................................... "BUSINESS." 4. Security Ownership of Certain Beneficial Owners and Management........................ "MANAGEMENT" and "SECURITIES OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT." 5. Directors and Executive Officers............. "SUMMARY"; "RISK FACTORS" and "MANAGEMENT." 6. Executive Compensation....................... "MANAGEMENT -- Executive Compensation." 7. Certain Relationships and Related Transactions................................. "CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS." 8. Legal Proceedings............................ "BUSINESS -- Legal Proceedings." 9. Market Price of and Dividends on the Registrant's Common Equity and Related Stockholder Matters.......................... "SUMMARY"; "RISK FACTORS -- Dividend Policy" and "THE DISTRIBUTION -- Quotation and Trading of Company Common Stock; Dividend Policy." 10. Recent Sales of Unregistered Securities...... "THE COMPANY" and "CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS." 11. Description of Registrant's Securities to be Registered................................... "DESCRIPTION OF THE COMPANY'S CAPITAL STOCK." 12. Indemnification of Directors and Officers.... "MANAGEMENT -- Indemnification Agreements" and "HI/FN CERTIFICATE OF INCORPORATION AND BYLAWS." 13. Financial Statements and Supplementary Data......................................... "SUMMARY"; "SELECTED HISTORICAL FINANCIAL DATA"; "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS" and "FINANCIAL STATEMENTS."
i 3
ITEM NO. ITEM CAPTION LOCATION IN INFORMATION STATEMENT - ---- ------------ --------------------------------- 14. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure....... None. 15. Financial Statements and Exhibits............ (a) Financial Statements and Schedules (1) Financial Statements: "FINANCIAL STATEMENTS" and Schedule II. (b) Exhibits:
EXHIBIT NUMBER DESCRIPTION - ------- ----------- 3.1(1) Form of Third Amended and Restated Certificate of Incorporation of Hi/fn, Inc. (included as Annex I to the Information Statement). 3.2(1) Form of Amended and Restated Bylaws of Hi/fn, Inc. (included as Annex II to the Information Statement). 10.1(1) Amended and Restated 1996 Equity Incentive Plan of Hi/fn, Inc. (included as Annex III to the Information Statement). 10.2(2) Assignment, Assumption and License Agreement dated as of November 21, 1996 between Stac, Inc. and Hi/fn, Inc. 10.3(2) Cross License Agreement dated as of November 21, 1996 between Stac, Inc. and Hi/fn, Inc. 10.4(1) Form of Distribution Agreement. 10.5(2) Form of Employee Benefits and Other Matters Allocation Agreement. 10.6(2) Form of Tax Allocation and Indemnity Agreement. 10.7(2) Form of Transitional Services Agreement. 10.8(1) Form of Indemnification Agreement. 10.9(2) Agreement dated as of April 1, 1994 between International Business Machines Corporation and Stac, Inc. (Program Patent License Agreement). 10.10(2) Agreement dated as of April 1, 1994 between International Business Machines Corporation and Stac, Inc. (Cross License Agreement). 10.11(2) License Agreement dated as of June 20, 1994 between Microsoft Corporation and Stac, Inc. 10.12(2) License Agreement dated as of February 16, 1996 between Microsoft Corporation and Stac, Inc. 10.13(2) License Agreement dated as of December 15, 1995 between Motorola, Inc. and Stac, Inc. 10.14(1) Agreement dated as of November 13, 1997 between 750 University, LLC and Hi/fn, Inc. 10.15(1) 1998 Employee Stock Purchase Plan of Hi/fn, Inc. 10.16(1) Form of Director Change of Control Agreement. 10.17(2) Form of Employee Change of Control Agreement. 10.18(2) Promissory Note dated as of September 28, 1998 made by Hi/fn, Inc. in favor of Stac, Inc. 10.19(2) Security Agreement dated as of September 28, 1998 between Hi/fn, Inc. and Stac, Inc. 27.1(1) Financial Data Schedule.
- --------------- (1) Previously filed. (2) Filed herewith. ii 4 [STAC LETTERHEAD] December 10, 1998 Dear Stockholder: The Board of Directors of Stac, Inc. ("Stac") has approved the distribution (the "Distribution") to holders of Stac common stock, through a special dividend, of all of the common stock of hi/fn, inc. ("Hi/fn") owned by Stac. Hi/fn was organized in August 1996 to own and operate the semiconductor business previously operated as a division of Stac. Stac transferred the semiconductor business (along with the associated technology, assets and liabilities) to Hi/fn on November 21, 1996. The Board of Directors of Stac believes that the Distribution is in the best interests of Stac stockholders. The completion of the Distribution will permit each of Hi/fn and Stac to concentrate on its core business. The Board of Directors of Stac believes that the Distribution also will allow financial markets to better understand and recognize the merits of the two businesses and enhance their abilities to raise equity capital. The common stock of Stac will continue to be listed on The Nasdaq Stock Market's Nasdaq National Market (the "Nasdaq National Market"). Hi/fn has applied to have the shares of Hi/fn common stock approved for quotation and trading on the Nasdaq National Market under the symbol "HIFN." If you are a holder of Stac common stock of record at the close of business on December 1, 1998, you will receive as a dividend one share of Hi/fn common stock for every 3.9156 shares of Stac common stock you hold. On December 8, 1998, Stac received a private letter ruling from the Internal Revenue Service confirming, among other things, that the Distribution will not result in recognition of taxable income or gain to Stac or its stockholders under Section 355 of the Internal Revenue Code of 1986, as amended. The Distribution is scheduled to occur on or about December 16, 1998. We expect to mail the Hi/fn common stock certificates shortly thereafter. Stockholders of Stac on the record date must retain their Stac stock certificates which will continue to represent shares of Stac common stock. The enclosed Information Statement contains information about the Distribution and about Hi/fn. We urge you to read it carefully. Holders of Stac common stock are not required to take any action to participate in the Distribution. A stockholder vote is not required in connection with this matter and, accordingly, your proxy is not being sought. We are optimistic about the prospects for Stac and Hi/fn and appreciate your continued support. Sincerely, Gary W. Clow Chairman of the Board and Chief Executive Officer Stac, Inc. 5 INFORMATION STATEMENT HI/FN, INC. COMMON STOCK This Information Statement ("Information Statement") is being furnished in connection with the distribution (the "Distribution") to holders of common stock, par value $.001 per share ("Stac Common Stock"), of Stac, Inc., a Delaware corporation ("Stac"), of the shares of common stock, par value $.001 per share ("Company Common Stock"), of hi/fn, inc., a Delaware corporation ("Hi/fn" or the "Company"), that are currently outstanding and owned by Stac, pursuant to the terms of a Distribution Agreement to be entered into between Stac and Hi/fn (the "Distribution Agreement"). Hi/fn was organized in August 1996 to own and operate Stac's semiconductor business, which previously was operated as a division of Stac. Stac transferred the semiconductor business (along with the associated technology, assets and liabilities) to Hi/fn on November 21, 1996. See "RISK FACTORS"; "THE COMPANY" and "BUSINESS." The shares of Company Common Stock held by Stac immediately prior to the Distribution will be distributed to holders of record of Stac Common Stock as of the close of business on December 1, 1998 (the "Record Date"). As of the Record Date, there were issued and outstanding 501,475 shares of Company Common Stock, held by 26 stockholders of record including Stac, and 6,000,000 shares of the Company's Series A Preferred Stock, par value $.001 per share (the "Series A Preferred Stock"), all of which were held by Stac. As of December 4, 1998, 1,329,988 shares of Company Common Stock were issuable upon exercise of options granted under the 1996 Equity Incentive Plan of Hi/fn, Inc., as amended (the "1996 Plan"). Immediately prior to the Distribution, Stac will convert all shares of Series A Preferred Stock into Company Common Stock, resulting in Stac's owning 6,000,100 shares of Company Common Stock. Stac will distribute one share of Company Common Stock for every 3.9156 shares of Stac Common Stock held by Stac stockholders on the Record Date (the "Distribution Ratio") and will not retain any shares of Company Common Stock following the Distribution. The Distribution Ratio is determined by dividing, as of the Distribution Date, the number of shares of Stac Common Stock outstanding by the number of shares of Company Common Stock (on an as-converted basis) held by Stac. The Distribution Ratio could change prior to the Distribution if holders of options to purchase Stac Common Stock exercise such options prior to the Distribution. If such option holders exercise their options prior to the Distribution, they will be entitled to receive Company Common Stock in the Distribution. Such option holders have the right to purchase up to 1,484,377 shares of Stac Common Stock between the Record Date and the Distribution Date. If all such options were exercised, the Distribution Ratio would be 4.1629. Stac will announce the final Distribution Ratio on the Distribution Date. On December 8, 1998, Stac received a private letter ruling from the Internal Revenue Service ("IRS") confirming, among other things, that the Distribution will not result in recognition of taxable income or gain to Stac or its stockholders under Section 355 of the Internal Revenue Code of 1986, as amended (the "Code"). See "THE DISTRIBUTION -- Material Federal Income Tax Consequences of the Distribution." The date of the Distribution (the "Distribution Date") is scheduled to be on or about December 16, 1998. No consideration will be paid by holders of Stac Common Stock for shares of Company Common Stock. See "THE DISTRIBUTION -- Manner of Effecting the Distribution." There is no current trading market for the Company Common Stock, although a "when issued" market may develop prior to the Distribution Date. The Company has applied to have the shares of Company Common Stock approved for quotation and trading on The Nasdaq Stock Market's Nasdaq National Market (the "Nasdaq National Market") under the symbol "HIFN." See "THE DISTRIBUTION -- Quotation and Trading of Company Common Stock; Dividend Policy." ------------------------ NO STOCKHOLDER APPROVAL OF THE DISTRIBUTION IS REQUIRED OR SOUGHT. WE ARE NOT ASKING YOU FOR A PROXY AND YOU ARE REQUESTED NOT TO SEND US A PROXY. ------------------------ THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS INFORMATION STATEMENT. ------------------------ THIS INFORMATION STATEMENT DOES NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY ANY SECURITIES. ------------------------ Stockholders of Stac with inquiries related to the Distribution should contact John R. Witzel, Vice President of Finance, Chief Financial Officer and Secretary, Stac, Inc., 12636 High Bluff Drive, 4th Floor, San Diego, California 92130, telephone: (619) 794-4300; or Stac's stock transfer agent, American Stock Transfer & Trust Company, 40 Wall Street, New York, New York 10005. American Stock Transfer also is acting as distribution agent for the Distribution. THE DATE OF THIS INFORMATION STATEMENT IS DECEMBER 10, 1998. 6 INFORMATION STATEMENT TABLE OF CONTENTS
PAGE ---- AVAILABLE INFORMATION....................................... 2 SUMMARY..................................................... 3 RISK FACTORS................................................ 9 THE DISTRIBUTION............................................ 23 Background and Reasons for the Distribution............... 23 Fairness Opinion.......................................... 25 Distribution Agent........................................ 27 Manner of Effecting the Distribution...................... 28 Results of the Distribution............................... 28 Material Federal Income Tax Consequences of the Distribution........................................... 29 Quotation and Trading of Company Common Stock; Dividend Policy................................................. 30 Conditions; Termination................................... 30 Reasons for Furnishing the Information Statement.......... 31 RELATIONSHIP BETWEEN HI/FN AND STAC AFTER THE DISTRIBUTION.............................................. 32 REGULATORY APPROVALS........................................ 34 SELECTED HISTORICAL FINANCIAL DATA.......................... 35 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS................................. 36 THE COMPANY................................................. 42 BUSINESS.................................................... 43 MANAGEMENT.................................................. 57 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.............. 64 SECURITIES OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT................................................ 67 HI/FN CERTIFICATE OF INCORPORATION AND BYLAWS............... 68 DESCRIPTION OF THE COMPANY'S CAPITAL STOCK.................. 69 REPORT OF INDEPENDENT ACCOUNTANTS........................... F-1 GLOSSARY.................................................... G-1 ANNEX I -- THIRD AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF HI/FN.................................................. I-1 ANNEX II -- AMENDED AND RESTATED BYLAWS OF HI/FN............ II-1 ANNEX III -- AMENDED AND RESTATED 1996 EQUITY INCENTIVE PLAN OF HI/FN.................................................. III-1 ANNEX IV -- OPINION OF WARBURG DILLON READ LLC.............. IV-1
1 7 AVAILABLE INFORMATION Hi/fn has filed a Registration Statement on Form 10 (the "Registration Statement") with the Securities and Exchange Commission (the "Commission") under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), with respect to the Company Common Stock. This Information Statement does not contain all of the information set forth in the Registration Statement and the exhibits and schedules thereto. For further information, reference is made hereby to the Registration Statement and such exhibits and schedules. Statements contained herein concerning any documents are not necessarily complete and, in each instance, reference is made to the copies of such documents filed as exhibits to the Registration Statement. Each such statement is qualified in its entirety by such reference. Copies of these documents may be inspected without charge at the principal office of the Commission at 450 Fifth Street, N.W., Washington, D.C. 20549, and at the Regional Offices of the Commission at Seven World Trade Center, Suite 1300, New York, New York 10048 and at 500 West Madison Street, Suite 1400, Chicago, Illinois 60661, and copies of all or any part thereof may be obtained from the Commission upon payment of the charges prescribed by the Commission. Copies of this material also should be available through the Internet by using the SEC EDGAR Archive, the address of which is http://www.sec.gov. Following the Distribution, the Company will be required to comply with the reporting requirements of the Exchange Act and will file annual, quarterly and other reports with the Commission. The Company also will be subject to the proxy solicitation requirements of the Exchange Act and, accordingly, will furnish audited financial statements to its stockholders in connection with its annual meetings of stockholders. NO PERSON IS AUTHORIZED BY STAC OR THE COMPANY TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATIONS OTHER THAN THOSE CONTAINED IN THIS INFORMATION STATEMENT, AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATIONS MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED. Stac, Hi/fn, Replica and LZS are registered trademarks of Stac, Inc. or hi/fn, inc. All other product names are trademarks of their respective owners. 2 8 SUMMARY This Summary is qualified by the more detailed information and financial statements set forth elsewhere in this Information Statement. Capitalized terms used but not defined in this Summary are defined elsewhere in this Information Statement. Unless the context otherwise requires, references to the Company or Hi/fn prior to November 21, 1996 include the assets, liabilities and results of operations of Stac's semiconductor division and references in this Information Statement to Stac include its consolidated subsidiaries other than Hi/fn. THE DISTRIBUTION Distributing Company.......... Stac, Inc., a Delaware corporation ("Stac"). Distributed Company........... hi/fn, inc., a Delaware corporation ("Hi/fn" or the "Company"). Hi/fn was organized in August 1996 to own and operate Stac's semiconductor business, which previously was operated as a division of Stac. Stac transferred the semiconductor business (along with the associated technology, assets and liabilities) to the Company on November 21, 1996. See "RISK FACTORS"; "THE COMPANY" and "BUSINESS." The Distribution and Distribution Ratio............ As of the Record Date, there were issued and outstanding 501,475 shares of the Company's common stock, $.001 par value per share (the "Company Common Stock"), held by 26 stockholders of record including Stac, and 6,000,000 shares of the Company's Series A Preferred Stock, $.001 par value per share (the "Series A Preferred Stock"), all of which were held by Stac. Immediately prior to the Distribution, Stac will convert all shares of Series A Preferred Stock into Company Common Stock, resulting in Stac's owning 6,000,100 shares of Company Common Stock. Stac will distribute one share of Company Common Stock for every 3.9156 shares of Stac Common Stock held by Stac stockholders on the Record Date (the "Distribution Ratio"). The Distribution Ratio could change prior to the Distribution if holders of options to purchase Stac Common Stock exercise such options prior to the Distribution. If such option holders exercise their options prior to the Distribution, they will be entitled to receive Company Common Stock in the Distribution. Such option holders have the right to purchase up to 1,484,377 shares of Stac Common Stock between the Record Date and the Distribution Date. If all such options were exercised, the Distribution Ratio would be 4.1629. Stac will announce the final Distribution Ratio on the Distribution Date. Stac will not retain any shares of Company Common Stock following the Distribution. Fractional Share Interests.... Fractional shares of Company Common Stock will not be distributed. Fractional shares of Company Common Stock will be aggregated and sold in the public market by the Distribution Agent and the aggregate net cash proceeds will be distributed ratably to those stockholders entitled to fractional interests. See "THE DISTRIBUTION -- Manner of Effecting the Distribution." Shares to be Outstanding Following the Distribution.... Based on 501,475 shares of Company Common Stock and 6,000,000 shares of Series A Preferred Stock outstanding on the 3 9 Record Date, approximately 6,501,475 shares of Company Common Stock. Record Date................... December 1, 1998 (5:00 p.m. Eastern Standard Time). Distribution Date............. On or about December 16, 1998. Mailing Date.................. Certificates representing the shares of Company Common Stock to be distributed pursuant to the Distribution will be delivered to the Distribution Agent on the Distribution Date. The Distribution Agent will mail certificates representing the shares of Company Common Stock to holders of Stac Common Stock as soon as practicable thereafter. Holders of Stac Common Stock should not send stock certificates to Stac, the Company or the Distribution Agent. See "THE DISTRIBUTION -- Manner of Effecting the Distribution." Reasons for the Distribution.................. The Distribution is designed to separate the semiconductor business of Hi/fn from the software business of Stac. The Distribution will result in the formation of two publicly traded companies, each of which will pursue an independent strategic path. The Stac Board believes the separation will offer both new entities the opportunity to pursue strategic objectives appropriate to different business objectives, offer each entity the financial flexibility to raise capital on a more cost-effective basis and create targeted incentives for each company's management and key employees. Fairness Opinion.............. In connection with its approval of the Distribution, the Stac Board received an opinion from Warburg Dillon Read LLC ("WDR") to the effect that as of the date of the WDR opinion, and based on and subject to the assumptions, limitations and qualifications set forth therein, from a financial point of view, the Distribution is fair to the stockholders of Stac. See "THE DISTRIBUTION -- Fairness Opinion." The opinion of WDR is set forth in full in Annex IV hereto. Business Strategy of the Company....................... See "BUSINESS -- Business Strategy." Federal Income Tax Consequences to Stac and Stac Stockholders................ On December 8, 1998, Stac received a letter ruling from the IRS confirming that, among other things, the Distribution will not result in recognition of taxable income or gain to Stac or its stockholders under Section 355 of the Code (except to the extent of cash received in lieu of fractional shares). See "THE DISTRIBUTION -- Material Federal Income Tax Consequences of the Distribution." Trading Market................ There is currently no public market for the Company Common Stock. The Company has applied to have the Company Common Stock approved for quotation and trading on the Nasdaq National Market under the symbol "HIFN." See "THE DISTRIBUTION -- Quotation and Trading of the Company Common Stock; Dividend Policy" and "RISK FACTORS -- Absence of Prior Trading Market for Company Common Stock; Potential Volatility." 4 10 Distribution Agent and Transfer Agent and Registrar for the Company Common Stock....................... American Stock Transfer & Trust Company. Dividends..................... The Company's dividend policy will be established by the Board of Directors of the Company (the "Company Board") from time to time based on the financial condition and results of operations of the Company and such other business considerations as the Company Board considers relevant. The Company presently intends to retain future earnings to finance the growth and development of its business; therefore, the Company does not currently anticipate paying any cash dividends. Any future determination relating to dividend policy will be made at the discretion of the Company Board. See "RISK FACTORS -- Dividend Policy" and "THE DISTRIBUTION -- Quotation and Trading of Company Common Stock; Dividend Policy." Antitakeover Provisions....... The Third Amended and Restated Certificate of Incorporation of the Company (the "Company Certificate") and the Amended and Restated Bylaws of the Company (the "Company Bylaws") to be adopted by the Company prior to the Distribution, as well as Delaware statutory law, contain provisions that may have the effect of discouraging an acquisition of control of the Company not approved by the Company Board. Such provisions include Article IV of the Company Certificate which authorizes the Company Board to issue shares of preferred stock of the Company ("Company Preferred Stock"), in one or more series, without further action by Company stockholders, and to establish the rights and preferences (including the convertibility of such shares of Company Preferred Stock into Company Common Stock) of any series of Company Preferred Stock so issued. These provisions have been designed to enable the Company to develop its business and foster its long-term growth without disruptions caused by the threat of a takeover not deemed by the Company Board to be in the best interests of the Company and its stockholders. Such provisions also may have the effect of discouraging third parties from making proposals involving an acquisition or change of control of the Company, although such proposals, if made, might be considered desirable by a majority of the Company's stockholders. Such provisions could further have the effect of making it more difficult for third parties to cause the replacement of the current management of the Company without the concurrence of the Company Board. See "RISK FACTORS -- Effect of Antitakeover Provisions"; "HI/FN CERTIFICATE OF INCORPORATION AND BYLAWS"; "DESCRIPTION OF THE COMPANY'S CAPITAL STOCK" and Annexes I and II. Risk Factors.................. See "RISK FACTORS" for a discussion of factors that should be considered in connection with the Company Common Stock received in the Distribution. Such factors include: limited operating history as independent company; fluctuations in operating results, no assurance of future profitability; termination of subsidiary relationship with Stac; dependence upon development of the market for packet processors; risks associated with emerging VPN market; 5 11 frequent product introductions and evolving industry standards, rapid technological change; intensely competitive markets; dependence on growth in demand for network and storage equipment; absence of future funding commitments, need for future capital; customer concentration; product concentration; lengthy sales cycle; erosion of average selling prices; risks associated with independent manufacturers and sole-source supply; product complexity and production defects; order and shipment uncertainties; protection and enforcement of intellectual property; dependence on key personnel and hiring of additional personnel; management of growth; risks associated with expansion of international business activities; export restrictions on encryption algorithms; risks associated with potential acquisitions; cyclicality of semiconductor industry; year 2000 compliance; tax risks of the Distribution; possible conflicts with Stac after the Distribution; control by executive officers and directors; absence of prior trading market for Company Common Stock, potential volatility; effect of antitakeover provisions; shares eligible for future sale; dividend policy; dilution; and potential adverse effects of the Distribution on Stac Common Stock. Relationship with Stac after the Distribution.............. Stac will have no stock ownership in the Company upon consummation of the Distribution. For purposes of governing the ongoing relationship between the Company and Stac after the Distribution and to provide for an orderly transition, the Company and Stac have entered into or will enter into certain agreements. Such agreements include: (i) the Distribution Agreement providing for, among other things, the Distribution and certain indemnification obligations of each company to the other; (ii) an Employee Benefits Allocation Agreement, which provides for an allocation of liabilities for employee benefits between Stac and Hi/fn and sets forth formulas for adjustments to Stac options; (iii) a Tax Allocation and Indemnity Agreement pursuant to which the Company and Stac will agree to allocate tax liabilities that relate to periods prior to the Distribution Date; and (iii) a Transitional Services Agreement pursuant to which Stac will provide certain services to Hi/fn on a transitional basis. See "RELATIONSHIP BETWEEN HI/FN AND STAC AFTER THE DISTRIBUTION." Policies and Procedures for Addressing Conflicts.......... The Company and Stac intend to pursue separate and distinct business strategies to minimize potential conflicts of interest between the two companies. Nonetheless, the ongoing relationship between the Company and Stac may present conflict situations for certain directors. Certain persons will serve as directors of both the Company and Stac, and also will own (or have options or other rights to acquire) a significant number of shares of common stock in both companies. The Company and Stac will adopt appropriate policies and procedures on or prior to the Distribution Date to be followed by the Board of Directors of each company to address potential conflicts. Such procedures include requiring the persons serving as directors of both companies to abstain from voting as directors with respect to matters that present a significant conflict of interest between the companies. See "RISK FACTORS -- 6 12 Possible Conflicts with Stac after the Distribution"; "RELATIONSHIP BETWEEN HI/FN AND STAC AFTER THE DISTRIBUTION -- Policies and Procedures for Addressing Conflicts." Interests of Certain Persons in the Distribution........... Based on their ownership of Stac Common Stock, Company Common Stock and options to acquire Company Common Stock as of the Record Date, the executive officers and directors of the Company will beneficially own an aggregate of 1,610,367 shares, or approximately 22.7%, of the outstanding Company Common Stock immediately following the Distribution. See "RISK FACTORS -- Control by Executive Officers and Directors" and "SECURITIES OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT." 7 13 SUMMARY FINANCIAL DATA (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) The summary financial data of the Company has been prepared from the audited financial statements of the Company as of September 30, 1997 and 1998 and for each of the three years in the period ended September 30, 1998 as included herein. Financial information as of September 30, 1995 and 1996 and for the year ended September 30, 1995 has been prepared from audited financial statements not included herein. The financial information as of and for the year ended September 30, 1994 has been prepared from unaudited financial statements not included herein. The financial information may not reflect the Company's future performance or the future financial position or results of operations of the Company, nor does it provide or reflect data as if the Company had actually operated as a separate, stand-alone entity during the periods covered. The summary financial data should be read in conjunction with the financial statements and related notes and "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS," included elsewhere in this Information Statement. In the opinion of the Company's and Stac's management, the unaudited financial statements as of and for the year ended September 30, 1994, contain all adjustments, consisting only of normal recurring adjustments, necessary to present fairly the financial condition and results of operations for these periods.
YEAR ENDED SEPTEMBER 30, --------------------------------------------- 1994 1995 1996 1997 1998 ------ ------ ------- ------- ------- STATEMENT OF OPERATIONS DATA: Revenues........................................... $5,666 $7,342 $12,894 $14,226 $21,533 Cost of revenues................................... 2,302 2,841 5,095 4,762 6,525 ------ ------ ------- ------- ------- Gross margin....................................... 3,364 4,501 7,799 9,464 15,008 Operating expenses: Research and development........................... 564 551 1,641 2,985 5,403 Sales and marketing................................ 813 1,097 1,677 2,224 3,370 General and administrative......................... 379 492 889 1,203 2,407 ------ ------ ------- ------- ------- Operating income................................... 1,608 2,361 3,592 3,052 3,828 Interest income.................................... 16 17 ------ ------ ------- ------- ------- Provision for income taxes......................... 661 947 1,441 1,235 1,627 ------ ------ ------- ------- ------- Net income......................................... $ 947 $1,414 $ 2,151 $ 1,833 $ 2,218 ====== ====== ======= ======= ======= Net income per share, basic(1)..................... $ 0.16 $ 0.24 $ 0.36 $ 0.30 $ 0.35 Net income per share, diluted...................... $ 0.16 $ 0.24 $ 0.36 $ 0.30 $ 0.33 Weighted average shares outstanding, basic......... 6,000 6,000 6,000 6,100 6,308 Weighted average shares outstanding, diluted....... 6,000 6,000 6,000 6,174 6,800 BALANCE SHEET DATA (AS OF SEPTEMBER 30,): Cash............................................... $ -- $ -- $ -- $ 480 $ 4,084 Total assets....................................... 1,583 2,254 2,611 5,898 $16,611 Working capital (deficit).......................... (193) (223) (383) 3,520 4,723 Total stockholders' equity(2)...................... -- -- -- 4,622 6,952
- --------------- (1) Since the Company's Series A Preferred Stock represents a primary equity security, it is included in the calculation of basic net income per share. (2) The balance sheets prior to September 30, 1997 reflect Hi/fn's structure prior to its formation as a subsidiary. Periods subsequent to September 30, 1996 reflect the net assets contributed by Stac in establishing the Hi/fn subsidiary. The transfer was recorded at the historical net book value of the transferred assets and liabilities. In exchange for the net assets contributed to Hi/fn, Stac received 6,000,000 shares of Series A Preferred Stock and 100 shares of Company Common Stock. For all periods prior to fiscal 1997, net income generated by Hi/fn has been treated as if it were transferred to Stac in the form of dividends. No such dividend transfers were made for fiscal 1997 and the periods presented thereafter. 8 14 RISK FACTORS This Information Statement contains forward-looking statements within the meaning of the Securities Act of 1933, as amended (the "Securities Act"). Discussions containing such forward-looking statements may be found throughout this Information Statement, including without limitation in the materials set forth under "SUMMARY"; "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS"; "THE COMPANY" and "BUSINESS." Actual events or results may differ materially from those discussed in the forward-looking statements as a result of various factors, including without limitation the risk factors set forth below and the matters set forth in this Information Statement generally. LIMITED OPERATING HISTORY AS INDEPENDENT COMPANY On August 14, 1996, the Company was incorporated by Stac, which transferred the semiconductor business (along with the associated technology, assets and liabilities) to the Company on November 21, 1996 in exchange for 6,000,000 shares of the Series A Preferred Stock and 100 shares of Company Common Stock. The Company is a recently-formed entity with a limited operating history. There can be no assurance that the Company will not encounter financial, managerial or other difficulties as a result of its lack of operating history. In addition, due to the anticipated increases in the Company's operating expenses, particularly in the area of research and development, the Company's operating results will be adversely affected if the Company's revenues and gross margins do not increase in tandem with its increased expenses. The Company's prospects must be considered in light of the risks, challenges and difficulties frequently encountered by companies in their early stage of development, particularly companies in rapidly evolving markets such as the networking and semiconductor industries. To address these risks, the Company must, among other things, successfully increase the scope of its operations, respond to competitive developments, continue to attract, retain and motivate qualified personnel and continue to commercialize products incorporating innovative technologies. There can be no assurance that the Company will be successful in addressing these risks and challenges. FLUCTUATIONS IN OPERATING RESULTS; NO ASSURANCE OF FUTURE PROFITABILITY Fluctuations in the Company's operating results have occurred in the past and are likely to occur in the future due to a variety of factors, any of which may have a material adverse effect on the Company's operating results. In particular, the Company's quarterly results of operations may vary significantly due to general business conditions in the network, storage and semiconductor industries, changes in demand for the network and storage equipment products of the Company's customers, the timing and amount of orders from the Company's customers, changes in customer mix, cancellations or delays of customer product orders, new product introductions by the Company or its competitors, cancellations, changes or delays of deliveries of products to the Company by its suppliers, increases in the costs of products from the Company's suppliers, fluctuations in product life cycles, price erosion, competition, changes in the mix of products sold by the Company, availability of semiconductor foundry capacity, variances in the timing and amount of nonrecurring engineering fees and operating expenses, seasonal fluctuations in demand, intellectual property disputes and general economic conditions. See "-- Customer Concentration." All of the above factors are difficult for the Company to forecast, and these and other factors could have a material adverse effect on the Company's business, financial condition and results of operations. The Company has at times recognized a substantial portion of its revenues in the last month of a quarter. Since a large portion of the Company's operating expenses, including rent, salaries and capital lease expenses, is fixed and difficult to reduce or modify if the Company's revenue does not meet the Company's expectations, the adverse effect of any revenue shortfall will be magnified by the fixed nature of these operating expenses. In addition, the Company's lengthy sales cycle limits its ability to forecast accurately its future financial performance. As a result of all of the foregoing, there can be no assurance that the Company will be able to sustain profitability on a quarterly or an annual basis. Moreover, the Company believes that period-to-period comparisons are not necessarily meaningful and should not be relied upon as indicative of future operating results. The Company's operating results in a future quarter or quarters are likely to fall below the expectations of public market analysts or investors. In such event, the price of the Company's Common Stock will likely be materially adversely affected. 9 15 TERMINATION OF SUBSIDIARY RELATIONSHIP WITH STAC As a subsidiary of Stac, the Company has been able to benefit from Stac's financial strength and extensive network of business relationships with companies. The Company has drawn on this resource in developing its own contacts and relationships. After completion of the Distribution, Hi/fn will be a stand- alone company and thus will no longer be able to benefit from Stac's relationships to the same extent that it could as a majority-owned subsidiary of Stac. Although Stac and the Company will enter into certain intercompany agreements in connection with the Distribution pursuant to which Stac will continue to provide certain services to the Company, such agreements will be of short duration (generally one year) and will require the Company to begin promptly to replace services currently being provided by Stac. There can be no assurance that the Company will be able to replace such services on terms at least as favorable as those negotiated with Stac or that the termination of Stac's relationship with the Company will not adversely affect the Company's business, financial condition and results of operations. DEPENDENCE UPON DEVELOPMENT OF THE MARKET FOR PACKET PROCESSORS The Company's future prospects are dependent upon the acceptance of packet processors as an alternative to the Application Specific Integrated Circuit ("ASIC") components, software and general purpose microprocessors traditionally utilized by network and storage equipment vendors. The Company's future prospects are also dependent upon acceptance by the Company's customers of third-party sourcing for packet processors as an alternative to in-house development of such technology. Many of the Company's current and potential customers have substantial technological capabilities and financial resources and currently develop internally the ASIC components and program the general purpose microprocessors utilized in their products. These customers may in the future continue to utilize internally-developed ASIC components and general purpose microprocessors or may determine to develop or acquire components, technologies or packet processors that are similar to, or that may be substituted for, the Company's products. The Company must anticipate market trends and the price, performance and functionality requirements of such network and storage equipment vendors and must successfully develop and manufacture products that meet these requirements. In addition, the Company must make products available to such customers on a timely basis and at competitive prices. If the Company's customers fail to accept packet processors as an alternative, if they develop or acquire the technology to develop such components internally rather than purchase the Company's products, or if the Company is otherwise unable to develop strong relationships with network and storage equipment vendors, the Company's business, financial condition and results of operations would be materially and adversely affected. RISKS ASSOCIATED WITH EMERGING VPN MARKET The Company seeks to be a leading supplier of packet processors that implement the network security protocols necessary to support the deployment of Virtual Private Networks ("VPNs"). The market for networking products designed to support VPNs is still emerging, and there can be no assurance that it will continue to grow, or that even if the market grows, the Company's products that address this market will be successful. The Company's success in generating significant revenue in this evolving market will depend upon, among other things, its ability to demonstrate the benefits of its technology to potential distributors, original equipment manufacturers ("OEMs") and end users. The success of the Company's products designed to support VPNs will rely, to a large degree, on the increased use of the Internet by businesses as replacements for, or enhancements to, their private networks. There can be no assurance that businesses will develop sufficient confidence in the Internet to deploy products incorporating the Company's packet processors. The inability of the Company to penetrate the VPN market or the failure of the current VPN market to grow or new markets to develop and be receptive to the Company's products could have a material adverse effect on the Company's business, financial condition and results of operations. The emergence of the VPN market for the Company's products will be affected by a number of factors beyond the Company's control. For example, the Company's products are designed to conform to certain standards-based network security protocols. There can be no assurance that these protocols will be widely adopted or that competing protocols will not emerge that will be preferred by the Company's customers. 10 16 FREQUENT PRODUCT INTRODUCTIONS AND EVOLVING INDUSTRY STANDARDS; RAPID TECHNOLOGICAL CHANGE The networking, storage and semiconductor industries are characterized by rapidly changing technology, frequent product introductions, evolving industry standards and rapid technological change. Accordingly, the Company's future performance depends on a number of factors, including the Company's ability to: properly identify emerging target markets; identify emerging technological trends within such markets; develop and maintain competitive products; enhance its products by adding innovative features that differentiate its products from those of competitors; bring products to market on a timely basis at competitive prices and respond effectively to new technological changes or new product announcements by others. The Company's past success has been dependent in part upon its ability to develop products that have been selected for design into new products ("design wins") of leading equipment manufacturers. The development of the Company's packet processors, however, is highly complex, and from time to time the Company has experienced delays in completing the development and introduction of new products. No assurance can be given that the Company's design and introduction schedules for any additions and enhancements to its existing and future products will be met, that these products will achieve market acceptance, that the Company will be able to sell these products at average selling prices ("ASPs") that are favorable to the Company or that the Company will achieve future design wins. In evaluating new product decisions, the Company must anticipate well in advance future demand for product features and performance characteristics, as well as available supporting technologies, manufacturing capacity, competitive product offerings and industry standards. For instance, in response to the emergence of VPNs as an alternative, cost-effective network architecture, the Company has made a substantial investment in products that support the IP Security protocol (the "IPSec protocol"). The IPSec protocol is a networking protocol developed by the Internet Engineering Task Force (the "IETF") that provides data integrity and confidentiality for data transmitted over the Internet. The failure of the IPSec protocol to become an industry standard, or the emergence or evolution of new industry standards, through either adoption by official standards committees or widespread use by network equipment vendors, could require the Company to redesign its products, resulting in delays in the introduction of such products. The Company must also continue to make significant investments in research and development in order to continue to enhance the performance and functionality of its products to keep pace with competitive products and customer demands for improved performance, features and functionality. The technical innovations required for the Company to remain competitive are inherently complex and require long development cycles. Such innovations must be completed before developments in networking and storage technologies or standards render them obsolete and must be sufficiently compelling to induce network and storage equipment vendors to favor them over alternative technologies. The rapid development of new competing technologies and standards increases the risk that current or new competitors could develop products that would reduce the competitiveness of the Company's products. Moreover, the Company generally must incur substantial research and development costs before the technical feasibility and commercial viability of a product line can be ascertained. There can be no assurance that the introduction of future products or product enhancements will be timely, that revenues from future products or product enhancements will be sufficient to recover the development costs associated with such products or enhancements, or that the Company will be able to secure the financial resources necessary to fund future development. Market acceptance of new technologies or the failure of the Company to develop and introduce new products or enhancements directed at new industry standards could have a material adverse effect on the Company's business, financial condition and results of operations. INTENSELY COMPETITIVE MARKETS The networking and storage markets into which the Company sells its products are intensely competitive and are subject to frequent product introductions with improved price-performance characteristics, rapid technological change, unit price erosion and the continued emergence of new industry standards. The semiconductor industry is also intensely competitive and is characterized by rapid technological change, product obsolescence and unit price erosion. The Company's products compete with products from companies such as International Business Machines Corporation ("IBM"), VLSI Technology, Inc. ("VLSI"), Rainbow 11 17 Technologies, Inc. ("Rainbow"), Information Resource Engineering Inc. ("IRE") and Analog Devices, Inc. ("Analog Devices"). In 1994, Stac entered into two license agreements with IBM pursuant to which Stac granted IBM the right to implement, but not sublicense, the Company's patented compression technology in IBM hardware and software products. Stac also entered into a license agreement with Microsoft Corporation ("Microsoft") in 1994 pursuant to which Stac granted Microsoft the right to create software implementations of the Company's patented compression technology in Microsoft's software products. The Company also competes against software solutions that use general purpose microprocessors to run encryption algorithms and the Company's software compression libraries. The Company expects significant future competition from major domestic and international semiconductor suppliers. Several established electronics and semiconductor suppliers have recently entered or indicated an intent to enter the network equipment market. The Company also may face competition from suppliers of products based on new or emerging technologies. Furthermore, many of the Company's existing and potential customers internally develop ASICs, general purpose microprocessors and other devices which attempt to perform all or a portion of the functions performed by the Company's products. A key element of the Company's packet processor architecture is the encryption algorithms embedded in its semiconductor and software products. These products are subject to export control restrictions administered by the U.S. Department of Commerce, which permit the Company's network equipment customers to export products incorporating encryption technology only with the appropriate export license. As a result of these restrictions, foreign competitors facing less stringent controls on their encryption products could inhibit the sale of the Company's encryption/compression processors to network equipment customers in the global market. Many of the Company's current and prospective competitors offer broader product lines and have significantly greater financial, technical, manufacturing and marketing resources than the Company. As a result, they may be able to adapt more quickly to new or emerging technologies and changes in customer requirements or to devote greater resources to the promotion and sale of their products than the Company. In particular, companies such as Texas Instruments Incorporated ("Texas Instruments"), National Semiconductor Corporation ("National Semiconductor"), Lucent Technologies Inc. ("Lucent"), Intel Corporation ("Intel") and Motorola, Inc. ("Motorola") have proprietary semiconductor manufacturing ability, preferred vendor status with many of the Company's customers, extensive marketing power and name recognition, greater financial resources than the Company and other significant advantages over the Company. In addition, current and potential competitors may determine, for strategic reasons, to consolidate, to lower the prices of their products or to bundle their products with other products. Current and potential competitors have established or may establish financial or strategic relationships among themselves or with existing or potential customers, resellers or other third parties. Accordingly, it is possible that new competitors or alliances among competitors could emerge and rapidly acquire significant market share. There can be no assurance that the Company will be able to compete successfully against current and future competitors. Increased competition may result in price reductions, reduced gross margins and loss of market share, any of which could materially adversely affect the Company's business, financial condition and results of operations. The Company believes that important competitive factors in its markets are performance, price, length of development cycle, design wins with major network and storage equipment vendors, support for new network and storage standards, features and functionality, adaptability of products to specific applications, support of product differentiation, reliability, technical service and support and protection of products by effective utilization of intellectual property laws. The failure of the Company to successfully develop and market products that compete successfully with those of other suppliers in the market would have a material adverse effect on the Company's business, financial condition and results of operations. In addition, the Company must compete for the services of qualified distributors and sales representatives. To the extent that the Company's competitors offer such distributors or sales representatives more favorable terms or a higher volume of business, such distributors or sales representatives may decline to carry, or discontinue carrying, the Company's products. The Company's business, financial condition and results of operations could be adversely affected by any failure to maintain and expand its distribution network. See "BUSINESS -- Competition." 12 18 DEPENDENCE ON GROWTH IN DEMAND FOR NETWORK AND STORAGE EQUIPMENT The Company's future success is in large measure dependent on continued growth in the market for network security equipment, in particular the markets for remote access concentrators, firewalls and server network interface cards which are manufactured and sold by the Company's customers. In addition, the Company's success also depends upon storage equipment vendors incorporating the Company's packet processors into tape back-up systems. The market for these products has in the past and may in the future fluctuate significantly based upon numerous factors, including the lack of industry standards, adoption of alternative technologies, capital spending levels and general economic conditions. There can be no assurance with respect to the rate or extent to which the networking or storage equipment markets will grow, if at all, nor can there be any assurance that the Company will not experience a decline in demand for its products. Any decrease in the growth of the network or storage equipment markets or decline in demand for the Company's products could have a material adverse effect on the Company's business, financial condition and results of operations. ABSENCE OF FUTURE FUNDING COMMITMENTS; NEED FOR FUTURE CAPITAL The success of the Company's business strategy is dependent upon being able to access equity capital markets and to obtain proceeds from borrowings on terms financially advantageous to the Company. Currently the Company has no external source of financing and the Company has not received any commitment with respect to any funds needed in the future. Following the Distribution, the Company intends to access equity capital markets and may seek other financing; nevertheless, there can be no assurance that it will be able to do so at all or in amounts or on terms acceptable to the Company. Failure to obtain additional capital on acceptable terms could result in the delay or abandonment of some or all of the Company's plans and could have a material adverse effect on the Company. In the absence of such additional capital, there can be no assurance that the Company will have sufficient working capital to finance future acquisitions, to pursue business opportunities and to ensure customer, supplier and employee credibility. Stac is not obligated to provide any additional funds to the Company or to assist it in obtaining additional financing. CUSTOMER CONCENTRATION The Company's customer base is highly concentrated. A relatively small number of customers has accounted for a significant portion of the Company's revenues to date, and the Company expects that this trend will continue for the foreseeable future. The Company has been, and continues to be, substantially dependent upon sales to Quantum Corporation ("Quantum"). For example, in fiscal 1998 and 1997, sales to Quantum accounted for 70% and 61%, respectively, of the Company's revenues. Quantum is not under any binding obligation to order products from the Company, and a decline in sales to that customer would have a material adverse effect on the Company's business, financial condition and results of operations. In fiscal 1996, two customers, Quantum and Ascend Communications, Inc., accounted for 43% and 14% of the Company's revenues, respectively. The Company expects that its most significant customers in future periods could be different from its largest customers in prior periods due to a variety of factors, including customers' deployment schedules and budget considerations. As a result, the Company expects to experience significant fluctuations in its results of operations on a quarterly and an annual basis. Because limited numbers of network and storage equipment vendors account for a majority of packet processor purchases in their respective markets, the Company's future success will depend upon its ability to establish and maintain relationships with these companies. Many of the Company's current and potential customers currently develop internally the ASIC components and program the general purpose microprocessors utilized in their products as an alternative to using the Company's packet processors. There can be no assurance that current customers will continue to purchase products from the Company as opposed to developing such products internally or that the Company will be able to obtain orders from new customers. The Company's future success will depend in significant part upon the decision of the Company's current and prospective customers to continue to purchase products from the Company. If orders from current customers are cancelled, decreased or delayed, or the Company fails to obtain significant orders from new customers, or any significant customer delays payment or 13 19 fails to pay, the Company's business, financial condition and results of operations could be materially and adversely affected. The market for network equipment that would include the Company's packet processors, such as routers, remote access concentrators and firewalls, currently is dominated by a few large vendors, including Cisco Systems, Inc., Ascend Communications, Inc., 3Com Corporation and Bay Networks, Inc. The failure of such network equipment vendors to incorporate the Company's packet processors into their products could have a material adverse effect on the Company's business, financial condition and results of operations. PRODUCT CONCENTRATION The Company derives substantially all of its revenue from sales of its compression processor products that, together, accounted for 84%, 88% and 89% of revenue in the years ended September 30, 1998 and fiscal 1997 and 1996, respectively. The Company expects that its compression processor products will continue to account for a significant portion of the Company's revenue for the foreseeable future. There can be no assurance that the Company will continue to derive revenue from its compression processor products, and a decline in revenue from such products would have a material adverse effect on the Company's business, financial condition and results of operation. Moreover, the Company believes that the emergence of VPNs provides a market opportunity for the Company's packet processor products. The Company intends to leverage its expertise in the compression processor market to provide network equipment products that include both compression and encryption capability. There can be no assurance that the Company will be successful in leveraging its core compression technologies to gain market share in the network security market. The Company's future financial performance will depend in significant part on the successful development, introduction and customer acceptance of new products. See "-- New Product Development and Evolving Industry Standards; Technological Change." LENGTHY SALES CYCLE The Company sells its products to network and storage equipment vendors. The Company's sales cycle involves test and evaluation of its products by the potential customer, design of the customer's equipment to incorporate the Company's products and the customer's own sales cycle. The sales cycle for the test and evaluation of the Company's products can range from 3 to 6 months or more with an additional 9 to 18 months or more before a customer commences volume production of equipment which incorporates the Company's products. Because of this lengthy sales cycle, the Company may experience a delay between increasing expenses for research and development and sales and marketing efforts and the generation of higher revenues, if any, from such expenditures. In addition, the delays inherent in such lengthy sales cycle raise additional risks of customer decisions to cancel or change product plans, which could result in the loss of anticipated sales by the Company. Achieving a design win with a network or storage equipment vendor provides no assurance that such network or storage equipment vendor will ultimately ship products incorporating the Company's packet processors. The Company's business, financial condition and results of operations could be materially adversely affected if customers curtail, reduce or delay orders during the Company's sales cycle or choose not to release products employing the Company's packet processors. EROSION OF AVERAGE SELLING PRICES The networking, storage and semiconductor industries have experienced rapid erosion of ASPs due to a number of factors, including rapid technological change, price-performance enhancements and product obsolescence. The Company may experience substantial period-to-period fluctuations in future operating results due to ASP erosion. The Company anticipates that ASPs will decrease in the future in response to product introductions by competitors of the Company or other factors, including price pressures from significant customers. Therefore, the Company must continue to develop and introduce on a timely basis new products that incorporate features that can be sold at higher ASPs. Failure to achieve any or all of the foregoing could cause the Company's revenues and gross margins to decline, which would have a material adverse effect on the Company's business, financial condition and results of operations. 14 20 RISKS ASSOCIATED WITH INDEPENDENT MANUFACTURERS AND SOLE-SOURCE SUPPLY The Company subcontracts all manufacturing, assembly and test of its packet processors. The Company currently subcontracts its semiconductor manufacturing to Toshiba Corporation ("Toshiba"), Atmel Corporation ("Atmel") and Motorola. These suppliers currently deliver fully assembled and tested products on a turnkey basis. None of the Company's products currently is manufactured by more than one supplier. The semiconductor industry is highly cyclical and, in the past, foundry capacity has been very limited at times and may become limited in the future. The Company depends on its suppliers to deliver sufficient quantities of finished product to the Company in a timely manner. Since the Company places its orders on a purchase order basis and does not have a long-term volume purchase agreement with any of its existing suppliers, these suppliers may allocate, and in the past have allocated, capacity to the production of other products while reducing deliveries to the Company on short notice. For example, in June 1995, the Company experienced delays in obtaining an adequate supply of a now-discontinued product from one of its suppliers. As a result, the Company switched production of the product to a new manufacturer, resulting in a three-month delay in shipments to customers. The Company also experienced yield and test anomalies on a different product manufactured by another subcontractor that could have caused an interruption in customer shipments. In this case, the manufacturer was able to correct the problem in a timely manner and customer shipments were not affected. Any time the Company is required to change a key supplier or foundry, the process of qualifying the new supplier or foundry and commencing volume production involves delay and expense, which can result in lost revenues, reduced operating margins and possible detriment to customer relationships. Before a new manufacturer can begin production of a semiconductor part, the Company must (i) conform its part, if necessary, to the new manufacturer's process, (ii) create a new mask set to manufacture the part, (iii) have the new manufacturer prepare sample parts so the Company can verify the product specification and (iv) provide sample parts to customers for qualification. In general, it takes from three to six months from the time the Company begins this process with a new manufacturer before the manufacturer can begin full-scale production of the part. There can be no assurance that the Company will not have similar or more protracted problems in the future with existing or new suppliers. Both Toshiba and Motorola manufacture products for the Company in plants located in Asia. To date, the Company has not experienced any negative impact as a result of the financial and stock market dislocations that have occurred in the Asian financial markets. There can be no assurance, however, that present or future dislocations or other international business risks, such as currency exchange fluctuations or recessionary conditions, will not force the Company to seek new suppliers of its products. The Company must place orders approximately 12 to 14 weeks in advance of expected delivery. As a result, the Company has only a limited ability to react to fluctuations in demand for its products, which could cause the Company to have an excess or a shortage of inventory of a particular product. Moreover, any failure of global semiconductor manufacturing capacity to increase in line with demand could cause foundries to allocate available capacity to larger customers or customers with long-term supply contracts. The inability of the Company to obtain adequate foundry capacity at acceptable prices, or any delay or interruption in supply, could reduce the Company's product revenues or increase the Company's cost of revenues and could have a material adverse effect on the Company's business, financial condition and results of operations. The Company continuously evaluates the benefits, on a product-by-product basis, of migrating to a smaller semiconductor geometry process in order to reduce costs, and has commenced migration of certain products to smaller geometries. The Company believes that transitioning its products to increasingly smaller geometries will be important for the Company to remain competitive. No assurance can be given that future process migration will be achieved or achieved without difficulty. In the future, the Company may change its supply arrangements to assume more of the product manufacturing responsibilities. Such changes could include contracting for wafer manufacturing and subcontracting for assembly and test rather than purchasing finished product. The assumption of greater manufacturing responsibilities involves additional risks that include not only the risks discussed above, but also risks associated with variances in production yields, obtaining adequate test and assembly capacity at reasonable cost and other general risks associated with the manufacture of semiconductors. In addition, the Company 15 21 also expects that it may enter into volume purchase agreements pursuant to which the Company must commit to minimum levels of purchases and which may require up-front investments. The inability of the Company to effectively assume greater manufacturing responsibilities or manage volume purchase arrangements could have a material adverse effect on the Company's business, financial condition and results of operations. See "BUSINESS -- Manufacturing." PRODUCT COMPLEXITY AND PRODUCTION DEFECTS Products as complex as those offered by the Company frequently contain errors, defects and bugs when first introduced or as new versions are released. The Company has in the past experienced such errors, defects and bugs. Delivery of products with production defects or reliability, quality or compatibility problems could significantly delay or hinder market acceptance of such products, which could damage the Company's reputation and adversely affect the Company's ability to retain its existing customers and to attract new customers. Moreover, such errors, defects or bugs could cause problems, interruptions, delays or a cessation of sales to the Company's customers. Alleviating such problems may require significant expenditures of capital and resources by the Company. There can be no assurance that, despite testing by the Company, its suppliers or its customers, errors, defects or bugs will not be found in new products after commencement of commercial production, resulting in additional development costs, loss of, or delays in, market acceptance, diversion of technical and other resources from the Company's other development efforts, claims by the Company's customers or others against the Company or the loss of credibility with the Company's current and prospective customers. Any such event would have a material adverse effect on the Company's business, financial condition and results of operations. ORDER AND SHIPMENT UNCERTAINTIES The Company's sales generally are made pursuant to individual purchase orders that may be canceled or deferred by customers on short notice without significant penalty. Cancellation or deferral of product orders could result in the Company holding excess inventory, which could have a material adverse effect on the Company's profit margins and restrict its ability to fund its operations. The Company recognizes revenue upon shipment of products to the customer, net of an allowance for estimated returns. Should the Company encounter an unanticipated level of returns, this could have a material adverse effect on the Company's business, financial condition and results of operations. PROTECTION AND ENFORCEMENT OF INTELLECTUAL PROPERTY The Company's future success and ability to compete are dependent, in part, upon its proprietary technology. The Company relies in part on patent, trade secret, trademark, maskwork and copyright law to protect its intellectual property. The Company owns 12 United States patents and four foreign patents. The Company also has two pending patent applications in Japan. The issued patents and patent applications primarily cover various aspects of the Company's compression technology and have expiration dates ranging from 2006 to 2013. There can be no assurance that any patents will issue pursuant to the Company's current or future patent applications or that the patents issued pursuant to such patent applications will not be invalidated, circumvented or challenged, nor can there be any assurance that infringement claims will not be made by third parties in the future. Moreover, there can be no assurance that such claims, if made, will not result in costly litigation or that the Company would prevail in any such litigation or be able to license any valid and infringed patents from third parties on commercially reasonable terms, if at all. Litigation, regardless of the outcome, is likely to result in substantial cost and diversion of resources to the Company. Any infringement claim or other litigation against or by the Company could materially adversely affect the Company's business, financial condition and results of operations. There can be no assurance that any patents issued to the Company will be adequate to safeguard and maintain the Company's proprietary rights, to deter misappropriation or to prevent an unauthorized third party from copying the Company's technology, designing around the patents owned by the Company or otherwise obtaining and using the Company's products, designs or other information. In addition, there can be no assurance that others will not develop technologies that are similar or superior to the Company's technology. 16 22 Moreover, the Company claims copyright protection for certain proprietary software and documentation. The Company attempts to protect its trade secrets and other proprietary information through agreements with its customers, suppliers, employees and consultants, and through other security measures. Although the Company intends to protect its rights vigorously, there can be no assurance that these measures will be successful. Furthermore, the laws of certain countries in which the Company's products are or may be manufactured or sold may not protect the Company's products and intellectual property. See "BUSINESS -- Intellectual Property." DEPENDENCE ON KEY PERSONNEL AND HIRING OF ADDITIONAL PERSONNEL The Company's success depends to a significant degree upon the continued contributions of its key management and other personnel, many of whom would be difficult to replace. The Company does not have employment contracts with any of its key personnel and does not maintain any key man life insurance on any of its personnel. In addition, the Company believes that its success depends to a significant extent on the ability of its directors and officers to operate effectively, both individually and as a group. Several members of the Company's management team have joined the Company in the last 12 months. The Company may experience difficulty in integrating members of its management team, and there can be no assurance that the new executives will succeed in their roles in a timely and efficient manner. The Company also must attract and retain highly skilled managerial and other personnel. Competition for such personnel is intense, and there can be no assurance that the Company will be successful in attracting and retaining such personnel. The loss of the services of any key personnel, the inability to attract or retain qualified personnel in the future or delays in hiring required personnel, particularly engineers, could have a material adverse effect on the Company's business, financial condition and results of operations. In addition, companies in technology industries whose employees accept positions with competitive companies have in the past claimed that their competitors have engaged in unfair hiring practices. There can be no assurance that the Company will not receive such claims in the future as it seeks to hire qualified personnel or that such claims will not result in material litigation involving the Company. The Company could incur substantial costs in defending itself against any such claims, regardless of their merits. MANAGEMENT OF GROWTH The Company has experienced a period of rapid growth and expansion which has placed, and continues to place, a significant strain on its resources. To accommodate this growth, the Company will be required to implement a variety of new and upgraded operational and financial systems, procedures and controls, including the improvement of the accounting and other internal management systems currently provided by Stac, all of which may require substantial management effort. There can be no assurance that such efforts can be accomplished successfully. In addition, this growth as well as the Company's product development activities have necessitated an increase in the number of the Company's employees, resulting in increased responsibilities for the Company's management. There can be no assurance that the Company's systems, procedures and controls will be adequate to support the Company's operations. Any failure to improve the Company's operational, financial and management information systems, or to hire, train, motivate or manage its employees could have a material adverse effect on the Company's business, financial condition and results of operations. RISKS ASSOCIATED WITH EXPANSION OF INTERNATIONAL BUSINESS ACTIVITIES Substantially all of the Company's sales to date have been to customers located in the United States, including sales to U.S.-based affiliates of non-U.S. network equipment vendors. If the Company's international sales increase, the Company will be subject to additional risks inherent in international operations. All of the Company's international sales to date are U.S. dollar-denominated. As a result, an increase in the value of the U.S. dollar relative to foreign currencies could make the Company's products less competitive in international markets. In addition, the Company procures a portion of its manufacturing, assembly and test services from suppliers located outside the United States. International business activities may be limited or disrupted by the imposition of governmental controls, export license requirements, restrictions on the export of 17 23 encryption technology, currency exchange fluctuations, political instability, financial and stock market dislocations, trade restrictions and changes in tariffs. Demand for the Company's products also could be adversely affected by seasonality of international sales and economic conditions in the Company's primary overseas markets. These international factors could have a material adverse effect on future sales of the Company's products to international customers and, consequently, on the Company's business, financial condition and results of operations. EXPORT RESTRICTIONS ON ENCRYPTION ALGORITHMS A key element of the Company's packet processor architecture is the encryption algorithms embedded in its semiconductor and software products. These products are subject to export control restrictions administered by the U.S. Department of Commerce, which permit the Company's network equipment customers to export products incorporating encryption technology only with the appropriate export license. In addition, these U.S. export laws prohibit the export of encryption products to a number of countries deemed hostile by the U.S. government. U.S. export regulations regarding the export of encryption technology require either a transactional export license or the granting of Department of Commerce Commodity jurisdiction. As a result of these restrictions, foreign competitors facing less stringent controls on their products may be able to compete more effectively than the Company's network equipment customers in the global market. There can be no assurance that the U.S. government will approve any pending or future export license requests. Further, there can be no assurance that the list of products and countries for which export approval is required, or the regulatory policies with respect thereto, will not be revised from time to time, or that laws limiting the domestic use of encryption will not be enacted. Failure of the Company's network equipment customers to obtain the required licenses or the costs of compliance could inhibit the sale of the Company's packet processors. RISKS ASSOCIATED WITH POTENTIAL ACQUISITIONS As part of its business strategy, the Company has in the past and expects to continue to review acquisition prospects that would complement its existing product offerings, augment its market coverage or enhance its technological capabilities, or that may otherwise offer growth opportunities. While the Company has no current agreements or negotiations underway with respect to any such acquisitions, the Company may make acquisitions of businesses, products or technologies in the future. Future acquisitions by the Company, which may be effected without stockholder approval, could result in potentially dilutive issuances of equity securities, the incurrence of debt and contingent liabilities and amortization expenses related to goodwill and other intangible assets, any of which could materially adversely affect the Company's operating results and/or the price of the Company Common Stock. Acquisitions entail numerous risks, including difficulties in the assimilation of acquired operations, technologies and products, diversion of management's attention to other business concerns, risks of entering markets in which the Company has no or limited prior experience and potential loss of key employees of acquired organizations. No assurance can be given as to the ability of the Company to successfully integrate any businesses, products, technologies or personnel that might be acquired in the future, and the failure of the Company to do so could have a material adverse effect on the Company's business, financial condition and results of operations. CYCLICALITY OF SEMICONDUCTOR INDUSTRY The semiconductor industry has historically been characterized by significant downturns and wide fluctuations in supply and demand. From time to time, the industry has also experienced significant fluctuations in anticipation of changes in general economic conditions. This cyclicality has been characterized by significant variances in product demand, production capacity and accelerated erosion of unit ASPs. Industry-wide fluctuations in the future could have a material adverse effect on the Company's business, financial condition and results of operations. 18 24 YEAR 2000 COMPLIANCE Many existing computer systems and applications, and other control devices, use only two digits to identify a year in the date field, without considering the impact of the upcoming change in the century. As a result, such systems and applications could fail or create erroneous results unless corrected so that they can process data related to the Year 2000. The Company relies on its systems, applications and devices in operating and monitoring all major aspects of its business, including financial systems (such as general ledger, accounts payable and payroll modules), customer services, networks and telecommunications equipment and end products. The Company also relies, directly and indirectly, on external systems of business enterprises such as customers, suppliers, creditors, financial organizations, and of governmental entities, both domestic and international, for accurate exchange of data. Even if the internal systems of the Company are not materially affected by the Year 2000 issue, the Company could be affected by disruptions in the operation of the enterprises with which the Company interacts or Year 2000 disruptions that affect the Company's customers. Despite the Company's efforts to address the Year 2000 impact on its internal systems and business operations, there can be no assurance that such impact will not result in a material disruption of its business or have a material adverse effect on the Company's business, financial condition and results of operations. TAX RISKS OF THE DISTRIBUTION On December 8, 1998, Stac received a private letter ruling from the IRS confirming, among other things, that the Distribution will not result in recognition of taxable income or gain to Stac or its stockholders under Section 355 of the Code (except to the extent of cash received in lieu of fractional shares). See "THE DISTRIBUTION -- Material Federal Income Tax Consequences of the Distribution" and "-- Conditions; Termination." A tax ruling, while generally binding upon the IRS, is subject to certain factual representations and assumptions. If the factual representations and assumptions made by Stac were incorrect in a material respect, the rights of taxpayers to rely on a tax ruling or Stac's ability to rely on the tax opinion would be jeopardized. Stac is not aware of any facts or circumstances which would cause such representations and assumptions to be untrue. If the Distribution were not to constitute a tax-free spin-off, then Stac would be treated as recognizing a taxable gain equal to the difference between (i) the fair market value of the distributed Company Common Stock on the Distribution Date and (ii) Stac's adjusted basis of such Company Common Stock. In addition, under the consolidated tax return rules of the Code, each member of Stac's consolidated group (including Hi/fn) would be severally liable for such tax liability. This resulting tax liability would have a material adverse effect on the cash flows, business, financial condition and results of operations of Stac and possibly Hi/fn. Furthermore, if the Distribution were not to qualify under Section 355 of the Code, each stockholder of Stac who receives shares of Company Common Stock in the Distribution would be treated as if such stockholder had received a taxable distribution in an amount equal to the fair market value of Company Common Stock received, which would result in (i) a dividend to the extent of such stockholder's pro rata share of Stac's current and accumulated earnings and profits, (ii) a reduction in such stockholder's basis in such holder's shares of Stac Common Stock to the extent that the amount received exceeds such stockholder's share of earnings and profits and (iii) a gain from the deemed sale or exchange of such shares of Stac Common Stock to the extent the amount received exceeds both such stockholder's share of earnings and profits and such stockholder's basis in such shares of Stac Common Stock. Under recently enacted Section 355(e), if the Distribution were considered to be part of a plan or series of related transactions (a "Plan") in which, after the Distribution, a 50% or greater interest in Hi/fn or Stac were acquired by one or more persons, the IRS would claim that the Distribution was taxable at the corporate level (although it would remain tax-free to the Stac stockholders). Although neither Stac nor Hi/fn believes the Distribution is part of a Plan to effect a 50% change in ownership of either Stac or Hi/fn, the IRS has issued no guidance on the definition of a Plan and for the first two years following the Distribution, any cumulative 50% change of ownership within the two-year period will be rebuttably presumed to be pursuant to a Plan. See "THE DISTRIBUTION -- Material Federal Income Tax Aspects of the Distribution." 19 25 POSSIBLE CONFLICTS WITH STAC AFTER THE DISTRIBUTION Conflicts of interest may arise between Stac and Hi/fn in a number of areas relating to their past and ongoing relationships, including potential competitive business activities, tax and employee benefit matters, indemnity arrangements and the existence of certain dual management capacities of directors who continue to serve both companies. See "RELATIONSHIP BETWEEN STAC AND HI/FN AFTER THE DISTRIBUTION -- Policies and Procedures for Addressing Conflicts." Currently, two individuals are members of the Board of Directors of both Stac and Hi/fn. Directors of Stac who are also directors of Hi/fn may have conflicts of interest with respect to matters potentially or actually involving or affecting Stac and Hi/fn. There can be no assurance that conflicts will be resolved without detriment to the interests of one company or the other. Further, although neither Stac nor Hi/fn presently intends to engage in the businesses presently conducted by the other, neither company is contractually obligated not to do so, except for the provision in the Cross License Agreement between Stac and Hi/fn prohibiting Stac from creating any hardware implementations of the technology subject to the license or selling the software subject to the license as a stand-alone product for a period of ten years from the date of the Cross License Agreement. See "RELATIONSHIP BETWEEN STAC AND HI/FN AFTER THE DISTRIBUTION -- Policies and Procedures for Addressing Conflicts." CONTROL BY EXECUTIVE OFFICERS AND DIRECTORS Based solely on their ownership of Stac Common Stock, Company Common Stock and options to acquire Company Common Stock as of the Record Date, the executive officers and directors of the Company will beneficially own an aggregate of 1,610,367 shares, or approximately 22.7%, of the outstanding Company Common Stock immediately following the Distribution. See "SECURITIES OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT." Such persons will have substantial influence over the Company and on the outcome of matters submitted to the Company's stockholders for approval. In addition, such ownership could discourage acquisition of Company Common Stock by potential investors, and could have an antitakeover effect, possibly depressing the trading price of the Company Common Stock. ABSENCE OF PRIOR TRADING MARKET FOR COMPANY COMMON STOCK; POTENTIAL VOLATILITY There is no existing market for the Company Common Stock. Although the Company has applied for quotation and trading of the Company Common Stock on the Nasdaq National Market, no assurance can be given that an active trading market for the Company Common Stock will develop following the Distribution or, if developed, that any such market will be sustained. In the absence of a public trading market, an investor may be unable to liquidate his investment in the Company. Prices at which the Company Common Stock may trade cannot be predicted. Nothing herein should be construed to suggest that the trading price of Stac Common Stock at any point in time may be used as a substitute for the trading price of Company Common Stock. The prices at which the Company Common Stock trades will be determined by the marketplace and may be influenced by many factors, including, among others, the success of the Company's business, the depth and liquidity of the market for the Company Common Stock, investor perception of the Company and its assets, the Company's dividend policy, and general economic and market conditions. The depth and liquidity of the market for the Company Common Stock may be affected by the aggregate beneficial ownership by executive officers and directors of the Company of approximately 15.4% of the Company Common Stock immediately following the Distribution. See "-- Control by Executive Officers and Directors." The prices at which the Company Common Stock trades also may be affected by certain provisions of the Company Certificate and the Company Bylaws, as each will be in effect following the Distribution, which may have an antitakeover effect. See "-- Effect of Antitakeover Provisions." In addition, in recent years the stock market in general, and the market for shares of high technology, networking, storage and semiconductor companies in particular, have experienced extreme price fluctuations, which have often been unrelated to the operating performance of affected companies. The trading price of the Company Common Stock is expected to be subject to extreme fluctuations in response to both business-related issues, such as quarterly variations in operating results, announcements of new products by the Company or its competitors, the gain or loss of significant network or storage equipment vendor customers, 20 26 and stock market-related influences, such as changes in analysts' estimates, the presence or absence of short-selling of the Company Common Stock and events affecting other companies that the market deems to be comparable to the Company. Moreover, technology stocks have from time to time experienced extreme price and volume fluctuations that often have been unrelated or disproportionate to the operating performance of these companies. These broad market fluctuations may adversely affect the market price of the Company Common Stock. EFFECT OF ANTITAKEOVER PROVISIONS Certain provisions of the Company Certificate and Company Bylaws, as each will be in effect following the Distribution, and of Delaware law could discourage potential acquisition proposals and could delay or prevent a change in control of the Company. Such provisions could diminish the opportunities for a stockholder to participate in tender offers, including tender offers at a price above the then current market value of the Company Common Stock. Such provisions may also inhibit increases in the market price of the Company Common Stock that could result from takeover attempts. The Company Certificate authorizes 10,000,000 shares of undesignated Company Preferred Stock. The Company Board, without further stockholder approval, may issue this Company Preferred Stock with such terms as the Board of Directors may determine, which could have the effect of delaying or preventing a change in control of the Company. The issuance of Company Preferred Stock could also adversely affect the voting power of the holders of Company Common Stock, including the loss of voting control to others. Such Company Preferred Stock could be utilized to implement, without stockholder approval, a stockholders' rights plan that could be triggered by certain change in control transactions, which could delay or prevent a change in control of the Company or could impede a merger, consolidation, takeover or other business combination involving the Company, or discourage a potential acquiror from making a tender offer or otherwise attempting to obtain control of the Company. The Company has no current plans to issue shares of Company Preferred Stock. The Company Bylaws and indemnification agreements provide that the Company will indemnify officers and directors against losses that they may incur in legal proceedings resulting from their service to the Company. In addition, the Company's charter documents provide for a classified Board of Directors and eliminate the right of stockholders to call special meetings of stockholders and to take action by written consent. Moreover, Section 203 of the Delaware General Corporation Law restricts certain business combinations with "interested stockholders" as defined by that statute. The provisions of the Company Certificate and of Delaware law are intended to encourage potential acquirors to negotiate with the Company and allow the Board the opportunity to consider alternative proposals in the interest of maximizing stockholder value. However, such provisions may also have the effect of discouraging acquisition proposals or delaying or preventing a change in control of the Company, which in turn may have an adverse effect on the market price of the Company Common Stock. See "HI/FN CERTIFICATE OF INCORPORATION AND BYLAWS." SHARES ELIGIBLE FOR FUTURE SALE The approximately 6,000,100 shares of Company Common Stock distributed to Stac stockholders in the Distribution will be freely transferable, except for the shares distributed to persons who may be deemed to be "affiliates" of the Company under the Securities Act. Such affiliates will be permitted to sell their shares of Company Common Stock pursuant to Rule 144 under the Securities Act immediately following the Distribution, subject to certain volume limitations, manner of sale limitations, notice requirements and the availability of current public information about the Company. In addition, immediately following the Distribution, options to purchase 1,329,988 shares of Company Common Stock will be outstanding under the 1996 Plan. See "MANAGEMENT -- Hi/fn Equity Plans." The Company intends to file a Registration Statement on Form S-8 with respect to such shares following the Distribution. Consequently, shares issued pursuant to the exercise of options granted under the 1996 Plan will be freely transferable without restriction, subject, in the case of sales by affiliates, to compliance with Rule 144. The Company is unable to estimate the number of shares that may be sold in the future by its stockholders or the effect, if any, that sales of shares by such stockholders will have on the market price of the 21 27 Company Common Stock prevailing from time to time. Sales of substantial amounts of Company Common Stock, or the prospect of such sales, could adversely affect the market price of the Company Common Stock. DIVIDEND POLICY The future payment of dividends by the Company will depend on decisions that will be made by the Company Board from time to time based on the results of operations and financial condition of the Company and such other business considerations as the Company Board considers relevant. The Company presently anticipates that it will retain all available funds for use in the operation and expansion of its business and does not anticipate paying any dividends in the foreseeable future. See "THE DISTRIBUTION -- Quotation and Trading of Company Common Stock; Dividend Policy." DILUTION Following the Distribution, the Company intends to access the capital markets and may seek other financing through the issuance and sale of equity securities See "-- Absence of Future Funding Commitments; Need for Further Capital." Moreover, as of December 4, 1998, the Company had authorized options to purchase 3,049,900 shares of Company Common Stock under the 1996 Plan, 501,375 of which had been issued upon exercise of options and 1,329,988 of which were subject to options. Any such issuances, including the exercise of any outstanding options, may significantly dilute the interests of the existing holders of Company securities, including the Company Common Stock. POTENTIAL ADVERSE EFFECTS OF DISTRIBUTION ON STAC COMMON STOCK After the Distribution, the Stac Common Stock will continue to be traded on the Nasdaq National Market. As a result of the Distribution, the trading price of Stac Common Stock is expected to be lower than the trading price of Stac Common Stock prior to the Distribution to reflect the value of the Company Common Stock distributed to holders of Stac Common Stock as of the record date. The combined trading prices of Stac Common Stock and Company Common Stock after the Distribution may be less than, equal to or greater than the trading prices of Stac Common Stock prior to the Distribution. In addition, until the market has fully analyzed the operations of Stac without the Company's assets, the price at which the Stac Common Stock trades may fluctuate significantly. 22 28 THE DISTRIBUTION BACKGROUND AND REASONS FOR THE DISTRIBUTION The Distribution is designed to separate the semiconductor business of Hi/fn from the software business of Stac. The Distribution will result in the formation of two publicly traded companies, each of which will pursue an independent strategic path. The Stac Board believes the separation will offer both new entities the opportunity to pursue strategic objectives appropriate to different business objectives, offer each entity the financial flexibility to raise capital on a more cost-effective basis and create targeted incentives for each company's management and key employees. The Stac Board considered the following in making its decision to approve the Distribution: Business and Market Rationale The Distribution will enable two companies with distinct strategic, financial and operating goals to adopt strategies and pursue objectives appropriate to their respective core businesses. The Distribution will allow each entity to pursue its corporate objectives independent of the operations and policies of the other. Following the Distribution, Stac will continue to focus on its software business. The Company, in turn, will focus on its semiconductor business. Access to Equity Capital The Company intends to engage in a public offering of Company Common Stock as soon as possible following the Distribution, assuming business and market conditions support such an offering. Stac also may elect to raise additional capital after the Distribution. The Stac Board believes that, as independent publicly traded entities, Stac and the Company will each have greater flexibility in their ability to raise equity capital and will be able to more efficiently pursue their respective capital raising strategies in both the private and public markets. In the near term, the Company will have substantial cash needs for (i) working capital, (ii) funding the continued expansion of its business and (iii) maintaining sufficient cash reserves to ensure customer, supplier and employee credibility. In order to compete with its larger, direct competitors, the Company will need to raise additional capital to fund its growing inventory and accounts receivable balances, fund increased technology research and development, fund technology acquisitions and fund an increased marketing and sales infrastructure. Stac's existing cash is not available to the Company, except for limited debt or equity financing prior to the Distribution. Stac intends to utilize its cash to fund its continued development, marketing and sales efforts with respect to its Replica product line. Further, Stac anticipates that with increasing advances in technology, it will need to fund acquisitions of technology to be able to successfully compete in the marketplace. The Stac Board believes that the Company's ability to raise capital will be enhanced to the extent that the investment community can evaluate the Company on a stand-alone basis. Market analysts are increasingly focusing their coverage on specific types of businesses, such as semiconductor or software. As a result of this tendency for analysts to specialize, there are few analysts that have the industry expertise to value both the semiconductor and software components of Stac and the Company as a combined entity. Accordingly, representative analyst coverage for Stac has been extremely low compared to other software and semiconductor companies. The Stac Board believes this lack of sufficient and reliable analyst coverage significantly impairs Stac's and the Company's abilities to raise capital efficiently and effectively. Management Focus and Employee Incentives The Distribution will enable both companies to focus on their respective businesses. Stac's software business and the Company's semiconductor business are sufficiently distinct in terms of technology, stage of product development and commercialization, market focus and other factors such that it is more advantageous for both to operate and be managed as separate entities. The Distribution is expected to allow management and employees of each company to focus on their respective paths of innovation in product development and 23 29 marketing, thereby enhancing the ability of each to optimize productivity and growth. In addition, the Distribution is intended to allow each company to provide both management and employees with targeted equity compensation arrangements thereby optimizing the economic incentives each entity will be able to provide its employees. Attraction and Retention of Key Employees The Company competes for talented managers and skilled employees in California's Silicon Valley against other large, established semiconductor companies and against venture capital-funded technology start-ups that traditionally provide significant stock options to key employees. Given this competition, the Stac Board believes it is critical to provide a structure that will be attractive to employees and provide them with opportunities similar to those offered to them by other companies in Silicon Valley. The Stac Board believes that to attract talented and skilled employees, a company must provide equity-based compensation in a stand-alone entity to provide opportunities for employees and management to maximize the value of their equity interests through their actions. To date, Stac has attempted to achieve such goals with limited success. As an interim solution, Stac created the Company as a separate legal entity and established the 1996 Plan. This approach established a direct link between employee compensation and the semiconductor division's operations. However, the Company's status as a subsidiary of Stac has limited the flexibility and perceived independence of the Company's management to operate the Company and its ability to maximize the value of the Company's equity. In addition, the absence of a market for the Company's shares limits liquidity for option holders. Without registered shares and a ready market, Company employees face the prospect of having to pay substantial withholding tax upon exercise of options without a ready means of obtaining cash to pay such tax. The Stac Board believes that for Stac and the Company to succeed in two highly competitive and rapidly changing areas, they must be able to hire and retain experts in the software and semiconductor fields. In order to do this, they must be able to offer those employees the types of positions and compensation incentives that stand-alone public companies can offer candidates. Specifically, Stac and the Company must be able to offer compensation that (i) is linked directly to the separate performance of the software and semiconductor businesses, (ii) provides maximum liquidity to the employees and (iii) provides operational freedom and incentive to grow the two businesses independently. Alternatives to Spin-off Transaction In December 1997, Stac retained Warburg Dillon Read LLC ("WDR") to provide advisory services regarding the possible separation of Stac and Hi/fn. Stac also sought WDR's advice, from a financial perspective, as to the various alternatives available to it to obtain the financing and operational environment necessary to enable it to maximize the likelihood of the success of its two business units. With input from WDR, the Stac Board concluded that Stac's corporate structure did not represent an acceptable structure for the Company to obtain the financial resources needed to fully carry out its business plans and that no alternative to a spin-off represented a viable option for the Company to achieve its business objectives. In particular, the Stac Board, with input from WDR, examined the possibility of (i) Hi/fn conducting an initial public offering of less than 100% of its outstanding shares, (ii) the sale or merger of Hi/fn, (iii) the creation and distribution of a tracking stock for Hi/fn and (iv) the establishment of stock appreciation rights for employees of Hi/fn. The Board determined that these alternatives involved a variety of problems and failed to address many of the Company's objectives. First, an initial public offering of Hi/fn would leave Stac as a majority owner of Hi/fn. This controlling position maintained by Stac would likely impair the attractiveness of the Company Common Stock to prospective employees as well as investors, and could result in a discounted valuation in the public markets due to the perceived overhang of this large block. Second, the Stac Board believed that Stac might not get full value in a sale or merger of Hi/fn because the market for Hi/fn's products directed to the networking market had not yet been established. Moreover, the sale of the Hi/fn stock by Stac could cause an onerous tax burden for Stac. Third, the Stac Board believed that the creation of a separate tracking stock 24 30 would, in addition to being unattractive to prospective employees and directors, be too complex in light of the relatively small size of Hi/fn. Finally, the creation of stock appreciation rights ("SARs") or "phantom stock" for Hi/fn employees tied to the performance of the Hi/fn subsidiary also would not be a viable alternative to prospective employees. In addition, upon financial consolidation, the use of SARs or phantom stock could result in an unacceptable level of compensation expense, which could impair the valuation of Stac and thus Stac's access to the capital markets. Following this analysis, the Stac Board concluded that a spin-off was the only viable alternative to enable Stac to address its employee recruiting and financial needs and maximize stockholder value. FAIRNESS OPINION In connection with its analysis of the Distribution, the Stac Board sought independent advice from WDR as to the advisability from a financial perspective of completing a spin-off of the Company from Stac. Based on its analyses, WDR determined that the Stac Board had a reasonable basis for concluding that the spin-off would create greater value for stockholders than maintaining the Company as a subsidiary of Stac and delivered a written opinion (the "WDR Opinion") to the Stac Board dated July 17, 1998, to the effect that, as of the date of the WDR Opinion and based on and subject to the assumptions, limitations and qualifications set forth therein, from a financial point of view, the Distribution is fair to the stockholders of Stac. THE FULL TEXT OF THE WDR OPINION IS ATTACHED AS ANNEX IV TO THIS INFORMATION STATEMENT AND IS INCORPORATED HEREIN BY REFERENCE. REFERENCE SHOULD BE MADE TO THE WDR OPINION FOR ASSUMPTIONS MADE, PROCEDURES FOLLOWED AND OTHER MATTERS CONSIDERED BY WDR. THE SUMMARY OF THE WDR OPINION SET FORTH HEREIN IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO THE FULL TEXT OF THE WDR OPINION. No limitations were imposed by Stac on the scope of WDR's investigation or the procedures to be followed by WDR in rendering its opinion. In arriving at its opinion, WDR did not ascribe a specific range of values to Stac, but rather made its determination as to the fairness of the Distribution to the Stac stockholders, from a financial point of view, on the basis of the financial and comparative analyses described below. The WDR Opinion is for the use and benefit of the Stac Board and was rendered to the Stac Board in connection with its consideration of the Distribution. WDR was not requested to opine as to, and its opinion does not address, Stac's underlying business decision to proceed with or effect the Distribution. In arriving at its opinion, WDR reviewed and analyzed: (i) the terms of the Distribution, (ii) Stac's annual report on Form 10-K for the year ended September 30, 1997 and such other publicly available information concerning Stac that WDR believed to be relevant to its analysis, (iii) financial and operating information with respect to the business, operations and prospects of Stac and the Company, furnished to WDR by Stac and the Company, (iv) a trading history of Stac Common Stock and a comparison of that trading history with those of other companies that WDR deemed relevant, (v) a comparison of the historical financial results and present financial condition of Stac with those of other companies that WDR deemed relevant and (vi) a comparison of the historical financial results and present financial condition of the Company with those of other companies that WDR deemed relevant. In addition, WDR had discussions with the management of both Stac and the Company concerning the businesses, operations, assets, financial conditions and prospects of Stac and the Company (including on a pro forma basis) and undertook such other studies, analyses and investigations as it deemed appropriate. In arriving at its opinion, WDR assumed and relied upon the accuracy and completeness of the financial and other information used by it without assuming any responsibility for independent verification of such information and further relied upon the assurances of management of Stac that they were not aware of any facts or circumstances that would make such information inaccurate or misleading. With respect to the financial projections of Stac and the Company following the Distribution, upon advice of Stac, WDR assumed that such projections were reasonably prepared on a basis reflecting the best currently available estimates and judgments of the management of Stac and the Company as to the future financial performance of Stac and the Company and that Stac and the Company will perform substantially in accordance with such projections. In 25 31 arriving at its opinion, WDR did not make or obtain any evaluations or appraisals of the assets or liabilities of Stac or the Company, nor did WDR express any opinion as to the fairness of the allocation of assets and liabilities between the two entities. Moreover, WDR did not express any opinion as to the commercial viability of Stac and the Company operated separately following the Distribution. WDR has assumed that the Distribution will be a tax-free transaction to the stockholders of Stac. The WDR Opinion necessarily is based upon forecast financial information provided by Stac and the Company to WDR as well as market, economic and other conditions as they exist on, and can be evaluated as of, the date of the WDR Opinion. The process by which securities trading markets establish a market price for any security is complex, involving the interaction of numerous factors, and market prices will fluctuate with changes of, among other factors, the financial condition, business and prospects of the issuer and comparable companies and economic and financial market conditions. In addition, trading in shares of the Company Common Stock will likely be characterized by a period of redistribution among stockholders of Stac who receive such shares in the Distribution, which may temporarily depress the market price of such shares during such period. Accordingly, WDR expresses no opinion as to the prices at which shares of Stac Common Stock or Company Common Stock actually will trade following the consummation of the Distribution. The WDR Opinion should not be viewed as providing any assurances that the combined market value of the shares of Stac Common Stock after consummation of the Distribution and the shares of Company Common Stock to be received by a stockholder of Stac pursuant to the Distribution will be in excess of the market value of the shares of Stac Common Stock owned by such stockholder at any time prior to announcement of consummation of the Distribution. The following is a summary of the material financial and comparative analyses performed by WDR and presented to the Stac Board. Comparable Company Analysis. WDR compiled financial and stock market statistics for a number of comparable software and semiconductor companies for both Stac and the Company. Such financial information and operating statistics included, among other things, historical and current stock prices, certain historical profitability margins, certain historical and projected growth rates, market values of equity, and implied multiples of historical and estimated earnings per share ("EPS"). For Stac, these comparable companies were divided into: (i) back-up and disaster recovery software companies, such as Veritas Software Corporation, Legato Systems, Inc. and Computer Associates International, Inc. and (ii) remote control software companies, such as Symantec Corporation. No single company or group of companies is directly comparable to Stac's business. Based on publicly available information and various assumptions and estimates as published by securities analysts, WDR calculated various arithmetic and statistical comparisons, including market values and price to earnings ratios. Among other things, the analysis indicated that the implied multiples for the comparable companies for Stac were as follows: (i) current stock price as a multiple of estimated calendar 1998 EPS ranged from 16.1x to 79.6x, with a median and an average of 28.0x and 34.1x, respectively, and (ii) current stock price as a multiple of estimated calendar 1999 EPS ranged from 13.3x to 55.7x, with a median and an average of 23.7x and 26.0x, respectively. A separate comparable company analysis was developed for the Company. These comparable companies consisted of semiconductor companies that supply integrated circuits and other related products, but not necessarily products that compete with those of the Company, to the networking equipment industry. These companies included MMC Networks, Inc., Level One Communications, Inc., Broadcom Corporation, Galileo Technology Ltd., VLSI, Altera Corporation and Xilinx Corporation. Based on publicly available information and various assumptions and estimates as published by securities analysts, WDR calculated various arithmetic and statistical comparisons, including market values and a comparison of technology platforms. Among other things, this analysis indicated that the implied multiples for the comparable companies for the Company were as follows: (i) current stock price as a multiple of estimated calendar 1998 EPS ranged from 17.6x to 134.5x, with a median and an average of 25.7x and 45.7x, respectively, and (ii) current stock price as a multiple of estimated calendar 1999 EPS ranged from 13.0x to 100.9x, with a median and an average of 18.6x and 31.6x, respectively. 26 32 Stock Trading Analysis. WDR also analyzed Stac's historical stock price performance on an absolute basis and compared to Stac's and the Company's comparable companies and the Nasdaq Composite Index. WDR observed that over the period from May 7, 1992 (Stac's Initial Public Offering date) to July 15, 1998 (the "Public Period"), the stock price of Stac decreased approximately 62% and underperformed all of the common stocks of Stac's and the Company's comparable companies, and the Nasdaq Composite Index. During the Public Period, the closing stock price of Stac ranged from $1.88 to $15.00 per share. Comparable Spin-Off Transactions. Using publicly available information, WDR analyzed data for selected spin-off transactions completed in the technology and other relevant industries ("Selected Spin-off Transactions"). The Selected Spin-off Transactions included, among others, Samsonite Corporation's spin-off of Culligan Water Technologies, Inc., Sterling Software, Inc.'s spin-off of Sterling Commerce, Inc., and WMS Industries Inc.'s spin-off of Midway Games Inc. WDR reviewed the combined market capitalization of the spun-off company and its former parent to the market capitalization of the parent one day prior to the announcement of the spin-off ("Change in Market Value"). WDR then analyzed the Change in Market Value (i) ten days after the spin-off was announced, and (ii) one year after the spin-off was announced. WDR noted that (i) the average and median Change in Market Value ten days after the spin-off was announced were 2.2% and 1.0%, respectively, and (ii) the average and median Change in Market Value one year after the spin-off was announced were 66.7% and 40.9%, respectively. The preparation of a fairness opinion involves various determinations as to the most appropriate and relevant methods of financial and comparative analysis and the application of those methods to the particular circumstances and, therefore, such an opinion is not readily susceptible to summary description. Furthermore, in arriving at its opinion, WDR did not attribute any particular weight to any analysis or factor considered by it, but rather made qualitative judgments as to the significance and relevance of each factor and analysis. Accordingly, WDR believes that its analyses must be considered as a whole and that considering any portion of such analyses and factors, without considering all analyses and factors, could create a misleading or incomplete view of the process underlying its opinion. In its analyses, WDR made numerous assumptions with respect to industry performance, general business and economic conditions and other matters, many of which are beyond the control of Stac or the Company. Any estimates contained in these analyses are not necessarily indicative of actual values or predictive of future results or values, which may be significantly more or less favorable than as set forth therein. In addition, analyses relating to the value of businesses do not purport to be appraisals or to reflect the prices at which businesses actually may be sold. WDR is an internationally recognized investment banking and financial advisory firm and, as part of its investment banking activities, is regularly engaged in the evaluation of businesses and their securities in connection with mergers and acquisitions, negotiated underwritings, competitive bids, secondary distributions of listed and unlisted securities, private placements and valuations for corporate and other purposes. The Stac Board selected WDR because of its expertise, reputation and familiarity with Stac in particular and the software and semiconductor industries in general and because its investment banking professionals have substantial experience in transactions similar to the Distribution. As compensation for its services in connection with the Distribution, WDR has a signed engagement letter from Stac which includes a fee of $750,000 payable upon the consummation of the Distribution. In addition, Stac has agreed to reimburse WDR for its reasonable expenses incurred in connection with its engagement and to indemnify WDR and certain related persons for certain liabilities that may arise out of its engagement by Stac and the rendering of the WDR Opinion. In the ordinary course of its business, WDR may actively trade in the equity securities of Stac for its own account and for the accounts of WDR's customers and, accordingly, may at any time hold a long or short position in such securities. DISTRIBUTION AGENT The Distribution Agent is American Stock Transfer & Trust Company, 40 Wall Street, New York, New York 10005. 27 33 MANNER OF EFFECTING THE DISTRIBUTION The general terms and conditions relating to the Distribution are set forth in the Distribution Agreement that will be executed prior to the Distribution Date between Stac and the Company. As of the Record Date, the Company had 501,475 shares of Company Common Stock outstanding, held by 26 stockholders of record including Stac. The Company also had 6,000,000 shares of Series A Preferred Stock outstanding, all of which were held by Stac. Immediately prior to the Distribution, Stac will convert all shares of Series A Preferred Stock into Company Common Stock, resulting in Stac's owning 6,000,100 shares of Company Common Stock. All of such shares will be distributed to Stac stockholders. Stac will distribute one share of Company Common Stock for every 3.9156 shares of Stac Common Stock held by Stac stockholders on the Record Date (the "Distribution Ratio"). The Distribution Ratio could change prior to the Distribution if holders of options to purchase Stac Common Stock exercise such options prior to the Distribution. If such option holders exercise their options prior to the Distribution, they will be entitled to receive Company Common Stock in the Distribution. Such option holders have the right to purchase up to 1,484,377 shares of Stac Common Stock between the Record Date and the Distribution Date. If all of such options were exercised, the Distribution Ratio would be 4.1629. Stac will announce the final Distribution Ratio on the Distribution Date. Stac will effect the Distribution on the Distribution Date by delivering all of the outstanding shares of Company Common Stock held by Stac to the Distribution Agent on behalf of, and for distribution to, the holders of record of Stac Common Stock as of the close of business on the Record Date. The shares of Company Common Stock will be fully paid and nonassessable, and the holders thereof will not be entitled to preemptive rights. See "DESCRIPTION OF THE COMPANY'S CAPITAL STOCK." It is expected that certificates representing shares of the Company Common Stock will be mailed to holders of Stac Common Stock as soon as practicable after the Distribution Date. HOLDERS OF STAC COMMON STOCK SHOULD NOT SEND CERTIFICATES TO THE COMPANY, STAC OR THE DISTRIBUTION AGENT. THE DISTRIBUTION AGENT WILL MAIL THE STOCK CERTIFICATES REPRESENTING SHARES OF COMPANY COMMON STOCK AS SOON AS PRACTICABLE AFTER THE DISTRIBUTION DATE. STAC STOCK CERTIFICATES WILL CONTINUE TO REPRESENT SHARES OF STAC COMMON STOCK AFTER THE DISTRIBUTION IN THE SAME AMOUNT SHOWN ON THE CERTIFICATES. No certificates or scrip representing fractional interests in shares of the Company Common Stock will be issued to holders of Stac Common Stock as part of the Distribution. The Distribution Agent, acting as agent for holders of Stac Common Stock otherwise entitled to receive in the Distribution certificates representing fractional shares, will aggregate and sell in the open market all fractional shares at then prevailing prices and distribute the net proceeds to the stockholders entitled thereto. Stac will pay the fees and expenses of the Distribution Agent in connection with such sales. No holder of Stac Common Stock will be required to pay any cash or other consideration for the shares of Company Common Stock to be received in the Distribution or to surrender or exchange shares of Stac Common Stock or to take any other action in order to receive the Company Common Stock pursuant to the Distribution. RESULTS OF THE DISTRIBUTION After the Distribution, the Company will be a separate public company which will continue to operate its semiconductor business. See "THE COMPANY" and "BUSINESS." The number and identity of the holders of Company Common Stock immediately after the Distribution will be substantially the same as the number and identity of the holders of Company Common Stock (other than Stac) prior to the Distribution plus the number and identity of the holders of Stac Common Stock on the Record Date. Immediately after the Distribution, the Company expects to have approximately 439 holders of record of the Company Common Stock and approximately 6,501,475 shares of the Company Common Stock outstanding based on the number of shares of Company Common Stock and Series A Preferred Stock outstanding on the Record Date. 28 34 MATERIAL FEDERAL INCOME TAX CONSEQUENCES OF THE DISTRIBUTION On December 8, 1998, Stac received a private ruling from the IRS stating that the Distribution will qualify as a tax free spin-off under Section 355 of the Code, and that, for federal income tax purposes: (1) No gain or loss will be recognized by Stac upon the Distribution of all the outstanding stock of Hi/fn then held by Stac to the Stac stockholders. (2) No gain or loss will be recognized by (and no amount will be included in the income of) the stockholders of Stac upon receipt of the Company Common Stock distributed to them in the Distribution. (3) The aggregate basis of the stock of Stac and Hi/fn in the hands of each Stac stockholder after the Distribution will, in each instance, equal the aggregate basis of the Stac Common Stock held by such stockholder immediately before the Distribution, allocated in proportion to the fair market value of each. (4) The holding period of the Company Common Stock which each Stac stockholder receives will include the holding period of the Stac Common Stock with respect to which the Distribution will be made, provided the Stac Common Stock is held as a capital asset by such stockholder. (5) Where cash is received by a Stac stockholder in lieu of fractional share interests of Company Common Stock, such fractional share interests will be treated as having been received and disposed of by such stockholder in a taxable sale in which gain (or loss) will be treated as capital gain (or loss), provided such stock is held as a capital asset by the selling Stac stockholder. (6) Earnings and profits will be properly allocated between Stac and Hi/fn. It should be noted that private letter rulings, while generally binding on the IRS, are subject to certain factual representations and assumptions. If the factual representations and assumptions made by Stac were incorrect in any material respect, Stac's ability to rely on the IRS ruling will be jeopardized. However, Stac is not aware of any facts or circumstances that would cause such representations and assumptions to be untrue. If the Distribution were not to constitute a tax-free spin-off, then Stac would be treated as recognizing a taxable gain equal to the difference between (i) the fair market value of the distributed Company Common Stock on the Distribution Date and (ii) Stac's adjusted basis of such Company Common Stock. In addition, under the consolidated tax return rules of the Code, each member of Stac's consolidated group (including Hi/fn) would be severally liable for such tax liability. This resulting tax liability would have a material adverse effect on the cash flows, business, financial condition and results of operations of Stac and possibly Hi/fn. Furthermore, if the Distribution were not to qualify under Section 355 of the Code, each stockholder of Stac who receives shares of Company Common Stock in the Distribution would be treated as if such stockholder had received a taxable distribution in an amount equal to the fair market value of Company Common Stock received, which would result in (i) a dividend to the extent of such stockholder's pro rata share of Stac's current and accumulated earnings and profits, (ii) a reduction in such stockholder's basis in such holder's shares of Stac Common Stock to the extent that the amount received exceeds such stockholder's share of earnings and profits and (iii) a gain from the deemed sale or exchange of such shares of Stac Common Stock to the extent the amount received exceeds both such stockholder's share of earnings and profits and such stockholder's basis in such shares of Stac Common Stock. Under recently enacted Section 355(e), if the Distribution were considered to be part of a plan or series of related transactions (a "Plan") in which, after the Distribution, a 50% or greater interest in Hi/fn or Stac were acquired by one or more persons, the IRS would claim that the Distribution was taxable at the corporate level (although it would remain tax-free to the Stac stockholders). Although neither Stac nor Hi/fn believes the Distribution is part of a Plan to effect a 50% change in ownership of either Stac or Hi/fn, the IRS has issued no guidance on the definition of a Plan and for the first two years following the Distribution, any cumulative 50% change of ownership within the two-year period will be rebuttably presumed to be pursuant to a Plan. See "RISK FACTORS -- Tax Risks of the Distribution." 29 35 THE SUMMARY OF FEDERAL INCOME TAX CONSEQUENCES SET FORTH ABOVE DOES NOT PURPORT TO COVER ALL FEDERAL INCOME TAX CONSEQUENCES THAT MAY APPLY TO ALL CATEGORIES OF STOCKHOLDERS. ALL STOCKHOLDERS SHOULD CONSULT THEIR OWN TAX ADVISORS REGARDING THE PARTICULAR FEDERAL, FOREIGN, STATE AND LOCAL TAX CONSEQUENCES OF THE DISTRIBUTION TO SUCH STOCKHOLDERS. QUOTATION AND TRADING OF COMPANY COMMON STOCK; DIVIDEND POLICY There currently is not a public market for the Company Common Stock. Prices at which the Company Common Stock may trade prior to the Distribution on a "when-issued" basis or after the Distribution cannot be predicted. Until the Company Common Stock is fully distributed and an orderly market develops, the prices at which trading in such stock occurs may fluctuate significantly. The prices at which the Company Common Stock trades will be determined by the marketplace and may be influenced by many factors, including, among others, the success of the Company's business, the depth and liquidity of the market for the Company Common Stock, investor perception of the Company and its assets, the Company's dividend policy, and general economic and market conditions. Such prices also may be affected by certain provisions of the Company Certificate and the Company Bylaws, as each will be in effect following the Distribution, which may have an antitakeover effect. See "RISK FACTORS -- Absence of Prior Trading Market for Company Common Stock; Potential Volatility" and "HI/FN CERTIFICATE OF INCORPORATION AND BYLAWS." The Company intends to apply to have the Company Common Stock approved for quotation and trading on the Nasdaq National Market. Immediately after the Distribution, the Company expects to have approximately 450 stockholders of record based upon the number of stockholders of record of the Company (other than Stac) and the number of stockholders of record of Stac on the Record Date. For certain information regarding options to purchase the Company Common Stock that will be outstanding after the Distribution, see "MANAGEMENT -- Hi/fn Equity Plans." Nothing herein should be construed to suggest that the trading price of Stac Common Stock at any point in time may be used as a substitute for the trading price of Company Common Stock. No assurance can be given that the Company Common Stock will trade at a price per share reflecting the earnings per share or other multiple, or other attributes, of Stac. See "RISK FACTORS -- Absence of Prior Trading Market for Company Common Stock; Potential Volatility." It is the Company's belief that the Company Common Stock distributed to Stac's stockholders in the Distribution will be freely transferable, except for securities received by persons who may be deemed to be "affiliates" of Stac within the meaning of Rule 144 under the Securities Act, in which case such persons may not publicly offer or sell the Company Common Stock received in connection with the Distribution except pursuant to a registration statement under the Securities Act or pursuant to Rule 144. There can be no assurance that the Commission will not take a contrary view, and no ruling from the Commission has been or will be sought. See "RISK FACTORS -- Shares Eligible for Future Sale." The Company presently intends to retain future earnings to finance the growth and development of its business; and, therefore, the Company does not currently anticipate paying any cash dividends. Any future determination relating to dividend policy will be made at the discretion of the Company Board. Such determinations will depend on a number of factors, including the future earnings, capital requirements, financial condition and prospects of the Company, possible loan or financing covenant restrictions and such other factors as the Company Board may deem relevant. See "RISK FACTORS -- Dividend Policy." CONDITIONS; TERMINATION The Stac Board has conditioned the Distribution upon, among other things, (i) the Company Board having been elected by the stockholders of the Company, and the Company Certificate and the Company Bylaws, as each will be in effect after the Distribution, having been adopted and being in effect; (ii) the Registration Statement on Form 10 with respect to the Company Common Stock held by Stac immediately prior to the Distribution having become effective under the Exchange Act; (iii) receipt of any necessary consents to the Distribution from third parties, except for those the failure of which to obtain would not have a 30 36 material adverse effect on the Company or Stac; (iv) no pending order, injunction or decree preventing the consummation of the Distribution; (v) Hi/fn's delivery to the landlord under its headquarters lease of a letter of credit in an amount and with such other terms that Stac's guaranty of such lease will terminate upon consummation of the Distribution; and (vi) no event having occurred that, in the judgment of the Stac Board, would result in the Distribution having a material adverse effect on Stac or its stockholders. The Company believes that there are no third-party consents which if not obtained would have a material adverse effect on the Company, Stac or the Distribution. Any of the conditions to the Distribution may be waived in the discretion of the Stac Board. Even if all of the above conditions are satisfied, the Stac Board has reserved the right to abandon, defer or modify the Distribution or the other elements of the Distribution at any time prior to the Distribution Date; however, the Stac Board will not waive any of the conditions to the Distribution or make any changes in the terms of the Distribution unless the Stac Board determines that such changes would not be materially adverse to the Stac stockholders. See "RELATIONSHIP BETWEEN HI/FN AND STAC AFTER THE DISTRIBUTION -- Distribution Agreement." REASONS FOR FURNISHING THE INFORMATION STATEMENT This Information Statement is being furnished by Stac solely to provide information to Stac stockholders who will receive Company Common Stock in the Distribution. It is not, and is not to be construed as, an inducement or encouragement to buy or sell any securities of Stac or the Company. The information contained in this Information Statement is believed by Stac and the Company to be accurate as of the date set forth on the cover of this Information Statement. Changes may occur after that date, and neither the Company nor Stac will update the information except in the normal course of their respective public disclosure practices. 31 37 RELATIONSHIP BETWEEN HI/FN AND STAC AFTER THE DISTRIBUTION For the purpose of governing certain of the ongoing relationships between the Company and Stac after the Distribution and to provide mechanisms for an orderly transition, the Company and Stac have entered or will enter into various agreements, and will adopt policies, as described in this section. DISTRIBUTION AGREEMENT Prior to the Distribution Date, the Company and Stac will enter into the Distribution Agreement, which provides for, among other things, the Distribution and certain other agreements governing the relationship between the Company and Stac following the Distribution. Subject to certain exceptions, the Distribution Agreement provides for, among other things, assumptions of liabilities and cross-indemnities designed to allocate to the Company, effective as of the Distribution Date, financial responsibility for the liabilities arising out of or in connection with the Hi/fn business. Other agreements to be executed in connection with the Distribution Agreement set forth certain specific allocations of liabilities between the Company and Stac. See "-- Employee Benefits Allocation Agreement" "-- Tax Sharing Agreement" and "-- Transitional Services Agreement." The Distribution Agreement also provides that by the Distribution Date, the Company Certificate and the Company Bylaws shall be in the forms attached hereto as Annex I and II, respectively, and that the Company and Stac will take all actions which may be required to elect or otherwise appoint, as directors of the Company, the persons indicated herein. See "MANAGEMENT -- Board of Directors" and "HI/FN CERTIFICATE OF INCORPORATION AND BYLAWS." The Distribution Agreement also provides that each of the Company and Stac will be granted access to certain records and information in the possession of the other, and requires the retention by each of the Company and Stac for a period of seven years following the Distribution of all such information in its possession, and thereafter requires that each party give the other prior notice of its intention to dispose of such information. In addition, the Distribution Agreement provides for the allocation of shared privileges with respect to certain information and requires each of the Company and Stac to obtain the consent of the other prior to waiving any shared privilege. Stac has guaranteed Hi/fn's obligations under its headquarters lease. Under the Distribution Agreement, Hi/fn has agreed to obtain and deliver to its landlord a $2.0 million letter of credit to replace Stac's guaranty. The guaranty provides that it will terminate when Stac no longer owns a majority interest in Hi/fn and when Hi/fn provides the landlord with such a letter of credit. The Distribution is conditioned on delivery of the letter of credit. The Distribution Agreement provides that, except as otherwise set forth therein or in any related agreement, all costs and expenses incurred in connection with the Distribution will be charged to the party for whose benefit the expenses are incurred, with any expenses that cannot be allocated on such basis to be split equally between the parties. EMPLOYEE BENEFITS ALLOCATION AGREEMENT The Distribution Agreement calls for Stac and the Company to enter into an Employee Benefits and Other Matters Allocation Agreement (the "Employee Benefits Allocation Agreement") containing a number of provisions relating to employees of Stac and Hi/fn. The Employee Benefits Allocation Agreement generally contemplates that the Company will assume and retain all obligations and liabilities with respect to Hi/fn employee plans and benefits and that Stac will retain all obligations and liabilities with respect to Stac employee plans and benefits. Pursuant to the Employee Benefits Allocation Agreement, and consistent with the terms of The Stac Electronics 1992 Stock Option Plan, as amended (the "Stac Stock Option Plan"), and Stac, Inc. 1992 Non-Employee Directors' Stock Option Plan (the "Stac Directors Plan"), vested and unvested options held by employees, officers and directors of Stac who will remain with Stac will be equitably adjusted for the effects of 32 38 the Distribution on such options. The Stac Board intends to make an adjustment to such options within 30 days after the Distribution to retain the intrinsic value of such options after the Distribution. Following the Distribution, the Stac Board intends to make an adjustment to such options based on the closing sales price of the Stac Common Stock on the Nasdaq National Market, less the closing sales price of Company Common Stock in when-issued trading on the Nasdaq National Market on the Distribution Date divided by the Distribution Ratio. The adjustment is expected to result in an increase in the number of Stac options outstanding and a decrease in their associated exercise price. Douglas L. Whiting, who is a director of both Stac and Hi/fn, will receive a different adjustment to his options to purchase Stac Common Stock. Hi/fn will grant Mr. Whiting, under the 1996 Plan, an option to purchase the number of shares of Company Common Stock equal to the number of shares of Stac Common Stock subject to outstanding options he holds divided by the Distribution Ratio. The exercise price of Mr. Whiting's options to purchase Stac Common Stock will be allocated between his options to purchase Stac Common Stock and his new options to purchase Company Common Stock based on the ratio of the closing sales price of Stac Common Stock to Company Common Stock (divided by the Distribution Ratio) on the Nasdaq National Market on the Distribution Date. No adjustments will be made to options outstanding under the 1996 Plan. The Company retains, with respect to Hi/fn employees, all responsibility for liabilities and obligations as of the Distribution Date for medical and dental plan coverage and for vacation and welfare plans. Stac will retain, with respect to Stac employees, all responsibilities for all liabilities and obligations as of the Distribution Date for medical and dental plan coverage and for vacation and welfare plans. TAX ALLOCATION AND INDEMNITY AGREEMENT Prior to the Distribution Date, Stac and the Company will enter into a Tax Allocation and Indemnity Agreement defining the parties' rights and obligations with respect to tax returns and tax liabilities, including, in particular, federal and state income tax returns and liabilities, for taxable years and other taxable periods ending on or before the Distribution Date. In general, Stac will be responsible for (i) filing all federal and state income tax returns of Stac, the Company and any of their subsidiaries for all taxable years ending on or before the Distribution Date, and (ii) paying the taxes relating to such returns (including any deficiencies proposed by applicable taxing authorities). For post-Distribution periods, Stac and the Company will each be responsible for filing its own returns and paying its own taxes relating to such returns (including any deficiencies proposed by applicable taxing authorities). Stac and the Company will cooperate with each other and share information in preparing income tax returns and in dealing with other tax matters. In addition, pursuant to the Tax Allocation and Indemnity Agreement, if the Distribution were not to constitute a tax-free spin-off under Section 355 of the Code, then the Company or Stac, as the case may be, would be obligated to indemnify the other party for all taxes resulting from such failure if such failure was attributable to (a) actions of the Company or Stac after the Distribution, or (b) the breach of certain representations with respect to the Company or Stac made in the Tax Allocation and Indemnity Agreement. However, under the Tax Allocation and Indemnity Agreement, if the Distribution were not to constitute a tax-free spin-off under Section 355 of the Code, Stac would be obligated to bear all taxes of Stac resulting from such failure if neither Stac nor the Company (a) took actions after the Distribution which resulted in such failure or (b) breached certain representations made in the Tax Allocation and Indemnity Agreement. In addition, if the Distribution were not to constitute a tax-free spin-off under Section 355 of the Code and both the Company and Stac either (a) took actions after the Distribution which resulted in such failure, or (b) breached certain representations made in the Tax Allocation and Indemnity Agreement, then any taxes of Stac resulting from such failure would be divided equally between the Company and Stac. Furthermore, if each of Stac and the Company take actions after the Distribution resulting in the Distribution being a distribution to which Code Section 355(e) applies (a "Disqualifying Distribution"), then whichever party first caused the Distribution to be a Disqualifying Distribution (i.e., Stac or the Company, as the case may be) would be obligated to bear all taxes of Stac resulting from such failure. Neither the Company nor Stac will indemnify any holder of Company Common Stock who receives shares in the Distribution for any such taxes. 33 39 TRANSITIONAL SERVICES AGREEMENT Prior to the Distribution Date, the Company and Stac will enter into a Transitional Services Agreement (the "Transitional Services Agreement") pursuant to which Stac will provide certain accounting services to Hi/fn on a transitional basis after the Distribution. The fees for such transitional services will be $6,500 per month plus any out-of-pocket expenses incurred by Stac that are attributable to the work done for Hi/fn under the Transition Services Agreement. The Company will be free to procure such services from outside vendors or to develop in-house capabilities in order to provide such services internally. Hi/fn will indemnify Stac and its officers, directors, employees and agents against losses, claims or damages arising out of allegations that the financial statements and accounting records prepared by Hi/fn with Stac's assistance are inaccurate or incomplete. The Transitional Services Agreement will terminate on December 31, 1999 unless extended in writing by the parties. SATISFACTION OF INTERCOMPANY BALANCES AND STAC LOAN On September 28, 1998, Stac paid $4.4 million to the Company, representing payment in full for all amounts due to the Company from Stac as of September 1, 1998. The Company will pay to Stac, prior to the Distribution, the amounts due to Stac as of October 31, 1998 and Stac will pay to the Company, on or prior to December 31, 1998, any amounts due to the Company that are accumulated after October 31, 1998. On September 28, 1998, Stac also loaned $5.0 million to the Company pursuant to a short-term loan (the "Stac Loan"). The Stac Loan will become due and payable on September 30, 1999 and may be prepaid in whole or part without penalty. The Stac Loan bears interest at the prime rate set by Silicon Valley Bank plus 0.5% per annum, payable quarterly. The Stac Loan is secured by a first priority security interest in all of the Company's assets, including the Company's intellectual property. POLICIES AND PROCEDURES FOR ADDRESSING CONFLICTS The Company and Stac intend to pursue separate and distinct business strategies to minimize potential conflicts of interest between the two companies. Nonetheless, the ongoing relationships between the Company and Stac may present conflict situations for certain directors. Certain persons will serve as directors of both the Company and Stac, and also will own (or have options or other rights to acquire) a significant number of shares of common stock in both companies. The Company and Stac will adopt appropriate policies and procedures on or prior to the Distribution Date to be followed by the Board of Directors of each company to address potential conflicts. Such procedures include requiring the persons serving as directors of both companies to abstain from voting as directors with respect to matters that present a significant conflict of interest between the companies. REGULATORY APPROVALS The Company does not believe that any material federal or state regulatory approvals will be necessary in connection with the Distribution. 34 40 SELECTED HISTORICAL FINANCIAL DATA (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) The selected historical financial data of the Company has been prepared from the audited financial statements of the Company as of September 30, 1997 and 1998 and for each of the three years in the period ended September 30, 1998 as included herein. Financial information as of September 30, 1995 and 1996 and for the year ended September 30, 1995 has been prepared from audited financial statements not included herein. The financial information as of and for the year ended September 30, 1994 has been prepared from unaudited financial statements not included herein. The financial information may not reflect the Company's future performance or the future financial position or results of operations of the Company, nor does it provide or reflect data as if the Company had actually operated as a separate, stand-alone entity during the periods covered. The summary financial data should be read in conjunction with the financial statements and related notes and "MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS," included elsewhere in this Information Statement. In the opinion of the Company's and Stac's management, the unaudited financial statements as of and for the year ended September 30, 1994, contain all adjustments, consisting only of normal recurring adjustments, necessary to present fairly the financial condition and results of operations for these periods.
YEAR ENDED SEPTEMBER 30, --------------------------------------------- 1994 1995 1996 1997 1998 ------ ------ ------- ------- ------- STATEMENT OF OPERATIONS DATA: Revenues........................................... $5,666 $7,342 $12,894 $14,226 $21,533 Cost of revenues................................... 2,302 2,841 5,095 4,762 6,525 ------ ------ ------- ------- ------- Gross margin....................................... 3,364 4,501 7,799 9,464 15,008 Operating expenses: Research and development........................... 564 551 1,641 2,985 5,403 Sales and marketing................................ 813 1,097 1,677 2,224 3,370 General and administrative......................... 379 492 889 1,203 2,407 ------ ------ ------- ------- ------- Operating income................................... 1,608 2,361 3,592 3,052 3,828 Interest income.................................... 16 17 ------ ------ ------- ------- ------- Provision for income taxes......................... 661 947 1,441 1,235 1,627 ------ ------ ------- ------- ------- Net income......................................... $ 947 $1,414 $ 2,151 $ 1,833 $ 2,218 ====== ====== ======= ======= ======= Net income per share, basic(1)..................... $ 0.16 $ 0.24 $ 0.36 $ 0.30 $ 0.35 Net income per share, diluted...................... $ 0.16 $ 0.24 $ 0.36 $ 0.30 $ 0.33 Weighted average shares outstanding, basic......... 6,000 6,000 6,000 6,100 6,308 Weighted average shares outstanding, diluted....... 6,000 6,000 6,000 6,174 6,800 BALANCE SHEET DATA (AS OF SEPTEMBER 30,): Cash............................................... $ -- $ -- $ -- $ 480 $ 4,084 Total assets....................................... 1,583 2,254 2,611 5,898 16,611 Working capital (deficit).......................... (193) (223) (383) 3,520 4,723 Total stockholders' equity(2)...................... -- -- -- 4,622 6,952
- --------------- (1) Since the Company's Series A Preferred Stock represents a primary equity security, it is included in the calculation of basic net income per share. (2) The balance sheets prior to September 30, 1997 reflect Hi/fn's structure prior to its formation as a subsidiary. Periods subsequent to September 30, 1996 reflect the net assets contributed by Stac in establishing the Hi/fn subsidiary. The transfer was recorded at the historical net book value of the transferred assets and liabilities. In exchange for the net assets contributed to Hi/fn, Stac received 6,000,000 shares of Series A Preferred Stock and 100 shares of Company Common Stock. For all periods prior to fiscal 1997, net income generated by Hi/fn has been treated as if it were transferred to Stac in the form of dividends. No such dividend transfers were made for fiscal 1997 and the periods presented thereafter. 35 41 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OVERVIEW Except for the historical information contained herein, the following discussion contains forward-looking statements that involve risk and uncertainties. The Company's future results could differ materially from those discussed here. Factors that could cause or contribute to such differences include, but are not limited to, fluctuations in the Company's operating results, continued new product introductions by the Company, market acceptance of the Company's new product introductions, new product introductions by competitors, OEM and distributor inventory levels and customer demand for the products incorporating Hi/fn packet processors, customer concentration, technological changes in the personal computer and communications industries, uncertainties regarding intellectual property rights and the other factors referred to herein including, but not limited to, the factors discussed below under "Revenues," "Quarterly Trends and Channel Inventories," and the "Risk Factors" discussed beginning on Page 9 of this document. Hi/fn designs, develops and markets high-performance multi-protocol packet processors -- semiconductor devices that enable secure, high-bandwidth network connectivity and efficient storage of business information. The Company's packet processor products perform the computation-intensive tasks of compression and encryption/compression, providing its customers with high-performance, interoperable implementations of a wide variety of industry-standard networking and storage protocols. The Company's products are used in a variety of networking and storage equipment such as routers, remote access concentrators, firewalls and back-up storage devices. The Company's encryption/compression packet processors allow network equipment vendors to add bandwidth enhancement and security capabilities to their products. The Company's encryption/compression products provide high-performance implementations of key algorithms used in the implementation of Virtual Private Networks ("VPNs"), which enable businesses to reduce wide area networking costs by replacing dedicated leased lines with lower cost IP-based networks such as the Internet. Using VPNs, businesses also can provide trading partners and other constituents with secure, authenticated access to the corporate network, increasing productivity through improved communications. Storage equipment vendors use the Company's products to improve the performance and capacity of mid- to high-end tape back-up systems. RESULTS OF OPERATIONS The following table sets forth the percentage relationship of certain items to the Company's revenues during the periods shown. Unless otherwise indicated, references to years are to fiscal years which ended September 30.
YEAR ENDED SEPTEMBER 30, ------------------------ 1996 1997 1998 ---- ---- ---- Revenues.................................................... 100% 100% 100% Cost of revenues............................................ 39 33 30 --- --- --- Gross margin................................................ 61 67 70 --- --- --- Research and development.................................... 13 21 25 Sales and marketing......................................... 13 16 16 General and administrative.................................. 7 8 11 --- --- --- Total operating expenses.................................... 33 45 52 --- --- --- Operating income............................................ 28 22 18 Interest income............................................. -- -- -- --- --- --- Income before income taxes.................................. 28 22 18 Provision for income taxes.................................. 11 9 8 --- --- --- Net income.................................................. 17 13 10 === === ===
36 42 Comparison of Results of Operations Revenues. Revenues from sales of semiconductors and licenses of software libraries increased 51% to $21.5 million in 1998 compared to 1997 revenues, and increased 10% to $14.2 million in 1997 from revenues of $12.9 million in 1996. The increase in revenues in each of 1998 and 1997 compared to the prior year was due primarily to increased sales of the Company's data compression processors to OEM providers of storage devices and manufacturers of high speed networking equipment. Semiconductor sales to Quantum Corporation, an OEM producer of high performance tape storage devices, comprised 61%, 70% and 43% of revenues in each of 1998, 1997 and 1996 respectively. Gross Margin. Gross margins were 70% in 1998, 67% in 1997, and 61% in 1996. The increase in gross margins in 1998 from those in 1997 was due primarily to cost efficiencies achieved through design modifications made to compression co-processors. The increase in gross margins in 1997 from those of 1996 was due to shipments of higher speed data compression processors in 1997 that carry higher gross margins than the processors shipped in 1996 and an increase in licenses of the Company's software libraries which carry a relatively high gross margin. Research and Development. Research and development expenses were $5.4 million for 1998, $3.0 million for 1997, and $1.6 million for 1996, an increase of 81% in 1998 from 1997 and an increase of 82% in 1997 from 1996. The increase in research and development costs in each successive period was due to the Company's adding personnel and retaining outside contractors used to develop new products which combine data compression and data encryption for the network security markets and to develop additional products for the storage market. The Company expects its investments in research and development to increase in coming periods as it continues to develop products targeted at meeting market needs. However, there can be no assurance that product development programs invested in by the Company will be successful or timely, or that products resulting from such programs will achieve market acceptance. Sales and Marketing. Sales and marketing expenses were $3.4 million in 1998, $2.2 million in 1997, and $1.7 million in 1996. The increases in marketing and sales expenses in 1998 over those of 1997 and in 1997 expense over those of 1996 were the result of the addition of marketing and sales personnel and program costs intended to increase customer awareness of the Company's products. General and Administrative. General and administrative expenses were $2.4 million in 1998, $1.2 million in 1997, and $0.9 million in 1996. The increase in 1998 expenses over those of 1997 and in 1997 over those of 1996 was primarily due to the addition of executive management personnel and increased legal and accounting costs. INCOME TAXES For all periods presented, deferred income taxes and related tax expense have been allocated to the Company by applying the asset and liability approach as if Hi/fn were a separate taxpayer. Under this approach, a deferred income tax liability or asset, net of valuation allowance, is established for the expected future consequences resulting from the differences between the financial reporting and income tax bases of assets and liabilities and from net operating loss and credit carryforwards. Deferred income tax expense or benefit represents the net change during the year in the deferred income tax liability or asset. Income taxes currently payable are deemed to have been remitted by Stac on behalf of the Company in the period that the liability arose. Income taxes currently receivable are deemed to have been received by Stac in the period that a refund could have been recognized by the Company, had the Company been a separate taxpayer. Amounts due to or from the Company and Stac for income tax payments and refunds are included in the related party receivable and payable components of the balance sheet. 37 43 QUARTERLY TRENDS AND CHANNEL INVENTORIES Hi/fn's customers order semiconductor products to meet production schedules based on forecasts of demand for their products. Additionally, OEMs contract with third party manufacturers to build their products in large lot sizes to achieve manufacturing efficiencies. As a result of these practices, OEM semiconductor and finished product inventories can vary significantly depending on actual sales, the continuation of sales trends, and the timing of contractor manufacturing cycles with the result that demand for the Company's semiconductor products may have cyclical increases and decreases. SELECTED QUARTERLY FINANCIAL DATA The following table sets forth certain unaudited quarterly condensed statement of operations data for each of the quarters during the year ended September 30, 1997 and 1998. In the opinion of management, this information has been prepared substantially on the same basis as the audited financial statements appearing elsewhere in this Information Statement, and all necessary adjustments, consisting only of normal recurring adjustments, have been included in the amounts stated below to present fairly the unaudited quarterly results. The quarterly data should be read in conjunction with the Company's audited Financial Statements appearing elsewhere in this Information Statement. The operating results for any quarter are not necessarily indicative of the operating results for any future period. (IN THOUSANDS)
DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30, 1997 1998 1998 1998 ------------ --------- -------- ------------- Revenues...................... 6,265 5,236 5,012 5,020 Gross margin.................. 4,163 3,674 3,534 3,637 Operating income.............. 1,551 1,051 528 698 Net income.................... 931 630 291 366
DECEMBER 31, MARCH 31, JUNE 30, SEPTEMBER 30, 1996 1997 1997 1997 ------------ --------- -------- ------------- Revenues...................... 2,067 3,017 3,908 5,234 Gross margin.................. 1,343 1,975 2,719 3,427 Operating income.............. 199 605 923 1,325 Net income.................... 118 361 555 799
The sequential decline in revenues, gross margin, operating income and net income in the quarters ended March 31, 1998 and June 30, 1998 is primarily due to a decline in sales to the Company's most significant customer, Quantum, and other non-networking customers. During late 1997 and early 1998, Quantum accumulated inventories of compression devices that Quantum used during the quarters ended March 31, 1998 and June 30, 1998. The Company does not believe that Quantum has purchased components from alternative sources. Although there can be no assurance as to Quantum's future purchase levels from the Company or as to the time that Quantum will have reduced its inventories of compression components to a level sufficient to cause Quantum to issue renewed purchase orders to the Company, the Company has no current reason to believe Quantum will obtain an alternative or second source for such components. See "RISK FACTORS -- Customer Concentration." During the quarters ended March 31, 1998, June 30, 1998 and September 30, 1998, the Company's sales to network equipment companies increased, partially offsetting the decline in sales to Quantum. The growth of these sales reflects initial production volumes of encryption/compression processors from selected network equipment customers. There can be no assurances that growth of sales to network equipment companies will continue. See "RISK FACTORS -- Risks Associated with Emerging VPN Market." 38 44 LIQUIDITY AND CAPITAL RESOURCES From inception, the Company has depended upon Stac for financing its operations and capital requirements. For the fiscal year ended September 30, 1996, the Company's net cash provided by operating activities was $3,761,000. During the same period, $223,000 was used for the purchase of property and equipment and $1,996,000 was remitted to Stac as dividends. In November 1996, the Company and Stac entered into an Assignment, Assumption and Licensing Agreement which provided for the transfer of certain assets, the assumption of certain liabilities and a cross licensing agreement of certain intellectual properties. See "THE COMPANY -- Assignment Agreement." The results of this agreement are reflected in the Company's financial statements. For the year ended September 30, 1997, the Company generated $2,000,000 of cash from operations, which was comprised primarily of net income of $1,833,000 (increased for adjustments to net income). Adjustments to net income that increased cash include $303,000 of depreciation and amortization and $566,000 of increases in balance sheet liabilities, resulting primarily from $420,000 of general and administrative services provided by Stac. Adjustments to net income that reduced cash include $129,000 of benefits from the generation of deferred tax assets and a $573,000 net increase in all other balance sheet assets. Hi/fn's transfer of cash to Stac for centralized cash management resulted in a net decrease to Hi/fn cash of $788,000. For the year ended September 30, 1998, the Company generated $3,131,000 of cash from operations, which was comprised primarily of net income of $2,218,000 (increased for adjustments to net income). Adjustments to net income that increased cash include $726,000 of depreciation and amortization and $2,451,000 of increases in balance sheet liabilities. Adjustments to net income that reduced cash include $469,000 of benefits from the generation of deferred tax assets and a $1,795,000 net increase in all other balance sheet assets. Stac's transfer of cash to Hi/fn of $9,400,000 as discussed below, offset by transfers to Stac for centralized cash management, resulted in a net increase to Hi/fn's cash of $2,439,000. On September 28, 1998, Stac paid $4,400,000 to the Company, representing payment in full for all amounts due to the Company from Stac as of September 1, 1998. Stac also loaned $5,000,000 to the Company pursuant to a short-term loan described more fully below. Prior to the Distribution, the Company will pay any amounts due to Stac as of October 31, 1998. Stac will pay to the Company on or prior to December 31, 1998 any amounts due to the Company that are accumulated after October 31, 1998. Amounts due to or from the Company arise from transfers of cash to or from the Company and to or from Stac for centralized cash management. The Company uses a number of independent suppliers to manufacture substantially all of its products. As a result, the Company relies on these suppliers to allocate to the Company a sufficient portion of foundry capacity to meet the Company's needs and deliver sufficient quantities of the Company's products on a timely basis. These arrangements allow the Company to avoid utilizing its capital resources for manufacturing facilities and work-in-process inventory and to focus substantially all of its resources on the design, development and marketing of its products. See "RISK FACTORS -- Risks Associated with Independent Manufacturers and Sole-Source Supply." The Company requires substantial working capital to fund its business, particularly to finance accounts receivable and inventory, and for investments in property and equipment. The Company's need to raise capital in the future will depend on many factors including the rate of sales growth, market acceptance of the Company's existing and new products, the amount and timing of research and development expenditures, the timing and size of acquisitions of businesses or technologies, the timing of the introduction of new products and the expansion of sales and marketing efforts. Immediately following the Distribution, the Company expects to have approximately $9,000,000 in cash, including the proceeds of the $5,000,000 short-term loan from Stac (the "Stac Loan"), to finance its operating and capital needs. The Stac Loan will become due and payable on September 30, 1999 and may be prepaid in whole or part without penalty. The Stac Loan bears interest at the prime rate set by Silicon Valley Bank plus 0.5% per annum, payable quarterly. The Stac Loan is secured by a first priority security interest in all of the Company's assets, including the Company's intellectual property. During the first year following the Distribution, the Company expects to enter into a revolving bank 39 45 credit facility and term loan. The Company intends to use its cash balances, cash from operations and the proceeds from the credit facility and the term loan to repay the Stac Loan and to fund its operating and capital needs for the twelve months following the Distribution. The Company also intends to raise equity capital within the first year following the Distribution and may enter into a lease line for certain capital spending needs. There can be no assurance that additional equity or debt financing will be available on terms satisfactory to the Company, if at all. YEAR 2000 COMPLIANCE Many existing computer systems and applications, and other control devices, use only two digits to identify a year in the date field, without considering the impact of the upcoming change in the century. As a result, such systems and applications could fail or create erroneous results unless corrected so that they can process data related to the Year 2000. The Company relies on its systems, applications and devices in operating and monitoring all major aspects of its business, including financial systems (such as general ledger, accounts payable and payroll modules), customer services, networks and telecommunications equipment and end products. Because a large portion of the Company's software is obtained from its vendors on a non-custom basis, the Company believes that upgrades for its commercial programs are currently available. The Company also relies, directly and indirectly, on external systems of business enterprises such as customers, suppliers, creditors, financial organizations, and of governmental entities, both domestic and international, for accurate exchange of data. Even if the internal systems of the Company are not materially affected by the Year 2000 issue, the Company could be affected by disruptions in the operation of the enterprises with which the Company interacts or Year 2000 disruptions that affect the Company's customers. The Company is in the process of completing a thorough assessment of the impact that these matters might have on the Company, and expects to complete its assessment prior to the end of calendar 1998. To date, the Company's primary focus has been on its own internal systems. The Company has completed its evaluation of Year 2000 compliance with respect to all of its computer systems and applications. As a result of this evaluation, the Company has determined that all business critical systems are compliant or will be made compliant through available product upgrades. In particular, the only critical application affected is the Windows NT 4.0 Operating System. Microsoft has released Service Pack 4, an upgrade to Windows NT 4.0, which makes the operating system Year 2000 compliant. The Company is currently evaluating this upgrade and expects to implement it by December 31, 1998. The Company, currently is also evaluating the following non-business critical applications: MS DOS 6.22 (a laboratory PC operating system), ACP Voice Messaging (Carlsbad location voice mail software) and FRX Drill down software (an accounting productivity tool). The Company will upgrade these applications with existing upgrades by December 31, 1998. Lastly, there are several Dell Systems PC workstations shipped prior to January 1, 1997 that will require BIOS upgrades to become fully Year 2000 compliant. The Company has not incurred, nor does it expect to incur, material costs for the acquisition and implementation of product upgrades to achieve Year 2000 compliance. The Company also has reviewed the products it offers to customers. None of the software or semi-conductor products sold by the Company contain any date-specific information, nor do they rely upon any such information for their operation. As a result, the Company does not believe that its products will be susceptible to Year 2000 problems. The Company has had initial communications with certain significant third parties with which it does business to evaluate their Year 2000 compliance plans and state of readiness and to determine the extent to which the Company's systems may be affected by the failure of others to remedy their own Year 2000 issues. To date, the Company has received only preliminary feedback from such parties indicating that they are in the process of implementing measures to ensure Year 2000 compliance, and further representing that they will achieve compliance before the close of calendar 1999. The Company has not independently confirmed any information received from other parties with respect to the Year 2000 issues. As such, there can be no assurance that such other parties will complete their Year 2000 conversion in a timely fashion or will not suffer a Year 2000 business disruption that may adversely affect the Company's financial condition and results of operations. 40 46 To date, the Company has not identified any system which presents a material risk of not being Year 2000 ready in a timely fashion or for which a suitable alternative cannot be implemented. However, the Company may ultimately identify systems that do present a material risk of Year 2000 disruption. Such disruption may include, among other things, the inability to process transactions or information, procure inventory or engage in similar normal business activities. The failure of the Company to identify systems that require Year 2000 conversion and that are critical to the Company's operations or the failure of the Company or others with which the Company does business to become Year 2000 ready in a timely manner could have a material adverse effect on the Company's financial condition and results of operations. The Company has not yet completed the development of a comprehensive Year 2000 contingency plan. However, as part of its Year 2000 effort, the Company regularly examines information received from external sources for date integrity before integrating such information into the Company's internal systems. In addition, the Company has established a plan to increase inventories of certain products by December 1999 if the Company determines there is some risk of interruption of supply from a third party as a result of Year 2000 compliance issues. This would allow the Company to continue to supply product to its customers while the third party corrects its problems. The Company has also incorporated alternatives into its contingency plan to address the possibility that the software upgrades described above do not fully resolve Year 2000 compliance issues. If the Company determines that its business is at material risk of disruption due to currently unforeseen Year 2000 issue or anticipates that its Year 2000 compliance will not be achieved in a timely fashion, the Company will work to enhance its contingency plan. The discussion above contains certain forward-looking statements. The costs of the Year 2000 conversion and possible risks associated with the Year 2000 issue are based on the Company's current estimates and are subject to various uncertainties that could cause the actual results to differ materially from the Company's expectations. Such uncertainties include, among others, the success of the Company in identifying systems that are not Year 2000 compliant, the nature and amount of programming required to upgrade or replace each of the affected systems, the availability of qualified personnel, consultants and other resources, and the success of the Year 2000 conversion efforts of others. NEW PRONOUNCEMENTS In June 1997, the Financial Accounting Standards Board issued Statements of Financial Accounting Standards (FAS) No. 130, "Reporting Comprehensive Income," and Financial Accounting Standard (FAS) No. 131, "Disclosures about Segments of an Enterprise and Related Information," which will be required to be adopted by the Company in fiscal 1999. Adoption of these statements is not expected to have a significant impact on the Company's consolidated financial position, results of operations or cash flows. 41 47 THE COMPANY GENERAL Stac incorporated Hi/fn as a wholly owned subsidiary of Stac on August 14, 1996. On November 21, 1996, Stac transferred its semiconductor business (along with the associated technology, assets and liabilities) to Hi/fn in exchange for 6,000,000 shares of Series A Preferred Stock and 100 shares of Company Common Stock pursuant to a Stock Purchase Agreement. ASSIGNMENT AGREEMENT Stac effected the transfer of the semiconductor business to Hi/fn pursuant to an Assignment, Assumption and License Agreement dated as of November 21, 1996 (the "Assignment Agreement"). The assets transferred to the Company pursuant to the Assignment Agreement included, without limitation, $1,000,000 of available cash, the accounts receivable and inventory of the semiconductor business, Stac's rights under certain sales and license agreements and the fixed assets, trademarks, patents and proprietary technology specified on schedules attached to the Assignment Agreement. The Assignment Agreement also provided for the assignment by Stac and the assumption by Hi/fn of the accounts payable relating to the semiconductor business, the obligations under the sales and license agreements assigned to Hi/fn, and current and unpaid payroll and related benefits expenses related to former employees of Stac who became employees of Hi/fn. CROSS LICENSE AGREEMENT At the time of the transfer of the semiconductor business to Hi/fn, Stac and Hi/fn entered into a Cross License Agreement pursuant to which Hi/fn granted to Stac a limited, worldwide, perpetual, non-exclusive, non-transferable, royalty-free license to the patents previously transferred by Stac to Hi/fn pursuant to the Assignment Agreement. The Cross License Agreement permits Stac, among other things, to use, modify, create derivative works, reproduce, license and sublicense the technology to end users of Stac's products that incorporate the technology licensed to Stac by Hi/fn. Stac, however, may not create hardware implementations of the technology subject to the Cross License Agreement or license or sell any of the software subject to the Cross License Agreement as a stand-alone product for a period of ten years after the date of the Cross License Agreement. Under the Cross License Agreement, Stac also sublicensed or assigned to Hi/fn certain third-party licenses held by Stac. The parties further agreed that for a ten-year period (i) Stac would transfer ownership to Hi/fn of any derivative works created by Stac from the licensed technology and (ii) Hi/fn would transfer ownership to Stac of all future commercial releases of software implementations of the licensed technology developed by the Company. 42 48 BUSINESS OVERVIEW Hi/fn designs, develops and markets high-performance, multi-protocol packet processors -- semiconductor devices that enable secure, high-bandwidth network connectivity and efficient storage of business information. The Company's packet processor products perform the computation-intensive tasks of compression and encryption/compression, providing its customers with high-performance, interoperable implementations of a wide variety of industry-standard networking and storage protocols. The Company's products are used in a variety of networking and storage equipment such as routers, remote access concentrators, firewalls and back-up storage devices. The Company's encryption/compression packet processors allow network equipment vendors to add bandwidth enhancement and security capabilities to their products. The Company's encryption/compression products provide high-performance implementations of key algorithms used in the implementation of Virtual Private Networks ("VPNs"), which enable businesses to reduce wide area networking costs by replacing dedicated leased lines with lower cost IP-based networks such as the Internet. Using VPNs, businesses also can provide trading partners and other constituents with secure, authenticated access to the corporate network, increasing productivity through improved communications. Storage equipment vendors use the Company's products to improve the performance and capacity of mid- to high-end tape back-up systems. INDUSTRY BACKGROUND The dramatic growth in corporations' use of Internet technology has resulted in the ability to make information available to anyone, from anywhere and at any time. An increasingly mobile workforce, increased telecommuting and the need to connect branch offices, customers, suppliers and other trading partners to the corporate network, have stressed the capabilities of existing network and storage infrastructures. To deliver on the economic promise of Internet technology as a business tool, the Company believes that corporations require two critical capabilities: secure, high-bandwidth network connectivity among geographically dispersed constituents and efficient storage of business information. The Need for Enhanced Bandwidth and Security in Corporate Networks Data traffic over local and wide area networks ("LANs" and "WANs") is growing at an unprecedented pace, forcing corporate network managers to upgrade their network architectures to meet these demands. Traditional network architectures deployed by corporations to meet these needs include leased line connections to branch/remote offices and dial-up (e.g., analog modem and ISDN) connections to support mobile workers and telecommuters. Private Networks -- Traditional Network Architectures. Data traffic over corporate networks often is facilitated by the use of leased line connections, which enable the interconnection of LANs. Typically, routers are used at each end of such leased line connections. These interconnections often take the form of point-to-point links, which are fully managed by the corporate network management staff. The advantage to this approach is that the bandwidth of the link is known, and the corporation can use up to the maximum bandwidth of the link because it is not shared by other users. In addition, because the line is not shared, security is assured without encryption. The primary disadvantage of leased-line connections is the high cost of dedicated bandwidth. The cost is also based on the distance separating the two end points of the link. For large networks involving dedicated connections from corporate headquarters to each remote site, such networks carry significant operating costs. With respect to the corporate data networking traffic via dial-up connections, the remote user or telecommuter "dials" to connect his or her workstation to the corporate network over analog modem or digital (e.g., ISDN) lines. The costs associated with these connections are also based on the bandwidth and the distance of the link. Moreover, corporate support for dial-up users requires significant equipment and service because the network manager must accommodate the appropriate number of service lines needed to support the remote user population. Like most networking equipment, the equipment needed to provide these services 43 49 is often complex and demands careful monitoring and management. As a result, the service and management costs associated with supporting a large dial-up user population can be significant. As traditional private network architectures were broadly adopted, corporate network managers began to demand that network equipment be easier to deploy and more cost-effective to operate. Network equipment vendors responded to these requirements by adopting standards-based, interoperable networking protocols and implementing compression technology that allowed data to be reduced in size prior to transmission without losing any of the data upon receipt ("lossless compression"). Prior to the emergence of standard networking protocols, equipment used at each of the two terminating points of leased line and dial-up connections was provided by the same vendor due to the proprietary nature of the data networking protocols employed. As network equipment vendors implemented standards-based, interoperable networking protocols, corporate customers could purchase products from a variety of vendors, thereby increasing competition among vendors and reducing equipment costs for the customer. One of the primary networking protocol standards deployed to support leased line connections is the Point-to-Point Protocol ("PPP"), developed by the Internet Engineering Task Force (the "IETF"), the organization responsible for development of network protocols for the Internet. PPP, which is implemented at layer two of the network protocol model, is a widely deployed standard and is embedded in most of today's routers, remote access concentrators and personal computers. Bandwidth enhancement, through the use of lossless compression, allows corporations to reduce the costs of leased line and dial-up connections. Lossless compression is a feature of several standard networking protocols, including PPP. The use of lossless compression provides the effect of an approximate doubling of network bandwidth, thereby reducing the cost of transmission by about half. While traditional private network architectures have become more cost-effective over time, the ubiquity of the Internet and its standard protocols is ushering in a new era of more cost-effective and productive access to corporate information resources. Virtual Private Networks -- Emerging Cost-Effective Network Architectures. Substantial economic benefits can be achieved by substituting dedicated leased lines and long distance dial-up lines, commonly used for connecting branch offices and mobile/remote users to the corporate network, with "local" connections (i.e., low-toll or no-toll) to the Internet. For leased lines, use of local Internet connections provides savings because of shorter distance links. For dial-up lines, remote users can make local phone calls to connect to the Internet and subsequently connect to the corporate network. The corporate savings on dial-up access by remote users comes from two sources: the avoidance of long distance toll charges and the "outsourcing" to Internet service providers of the purchase, installation and management of the network equipment. The use of the Internet also facilitates access to corporate information resources by the users of broadband access technologies such as cable modems and digital subscriber line services, which typically are connected directly to the Internet. The use of Internet connections also permits companies to greatly expand the number and types of people who can access their networks. Internet connections can be used to connect suppliers, customers and other constituents to the corporate network in ways that are not practical using leased lines or dial-up links. However, when corporations use the Internet in place of leased lines and dial-up links, the corporation must use network security protocols incorporating encryption technology to maintain the privacy of data transmitted over the network. Corporate networks implemented using network security protocols are known as VPNs because they are implemented using a shared network such as the Internet, but achieve their status as "private" through the use of encryption technology. One example of a VPN is the Automotive Network Exchange ("ANX") project. The ANX is being developed by the Automotive Industry Action Group, a trade association of North American vehicle manufacturers and suppliers. The goal of the project is to establish a VPN to improve business communications among the North American vehicle manufacturers and their suppliers and trading partners. The ANX network is expected to provide a dramatic reduction in the costs of doing business among participating trading partners. 44 50 Broad implementation of VPNs requires that standards-based network security protocols be deployed in a wide variety of networking products, including routers, remote access concentrators, switches, broadband access equipment, network interface cards, security gateways and firewalls. The IETF has developed a networking protocol called IP Security (the "IPSec protocol"), which is implemented at layer three in the network protocol model. The IPSec protocol provides bandwidth enhancement through the use of compression and data integrity and confidentiality through the use of encryption. Encryption makes data appear random by removing any detectable patterns. Compression searches data for patterns and replaces them with shorter representations of the information. Accordingly, compression must occur prior to encryption. Thus, the use of encryption at layer three in the network model has the effect of rendering PPP (layer two) compression ineffective. The IPSec protocol is more scalable and has more robust security capabilities than other network security protocols, such as the Point-to-Point Tunneling Protocol ("PPTP") developed by Microsoft. The Company believes that the IPSec protocol, which can be deployed in both LAN and WAN equipment, will become the most widely used protocol for the implementation of VPNs. Implementation of network security protocols places great processing demands on networking equipment architectures. When compared to processing of unsecured data packets, where only a small portion of the data packet requires processing, each byte of a secure packet must be processed using computation-intensive algorithms, stealing processing bandwidth from other critical network processing functions such as routing, switching and packet filtering. Processing of secure packets involves three distinct operations: compression for bandwidth enhancement, encryption for data privacy, and data authentication to ensure data integrity. The traditional approach to the implementation of new network protocols has been to provide the new capabilities in software. The processing demands of security protocols, particularly the IPSec protocol, however, exceed the capabilities of today's general purpose microprocessors that support unsecured network routing and switching protocols. Software implementation of the IPSec protocol in a router, firewall or in other network equipment often results in a significant degradation in the performance of the equipment. These processing demands are driving network equipment vendors to develop new protocol processing architectures. One approach is to divide the security protocol processing elements of compression, encryption and data authentication into separate, interconnected processing elements where the processing for each function can be performed either by a general purpose microprocessor, a custom-designed Application Specific Integrated Circuit ("ASIC"), or other logic circuit. However, the use of separate processing elements for each function results in more complex system designs that require higher performance interconnections to support data movements in and out of each processing element. Networking equipment vendors are responding to the VPN opportunity by building a variety of products that integrate the IPSec protocol. The technological challenges and the significant time-to-market pressures such vendors face, however, have made it increasingly difficult for them to develop internally the semiconductor devices necessary to implement the IPSec protocol in their products. As a result, the Company expects a market to develop for high-performance, integrated, multi-protocol packet processors that perform the computation-intensive tasks of compression, encryption and data authentication, that comply with industry standard network security protocols and that can be easily integrated into vendors' systems. The Need for Efficient Storage of Corporate Data The increasing connectivity of the corporate workforce also has caused dramatic increases in the need to share data across locations, with the need for online data to be available at all times and at all locations. Network servers, based on the Unix and Microsoft Windows NT operating system platforms, are proliferating because of the need to distribute data throughout the enterprise for access and update at the lowest levels in the organizational hierarchy. The growth in hard disk storage on network servers and user workstations has stressed the capability of currently available back-up subsystems. While there are a number of approaches to providing back-up, particularly for servers, most revolve around the use of tape drives. Either stand-alone, or with multiple drives configured in tape libraries or jukeboxes, the demand for capacity and performance of these subsystems continues to increase. The opportunity to back up server disk storage, an administrative operation typically 45 51 performed during "off hours," has dwindled. Thus, the suitability for a tape subsystem to back up server storage is increasingly dependent on the rate at which the tape subsystem can accept data from host systems and subsequently write it to the media. Today's mid- to high-end tape drive architectures consist of three key elements: (i) a host interface such as a Small Computer Systems Interface ("SCSI"), (ii) a processing element that typically includes a general-purpose microprocessor and an ASIC for tape formatting and memory management functions, and (iii) motor control and front-end head interface electronics. The performance requirements of mid- to high-end tape drives require that compression functions, which typically provide doubling of capacity and performance, be performed by dedicated semiconductor implementations within the tape drive electronics. Accordingly, the Company expects mid- to high-end tape back-up equipment vendors to continue to demand high-performance, standards-based, interoperable implementations of compression processors that can be easily integrated into their tape drive architectures. THE HI/FN SOLUTION Hi/fn designs, develops and markets high-performance, multi-protocol packet processors -- semiconductor devices that enable secure, high-bandwidth network connectivity and efficient storage of business information. The Company's packet processor products perform the computation-intensive tasks of compression and encryption/compression, providing its customers with high-performance, interoperable implementations of a wide variety of industry-standard networking and storage protocols. The Company believes that its patented compression technology comprises the fundamental know-how for the design and implementation of low-cost, high-performance implementations of lossless compression and gives its products a decisive competitive advantage. By offering a wide range of price-performance implementations of its patented, standards-compliant technology, the Company is able to sell products to network and storage equipment vendors that allow them to reduce development costs and time-to-market. The Company's patented Lempel-Ziv-Stac compression technology ("LZS") is incorporated into several networking protocol standards, including PPP and the frame relay protocol, allowing network equipment vendors to rapidly integrate proven solutions for mitigating the costs associated with traditional private leased-line network architectures. The Microsoft Point-to-Point ("MPPC") implementation of the Company's patents, developed by Microsoft, is incorporated into the PPP and PPTP implementations of the Windows 95, 98 and NT operating systems. The Company offers high-performance compression processors that implement LZS and MPPC. The Company also licenses software implementations of LZS and MPPC to industry-leading network equipment vendors for use in their networking products. In support of emerging VPN architectures, the Company has produced one of the industry's first network security processors, integrating the critical functions of compression, encryption and data authentication in compliance with the IPSec protocol. This integration allows network equipment vendors to add highly-integrated, high-performance VPN capabilities to their routers, remote access concentrators, switches, broadband access equipment and firewalls. The Company also licenses a complete, portable software implementation of the IPSec protocol, allowing network vendors to get to market quickly with their VPN implementations at a fraction of the cost of internal software development efforts. The Company's line of compression processors targeted at back-up storage applications provides storage equipment vendors high-performance implementations of the Company's patented compression technology, doubling the capacity and performance of mid- to high-end tape drive systems. Hi/fn's LZS implementation of the Company's patents is used in the market-leading DLT 4000 and DLT 7000 tape drive products from Quantum. The Adaptive Lossless Data Compression ("ALDC") implementation of the Company's patents, developed by IBM, is used in a variety of tape storage products, including the Travan style of quarter-inch cartridge tape drives. 46 52 BUSINESS STRATEGY Hi/fn's objective is to become a leading provider of high-performance, multi-protocol packet processor products that enable its customers to provide products with enhanced bandwidth and high-performance security capabilities. Key elements of the Company's strategy include the following: Focus on Network Equipment Markets. Hi/fn has targeted and intends to continue to target the network equipment market, including the markets for remote access concentrators, routers, switches, broadband access equipment, network interface cards and firewalls, which are characterized by intense time-to-market pressures, demanding performance requirements and demands for interoperable, standards-based solutions. The Company's 7711 encryption processor, which incorporates compression, encryption and data authentication capabilities, was designed specifically to allow the Company's network equipment customers to add high-performance VPN capabilities to their networking products. Leverage Proprietary Compression Technology. The Company intends to leverage its proprietary portfolio of compression technologies to establish a leadership position in the market for integrated processors that perform the task of compression, encryption and data authentication. The Company's core compression technology has been adopted throughout its target markets in a wide variety of networking and storage standards. The Company believes that its patents provide the fundamental know-how for the design of high-performance, cost-effective implementations of lossless compression of data. Emphasize Storage Equipment Market. The Company intends to continue to emphasize the development of high-performance packet processor products that serve the mid- to high-end back-up storage equipment market. In addition, the Company intends to continue to leverage technologies developed for storage applications in its products designed for network equipment markets because the performance requirements of the back-up storage equipment market often exceed the requirements of the network equipment market. For example, the Company is developing a compression packet processor expected to perform at 100Mbytes per second, faster than most networking products available today. Maintain Technology Leadership. Hi/fn has made and intends to continue to make substantial investments in the technologies that form the core of its packet processors, with the goal of providing price-performance product alternatives and enabling broad adoption and deployment of packet processing functionality. Hi/fn intends to continue to develop higher performance and more fully integrated packet processing functionality. The Company also intends to continue to leverage its engineering resources and intellectual property portfolio to develop additional products. Contribute to Industry Standards. Hi/fn has been and intends to continue to be an active contributor in the development of several industry standards in networking and storage applications. The Company has participated in a wide variety of standards groups, including American National Standards Institute, the IETF, the Frame Relay Forum, the ADSL Forum, Quarter-Inch Cartridge Drive Standards and others. Various implementations of the Company's patented compression technology have been specified in a variety of networking and storage protocols. The Company believes this is due to the wide range of price-performance options available for integrating the Company's compression technology into equipment vendors' products, including software implementations and high-performance semiconductor implementations. The Company's early involvement in these standards activities provides it with insight into and influence over the technical directions of emerging technologies. As a result, the Company is able to evaluate market and technical opportunities at early stages in the market development cycle. Leverage the Fabless Semiconductor Business Model. The Company intends to continue to subcontract all of its semiconductor manufacturing. The use of outside manufacturing partners, a "fabless" model, allows the Company to focus substantially all of its resources on the design, development and support of its products. The Company believes this approach lowers technology and production risks, reduces time-to-market and increases profitability. Strengthen and Expand Customer Relationships. Hi/fn intends to maintain a customer-oriented approach that stresses relationships with leading network and storage equipment vendors and emphasizes strong customer input in the product definition process. Hi/fn has developed relationships with several leading 47 53 network and storage equipment vendors, enabling the Company to achieve design wins in new systems at the time of initial product definition. Beyond the design stage, Hi/fn's field applications engineering group offers full service technical support and training. By working with customers throughout the entire product life-cycle, the Company is able to gain insights into its customers' future plans and needs, identify emerging industry trends and consequently deliver high-performance, cost-effective products. CUSTOMERS AND PRODUCTS A number of leading manufacturers of network and storage equipment have designed products that incorporate the Company's products. To date, the Company has secured several design wins with networking and storage equipment vendors. To qualify as a design win, an equipment vendor must have ordered samples of the Company's packet processors or an evaluation board and initiated a product design that incorporates the Company's packet processors. During the design-in process, the Company works with each customer, providing training on the Company's products, assisting in resolving technical questions and providing price and delivery information to assist the customer in getting its products into volume production. There can be no assurance that any of the design wins secured by the Company will result in demand for the Company's products. See "RISK FACTORS -- Dependence Upon Development of the Market for Packet Processors" and "-- New Product Development and Evolving Industry Standards; Technological Change." At September 30, 1998, the Company has a backlog of semiconductor orders representing $10.1 million of products deliverable to customers over the next 12 months. The Company quotes product lead times to customers of approximately three months, with the result that most products shipped during a quarter were ordered during the previous quarter. Customers may reschedule or cancel orders, subject to negotiated windows, with the result that orders scheduled for shipment in a quarter may be moved to a subsequent quarter or cancelled altogether. The Company's products -- compression processors, encryption/compression processors and software -- provide a broad range of price/performance alternatives for the implementation of secure, high-performance networks and efficient, high-performance tape storage devices. Hi/fn also offers evaluation boards to assist customers in the evaluation of the Company's products. Network Bandwidth Enhancement Products. Hi/fn's 9710 and 9711 high-performance compression processors provide essential bandwidth-enhancement for network equipment such as routers, remote access concentrators, broadband access equipment and switches. These products provide flexible bus interfaces and a variety of memory configuration options to allow customers to tailor their uses to meet a variety of network system requirements. Hi/fn licenses a line of software compression libraries that provide similar functionality to its line of compression processor products for low-performance applications such as modems and ISDN links. The software products are offered in source and object code toolkits.
PRODUCT DESCRIPTION DATE OF INTRODUCTION ------- ----------- -------------------- 9710 Compression processor, September 1996 multi-history LZS, operating at 8 Mbytes/sec 9711 Compression processor, February 1997 multi-history LZS and MPPC, operating at 8Mbytes/sec LZS221 Compression software, November 1995 multi-history, LZS offered in C source code and other microprocessor-specific implementations MPPC Compression software, July 1996 multi-history, MPPC, offered in C source code
48 54 Network Security Products. Hi/fn's 7711 high-performance encryption processor provides essential bandwidth-enhancement and security for network equipment such as routers, remote access concentrators, switches and firewalls. The 7711 provides a flexible bus interface and a variety of memory configuration options to allow adaptation to meet a variety of network system requirements. The 7711 is pin-compatible with the 9711 compression processor, providing customers with an easy upgrade path from compression to encryption/compression. Hi/fn also licenses a portable, source code implementation of the IPSec protocol.
PRODUCT DESCRIPTION DATE OF INTRODUCTION ------- ----------- -------------------- 7711 Encryption processor, DES/Triple- October 1997 DES/RC4 encryption, LZS/MPPC compression, MD5/SHA1 data authentication, operating at 8 Mbytes/sec 7751 Encryption processor, DES/Triple- October 1998 DES/RC4 encryption, LZS/MPPC compression, MD5/SHA1 data authentication, operating at 8 Mbytes/sec, PCI 2.1 interface, DMA Masker IPSECure IPSEC Source code toolkit, providing May 1998 packet processing functions of the IPSec protocol IPSECure ISAKMP Source code toolkit, providing key May 1998 management protocol functions of the IPSec protocol
Storage Enhancement Products. The Company's 9610 and 9732 high-performance compression processors provide a typical doubling of capacity and performance for mid- to high-end tape drive products.
PRODUCT DESCRIPTION DATE OF INTRODUCTION ------- ----------- -------------------- 9732 Compression processor, single June 1994 history LZS, operating at 32 Mbytes/sec 9610 Compression processor, single May 1997 history LZS, operating at 50 Mbytes/sec
Evaluation Boards. To facilitate the adoption of its semiconductor devices, the Company designs system-level boards that resemble actual end-products or subsystems. The Company's evaluation boards include basic hardware and software that enable customers to expedite their designs by using the evaluation boards as a reference or by incorporating portions of them into their own designs. These boards are used as evaluation and development vehicles for each semiconductor device designed by the Company. TECHNOLOGY Hi/fn's multi-protocol packet processors are high-performance compression and encryption/compression processors that have been designed to meet the needs of networking and storage equipment vendors. The Company believes that its patented compression technology, employed in all of its packet processors, gives it a substantial competitive advantage. In addition to core technologies developed by the Company, the Company has enhanced the features and functionality of its products through the licensing of certain technologies from third parties. Compression Algorithms and Architectures. The Company is the holder of key patents that cover a wide variety of lossless compression algorithms and their implementations. Specific implementations of the Company's compression patents include the following compression algorithms: LZS, developed by Stac; MPPC, developed by Microsoft; and ALDC, developed by IBM. The Company has continued to improve the performance, functionality and architectures of these compression techniques. For example, semiconductor implementations of the LZS algorithm have improved in performance by a factor of 40 in under four years. Through the use of various architectural implementations of its compression algorithms, the Company is able to provide compression solutions over a broad price-performance spectrum. 49 55 Encryption and Data Authentication Algorithms. The Company develops high-performance implementations of industry standard encryption algorithms (e.g., DES, Triple-DES and RC4) and data authentication algorithms (e.g., MD5 and SHA1). Coupled with its patent position in compression, the Company is positioned to combine compression with encryption and data authentication as specified in the most widely used network security protocols, such as IPSec and PPTP. In addition, the Company has licensed the rights to implement three encryption algorithms of RSA Data Security in the Company's semiconductor products, including the Rivest Shamir Adelman ("RSA") public key encryption system and the Rivest Cipher 4 ("RC4") and Rivest Cipher 5 ("RC5") symmetric key encryption algorithms. Integrated, High-Performance Packet Processing. The Company is continuing to develop additional packet processing functionality, including the implementation of public key encryption algorithms and increased integration of computation-intensive security protocol processing functions. Performance improvements of the Company's packet processing functions are expected to support gigabit speeds in the future. INTELLECTUAL PROPERTY The Company's future success and ability to compete are dependent, in part, upon its proprietary technology. The Company relies in part on patent, trade secret, trademark, maskwork and copyright law to protect its intellectual property. The Company owns 12 United States patents and four foreign patents. The Company also has two pending patent applications in Japan. The issued patents and patent applications primarily cover various aspects of the Company's compression technology and have expiration dates ranging from 2006 to 2013. There can be no assurance that any patents will issue pursuant to the Company's current or future patent applications or that the patents issued pursuant to such patent applications will not be invalidated, circumvented or challenged. There can be no assurance that any patents issued to the Company will be adequate to safeguard and maintain the Company's proprietary rights, to deter misappropriation or to prevent an unauthorized third party from copying the Company's technology, designing around the patents owned by the Company or otherwise obtaining and using the Company's products, designs or other information. In addition, there can be no assurance that others will not develop technologies that are similar or superior to the Company's technology. In addition, the Company claims copyright protection for certain proprietary software and documentation. The Company attempts to protect its trade secrets and other proprietary information through agreements with its customers, suppliers, employees and consultants, and through other security measures. Although the Company intends to protect its rights vigorously, there can be no assurance that these measures will be successful. In addition, the laws of certain countries in which the Company's products are or may be manufactured or sold may not protect the Company's products and intellectual property. In 1996 and 1997, the Company entered into agreements with RSA Data Security, Inc., a subsidiary of Security Dynamics, Inc., granting the Company the rights to implement three encryption algorithms licensed by RSA, specifically the RSA public key encryption system and the RC4 and RC5 symmetric key encryption algorithms. Agreements with IBM. In April 1994, Stac entered into two related patent cross license agreements with IBM, one related to software products and the other to hardware products. The term of each agreement continues until all of the patents licensed under such agreement have expired. Pursuant to the software patent cross license, IBM granted Stac a nonexclusive license under certain IBM patents for making, using and selling software programs designed to operate with all operating systems (and their extensions or emulations) other than IBM mainframe-type operating systems. IBM also granted Stac the right to combine products licensed under IBM's patents with other products and granted Stac's customers the right to use those combined products. In exchange for the rights granted to Stac by IBM under the software patent cross license, Stac granted IBM a nonexclusive license under certain Stac patents for making, using and selling any software programs used in systems that process information. Stac also granted IBM the right to combine products licensed under Stac's patents with other products and granted certain IBM customers the right to use those combined products. 50 56 Pursuant to the hardware cross license agreement, IBM granted Stac a nonexclusive license under certain IBM patents for making, using and selling, and for practicing any methods involved in making or using, lossless data compression products. The license, however, restricts Stac from incorporating the IBM patents in the manufacture of lossless data compression products for third parties that are based upon third-party designs for lossless data compression. IBM also granted Stac the right to combine the hardware products with software programs licensed under the software cross license. In addition, IBM granted to users of Stac's licensed products an immunity from suit for use of combinations of the licensed hardware products with software programs. In exchange for the license from IBM, and in exchange for payment of a one-time license fee by IBM, Stac granted IBM a nonexclusive license under certain Stac patents for making, using and selling, and for practicing any methods involved in making or using, hardware products. The license, however, restricts IBM from incorporating the Stac patents in the manufacture of hardware products for third parties that are based upon third-party designs for lossless data compression. Stac also granted IBM the right to combine the hardware products with software programs licensed under the software cross license. In addition, Stac granted users of IBM's licensed products an immunity from suit for use of combinations of the licensed hardware products with software programs. Under the terms of the software and hardware patent cross license agreements between IBM and Stac, the Company is eligible to receive equivalent license rights from IBM, provided that the licenses may not be further extended to a Hi/fn subsidiary. Stac has requested that IBM enter into such license agreements with the Company. Agreement with Motorola. In December 1995, Stac entered into a cross license and royalty agreement with Motorola. Pursuant to this agreement, Motorola granted Stac and Stac's subsidiaries a nonexclusive license under two Motorola patents and one Motorola patent application for making and having made products (both hardware and software) for data communications and using, selling and leasing such products under Stac's trade identity. Stac is also permitted, with certain exceptions, to grant sublicenses to software and semiconductor device customers in accordance with a standard agreement available to Stac. Except for the foregoing sublicensing is prohibited under the agreement. In exchange for the license under Motorola's patents, and in exchange for certain royalties, Stac granted Motorola and Motorola's subsidiaries (i) a nonexclusive license under five Stac patents and a foreign patent application for (A) making and having made data communications products other than stand alone semiconductor devices or stand alone software that were to be sold to entities other than Motorola or Stac or their subsidiaries and (B) using, leasing and selling products under Stac's trade identity, and (ii) a nonexclusive license under Stac's copyrights and patents (A) to use, copy and distribute software for integration into Motorola's products that incorporate LZS data compression and (B) to distribute LZS data compression software for integration with Motorola's products that incorporate LZS data compression as long as the modifications do not change the encoding format of the unmodified data compression software. Pursuant to the Motorola agreement, each of Stac and Motorola is required to pay to the other an annual lump sum royalty based on projected sales, the amount of which varied depending on the annual sales volume and the net sales price. All royalties are subject to an overall maximum amount and terminate after seven years. The term of the agreement continues until all of the licensed patents have expired. Stac has assigned, and the Company has assumed, all of Stac's rights and obligations under the Motorola agreement. Agreement with Microsoft. In February 1996, Stac entered into a license agreement with Microsoft pursuant to which Microsoft granted Stac a nonexclusive license to use Microsoft's implementation of the MPPC compression format (i) to create compression software that performed data compression in accordance with the MPPC compression format, (ii) to permit third parties to integrate Microsoft's or Stac's MPPC software, (iii) to permit third parties to exploit products into which MPPC software is integrated, and (iv) to perform data compression in Stac's MPPC Software in accordance with the MPPC compression format. As a condition of the license, Stac must distribute un-optimized Microsoft compression software on the same terms and conditions, including price, as those for Stac's LZS software. The term of the agreement 51 57 continues until all of the licensed patents have expired. Stac has assigned, and the Company has assumed, all of Stac's rights and obligations under the Microsoft agreement. EXPORT RESTRICTIONS ON ENCRYPTION ALGORITHMS A key element of the Company's packet processor architecture is the encryption algorithms embedded in its semiconductor and software products. These products are subject to export control restrictions administered by the U.S. Department of Commerce, which permit the Company's network equipment customers to export products incorporating encryption technology only with the appropriate export license. In addition, these U.S. export laws prohibit the export of encryption products to a number of countries deemed hostile by the U.S. government. U.S. export regulations regarding the export of encryption technology require either a transactional export license or the granting of Department of Commerce Commodity jurisdiction. As a result of this regulatory regime, foreign competitors facing less stringent controls on their products may be able to compete more effectively than the Company's network equipment customers in the global market. There can be no assurance that the U.S. government will approve any pending or future export license requests. Further, there can be no assurance that the list of products and countries for which export approval is required, or the regulatory policies with respect thereto, will not be revised from time to time, or that laws limiting the domestic use of encryption will not be enacted. Failure of the Company's network equipment customers to obtain the required licenses or the costs of compliance could inhibit the sale of the Company's packet processors. COMPETITION The networking and storage equipment markets into which the Company sells its products are intensely competitive and are subject to frequent product introductions with improved price-performance characteristics, rapid technological change, unit price erosion and the continued emergence of new industry standards. The semiconductor industry is also intensely competitive and is characterized by rapid technological change, product obsolescence and unit price erosion. The Company expects competition to increase in the future from existing competitors and from companies that may enter the Company's existing or future markets, including certain customers, with similar or substitute solutions that may be less costly or provide better performance or features than the Company's products. To be successful in the future, Hi/fn must continue to respond promptly and effectively to changing customer performance, feature and pricing requirements, technological change and competitors' innovations. There can be no assurance that the Company will be able to compete successfully against current and future competitors or that competitive pressures faced by the Company will not materially adversely affect the Company's business. The Company's products compete with products from companies such as IBM, VLSI, Rainbow, IRE and Analog Devices. In 1994, Stac entered into two license agreements with IBM pursuant to which Stac granted IBM the right to implement, but not sublicense, the Company's patented compression technology in IBM hardware and software products. Stac also entered into a license agreement with Microsoft in 1994 pursuant to which Stac granted Microsoft the right to create software implementations of the Company's patented compression technology in Microsoft's software products. Stac's license agreement with Microsoft, however, prohibits Microsoft from creating hardware implementations of the Company's patents. The Company also competes against software solutions that use general purpose microprocessors to run encryption algorithms and the Company's software compression libraries. Moreover, the Company's encryption/ compression processors are subject to export control restrictions administered by the U.S. Department of Commerce, which permit the Company's network equipment customers to export products incorporating encryption technology only with the appropriate export license. As a result of these restrictions, foreign competitors facing less stringent controls on their encryption products could inhibit the sale of the Company's encryption/compression processors to network equipment customers in the global market. In addition, the Company expects significant future competition from major domestic and international semiconductor suppliers. Several established electronics and semiconductor suppliers have recently entered or indicated an intent to enter the network equipment market. The Company may also face competition from suppliers of products based on new or emerging technologies. Furthermore, many of the Company's existing and potential 52 58 customers internally develop ASICs, general purpose microprocessors and other devices which attempt to perform all or a portion of the functions performed by the Company's products. Many of Hi/fn's current and potential competitors have longer operating histories, greater name recognition, access to larger customer bases and significantly greater financial, technical, marketing and other resources than the Company. As a result, they may be able to adapt more quickly to new or emerging technologies and changes in customer requirements or to devote greater resources to the promotion and sale of their products than the Company. In particular, companies such as Texas Instruments, National Semiconductor, Lucent, Intel and Motorola have proprietary semiconductor manufacturing ability, preferred vendor status with many of the Company's customers, extensive marketing power and name recognition, greater financial resources than the Company and other significant advantages over the Company. In addition, current and potential competitors may determine, for strategic reasons, to consolidate, to lower the price of their products substantially or to bundle their products with other products. Current and potential competitors have established or may establish financial or strategic relationships among themselves or with existing or potential customers, resellers or other third parties. Accordingly, it is possible that new competitors or alliances among competitors could emerge and rapidly acquire significant market share. There can be no assurance that the Company will be able to compete successfully against current and future competitors. Increased competition may result in price reductions, reduced gross margins and loss of market share, any of which could materially adversely affect the Company's business, financial condition and results of operations. The Company believes that important competitive factors in its markets are performance, price, length of development cycle, design wins with major network and storage equipment vendors, support for new network and storage standards, features and functionality, adaptability of products to specific applications, support of product differentiation, reliability, technical service and support and protection of products by effective utilization of intellectual property laws. The failure of the Company to successfully develop products that compete successfully with those of other suppliers in the market would have a material adverse effect on the Company's business, financial condition and results of operations. In addition, the Company must compete for the services of qualified distributors and sales representatives. To the extent that the Company's competitors offer such distributors or sales representatives more favorable terms on a higher volume of business, such distributors or sales representatives may decline to carry, or discontinue carrying, the Company's products. The Company's business, financial condition and results of operations could be adversely effected by any failure to maintain and expand its distribution network. See "RISK FACTORS -- Intensely Competitive Markets." RESEARCH AND DEVELOPMENT The Company's success will depend to a substantial degree upon its ability to develop and introduce in a timely fashion new products and enhancements to its existing products that meet changing customer requirements and emerging industry standards. Hi/fn has made and plans to continue to make substantial investments in research and development. Extensive product development input is obtained from customers and through the Company's participation in industry organizations and standards setting bodies such as the IETF. As of September 30, 1998, the Company's research and development staff consisted of 26 employees. The Company's research and development expenditures totaled $5.4 million during fiscal 1998 and $3.0 million in the fiscal year ended September 30, 1997, representing 25.1% and 21.0% of revenues for such periods, respectively. Research and development expenses primarily consist of salaries and related costs of employees engaged in ongoing research, design and development activities, costs of fabricating chip mask sets and subcontracting costs. The Company performs its research and product development activities at its facilities in San Jose, California and Carlsbad, California. The Company is seeking to hire additional skilled development engineers. In April 1998, Hi/fn acquired a software implementation of the IPSec protocol from CyLAN Technologies, Inc. As part of the acquisition, the Company gained expertise in the development of software implementations of a wide range of networking protocol functions, including IPSec and TCP/IP. 53 59 The Company's future performance depends on a number of factors, including its ability to identify emerging technological trends in its target markets, develop and maintain competitive products, enhance its products by adding innovative features that differentiate its products from those of its competitors, bring products to market on a timely basis at competitive prices, properly identify target markets and respond effectively to new technological changes or new product announcements by others. In evaluating new product decisions, the Company must anticipate well in advance the future demand for product features and performance characteristics, as well as available supporting technologies, manufacturing capacity, industry standards and competitive product offerings. No assurance can be given that the Company's design and introduction schedules for any additions and enhancements to its existing and future products will be able to be sold at prices that are favorable to the Company. The Company must also continue to make significant investments in research and development in order to continue enhancing the performance and functionality of its products to keep pace with competitive products and customer demands for improved performance, features and functionality. The technical innovations required for the Company to remain competitive are inherently complex and require long development cycles. Such innovations must be completed before developments in networking technologies or standards render them obsolete and must be sufficiently compelling to induce network and storage equipment vendors to favor them over alternative technologies. Moreover, the Company must generally incur substantial research and development costs before the technical feasibility and commercial viability of a product line can be ascertained. There can be no assurance that revenues from future products or product enhancements will be sufficient to recover the development costs associated with such products or enhancements or that the Company will be able to secure the financial resources necessary to fund future development. The failure to successfully develop new products on a timely basis could have a material adverse affect on the Company's business, financial condition and results of operations. See "RISK FACTORS -- Frequent Product Introductions and Evolving Industry Standards; Rapid Technological Change." SALES, MARKETING & TECHNICAL SUPPORT The Company markets its products through a direct sales and marketing organization, to be headquartered in Los Gatos, California following the Distribution, with a sales office in Boston, and through independent contract sales representatives in the United States, Europe, Japan and other areas. The Company does not have any foreign operations and sales of its products to foreign companies, other than product shipments to contract manufacturers of domestic customers, have not been material. Sales representatives are selected for their understanding of the marketplace and their ability to provide effective field sales support for Hi/fn's products. The Company's relationships with some of its sales representatives have been established within the last year, and the Company is unable to predict the extent to which some of these representatives will be successful in marketing and selling the Company's products. Sales to U.S. customers account for the substantial majority of Hi/fn's revenues. Due to the export controls imposed on encryption products by the U.S. government, the Company's shipments to international customers are limited to compression processors and compression software. The Company is actively working with its network equipment customers and the National Security Agency to comply with U.S. export controls to facilitate the export of the Company's customer's products which incorporate the Company's encryption products. There can be no assurance that the Company will be successful in these efforts and that competitors outside of the U.S. will not develop encryption products to meet the needs of the Company's customers, thereby reducing the opportunity for the Company to sell its products. The Company has a number of marketing programs designed to inform network and storage equipment vendors about the capabilities and benefits of the Company's products. The Company's marketing efforts include participation in industry trade shows, technical conferences, preparation of competitive analyses, sales training, publication of technical and educational articles in industry journals, maintenance of Hi/fn's world wide web site, advertising and direct mail distribution of Company literature. 54 60 Technical support to customers is provided through field and factory applications engineers and, if necessary, product designers. Local field support is provided in person or by telephone. The Company believes that providing customers with comprehensive product service and support is critical to maintaining a competitive position in the market and is critical to shortening the time required to design in the Company's products. The Company works with its customers to monitor the performance of its product designs and to provide support at each stage of customer product development. MANUFACTURING Currently, Hi/fn subcontracts all of its semiconductor manufacturing on a turnkey basis, with the Company's suppliers delivering fully assembled and tested products based on the Company's proprietary designs. The use of the fabless model allows the Company to focus substantially all of its resources on determining customer requirements and on the design and development and support of its products. This model allows the Company to have significantly reduced capital requirements. The Company subcontracts its semiconductor manufacturing to Toshiba Corporation, Atmel Corporation, and Motorola. The selection of these manufacturers was based on the breadth of available technology, quality, manufacturing capacity and support for design tools used by the Company. None of the Company's products is currently manufactured by more than one supplier. However, the Company expects that in the event one of the Company's suppliers notifies the Company that it intends to cease manufacturing a product, the Company will have an adequate opportunity to order sufficient quantities of the effected products so that shipments to customers will not be adversely affected while the Company qualifies a new manufacturer. At any given time, Hi/fn uses mainstream processes for the manufacture of its products, avoiding dependence on the latest process technology available. This approach reduces the Company's technical risks and avoids the risks related to production capacity constraints typically associated with leading edge semiconductor processes. This approach allows the Company to focus on providing differentiated functionality, the primary value-added in the Company's products. The Company's current main products are manufactured using a .5 micron CMOS process. Products under development are being designed for .35 micron CMOS processes. The Company believes that transitioning its products to increasingly smaller semiconductor geometries will be important for the Company to remain competitive. No assurance can be given that future process migration will be achieved without difficulty. Hi/fn intends to continue for the foreseeable future to rely on its subcontract manufacturers and their subcontractors for substantially all of its manufacturing, assembly and testing requirements. All of the Company's subcontract manufacturers produce products for other companies. The Company does not have long-term manufacturing agreements with any of its subcontract manufacturers. The Company's subcontract manufacturers are not obligated to supply products to the Company for any specific period, in any specific quantity or at any specific price, except as may be provided in a particular purchase order that has been accepted by one of its subcontract manufacturers. The Company must place orders approximately 12 to 14 weeks in advance of expected delivery. As a result, the Company has only a limited ability to react to fluctuations in demand for its products, which could cause the Company to have an excess or a shortage of inventory of a particular product. Failure of worldwide semiconductor manufacturing capacity to rise along with a rise in demand could result in the Company's subcontract manufacturers to allocate available capacity to customers that are larger or have long-term supply contracts in place. The inability of the Company to obtain adequate foundry capacity at acceptable prices, or any delay or interruption in supply, could reduce the Company's product revenues or increase the Company's cost of revenues and could have a material adverse effect on the Company's business, financial condition and results of operations. See "RISK FACTORS -- Risks Associated with Independent Manufacturers and Sole-Source Supply." EMPLOYEES As of September 30, 1998, Hi/fn employed a total of 56 full-time employees and 3 part-time contractors. Of the total number of employees, 26 were employed in research and development, 19 in sales and marketing, 55 61 6 in operations and 5 in finance and administration. The Company's employees are not represented by any collective bargaining agreement and the Company has never experienced a work stoppage. The Company believes its employee relations are good. The Company's future success is heavily dependent upon its ability to hire and retain qualified technical, marketing, sales and management personnel. The competition for such personnel is intense, particularly for engineering personnel with related security, networking and integrated circuit design expertise and for applications support personnel with networking product design expertise. See "RISK FACTORS -- Dependence on Key Personnel and Hiring of Additional Personnel." FACILITIES The Company's corporate and technical headquarters are currently located in Los Gatos, California. The Company leases approximately 27,000 square feet of space in Los Gatos, California pursuant to a seven-year lease which expires in August 2005. Stac has guaranteed Hi/fn's obligations under its headquarters lease. Under the Distribution Agreement, Hi/fn has agreed to obtain and deliver to its landlord a $2.0 million letter of credit to replace Stac's guaranty. The guaranty provides that it will terminate when Stac no longer owns a majority interest in Hi/fn and when Hi/fn provides the landlord with such a letter of credit. The Distribution is conditioned on delivery of the letter of credit. The Company also leases two other facilities, a satellite design center in Carlsbad, California and a small field sales office in Westborough, Massachusetts. These facilities occupy an aggregate of approximately 7,000 square feet. LEGAL PROCEEDINGS The Company is not a party to any material legal proceedings. 56 62 MANAGEMENT BOARD OF DIRECTORS The Company Board currently is comprised of five directors: Raymond J. Farnham, Robert W. Johnson, Taher Elgamal, Albert E. Sisto and Douglas L. Whiting. The Company Certificate provides for the Company Board to be divided into three classes of directors, with each class as nearly equal in number as possible, serving staggered three-year terms. As a result, approximately, one-third of the Company Board will be elected each year. The Director in Class I is Raymond J. Farnham, whose term will expire at the 2000 Annual Meeting of Stockholders. The directors in Class II are Robert W. Johnson and Taher Elgamal, whose terms expire at the 2001 Annual Meeting of Stockholders. The directors in Class III are Douglas L. Whiting and Albert E. Sisto, whose terms will expire at the 2002 Annual Meeting of Stockholders. The table below indicates the name, position with the Company and age of each director of the Company.
NAME POSITION WITH HI/FN AGE ---- ------------------- --- Raymond J. Farnham....... Chairman and Chief Executive Officer 51 Douglas L. Whiting, Ph.D................... Chief Technology Officer and Director 42 Robert W. Johnson, Ph.D................... Director 48 Taher Elgamal............ Director 43 Albert E. Sisto.......... Director 49
Raymond J. Farnham has served as Chairman and Chief Executive Officer of the Company since October 1998. From 1996 through 1998, he served as Executive Vice President of Integrated Device Technology, Inc., a supplier of microprocessor, logic and memory integrated circuits to communication and computer customers worldwide. Mr. Farnham was President and Chief Executive Officer of OPTi, a fabless semiconductor company, from 1994 through 1995. From 1972 through 1993, he had numerous management responsibilities at National Semiconductor Corp., with his final position being President of the Communication and Computing Group from 1991 through 1993. He received his B.S. in Electrical Engineering from Pennsylvania State University. Douglas L. Whiting, Ph.D. has served as Chief Technology Officer since October 1997 and as a director of the Company since November 1996. He also has served as Vice President of Technology of Stac since 1985 and has served as a director of Stac since 1983. He was President of Stac from 1984 to 1986. Dr. Whiting received a Ph.D. in Computer Science from the California Institute of Technology. Robert W. Johnson, Ph.D. has been a private investor since July 1988. From 1983 to July 1988, he was first a principal and subsequently a general partner of Southern California Ventures, a private venture capital firm. He is a director of Proxima Corporation and ViaSat, Inc., both publicly held technology companies. Dr. Johnson holds undergraduate and graduate degrees from Stanford University and Harvard University. Taher Elgamal, Ph.D. has served as a director of the Company since December 1998. He is the founder and Chairman of Securify, a private company providing assessments of companies' Internet security efforts. He has served as Chairman of Securify since March 1998. From 1995 to 1998, Dr. Elgamal held the position of Chief Scientist of Netscape Communications Corp., a provider of Internet software and services, where he pioneered Internet security technologies such as SSL, the standard for web security. From 1991 to 1993, he served as Director of Engineering at RSA Data Security, Inc., a subsidiary of Security Dynamics, where he produced the RSA cryptographic toolkits, the industry standards for developers of security-enabled applications and systems. Dr. Elgamal received a Ph.D. from Stanford University. Albert E. Sisto has served as a director of the Company since December 1998. Since November, 1997, he has been Chief Operating Officer of RSA Data Security, a provider of encryption technology and a subsidiary of Security Dynamics. From September 1994 to October 1997, Mr. Sisto was Chairman, President and CEO of Documagix, a software developer of document imaging software. Mr. Sisto is a director of Jetfax, Inc., Insignia Solutions plc and Tekgraf, Inc., all publicly traded technology companies, and also is a director of nCiphor and Trintech Group Ltd. Mr. Sisto holds a B.E. degree from the Stevens Institute of Technology. 57 63 COMMITTEES OF THE BOARD OF DIRECTORS AUDIT COMMITTEE. The Company has an Audit Committee comprised of Messrs. Johnson and Sisto. The Audit Committee will review the annual audits of the Company's independent public accountants, review and evaluate internal accounting controls, recommend the selection of the Company's independent public accountants, review and pass upon (or ratify) related party transactions, and conduct such reviews and examinations as it deems necessary with respect to the practices and policies of, and the relationship between, the Company and its independent public accountants. COMPENSATION COMMITTEE. The Company has a Compensation Committee comprised of Messrs. Sisto and Elgamal. The Compensation Committee will review salaries, bonuses and stock options of senior officers of the Company, and administer the Company's executive compensation policies and stock option plans. COMPENSATION OF THE BOARD OF DIRECTORS Each non-employee director of the Company will receive $4,000 per year for serving on the Company Board and an additional $1,000 for each meeting attended (other than committee meetings). An additional $500 will be paid to any non-employee director who serves on the Compensation Committee or the Audit Committee. Each director is eligible to receive stock options pursuant to the 1996 Plan. See "-- Hi/fn Equity Plans; 1996 Equity Incentive Plan." Directors also will receive reimbursement for travel expenses incurred in connection with their duties as directors. EXECUTIVE OFFICERS Set forth below are the names, positions and ages of the individuals who will become executive officers of the Company upon consummation of the Distribution:
NAME POSITION WITH HI/FN AGE ---- ------------------- --- Raymond J. Farnham................ Chairman and Chief Executive Officer 51 William R. Walker................. Vice President of Finance, Chief 57 Financial Officer and Corporate Secretary Stephen A. Farnow, Ph.D........... Vice President of Operations 49 Robert C. Harrah.................. Vice President of Sales 53 Robert A. Monsour................. Vice President of Marketing 43 Douglas L. Whiting, Ph.D.......... Chief Technology Officer and Director 42
Raymond J. Farnham has served as Chairman and Chief Executive Officer of the Company since October 1998. From 1996 through 1998, he served as Executive Vice President of Integrated Device Technology, Inc., a supplier of microprocessor, logic and memory integrated circuits to communication and computer customers worldwide. Mr. Farnham was President and Chief Executive Officer of OPTi, a fabless semiconductor company from 1994 through 1995. From 1972 through 1993, he had numerous management responsibilities at National Semiconductor Corp., with his final position being President of the Communication and Computing Group from 1991 through 1993. He received his B.S. in Electrical Engineering from Pennsylvania State University. William R. Walker has served as Vice President and Chief Financial Officer of the Company since November 1997. He was the Company's Acting Chief Executive Officer and Acting President from July 1998 through October 1998. From 1996 to 1997, Mr. Walker was Vice President, Chief Financial Officer and Secretary at MMC Networks, Inc., a networking company. From 1984 to 1996, Mr. Walker held the position of Senior Vice President and Chief Financial Officer at Zilog, Inc., a semiconductor supplier. Mr. Walker has a B.S. in Economics from University of Wisconsin and an M.B.A. from University of Maryland, and he is a certified public accountant. Stephen A. Farnow, Ph.D. has served as Vice President of Operations at the Company since 1996. From 1990 through 1996, he worked as an independent consultant in the area of general management with an 58 64 emphasis on setting up or re-engineering operations functions. From 1986 through 1990, he was Vice President of Operations at Weitek Corp., a semiconductor supplier. He received a B.S. in Physics from UCLA and Ph.D. from Stanford University. Robert C. Harrah has served as Vice President of Sales of the Company since December 1998. During the second half of 1998, Mr. Harrah was Vice President of Sales at Oki Semiconductor. From 1995 to 1998, Mr. Harrah served as Vice President of Worldwide Sales for the Peripheral Technology Solutions Group at Adaptec, Inc. From 1988 to 1995, Mr. Harrah held marketing management and sales management positions at Symbios Inc. Mr. Harrah received his B.S. degree from Notre Dame in Belmont, California and his M.P.A. from Golden Gate University in San Francisco, California. Robert A. Monsour has served as Vice President of Marketing of the Company since August 1997. He also served as Vice President of Sales from August 1997 through April 1998. From 1996 to 1997, he worked as an independent consultant in the area of high-technology marketing. From 1993 to 1996, Mr. Monsour, a co- founder of Stac, held the position of Vice President of Business Development there. He was also Vice President of Product Development from 1990 to 1993. From 1988 to 1990 he was Vice President of Marketing at Stac. Mr. Monsour has a B.A.S. and M.A.S. in Computer Systems from Florida Atlantic University and holds an M.B.A. from UCLA. Douglas L. Whiting, Ph.D. has served as Chief Technology Officer of the Company since October 1997 and as a director of the Company since November 1996. He also has served as Vice President of Technology of Stac since 1985 and has served as a director of Stac since 1983. He was President of Stac from 1984 to 1986. Dr. Whiting received a Ph.D. in Computer Science from the California Institute of Technology. EXECUTIVE COMPENSATION The following table sets forth certain information concerning compensation for the fiscal year ended September 30, 1998 and 1997 received by the Chief Executive Officer and the four other most highly compensated executive officers at September 30, 1998 (the "Named Executive Officers"). SUMMARY COMPENSATION TABLE
LONG-TERM ANNUAL COMPENSATION COMPENSATION AWARDS ------------------------------- ------------------------ NUMBER OF RESTRICTED SECURITIES FISCAL STOCK UNDERLYING NAME AND PRINCIPAL POSITION YEAR SALARY($) BONUS($) AWARDS($) OPTIONS(#) --------------------------- ------ --------- -------- ---------- ---------- Arthur J. Collmeyer(1)................... 1998 133,382 33,384 0 0 Former President and Chief Executive 1997 150,000 30,000 0 300,000 Officer Stephen A. Farnow,....................... 1998 132,853 27,183 0 0 Vice President of Operations 1997 100,000 12,600 0 72,000 William R. Walker(2)..................... 1998 128,333 17,850 0 100,000 Vice President of Finance, Chief 1997 0 0 0 0 Financial Officer and Corporate Secretary Douglas L. Whiting....................... 1998 140,000 25,918 0 0 Chief Technology Officer and Director 1997 0 0 0 0 Robert A. Monsour(3)..................... 1998 154,808 69,334 0 0 Vice President of Marketing 1997 17,885 2,910 0 97,500
- --------------- (1) Mr. Collmeyer served as President and Chief Executive Officer of the Company until July 2, 1998. (2) Mr. Walker joined the Company in November 1997 at an annual salary rate of $140,000. (3) Mr. Monsour's 1998 bonus includes $50,000 for reimbursement of relocation expenses. 59 65 STOCK OPTION GRANTS TABLE The following table sets forth certain information with respect to options to purchase Company Common Stock granted during the year ended September 30, 1998 to each of the Named Executive Officers. The Company does not have any outstanding stock appreciation rights.
POTENTIAL REALIZABLE VALUE AT ASSUMED NUMBER OF % OF ANNUAL RATES OF STOCK SECURITIES TOTAL OPTIONS PRICE APPRECIATION FOR UNDERLYING GRANTED TO EXERCISE OR OPTION TERM(1) OPTIONS EMPLOYEES IN BASE PRICE PER EXPIRATION ----------------------- NAME GRANTED(#) FISCAL YEAR(%) SHARE($/SH) DATE 5% 10% ---- ---------- -------------- -------------- ---------- ---------- ---------- William R. Walker...... 100,000 25.8% $2.00 11/03/07 $125,780 $318,740
- --------------- (1) The potential realizable values are based on an assumption that the stock price of the Company Common Stock will appreciate at the annual rate shown (compounded annually) from the date of grant until the end of the option term. These values do not take into account amounts required to be paid as income taxes under the Code and any applicable state laws or option provisions providing for termination of an option following termination of employment, non-transferability or vesting. These amounts are calculated based on the requirements promulgated by the Commission and do not reflect the Company's estimate of future stock price growth of the shares of the Company Common Stock. OPTION EXERCISES AND FISCAL YEAR-END OPTION VALUE TABLE The following table sets forth certain information with respect to the exercise of options to purchase Company Common Stock during the year ended September 30, 1998, and the unexercised options held and the value thereof at that date, for each of the Named Executive Officers.
NUMBER OF SHARES UNDERLYING VALUE OF UNEXERCISED UNEXERCISED OPTIONS HELD AT IN-THE-MONEY OPTIONS AT SHARES SEPTEMBER 30, 1998 SEPTEMBER 30, 1998(1) ACQUIRED ON VALUE ------------------------------------ ----------------------------------- NAME EXERCISE(#) REALIZED($)(2) EXERCISEABLE(#) UNEXERCISEABLE(#) EXERCISEABLE($) UNEXERCISEABLE($) ---- ----------- -------------- ---------------- ----------------- --------------- ----------------- Arthur J. Collmeyer... 0 0 0 0 0 0 Stephen A. Farnow..... 0 0 0 36,000 0 86,400 William R. Walker..... 50,000 0 0 50,000 0 50,000 Douglas L. Whiting.... 0 0 0 0 0 0 Robert A. Monsour..... 56,250 0 0 48,750 0 117,000
- --------------- (1) Calculated by determining the difference between the fair market value of the securities underlying the options at September 30, 1998 ($3.00 per share as determined by the Company Board) and the exercise price of the options. (2) Mr. Walker and Mr. Monsour exercised options pursuant to an early-exercise feature at an exercise price equal to fair market value. HI/FN EQUITY PLANS 1996 Equity Incentive Plan The Company's Amended and Restated 1996 Equity Incentive Plan (the "1996 Plan") was adopted by the Company Board and approved by Stac as the sole stockholder in November 1996. The 1996 Plan was recently amended by the Company Board to, among other things, increase the number of Company Common Stock shares reserved for issuance pursuant to the 1996 Plan to 3,049,900. As of December 4, 1998, 501,375 shares had been issued upon exercise of stock options granted under the 1996 Plan, 1,329,988 shares were subject to options granted under the 1996 Plan and 1,218,537 shares were available for future grants. Mr. Whiting will receive options to purchase 71,509 shares of Company Common Stock under the 1996 Plan as an adjustment to options to purchase Stac Common Stock that he currently holds. See "RELATIONSHIP BETWEEN HI/FN AND STAC AFTER THE DISTRIBUTION -- Employee Benefits Allocation Agreement." Unless terminated sooner, the 1996 Plan will terminate automatically in November 2006. 60 66 The 1996 Plan provides for the grant of (i) incentive stock options, within the meaning of Section 422 of the Internal Revenue Code of 1986, as amended ("Section 422"), to employees of the Company, (ii) nonstatutory stock options, (iii) stock bonuses, (iv) stock purchase rights ("SPRs"), and (v) stock appreciation rights (collectively, "Stock Awards") to employees, directors and consultants of the Company, provided that incentive stock options and stock appreciation rights appurtenant thereto may be granted to employees of the Company. Unless terminated sooner, the 1996 Plan will terminate automatically in November 2006. The 1996 Plan may be administered by the Company Board or a committee of the Company Board (as applicable, the "Administrator"). The Administrator has the power to determine the terms of Stock Awards granted, including the exercise price, the number of shares subject to each Stock Award, the exercisability thereof, and the form of consideration payable upon such exercise. In addition, the Administrator has the authority to amend, suspend or terminate the 1996 Plan, provided that no such action may affect any share of Company Common Stock previously issued and sold or any Stock Award previously granted under the 1996 Plan. In the case of options, the exercise price of all incentive stock options granted under the 1996 Plan must be at least equal to the fair market value of the Company Common Stock on the date of grant and the term of such incentive stock option must not exceed ten years. The exercise price of nonstatutory stock options granted under the 1996 Plan is determined by the Administrator. With respect to any participant who owns stock possessing more than 10% of the voting power of all classes of the Company's outstanding capital stock, the exercise price of any incentive stock option granted must be at least equal 110% of the fair market value on the grant date and the term of such incentive stock option must not exceed five years. The term of all other options granted under the 1996 Plan shall be stated in the option agreement. Options granted under the 1996 Plan must generally be exercised within three months after the end of optionee's continuous status as an employee, or consultant of the Company, or within 12 months after such optionee's termination by disability, or within 18 months after such optionee's termination by death, but in no event later than the expiration of the option's term. The Administrator may include a re-load option as part of any option agreement. The reload option shall be for the number of shares surrendered as part of an exercise price of the option, shall have an expiration date which is the same as the expiration date of the original option, and shall have an exercise price on the date of exercise of the original option as set forth above. The 1996 Plan provides that each non-employee director shall automatically be granted a nonstatutory stock option to purchase 10,000 shares of Company Common Stock (the "First Option") on the date that such person first becomes a non-employee director. In addition to the First Option, each non-employee director shall automatically be granted an option to purchase 2,000 shares (a "Subsequent Option") on the date of the Company's annual meeting of stockholders if on such date he or she has served on the Board for at least six months. Each First Option and Subsequent Option shall have a term of 10 years. The shares subject to the First Option shall vest as to 20% of the optioned stock one year from the date of grant, and 1/60 of the optioned stock shall vest each month thereafter, provided the person continues to serve as a director on such dates. The shares subject to the Subsequent Option shall vest as to 100% of the optioned stock on the one-year anniversary of the date of grant thereafter, provided the person continues to serve as a director on such date. The exercise price of each First Option and each Subsequent Option shall be 100% of the fair market value per share of the Common Stock. In the case of stock bonuses and SPRs, the Administrator may provide that the Company be granted a repurchase option exercisable upon the voluntary or involuntary termination of the purchaser's employment or consulting relationship with the Company for any reason (including death or disability). The purchase price for shares repurchased pursuant to the repurchase option shall be determined by the Administrator. The repurchase option shall lapse at a rate determined by the Administrator. The 1996 Plan authorizes three types of stock appreciation rights: tandem stock appreciation rights, concurrent stock appreciation rights and independent stock appreciation rights. The Administrator has the sole discretion and authority to grant stock appreciation rights. Tandem stock appreciation rights are granted appurtenant to an option and require the holder to elect between the exercise of the option or the stock 61 67 appreciation right. The appreciation of the tandem stock purchase right is payable in cash (or, if provided for in the agreement, in shares) in an amount not to exceed the fair market value on the date the option is surrendered over the aggregate exercise price payable. Concurrent stock appreciation rights are granted appurtenant to an option and are exercised automatically upon exercise of the option. The appreciation of the concurrent stock appreciation right is payable in cash (or, if provided for in the agreement, in shares) in an amount equal aggregate fair market value on the date of exercise of the option over the aggregate exercise price paid for the shares. Independent Stock Appreciation Rights are denominated in share equivalents. The appreciation of the independent stock appreciation right is payable in cash (or, if provided for in the agreement, in shares) in an amount not to exceed the fair market value on the date the stock appreciation right is surrendered over the fair market value on the date the stock appreciation right is granted. Stock Awards granted under the 1996 Plan are generally not transferable by the optionee, and each Stock Award is exercisable during the lifetime of the optionee only by such optionee. The 1996 Plan also provides that in the event of a merger of the Company with or into another corporation, or a sale of substantially all of the Company's assets, each Stock Award shall be assumed or an equivalent award substituted for by the successor corporation. If the outstanding Stock Awards are not assumed or substituted for by the successor corporation, the Stock Award shall terminate. 1998 Employee Stock Purchase Plan The Company's 1998 Employee Stock Purchase Plan (the "1998 Purchase Plan") is expected to be adopted by the Company Board and approved by the Company's stockholders in October 1998. A total of 400,000 shares of Company Common Stock have been reserved for issuance under the 1998 Purchase Plan. As of the date of this Information Statement, no shares have been issued under the 1998 Purchase Plan. The 1998 Purchase Plan, which is intended to qualify under Section 423 of the Code, provides for successive six-month offering periods. The offering periods generally start on the first trading day on or after May 1 and November 1 of each year, except for the first such offering period which commences on the first day of regular way trading of Company Common Stock on the Nasdaq National Market and ends on the last trading day on or before April 30, 1999. Employees are eligible to participate if they are customarily employed by the Company or any participating subsidiary for at least 20 hours per week and more than five months in any calendar year. However, any employee who (i) immediately after grant owns stock possessing 5% or more of the total combined voting power or value of all classes of the capital stock of the Company or (ii) whose right to purchase stock under all employee stock purchase plans of the Company accrues at a rate that exceeds $25,000 worth of stock for each calendar year may be not be granted an option to purchase stock under the 1998 Purchase Plan. The 1998 Purchase Plan permits participants to purchase Company Common Stock through payroll deductions of up to 15% of the participant's "compensation." Compensation is defined as the participant's base straight time gross earnings and commissions, but exclusive of payments for overtime, bonuses, shift premium, incentive compensation or any other compensation. The maximum number of shares a participant may purchase during a single offering period is 5,000 shares. Amounts deducted and accumulated by the participant are used to purchase shares of Company Common Stock at the end of each offering period. The price of stock purchased under the 1998 Purchase Plan is 85% of the lower of the fair market value of the Company Common Stock at the beginning or end of the offering 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 the Company. Rights granted under the 1998 Purchase Plan are not transferable by a participant other than by will, the laws of descent and distribution, or as otherwise provided under the 1998 Purchase Plan. The 1998 Purchase Plan provides that, in the event of a merger of the Company with or into another corporation or a sale of substantially all of the Company's 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. 62 68 The Company Board may at any time and for any reason amend or terminate the 1998 Purchase Plan. With certain limited exceptions, no such action may adversely affect any outstanding rights to purchase stock under the 1998 Purchase Plan, provided that the Company Board may terminate an offering period on any exercise date if the Company Board determines that the termination of the 1998 Purchase Plan is in the best interests of the Company and its stockholders. Notwithstanding anything to the contrary, the Company Board may in its sole discretion amend the 1998 Purchase Plan to the extent necessary and desirable to avoid unfavorable financial accounting consequences by altering the purchase price for any offering period, shortening any offering period or allocating remaining shares among the participants. The 1998 Purchase Plan will terminate in August 2008 unless sooner terminated by the Company. INDEMNIFICATION AGREEMENTS The Company has entered, or will enter, into indemnification agreements with its directors and executive officers (each, an "Indemnified Person") prior to the Distribution. An Indemnified Person is specifically indemnified and held harmless under such agreements for costs and expenses, including without limitation, damages, judgments, amounts paid in settlement, reasonable costs of investigation, reasonable attorneys' fees, costs of investigative, judicial or administrative proceedings or appeals, costs or attachment of similar bonds, fines, penalties, and excise taxes assessed with respect to employee benefit plans actually and reasonably incurred in connection with a threatened, pending or completed claim, action, suit or proceeding by reason of the fact that (i) he is or was a director, officer, employee and/or agent of the Company, or (ii) he is or was serving as a director, officer, employee, trustee and/or agent of another corporation or entity at the request of the Company. To qualify for indemnification, the claim must not be (i) based solely upon an Indemnified Person's gaining in fact any personal profit or advantage to which he was not legally entitled, (ii) an accounting for profits made from the purchase or sale of securities pursuant to Section 16(b) of the Exchange Act or (iii) based solely upon knowingly fraudulent, deliberately dishonest, or willful misconduct on the part of the Indemnified Person. The Company will indemnify the Indemnified Person to the extent that (i) the Indemnified Person gives the Company prompt written notice of any claim, (ii) the Indemnified Person has not already received payment pursuant to collectible insurance policies and (iii) indemnification is not unlawful. Under such indemnification agreements, the Company will advance costs and expenses incurred by the Indemnified Person in advance of the final disposition of an action, suit or proceeding if he undertakes to repay amounts advanced if it is ultimately determined by a court of competent jurisdiction that he is not entitled to be indemnified by the Company. The Company will advance costs and expenses related to defending or investigating an action, suit or proceeding unless a determination is made that (i) the Indemnified Person did not act in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the Company, (ii) the Indemnified Person intentionally breached his duty to the Company or its stockholders or (iii) with respect to any criminal action or proceeding, the Indemnified Person had reasonable cause to believe his conduct was unlawful. Such determination will be made by a majority vote of a quorum of the Company Board consisting of directors not a party to the suit, action or proceeding, by a written opinion of independent legal counsel, by the stockholders or by a final, nonappealable adjudication in a court of competent jurisdiction. If the Company advances costs and expenses of any action, suit or proceeding, the Company reserves the right to assume the defense of such action, suit or proceeding upon written notice to the Indemnified Person of its intention to do so. After delivery of such notice, the Company shall not be liable for any costs or expenses incurred by the Indemnified Person in retaining separate counsel unless (i) the employment of separate counsel was previously authorized by the Company, (ii) the Indemnified Person reasonably concludes that joint representation would entail a conflict of interest or (iii) the Company shall not, in fact, have employed counsel to assume the defense of such action, suit or proceeding. The indemnification provisions and provisions for advancing expenses in such agreements are expressly not exclusive of any other rights of indemnification or advancement of expenses pursuant to the Delaware General Corporation Law (the "DGCL"), the Company Certificate or the Company Bylaws. 63 69 CHANGE OF CONTROL ARRANGEMENTS Prior to the Distribution, the Company will enter into a Change of Control Agreement with each of Raymond J. Farnham, the Company's Chairman and Chief Executive Officer, William R. Walker, the Company's Vice President of Finance and Chief Financial Officer, Stephen A. Farnow, the Company's Vice President of Operations, Robert A. Monsour, the Company's Vice President of Marketing and Mark Birman, the Company's Director of IC Design. Pursuant to each such agreement, if, within 12 months following a change of control, the executive officer is (i) terminated by the Company or successor Company, other than for acts of dishonesty, conviction of a felony or willful misconduct, or (ii) constructively terminated as a result of a material dimunition in salary, a material change in responsibility or a change in work location of more than 30 miles from the then current job location (each an "Involuntary Termination"), then he receives accelerated vesting (and/or a lapse of the Company's repurchase option) with respect to 50% of the unvested options (and/or stock purchase rights) held at the time of the Involuntary Termination; provided, however, that the Company's agreement with Mr. Farnham provides that he will receive accelerated vesting with respect to 100% of the unvested options held by him at the time of Involuntary Termination. For purposes of each such agreement, a change of control is defined as: (i) the consummation of a merger or consolidation of the Company with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent more than 50% of the total voting power represented by the voting securities of the surviving entity outstanding immediately after such merger or consolidation; (ii) the consummation of a plan of complete liquidation of the Company or an agreement for the sale or disposition by the Company of all or substantially all of the Company's assets; or (iii) any "person" (as such term is used in Sections 13(d) and 14(d) of the Exchange Act) becoming the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing 25% or more of the total voting power represented by the Company's then outstanding securities. Prior to the Distribution, the Company will enter into a Change of Control Agreement with each of its directors other than Mr. Farnham pursuant to which, upon a change of control of the Company, such directors will receive accelerated vesting (and/or a lapse of the Company's repurchase option) with respect to all unvested options, warrants or rights to purchase shares of the Company's Common Stock held at the time of such change of a control. For purposes of each such agreement, a change of control is defined as: (i) the consummation of a merger or consolidation of the Company with any other corporation, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent more than 50% of the total voting power represented by the voting securities of the surviving entity outstanding immediately after such merger or consolidation; (ii) the consummation of a plan of complete liquidation of the Company or an agreement for the sale or disposition by the Company of all or substantially all of the Company's assets; or (iii) any "person" (as such term is used in Sections 13(d) and 14(d) of the Exchange Act) becoming the "beneficial owner" (as defined in Rule 13d-3 under the Exchange Act), directly or indirectly, of securities of the Company representing 25% or more of the total voting power represented by the Company's then outstanding securities. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS TRANSACTIONS WITH STAC Stac incorporated Hi/fn as a wholly owned subsidiary of Stac on August 14, 1996. On November 21, 1996, Stac transferred its semiconductor business (along with the associated technology, assets and liabilities) to the Company pursuant to an Assignment, Assumption and License Agreement (the "Assignment Agreement") in exchange for 6,000,000 shares of Series A Preferred Stock and 100 shares of Company Common Stock issued by the Company to Stac pursuant to a Stock Purchase Agreement. The assets transferred to the Company pursuant to the Assignment Agreement included, without limitation, $1,000,000 of available cash, the accounts receivable and inventory of the semiconductor business, Stac's rights under certain sales and license agreements, and the fixed assets, trademarks, patents and 64 70 proprietary technology specified on schedules attached to the Assignment Agreement. The Assignment Agreement also provided for the assignment by Stac and the assumption by the Company of the accounts payable relating to the semiconductor business, the obligations under the sales and license agreements assigned to the Company, and current and unpaid payroll and related benefits expenses related to former employees of Stac who became employees of the Company. At the time of the transfer of the semiconductor business to the Company, Stac and the Company also entered into a Cross License Agreement pursuant to which the Company granted Stac a limited, worldwide, perpetual, non-exclusive, non-transferable, royalty-free license to the patents previously transferred by Stac to the Company pursuant to the Assignment Agreement. The Cross License Agreement permits Stac, among other things, to use, modify, create derivative works, reproduce, license and sublicense the technology to end users of Stac's products that incorporate the technology licensed to Stac by the Company. Stac, however, may not create hardware implementations of the technology subject to the Cross License Agreement or license or sell any of the software subject to the Cross License Agreement as a stand-alone product for a period of ten years after the date of the Cross License Agreement. Under the Cross License Agreement, Stac also sublicensed or assigned to the Company certain third-party licenses held by Stac. The parties further agreed that for a ten year period (i) Stac would transfer ownership to the Company of any derivative works created by Stac from the licensed technology and (ii) the Company would transfer ownership to Stac of all future commercial releases of software implementations of the licensed technology developed by the Company. Prior to the Distribution Date, the Company and Stac will enter into a Distribution Agreement, Employee Benefits Allocation Agreement, Tax Sharing Agreement and Transitional Services Agreement, which provide for, among other things, the Distribution and certain other agreements governing the relationship between the Company and Stac following the Distribution. Subject to certain exceptions, the Distribution Agreement provides for, among other things, assumptions of liabilities and cross-indemnities designed to allocate to the Company, effective as of the Distribution Date, financial responsibility for the liabilities arising out of or in connection with the Company's business. Stac has guaranteed Hi/fn's obligations under its headquarters lease. Under the Distribution Agreement, Hi/fn has agreed to obtain and deliver to its landlord a $2.0 million letter of credit to replace Stac's guaranty. The guaranty provides that it will terminate when Stac no longer owns a majority interest in Hi/fn and when Hi/fn provides the landlord with such a letter of credit. The Distribution is conditioned on delivery of the letter of credit. The Distribution Agreement also provides that, except as otherwise set forth therein or in any related agreement, all costs and expenses incurred in connection with the Distribution will be charged to the party for whose benefit the expenses are incurred, with any expenses that cannot be allocated on such basis to be split equally between the parties. The Employee Benefits Allocation Agreement generally contemplates that the Company will assume and retain all obligations and liabilities with respect to Hi/fn employee plans and benefits and that Stac will retain all obligations and liabilities with respect to Stac employee plans and benefits. The Employee Benefits Allocation Agreement also provides that the Company will assume and retain, with respect to Hi/fn employees, all responsibility for liabilities and obligations as of the Distribution Date for medical and dental plan coverage and for vacation and welfare plans. Stac will retain, with respect to Stac employees, all responsibilities for all liabilities and obligations as of the Distribution Date for medical and dental plan coverage and for vacation and welfare plans. The Tax Allocation and Indemnity Agreement defines the parties' rights and obligations with respect to tax returns and tax liabilities, including, in particular, federal and state income tax returns and liabilities, for taxable years and other taxable periods ending on or before the Distribution date. In general, Stac will be responsible for (i) filing all federal and state income tax returns of Stac, the Company and any of their subsidiaries for all taxable years ending on or before the Distribution Date, and (ii) paying the taxes relating to such returns (including any deficiencies proposed by applicable taxing authorities). For post-Distribution periods, Stac and the Company will each be responsible for filing its own returns and paying its own taxes relating to such returns (including any deficiencies proposed by applicable taxing authorities). 65 71 The Company and Stac will also enter into a Transitional Services Agreement pursuant to which Stac will provide certain accounting services to the Company on a transitional basis after the Distribution. The fees for such transitional services will be based on rates designed to reflect the actual costs (including indirect costs) of providing such services. The Company will be free to procure such services from outside vendors or to develop in-house capabilities in order to provide such services internally. The Transitional Services Agreement will terminate on December 31, 1999 unless extended in writing by the parties. On September 28, 1998, Stac paid $4.4 million to the Company, representing payment in full for all amounts due to the Company from Stac as of September 1, 1998. The Company will pay to Stac prior to the Distribution any amounts due to Stac as of October 31, 1998 and Stac will pay to the Company on or prior to December 31, 1998 any amounts due to the Company that are accumulated after October 31, 1998. On September 28, 1998, Stac also loaned $5.0 million to the Company pursuant to a short-term loan (the "Stac Loan"). The Stac Loan will become due and payable on September 30, 1999 and may be prepaid in whole or part without penalty. The Stac Loan bears interest at the prime rate set by Silicon Valley Bank plus 0.5% per annum, payable quarterly. The Stac Loan is secured by a first priority security interest in all of the Company's assets, including the Company's intellectual property. LOANS TO OFFICERS On December 31, 1997, the Company made a loan to William R. Walker, the Company's Vice President and Chief Financial Officer, in the aggregate principal amount of $100,000 and bearing interest at the rate of 6.00% per annum, in order to fund the exercise price of stock options held by him. The loan is evidenced by a full recourse promissory note, which matures on the earlier to occur of (i) November 3, 2001, or (ii) the date on which Mr. Walker ceases to be an employee, director or consultant of the Company. The promissory note is secured by a pledge of 50,000 shares of Company Common Stock owned by Mr. Walker and currently held in escrow. The entire principal amount and accrued interest on the loan to Mr. Walker remains outstanding as of the date of this Information Statement. SALE OF SECURITIES Arthur J. Collmeyer purchased 75,000 shares of Company Common Stock at $.60 per share pursuant to an offer of employment with the Company dated October 16, 1996. The Company sold the shares to Mr. Collmeyer, an accredited investor, pursuant to an exemption from registration under Section 4(2) of the Securities Act. INDEMNIFICATION AGREEMENTS The Company has entered, or will enter, into indemnification agreements with each of its directors and executive officers prior to the Distribution. See "MANAGEMENT -- Indemnification Agreements." 66 72 SECURITIES OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The following table sets forth the number of shares of Company Common Stock expected to be beneficially owned immediately following the Distribution by (i) the Named Executive Officers and directors of the Company, (ii) all of the Company's executive officers and directors as a group and (iii) all other stockholders known by Stac to own beneficially more than five percent of the Company Common Stock, based upon the expected beneficial ownership by such persons of Stac Common Stock, Company Common Stock and options to acquire Company Common Stock as of December 1, 1998. A list of the individuals who are expected to be executive officers of the Company immediately following the Distribution is set forth under the heading "MANAGEMENT." Except as otherwise indicated, each individual named is expected to have sole investment and voting power with respect to the securities shown.
AMOUNT AND NATURE OF PERCENT BENEFICIAL BENEFICIALLY NAME AND ADDRESS(1) OWNERSHIP OWNED ------------------- ---------- ------------ Microsoft Corporation........................ 627,944 9.7% One Microsoft Way Redmond, WA 98052-6399 Idanta Partners.............................. 536,579 8.3% Gary W. Clow(2).............................. 383,573 5.9% Robert W. Johnson(3)......................... 451,278 6.9% Douglas L. Whiting(4)........................ 407,563 6.2% Arthur J. Collmeyer.......................... 225,000 3.5% Stephen A. Farnow............................ 42,250 * Robert A. Monsour............................ 56,250 * William R. Walker............................ 50,000 * Taher Elgamal................................ 0 * Albert E. Sisto.............................. 0 * All directors and officers as a group (9 persons)................................... 1,007,341 15.4%
- --------------- * Less than 1% (1) This table is based upon information supplied by officers, directors and principal stockholders and Schedules 13D and 13G, if any, filed with the Commission with regard to Stac Common Stock. Unless otherwise indicated in the footnotes to this table and subject to community property and marital property laws where applicable, each of the stockholders named in this table has sole voting and investment power with respect to the shares indicated as beneficially owned. Applicable percentages are based on 6,501,475 shares outstanding on December 1, 1998, adjusted as required by rules promulgated by the Commission. (2) Includes 25,565 shares held by the Christina Clow Trust, of which Mr. Clow serves as a trustee, and 25,539 shares held by the Andrew Clow Trust, of which Mr. Clow is a trustee. Mr. Clow disclaims beneficial ownership of these shares. (3) Includes 449,235 shares held by the Robert W. Johnson Revocable Trust, of which Dr. Johnson is Trustee. (4) Includes 353,079 shares held by the Whiting Family Trust, of which Mr. Whiting serves as Trustee and 54,484 shares issuable upon exercise of options to purchase Company Common Stock that will be issued to Mr. Whiting in connection with the Distribution and that will be exercisable within 60 days of December 1, 1998. 67 73 HI/FN CERTIFICATE OF INCORPORATION AND BYLAWS The following is a summary of the Company Certificate and the Company Bylaws, as each will be in effect following the Distribution, and is qualified in its entirety by reference to the complete text of the Company Certificate as set forth in Annex I hereto, and the Company Bylaws as set forth in Annex II hereto. AUTHORIZED STOCK The Company Certificate provides that the Company is authorized to issue 110,000,000 shares of stock, consisting of 100,000,000 shares of Company Common Stock and 10,000,000 shares of Company Preferred Stock (together with the Company Common Stock, "Company Stock"). Shares of Company Preferred Stock may be issued from time to time, in one or more series, each of which series shall have such voting powers, designations, preferences and rights, and the qualifications, limitations or restrictions relating thereto, as shall be authorized by the Company Board. See "DESCRIPTION OF THE COMPANY'S CAPITAL STOCK." DIRECTORS The Company Certificate provides that the number of directors shall be fixed exclusively by one or more resolutions adopted by the Company Board. Presently, the Company Board has two members. At the time of the Distribution, the Company expects that the Company Board will be comprised of five members. The Company Bylaws provide that, except as otherwise provided by law or the Company Certificate, a quorum of the Company Board for the transaction of business shall consist of a majority of the entire Board of Directors, except with respect to indemnification of directors, officers and agents of the Company, for which a quorum shall be one-third of the number of directors comprising the Company Board. The act of a majority of the directors present at any meeting at which there is a quorum shall be the act of the Board of Directors. The Company Certificate do not provide for cumulative voting in the election of directors to the Company Board. The Company Bylaws will provide that vacancies and any newly-created directorships resulting from an increase in the authorized number of directors may be filled by a majority of the directors then in office, though less than a quorum, or by a sole remaining director. LIABILITY FOR MONETARY DAMAGES The Company Certificate provides that no director will be personally liable to the Company or its stockholders for monetary damages for breach of fiduciary duty as a director, other than liability for breach of the duty of loyalty to the Company or its stockholders, acts or omissions not in good faith, intentional misconduct, a knowing violation of law, certain unlawful dividends, stock repurchases or redemptions or any transaction from which the director derived an improper personal benefit. Any repeal or modification of such provision by the stockholders of the Company will not adversely affect any right or protection of a director existing at the time of such repeal or modification with respect to acts or omissions occurring prior to such repeal or modification. ANTITAKEOVER EFFECT OF AUTHORIZED BUT UNDESIGNATED PREFERRED STOCK As described above, the Company Board is authorized to provide for the issuance of shares of Company Preferred Stock, in one or more series, and to fix by resolution of the Company Board and to the extent permitted by the DGCL, the terms and conditions of each such series. The Company believes that the availability of Company Preferred Stock will provide the Company with increased flexibility in structuring possible future financings and acquisitions and in meeting other corporate needs which might arise from time to time. Authorized but unissued shares of Company Preferred Stock, as well as authorized but unissued shares of Company Common Stock, will be available for issuance without further action by Company stockholders, unless such action is required by applicable law or the rules of any stock exchange or automated quotation system on which any class of Company Stock may then be listed for trading. Although the Company Board has no present intention of doing so, it will be able to issue a series of Company Preferred Stock that could, depending on its terms, either impede or facilitate the completion of a merger, tender offer or other takeover attempt. For instance, such new shares might impede a business 68 74 combination by including class voting rights which would enable the holder to block such transaction or facilitate a business combination by including voting rights which would provide a required percentage vote of stockholders. The Company Board will make any determination to issue such shares based on its judgment as to the best interests of the Company and its then existing stockholders. The Company Board, in so acting, will be able to issue Company Preferred Stock having terms which would discourage an acquisition attempt or other transaction that some or a majority of the stockholders might believe to be in their best interests or in which stockholders might receive a premium for their stock over the then market price of such stock. INDEMNIFICATION AND ADVANCEMENT OF EXPENSES The Company Certificate and Bylaws will provide for the indemnification of present and former directors, officers, employees and agents of the Company and persons serving as directors, officers, employees or agents of another corporation or entity at the request of the Company (each, an "Indemnified Party") to the fullest extent permitted by the DGCL. Indemnified Parties are specifically indemnified in the Company Bylaws (the "Indemnification Provisions") for expenses, including attorneys' fees, court costs, witness fees, judgments, fines and amounts paid in settlement actually and reasonably incurred by an Indemnified Party in connection with a threatened, pending or completed action, suit or proceeding (whether civil, criminal, administrative or investigative) by reason of the fact that he is or was a director or officer of the Company or is or was serving as a director, officer, employee or agent of another corporation or entity at the request of the Company. Such Indemnified Party must have acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the subject corporation and, with respect to any criminal action or proceeding, must have had no reasonable cause to believe his conduct was unlawful. The Indemnification Provisions and provisions for advancing expenses in the Company Bylaws are expressly not exclusive of any other rights of indemnification or advancement of expenses pursuant to any agreement, vote of the stockholders or disinterested directors or pursuant to judicial direction. The Company is authorized to purchase insurance on behalf of an Indemnified Party for liabilities incurred, whether or not the Company would have the power or obligation to indemnify him pursuant to the Company Certificate, the Company Bylaws or the DGCL. In addition, the Company has entered, or will enter, into indemnification agreements with each of its directors and executive officers pursuant to which such persons are indemnified for costs and expenses actually and reasonably incurred by such persons in connection with a threatened, pending or completed claim arising out of service as a director, officer, employee, trustee and/or agent of the Company or another entity at the request of the Company. See "MANAGEMENT -- Indemnification Agreements." AMENDMENT OF THE COMPANY CERTIFICATE AND BYLAWS The DGCL provides that approval of a majority of the stockholders entitled to vote thereon is required to amend the Company Certificate. In addition, the Company Certificate requires the approval of at least 66 2/3% of the voting power of stockholders entitled to vote thereon to amend the provisions of the Company Certificate regarding management, directors, indemnification and amendments to the Company Certificate. A bylaw may be amended or repealed, or a new bylaw adopted, by (i) the affirmative vote of the holders of at least 66 2/3% of the stock entitled to vote thereon or (ii) a majority of the entire Company Board. DESCRIPTION OF THE COMPANY'S CAPITAL STOCK Following the Distribution, the authorized capital stock of the Company will consist of 100,000,000 shares of Company Common Stock, $.001 par value, and 10,000,000 shares of Company Preferred Stock, $.001 par value. The description set forth below is incomplete and is qualified by reference to the Company's Third Amended and Restated Certificate of Incorporation (the "Company Certificate") and Amended and Restated Bylaws (the "Company Bylaws"), which are set forth in Annex I and Annex II hereto, respectively. 69 75 COMMON STOCK The holders of Company Common Stock are entitled to one vote for each share held of record on all matters submitted to a vote of the stockholders. Except as otherwise provided by law, the holders of Company Common Stock vote together with the holders of Company Preferred Stock as one class. Subject to the rights of holders of any shares of Company Preferred Stock which may at the time be outstanding, holders of Company Common Stock will be entitled to such dividends as the Company Board may declare out of funds legally available therefor. See "RISK FACTORS -- Dividend Policy." Subject to the prior rights of creditors and holders of any Company Preferred Stock which may be outstanding from time to time, the holders of Company Common Stock are entitled, in the event of liquidation, dissolution or winding up of the Company, to share pro rata in the distribution of all remaining assets. The Company Common Stock is not liable for any calls or assessments and is not convertible into any other securities. In addition, there are no redemption or sinking fund provisions applicable to the Company Common Stock. PREFERRED STOCK The Company Certificate provides that the Company Board is authorized to provide for the issuance of shares of Company Preferred Stock, from time to time, in one or more series. Prior to the issuance of shares in each series, the Company Board is required by the Company Certificate and the DGCL to adopt resolutions and file a Certificate of Designations, Preferences and Relative, Participating, Optional and Other Special Rights of Preferred Stock and Qualifications, Limitations and Restrictions Thereof (the "Certificate of Designation") with the Secretary of State of Delaware, fixing for each such series the designations, preferences and relative, participating, optional or other special rights applicable to the shares to be included in any such series and any qualifications, limitations or restrictions thereon, including, but not limited to, dividend rights, dividend rate or rates, conversion rights, voting rights, rights and terms of redemption (including sinking fund provisions), the redemption price or prices, and the liquidation preferences as are permitted by Delaware law. DISTRIBUTION AGENT; TRANSFER AGENT AND REGISTRAR The Distribution Agent and Transfer Agent and Registrar for the Company Common Stock and Company Preferred Stock is American Stock Transfer & Trust Company. CERTAIN CHARTER AND BYLAW PROVISIONS AND DELAWARE LAW After the Distribution, certain provisions of the Company Certificate and Company Bylaws could discourage potential acquisition proposals and could delay or prevent a change in control of the Company. The Company Certificate provides, among other things, for a classified Company Board and eliminates the right of stockholders to take action by written consent. The issuance of Company Preferred Stock authorized in the Company Certificate could have the effect of delaying or preventing a change in control of the Company. Such Company Preferred Stock could be utilized to implement, without stockholder approval, a stockholders' right plan that could be triggered by certain change in control transactions, which could delay or prevent a change in control of the Company or could impede a merger, consolidation, takeover or other business combination involving the Company. The issuance of Company Preferred Stock with voting and conversion rights may adversely affect the voting power of the holders of Company Common Stock, including the loss of voting control to others. The Company has no current plans to issue shares of Company Preferred Stock. In addition, the Company Bylaws provide, among other things, that special meetings of the stockholders of the Company may be called only by the Company Board, the Chairman of the Company Board, the President of the Company or by any person or persons holding shares representing at least 10% of the outstanding capital stock of the Company. The Company Bylaws also establish procedures, including advance notice procedures with regard to the nomination, other than by or at the direction of the Company Board, of candidates for election as directors. The Company is subject to the provisions of Section 203 of the DGCL, an antitakeover law. In general, the statute prohibits a publicly held Delaware corporation from entering into a "business combination" with an 70 76 "interested stockholder" for a period of three years after the date of the transaction in which the person became an interested stockholder, unless the business combination is approved in a prescribed manner. For purposes of Section 203, a "business combination" includes a merger, asset sale or transaction resulting in a financial benefit to the interested stockholder, and an "interested stockholder" is a person who, together with affiliates and associates, owns (or within three years prior, did own) 15% or more of the Company's voting capital stock. The provisions of the Company Certificate, Company Bylaws and Delaware law are intended to encourage potential acquirors to negotiate with the Company and allow the Company Board the opportunity to consider alternative proposals in the interest of maximizing stockholder value. Such provisions, however, may also have the effect of discouraging acquisition proposals or delaying or preventing a change in control of the Company, which may have an adverse effect on the market price of the Company Common Stock. 71 77 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors and Stockholders of hi/fn, inc. In our opinion, the accompanying balance sheet and the related statements of operations, of cash flows and of changes in stockholders' equity present fairly, in all material respects, the financial position of hi/fn, inc., a subsidiary of Stac, Inc., at September 30, 1998 and 1997, and the results of its operations and its cash flows for each of the three years in the period ended September 30, 1998, in conformity with generally accepted accounting principles. In addition, in our opinion, the financial statement schedule appearing on page F-15 presents fairly, in all material respects, the information set forth therein when read in conjunction with the related financial statements. These financial statements and financial statement schedule are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements and financial statement schedule based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. PRICEWATERHOUSECOOPERS LLP San Diego, California October 23, 1998 F-1 78 HI/FN, INC. BALANCE SHEET (IN THOUSANDS, EXCEPT SHARE AMOUNTS) ASSETS
SEPTEMBER 30, ----------------- 1997 1998 ------ ------- Current assets: Cash and cash equivalents................................. $ 480 $ 4,084 Marketable securities..................................... -- 5,973 Accounts receivable, net.................................. 1,823 3,125 Due from parent........................................... 1,507 -- Inventories............................................... 409 165 Deferred income taxes..................................... 385 720 Prepaid expenses and other current assets................. 192 315 ------ ------- Total current assets.............................. 4,796 14,382 Property and equipment, net............................... 959 1,615 Deferred income taxes..................................... 95 229 Other assets.............................................. 48 385 ------ ------- $5,898 $16,611 ====== ======= LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable.......................................... $ 660 $ 1,610 Due to parent............................................. -- 6,508 Accrued expenses and other current liabilities............ 616 1,541 ------ ------- Total current liabilities......................... 1,276 9,659 ------ ------- Commitments and contingencies (Note 8 and Note 11) Stockholders' equity: Preferred stock, .001 par value; 10,000,000 shares authorized; 6,000,000 shares issued and outstanding.... 6 6 Common stock, .001 par value; 100,000,000 shares authorized; 280,799 and 483,014 shares issued and outstanding at September 30, 1997 and 1998, respectively........................................... -- -- Paid-in capital........................................... 2,783 2,995 Note receivable from stockholder.......................... -- (100) Retained earnings......................................... 1,833 4,051 ------ ------- Total stockholders' equity.................................. 4,622 6,952 ------ ------- $5,898 $16,611 ====== =======
See accompanying notes to financial statements. F-2 79 HI/FN, INC. STATEMENT OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEAR ENDED SEPTEMBER 30, ----------------------------- 1996 1997 1998 ------- ------- ------- Revenues.................................................... $12,894 $14,226 $21,533 Cost of revenues............................................ 5,095 4,762 6,525 ------- ------- ------- Gross margin................................................ 7,799 9,464 15,008 ------- ------- ------- Operating expenses: Research and development.................................... 1,641 2,985 5,403 Sales and marketing......................................... 1,677 2,224 3,370 General and administrative.................................. 889 1,203 2,407 ------- ------- ------- Total operating expenses.................................... 4,207 6,412 11,180 ------- ------- ------- Operating income............................................ 3,592 3,052 3,828 Interest income............................................. -- 16 17 ------- ------- ------- Income before income taxes.................................. 3,592 3,068 3,845 Provision for income taxes.................................. 1,441 1,235 1,627 ------- ------- ------- Net income.................................................. $ 2,151 $ 1,833 $ 2,218 ======= ======= ======= Net income per share, basic................................. $ .36 $ .30 $ .35 ======= ======= ======= Net income per share, diluted............................... $ .36 $ .30 $ .33 ======= ======= ======= Weighted average shares outstanding, basic.................. 6,000 6,100 6,308 ======= ======= ======= Weighted average shares outstanding, diluted................ 6,000 6,174 6,800 ======= ======= =======
See accompanying notes to financial statements. F-3 80 HI/FN, INC. STATEMENT OF CASH FLOWS (IN THOUSANDS)
YEAR ENDED SEPTEMBER 30, ----------------------------- 1996 1997 1998 ------- ------- ------- Cash flows from operating activities: Net income................................................ $ 2,151 $ 1,833 $ 2,218 Adjustments required to reconcile net income to net cash provided by operating activities: Depreciation and amortization.......................... 68 303 726 Benefit from deferred income taxes..................... (190) (129) (469) Changes in assets and liabilities: Accounts receivable.................................... 546 (642) (1,302) Inventories............................................ (554) 299 244 Prepaid expenses and other current assets.............. (5) (186) (123) Other assets........................................... 1 (44) (614) Accounts payable....................................... 409 60 950 Due to parent for general and administrative allocations.......................................... 889 420 576 Accrued expenses and other current liabilities......... 446 86 925 ------- ------- ------- Net cash provided by operating activities......... 3,761 2,000 3,131 ------- ------- ------- Cash flows from investing activities: Purchases of marketable securities........................ -- -- (5,973) Purchases of property and equipment....................... (223) (901) (1,105) ------- ------- ------- Net cash used by investing activities............. (223) (901) (7,078) ------- ------- ------- Cash flows from financing activities: Issuance of common stock.................................. -- 169 112 Proceeds of loan from parent.............................. -- -- 5,000 Net transfer of funds from (to) parent.................... (1,542) (788) 2,439 Dividends to Parent Company............................... (1,996) -- -- ------- ------- ------- Net cash provided (used) by financing activities...................................... (3,538) (619) 7,551 ------- ------- ------- Net increase in cash and cash equivalents................... -- 480 3,604 Cash and cash equivalents at beginning of year.............. -- -- 480 ------- ------- ------- Cash and cash equivalents at end of period.................. $ -- $ 480 $ 4,084 ======= ======= ======= Supplemental non-cash financing activities: Issuance of preferred stock for net assets contributed.... $ -- $ 2,620 $ -- ======= ======= ======= Settlement of interdivisional accounts.................... $ (155) $ -- $ -- ======= ======= =======
See accompanying notes to financial statements. F-4 81 HI/FN, INC. STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY (IN THOUSANDS)
COMMON STOCK PREFERRED STOCK ---------------- ---------------- PAID-IN RETAINED SHARES AMOUNT SHARES AMOUNT CAPITAL EARNINGS TOTAL ------ ------- ------ ------- -------- -------- ------- Balance at September 30, 1995........ -- -- -- -- -- -- -- Dividends to Parent Company.......... -- -- -- -- -- (2,151) (2,151) Net income........................... -- -- -- -- -- 2,151 2,151 ------ ------- ----- ------ ------ ------- ------- Balance at September 30, 1996........ -- -- -- -- -- -- -- Issuance of preferred stock.......... -- -- 6,000 6 2,614 -- 2,620 Issuance of common stock............. 75 -- -- -- 45 -- 45 Issuance of common stock upon exercise of options................ 206 -- -- -- 124 -- 124 Net income........................... -- -- -- -- -- 1,833 1,833 ------ ------- ----- ------ ------ ------- ------- Balance at September 30, 1997........ 281 -- 6,000 6 2,783 1,833 4,622 Issuance of common stock upon exercise of options................ 202 -- -- -- 212 -- 212 Note receivable from stockholder..... -- -- -- -- (100) -- (100) Net income........................... -- -- -- -- -- 2,218 2,218 ------ ------- ----- ------ ------ ------- ------- Balance at September 30, 1998........ 483 $ -- 6,000 $ 6 $2,895 $ 4,051 $ 6,952 ====== ======= ===== ====== ====== ======= =======
See accompanying notes to financial statements. F-5 82 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) NOTE 1 -- BASIS OF PRESENTATION The accompanying financial statements present the carved-out balance sheet, statements of operations, of cash flows, and of changes in stockholders' equity for hi/fn, inc. ("Hi/fn" or "the Company"), a majority owned semiconductor products subsidiary of Stac, Inc. ("Stac" or "the Parent"). Management expects to separate Hi/fn and Stac into two independent, publicly-traded companies. In connection with the separation, Stac plans to distribute as a dividend to its stockholders the shares of Hi/fn common stock owned by the Parent (the "Distribution"). The Distribution is designed to separate two distinct businesses with significant differences in their markets, products, investment needs, employee retention and compensation plans and plans for growth. Stac's Board of Directors believes that the separation into two independent companies will enhance the ability of each to focus on strategic initiatives and new business opportunities, improve cost structures and operating efficiencies and create incentives that are more attractive and appropriate for the recruitment and retention of key employees. As a consequence, Stac believes that investors will be able to evaluate better the merits of the two groups of businesses and their future prospects. For the fiscal year ended September 30, 1996, Hi/fn conducted business as a division of Stac. For the fiscal years ended September 30, 1997 and 1998, Hi/fn conducted business as a majority-owned subsidiary of Stac. Financial statements have not been previously prepared for Hi/fn. These financial statements have been prepared from the historical accounting records of Stac. The balance sheet reflects the net assets contributed by Stac in establishing the Hi/fn subsidiary. The transfer was recorded at the historical net book value of the transferred assets and liabilities of $2,620,000. In exchange for the net assets contributed to Hi/fn, Stac received 6,000,000 shares of Series A Preferred Stock and 100 shares of common stock (Note 6). For purposes of preparing these financial statements it was assumed that the net income generated from Hi/fn's operations was remitted in dividends back to Stac for all periods prior to fiscal 1997. Additionally, for periods prior to September 1998, Hi/fn participated with Stac in centralized cash management. In general, the cash funding requirements of Hi/fn were met by, and all cash generated by the business was transferred to, Stac. Cash balances at September 30, 1997 represent cash amounts in Hi/fn accounts that had yet to be liquidated by payment obligations, or transferred to Stac. Cash balances at September 30, 1998 reflect a short-term loan of $5,000,000 by Stac to Hi/fn as well as the settlement of intercompany accounts. Related party receivables and payables are a result of these cash management practices, as well as allocations of general and administrative costs as discussed below. Amounts shown on the statement of operations are based on specific identification of the costs directly associated with Hi/fn's business for all components except for general and administrative costs and income tax expense. For all periods prior to fiscal 1997, allocations of general and administrative costs are based on management's estimates of the underlying level of effort required to manage and support Hi/fn's activity. For periods including and subsequent to fiscal 1997, general and administrative allocations are based on specific identification of costs directly associated with Hi/fn's business, in addition to allocations of (i) costs for administrative functions and services performed on behalf of the Company by staff groups within Stac (ii) a portion of Stac's management expense and (iii) certain general corporate expenses of Stac. These allocated expenses primarily represent the costs of services required by Hi/fn for accounting, management information systems, human resources, warehouse, executive and professional fees. For the years ended September 30, 1997 and 1998, general and administrative allocations totaled $420,000 and $576,000, respectively. As more fully described in Notes 2 and 5, current and deferred income taxes and related tax expense have been allocated to Hi/fn as if it were a separate taxpayer for all periods presented. All of the allocations and estimates in the financial statements are based on assumptions that the management of Stac and Hi/fn believe are reasonable under the circumstances; however, these allocations and estimates are not necessarily indicative of the costs and expenses that would have resulted if Hi/fn had been operated as a separate entity. F-6 83 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) NOTE 2 -- DESCRIPTION OF BUSINESS AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: Overview Hi/fn designs, develops and markets high-performance, multi-protocol packet processors -- semiconductor devices that enable secure, high-bandwidth network connectivity and efficient storage of business information. The Company's packet processor products perform the computation-intensive tasks of compression and encryption/compression, providing its customers with high-performance, interoperable implementations of a wide variety of industry-standard networking and storage protocols. The Company's products are used in a variety of networking and storage equipment such as routers, remote access concentrators, firewalls and back-up storage devices. Financial Statement Preparation The preparation of financial statements in conformity with generally accepted accounting principles requires management to make assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. Revenue Recognition Revenue from the sale of semiconductors and board products is recognized upon shipment, net of an allowance for estimated returns. Revenue from periodic software license and maintenance agreements is generally recognized ratably over the respective license periods. Marketable Securities The Company's marketable securities are comprised of funds on deposit with a liquid asset manager that have been invested principally in commercial paper. The carrying amount of these investments approximates fair value due to the short maturities or demand nature of the investments. At September 30, 1998, all marketable securities are classified as available-for-sale and carried at fair value. Unrealized gains or losses at September 30, 1998 are not material. Inventories Inventories are stated at the lower of cost, determined using the first-in, first-out method, or market. Inventories are comprised solely of finished goods, which are manufactured by third party foundries for resale by the Company. Property and Equipment Property and equipment are stated at cost. Additions to property and equipment, including significant betterments and renewals, are capitalized. Maintenance and repair costs are charged to expense as incurred. Depreciation is computed using the straight-line method over estimated useful lives of three to five years and totaled $68,000, $303,000 and $449,000 in fiscal 1996, 1997, and 1998, respectively. Leasehold improvements are amortized over the shorter of the asset life or lease term. Long-lived Assets The Company investigates potential impairments of long-lived assets on an exception basis, when events or changes in circumstances have made recovery of an asset's carrying value unlikely. An impairment loss is F-7 84 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) recognized when the sum of the expected future net cash flows is less than the carrying amount of the asset. No such impairment losses have been recorded by the Company. Research and Development Expenditures for research and development are charged to expense as incurred; however, development costs for software to be licensed or sold that are incurred from the time technological feasibility is established until the product is ready for general release to customers are capitalized and reported at the lower of cost or net realizable value. Through September 30, 1998, no significant amounts were expended subsequent to reaching technological feasibility. Stock-based Compensation The Company measures compensation expense for its stock-based employee compensation plans using the intrinsic value method and provides pro forma disclosures of net income and earnings per share as if the fair value-based method had been applied in measuring compensation expense. Income Taxes The taxable income of the Company is included in the consolidated tax return of the Parent. Income taxes are computed on a stand-alone basis as if the Company were a separate taxpayer for all periods presented. Income taxes currently payable are deemed to have been remitted by Stac on behalf of the Company in the period that the liability arose. Amounts due to Stac for income tax payments are included in the related party components of the balance sheet. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected more likely than not to be realized. Earnings Per Share Basic earnings per share ("EPS") is calculated by dividing net income by the weighted average number of common shares outstanding for the period, without consideration of the dilutive impact of potential common shares ("dilutive securities") that were outstanding during the period. Diluted EPS is computed by dividing net income by the weighted average number of common shares outstanding for the period, increased by dilutive securities that were outstanding during the period. Shares subject to repurchase by the Company are considered contingently issuable based on continued employment and are therefore treated as potential common shares for the purposes of this calculation. Since the Company's Series A Preferred Stock (Note 6) represents a primary equity security, it is included in the calculation of basic earnings per share. Net income remains the same for the calculations of basic EPS and diluted EPS. A reconciliation of the numerators and denominators of the basic and diluted EPS calculations for the years ended September 30, 1997 and 1998, respectively, is presented below. Earnings per share for the year ended September 30, 1996 has been presented on a comparable basis to the capital structure that came into existence in fiscal 1997 in a manner similar to that as used for stock splits. YEAR ENDED SEPTEMBER 30, 1997
PER-SHARE NET INCOME SHARES AMOUNT ---------- ------ --------- Net Income................................. $1,833 Basic EPS.................................. 6,100,000 $0.30 Dilutive Securities........................ 74,000 --------- Diluted EPS................................ 6,174,000 $0.30 =========
F-8 85 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) YEAR ENDED SEPTEMBER 30, 1998
PER-SHARE NET INCOME SHARES AMOUNT ---------- ------ --------- Net Income................................. $2,218 Basic EPS.................................. 6,308,000 $0.35 Dilutive Securities........................ 492,000 --------- Diluted EPS................................ 6,800,000 $0.33 =========
New pronouncements In June 1997, the Financial Accounting Standards Board issued Statements of Financial Accounting Standards (FAS) No. 130, "Reporting Comprehensive Income," and Financial Accounting Standard (FAS) No. 131, "Disclosures about Segments of an Enterprise and Related Information," which will be required to be adopted by the Company in fiscal 1999. Adoption of these statements is not expected to have a significant impact on the Company's financial position, results of operations or cash flows. NOTE 3 -- CYLAN ACQUISITION: In April 1998, the Company acquired the outstanding stock of CyLAN Technologies, Inc., a software development company, for $340,000 in cash in a transaction accounted for under the purchase method. The purchase agreement calls for the Company to make royalty payments on sales made over a three-year period that incorporate the acquired technology. Minimum royalties over this term amount to $450,000, subject to the continued employment at Hi/fn of a former CyLAN shareholder. In conjunction with the acquisition, the Company recorded the purchase price of $340,000 as capitalized software, which is being amortized on a straight-line basis over a three year period. Pro forma data has not been presented as such results would not differ materially from the historical results presented. NOTE 4 -- COMPOSITION OF CERTAIN FINANCIAL STATEMENT CAPTIONS:
SEPTEMBER 30, ---------------- 1997 1998 ------ ------ Accounts receivable: Trade receivables........................................ $1,873 $3,325 Less allowance for doubtful accounts..................... (50) (200) ------ ------ $1,823 $3,125 ====== ======
F-9 86 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) Substantially all of the Company's customers are OEM's, which results in concentrated credit risk with respect to the Company's trade receivables. At September 30, 1997, and 1998, one customer accounted for 78% and 52% respectively, of the accounts receivable balance. Management believes that its credit policies substantially mitigate such concentrated credit risk. Bad debt expenses were not significant in fiscal 1996, 1997 and 1998.
YEAR ENDED SEPTEMBER 30, ---------------- 1997 1998 ------ ------ Property and equipment: Computer equipment....................................... $1,093 $1,445 Furniture and fixtures................................... 172 419 Leasehold improvements................................... 81 346 Office equipment......................................... 43 287 ------ ------ 1,389 2,497 Less accumulated depreciation............................ (430) (882) ------ ------ $ 959 $1,615 ====== ====== Accrued expenses and other current liabilities: Deferred revenue......................................... $ 323 $ 697 Compensation and employee benefits....................... 288 489 Accrued royalties........................................ 175 Other.................................................... 5 180 ------ ------ $ 616 $1,541 ====== ======
NOTE 5 -- INCOME TAXES: The results of the Company's operations were included in Stac's consolidated tax returns. The allocation of tax items is discussed in Note 2. The provision (benefit) for income taxes is comprised of the following:
YEAR ENDED SEPTEMBER 30, -------------------------- 1996 1997 1998 ------ ------ ------ Current tax expense: Federal...................................... $1,386 $1,159 $1,676 State........................................ 245 205 420 ------ ------ ------ 1,631 1,364 $2,096 ------ ------ ------ Deferred tax (benefit): Federal...................................... (162) (109) (411) State........................................ (28) (20) (58) ------ ------ ------ (190) (129) (469) ------ ------ ------ $1,441 $1,235 $1,627 ====== ====== ======
F-10 87 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) The principal components of deferred income tax assets are as follows:
SEPTEMBER 30, -------------- 1997 1998 ----- ----- Revenue recognition......................................... $260 $339 Inventory valuation accounts................................ 82 166 Depreciation and amortization............................... 95 148 Accrued severance........................................... -- 122 Bad debts allowance......................................... 20 84 Other....................................................... 23 90 ---- ---- $480 $949 ==== ====
A reconciliation of the amount computed by applying the statutory federal income tax rate to income before income taxes to the provision for income taxes follows:
YEAR ENDED SEPTEMBER 30, -------------------------- 1996 1997 1998 ------ ------ ------ Amount computed at statutory Federal rate of 34%............................................ $1,221 $1,043 $1,307 State income taxes, net of Federal benefit....... 216 184 235 Expenses not deductible for tax purposes......... 4 8 85 ------ ------ ------ $1,441 $1,235 $1,627 ====== ====== ======
NOTE 6 -- PREFERRED STOCK: The Company has issued 6,000,000 shares of voting, participating, convertible Series A Preferred Stock ("Series A Preferred Stock") and 100 shares of common stock to Stac in exchange for the net assets contributed. The transfer was recorded at the historical net book value of the transferred assets and liabilities of $2,620,000. Each share may be converted, at the option of the holder, into one share of common stock. The Series A Preferred Stock is entitled to dividends, if and when declared by the Board of Directors, of $0.12 per share, per annum. Series A Preferred Stock dividends must be declared prior to the declaration of dividends on the Company's common stock, and the Series A Preferred Stock participates fully thereafter with any common stock dividends. Through September 30, 1998, no such dividends have been declared. NOTE 7 -- STOCK OPTIONS AND EMPLOYEE BENEFIT PLANS: 1996 Equity Incentive Plan During fiscal 1997, Hi/fn adopted the 1996 Equity Incentive Plan (the "1996 Plan") whereby 1,949,900 shares of Hi/fn common stock have been reserved for issuance pursuant to nonqualified and incentive stock options and restricted stock awards. The 1996 Plan is administered by the Board of Directors of Hi/fn or its designees and provides generally that nonqualified stock options and restricted stock may be awarded at a price not less than 85% of the fair market value of the stock at the date of the award. Incentive stock options must be awarded at a price not less than 100% of the fair market value of the stock at the date of the award, or 110% of fair market value for awards to more than 10% stockholders. Options granted under the 1996 Plan may have a term of up to 10 years. Options typically vest at a rate of 25% of the total grant per year over a four-year period. However, the Company may, at its discretion, implement a different vesting schedule with respect to any new stock option grant. As a result of early exercise features as provided for by the 1996 Plan, options granted are immediately exercisable subject to the Company's repurchase rights which expire as options vest. F-11 88 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) Information for stock option activities is summarized below:
OPTIONS OUTSTANDING --------------------------- WEIGHTED- AVERAGE SHARES EXERCISE PRICE --------- -------------- Balance at September 30, 1996....................... -- -- Options granted................................... 1,112,000 $0.69 Options exercised................................. (205,699) $0.60 Options canceled.................................. (29,438) $0.60 --------- Balance at September 30, 1997....................... 876,863 $0.81 Options granted................................... 388,000 $2.29 Options exercised................................. (202,315) $1.05 Options canceled.................................. (187,361) $0.60 --------- Balance at September 30, 1998....................... 875,187 $1.46 =========
The following is a summary of stock options outstanding:
OPTIONS OUTSTANDING -------------------------------------- WEIGHTED- AVERAGE WEIGHTED- REMAINING AVERAGE CONTRACTUAL EXERCISE NUMBER LIFE (YEARS) PRICE --------- ------------ --------- AT SEPTEMBER 30, 1997 Price Range $0.60..................................... 702,863 9.36 $0.60 $1.20..................................... 70,000 9.86 $1.20 $2.00..................................... 104,000 9.93 $2.00 --------- 876,863 9.47 $0.81 ========= AT SEPTEMBER 30, 1998 Price Range $0.60..................................... 398,187 8.38 $0.60 $1.20-$2.00............................... 235,500 8.98 $1.88 $2.25-$3.00............................... 241,500 9.51 $2.47 --------- 875,187 8.85 $1.46 =========
F-12 89 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) The following is a summary of stock options that are vested and exercisable, and are accordingly not subject to the Company's repurchase rights:
OPTIONS VESTED AND EXERCISABLE -------------------- WEIGHTED- AVERAGE EXERCISE NUMBER PRICE ------- --------- AT SEPTEMBER 30, 1997 Price Range $0.60................................................. 20,900 $0.60 ======= AT SEPTEMBER 30, 1998 Price Range $0.60-$2.00........................................... 129,833 $0.89 =======
Pro Forma Disclosure The Company applies the intrinsic value method in accounting for its stock based compensation. No compensation expense has been recognized for stock option grants, which are fixed in nature, as the options have been granted at fair value as determined by the Company's Board of Directors. Had compensation cost for the Company's stock based compensation awards issued during fiscal 1997 and 1998 been determined based on the fair value at the grant date, the Company's net income and net income per share would have been reduced to the pro forma amounts indicated below:
YEAR ENDED YEAR ENDED SEPTEMBER 30, SEPTEMBER 30, 1997 1998 ------------- -------------- Net income: As reported........................................ $1,833 $2,218 ====== ====== Pro forma.......................................... $1,683 $1,981 ====== ====== Net income per share, basic: As reported........................................ $ .30 $ .35 ====== ====== Pro forma.......................................... $ .28 $ .32 ====== ====== Net income per share, diluted: As reported........................................ $ 0.30 $ .33 ====== ====== Pro forma.......................................... $ 0.27 $ .30 ====== ======
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions used for grants during the year ended September 30, 1997: dividend yield of 0.0%, risk free interest rate of 6.46%, expected volatility of 250%, and expected life of 1.5 years; and for the year ended September 30, 1998: dividend yield of 0.0%, risk free interest rate of 5,48%, expected volatility of 64%, and expected life of .58 years. F-13 90 HI/FN, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (TABLE AMOUNTS IN THOUSANDS, EXCEPT FOR SHARE AND PER SHARE AMOUNTS.) NOTE 8 -- COMMITMENTS: The Company occupies its facilities under several non-cancelable operating leases that expire at various dates through August 2005, and which contain renewal options. Future minimum lease payments are as follows:
AMOUNT ------ 1999.............................. $1,026 2000.............................. 844 2001.............................. 799 2002.............................. 838 Thereafter.......................... 2,588 ------ $6,095 ======
Rent expense under operating leases was approximately $50,000, $113,000, and $467,000 in fiscal 1996, 1997, and 1998, respectively. Certain facility leases provide for scheduled rent increases. The total lease commitment for such leases is being charged ratably to operations. NOTE 9 -- SIGNIFICANT CUSTOMERS: A significant portion of the Company's revenues has been derived from sales to major OEM's. Two customers accounted for 43% and 14% of fiscal 1996 revenues, respectively. One customer accounted for 70% of fiscal 1997 revenues. One customer accounted for 61% of fiscal 1998 revenues. NOTE 10 -- RELATED PARTY TRANSACTIONS: On September 30, 1998 Stac loaned the Company $5,000,000. The note matures on September 30, 1999 and carries an interest rate of an index rate plus 0.5%. The loan is secured by a first priority security interest in all of the Company's assets, including the Company's intellectual property. The index rate is defined as the prime rate for Silicon Valley Bank, and was 8.5% on September 30, 1998. NOTE 11 -- CONTINGENCIES: Various claims arising in the course of business, seeking monetary damages and other relief, are pending. The amount of the liability, if any, from such claims cannot be determined with certainty. However, in the opinion of management, the ultimate liability for such claims will not have a material adverse effect on the Company's financial position, results of operations or cash flows. F-14 91 HI/FN, INC. SCHEDULE II VALUATION AND QUALIFYING ACCOUNTS AND RESERVES FOR THE THREE YEARS ENDED SEPTEMBER 30, 1998 (IN THOUSANDS)
ADDITIONS BALANCE AT CHARGED TO ADDITIONS BEGINNING COSTS AND CHARGED TO BALANCE AT OF PERIOD EXPENSES OTHER ACCOUNTS DEDUCTIONS END OF PERIOD ---------- ---------- -------------- ---------- ------------- DEDUCTED FROM ACCOUNTS RECEIVABLE Allowance for doubtful accounts: Year ended September 30, 1996(a)...... 193 -- (34) -- 159 Year ended September 30, 1997......... 159 (109) -- -- 50 Year ended September 30, 1998......... 50 150 -- -- 200 DEDUCTED FROM INVENTORY Reserve for inventory obsolescence: Year ended September 30, 1996(a)...... 123 -- 265 -- 388 Year ended September 30, 1997......... 388 (183) -- -- 205 Year ended September 30, 1998......... 205 190 -- -- 395
- --------------- (a) Activity represents changes in period end allocations of consolidated balances. F-15 92 GLOSSARY ALDC (Adaptive Lossless Data Compression) -- A compression method invented by IBM, for which patents are owned by Hi/fn. Analog Modem -- A communications device used for sending and receiving data over "normal" telephone lines. These devices use analog signals to transmit and receive data. ASIC (Application Specific Integrated Circuit) -- A logic circuit designed for a specific usage and implemented in an integrated circuit. Broadband Access Products -- Network equipment that provides access to a network infrastructure using high-bandwidth network interfaces, for example cable modems and digital subscriber line products. Bus -- The set of wires used to interconnect the signals from one semiconductor device to one or more other devices, either on the same circuit board or through a connector to another circuit board. Cable Modem -- A device used typically in a home for connecting a computer system to the Internet via the cable television network. Such devices typically offer significantly higher data transmission rates than available from analog modems. Compression -- The process of eliminating redundant information from a set of data, while maintaining complete data integrity such that the compressed data can be decompressed and returned to its original form. Data Authentication -- A method of processing data prior to transmission over a communication link such that on receipt of the data, the recipient can detect whether or not the data was altered during transmission. DES (Data Encryption Standard) -- A standard promulgated by the Federal Information Processing Society (FIPS) that defines a method for processing data such that it becomes indecipherable to anyone other than the person who holds the digital data stream, or key, with which it was encrypted. The maximum key length supported by DES is 56 bits. Digital Subscriber Line (DSL) -- A type of communication link offered by telecommunications service providers that provides digital transmission for voice and data, typically between a home/office and a corporate network, where the data transmission rates available are significantly greater than those available from analog modems. DLT (Digital Linear Tape) -- A type of tape drive manufactured by Quantum Corporation that provides storage of digital data on magnetic tape. The data is stored on linear tracks on the tape. Encryption -- The process of making data indecipherable to anyone other than the holds the key with which it was enciphered. Firewall -- A technology used for preventing unwanted inbound or outbound data at the boundary of a computer network based on a set of rules programmed by the firewall administrator. IETF (Internet Engineering Task Force) -- A volunteer organization that develops architectures practices and protocols for the continued development of the Internet and its related technologies. IPSec (IP Security) -- A network security protocol developed by the IETF, which provides for confidentiality and integrity of data transmitted over a computer network using the Internet Protocol. IP (Internet Protocol) -- The fundamental communication protocol used by computers attached to the global information network known as the Internet. IP can also be referred to as the layer 3 protocol, or network layer protocol of the Internet. IPPCP (IP Payload Compression Protocol) -- An IETF-developed protocol used in conjunction with IP that allows the payload of each IP data packet to be compressed prior to transmission and decompressed upon receipt thereby enhancing network bandwidth. G-1 93 ISDN (Integrated Services Digital Network) -- A service offered by telecommunications service providers that provides digital transmission for voice and data, typically between a home/office and a corporate network. LAN (Local Area Network) -- Typically a network consisting of a set of computers at a common location (office, building, campus, etc.) interconnected using a common type of wiring and a common networking protocol. Lossless Data Compression -- A method of processing digital information to remove redundant data, thereby reducing it in size for subsequent transmission or storage. Such a method must also have a corresponding method of processing the "reduced" data in such a way as to return it to its original, uncompressed state without any loss of information. LZS (Lempel-Ziv-Stac) -- A compression method, invented and patented by Stac. Mask set -- The tooling required in the fabrication process for semiconductor products. Such tooling typically takes the form of one "mask" for each layer of the manufacturing process, where each layer defines where specific materials are used in each layer of the product. Mbytes/sec (Megabytes per second) -- A rate of data transfer from one system to another. Megabyte -- Typically, one million bytes, but sometimes the quantity 1024 times 1024. MD5 (Message Digest 5) -- A data processing algorithm invented by Ron Rivest and designed to compute, with great probability, a unique "fingerprint" for a particular set of data. This type of algorithm is often used in networking protocols to ensure that transmitted data is not tampered with in transit. This is done by computing a "fingerprint" for a set of data, sending the data along with the "fingerprint", after which the receiver can recalculate and verify the received. MPPC (Microsoft Point-to-Point Compression) -- A compression method invented by Microsoft, for which patents are owned by Hi/fn. Network Interface Card -- A printed circuit card or semiconductor that provides for the connection of a computer system or other device to a local area network. PPP (Point-to-Point Protocol) -- An IETF-developed protocol operating at what is known as the data link layer, or layer 2, and used for the establishment of a connection from one computer to another over a wide area network. PPTP (Point-to-Point Tunneling Protocol) -- A Microsoft-developed protocol, based on certain aspects of PPP, that was designed to provide confidentiality of the data transmitted between two computers over a wide area network. RC4/RC5 (Rivest Cipher 4 and Rivest Cipher 5) -- Developed by Ron Rivest of the Massachusetts Institute of Technology (MIT), these are symmetric key encryption algorithms, meaning that the same key is used to encrypt a set of data as is used to decrypt it. Remote Access Concentrator -- A networking device, which aggregates, or concentrates, multiple bi-directional communication links into a single, larger link. These devices are typically used to provide dial-up access to a corporate network or to the Internet. Router -- A networking device that is responsible for processing incoming and outgoing data packets, typically Internet Protocol packets, and determining where to "route" the data packet on its journey to its final destination. RSA (Rivest Shamir Adelman) -- The initials of the 3 inventors of the RSA public key encryption system and co-founders of RSA Data Security. SCSI (Small Computer Systems Interface) -- An interface typically used for connecting storage devices such as tape drives and disk drives to computer systems. G-2 94 SHA1 (Secure Hash Algorithm) -- A data processing algorithm designed to compute, with great probability, a unique "fingerprint" for a particular set of data. This type of algorithm is often used in networking protocols to ensure that transmitted data is not tampered with in transit. This is done by computing a "fingerprint" for a set of data, sending the data along with the "fingerprint", after which the receiver can recalculate and verify the received. Tape Drive -- An electro-mechanical computer peripheral with integrated electronics that enables the storage of computer data on removable magnetic media. TCP (Transmission Control Protocol) -- Along with IP, the next most fundamental network protocol used for communication of data over the Internet. Internet applications such as web browsers are known as TCP applications. Travan -- A tape drive standard, developed by 3M, which uses tape media that is one quarter-inch in width. Triple-DES (Triple Data Encryption Standard) -- Based on the DES encryption algorithm, Triple-DES involves processing a set of data three times using DES. A method for processing data such that it becomes indecipherable to anyone other than the person who holds the digital data stream, or key, with which it was encrypted. The maximum key length supported by Triple-DES is 168 bits. VPN (Virtual Private Network) -- A network of interconnected computers, all sharing the same network infrastructure, where the privacy of the communication between any two computers on the network is maintained through the use of network security, or encryption, protocols. WAN (Wide Area Network) -- A network of interconnected computers or LANs where they are interconnected using a network infrastructure provided by a service provider such as an telecommunications company or an Internet Service Provider. G-3 95 ANNEX I THIRD AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF HI/FN, INC. A DELAWARE CORPORATION hi/fn, inc., a corporation organized and existing under the General Corporation Law of the State of Delaware DOES HEREBY CERTIFY: FIRST: This corporation's original Certificate of Incorporation was filed with the Secretary of State of the State of Delaware on August 14, 1996; this corporation's Amended and Restated Certificate of Incorporation was filed with the Secretary of State of the State of Delaware on August 29, 1996; this corporation's Second Amended and Restated Certificate of Incorporation was filed with the Secretary of State of the State of Delaware on November 12, 1996. SECOND: The Third Amended and Restated Certificate of Incorporation of hi/fn, inc., in the form set forth below, has been duly adopted in accordance with the provisions of Sections 228, 242, and 245 of the Delaware General Corporation Law by the directors and the stockholders of the corporation. THIRD: The text of this corporation's Certificate of Incorporation, as amended, is hereby amended and restated in its entirety as follows: ARTICLE I The name of this corporation is hi/fn, inc. ARTICLE II The address of the registered office of this corporation in the State of Delaware is 1209 Orange Street, Wilmington, County of New Castle, Delaware 19801. The name of its registered agent at such address is The Corporation Trust Company. ARTICLE III The nature of the business or purposes to be conducted or promoted is to engage in any lawful act or activity for which corporations may be organized under the Delaware General Corporation Law. ARTICLE IV A. This corporation is authorized to issue two classes of stock to be designated, respectively, "Common Stock" and "Preferred Stock." The total number of shares which the corporation is authorized to issue is one hundred ten million (110,000,000) shares. One hundred million (100,000,000) shares shall be Common Stock, each having a par value of one-tenth of one cent ($.001). Ten million (10,000,000) shares shall be Preferred Stock, each having a par value of one-tenth of one cent ($.001). B. The Preferred Stock may be issued from time to time in one or more series. The Board of Directors is hereby authorized, by filing a certificate (a "Preferred Stock Designation") pursuant to the Delaware General Corporation Law, to fix or alter from time to time the designation, powers, preferences and rights of the shares of each such series and the qualifications, limitations or restrictions of any wholly unissued series of Preferred Stock, and to establish from time to time the number of shares constituting any such series or any of them; and to increase or decrease the number of shares of any series subsequent to the issuance of shares of that I-1 96 series, but not below the number of shares of such series then outstanding. In case the number of shares of any series shall be decreased in accordance with the foregoing sentence, the shares constituting such decrease shall resume the status that they had prior to the adoption of the resolution originally fixing the number of shares of such series. ARTICLE V For the management of the business and for the conduct of the affairs of the corporation, and in further definition, limitation and regulation of the powers of the corporation, of its directors and of its stockholders or any class thereof, as the case may be, it is further provided that: A. (1) The management of the business and the conduct of the affairs of the corporation shall be vested in its Board of Directors. The number of directors which shall constitute the whole Board of Directors shall be fixed exclusively by one or more resolutions adopted by the Board of Directors. The Board of Directors shall be divided into three classes designated as Class I, Class II, and Class III, respectively. Directors shall be assigned to each class in accordance with a resolution or resolutions adopted by the Board of Directors. At the first annual meeting of stockholders following the date hereof, the term of office of the Class I directors shall expire and Class I directors shall be elected for a full term of three years. At the second annual meeting of stockholders following the date hereof, the term of office of the Class II directors shall expire and Class II directors shall be elected for a full term of three years. At the third annual meeting of stockholders following the date hereof, the term of office of the Class III directors shall expire and Class III directors shall be elected for a full term of three years. At each succeeding annual meeting of stockholders, directors shall be elected for a full term of three years to succeed the directors of the class whose terms expire at such annual meeting. (2) Notwithstanding the foregoing provisions of this Article, each director shall serve until his successor is duly elected and qualified or until his death, resignation or removal. (3) Subject to the rights of the holders of any series of Preferred Stock, the Board of Directors or any individual director may be removed from office at any time (i) with cause by the affirmative vote of the holders of a majority of the voting power of all the then-outstanding shares of voting stock of the corporation, entitled to vote at an election of directors (the "Voting Stock") or (ii) without cause by the affirmative vote of the holders of at least sixty-six and two-thirds percent (66 2/3%) of the voting power of all the then-outstanding shares of the Voting Stock. (4) Subject to the rights of the holders of any series of Preferred Stock, any vacancies on the Board of Directors resulting from death, resignation, disqualification, removal or other causes and any newly created directorships resulting from any increase in the number of directors, shall, unless the Board of Directors determines by resolution that any such vacancies or newly created directorships shall be filled by the stockholders, except as otherwise provided by law, be filled only by the affirmative vote of a majority of the directors then in office, even though less than a quorum of the Board of Directors, and not by the stockholders. Any director elected in accordance with the preceding sentence shall hold office for the remainder of the full term of the director for which the vacancy was created or occurred and until such director's successor shall have been elected and qualified. B. (1) Subject to paragraph (h) of Section 43 of the Bylaws, the Bylaws may be altered or amended or new Bylaws adopted by the affirmative vote of at least sixty-six and two-thirds percent (66 2/3%) of the voting power of all of the then-outstanding shares of the Voting Stock. The Board of Directors shall also have the power to adopt, amend, or repeal Bylaws. (2) The directors of the corporation need not be elected by written ballot unless the Bylaws so provide. I-2 97 (3) At any time following the first distribution of Common Stock of the corporation pursuant to a registration statement on Form 10 declared effective by the Securities and Exchange Commission under the Securities Exchange Act of 1934, as amended, no action shall be taken by the stockholders of the corporation except at an annual or special meeting of stockholders called in accordance with the Bylaws. (4) Special meetings of the stockholders of the corporation may be called, for any purpose or purposes, by (i) the Chairman of the Board of Directors, (ii) the Chief Executive Officer, (iii) the Board of Directors pursuant to a resolution adopted by a majority of the total number of authorized directors (whether or not there exist any vacancies in previously authorized directorships at the time any such resolution is presented to the Board of Directors for adoption) or (iv) by the holders of the shares entitled to cast not less than ten percent (10%) of the votes at the meeting, and shall be held at such place, on such date, and at such time as the Board of Directors shall fix. (5) Advance notice of stockholder nominations for the election of directors and of business to be brought by stockholders before any meeting of the stockholders of the corporation shall be given in the manner provided in the Bylaws of the corporation. ARTICLE VI A. A director of the corporation shall not be personally liable to the corporation or its stockholders for monetary damages for any breach of fiduciary duty as a director, except for liability (i) for any breach of the director's duty of loyalty to the corporation or its stockholders, (ii) for acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law (iii) under Section 174 of the Delaware General Corporation Law, or (iv) for any transaction from which the director derived an improper personal benefit. If the Delaware General Corporation Law is amended after approval by the stockholders of this Article to authorize corporate action further eliminating or limiting the personal liability of directors, then the liability of a director shall be eliminated or limited to the fullest extent permitted by the Delaware General corporation Law, as so amended. B. Any repeal or modification of this Article VI shall be prospective and shall not affect the rights under this Article VI in effect at the time of the alleged occurrence of any act or omission to act giving rise to liability or indemnification. ARTICLE VII A. The corporation reserves the right to amend, alter, change or repeal any provision contained in this Certificate of Incorporation, in the manner now or hereafter prescribed by statute, except as provided in paragraph B of this Article VII, and all rights conferred upon the stockholders herein are granted subject to this reservation. B. Notwithstanding any other provisions of this Certificate of Incorporation or any provision of law which might otherwise permit a lesser vote or no vote, but in addition to any affirmative vote of the holders of any particular class or series of the Voting Stock required by law, this Certificate of Incorporation or any Preferred Stock Designation, the affirmative vote of the holders of at least sixty-six and two-thirds percent (66 2/3%) of the voting power of all of the then-outstanding shares of the Voting Stock, voting together as a single class, shall be required to alter, amend or repeal Articles V, VI and VII. I-3 98 IN WITNESS WHEREOF, this Third Amended and Restated Certificate of Incorporation has been subscribed this day of , 1998 by the undersigned who affirms that the statements made herein are true and correct. HI/FN, INC. By: -------------------------------------- [Name & Title] I-4 99 ANNEX II BYLAWS OF HI/FN, INC. (A DELAWARE CORPORATION) II-1 100 BYLAWS OF HI/FN, INC. (A DELAWARE CORPORATION) ARTICLE I OFFICERS SECTION 1. Registered Office. The registered office of the corporation in the State of Delaware shall be in the City of Wilmington, County of New Castle. SECTION 2. Other Offices. The corporation shall also have and maintain an office or principal place of business at such place as may be fixed by the Board of Directors, and may also have offices at such other places, both within and without the State of Delaware as the Board of Directors may from time to time determine or the business of the corporation may require. ARTICLE II CORPORATE SEAL SECTION 3. Corporate Seal. The corporate seal shall consist of a die bearing the name of the corporation and the inscription, "Corporate Seal-Delaware." Said seal may be used by causing it or a facsimile thereof to be impressed or affixed or reproduced or otherwise. ARTICLE III STOCKHOLDERS' MEETINGS SECTION 4. Place of Meetings. Meetings of the stockholders of the corporation shall be held at such place, either within or without the State of Delaware, as may be designated from time to time by the Board of Directors, or, if not so designated, then at the office of the corporation required to be maintained pursuant to Section 2 hereof. SECTION 5. Annual Meeting. (a) The annual meeting of the stockholders of the corporation, for the purpose of election of directors and for such other business as may lawfully come before it, shall be held on such date and at such time as may be designated from time to time by the Board of Directors. (b) At an annual meeting of the stockholders, only such business shall be conducted as shall have been properly brought before the meeting. To be properly brought before an annual meeting, business must be: (A) specified in the notice of meeting (or any supplement thereto) given by or at the direction of the Board of Directors, (B) otherwise properly brought before the meeting by or at the direction of the Board of Directors, or (C) otherwise properly brought before the meeting by a stockholder. For business to be properly brought before an annual meeting by a stockholder, the stockholder must have given timely notice thereof in writing to the Secretary of the corporation. To be timely, a stockholder's notice must be delivered to or mailed and received at the principal executive offices of the corporation not less than one hundred twenty (120) calendar days in advance of the date of the corporation's proxy statement released to stockholders in connection with the preceding year's annual meeting; provided, however, that in the event that no annual meeting was held in the previous year or the date of the annual meeting has been changed by more than thirty (30) days from the date contemplated at the time of the previous year's proxy statement, notice by the stockholder to be timely must be so received a reasonable time before the solicitation is made. A stockholder's notice to the Secretary shall set forth as to each matter the stockholder proposes to bring before the annual meeting: (i) a brief description of the business desired to be brought before the annual meeting and the reasons for conducting such business at the annual II-2 101 meeting, (ii) the name and address, as they appear on the corporation's books, of the stockholder proposing such business, (iii) the class and number of shares of the corporation which are beneficially owned by the stockholder, (iv) any material interest of the stockholder in such business and (v) any other information that is required to be provided by the stockholder pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended (the "1934 Act"), in his capacity as a proponent to a stockholder proposal. Notwithstanding the foregoing, in order to include information with respect to a stockholder proposal in the proxy statement and form of proxy for a stockholder's meeting, stockholders must provide notice as required by the regulations promulgated under the 1934 Act. Notwithstanding anything in these Bylaws to the contrary, no business shall be conducted at any annual meeting except in accordance with the procedures set forth in this paragraph (b). The chairman of the annual meeting shall, if the facts warrant, determine and declare at the meeting that business was not properly brought before the meeting and in accordance with the provisions of this paragraph (b), and, if he should so determine, he shall so declare at the meeting that any such business not properly brought before the meeting shall not be transacted. (c) Only persons nominated in accordance with the procedures set forth in this paragraph (c) shall be eligible for election as directors. Nominations of persons for election to the Board of Directors of the corporation may be made at a meeting of stockholders by or at the direction of the Board of Directors or by any stockholder of the corporation entitled to vote in the election of directors at the meeting who complies with the notice procedures set forth in this paragraph (c). Such nominations, other than those made by or at the direction of the Board of Directors, shall be made pursuant to timely notice in writing to the Secretary of the corporation in accordance with the provisions of paragraph (b) of this Section 5. Such stockholder's notice shall set forth (i) as to each person, if any, whom the stockholder proposes to nominate for election or re-election as a director: (A) the name, age, business address and residence address of such person, (B) the principal occupation or employment of such person, (C) the class and number of shares of the corporation which are beneficially owned by such person, (D) a description of all arrangements or understandings between the stockholder and each nominee and any other person or persons (naming such person or persons) pursuant to which the nominations are to be made by the stockholder, and (E) any other information relating to such person that is required to be disclosed in solicitations of proxies for election of directors, or is otherwise required, in each case pursuant to Regulation 14A under the 1934 Act (including without limitation such person's written consent to being named in the proxy statement, if any, as a nominee and to serving as a director if elected); and (ii) as to such stockholder giving notice, the information required to be provided pursuant to paragraph (b) of this Section 5. At the request of the Board of Directors, any person nominated by a stockholder for election as a director shall furnish to the Secretary of the corporation that information required to be set forth in the stockholder's notice of nomination which pertains to the nominee. No person shall be eligible for election as a director of the corporation unless nominated in accordance with the procedures set forth in this paragraph (c). The chairman of the meeting shall, if the facts warrant, determine and declare at the meeting that a nomination was not made in accordance with the procedures prescribed by these Bylaws, and if he should so determine, he shall so declare at the meeting, and the defective nomination shall be disregarded. SECTION 6. Special Meetings. (a) Special meetings of the stockholders of the corporation may be called, for any purpose or purposes, by (i) the Chairman of the Board of Directors, (ii) the Chief Executive Officer, (iii) the Board of Directors pursuant to a resolution adopted by a majority of the total number of authorized directors (whether or not there exist any vacancies in previously authorized directorships at the time any such resolution is presented to the Board of Directors for adoption) or (iv) by the holders of shares entitled to cast not less than ten percent (10%) of the votes at the meeting, and shall be held at such place, on such date, and at such time as the Board of Directors, shall fix. (b) If a special meeting is called by any person or persons other than the Board of Directors, the request shall be in writing, specifying the general nature of the business proposed to be transacted, and shall be delivered personally or sent by registered mail or by telegraphic or other facsimile transmission to II-3 102 the Chairman of the Board of Directors, the Chief Executive Officer, or the Secretary of the corporation. No business may be transacted at such special meeting otherwise than specified in such notice. The Board of Directors shall determine the time and place of such special meeting, which shall be held not less than thirty-five (35) nor more than one hundred twenty (120) days after the date of the receipt of the request. Upon determination of the time and place of the meeting, the officer receiving the request shall cause notice to be given to the stockholders entitled to vote, in accordance with the provisions of Section 7 of these Bylaws. If the notice is not given within sixty (60) days after the receipt of the request, the person or persons requesting the meeting may set the time and place of the meeting and give the notice. Nothing contained in this paragraph (b) shall be construed as limiting, fixing, or affecting the time when a meeting of stockholders called by action of the Board of Directors may be held. SECTION 7. Notice of Meetings. Except as otherwise provided by law or the Certificate of Incorporation, written notice of each meeting of stockholders shall be given not less than ten (10) nor more than sixty (60) days before the date of the meeting to each stockholder entitled to vote at such meeting, such notice to specify the place, date and hour and purpose or purposes of the meeting. Notice of the time, place and purpose of any meeting of stockholders may be waived in writing, signed by the person entitled to notice thereof, either before or after such meeting, and will be waived by any stockholder by his attendance thereat in person or by proxy, except when the stockholder attends a meeting for the express purpose of objecting, at the beginning of the meeting, to the transaction of any business because the meeting is not lawfully called or convened. Any stockholder so waiving notice of such meeting shall be bound by the proceedings of any such meeting in all respects as if due notice thereof had been given. SECTION 8. Quorum. At all meetings of stockholders, except where otherwise provided by statute or by the Certificate of Incorporation, or by these Bylaws, the presence, in person or by proxy duly authorized, of the holders of a majority of the outstanding shares of stock entitled to vote shall constitute a quorum for the transaction of business. In the absence of a quorum, any meeting of stockholders may be adjourned, from time to time, either by the chairman of the meeting or by vote of the holders of a majority of the shares represented thereat, but no other business shall be transacted at such meeting. The stockholders present at a duly called or convened meeting, at which a quorum is present, may continue to transact business until adjournment, notwithstanding the withdrawal of enough stockholders to leave less than a quorum. Except as otherwise provided by law, the Certificate of Incorporation or these Bylaws, all action taken by the holders of a majority of the vote cast, excluding abstentions, at any meeting at which a quorum is present shall be valid and binding upon the corporation; provided, however, that directors shall be elected by a plurality of the votes of the shares present in person or represented by proxy at the meeting and entitled to vote on the election of directors. Where a separate vote by a class or classes or series is required, except where otherwise provided by the statute or by the Certificate of Incorporation or these Bylaws, a majority of the outstanding shares of such class or classes or series, present in person or represented by proxy, shall constitute a quorum entitled to take action with respect to that vote on that matter and, except where otherwise provided by the statute or by the Certificate of Incorporation or these Bylaws, the affirmative vote of the majority (plurality, in the case of the election of directors) of the votes cast, including abstentions, by the holders of shares of such class or classes or series shall be the act of such class or classes or series. SECTION 9. Adjournment and Notice of Adjourned Meetings. Any meeting of stockholders, whether annual or special, may be adjourned from time to time either by the chairman of the meeting or by the vote of a majority of the shares casting votes, excluding abstentions. When a meeting is adjourned to another time or place, notice need not be given of the adjourned meeting if the time and place thereof are announced at the meeting at which the adjournment is taken. At the adjourned meeting, the corporation may transact any business which might have been transacted at the original meeting. If the adjournment is for more than thirty (30) days or if after the adjournment a new record date is fixed for the adjourned meeting, a notice of the adjourned meeting shall be given to each stockholder of record entitled to vote at the meeting. SECTION 10. Voting Rights. For the purpose of determining those stockholders entitled to vote at any meeting of the stockholders, except as otherwise provided by law, only persons in whose names shares stand on the stock records of the corporation on the record date, as provided in Section 12 of these Bylaws, shall be entitled to vote at any meeting of stockholders. Every person entitled to vote shall have the right to do so either II-4 103 in person or by an agent or agents authorized by a proxy granted in accordance with Delaware law. An agent so appointed need not be a stockholder. No proxy shall be voted after three (3) years from its date of creation unless the proxy provides for a longer period. SECTION 11. Joint Owners of Stock. If shares or other securities having voting power stand of record in the names of two (2) or more persons, whether fiduciaries, members of a partnership, joint tenants, tenants in common, tenants by the entirety, or otherwise, or if two (2) or more persons have the same fiduciary relationship respecting the same shares, unless the Secretary is given written notice to the contrary and is furnished with a copy of the instrument or order appointing them or creating the relationship wherein it is so provided, their acts with respect to voting shall have the following effect: (a) if only one (1) votes, his act binds all; (b) if more than one (1) votes, the act of the majority so voting binds all; (c) if more than one (1) votes, but the vote is evenly split on any particular matter, each faction may vote the securities in question proportionally, or may apply to the Delaware Court of Chancery for relief as provided in the General Corporation Law of Delaware, Section 217(b). If the instrument filed with the Secretary shows that any such tenancy is held in unequal interests, a majority or even-split for the purpose of subsection (c) shall be a majority or even-split in interest. SECTION 12. List of Stockholders. The Secretary shall prepare and make, at least ten (10) days before every meeting of stockholders, a complete list of the stockholders entitled to vote at said meeting, arranged in alphabetical order, showing the address of each stockholder and the number of shares registered in the name of each stockholder. Such list shall be open to the examination of any stockholder, for any purpose germane to the meeting, during ordinary business hours, for a period of at least ten (10) days prior to the meeting, either at a place within the city where the meeting is to be held, which place shall be specified in the notice of the meeting, or, if not specified, at the place where the meeting is to be held. The list shall be produced and kept at the time and place of meeting during the whole time thereof and may be inspected by any stockholder who is present. SECTION 13. Action Without Meeting. No action shall be taken by the stockholders except at an annual or special meeting of stockholders called in accordance with these Bylaws, and no action shall be taken by the stockholders by written consent. SECTION 14. Organization. (a) At every meeting of stockholders, the Chairman of the Board of Directors, or, if a Chairman has not been appointed or is absent, the Vice Chairman of the Board of Directors, or, if a Chairman has not been appointed or is absent and a Vice Chairman has not been appointed or is absent, the Chief Executive Officer, or, if a Chairman has not been appointed or is absent and a Vice Chairman has not been appointed or is absent and a Chief Executive Officer has not been appointed or is absent, the President, or, if all of such officers are absent, a chairman of the meeting chosen by a majority in interest of the stockholders entitled to vote, present in person or by proxy, shall preside over the meeting. The Secretary, or, in his absence, an Assistant Secretary directed to do so by the presiding officer, shall act as secretary of the meeting. (b) The Board of Directors of the corporation shall be entitled to make such rules or regulations for the conduct of meetings of stockholders as it shall deem necessary, appropriate or convenient. Subject to such rules and regulations of the Board of Directors, if any, the chairman of the meeting shall have the right and authority to prescribe such rules, regulations and procedures and to do all such acts as, in the judgment of such chairman, are necessary, appropriate or convenient for the proper conduct of the meeting, including, without limitation, establishing an agenda or order of business for the meeting, rules and procedures for maintaining order at the meeting and the safety of those present, limitations on participation in such meeting to stockholders of record of the corporation and their duly authorized and constituted proxies and such other persons as the chairman shall permit, restrictions on entry to the meeting after the time fixed for the commencement thereof, limitations on the time allotted to questions or comments by participants and regulation of the opening and closing of the polls for balloting on matters which are to be voted on by ballot. Unless and to the extent determined by the Board of Directors II-5 104 or the chairman of the meeting, meetings of stockholders shall not be required to be held in accordance with rules of parliamentary procedure. ARTICLE IV DIRECTORS SECTION 15. Number and Term of Office. The number of directors of the corporation shall be set at five (5). This number may be changed, within the limits specified above, by a duly adopted amendment to the Certificate of Incorporation or by an amendment to this Bylaw duly adopted by the vote or written consent of the holders of a majority of the stock issued and outstanding and entitled to vote or by resolution of a majority of the Board of Directors, except as may be otherwise specifically provided by statute or by the Certificate of Incorporation. No reduction of the authorized number of directors shall have the effect of removing any director before that director's term of office expires. If for any cause, the directors shall not have been elected at an annual meeting, they may be elected as soon thereafter as convenient at a special meeting of the stockholders called for that purpose in the manner provided in these Bylaws. SECTION 16. Powers. The powers of the corporation shall be exercised, its business conducted and its property controlled by the Board of Directors, except as may be otherwise provided by statute or by the Certificate of Incorporation. SECTION 17. Election of Directors. The Board of Directors shall be divided into three classes designated as Class I, Class II, and Class III, respectively. Directors shall be assigned to each class in accordance with a resolution or resolutions adopted by the Board of Directors. At the first annual meeting of stockholders following the date hereof, the term of office of the Class I directors shall expire and Class I directors shall be elected for a full term of three years. At the second annual meeting of stockholders following the date hereof, the term of office of the Class II directors shall expire and Class II directors shall be elected for a full term of three years. At the third annual meeting of stockholders following the date hereof, the term of office of the Class III directors shall expire and Class III directors shall be elected for a full term of three years. At each succeeding annual meeting of stockholders, directors shall be elected for a full term of three years to succeed the directors of the class whose terms expire at such annual meeting. Notwithstanding the foregoing provisions of this Section 17, each director shall serve until his successor is duly elected and qualified or until his death, resignation or removal. No decrease in the number of directors constituting the Board of Directors shall shorten the term of any incumbent director. SECTION 18. Vacancies. Unless otherwise provided in the Certificate of Incorporation, any vacancies on the Board of Directors resulting from death, resignation, disqualification, removal or other causes and any newly created directorships resulting from any increase in the number of directors, shall unless the Board of Directors determines by resolution that any such vacancies or newly created directorships shall be filled by stockholders, be filled only by the affirmative vote of a majority of the directors then in office, even though less than a quorum of the Board of Directors. Any director elected in accordance with the preceding sentence shall hold office for the remainder of the full term of the director for which the vacancy was created or occurred and until such director's successor shall have been elected and qualified. A vacancy in the Board of Directors shall be deemed to exist under this Bylaw in the case of the death, removal or resignation of any director. SECTION 19. Resignation. Any director may resign at any time by delivering his written resignation to the Secretary, such resignation to specify whether it will be effective at a particular time, upon receipt by the Secretary or at the pleasure of the Board of Directors. If no such specification is made, it shall be deemed effective at the pleasure of the Board of Directors. When one or more directors shall resign from the Board of Directors, effective at a future date, a majority of the directors then in office, including those who have so resigned, shall have power to fill such vacancy or vacancies, the vote thereon to take effect when such resignation or resignations shall become effective, and each Director so chosen shall hold office for the unexpired portion of the term of the Director whose place shall be vacated and until his successor shall have been duly elected and qualified. II-6 105 SECTION 20. Removal. Subject to the rights of the holders of any series of Preferred Stock, the Board of Directors or any individual director may be removed from office at any time (i) with cause by the affirmative vote of the holders of a majority of the voting power of all the then-outstanding shares of voting stock of the corporation, entitled to vote at an election of directors (the "Voting Stock") or (ii) without cause by the affirmative vote of the holders of at least sixty-six and two-thirds percent (66 2/3%) of the voting power of all the then-outstanding shares of the Voting Stock. SECTION 21. Meetings. (a) Annual Meetings. The annual meeting of the Board of Directors shall be held immediately before or after the annual meeting of stockholders and at the place where such meeting is held. No notice of an annual meeting of the Board of Directors shall be necessary and such meeting shall be held for the purpose of electing officers and transacting such other business as may lawfully come before it. (b) Regular Meetings. Except as hereinafter otherwise provided, regular meetings of the Board of Directors shall be held in the office of the corporation required to be maintained pursuant to Section 2 hereof. Unless otherwise restricted by the Certificate of Incorporation, regular meetings of the Board of Directors may also be held at any place within or without the State of Delaware which has been designated by resolution of the Board of Directors or the written consent of all directors. (c) Special Meetings. Unless otherwise restricted by the Certificate of Incorporation, special meetings of the Board of Directors may be held at any time and place within or without the State of Delaware whenever called by the Chairman of the Board, the President or any two of the directors (d) Telephone Meetings. Any member of the Board of Directors, or of any committee thereof, may participate in a meeting by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other, and participation in a meeting by such means shall constitute presence in person at such meeting. (e) Notice of Meetings. Notice of the time and place of all special meetings of the Board of Directors shall be orally or in writing, by telephone, facsimile, telegraph or telex, during normal business hours, at least twenty-four (24) hours before the date and time of the meeting, or sent in writing to each director by first class mail, charges prepaid, at least three (3) days before the date of the meeting. Notice of any meeting may be waived in writing at any time before or after the meeting and will be waived by any director by attendance thereat, except when the director attends the meeting for the express purpose of objecting, at the beginning of the meeting, to the transaction of any business because the meeting is not lawfully called or convened. (f) Waiver of Notice. The transaction of all business at any meeting of the Board of Directors, or any committee thereof, however called or noticed, or wherever held, shall be as valid as though had at a meeting duly held after regular call and notice, if a quorum be present and if, either before or after the meeting, each of the directors not present shall sign a written waiver of notice. All such waivers shall be filed with the corporate records or made a part of the minutes of the meeting. SECTION 22. Quorum and Voting. (a) Unless the Certificate of Incorporation requires a greater number and except with respect to indemnification questions arising under Section 43 hereof, for which a quorum shall be one-third of the exact number of directors fixed from time to time in accordance with the Certificate of Incorporation, a quorum of the Board of Directors shall consist of a majority of the exact number of directors fixed from time to time by the Board of Directors in accordance with the Certificate of Incorporation; provided, however, at any meeting whether a quorum be present or otherwise, a majority of the directors present may adjourn from time to time until the time fixed for the next regular meeting of the Board of Directors, without notice other than by announcement at the meeting. (b) At each meeting of the Board of Directors at which a quorum is present, all questions and business shall be determined by the affirmative vote of a majority of the directors present, unless a different vote be required by law, the Certificate of Incorporation or these Bylaws. II-7 106 SECTION 23. Action Without Meeting. Unless otherwise restricted by the Certificate of Incorporation or these Bylaws, any action required or permitted to be taken at any meeting of the Board of Directors or of any committee thereof may be taken without a meeting, if all members of the Board of Directors or committee, as the case may be, consent thereto in writing, and such writing or writings are filed with the minutes of proceedings of the Board of Directors or committee. SECTION 24. Fees and Compensation. Directors shall be entitled to such compensation for their services as may be approved by the Board of Directors, including, if so approved, by resolution of the Board of Directors, a fixed sum and expenses of attendance, if any, for attendance at each regular or special meeting of the Board of Directors and at any meeting of a committee of the Board of Directors. Nothing herein contained shall be construed to preclude any director from serving the corporation in any other capacity as an officer, agent, employee, or otherwise and receiving compensation therefor. SECTION 25. Committees. (a) Executive Committee. The Board of Directors may by resolution passed by a majority of the whole Board of Directors appoint an Executive Committee to consist of one (1) or more members of the Board of Directors. The Executive Committee, to the extent permitted by law and provided in the resolution of the Board of Directors shall have and may exercise all the powers and authority of the Board of Directors in the management of the business and affairs of the corporation, including without limitation the power or authority to declare a dividend, to authorize the issuance of stock and to adopt a certificate of ownership and merger, and may authorize the seal of the corporation to be affixed to all papers which may require it; but no such committee shall have the power or authority in reference to amending the Certificate of Incorporation (except that a committee may, to the extent authorized in the resolution or resolutions providing for the issuance of shares of stock adopted by the Board of Directors fix the designations and any of the preferences or rights of such shares relating to dividends, redemption, dissolution, any distribution of assets of the corporation or the conversion into, or the exchange of such shares for, shares of any other class or classes or any other series of the same or any other class or classes of stock of the corporation or fix the number of shares of any series of stock or authorize the increase or decrease of the shares of any series), adopting an agreement of merger or consolidation, recommending to the stockholders the sale, lease or exchange of all or substantially all of the corporation's property and assets, recommending to the stockholders a dissolution of the corporation or a revocation of a dissolution, or amending the bylaws of the corporation. (b) Other Committees. The Board of Directors may, by resolution passed by a majority of the whole Board of Directors, from time to time appoint an audit committee, nominating committee and such other committees as may be permitted by law. Such other committees appointed by the Board of Directors shall consist of one (1) or more members of the Board of Directors and shall have such powers and perform such duties as may be prescribed by the resolution or resolutions creating such committees, but in no event shall such committee have the powers denied to the Executive Committee in these Bylaws. (c) Term. Each member of a committee of the Board of Directors shall serve a term on the committee coexistent with such member's term on the Board of Directors. The Board of Directors, subject to the provisions of subsections (a) or (b) of this Bylaw may at any time increase or decrease the number of members of a committee or terminate the existence of a committee. The membership of a committee member shall terminate on the date of his death or voluntary resignation from the committee or from the Board of Directors. The Board of Directors may at any time for any reason remove any individual committee member and the Board of Directors may fill any committee vacancy created by death, resignation, removal or increase in the number of members of the committee. The Board of Directors may designate one or more directors as alternate members of any committee, who may replace any absent or disqualified member at any meeting of the committee, and, in addition, in the absence or disqualification of any member of a committee, the member or members thereof present at any meeting and not disqualified from voting, whether or not he or they constitute a quorum, may unanimously II-8 107 appoint another member of the Board of Directors to act at the meeting in the place of any such absent or disqualified member. (d) Meetings. Unless the Board of Directors shall otherwise provide, regular meetings of the Executive Committee or any other committee appointed pursuant to this Section 25 shall be held at such times and places as are determined by the Board of Directors, or by any such committee, and when notice thereof has been given to each member of such committee, no further notice of such regular meetings need be given thereafter. Special meetings of any such committee may be held at any place which has been determined from time to time by such committee, and may be called by any director who is a member of such committee, upon written notice to the members of such committee of the time and place of such special meeting given in the manner provided for the giving of written notice to members of the Board of Directors of the time and place of special meetings of the Board of Directors. Notice of any special meeting of any committee may be waived in writing at any time before or after the meeting and will be waived by any director by attendance thereat, except when the director attends such special meeting for the express purpose of objecting, at the beginning of the meeting, to the transaction of any business because the meeting is not lawfully called or convened. A majority of the authorized number of members of any such committee shall constitute a quorum for the transaction of business, and the act of a majority of those present at any meeting at which a quorum is present shall be the act of such committee. SECTION 26. Organization. At every meeting of the directors, the Chairman of the Board of Directors, or, if a Chairman has not been appointed or is absent, the Vice Chairman of the Board of Directors, or, if a Chairman has not been appointed or is absent and a Vice Chairman has not been appointed or is absent, the Chief Executive Officer, or, if a Chairman has not been appointed or is absent and a Vice Chairman has not been appointed or is absent and a Chief Executive Officer has not been appointed or is absent, the President, or, if all of such officers are absent, a chairman of the meeting chosen by a majority of the directors present, shall preside over the meeting. The Secretary, or in his absence, an Assistant Secretary directed to do so by the presiding officer, shall act as secretary of the meeting. ARTICLE V OFFICERS SECTION 27. Officers Designated. The officers of the corporation shall include, if and when designated by the Board of Directors, the Chairman of the Board of Directors, the Chief Executive Officer, the Vice Chairman of the Board of Directors, the President, one or more Vice Presidents, the Secretary, the Chief Financial Officer, the Treasurer, the Controller, all of whom shall be elected at the annual organizational meeting of the Board of Directors. The Board of Directors may also appoint one or more Assistant Secretaries, Assistant Treasurers, Assistant Controllers and such other officers and agents with such powers and duties as it shall deem necessary. The Board of Directors may assign such additional titles to one or more of the officers as it shall deem appropriate. Any one person may hold any number of offices of the corporation at any one time unless specifically prohibited therefrom by law. The salaries and other compensation of the officers of the corporation shall be fixed by or in the manner designated by the Board of Directors. SECTION 28. Tenure and Duties of Officers. (a) General. All officers shall hold office at the pleasure of the Board of Directors and until their successors shall have been duly elected and qualified, unless sooner removed. Any officer elected or appointed by the Board of Directors may be removed at any time by the Board of Directors. If the office of any officer becomes vacant for any reason, the vacancy may be filled by the Board of Directors. (b) Duties of Chairman of the Board of Directors. The Chairman of the Board of Directors, when present, shall preside at all meetings of the stockholders and the Board of Directors. The Chairman of the Board of Directors shall perform other duties commonly incident to his office and shall also perform such other duties and have such other powers as the Board of Directors shall designate from time to time. If there is no Chief Executive Officer or President, then the Chairman of the Board of Directors shall also II-9 108 serve as the Chief Executive Officer of the corporation and shall have the powers and duties prescribed in paragraph (c) of this Section 28. (c) Duties of Chief Executive Officer. The Chief Executive Officer shall preside at all meetings of the stockholders and at all meetings of the Board of Directors, unless the Chairman of the Board of Directors has been appointed and is present or, in the absence of the Chairman of the Board of Directors, the Vice Chairman of the Board of Directors has been appointed and is present. The Chief Executive Officer shall be the chief executive officer of the corporation and shall, subject to the control of the Board of Directors, have general supervision, direction and control of the business and officers of the corporation. The Chief Executive Officer shall also perform such other duties and have such other powers as the Board of Directors shall designate from time to time. (d) Duties of Vice Chairman of the Board of Directors. The Vice Chairman of the Board of Directors shall preside at all meetings of the stockholders and the Board of Directors, unless the Chairman of the Board of Directors has been appointed and is present. The Vice Chairman of the Board of Directors shall perform other duties commonly incident to his office and shall also perform such other duties and have such other powers as the Board of Directors shall designate from time to time. (e) Duties of President. The President shall preside at all meetings of the stockholders and at all meetings of the Board of Directors, unless the Chairman of the Board of Directors has been appointed and is present or, in the absence of the Chairman of the Board of Directors, the Vice Chairman of the Board has been appointed and is present or, in the absence of the Chairman and Vice Chairman of the Board of Directors, the Chief Executive Officer has been appointed and is present. If there is no Chief Executive Officer, then the President shall also serve as the Chief Executive Officer of the corporation and shall have the powers and duties prescribed in paragraph (c) of this Section 28. The President shall perform other duties commonly incident to his office and shall also perform such other duties and have such other powers as the Board of Directors shall designate from time to time. (f) Duties of Vice Presidents. The Vice Presidents may assume and perform the duties of the President in the absence or disability of the President or whenever the office of President is vacant. The Vice Presidents shall perform other duties commonly incident to their office and shall also perform such other duties and have such other powers as the Board of Directors or the President shall designate from time to time. (g) Duties of Secretary. The Secretary shall attend all meetings of the stockholders and of the Board of Directors and shall record all acts and proceedings thereof in the minute book of the corporation. The Secretary shall give notice in conformity with these Bylaws of all meetings of the stockholders and of all meetings of the Board of Directors and any committee thereof requiring notice. The Secretary shall perform all other duties given him in these Bylaws and other duties commonly incident to his office and shall also perform such other duties and have such other powers as the Board of Directors shall designate from time to time. The President may direct any Assistant Secretary to assume and perform the duties of the Secretary in the absence or disability of the Secretary, and each Assistant Secretary shall perform other duties commonly incident to his office and shall also perform such other duties and have such other powers as the Board of Directors or the President shall designate from time to time. (h) Duties of Chief Financial Officer. The Chief Financial Officer shall keep or cause to be kept the books of account of the corporation in a thorough and proper manner and shall render statements of the financial affairs of the corporation in such form and as often as required by the Board of Directors or the President. The Chief Financial Officer, subject to the order of the Board of Directors, shall have the custody of all funds and securities of the corporation. The Chief Financial Officer shall perform other duties commonly incident to his office and shall also perform such other duties and have such other powers as the Board of Directors or the President shall designate from time to time. The President may direct the Treasurer or any Assistant Treasurer, or the Controller or any Assistant Controller to assume and perform the duties of the Chief Financial Officer in the absence or disability of the Chief Financial Officer, and each Treasurer and Assistant Treasurer and each Controller and Assistant Controller shall II-10 109 perform other duties commonly incident to his office and shall also perform such other duties and have such other powers as the Board of Directors or the Chief Executive Officer shall designate from time to time. SECTION 29. Delegation of Authority. The Board of Directors may from time to time delegate the powers or duties of any officer to any other officer or agent, notwithstanding any provision hereof. SECTION 30. Resignations. Any officer may resign at any time by giving written notice to the Board of Directors or to the President or to the Secretary. Any such resignation shall be effective when received by the person or persons to whom such notice is given, unless a later time is specified therein, in which event the resignation shall become effective at such later time. Unless otherwise specified in such notice, the acceptance of any such resignation shall not be necessary to make it effective. Any resignation shall be without prejudice to the rights, if any, of the corporation under any contract with the resigning officer. SECTION 31. Removal. Any officer may be removed from office at any time, either with or without cause, by the affirmative vote of a majority of the directors in office at the time, or by the unanimous written consent of the directors in office at the time, or by any committee or superior officers upon whom such power of removal may have been conferred by the Board of Directors. ARTICLE VI EXECUTION OF CORPORATE INSTRUMENTS AND VOTING OF SECURITIES OWNED BY THE CORPORATION SECTION 32. Execution of Corporate Instruments. The Board of Directors may, in its discretion, determine the method and designate the signatory officer or officers, or other person or persons, to execute on behalf of the corporation any corporate instrument or document, or to sign on behalf of the corporation the corporate name without limitation, or to enter into contracts on behalf of the corporation, except where otherwise provided by law or these Bylaws, and such execution or signature shall be binding upon the corporation. Unless otherwise specifically determined by the Board of Directors or otherwise required by law, promissory notes, deeds of trust, mortgages and other evidences of indebtedness of the corporation, and other corporate instruments or documents requiring the corporate seal, and certificates of shares of stock owned by the corporation, shall be executed, signed or endorsed by the Chairman of the Board of Directors, or the President or any Vice President, and by the Secretary or Treasurer or any Assistant Secretary or Assistant Treasurer. All other instruments and documents requiring the corporate signature, but not requiring the corporate seal, may be executed as aforesaid or in such other manner as may be directed by the Board of Directors. All checks and drafts drawn on banks or other depositories on funds to the credit of the corporation or in special accounts of the corporation shall be signed by such person or persons as the Board of Directors shall authorize so to do. Unless authorized or ratified by the Board of Directors or within the agency power of an officer, no officer, agent or employee shall have any power or authority to bind the corporation by any contract or engagement or to pledge its credit or to render it liable for any purpose or for any amount. SECTION 33. Voting of Securities Owned by the Corporation. All stock and other securities of other corporations owned or held by the corporation for itself, or for other parties in any capacity, shall be voted, and all proxies with respect thereto shall be executed, by the person authorized so to do by resolution of the Board of Directors, or, in the absence of such authorization, by the Chairman of the Board of Directors, the Chief Executive Officer, the President, or any Vice President. II-11 110 ARTICLE VII SHARES OF STOCK SECTION 34. Form and Execution of Certificates. Certificates for the shares of stock of the corporation shall be in such form as is consistent with the Certificate of Incorporation and applicable law. Every holder of stock in the corporation shall be entitled to have a certificate signed by or in the name of the corporation by the Chairman of the Board of Directors, or the President or any Vice President and by the Treasurer or Assistant Treasurer or the Secretary or Assistant Secretary, certifying the number of shares owned by him in the corporation. Any or all of the signatures on the certificate may be facsimiles. In case any officer, transfer agent, or registrar who has signed or whose facsimile signature has been placed upon a certificate shall have ceased to be such officer, transfer agent, or registrar before such certificate is issued, it may be issued with the same effect as if he were such officer, transfer agent, or registrar at the date of issue. Each certificate shall state upon the face or back thereof, in full or in summary, all of the powers, designations, preferences, and rights, and the limitations or restrictions of the shares authorized to be issued or shall, except as otherwise required by law, set forth on the face or back a statement that the corporation will furnish without charge to each stockholder who so requests the powers, designations, preferences and relative, participating, optional, or other special rights of each class of stock or series thereof and the qualifications, limitations or restrictions of such preferences and/or rights. Within a reasonable time after the issuance or transfer of uncertificated stock, the corporation shall send to the registered owner thereof a written notice containing the information required to be set forth or stated on certificates pursuant to this section or otherwise required by law or with respect to this section a statement that the corporation will furnish without charge to each stockholder who so requests the powers, designations, preferences and relative participating, optional or other special rights of each class of stock or series thereof and the qualifications, limitations or restrictions of such preferences and/or rights. Except as otherwise expressly provided by law, the rights and obligations of the holders of certificates representing stock of the same class and series shall be identical. SECTION 35. Lost Certificates. A new certificate or certificates shall be issued in place of any certificate or certificates theretofore issued by the corporation alleged to have been lost, stolen, or destroyed, upon the making of an affidavit of that fact by the person claiming the certificate of stock to be lost, stolen, or destroyed. The corporation may require, as a condition precedent to the issuance of a new certificate or certificates, the owner of such lost, stolen, or destroyed certificate or certificates, or his legal representative, to advertise the same in such manner as it shall require or to give the corporation a surety bond in such form and amount as it may direct as indemnity against any claim that may be made against the corporation with respect to the certificate alleged to have been lost, stolen, or destroyed. SECTION 36. Transfers. (a) Transfers of record of shares of stock of the corporation shall be made only upon its books by the holders thereof, in person or by attorney duly authorized, and upon the surrender of a properly endorsed certificate or certificates for a like number of shares. (b) The corporation shall have power to enter into and perform any agreement with any number of stockholders of any one or more classes of stock of the corporation to restrict the transfer of shares of stock of the corporation of any one or more classes owned by such stockholders in any manner not prohibited by the General Corporation Law of Delaware. SECTION 37. Fixing Record Dates. (a) In order that the corporation may determine the stockholders entitled to notice of or to vote at any meeting of stockholders or any adjournment thereof, the Board of Directors may fix, in advance, a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted by the Board of Directors, and which record date shall not be more than sixty (60) nor less than ten (10) days before the date of such meeting. If no record date is fixed by the Board of Directors, the record date for determining stockholders entitled to notice of or to vote at a meeting of stockholders shall be at the close of business on the day next preceding the day on which notice is given, or if notice is waived, at the close of business on the day next preceding the day on which the meeting is held. A II-12 111 determination of stockholders of record entitled to notice of or to vote at a meeting of stockholders shall apply to any adjournment of the meeting; provided, however, that the Board of Directors may fix a new record date for the adjourned meeting. (b) In order that the corporation may determine the stockholders entitled to receive payment of any dividend or other distribution or allotment of any rights or the stockholders entitled to exercise any rights in respect of any change, conversion or exchange of stock, or for the purpose of any other lawful action, the Board of Directors may fix, in advance, a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted, and which record date shall be not more than sixty (60) days prior to such action. If no record date is fixed, the record date for determining stockholders for any such purpose shall be at the close of business on the day on which the Board of Directors adopts the resolution relating thereto. SECTION 38. Registered Stockholders. The corporation shall be entitled to recognize the exclusive right of a person registered on its books as the owner of shares to receive dividends, and to vote as such owner, and shall not be bound to recognize any equitable or other claim to or interest in such share or shares on the part of any other person whether or not it shall have express or other notice thereof, except as otherwise provided by the laws of Delaware. ARTICLE VIII OTHER SECURITIES OF THE CORPORATION SECTION 39. Execution of Other Securities. All bonds, debentures and other corporate securities of the corporation, other than stock certificates (covered in Section 34), may be signed by the Chairman of the Board of Directors, the President or any Vice President, or such other person as may be authorized by the Board of Directors, and the corporate seal impressed thereon or a facsimile of such seal imprinted thereon and attested by the signature of the Secretary or an Assistant Secretary, or the Chief Financial Officer or Treasurer or an Assistant Treasurer; provided, however, that where any such bond, debenture or other corporate security shall be authenticated by the manual signature, or where permissible facsimile signature, of a trustee under an indenture pursuant to which such bond, debenture or other corporate security shall be issued, the signatures of the persons signing and attesting the corporate seal on such bond, debenture or other corporate security may be the imprinted facsimile of the signatures of such persons. Interest coupons appertaining to any such bond, debenture or other corporate security, authenticated by a trustee as aforesaid, shall be signed by the Treasurer or an Assistant Treasurer of the corporation or such other person as may be authorized by the Board of Directors, or bear imprinted thereon the facsimile signature of such person. In case any officer who shall have signed or attested any bond, debenture or other corporate security, or whose facsimile signature shall appear thereon or on any such interest coupon, shall have ceased to be such officer before the bond, debenture or other corporate security so signed or attested shall have been delivered, such bond, debenture or other corporate security nevertheless may be adopted by the corporation and issued and delivered as though the person who signed the same or whose facsimile signature shall have been used thereon had not ceased to be such officer of the corporation. ARTICLE IX DIVIDENDS SECTION 40. Declaration of Dividends. Dividends upon the capital stock of the corporation, subject to the provisions of the Certificate of Incorporation, if any, may be declared by the Board of Directors pursuant to law at any regular or special meeting. Dividends may be paid in cash, in property, or in shares of the capital stock, subject to the provisions of the Certificate of Incorporation. SECTION 41. Dividend Reserve. Before payment of any dividend, there may be set aside out of any funds of the corporation available for dividends such sum or sums as the Board of Directors from time to time, in their absolute discretion, think proper as a reserve or reserves to meet contingencies, or for equalizing II-13 112 dividends, or for repairing or maintaining any property of the corporation, or for such other purpose as the Board of Directors shall think conducive to the interests of the corporation, and the Board of Directors may modify or abolish any such reserve in the manner in which it was created. ARTICLE X FISCAL YEAR SECTION 42. Fiscal Year. The fiscal year of the corporation shall be fixed by resolution of the Board of Directors. ARTICLE XI INDEMNIFICATION SECTION 43. Indemnification Of Directors, Executive Officers, Other Officers, Employees And Other Agents. (a) Directors and Executive Officers. The corporation shall indemnify its directors and executive officers (for the purposes of this Article XI, "executive officers" shall have the meaning defined in Rule 3b-7 promulgated under the 1934 Act) to the fullest extent not prohibited by the Delaware General Corporation Law; provided, however, that the corporation may modify the extent of such indemnification by individual contracts with its directors and executive officers; and, provided, further, that the corporation shall not be required to indemnify any director or executive officer in connection with any proceeding (or part thereof) initiated by such person unless (i) such indemnification is expressly required to be made by law, (ii) the proceeding was authorized by the Board of Directors of the corporation, (iii) such indemnification is provided by the corporation, in its sole discretion, pursuant to the powers vested in the corporation under the Delaware General Corporation Law or (iv) such indemnification is required to be made under subsection (d). (b) Other Officers, Employees and Other Agents. The corporation shall have power to indemnify its other officers, employees and other agents as set forth in the Delaware General Corporation Law. (c) Expenses. The corporation shall advance to 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 he is or was a director or executive officer, of the corporation, or is or was serving at the request of the corporation as a director or executive officer of another corporation, partnership, joint venture, trust or other enterprise, prior to the final disposition of the proceeding, promptly following request therefor, all expenses incurred by any director or executive officer in connection with such proceeding upon receipt of an undertaking by or on behalf of such person to repay said amounts if it should be determined ultimately that such person is not entitled to be indemnified under this Bylaw or otherwise. Notwithstanding the foregoing, unless otherwise determined pursuant to paragraph (e) of this Bylaw, no advance shall be made by the corporation to an executive officer of the corporation (except by reason of the fact that such executive officer is or was a director of the corporation in which event this paragraph shall not apply) in any action, suit or proceeding, whether civil, criminal, administrative or investigative, if a determination is reasonably and promptly made (i) by the Board of Directors by a majority vote of a quorum consisting of directors who were not parties to the proceeding, or (ii) if such quorum is not obtainable, or, even if obtainable, a quorum of disinterested directors so directs, by independent legal counsel in a written opinion, that the facts known to the decision-making party at the time such determination is made demonstrate clearly and convincingly that such person acted in bad faith or in a manner that such person did not believe to be in or not opposed to the best interests of the corporation. (d) Enforcement. Without the necessity of entering into an express contract, all rights to indemnification and advances to directors and executive officers under this Bylaw shall be deemed to be II-14 113 contractual rights and be effective to the same extent and as if provided for in a contract between the corporation and the director or executive officer. Any right to indemnification or advances granted by this Bylaw to a director or executive officer shall be enforceable by or on behalf of the person holding such right in any court of competent jurisdiction if (i) the claim for indemnification or advances is denied, in whole or in part, or (ii) no disposition of such claim is made within ninety (90) days of request therefor. The claimant in such enforcement action, if successful in whole or in part, shall be entitled to be paid also the expense of prosecuting his claim. In connection with any claim for indemnification, the corporation shall be entitled to raise as a defense to any such action that the claimant has not met the standards of conduct that make it permissible under the Delaware General Corporation Law for the corporation to indemnify the claimant for the amount claimed. In connection with any claim by an executive officer of the corporation (except in any action, suit or proceeding, whether civil, criminal, administrative or investigative, by reason of the fact that such executive officer is or was a director of the corporation) for advances, the corporation shall be entitled to raise a defense as to any such action clear and convincing evidence that such person acted in bad faith or in a manner that such person did not believe to be in or not opposed to the best interests of the corporation, or with respect to any criminal action or proceeding that such person acted without reasonable cause to believe that his conduct was lawful. Neither the failure of the corporation (including its Board of Directors, independent legal counsel or its stockholders) to have made a determination prior to the commencement of such action that indemnification of the claimant is proper in the circumstances because he has met the applicable standard of conduct set forth in the Delaware General Corporation Law, nor an actual determination by the corporation (including its Board of Directors, independent legal counsel or its stockholders) that the claimant has not met such applicable standard of conduct, shall be a defense to the action or create a presumption that claimant has not met the applicable standard of conduct. (e) Non-Exclusivity of Rights. The rights conferred on any person by this Bylaw shall not be exclusive of any other right which such person may have or hereafter acquire under any statute, provision of the Certificate of Incorporation, Bylaws, agreement, vote of stockholders or disinterested directors or otherwise, both as to action in his official capacity and as to action in another capacity while holding office. The corporation is specifically authorized to enter into individual contracts with any or all of its directors, officers, employees or agents respecting indemnification and advances, to the fullest extent not prohibited by the Delaware General Corporation Law. (f) Survival of Rights. The rights conferred on any person by this Bylaw shall continue as to a person who has ceased to be a director, officer, employee or other agent and shall inure to the benefit of the heirs, executors and administrators of such a person. (g) Insurance. To the fullest extent permitted by the Delaware General Corporation Law, the corporation, upon approval by the Board of Directors, may purchase insurance on behalf of any person required or permitted to be indemnified pursuant to this Bylaw. (h) Amendments. Any repeal or modification of this Bylaw shall only be prospective and shall not affect the rights under this Bylaw in effect at the time of the alleged occurrence of any action or omission to act that is the cause of any proceeding against any agent of the corporation. (i) Saving Clause. If this Bylaw or any portion hereof shall be invalidated on any ground by any court of competent jurisdiction, then the corporation shall nevertheless indemnify each director and executive officer to the full extent not prohibited by any applicable portion of this Bylaw that shall not have been invalidated, or by any other applicable law. (j) Certain Definitions. For the purposes of this Bylaw, the following definitions shall apply: (i) The term "proceeding" shall be broadly construed and shall include, without limitation, the investigation, preparation, prosecution, defense, settlement, arbitration and appeal of, and the giving of testimony in, any threatened, pending or completed action, suit or proceeding, whether civil, criminal, administrative or investigative. II-15 114 (ii) The term "expenses" shall be broadly construed and shall include, without limitation, court costs, attorneys' fees, witness fees, fines, amounts paid in settlement or judgment and any other costs and expenses of any nature or kind incurred in connection with any proceeding. (iii) The term the "corporation" shall include, in addition to the resulting corporation, any constituent corporation (including any constituent of a constituent) absorbed in a consolidation or merger which, if its separate existence had continued, would have had power and authority to indemnify its directors, officers, and employees or agents, so that any person who is or was a director, officer, employee or agent of such constituent corporation, or is or was serving at the request of such constituent corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise, shall stand in the same position under the provisions of this Bylaw with respect to the resulting or surviving corporation as he would have with respect to such constituent corporation if its separate existence had continued. (iv) References to a "director," "executive officer," "officer," "employee," or "agent" of the corporation shall include, without limitation, situations where such person is serving at the request of the corporation as, respectively, a director, executive officer, officer, employee, trustee or agent of another corporation, partnership, joint venture, trust or other enterprise. (v) References to "other enterprises" shall include employee benefit plans; references to "fines" shall include any excise taxes assessed on a person with respect to an employee benefit plan; and references to "serving at the request of the corporation" shall include any service as a director, officer, employee or agent of the corporation which imposes duties on, or involves services by, such director, officer, employee, or agent with respect to an employee benefit plan, its participants, or beneficiaries; and a person who acted in good faith and in a manner he reasonably believed to be in the interest of the participants and beneficiaries of an employee benefit plan shall be deemed to have acted in a manner "not opposed to the best interests of the corporation" as referred to in this Bylaw. ARTICLE XII NOTICES SECTION 44. Notices. (a) Notice to Stockholders. Whenever, under any provisions of these Bylaws, notice is required to be given to any stockholder, it shall be given in writing, timely and duly deposited in the United States mail, postage prepaid, and addressed to his last known post office address as shown by the stock record of the corporation or its transfer agent. (b) Notice to Directors. Any notice required to be given to any director may be given by the method stated in subsection (a), or by facsimile, telex or telegram, except that such notice other than one which is delivered personally shall be sent to such address as such director shall have filed in writing with the Secretary, or, in the absence of such filing, to the last known post office address of such director. (c) Affidavit of Mailing. An affidavit of mailing, executed by a duly authorized and competent employee of the corporation or its transfer agent appointed with respect to the class of stock affected, specifying the name and address or the names and addresses of the stockholder or stockholders, or director or directors, to whom any such notice or notices was or were given, and the time and method of giving the same, shall in the absence of fraud, be prima facie evidence of the facts therein contained. (d) Time Notices Deemed Given. All notices given by mail, as above provided, shall be deemed to have been given as at the time of mailing, and all notices given by facsimile, telex or telegram shall be deemed to have been given as of the sending time recorded at time of transmission. (e) Methods of Notice. It shall not be necessary that the same method of giving notice be employed in respect of all directors, but one permissible method may be employed in respect of any one or more, and any other permissible method or methods may be employed in respect of any other or others. II-16 115 (f) Failure to Receive Notice. The period or limitation of time within which any stockholder may exercise any option or right, or enjoy any privilege or benefit, or be required to act, or within which any director may exercise any power or right, or enjoy any privilege, pursuant to any notice sent him in the manner above provided, shall not be affected or extended in any manner by the failure of such stockholder or such director to receive such notice. (g) Notice to Person With Whom Communication is Unlawful. Whenever notice is required to be given, under any provision of law or of the Certificate of Incorporation or Bylaws of the corporation, to any person with whom communication is unlawful, the giving of such notice to such person shall not be required and there shall be no duty to apply to any governmental authority or agency for a license or permit to give such notice to such person. Any action or meeting which shall be taken or held without notice to any such person with whom communication is unlawful shall have the same force and effect as if such notice had been duly given. In the event that the action taken by the corporation is such as to require the filing of a certificate under any provision of the Delaware General Corporation Law, the certificate shall state, if such is the fact and if notice is required, that notice was given to all persons entitled to receive notice except such persons with whom communication is unlawful. (h) Notice to Person with Undeliverable Address. Whenever notice is required to be given, under any provision of law or the Certificate of Incorporation or Bylaws of the corporation, to any stockholder to whom (i) notice of two consecutive annual meetings, and all notices of meetings or of the taking of action by written consent without a meeting to such person during the period between such two consecutive annual meetings, or (ii) all, and at least two, payments (if sent by first class mail) of dividends or interest on securities during a twelve-month period, have been mailed addressed to such person at his address as shown on the records of the corporation and have been returned undeliverable, the giving of such notice to such person shall not be required. Any action or meeting which shall be taken or held without notice to such person shall have the same force and effect as if such notice had been duly given. If any such person shall deliver to the corporation a written notice setting forth his then current address, the requirement that notice be given to such person shall be reinstated. In the event that the action taken by the corporation is such as to require the filing of a certificate under any provision of the Delaware General Corporation Law, the certificate need not state that notice was not given to persons to whom notice was not required to be given pursuant to this paragraph. ARTICLE XIII AMENDMENTS SECTION 45. Amendments. Subject to paragraph (h) of Section 43 of these Bylaws, the Bylaws may be amended or repealed and new Bylaws adopted by (a) the affirmative vote of at least sixty-six and two-thirds percent (66 2/3%) of the voting power of all of the then-outstanding shares of the Voting Stock or (b) the Board of Directors. ARTICLE XIV LOANS TO OFFICERS SECTION 46. Loans to Officers. The corporation may lend money to, or guarantee any obligation of, or otherwise assist any officer or other employee of the corporation or of its subsidiaries, including any officer or employee who is a Director of the corporation or its subsidiaries, whenever, in the judgment of the Board of Directors, such loan, guarantee or assistance may reasonably be expected to benefit the corporation. The loan, guarantee or other assistance may be with or without interest and may be unsecured, or secured in such manner as the Board of Directors shall approve, including, without limitation, a pledge of shares of stock of the corporation. Nothing in these Bylaws shall be deemed to deny, limit or restrict the powers of guaranty or warranty of the corporation at common law or under any statute. II-17 116 ARTICLE XV MISCELLANEOUS SECTION 47. Annual Report. (a) Subject to the provisions of paragraph (b) of this Bylaw, the Board of Directors shall cause an annual report to be sent to each stockholder of the corporation not later than one hundred twenty (120) days after the close of the corporation's fiscal year. Such report shall include a balance sheet as of the end of such fiscal year and an income statement and statement of changes in financial position for such fiscal year, accompanied by any report thereon of independent accounts or, if there is no such report, the certificate of an authorized officer of the corporation that such statements were prepared without audit from the books and records of the corporation. When there are more than 100 stockholders of record of the corporation's shares, as determined by the General Corporation Law of Delaware, additional information as required by the 1934 Act shall also be contained in such report. Such report shall be sent to stockholders at least fifteen (15) days prior to the next annual meeting of stockholders after the end of the fiscal year to which it relates. (b) If and so long as there are fewer than 100 holders of record of the corporation's shares, the requirement of sending of an annual report to the stockholders of the corporation is hereby expressly waived. II-18 117 ANNEX III HI/FN, INC. 1996 EQUITY INCENTIVE PLAN ADOPTED NOVEMBER 21, 1996 (AS AMENDED AND RESTATED EFFECTIVE DECEMBER 7, 1998) 1. Purposes (a) The purpose of the Plan is to provide a means by which selected Employees and Directors of and Consultants to the Company, and its Affiliates, may be given an opportunity to benefit from increases in value of the stock of the Company through the granting of (i) Incentive Stock Options, (ii) Nonstatutory Stock Options, (iii) stock bonuses, (iv) rights to purchase restricted stock, and (v) stock appreciation rights, all as defined below. (b) The Company, by means of the Plan, seeks to retain the services of persons who are now Employees or Directors of or Consultants to the Company or its Affiliates, to secure and retain the services of new Employees, Directors and Consultants, and to provide incentives for such persons to exert maximum efforts for the success of the Company and its Affiliates. (c) The Company intends that the Stock Awards issued under the Plan shall, in the discretion of the Board or any Committee to which responsibility for administration of the Plan has been delegated pursuant to subsection 3(c), be either (i) Options granted pursuant to Section 6 hereof, including Incentive Stock Options and Nonstatutory Stock Options, (ii) stock bonuses or rights to purchase restricted stock granted pursuant to Section 7 hereof, or (iii) stock appreciation rights granted pursuant to Section 8 hereof. All Options shall be separately designated Incentive Stock Options or Nonstatutory Stock Options at the time of grant, and in such form as issued pursuant to Section 6, and a separate certificate or certificates will be issued for shares purchased on exercise of each type of Option. 2. Definitions (a) "Administrator" means the Board or any of its Committees as shall be administering the Plan, in accordance with Section 3 of the Plan. (b) "Affiliate" means any parent corporation or subsidiary corporation, whether now or hereafter existing, as those terms are defined in Sections 424(e) and (f) respectively, of the Code. (c) "Applicable Laws" means the requirements relating to the administration of stock plans under U.S. state corporate laws, U.S. federal and state securities laws, the Code, any stock exchange or quotation system on which the Common Stock is listed or quoted and the applicable laws of any foreign country or jurisdiction where Stock Awards are, or will be, granted under the Plan. (d) "Board" means the Board of Directors of the Company. (e) "Code" means the Internal Revenue Code of 1986, as amended. (f) "Committee" means a committee appointed by the Board in accordance with Section 3 of the Plan. (g) "Common Stock" means the common stock of the Company. (h) "Company" means hi/fn, inc., a Delaware corporation. (i) "Concurrent Stock Appreciation Right" or "Concurrent Right" means a right granted pursuant to subsection 9(c)(ii) of the Plan. (j) "Consultant" means any person, including an advisor, engaged by the Company or an Affiliate to render consulting services; provided, however that a Consultant shall not include a Director. III-1 118 (k) "Continuous Status as an Employee, Director or Consultant" means that the service of an individual to the Company, whether as an Employee, Director or Consultant, is not interrupted or terminated. (l) "Director" means a member of the Board. (m) "Disability" means total and permanent disability as defined in Section 22(e)(3) of the Code. (n) "Employee" means any person, including Officers and Directors, employed by the Company or any Affiliate of the Company. An individual's continuous status as an Employee shall not be deemed to be interrupted or terminated in the case of (i) any leave of absence approved by the Company or (ii) transfers between locations of the Company or between the Company and its Affiliates, or any successor. For purposes of Incentive Stock Options, no such leave may exceed ninety days, unless reemployment upon expiration of such leave is guaranteed by statute or contract. If reemployment upon expiration of a leave of absence approved by the Company is not so guaranteed, on the 181st day of such leave any Incentive Stock Option held by the Optionee shall cease to be treated as an Incentive Stock Option and shall be treated for tax purposes as a Nonstatutory Stock Option. Neither service as a Director nor payment of a director's fee by the Company shall be sufficient to constitute "employment" by the Company. (o) "Exchange Act" means the Securities Exchange Act of 1934, as amended. (p) "Fair Market Value" means, as of any date, the value of Common Stock determined as follows: (i) If the Common Stock is listed on any established stock exchange or a national market system, including without limitation the Nasdaq National Market or The Nasdaq SmallCap Market of The Nasdaq Stock Market, its Fair Market Value shall be the closing sales price for such stock (or the closing bid, if no sales were reported) as quoted on such exchange or system for the last market trading day prior to the time of determination, as reported in The Wall Street Journal or such other source as the Administrator deems reliable; (ii) If the Common Stock is regularly quoted by a recognized securities dealer but selling prices are not reported, the Fair Market Value of a share of Common Stock shall be the mean between the high bid and low asked prices for the Common Stock on the last market trading day prior to the day of determination, as reported in The Wall Street Journal or such other source as the Administrator deems reliable; or (iii) In the absence of an established market for the Common Stock, the Fair Market Value shall be determined in good faith by the Administrator. (q) "Incentive Stock Option" means an Option intended to qualify as an incentive stock option within the meaning of Section 422 of the Code and the regulations promulgated thereunder. (r) "Independent Stock Appreciation Right" or "Independent Right" means a right granted pursuant to subsection 9(c)(iii) of the Plan. (s) "Inside Director" means a Director who is an Employee. (t) "Nonstatutory Stock Option" means an Option not intended to qualify as an Incentive Stock Option. (u) "Officer" means a person who is an officer of the Company within the meaning of Section 16 of the Exchange Act and the rules and regulations promulgated thereunder. (v) "Option" means a stock option granted pursuant to the Plan. (w) "Option Agreement" means a written agreement between the Company and an Optionee evidencing the terms and conditions of an individual Option grant. Each Option Agreement shall be subject to the terms and conditions of the Plan. (x) "Optionee" means a person who holds an outstanding Option. III-2 119 (y) "Option Exchange Program" means a program whereby outstanding Options are surrendered in exchange for Options with a lower exercise price. (z) "Outside Director" means a Director who is not an Employee. (aa) "Plan" means this hi/fn, inc. 1996 Equity Incentive Plan. (bb) "Rule 16b-3" means Rule 16b-3 of the Exchange Act or any successor to Rule 16b-3, as in effect when discretion is being exercised with respect to the Plan. (cc) "Stock Appreciation Right" means any of the various types of rights which may be granted under Section 9 of the Plan. (dd) "Stock Award" means any right granted under the Plan, including any Option, any stock bonus, any right to purchase restricted stock, and any Stock Appreciation Right. (ee) "Stock Award Agreement" means a written agreement between the Company and a holder of a Stock Award evidencing the terms and conditions of an individual Stock Award grant. Each Stock Award Agreement shall be subject to the terms and conditions of the Plan. (ff) "Tandem Stock Appreciation Right" or "Tandem Right" means a right granted pursuant to subsection 9(c)(i) of the Plan. 3. Administration (a) Procedure. (i) Multiple Administrative Bodies. The Plan may be administered by different Committees with respect to different groups of Employees, Directors or Consultants. (ii) Section 162(m). To the extent that the Administrator determines it to be desirable to qualify transactions hereunder as "performance-based compensation" within the meaning of Section 162(m) of the Code, the transactions contemplated hereunder shall be administered by a Committee of two or more "outside directors" within the meaning of Section 162(m) of the Code. (iii) Rule 16b-3. Except as provided in Section 8, to the extent that the Administrator determines it to be desirable to qualify transactions hereunder as exempt under Rule 16b-3, the transactions contemplated hereunder shall be structured to satisfy the requirements for exemption under Rule 16b-3. (iv) Other Administration. Other than as provided above, the Plan shall be administered by (A) the Board or (B) a Committee, which committee shall be constituted to satisfy Applicable Laws. (b) Powers of the Administrator. Subject to the provisions of the Plan, and in the case of a Committee, subject to the specific duties delegated by the Board to such Committee, the Administrator shall have the authority, in its discretion: (i) to determine the Fair Market Value; (ii) to select the Employees, Directors and Consultants to whom Stock Awards may be granted hereunder; (iii) to determine the number of shares of Common Stock to be covered by each Stock Award granted hereunder; (iv) to approve forms of agreement for use under the Plan; (v) to determine the terms and conditions, not inconsistent with the terms of the Plan, of any Stock Award granted hereunder. Such terms and conditions include, but are not limited to, the exercise price, the time or times when Stock Awards may be exercised (which may be based on performance criteria), any vesting acceleration or waiver of forfeiture restrictions, and any restriction III-3 120 or limitation regarding any Stock Award or the shares of Common Stock relating thereto, based in each case on such factors as the Administrator, in its sole discretion, shall determine; (vi) to reduce the exercise price of any Stock Award to the then current Fair Market Value if the Fair Market Value of the Common Stock covered by such Stock Award shall have declined since the date the Stock Award was granted; (vii) to institute an Option Exchange Program; (viii) to construe and interpret the terms of the Plan and awards granted pursuant to the Plan; (ix) to prescribe, amend and rescind rules and regulations relating to the Plan, including rules and regulations relating to sub-plans established for the purpose of qualifying for preferred tax treatment under foreign tax laws; (x) to modify or amend each Stock Award (subject to Section 15(c) of the Plan); (xi) to allow holders of Stock Awards to satisfy withholding tax obligations by electing to have the Company withhold from the shares to be issued upon exercise of a Stock Award that number of shares having a Fair Market Value equal to the amount required to be withheld. The Fair Market Value of the shares to be withheld shall be determined on the date that the amount of tax to be withheld is to be determined. All elections by a holder of a Stock Award to have shares withheld for this purpose shall be made in such form and under such conditions as the Administrator may deem necessary or advisable; (xii) to authorize any person to execute on behalf of the Company any instrument required to effect the grant of Stock Award previously granted by the Administrator; (xiii) to make all other determinations deemed necessary or advisable for administering the Plan. (c) Effect of Administrator's Decision. The Administrator's decisions, determinations and interpretations shall be final and binding on all holders of Stock Awards. 4. Shares Subject to the Plan (a) Subject to the provisions of the Plan relating to adjustments upon changes in stock, the stock that may be issued pursuant to all Stock Awards under this Plan shall not exceed in the aggregate three million forty-nine thousand nine hundred (3,049,900) shares of the Company's Common Stock. If any Stock Award shall for any reason expire or otherwise terminate, in whole or in part, without having been exercised in full, or is surrendered pursuant to an Option Exchange Program, the stock not acquired under such Stock Award shall revert to and again become available for issuance under the Plan. Shares subject to Stock Appreciation Rights exercised in accordance with Section 9 of the Plan shall not be available for subsequent issuance under the Plan. (b) The stock subject to the Plan may be unissued shares or reacquired shares, bought on the market or otherwise. 5. Eligibility (a) Incentive Stock Options and Stock Appreciation Rights appurtenant thereto may be granted only to Employees. Stock Awards other than Incentive Stock Options and Stock Appreciation Rights appurtenant thereto may be granted only to Employees, Directors or Consultants. 6. Discretionary Option Provisions Each Option shall be in such form and shall contain such terms and conditions as the Board shall deem appropriate. The provisions of separate Options need not be identical, but each Option shall include (through III-4 121 incorporation of provisions hereof by reference in the Option or otherwise) the substance of each of the following provisions: (a) Option Designation. Each Option shall be designated in the Option Agreement as either an Incentive Stock Option or a Nonstatutory Stock Option. However, notwithstanding such designation, to the extent that the aggregate Fair Market Value of the shares with respect to which Incentive Stock Options are exercisable for the first time by the Optionee during any calendar year (under all plans of the Company and any Affiliate) exceeds $100,000, such Options shall be treated as Nonstatutory Stock Options. For purposes of this Section 6(a), Incentive Stock Options shall be taken into account in the order in which they were granted. The Fair Market Value of the shares shall be determined as of the time the Option with respect to such shares is granted. (b) Share Limitations. The following limitations shall apply to grants of Options: (i) No Employee, Director or Consultant shall be granted, in any fiscal year of the Company, Options to purchase more than 1,000,000 shares. (A) In connection with his or her initial service, an Employee, Director or Consultant may be granted Options to purchase up to an additional 1,000,000 shares which shall not count against the limit set forth in subsection (i) above. (B) The foregoing limitations shall be adjusted proportionately in connection with any change in the Company's capitalization as described in Section 14. (C) If an Option is cancelled in the same fiscal year of the Company in which it was granted (other than in connection with a transaction described in Section 14), the cancelled Option will be counted against the limits set forth in subsections (A) and (B) above. For this purpose, if the exercise price of an Option is reduced, the transaction will be treated as a cancellation of the Option and the grant of a new Option. (c) Term. The term of each Option shall be stated in the Option Agreement. In the case of an Incentive Stock Option, the term shall be ten (10) years from the date of grant or such shorter term as may be provided in the Option Agreement. Moreover, in the case of an Incentive Stock Option granted to an Optionee who, at the time the Incentive Stock Option is granted, owns stock representing more than ten percent (10%) of the total combined voting power of all classes of stock of the Company or any Affiliate, the term of the Incentive Stock Option shall be five (5) years from the date of grant or such shorter term as may be provided in the Option Agreement. (d) Price. The per share exercise price for the stock to be issued pursuant to exercise of an Option shall be determined by the Administrator, subject to the following: (i) In the case of an Incentive Stock Option (A) granted to an Employee who, at the time the Incentive Stock Option is granted, owns stock representing more than ten percent (10%) of the voting power of all classes of stock of the Company or any Affiliate, the per share exercise price shall be no less than 110% of the Fair Market Value per share on the date of grant. (B) granted to any Employee other than an Employee described in paragraph (A) immediately above, the per share exercise price shall be no less than 100% of the Fair Market Value per share on the date of grant. (ii) In the case of a Nonstatutory Stock Option, the per share exercise price shall be determined by the Administrator. In the case of a Nonstatutory Stock Option intended to qualify as "performance-based compensation" within the meaning of Section 162(m) of the Code, the per share exercise price shall be no less than 100% of the Fair Market Value per share on the date of grant. III-5 122 (iii) Notwithstanding the foregoing, Options may be granted with a per share exercise price of less than 100% of the Fair Market Value per share on the date of grant pursuant to a merger or other corporate transaction. (e) Consideration. The Administrator shall determine the acceptable form of consideration for exercising an Option, including the method of payment. In the case of an Incentive Stock Option, the Administrator shall determine the acceptable form of consideration at the time of grant. Such consideration may consist entirely of: (i) cash; (ii) check; (iii) promissory note; (iv) other shares which (A) in the case of shares acquired upon exercise of an option, have been owned by the Optionee for more than six months on the date of surrender, and (B) have a Fair Market Value on the date of surrender equal to the aggregate exercise price of the shares as to which said Option shall be exercised; (v) consideration received by the Company under a cashless exercise program implemented by the Company in connection with the Plan; (vi) a reduction in the amount of any Company liability to the Optionee, including any liability attributable to the Optionee's participation in any Company-sponsored deferred compensation program or arrangement; (vii) any combination of the foregoing methods of payment; or (viii) such other consideration and method of payment for the issuance of shares to the extent permitted by Applicable Laws. (f) Transferability. Unless otherwise provided by the Administrator, an Option shall not be transferable except by will or the laws of descent and distribution or pursuant to a qualified domestic relations order, and shall be exercisable during the lifetime of the person to whom the Option is granted only by such person. Notwithstanding the foregoing, the person to whom the Option is granted may, by delivering written notice to the Company, in a form satisfactory to the Company, designate a third party who, in the event of the death of the Optionee, shall thereafter be entitled to exercise the Option. If the Administrator makes an Option transferable, such Option shall contain such additional terms and conditions as the Administrator deems appropriate. (g) Vesting. The total number of shares of stock subject to an Option may, but need not, be allotted in periodic installments (which may, but need not, be equal). The Option Agreement may provide that from time to time during each of such installment periods, the Option may become exercisable ("vest") with respect to some or all of the shares allotted to that period, and may be exercised with respect to some or all of the shares allotted to such period and/or any prior period as to which the Option became vested but was not fully exercised. (h) Termination of Employment or Relationship as a Director or Consultant. In the event an Optionee's Continuous Status as an Employee, Director or Consultant terminates (other than upon the Optionee's death or Disability), the Optionee may exercise his or her Option (to the extent that the Optionee was entitled to exercise it as of the date of termination) but only within such period of time ending on the earlier of (i) the date three (3) months after the termination of the Optionee's Continuous Status as an Employee, Director or Consultant (or such longer or shorter period specified in the Option Agreement), or (ii) the expiration of the term of the Option as set forth in the Option Agreement. If, after termination, the Optionee does not exercise his or her Option within the time specified in the Option Agreement, the Option shall terminate, and the shares covered by such Option shall revert to and again become available for issuance under the Plan. III-6 123 An Optionee's Option Agreement may also provide that if the exercise of the Option following the termination of the Optionee's Continuous Status as an Employee, Director, or Consultant (other than upon the Optionee's death or Disability) would result in liability under Section 16(b) of the Exchange Act, then the Option shall terminate on the earlier of (i) the expiration of the term of the Option set forth in the Option Agreement, or (ii) the tenth (10th) day after the last date on which such exercise would result in such liability under Section 16(b) of the Exchange Act. Finally, an Optionee's Option Agreement may also provide that if the exercise of the Option following the termination of the Optionee's Continuous Status as an Employee, Director or Consultant (other than upon the Optionee's death or Disability) would be prohibited at any time solely because the issuance of shares would violate the registration requirements under the Act, then the Option shall terminate on the earlier of (i) the expiration of the term of the Option set forth in the first paragraph of this subsection 6(f), or (ii) the expiration of a period of three (3) months after the termination of the Optionee's Continuous Status as an Employee, Director or Consultant during which the exercise of the Option would not be in violation of such registration requirements. (i) Disability of Optionee. In the event an Optionee's Continuous Status as an Employee, Director or Consultant terminates as a result of the Optionee's Disability, the Optionee may exercise his or her Option (to the extent that the Optionee was entitled to exercise it as of the date of termination), but only within such period of time ending on the earlier of (i) the date twelve (12) months following such termination (or such longer or shorter period specified in the Option Agreement), or (ii) the expiration of the term of the Option as set forth in the Option Agreement. If, at the date of termination, the Optionee is not entitled to exercise his or her entire Option, the shares covered by the unexercisable portion of the Option shall revert to and again become available for issuance under the Plan. If, after termination, the Optionee does not exercise his or her Option within the time specified herein, the Option shall terminate, and the shares covered by such Option shall revert to and again become available for issuance under the Plan. (j) Death of Optionee. In the event of the death of an Optionee during, or within a period specified in the Option Agreement after the termination of, the Optionee's Continuous Status as an Employee, Director or Consultant, the Option may be exercised (to the extent the Optionee was entitled to exercise the Option as of the date of death) by the Optionee's estate, by a person who acquired the right to exercise the Option by bequest or inheritance or by a person designated to exercise the Option upon the Optionee's death pursuant to subsection 6(g), but only within the period ending on the earlier of (i) the date eighteen (18) months following the date of death (or such longer or shorter period specified in the Option Agreement), or (ii) the expiration of the term of such Option as set forth in the Option Agreement. If, at the time of death, the Optionee was not entitled to exercise his or her entire Option, the shares covered by the unexercisable portion of the Option shall revert to and again become available for issuance under the Plan. If, after death, the Option is not exercised within the time specified herein, the Option shall terminate, and the shares covered by such Option shall revert to and again become available for issuance under the Plan. (k) Early Exercise. The Option may, but need not, include a provision whereby the Optionee may elect at any time while an Employee, Director or Consultant to exercise the Option as to any part or all of the shares subject to the Option prior to the full vesting of the Option. Any unvested shares so purchased shall be subject to a repurchase right in favor of the Company, with the repurchase price to be equal to the original purchase price of the stock, or to any other restriction the Administrator determines to be appropriate. (l) Re-Load Options. Without in any way limiting the authority of the Administrator to make or not to make grants of Options hereunder, the Administrator shall have the authority (but not an obligation) to include as part of any Option Agreement a provision entitling the Optionee to a further Option (a "Re-Load Option") in the event the Optionee exercises the Option evidenced by the Option agreement, in whole or in part, by surrendering other shares of Common Stock in accordance with this Plan and the terms and conditions of the Option Agreement. Any such Re-Load Option (i) shall be for a number of shares equal to the number of shares surrendered as part or all of the exercise price of such Option; III-7 124 (ii) shall have an expiration date which is the same as the expiration date of the Option the exercise of which gave rise to such Re-Load Option; and (iii) shall have an exercise price on the date of exercise of the Original Option which complies with Section 6(d). Any such Re-Load Option may be an Incentive Stock Option or a Nonstatutory Stock Option, as the Administrator may designate at the time of the grant of the original Option; provided, however, that the designation of any Re-Load Option as an Incentive Stock Option shall be subject to the one hundred thousand dollar ($100,000) annual limitation on exercisability of Incentive Stock Options described in Section 6(a) of the Plan and in Section 422(d) of the Code. There shall be no Re-Load Options on a Re-Load Option. Any such Re-Load Option shall be subject to the availability of sufficient shares under subsection 4(a) and shall be subject to such other terms and conditions as the Administrator may determine which are not inconsistent with the express provisions of the Plan regarding the terms of Options. 7. Formula Option Provisions. All grants of Options to Outside Directors pursuant to this Section shall be automatic and nondiscretionary and shall be made strictly in accordance with the following provisions: (a) All Options granted pursuant to this Section shall be Nonstatutory Stock Options and, except as otherwise provided herein, shall be subject to the other terms and conditions of the Plan. (b) No person shall have any discretion to select which Outside Directors shall be granted Options under this Section or to determine the number of shares to be covered by such Options. (c) Each person who first becomes an Outside Director following the effective date of the distribution of the Company's Common Stock held by Stac, Inc., a Delaware corporation and parent company of the Company, pursuant to a registration statement on Form 10 filed with the Securities and Exchange Commission shall be automatically granted an Option to purchase 10,000 shares (the "First Option") or the date on which such person first becomes an Outside Director, whether through election by the stockholders of the Company or appointment by the Board to fill a vacancy; provided, however, that an Inside Director who ceases to be an Inside Director but who remains a Director shall not receive a First Option. (d) Each Outside Director shall be automatically granted an Option to purchase 2,000 shares (a "Subsequent Option") on the date of the annual meeting of the stockholders of the Company (beginning in 1999), if as of such date, he or she shall have served on the Board for at least the preceding six (6) months. (e) Notwithstanding the provisions of subsections (c) and (d) hereof, any exercise of an Option granted before the Company has obtained stockholder approval of the Plan in accordance with Section 16 hereof shall be conditioned upon obtaining such stockholder approval of the Plan in accordance with Section 16 hereof. (f) The terms of each Option granted pursuant to this Section shall be as follows: (i) the term of the Option shall be ten (10) years. (ii) the exercise price per share shall be 100% of the Fair Market Value per share on the date of grant of the Option. (iii) subject to Section 14 hereof, the First Option shall vest and become exercisable as to 20% of the shares subject to the Option on the first anniversary of its date of grant, and as to 1/60th of the shares subject to the Option each full month thereafter, provided that the Optionee continues to serve as a Director on such dates. (iv) subject to Section 14 hereof, the Subsequent Option shall vest and become exercisable as to 100% of the shares subject to the Option the anniversary of its date of grant, provided that the Optionee continues to serve as a Director on such date. III-8 125 8. Terms of Stock Bonuses and Purchases of Restricted Stock Each stock bonus or restricted stock purchase agreement shall be in such form and shall contain such terms and conditions as the Administrator shall deem appropriate. The terms and conditions of stock bonus or restricted stock purchase agreements may change from time to time, and the terms and conditions of separate agreements need not be identical, but each stock bonus or restricted stock purchase agreement shall include (through incorporation of provisions hereof by reference in the agreement or otherwise) the substance of each of the following provisions as appropriate: (a) Purchase Price. The purchase price under each restricted stock purchase agreement shall be such amount as the Administrator shall determine and designate in such agreement. Notwithstanding the foregoing, the Administrator may determine that eligible participants in the Plan may be awarded stock pursuant to a stock bonus agreement in consideration for past services actually rendered to the Company or for its benefit. (b) Transferability. Unless otherwise provided by the Administrator, no rights under a stock bonus or restricted stock purchase agreement shall be transferable except by will or the laws of descent and distribution or pursuant to a qualified domestic relations order, provided, however that any stock awarded under such agreement remains subject to the terms of the applicable agreement. If the Administrator makes a stock bonus or right to purchase stock transferable, such stock bonus or right to purchase stock shall contain such additional terms and conditions as the Administrator deems appropriate. (c) Consideration. The purchase price of stock acquired pursuant to a stock purchase agreement shall be paid either: (i) in cash at the time of purchase; (ii) at the discretion of the Administrator, according to a deferred payment or other arrangement with the person to whom the stock is sold; or (iii) in any other form of legal consideration that may be acceptable to the Administrator in its discretion. Notwithstanding the foregoing, the Administrator to which administration of the Plan has been delegated may award stock pursuant to a stock bonus agreement in consideration for past services actually rendered to the Company or for its benefit. (d) Vesting. Shares of stock sold or awarded under the Plan may, but need not, be subject to a repurchase option in favor of the Company in accordance with a vesting schedule to be determined by the Administrator. (e) Termination of Employment or Relationship as a Director or Consultant. In the event an individual's Continuous Status as an Employee, Director or Consultant terminates, the Company may repurchase or otherwise reacquire any or all of the shares of stock held by that person which have not vested as of the date of termination under the terms of the stock bonus or restricted stock purchase agreement between the Company and such person. (f) Share Limitations. The following limitations shall apply to grants of stock bonuses and/or stock purchase right: (i) No Employee, Director or Consultant shall be granted, in any fiscal year of the Company, stock bonuses and/or stock purchase right to purchase more than 1,000,000 shares. (A) In connection with his or her initial service, an Employee, Director or Consultant may be granted a stock bonus and/or stock purchase right to purchase up to an additional 1,000,000 shares which shall not count against the limit set forth in subsection (i) above. (B) The foregoing limitations shall be adjusted proportionately in connection with any change in the Company's capitalization as described in Section 14. (C) If a stock bonus and/or stock purchase right is cancelled in the same fiscal year of the Company in which it was granted (other than in connection with a transaction described in Section 14), the cancelled stock bonus and/or restricted stock will be counted against the limits set forth in subsections (A) and (B) above. For this purpose, if the exercise price of a stock III-9 126 purchase right is reduced, the transaction will be treated as a cancellation of the stock purchase right and the grant of a new stock purchase right. 9. Stock Appreciation Rights (a) The Administrator shall have full power and authority, exercisable in its sole discretion, to grant Stock Appreciation Rights under the Plan to Employees or Directors of or Consultants to, the Company or its Affiliates. To exercise any outstanding Stock Appreciation Right, the holder must provide written notice of exercise to the Company in compliance with the provisions of the Stock Award Agreement evidencing such right. If a Stock Appreciation Right is granted to an individual who is at the time subject to Section 16(b) of the Exchange Act (a "Section 16(b) Insider"), the Stock Award Agreement of grant shall incorporate all the terms and conditions at the time necessary to assure that the subsequent exercise of such right shall qualify for the safe-harbor exemption from short-swing profit liability provided by Rule 16b-3 promulgated under the Exchange Act (or any successor rule or regulation). No limitation shall exist on the aggregate amount of cash payments the Company may make under the Plan in connection with the exercise of a Stock Appreciation Rights. (b) Unless otherwise provided by the Administrator, no Stock Appreciation Right shall be transferable except by will or the laws of descent and distribution or pursuant to a qualified domestic relations order, provided, however, the cash or stock awarded under such agreement remains subject to the terms of the Stock Appreciation Right. If the Administrator makes a Stock Appreciation Right transferable, such Stock Appreciation Right shall contain such additional terms and conditions as the Administrator deems appropriate. (c) Three types of Stock Appreciation Rights shall be authorized for issuance under the Plan: (i) Tandem Stock Appreciation Rights. Tandem Stock Appreciation Rights will be granted appurtenant to an Option, and shall, except as specifically set forth in this Section 8, be subject to the same terms and conditions applicable to the particular Option grant to which it pertains. Tandem Stock Appreciation Rights will require the holder to elect between the exercise of the underlying Option for shares of stock and the surrender, in whole or in part, of such Option for an appreciation distribution. The appreciation distribution payable on the exercised Tandem Right shall be in cash (or, if so provided, in an equivalent number of shares of stock based on Fair Market Value on the date of the Option surrender) in an amount up to the excess of (A) the Fair Market Value (on the date of the Option surrender) of the number of shares of stock covered by that portion of the surrendered Option in which the Optionee is vested over (B) the aggregate exercise price payable for such vested shares. (ii) Concurrent Stock Appreciation Rights. Concurrent Rights will be granted appurtenant to an Option and may apply to all or any portion of the shares of stock subject to the underlying Option and shall, except as specifically set forth in this Section 8, be subject to the same terms and conditions applicable to the particular Option grant to which it pertains. A Concurrent Right shall be exercised automatically at the same time the underlying Option is exercised with respect to the particular shares of stock to which the Concurrent Right pertains. The appreciation distribution payable on an exercised Concurrent Right shall be in cash (or, if so provided, in an equivalent number of shares of stock based on Fair Market Value on the date of the exercise of the Concurrent Right) in an amount equal to such portion as shall be determined by the Administrator at the time of the grant of the excess of (A) the aggregate Fair Market Value (on the date of the exercise of the Concurrent Right) of the vested shares of stock purchased under the underlying Option which have Concurrent Rights appurtenant to them over (B) the aggregate exercise price paid for such shares. (iii) Independent Stock Appreciation Rights. Independent Rights will be granted independently of any Option and shall, except as specifically set forth in this Section 8, be subject to the same terms and conditions applicable to Nonstatutory Stock Options as set forth in Section 6. They shall be denominated in share equivalents. The appreciation distribution payable on the exercised Independent Right shall be not greater than an amount equal to the excess of (A) the aggregate Fair III-10 127 Market Value (on the date of the exercise of the Independent Right) of a number of shares of Company stock equal to the number of share equivalents in which the holder is vested under such Independent Right, and with respect to which the holder is exercising the Independent Right on such date, over (B) the aggregate Fair Market Value (on the date of the grant of the Independent Right) of such number of shares of Company stock. The appreciation distribution payable on the exercised Independent Right shall be in cash or, if so provided, in an equivalent number of shares of stock based on Fair Market Value on the date of the exercise of the Independent Right. (d) Share Limitations. The following limitations shall apply to grants of Stock Appreciation Rights: (i) No Employee, Director or Consultant shall be granted, in any fiscal year of the Company, Stock Appreciation Rights to purchase more than 1,000,000 shares. (A) In connection with his or her initial service, an Employee, Director or Consultant may be granted Stock Appreciation Rights to purchase up to an additional 1,000,000 shares which shall not count against the limit set forth in subsection (i) above. (B) The foregoing limitations shall be adjusted proportionately in connection with any change in the Company's capitalization as described in Section 14. (C) If a Stock Appreciation Right is cancelled in the same fiscal year of the Company in which it was granted (other than in connection with a transaction described in Section 14), the cancelled Stock Appreciation Right will be counted against the limits set forth in subsections (A) and (B) above. For this purpose, if the exercise price of a Stock Appreciation Right is reduced, the transaction will be treated as a cancellation of the Stock Appreciation Right and the grant of a new Stock Appreciation Right. 10. Cancellation and Re-Grant of Options The Administrator shall have the authority to effect, at any time and from time to time, (i) the repricing of any outstanding Options and/or any Stock Appreciation Rights under the Plan and/or (ii) with the consent of the affected holders of Options and/or Stock Appreciation Rights, the cancellation of any outstanding Options and/or any Stock Appreciation Rights under the Plan and the grant in substitution therefor of new Options and/or Stock Appreciation Rights under the Plan covering the same or different numbers of shares of stock. 11. Covenants of the Company (a) During the terms of the Stock Awards, the Company shall keep available at all times the number of shares of stock required to satisfy such Stock Awards. (b) The Company shall seek to obtain from each regulatory commission or agency having jurisdiction over the Plan such authority as may be required to issue and sell shares of stock upon exercise of the Stock Award; provided, however, that this undertaking shall not require the Company to register under the Securities Act of 1933, as amended (the "Securities Act") either the Plan, any Stock Award or any stock issued or issuable pursuant to any such Stock Award. If, after reasonable efforts, the Company is unable to obtain from any such regulatory commission or agency the authority which counsel for the Company deems necessary for the lawful issuance and sale of stock under the Plan, the Company shall be relieved from any liability for failure to, issue and sell stock upon exercise of such Stock Awards unless and until such authority is obtained. 12. Use of Proceeds from Stock (a) Proceeds from the sale of stock pursuant to Stock Awards shall constitute general funds of the Company. III-11 128 13. Miscellaneous (a) Neither an Employee, Director or Consultant nor any person to whom a Stock Award is transferred under subsection 6(f), 8(b), or 9(b) shall be deemed to be the holder of, or to have any of the rights of a holder with respect to, any shares subject to such Stock Award unless and until such person has satisfied all requirements for exercise of the Stock Award pursuant to its terms. (b) Throughout the term of any Stock Award, the Company shall deliver to the holder of such Stock Award, not later than one hundred twenty (120) days after the close of each of the Company's fiscal years during the term of such Stock Award, a balance sheet and an income statement. This Section shall not apply when issuance is limited to key employees whose duties in connection with the Company assure them access to equivalent information. (c) Nothing in the Plan or any instrument executed or Stock Award granted pursuant thereto shall confer upon any Employee, Director, Consultant or other holder of Stock Awards any right to continue in the employ of the Company or any Affiliate (or to continue acting as a Director or Consultant) or shall affect the right of the Company or any Affiliate to terminate the employment of any Employee with or without cause, to remove any Director as provided in the Company's Bylaws and the provisions of the General Corporation Law of the State of Delaware or to terminate the relationship of any Consultant in accordance with the terms of that Consultant's agreement with the Company or Affiliate to which such Consultant is providing services. (d) The Company may require any person to whom a Stock Award is granted, or any person to whom a Stock Award is transferred pursuant to subsection 6(g), 7(b) or 8(b), as a condition of exercising or acquiring stock under any Stock Award, to give written assurances satisfactory to the Company, if any, that are necessary to ensure compliance with federal securities laws. These requirements, and any assurances given pursuant to such requirements, shall be inoperative if (i) the issuance of the shares upon the exercise or acquisition of stock under the Stock Award has been registered under a then currently effective registration statement under the Securities Act, or (ii) as to any particular requirement, a determination is made by counsel for the Company that such requirement need not be met in the circumstances under the then applicable securities laws. (e) To the extent provided by the terms of a Stock Award Agreement, the person to whom a Stock Award is granted may satisfy any federal, state or local tax withholding obligation relating to the exercise or acquisition of stock under a Stock Award by any of the following means or by a combination of such means: (i) tendering a cash payment; (ii) authorizing the Company to withhold shares from the shares of the Common Stock otherwise issuable to the participant as a result of the exercise or acquisition of stock under the Stock Award; or (iii) delivering to the Company owned and unencumbered shares of the Common Stock. 14. Adjustments upon changes in stock (a) If any change is made in the stock subject to the Plan, or subject to any Stock Award, without the receipt of consideration by the Company (through merger, consolidation, reorganization, recapitalization, reincorporation, stock dividend, dividend in property other than cash, stock split, liquidating dividend, combination of shares, exchange of shares, change in corporate structure or other transaction not involving the receipt of consideration by the Company), the Plan will be appropriately adjusted in the class(es) and maximum number of shares subject to the Plan pursuant to subsection 4(a), and the outstanding Stock Awards will be appropriately adjusted in the class(es) and number of shares and price per share of stock subject to such outstanding Stock Awards. (The conversion of any convertible securities of the Company shall not be treated as a "transaction not involving the receipt of consideration by the Company".) (b) In the event of: (i) a merger or consolidation in which the Company is not the surviving corporation or (ii) a reverse merger in which the Company is the surviving corporation but the shares of the Company's Common Stock outstanding immediately preceding the merger are converted by virtue of the merger into other property, whether in the form of securities, cash or otherwise, then to the extent not III-12 129 prohibited by applicable law: (A) any surviving corporation or an Affiliate of such surviving corporation shall assume any Stock Awards outstanding under the Plan or shall substitute similar Stock Awards for those outstanding under the Plan, or (B) such Stock Awards shall continue in full force and effect. In the event any surviving corporation and its Affiliates refuse to assume such Stock Awards, or to substitute similar Stock Awards for those outstanding under the Plan, then such Stock Awards shall terminate if not exercised prior to such event. (c) In the event of a dissolution or liquidation of the Company, any Stock Awards outstanding under the Plan shall terminate if not exercised prior to such event. 15. Amendment of the plan and stock awards (a) Amendment and Termination. The Board may at any time amend, alter, suspend or terminate the Plan. Unless sooner terminated, the Plan shall terminate on November 20, 2006, which shall be within ten (10) years from the date the Plan is adopted by the Board or approved by the stockholders of the Company, whichever is earlier. No Stock Awards may be granted under the Plan while the Plan is suspended or after it is terminated. (b) Stockholder Approval. The Company shall obtain stockholder approval of any Plan amendment to the extent necessary and desirable to comply with Applicable Laws. (c) Effect of Amendment or Termination. No amendment, alteration, suspension or termination of the Plan shall impair the rights of any Optionee, unless mutually agreed otherwise between the Optionee and the Administrator, which agreement must be in writing and signed by the Optionee and the Company. Termination of the Plan shall not affect the Administrator's ability to exercise the powers granted to it hereunder with respect to Options granted under the Plan prior to the date of such termination: 16. Effective Date of Plan The Plan shall become effective as determined by the Board, but no Stock Awards granted under the Plan shall be exercised unless and until the Plan has been approved by the stockholders of the Company, which approval shall be within twelve (12) months before or after the date the Plan is adopted by the Board, and, if required, an appropriate permit has been issued by the Commissioner of Corporations of the State of California. III-13 130 ANNEX IV July 17, 1998 Board of Directors Stac, Inc. 12636 High Bluff Drive San Diego, CA 92130 Members of the Board of Directors: We have acted as financial advisor to Stac, Inc., a Delaware corporation ("Stac"), in connection with the proposed distribution (the "Distribution") to the holders of Stac common stock, par value $.001 per share (the "Stac Common Stock"), of all of the outstanding shares of common stock, par value $.001 per share ("Company Common Stock"), of hi/fn, inc., a Delaware corporation ("Hi/fn" or the "Company"), owned by Stac, pursuant to the terms of a Distribution Agreement to be entered into between Stac and Hi/fn (the "Distribution Agreement"). We are advised that Hi/fn was organized in August 1996 to own and operate Stac's semiconductor business, which previously was operated as a division of Stac. Stac transferred the semiconductor business (along with the associated technology, assets and liabilities) to Hi/fn on November 21, 1996. We have been advised that the purposes of the Distribution are as set forth in the Information Statement included in the Form 10 filed with the Securities and Exchange Commission (the "Information Statement") and to be sent to holders of Stac Common stock. The Distribution is described more fully in the Information Statement. You have requested our opinion as to whether the Distribution is fair, from a financial point of view, to the holders of Stac Common Stock. In connection with our review of the Distribution, and in arriving at our opinion, we have, among other things: (i) reviewed the publicly available consolidated financial statements of Stac for recent years and interim periods to date and certain other relevant financial and operating data of Stac available from public sources or provided to us by Stac; (ii) reviewed the consolidated pro forma financial statements of Hi/fn and Stac provided to us by Stac; (iii) reviewed certain internal financial and operating information, including certain projections, relating to Stac and Hi/fn, provided to us by Stac; (iv) discussed the business, financial condition and prospects of Stac and Hi/fn with certain officers of Stac and certain members of management of the business to be operated by Hi/fn; (v) reviewed the terms of the Distribution; (vi) reviewed certain publicly available transactions we deemed comparable to the Distribution; (vii) reviewed certain public information of certain companies we deemed appropriate in analyzing Stac and Hi/fn; (viii) reviewed the historical market prices and trading activity for the common shares of Stac; (ix) reviewed the historical market prices and trading activity for equity securities of publicly-traded companies engaged in businesses that we believed to be generally relevant to an analysis of those of Stac and Hi/fn; (x) reviewed Stac's financial and strategic objectives as described to us by the management of Stac; (xi) reviewed the Information Statement; and (xii) performed such other analyses and examinations and considered such other information, financial studies, analyses and investigations and financial, economic and market data as we deemed relevant. IV-1 131 We have not assumed responsibility for independent verification of any information, whether publicly available or furnished to us, concerning Stac or Hi/fn, including, without limitation, any financial information, forecasts or projections, considered in connection with the rendering of our opinion. Accordingly, for purposes of our opinion, we have assumed and relied upon the accuracy and completeness of all such information and we have not conducted a physical inspection of any of the properties or assets, and have not prepared or obtained any independent evaluation or appraisal of any of the assets or liabilities, of Stac or Hi/fn. With respect to the financial forecasts and projections made available to us and used in our analysis, we have assumed that they have been reasonably prepared on bases reflecting the best currently available estimates and judgments of the management of Stac as to the matters covered thereby and in rendering our opinion we express no view as to the reasonableness of such forecasts and projections or the assumptions on which they are based. Our opinion is necessarily based upon economic market and other conditions as in effect on, and the information made available to us as of, the date hereof. In connection with our opinion, we have assumed that the Distribution will be consummated on the terms and subject to the conditions described in the Information Statement. In addition, we have, with your consent, assumed that the Distribution will be tax free to Stac and the holders of Stac Common Stock. We have also assumed that all necessary governmental and regulatory approvals and consents of third parties will be obtained on terms and conditions that will not have a material adverse effect on Stac or Hi/fn. Finally, we make no forecast and render no opinion as to the trading price of the securities of Stac or Hi/fn following announcement of the completion of the Distribution, or at any time thereafter. Warburg Dillon Read LLC ("WDR") will receive a fee for its financial advisory services rendered in connection with the currently contemplated Distribution, which fee is payable upon completion of the Distribution. In addition, Stac has agreed to reimburse WDR for its reasonable expenses incurred in connection with its engagement and to indemnify WDR and certain related persons for certain liabilities that may arise out of its engagement by Stac and the rendering of the WDR Opinion. This opinion is for the use and benefit of the Board of Directors of Stac. This letter is not intended to be and does not constitute a recommendation to any current or prospective stockholders of Stac or Hi/fn as to any action or investment decisions which may be taken by such stockholders with respect to shares owned or to be received by them. Based upon and subject to the foregoing, it is our opinion as investment bankers that, as of the date hereof, the Distribution is fair, from a financial point of view, to the holders of Stac Common Stock. Very truly yours, WARBURG DILLON READ LLC IV-2 132 SIGNATURES Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the Registrant has duly caused this Form 10 to be signed on its behalf by the undersigned, thereunto duly authorized. HI/FN, INC. Dated: December 7, 1998 By: /s/ WILLIAM R. WALKER ------------------------------------ Name: William R. Walker Its: Vice President, Chief Financial Officer and Corporate Secretary EX-10.2 2 EXHIBIT 10.2 1 EXHIBIT 10.2 ASSIGNMENT, ASSUMPTION AND LICENSE AGREEMENT This ASSIGNMENT AND ASSUMPTION AGREEMENT ("AGREEMENT") is entered into as of this 21st day of November, 1996 among Stac, Inc., a Delaware corporation ("TRANSFEROR"), and Hi/fn Inc., a Delaware corporation ("TRANSFEREE"). WHEREAS, Transferor wishes to transfer, assign and delegate (i) all of its right, title and interest in and to certain of its assets and properties, as listed on Exhibit A attached hereto and incorporated herein to this Agreement by this reference, including without limitation all claims, rights, privileges and similar interests, whenever accruing, inuring to the benefit of or held by Transferor with respect thereto (the "ASSETS"), and (ii) all of its duties and obligations under certain of its liabilities and obligations, as listed on Exhibit B attached hereto and incorporated herein to this Agreement by this reference (the "LIABILITIES"), and the Transferee wishes to accept such transfer, assignment and delegation, on the terms set forth in this Agreement; WHEREAS, Transferor wishes to license certain technologies to Transferee and Transferee wishes to accept such licenses, subject to the terms hereof; and WHEREAS, concurrently herewith the parties hereto are entering into Cross License Agreement and a Stock Purchase Agreement (collectively, the "Related Agreements"). NOW, THEREFORE, in consideration of the foregoing and the mutual covenants and conditions set forth below, and for other good and valuable consideration, the receipt of which is hereby acknowledged, the parties to this Agreement agree as follows: 1. TRANSFER OF ASSETS. Transferor hereby grants, sells, conveys, transfers, assigns, releases and delivers to Transferee all of the Assets, as listed on Exhibit A attached hereto, to have and hold the same unto itself, its successors and assigns forever, and Transferee hereby accepts such grant, sale, conveyance, etc. 2. ASSUMPTION OF LIABILITIES. Transferor hereby transfers, assigns and delegates to Transferee all of the Liabilities, as listed on Exhibit B, and Transferee hereby accepts such transfer, assignment and delegation and assumes and undertakes to become liable for such Liabilities and agrees to faithfully pay, perform and discharge such Liabilities when due. 2 3. LICENSES. Transferor and Transferee shall concurrently with the execution of this Agreement enter into a Cross License Agreement substantially in the form attached hereto as Exhibit C. 4. FURTHER ASSURANCES. It is the intent of the parties that all of the Assets and Liabilities be transferred, assigned and delegated to the Transferee as aforesaid. Each party agrees to execute, acknowledge and deliver any further deeds, assignments, conveyances and other assurances, documents and instruments of transfer and take such other actions consistent with the foregoing as may be necessary to carry out the intent of this Agreement. 5. INDEMNIFICATION. (a) INDEMNIFICATION BY TRANSFEREE. Notwithstanding any investigation of the business, financial condition, prospects, properties or assets of Transferee by or on behalf of Transferor prior to the date hereof, and in addition to any and all other rights of Transferor under this Agreement, Transferee shall indemnify, defend and hold harmless Transferor and each of Transferor's officers, directors, employees, control persons, advisors, affiliates and agents (collectively, the "Indemnified Parties"), from and against any and all losses, damages, liabilities, expenses, costs, assessments and taxes (including, without limitation, interest, penalties and attorneys' fees and expenses reasonably incurred) ("Damages"), and pay each Indemnified Party on demand the full amount of any and all Damages that such party may pay or become obligated to pay, arising out of or relating to any of the following: (i) The breach in any respect (if not qualified) of any representation or warranty of Transferee or of any obligation, agreement or covenant of Transferee contained in or made pursuant to this Agreement, the Related Agreements or any other agreement, certificate or other document made or delivered by Transferee at the Closing pursuant to this Agreement; (ii) Any of the Liabilities listed on Exhibit B and assumed by Transferee; and/or (iii) Any of the Assets listed on Exhibit A and assumed by Transferee hereunder. All claims under this Section 5(a) shall be made at the time and in the manner provided for in Section 5(b). 3 (b) INDEMNIFICATION PROCEDURE. Written notice of any claim for indemnification under Section 5(a) shall be sent to the Transferee promptly following receipt by an Indemnified Party of notice of the occurrence of any event or the commencement of any action for which indemnification may be sought under this Section 5 (but the omission to so notify the Transferee, will not relieve Transferee from any liability that it may have to any Indemnified Party), and the indemnification provided for in this Section 5 shall terminate with respect to claims with respect to which written notice has not been sent to the Transferee, on or prior to the first anniversary of the this Agreement. Transferee shall not, without the prior express written consent of Transferor, settle or compromise or consent to the entry of any judgment in any pending or threatened claim, action, suit or proceeding in respect of which indemnification may be sought hereunder without the prior written consent of Transferor. 6. MISCELLANEOUS. This Agreement may be executed in any number of counterparts, all of which together shall be deemed to one and the same instrument. This Agreement shall be interpreted under the laws of the State of California as applied to contracts entered into and performed entirely among California residents. 4 IN WITNESS WHEREOF, this Agreement has been duly executed on behalf of the parties hereto as of the date first written above. TRANSFEROR: STAC, INC., a Delaware corporation By: /s/JOHN R. WITZEL ---------------------------------------- John R. Witzel Vice President of Finance TRANSFEREE: HI/FN INC., Delaware corporation By: /s/ ARTHUR J. COLLMEYER ---------------------------------------- Arthur J. Collmeyer President and Chief Executive Officer 5 EXHIBIT A ASSETS CASH: Immediately payable funds of $1,000,000. ACCOUNTS RECEIVABLES: All currently outstanding accounts receivables relating to sales for by Transferor of products related to the "Semiconductors," "Software" or "Inventory" listed below. THE "FIXED ASSETS": Fixed Assets shall not include furniture or leasehold improvements at the Transferor's offices located at 12636 High Bluff Drive, San Diego, California. Notwithstanding the foregoing, in addition to the property listed below, Transferee shall be assigned all equipment owned by Transferor and presently used by Transferee exclusively for the testing and development of semiconductors.
LOCATION ASSET # ITEM/DESCRIPTION - -------- ------- ---------------- 301.00 013173 Micron Millenia 004306 CPU 012028 Micron Millenia 012029 Micron Monitor 013174 Micron Monitor 05611 Samsung SyncMaster3 302 012106 SAG Electronics 011388 ZEOS Pantera 011386 NEC MultiSync 5D 012105 MAG Innovision 011387 NEC CD Reader 303 011447 CPU 012166 Micron Millenia 004844 Macintosh Monitor 011443 ViewSonic 15E 011444 U View 012169 Micron Monitor 010875 Mac Quadro 700
A-1 6
LOCATION ASSET # ITEM/DESCRIPTION - -------- ------- ---------------- 304 004692 CPU 10116 ViewSonic 15G 305 011378 CPU 011374 17" Monitor 011373 17" Monitor 011377 Microcom Deskport 011408 NEC CD Reader 306 011465 CPU 011466 ViewSonic 7 307 011322 CPU 011321 ViewSonic 15G 308 011343 Gateway 2000 012165 Micron Millenia 011344 Monitor 012170 Micron Monitor 01627 14-4 Practical Periphial 309 10126 CPU 004870 ViewSonic 15G 011335 Toshiba Laptop T4500C 310 011479 CPU 011595 ViewSonic 15E no # NEC CD Reader 011317 Canon P125-D Calculator 011477 Okidata Printer 311 Chip Room 312 012167 Micron Millenia 011355 ZEOS Pantera 012168 Micron Monitor 011352 Monitor
A-2 7
LOCATION ASSET # ITEM/DESCRIPTION - -------- ------- ---------------- 313 012152 Micron Millenia 012153 Micron Millenia 011353 Gateway 2000 012150 Micron Monitor 012151 Micron Monitor 011354 Monitor 314 004454 Compaq Prolinea 004464 Monitor 315 011383 Gateway 2000 011424 Macintosh Quadra 700 011389 Ambra 011421 CPU 011384 ViewSonic 7 011423 Macintosh Monitor 011449 Sony Trinitron 011314 Samsung SyncMaster3 no # Sony CD Reader 316 011313 Canon L700 Fax 011312 HP Deskjet 560C 011311 HP LaserJet 4M 011796 CPU 011795 Sony Trinitron 011316 IBM Typewriter 317 011461 3M Overhead Projector 011294 Samsung TV 011293 Samsung VCR 318 no # Epson LX-800 011428 Panasonic KX-P1191 011407 CPU 011406 CPU 011318 CPU 011422 CPU 011415 CPU 011445 CPU 011419 CPU 011427 CPU 011420 CPU 010792 Macintosh Quadra 840AV
A-3 8
LOCATION ASSET # ITEM/DESCRIPTION - -------- ------- ---------------- 004830 Macintosh II 004928 Macintosh Classic Monitor 011405 Samsung SyncMaster3 011404 Samsung SyncMaster3 011362 Samsung SyncMaster3 011418 Samsung SyncMaster3 011414 Samsung SyncMaster3 011390 Dell Monitor 010874 Macintosh Monitor 011425 Macintosh Performa 400 011433 Hayes Accura Fax 011430 Iwatsu Oscilloscope 011508 Scope Wagon 011497 US Robotics Sportster 011434 Teltone TLS-4 011429 HP Logic Analyzer 011507 HP Analyzer cart *H01221* Asante EN/SC 011512 UVP EPROM Eraser 011511 Hozan HS-600 Spotheater 011510 GC Auto temp 320 011712 Canon 6650 II Copier 011399 ZEOS 4.8.6 011398 Samsung SyncMaster3 011400 Philips CDD 522 011401 HP ScanJet Iic 323 011299 Canon 1020 Copier
A-4 9 THE "SOFTWARE": The source code, object code and development environment, to the extent they may be assigned under end user licenses from vendors of third party products for all versions of the following software programs: MPPC-C - Compression software LZS221-C - Compression software LZS221-86 - Compression software LZS221-386 - Compression software LZS221-68 - Compression software LZS221-960 - Compression software LZS221-PPP - Compression software LZS321-C - Compression software MUM - Encryption software THE "SEMICONDUCTORS": The maskwork copyrights, net lists, development tools, masks, board layouts, schematics and other tools owned by Stac or that may be assigned under end user licenses from vendors and used to make, have made, develop, and support the following Stac products or works-in-process in all versions and packages: 9703 - Compression chip 9704 - Compression chip 9705/9705A - Compression chip 9706/9706A - Compression chip 9410 - Compression chip Arsenic - PC adapter board Platinum - Compression chip 9732 - Compression chip 9710 - Compression chip 9711 - Compression chip 2106 - PC adapter board XT-8 - PC adapter board AT-16 - PC adapter board MC-16 - PC adapter board 9705EVK - PC adapter board 9706EVK - PC adapter board 9703EVK - PC adapter board Zirconium - PC adapter board 9707 - ECC chip A-5 10 9810 - Tape formatter chip 9820/9820A - Tape formatter chip 9802/9802A - Memory & ECC chip 9803 - Memory & ECC chip Zinc - PC adapter board Potassium - PC adapter board Radium - PC adapter board Jupiter - Interface chip Pearl - Plug & Play chip Synergy - Encryption chip Sunburst - Compression chip THE "INVENTORY": All current inventory relating to the Semiconductors. At October 31, 1996, the inventory and related reserve for obsolescence for the Semiconductors transferred to Transferee were as follows: IC Chips $1,241,873.11 Obsolescence $400,840.35 Hi/fn will be assigned the above book value related to the Semiconductors as well as any Semiconductors not represented by the above (i.e. Semiconductors not carried on the books due to write-offs or their being development parts). THE "TOOLS": The following Tools and other related programs or utilities (other than the standard desktop software environment which are addressed elsewhere herein), owned by Transferor or that may be assigned under end user licenses from vendors, used to develop, test or produce the Semiconductors or Software: stacsim - Chip simulator optimize - Chip gate optimizer wire2net - Chip netlist generator fsmc - State machine compiler txtpack - Compression tester dparse - Decompression tester thdl tools - HDL language compiler lzsdemo - Demo utility lzstest - Test utility bench - Test utility A-6 11 THE "ASSIGNED TRADEMARKS": STATUS RECORDED AS OF NOVEMBER 15, 1996
- ----------------------------------------------------------------------------------------------------------- PROSECUTION STATUS TRADEMARK FILED SER. NO./PRIORITY COUNTRY - ----------------------------------------------------------------------------------------------------------- REGISTERED 4/25/95 LZS 7/30/93 74/419,959 US 1,891,659 9 - ----------------------------------------------------------------------------------------------------------- REGISTERED 7/15/94 LZS (FRANCE) 1/28/94 94/503,778 FRANCE 94/503778 9 - ----------------------------------------------------------------------------------------------------------- SUSPENDED 7/17/96 COMCRYPTION 2/5/96 75/053,339 US PENDING DISPOSITION OF 9 USSN 75/041,168 AND 75/041,169 APPLN PENDING; - ----------------------------------------------------------------------------------------------------------- APPLN PENDING; COMCRYPTION 8/5/96 8-087707 JAPAN (JAPAN) 9 - ----------------------------------------------------------------------------------------------------------- APPLN PENDING; HI/FN 9/3/96 75/159,409 US 9 - -----------------------------------------------------------------------------------------------------------
THE "ASSIGNED PATENTS": STATUS RECORDED AS OF NOVEMBER 15, 1996
- ----------------------------------------------------------------------------------------------------------- PROSECUTION STATUS TITLE FILED SER. NO./PRIORITY COUNTRY - ----------------------------------------------------------------------------------------------------------- ISSUED 3/26/91 U.S. PAT. WRITE OPERATION 8/26/88 237,394 US NO. 4,996,690; WITH GATING MAINTENANCE FEES DUE CAPABILITY 8/26/98; AND 8/26/02 - ----------------------------------------------------------------------------------------------------------- ISSUED 5/29/90 U.S. PAT. DIGITAL PHASE 12/6/88 281,305 US NO. 4,930,142; MAINT. FEE LOCK LOOP DUE 11/29/97 AND 11/29/01 - ----------------------------------------------------------------------------------------------------------- ISSUED 5/14/91 U.S. PAT. DATA 1/13/89 297,152 US NO. 5,016,009 MAINT. COMPRESSION FEES DUE 11/14/98; AND APPARATUS AND 11/14/02 METHOD - ----------------------------------------------------------------------------------------------------------- ISSUED 3/26/91 U.S. PAT. CIP: DATA 10/6/89 418,034 BASED ON USSN US NO. 5,003,307; MAINT. COMPRESSION 297,152 1/13/89 FEES DUE 9/26/98; AND APPARATUS WITH 9/26/02 SHIFT REGISTER SEARCH MEANS - ----------------------------------------------------------------------------------------------------------- ASSOC TO CONDUCT DATA 1/12/90 2-6057; BASED ON USSN JAPAN INTERVIEW COMPRESSION 297,152 AND 418,034 W/EXAMINER, STATUS APPARATUS WITH CHECK SET FOR 9/11/96; SHIFT REGISTER APPEAL NO. 7-9744: - -----------------------------------------------------------------------------------------------------------
A-7 12
- ----------------------------------------------------------------------------------------------------------- PROSECUTION STATUS TITLE FILED SER. NO./PRIORITY COUNTRY - ----------------------------------------------------------------------------------------------------------- AWAITING SEARCH MEANS EXAMINATION; ASSOCIATE FILED AMENDMENT AND APPEAL BRIEF 10/19/95; ASSOCIATE TO FILE AMENDMENT DUE 5/31/95; INTERVIEW SHOULD OCCUR MID JULY '95; ASSOCIATE INSTRUCTED 4/21 RE NOTICE OF APPEAL DUE 5/1/95; RESPONSE TO OFFICE ACTION AND DIVISIONAL APPLICATION FILED 7/11/94; ASSOCIATE INSTRUCTED 6/26/94 TO RESPOND TO OFFICE ACTION DUE 7/11/94; REQUEST FOR EXAMINATION FILED - ----------------------------------------------------------------------------------------------------------- STATUS CHECK SET FOR DATA 7/11/94 6-159042 JAPAN 9/11/96; PER ASSOC COMPRESSION DIVISION OF 2-6057 5/17/96: EXAMINER WILL APPARATUS WITH ISSUE OA AFTER SHIFT REGISTER DECISION ON APPEAL IN SEARCH MEANS PARENT, HAS PROVIDED REFS TO BE CITED AND WILL REVIEW DRAFT AMENDMENT BEFOREHAND; ASSOCIATE INSTRUCTED 3/10/96 RE RESPONSE TO OFFICE ACTION DUE 3/14/96; REQUEST FOR EXAMINATION FILED WITH APPLICATION 7/11/94; - ----------------------------------------------------------------------------------------------------------- U.S. PATENT NO. DATA 11/27/90 07/619,295 US 5,126,739; ISSUED 6/30/92; COMPRESSION MAINT. FEES DUE APPARATUS AND 12/30/95; 12/30/99; and METHOD BASED ON 297,152 12/30/03 - ----------------------------------------------------------------------------------------------------------- U.S. PATENT NO. 5,146,221 DATA 11/27/90 07/619,291 US ISSUED SEPTEMBER 8, COMPRESSION 1992; MAINT. FEES DUE APPARATUS AND 3/8/96; 3/8/00 and 3/8/04 METHOD BASED ON 297,152 - -----------------------------------------------------------------------------------------------------------
A-8 13
- ----------------------------------------------------------------------------------------------------------- PROSECUTION STATUS TITLE FILED SER. NO./PRIORITY COUNTRY - ----------------------------------------------------------------------------------------------------------- PATENT NO. 5,414,850 SYSTEM FOR 8/23/91 07/748,978 US ISSUED 5/9/95; TRANSPARENTLY COMPRESSING MAINT. FEES DUE 11/9/98; DATA FILES IN A 11/9/02; & 11/9/06 COMPUTER SYSTEM - ----------------------------------------------------------------------------------------------------------- CERT. OF CORRECTION DATA 5/9/94 08/240,960 US REC'D; PATENT NO. COMPRESSION FWC BASED ON 5,414,425 ISSUED 5/9/95; APPARATUS AND 08/023,874 METHOD MAINT. FEES DUE 11/9/98; 11/9/02; AND 11/9/06; - ----------------------------------------------------------------------------------------------------------- PATENT NO. 5,532,694 HLZS 7/7/95 08/499,230 US ISSUED 7/2/96; FWC BASED ON MAINTENANCE FEES DUE 07/927,343 1/2/00; 1/2/04 AND 1/2/08; - ----------------------------------------------------------------------------------------------------------- STATUS CHECK SET FOR HLZS 8/10/93 5-198670 JAPAN 9/11/96; ASSOCIATED INSTRUCTED 3/10 & 12 RE RESPONSE TO OFFICE ACTION DUE 3/14/96; REQ. EXAM FILED 12/17/93; PUBLISHED 8/12/94 UNDER PUB. NO. 6-224778 - ----------------------------------------------------------------------------------------------------------- PATENT NO. 5,463,390 FWC: DATA 7/21/94 08/279,714 US ISSUED 10/31/95; COMPRESSION BASED ON 192,949 MAINTENANCE FEES DUE APPARATUS AND 4/30/99; 4/30/03 AND METHOD 4/30/07 ISSUE FEE/DRAWINGS DUE 9/12/95 FILED 8/2/95; DRWGS ORDERED 6/22/95; IDS AND TERMINAL DISCLAIMER FILED 1/24/95; FILING RECEIPT RECEIVED - ----------------------------------------------------------------------------------------------------------- PATENT NO. 5,506,580 FWC: DATA 12/6/94 08/350,389 US ISSUED 4/9/96; COMPRESSION APPARATUS AND BASED ON 08/008,450 MAINT. FEES DUE 10/9/99; METHOD 10/9/03 AND 10/9/07; - ----------------------------------------------------------------------------------------------------------- U.S. PATENT NO. 4,701,745 DATA 3/3/86 835,793 US ISSUED 10/20/87;CPA COMPRESSION INSTRUCTED 2/6 TO PAY SYSTEM BASED ON GB 8505790 MAINT. FEE DUE 4/20/95 FILED 3/6/85 MAINTENANCE FEES DUE 4/20/95 AND 4/20/99 - ----------------------------------------------------------------------------------------------------------- BELGIAN PATENT NO. DATA 3/6/86 904,359 BELGIUM 904359 ISSUED 3/6/86; COMPRESSION - -----------------------------------------------------------------------------------------------------------
A-9 14
- ----------------------------------------------------------------------------------------------------------- PROSECUTION STATUS TITLE FILED SER. NO./PRIORITY COUNTRY - ----------------------------------------------------------------------------------------------------------- 1/12/94: SYSTEM PATENT NO. 36 06 869 DATA 3/6/86 P 36 06 869.1 GERMANY ISSUED 6/29/94; COMPRESSION ANNUITIES DUE 3/31/95; SYSTEM ASSOCIATE INSTRUCTED 8/10 TO PAY GRANT FEE DUE 9/6/94; U.K. PATENT NO. 2,172,127 DATA 3/6/85 2172127 U.K. COMPRESSION SYSTEM FILING RECEIPT HIGH-SPEED 12/29/95 08/580,636 US RECEIVED; FOREIGN PRIVATE KEY DEADLINE 12/29/96; STREAM ENCRYPTION
THE "SALES REPRESENTATIVE AGREEMENTS": The following sales representative agreements to the extent they may be assigned:
REP AREA COVERED DATE - ----------------------------------------------------------------------------------------------------------- Action Sales Michigan, Indiana 8/5/93 Brooks Tech Group No. California, Nevada (except Clark Cty) 1/25/92 ES Chase Washington, Oregon and Idaho 6/1/92 Gibb Tech Sales No. Dakota, So. Dakota, Kansas, Nebraska, Minnesota, Iowa, 9/24/92 Missouri, No. Wisconsin, So. Illinois Lyons Corp. Ohio, Kentucky, W. Virginia, W. Pennsylvania 8/6/93 Micro-Tex So. Wisconsin, No. Illinois 9/24/92 MillBern Massachusetts, Vermont, Maine, Rhode Island, New Hampshire 11/27/91 Novus Group Georgia, Alabama, Mississippi, Tennessee, No. & So. Carolina 11/21/93 Oasis Sales Arizona, New Mexico, Clark Cty NV 12/3/91 Parallax No. New Jersey, So. New York 7/22/92 QXI Florida 9/24/92 SC Cubed So. California 10/22/91 TAI Virginia, Delaware, Maryland, E. Pennsylvania, So. New Jersey 6/25/92 Thorson Rocky Mountain Montana, Wyoming, Colorado, Utah 11/12/91 West Associates Texas, Oklahoma, Arkansas, Louisiana 11/1/95 Amega Technology Rep/Disty for United Kingdom 11/1/93 Metronik Rep/Disty for Germany Contract??
A-10 15
REP AREA COVERED DATE - ------------------------------------------------------------------------------------------------------------------- Inno Micro Rep/Disty for Japan 5/9/90 Memec Rep/Disty for Taiwan, Korea, Singapore, Hong Kong, China, 9/1/92 Thailand, Viet Nam, Philippines, Indonesia, Malaysia Veltek Australia Rep/Disty for Australia & New Zealand 1/27/95 Prime Source Rep/Disty for So. Africa 1/5/96 C88-AS Rep/Disty for Denmark 3/11/96 Acsis Rep for Italy 4/23/93 ElectroSource Rep for Canada 1/25/93 Acal Rep/Disty for Netherlands 4/20/93 Valtrie Marketing Canada Distributor 5/8/94 Iridium Data Rep/Disty for Israel 11/96 - -------------------------------------------------------------------------------------------------------------------
THE "LICENSE AGREEMENTS": CLOSED ONE TIME LZS LICENSE AGREEMENTS
- -------------------------------------------------------------------------------------------------- CUSTOMER PRODUCT VERSION SIGNED - -------------------------------------------------------------------------------------------------- 3COM Corp. LZS221-C/LZS221-68 3.0 9-Mar-93 3M 1988 Technology 1-Jun-88 ACC LZS221-C 3.0/4.0 1-Mar-95 Adtran LZS221-C/68 4.0/3.0 7-Mar-95 Alf Co., Ltd. (CTC) LZS221-86 3.0 10-Dec-92 Alloy Computer Products DCS221 10-Jul-89 Antlow Computers LZS221-C 3.0 15-May-96 Arcada Software LZS-C/86/68/386 21-Oct-94 Archive Corp. DCS221 10-Oct-90 Ascend LZS221-68 & 960 3.0/3.0 28-Jul-94 Ascom Timeplex LZS221-C 3.0 29-Sep-95 Cabletron Systems LZS221-C 4-May-93 Central Point Software DCS221 16-Feb-90 Central Point Software DCS221-68 21-Nov-91 Central Point Software LZS221-86 3.0 31-Aug-92 Cheyenne LZS221-86 3.0 25-Sep-95 Cisco LZS221-68 3.0 15-Sep-94 CMS Enhancements, Inc. DCS221 31-May-90 - --------------------------------------------------------------------------------------------------
A-11 16
- ---------------------------------------------------------------------------------------- CUSTOMER PRODUCT VERSION SIGNED - ---------------------------------------------------------------------------------------- Colorado Memory Systems DCS221 11-Jun-90 Colorado Memory Systems DCS221-386 1.0 26-Sep-94 Colorado Memory Systems LZS221-86 12-Jul-93 CORE International RS3T/DCS221 4-Oct-89 Cosystems, Inc. LZS221-C 3.0 1-Apr-95 Develcon LZS221-C 3.0 13-Jul-94 Equifax Marketing DCS221 12-Jul-90 Equifax Marketing DCS221-VAX 20-May-91 Everex Systems, Inc. DCS221 24-May-90 Farallon Computing LZS221-68 3.0 24-Feb-95 Ferranti International No Info Fifth Generation Systems RS3T ECC 4-Nov-92 Flowpoint LZS221-C 3.0 21-Nov-95 Fujitsu LZS221-C 3.0/4.0 10-Mar-95 Furukawa LZS221-C 4.0 27-Feb-95 Gandalf Canada LTD LZS221-960 4.0 1-Jun-95 Go Corp. LZS221-C 1-Jun-93 Helix HLZS 28-Mar-96 IBM LZS221-C 3.0 10-May-96 Irwin Magnetics C Source QIC122 3.0 25-Nov-91 Kokusai Electric Co Ltd. LZS221-C 3.0 1-Feb-95 Kyocera LZS221-68 3.0 27-Sep-95 LDS Family History Dept. LZS221-86 13-Sep-93 Loral Space Info Sys DCS221-386 19-Dec-94 Microcom DCS221-68 6-Sep-91 Morningstar Tech LZS221-C 3.0 19-Aug-94 Mountain Computer DCS221 7-Jul-89 NetCS Inform. GmbH LZS221-C 3.0 6-Jul-94 Netronix DCS221 27-Feb-91 Network Dynamics LZS221-68 3.0 26-Oct-96 Northern Telecom LZS221-68 3.0 Nova Drive LZS221-86 decomp only 26-Jul-95 Perle System Ltd LZS221-C 3.0 26-Mar-96 - ----------------------------------------------------------------------------------------
A-12 17
- ------------------------------------------------------------------------------------------ CUSTOMER PRODUCT VERSION SIGNED - ------------------------------------------------------------------------------------------ PG Soft LZS221-86 3.0 1-Apr-96 Quest Development Corp. DCS221 28-Feb-90 Racal Datacomm LZS221-C 3.0 1-Sep-95 Retix DCS221-68 6-Aug-91 Retix LZS221-960 4.0 31-Jan-95 Ritan Communications LZS221-C 3.0 25-Sep-95 Shiva LZS221-C/68/86 4.0/3.0/3.0 2-Feb-95 Sierra On-Line LZS221-C/DCS221-386 3-Dec-93 Soliton Systems(Japan) LZS221-C 3.0 30-Nov-94 Spider Island Software LZS221-C 3.0 29-Apr-95 Spry/CompuServe LZS221-86 2.0 14-Jun-95 Stampede LZS221-C 3.0 5-Sep-95 Sun Microsystems LZS221-C 3.0 12-Dec-95 Synaptel S.A. LZS221-C 3.0 13-Mar-96 Sytron Corporation 1987 Technology 11-Jun-87 Sytron Corporation DCS221 8-May-90 Tallgrass Technologies DCS221 24-Jul-89 Tallgrass Technologies 2.02 DCS221-86 15-Feb-91 Tallgrass Technologies DCS221-386 25-Jul-91 Tecmar DCS221 20-Jul-90 Telebit LZS221-68 3.0 21-Nov-94 Telenetworks LZS221-C 3.0 17-Jun-96 Traveling Software LZS221-86 Custom 21-Dec-92 TVS Electronics DCS221 11-Jul-90 UniQ LZS221-C 3.0 26-Oct-94 Vogon International LTD LZS221-86 2.0 21-Jun-95 Wangtek DCS221 14-Feb-89 Xyplex LZS221-68 3.0 20-Sep-94 Zeta Communications LZS221-C 3.0 10-Jan-96 Zytel LZS221-C 3.0 10-Nov-95 Progressive Systems LZS221-C 3.0 27-Sep-96 Bay Networks LZS221-C 3.0 10-Oct-96 Securicor 3Net Ltd LZS221-C 3.0 10-Oct-96 - ------------------------------------------------------------------------------------------
A-13 18 CLOSED ROYALTY LICENSE AGREEMENTS
CUSTOMER PRODUCT VERSION SIGNED - -------------------------------------------------------------------------------------------- Advanced Computer Comm LZS221-68 3.0 20-Aug-92 Agfa LZS221-68 3.0 18-Apr-94 Almond Seed S/W LZS221-C 3.0 14-Jul-95 Cheyenne Software LZS221-86 15-May-92 Conware LZS221-960 3.0 1-Mar-95 Cristie Electronics RS3T 19-Oct-93 Cristie Electronics Ltd. LZS221-86 5-Jan-93 Dynatech LZS221-68 3.0 27-Mar-95 Eastern Research LZS221-68 3.0 14-Nov-94 Eicon Technology DCS221-68 1-Jun-92 Electronic Data Sys DCS221-386 22-Feb-95 Golden Triangle DCS221-68 17-Oct-92 IDE Assoc LZS21-960 3.0 9-Sep-94 ISC LZS221-86 3.0 28-Jul-94 LAN Support Grp DSC-386/LZS-C 6-Jun-94 Memotec LZS-960 & LZS-68 4.0/2.0 25-Apr-95 MSR Development DCS221-386 8-Oct-93 Netronix LZS221-86 4-Nov-92 Network Express LZS221-86 3.0 11-Nov-94 Newport Systems LZS221-86 3.0 22-Aug-94 Niwot LZS221-86/C 3.0/3.0 23-Jun-95 Olicom A/S (Denmark) DCS221-386, LZS221-86 10-Jan-94 Pinacl Communication LZS221-86 3.0 3-Feb-95 Qualstar LZS221-86 1-Feb-93 RAD Networks LZS221-86 3.0 12-Oct-94 Roadway LZS221-C ? 25-Jul-94 Rockwell Network Sys. LZS221-86 3.0 28-Feb-95 Sable Technology LZS221-86 3.0 29-Sep-94 Scorpion Logic LZS221-C 4.0 24-Nov-94 Skyline Tech LZS221-68 2.0 1-Feb-95 - --------------------------------------------------------------------------------------------
A-14 19
- --------------------------------------------------------------------------------------------------- CUSTOMER PRODUCT VERSION SIGNED - --------------------------------------------------------------------------------------------------- TRT Phillips LZS221-68 3.0 9-Oct-95 West Publishing Company LZS221-86 6-Jan-93 Workbit LZS221-86 3.0 10-Jul-92 - ---------------------------------------------------------------------------------------------------
CLOSED V4 ROYALTY LICENSE AGREEMENTS
- --------------------------------------------------------------------------------------------------- CUSTOMER PRODUCT VERSION SIGNED - --------------------------------------------------------------------------------------------------- Cisco LZS-C/MPPC-C 4.0 1-Sep-95 3Com LZS-C/68 custom 29-Sep-95 Command Software Systems DCS-386 1.0 1-Dec-95 US Robotics LZS-C/MPPC-C 4.0 1-Dec-95 Megatest LZS-C 4.0 6-Dec-95 Global Village Communication, UK LZS-C 4.0 22-Dec-95 Flowpoint LZS-C 4.0 1-Feb-96 Seiko LZS-68 3.0 8-Mar-96 Sybase LZS-C 4.0 22-Mar-96 Sierra Online LZS-68 3.0 1-Apr-96 Proteon LZS-C/68 4.0/5.0 8-May-96 IBM LZS-C/68 4.0/5.0 11-Jun-96 QUICK Corp LZS-C 4.0 1-Jul-96 AT&T Paradyne LZS-68 3.0 22-Jul-96 Nortel LZS-C 4.0 13-Aug-96 Shiva LZS-68/960, MPPC-C, Mum 5.0/4.0/4.0/1.0 27-Aug-96 Hitachi LZS-C 4.0 11-Sep-96 Develcon LZS-C (Modified) 4.0 19-Sep-96 Compuserve LZS-C/MPPC-C 4.0/4.0 30-Sep-96 RND LZS221-960 4.0 29-Aug-96 ZyXEL LZS221-68 5.0 1-Oct-96 - ---------------------------------------------------------------------------------------------------
A-15 20 CLOSED MOTOROLA PATENT LICENSE AGREEMENTS
- --------------------------------------------------------------------------------------------------- CUSTOMER PRODUCT VERSION SIGNED - --------------------------------------------------------------------------------------------------- Sun Microsystems MOTCOMP na 08-Mar-96 3Com MOTCOMP na 31-Jan-96 Flowpoint MOTCOMP na 23-Apr-96 - ---------------------------------------------------------------------------------------------------
OTHER AGREEMENTS
- --------------------------------------------------------------------------------------------------- CUSTOMER PRODUCT VERSION SIGNED - --------------------------------------------------------------------------------------------------- Microsoft Corp. MPPC All 16-Feb-96 - ---------------------------------------------------------------------------------------------------
A-16 21 EXHIBIT B LIABILITIES Transferee shall perform all obligations of the Transferor under the "Sales Representative Agreements" and the "License Agreements" listed on Exhibit A. Transferee shall assume all current accounts payable related to the development, distribution, marketing or sales of products related to the "Software," the "Semiconductors," the "Tools," or the "Inventory." Transferee shall assume all current and unpaid payroll and related benefits expenses related to former employees of Transferor who become employees of Transferee. B-1 EX-10.3 3 EXHIBIT 10.3 1 EXHIBIT 10.3 EXHIBIT C CROSS LICENSE AGREEMENT THIS CROSS LICENSE AGREEMENT (the "License Agreement") is made and entered into concurrent with, and effective as of, the effective date (the "Effective Date") of the Assignment, Assumption, and License Agreement (the "Assignment Agreement") by and between STAC, INC. a Delaware Corporation ("Transferor" or "Parent"), and HI/FN INC., a Delaware corporation ("Transferee" or "Sub"). WHEREAS, pursuant to the Agreement, Parent has assigned, and Sub has assumed, certain assets, rights, obligations, and liabilities; and WHEREAS, Sub wishes to license certain intellectual property rights in the assigned technologies back to Parent and Parent wishes to accept such licenses; and WHEREAS, Parent wishes to license certain technologies to Sub and Sub wishes to accept such licenses; NOW, THEREFORE, in consideration of the foregoing and the mutual covenants and conditions set forth below, the parties hereby agree as follows: 1. DEFINITIONS 1.1 CONFIDENTIAL INFORMATION means any and all confidential and proprietary information (whether technical or non-technical), including trade secrets, techniques, sketches, drawings, models, inventions, Know-how, processes, apparatus, equipment, algorithms, software programs, software source documents, and formulae related to the current, future and proposed products and services of either party, and includes, without limitation, each party's respective information concerning research, experimental work, development, design details and specifications, engineering, financial information, procurement requirements, purchasing, manufacturing, customer lists, employee lists, business forecasts, sales and merchandising, and marketing plans and information identified by the disclosing party as Confidential Information, whether in oral, written, graphic or electronic form. If disclosed in oral form, such Confidential Information must be reduced to writing and marked as Confidential Information within thirty (30) days following disclosure. 1.2 DERIVATIVE WORK means any correction, enhancement, alteration, improvement, revision, modification, translation, port, abridgment, condensation, or expansion of the Software. 1.3 END USER means a licensee of the Software, who acquires the Software for its own ordinary and customary business purposes or for personal use, and not for further resale or distribution. 1.4 EXCLUDED FIELD means the hardware implementation of any of the Technology or the licensing or sale of the Software as a stand-alone product during the ten (10) years following C-1 2 the Effective Date, after which Parent shall have no Excluded Field restrictions. Notwithstanding the above, the loading of Software into Read-Only Memory (ROM) or other memory units shall not be deemed to be part of the Excluded Field. 1.5 INTELLECTUAL PROPERTY RIGHT means any patent, copyright, trade name, trademark, trade secret, know-how, or any other intellectual property right or proprietary information or technology, whether registered or unregistered. 1.6 KNOW-HOW means the trade secret techniques, inventions, practices, methods, knowledge, skill, experience, test data and cost data relating to the Software. 1.7 PATENTS means the existing patents and patent applications related to the Technology, as listed on Attachment A ("Patents") and such patents obtained and patent applications filed by Sub relating to the Patents during the term of this License Agreement and improvements thereto, including without limitation, all foreign counterparts, all substitutions, extensions, reissues, renewals, divisions, provisionals, continuations and continuations in part relating to such Patents and their foreign counterparts. 1.8 SOFTWARE means those computer programs in both source and object code form, as listed on Attachment B ("Software"), the related Know-how and all Derivative Works thereof, and any future enhancements, updates or new versions delivered to Parent by Sub pursuant to Section 5 ("Delivery of Future Versions to Parent; Software Support"). 1.9 TRADEMARKS means certain specific trademarks, trade names, logos and similar identifying marks used in connection with the promotion and marketing of the parties and their products as listed below: (a) PARENT TRADEMARKS means Stac and the Stac logo. (b) SUB TRADEMARKS means Comcryption, LZS, Mum and Hi/fn which are owned by Sub. 1.10 TECHNOLOGY means all technology licensed under this License Agreement, including the Patents, Software, all Derivative Works, and all associated documentation. 1.11 PARENT'S PRODUCT(S) means all software and hardware products, and their successor products, developed, marketed and sold or licensed by Parent or by its contractors, affiliates or other third parties. During the ten years following the Effective Date, Parent's Products shall not include standalone software libraries which implement the Technology for integration into the products of third parties. 2. LICENSE GRANTS FROM SUB TO PARENT. 2.1 LICENSE TO TECHNOLOGY. Subject to the terms and conditions hereof, Sub hereby grants to Parent a non-exclusive, nontransferable, worldwide, perpetual, irrevocable, royalty-free license, except in the Excluded Field, to use, modify, reproduce, create Derivative Works, C-2 3 display, perform, distribute, license and sublicense the Technology in order to use, have used, import, make, have made, sell, offer to sell, distribute, license and sublicense, both directly and through third parties and through multiple tiers of distribution, Parent's Products which incorporate or which otherwise use all or any portion of the Technology. 2.2 LICENSE TO SUB TRADEMARKS. Subject to the terms and conditions hereof, Sub hereby grants to Parent a nonexclusive, worldwide, royalty-free license to use the Sub Trademarks in connection with the marketing of Parent's Products embodying the Technology. Parent acknowledges and agrees that Sub is the owner of the Sub Trademarks, that any use of the Sub Trademarks by Parent shall inure to the benefit of Sub, and that Parent shall take no action inconsistent with the preservation of Sub's ownership interests in the Sub Trademarks. Sub is familiar with the quality of Parent's Products and approves the use of the Sub Trademarks in connection with the marketing of such Parent's Products which are of the same quality. 2.3 RESTRICTIONS. Parent acknowledges that the Software contains Confidential Information and agrees that it will not, nor will it permit a third party to, decompile, disassemble, reverse engineer or otherwise manipulate Software which is delivered to such third parties solely in object code form in order to derive the Know-how embedded therein. In the event that Parent sublicenses Intellectual Property Rights to a third party, the sublicensor shall execute an agreement with its sublicensee that contains provisions at least as protective as those contained in this License Agreement. 3. LICENSE GRANTS FROM PARENT TO SUB 3.1 IBM HARDWARE AND SOFTWARE PATENT LICENSES. Parent hereby grants Sub a sublicense under all of the licenses granted by IBM to Parent pursuant to the Agreements between Parent and IBM Corporation, each dated April 1, 1994 (the "IBM Hardware Patent License" and the "IBM Software Patent License," collectively the "IBM Patent Licenses," copies of which are attached to this Agreement as Attachments C-1 and C-2, respectively), pursuant to Section 3.1 of the IBM Hardware Patent License and Section 3.1 of the IBM Software Patent License. Sub acknowledges and agrees that the foregoing sublicense will terminate on the date Sub no longer is a "Subsidiary" of Parent as that term is defined in the IBM Patent Licenses, and that upon the occurrence of such a termination, Sub shall be solely responsible for obtaining equivalent license rights directly from IBM pursuant to Section 3.2 of the IBM Hardware Patent License and Section 3.2 of the IBM Software Patent License to the extent Sub is eligible for such licenses in accordance with the terms of the IBM Patent Licenses. 3.2 MOTOROLA PATENT LICENSES. Sub shall have the license rights provided to Subsidiaries of Parent and their successors under the license agreement with Motorola, Inc. dated December 15, 1995 (the "Motorola Patent License," a copy of which is attached to this Agreement as Attachment D). Sub acknowledges and agrees that the foregoing license rights will terminate on the date Sub no longer is a "Subsidiary" of Parent as that term is defined in the Motorola Patent License, and that upon the occurrence of such a termination, Sub shall be solely responsible for obtaining equivalent license rights directly from Motorola pursuant to Section 7.5 or Section 7.6 of the Motorola Patent License. C-3 4 3.3 LICENSE TO PARENT TRADEMARKS. Subject to the terms and conditions hereof Parent hereby grants to Sub a non-exclusive, worldwide, royalty-free license to use the Parent Trademarks in connection with Sub's marketing and commercial activities related to Sub's Products embodying the Technology Sub acknowledges and agrees that Parent is the owner of the Parent Trademarks that any use of the Parent Trademarks by Sub shall mure to the benefit of Parent, and that Sub shall take no action inconsistent with the preservation of Parent's ownership interests in the Parent Trademarks. Parent is familiar with the quality of Sub's Products and approves the use of the Parent Trademarks in connection with the marketing of such Products which are of the same quality. The term of the license granted in this Section 3.3 ("License to Parent Trademarks") shall be for one year from the date Sub is no longer a Subsidiary of Parent. 4. DELIVERY OF DERIVATIVE WORKS TO SUB. To the extent that any Derivative Works are created by Parent during the ten (10) years following the Effective Date, Parent hereby agrees to deliver to Sub from time to time, as reasonably requested by Sub, all such Derivative Works, in whatever form and medium such Derivative Works are embodied, including, but not limited to, source code for the Software (and all associated documentation necessary to make use of such source code), flowcharts, schematics, mask works and net lists. 5. DELIVERY OF FUTURE VERSIONS TO PARENT; SOFTWARE SUPPORT. For ten (10) years from the Effective Date (the "Delivery Period"), Sub shall have an ongoing obligation to deliver to Parent all future commercial releases ("Future Versions") of the Software (including all generally available updates, enhancements, and error corrections) as they are released to Sub's OEMs, VARs, resellers and End Users. Upon request from Parent, Sub shall deliver to Parent any interim releases of the Software (e.g. any Alpha, Beta, or test versions). Sub shall, during the Delivery Period, provide Parent at no cost with the same level of technical support Sub provides to its Software licensees. 6. PROPRIETARY RIGHTS. 6.1 OWNERSHIP BY SUB. Parent acknowledges that the Technology is proprietary to Sub and that Sub retains exclusive ownership of the Technology and Sub Trademarks. Parent will take all reasonable measures to protect Sub's Intellectual Property Rights in the Technology and the Sub Trademarks, including such assistance and measures as are reasonably requested by Sub from time to time. 6.2 OWNERSHIP OF DERIVATIVE WORKS. Sub shall retain ownership of all Derivative Works deliverable to it under Section 5 ("Delivery of Future Versions to Parent; Software Support"). Parent agrees to include in any agreements with its licensees of the Technology, provisions which would insure that the ownership of Derivative Works shall remain in, or be assigned to, Sub. In order to effectuate the intentions of this Section 6.2 ("Ownership of Derivative Works"), Parent hereby irrevocably transfers and assigns any and all rights Parent may have in or with respect to the Derivative Works. To the extent Parent cannot assign such rights, Parent hereby waives and agrees never to assert such rights against Sub or any of Sub's licensees. If Parent has any right to any Derivative Works that cannot be assigned to Sub or waived by Parent, Parent unconditionally and irrevocably grants to Sub, during the term of such C-4 5 rights, a fully-paid, perpetual, irrevocable, worldwide, nonexclusive, license to use, have used, make, have made, sell, offer to sell, distribute, license and sublicense, both directly and through third parties, products which incorporate, are based upon, or which otherwise use all or any portion of the Derivative Works, and to use, reproduce, make derivative works of and distribute, license and sublicense both directly and through third parties, any Derivative Works. In addition, Parent agrees to obtain such assignment, waiver, covenant not to assert such rights, or license from any subsidiary, subcontractor, related entities, or employee who creates, either in whole or part, any Derivative Works. 6.3 MAINTENANCE OF INTELLECTUAL PROPERTY. Sub agrees to take all commercially reasonable efforts to secure and preserve all Intellectual Property Rights in the Technology. Such efforts shall include, but not be limited to, the filing and prosecution of all applicable patent applications related to the Technology, and the payment of all fees required thereunder. Sub shall control the prosecution of all patent applications, but shall periodically confer with Parent's patent counsel and Parent's designated technical manager regarding such applications. Sub will be solely responsible for all costs associated with the prosecution, issuance and maintenance of all such patent applications and all patents issuing therefrom. In the event that Sub elects to abandon, withdraw or discontinue such a patent application or patent issuing therefrom, Sub shall notify Parent with sufficient time for Parent to intervene so that Parent may preserve such rights. In the event of Parent's intervention, Parent shall have the right to undertake and control such action or maintain such patent at its own expense through patent counsel of its choosing, and Sub, at Parent's expense, shall fully cooperate with Parent in the prosecution of all such patent applications and the maintenance of such patents. 6.4. INFRINGEMENT NOTIFICATION. If Parent learns of a third party infringement of any Intellectual Property Right related to the Technology, it shall notify Sub of such fact. Sub shall have the right to assume control of the action at its sole expense; however, if the suit implicates (or has the potential to implicate) Parent's right to enjoy the benefit of the licenses granted under this License Agreement, Parent may participate in such action at its own expense. If Sub declines to pursue the action, Parent may control the action at its expense, provided that Sub may also participate in such action at its own expense. Parent shall provide Sub with notice of all pending or threatened litigation regarding the Technology as of the Effective Date. 6.5 INFRINGEMENT ENFORCEMENT. Both parties agree to cooperate fully with each other in any enforcement action, and to confer with each other on the disposition and prosecution of claims against third parties for infringement of Intellectual Property Rights in the Technology. In the event that the non-suing party is named as a party plaintiff or joined to the action, such party can agree to be represented by the other party's attorneys at the other party's cost or may retain its own attorney at its own expense (but without affecting which party controls the action). 6.6 COOPERATION BY PARENT. Parent agrees to extend reasonable efforts in cooperation with Sub in the procurement and maintenance of Sub's rights in the Technology and to sign all papers which Sub may deem necessary and desirable for vesting Sub with such rights throughout the world, including litigation of applicable Patents, copyrights and other proceedings. Sub shall reimburse Parent for all costs and expenses actually incurred in the course of such cooperation. C-5 6 In the event that Sub is unable for any reason whatsoever to secure a signature on behalf of Parent to any document it believes is reasonably required in order to apply for or execute any Patent, copyright or other application with respect to the Technology, Parent hereby irrevocably designates and appoints Sub and its duly authorized officers and agents as Parent's agents and its attorneys-in-fact to act for and in its behalf and instead of it, to execute and file any such application and to do all other lawfully permitted acts to further the prosecution and issuance of Patents, copyrights or other rights therein with the same legal force and effect as if executed by Parent. 6.7 LEGENDING. Each party agrees to protect the ownership interests in the Technology to the fullest extent possible, and to legend all products embodying the Technology so as to ensure such protection. Such legending shall include, but not be limited to, (i) the marking of all products (or if such marking is impracticable, by marking the materials accompanying such products) embodying the Patents with the work "Patent" or "Pat." together the number of each patent applicable to the product, so as to comply with the provisions of 35 U.S.C. 287(a); (ii) the marking of all products and associated documentation embodying copyrighted works of the Technology with valid copyright notices containing the name of the work, the word "Copyright" or the (C) symbol, the date of first publication, the name of the copyright owner, and the phrase "all rights reserved"; and (iii) the legending of all Confidential Information with proprietary rights egends no less protective that those used to protect that party's own Confidential Information. Neither party shall alter or remove any proprietary rights legends on or in the Technology or the media containing it. 6.8 GOVERNMENT RESTRICTED RIGHTS. Each party agrees that in order to protect the Intellectual Property Rights in the Technology in transactions with the U.S. government, all licenses with the U.S. government regarding the Technology shall include terms that are consistent with the following language: The [product] is a "commercial item," as such term is defined at 48 C.F.R. 2.101 (OCT 1995), consisting of "commercial computer software" and "commercial computer software documentation" as such terms are used in 48 C.F.R. 12.212 (SEPT 1995) and is provided to the Government (i) for acquisition by or on behalf of civilian agencies, consistent with the policy set forth in 48 C.F.R. 12.212; or (ii) for acquisition by or on behalf of units of the Department of Defense, consistent with the policies set forth in 48 C.F.R. 227.7202-1 (JUN 1995) and 227.7202-3 (JUN 1995). Each party will take all reasonable steps in making proposals and agreements with governments other than the United States which involve the Technology to ensure that the proprietary rights in such Software and User Documentation receive the maximum protection available from such governments for such Technology. 7. CONFIDENTIALITY. 7.1. PROTECTION OF CONFIDENTIALITY. Each party hereto will maintain in confidence all Confidential Information disclosed by the other party hereto. Neither party will use, disclose or C-6 7 grant use of such Confidential Information except as expressly authorized by this License Agreement. Each party will use at least the same standard of care as it uses to protect its own confidential information of a similar nature to ensure that its employees, agents or consultants do not disclose or make any unauthorized use of such Confidential Information, and each party represents that such standard of care is at least that customarily employed in the industry to protect the confidentiality of such information. Notwithstanding the foregoing each party shall require its employees and consultants, if such employee or consultant has not already done so, to sign confidentiality and nondisclosure agreements with such party consistent with the confidentiality requirements set forth herein. Each party will promptly notify the other upon discovery of any unauthorized use or disclosure of the Confidential Information. 7.2. EXCEPTIONS. The obligations of confidentiality contained in Section 7.1 ("Protection of Confidentiality") will not apply to the extent that it can be established by the receiving party that such Confidential Information: (a) was already known to the receiving party, other than under an obligation of confidentiality, at the time of disclosure by the other party; (b) was generally available to the public or otherwise part of the public domain at the time of its disclosure to the other party; (c) became generally available to the public or otherwise part of the public domain after its disclosure and other than through any act or omission of the receiving party in breach of this License Agreement; (d) was disclosed to the receiving party, other than under an obligation of confidentiality, by a third party who had no obligation to the other party not to disclose such information to others. 7.3. AUTHORIZED DISCLOSURE. Each party may disclose Confidential Information to manufacturing sublicensees provided that such disclosure is made pursuant to a nondisclosure agreement which contains provisions at least as protective of the other party's interests as those contained in this Section 7 ("Confidentiality"). Each party may disclose the Confidential Information to the extent such disclosure is reasonably necessary in filing or prosecuting patent applications, prosecuting or defending litigation or complying with applicable governmental regulations, provided that if such party is required to make any such disclosure of the Confidential Information it will to the extent practicable give reasonable advance notice to the other party of such disclosure requirement and, except to the extent inappropriate in the case of patent applications, will use its best efforts to secure confidential treatment of such information required to be disclosed. The parties acknowledge that the sale of products embodying the Technology may necessarily disclose Confidential Information of the parties and the parties agree to use commercially reasonable efforts to limit such disclosure 7.4 SURVIVAL OF CONFIDENTIALITY OBLIGATIONS. This Section 7 ("Confidentiality") shall survive any termination of this License Agreement. C-7 8 8. DISCLAIMER OF WARRANTY. THE TECHNOLOGY LICENSED UNDER THIS LICENSE AGREEMENT IS PROVIDED STRICTLY ON AN "AS IS" BASIS AND WITHOUT WARRANTY OF ANY SORT. BOTH PARENT AND SUB EXPRESSLY DISCLAIM ALL WARRANTIES EXPRESSED OR IMPLIED BY ANY COUNTRY OR JURISDICTION, RELATING TO THE TECHNOLOGY, AND FURTHER EXPRESSLY EXCLUDE ANY WARRANTY OF NON-INFRINGEMENT, FITNESS FOR A PARTICULAR PURPOSE OR MERCHANTABILITY. 9. INDEMNITY. Subject to the limitations set forth below, Sub shall defend Parent with respect to all claims, suits, proceedings, losses, liabilities, damages, costs and expenses (including without limitation Parent's reasonable attorneys' fees) made against or incurred by Parent as a result of any claim arising at any time that the Technology infringes any Intellectual Property rights of any third party; provided, however, that Parent (i) promptly notifies Sub in writing of such claim, suit or proceeding (ii) gives Sub the right to control and direct investigation, preparation, defense and settlement of any claim, suit or proceeding; and (iii) gives assistance and full cooperation for the defense of same. Sub shall pay any resulting damages, costs and expenses finally awarded to a third party, but Sub is not liable for such amounts or for settlements incurred by Parent without Sub's written authorization. If such claim, suit or proceeding has occurred or, in Sub's opinion, is likely to occur, Sub may, at its election and expense, obtain for Parent the right to continue to make use of any or all licenses granted under this License Agreement. 10. LIMITATION OF LIABILITY. NEITHER PARTY SHALL BE LIABLE TO THE OTHER FOR ANY LOSS OF USE, INTERRUPTION OF BUSINESS, COST OF PROCUREMENT OF SUBSTITUTE GOODS, TECHNOLOGY OR SERVICES OR ANY INDIRECT, SPECIAL, INCIDENTAL, OR CONSEQUENTIAL DAMAGES OF ANY KIND (INCLUDING LOST PROFITS) REGARDLESS OF THE FORM OF ACTION WHETHER IN CONTRACT, TORT (INCLUDING NEGLIGENCE), STRICT PRODUCT LIABILITY OR ANY OTHER LEGAL OR EQUITABLE THEORY EVEN IF EITHER PARTY HAS BEEN ADVISED BY THE OTHER OF THE POSSIBILITY OF SUCH DAMAGES. 11. TERM AND TERMINATION. 11.1 TERM. The Term of this License Agreement shall be perpetual, unless terminated earlier, pursuant to Section 11.2 ("Termination") or unless the term of any specific provision of the License Agreement is designated as being otherwise. 11.2 TERMINATION. This License Agreement may be terminated, upon sixty (60) days written notice of material breach by either party, if such material breach has not been cured within such sixty (60) day period. 11.3 EFFECT OF INSOLVENCY. If a voluntary or involuntary petition is commenced by or against Sub under any bankruptcy statute, or Sub becomes insolvent, or any substantial part of Sub's property becomes subject to any levy, seizure, assignment, application or sale for or by any creditor or governmental agency, or a receiver should be appointed for Sub, all rights and C-8 9 licenses herein granted to Parent shall continue. In that connection, the parties acknowledge that the licenses granted under this License Agreement are licenses of "intellectual property" for purposes of section 365(n) of the U.S. Bankruptcy Code, and Parent hereby retains its elections under such section. 11.4 RIGHTS UPON TERMINATION. (a) TERMINATION BY PARENT. Upon termination by Parent, the parties' mutual obligations under Section 4 ("Delivery of Derivative Works to Sub") and Section 5 ("Delivery of Future Versions to Parent; Software Support") shall terminate. Parent shall retain all rights granted in Section 2 ("License Grants from Sub to Parent") with respect to all Technology licensed to Parent as of the date of the termination, but shall have no rights with respect to any Future Versions of the Software. Parent shall retain the right to use the Sub Trademarks in connection with the disposition of any remaining products already in the distribution channel or inventory, and thereafter shall cease use of the Sub Trademarks. (b) TERMINATION BY SUB. Upon termination by Sub, the parties' mutual obligations under Section 4 ("Delivery of Derivative Works to Sub") and Section 5 ("Delivery of Future Versions to Parent; Software Support") shall terminate. Parent's rights granted in Section 2 ("License Grants from Sub to Parent") with respect to all Technology licensed to Parent as of the date of the termination shall continue to the extent that Parent shall have the right to complete and sell any work in progress that makes use of the Technology and to dispose of any products already in its distribution channels or inventory. Parent shall also have the right to retain and use a reasonable number of copies of the Software and any associated Confidential Information in order to fulfill its maintenance and support obligations to its OEMs, resellers, and End Users, but shall return or certify the destruction of any additional copies thereof. 11.5 SURVIVAL. The provisions of Sections 6 ("Proprietary Rights"), 7 ("Confidentiality"), 8 ("Disclaimer of Warranty"), 9 ("Indemnity"), 10 ("Limitation of Liability"), and 12 ("General Provisions") shall survive the termination of this License Agreement by either party for any reason. 12. GENERAL PROVISIONS. 12.1 GOVERNING LAW. This License Agreement shall be governed in all respects by the laws of the United States of America and the State of California, excluding the application of its conflict of laws rules. 12.2 NOTICES. All notices or reports permitted or required under this License Agreement shall be in writing and shall be delivered by personal delivery, telegram, telex, telecopier, facsimile transmission or by certified or registered mail, return receipt requested, and shall be deemed given upon personal delivery, five (5) days after deposit in the mail, or upon acknowledgment of receipt of electronic transmission. Notices shall be sent to the signatory of this License Agreement at the address set forth at the end of this License Agreement or such other address as either party may specify in writing. C-9 10 12.3 WAIVER. The failure of either party to require performance by the other party of any provision hereof shall not affect the full right to require such performance at any time thereafter; nor shall the waiver by either party of a breach of any provision hereof be taken or held to be a waiver of the provision itself. 12.4 SEVERABILITY. In the event that any provision of this License Agreement shall be unenforceable or invalid under any applicable law or be so held by applicable court decision, such unenforceability or invalidity shall not render this License Agreement unenforceable or invalid as a whole, and, in such event, such provision shall be changed and interpreted so as to best accomplish the objectives of such unenforceable or invalid provision within the limits of applicable law or applicable court decisions. 12.5 WARRANTY. Each party warrants that it has full power to enter into and perform this License Agreement, and the person signing this License Agreement on its behalf has been duly authorized and empowered to enter in this License Agreement, understands it and agrees to be bound by it. 12.6 HEADINGS. The section headings appearing in this License Agreement are inserted only as a matter of convenience and in no way define, limit, construe or describe the scope or extent of such section, or in any way affect this License Agreement. 12.7 CONFIDENTIALITY OF AGREEMENT. Neither party will disclose any terms or the existence of this License Agreement, except pursuant to a mutually agreeable press release or as otherwise required by law. 12.8 ASSIGNMENT. Neither party shall assign any rights or obligations arising under this License Agreement without the prior written consent of the other. Subject to the above restriction on assignment, this License Agreement shall inure to the benefit of and bind the successors and assigns of the parties. 12.9 ENTIRE AGREEMENT; CONFLICT. This License Agreement and the Attachments hereto constitute the entire agreement between the parties with respect to the subject matter hereof. This License Agreement supersedes, and the terms of this License Agreement govern, any prior or collateral agreements with respect to the subject matter hereof with the exception of the Assignment Agreement and any prior confidentiality agreements between the parties. This License Agreement may only be changed by mutual agreement of authorized representatives of parties in writing. In the event of any conflict between the Assignment Agreement and this License Agreement, the License Agreement shall govern. 12.10 INJUNCTIVE RELIEF. It is understood and agreed that, notwithstanding any other provision of this License Agreement, breach of the provisions of this License Agreement regarding the protection of Confidential Information will cause irreparable damage for which recovery of money damages would be inadequate, and that either party shall therefore be entitled to obtain timely injunctive relief to protect its rights under this License Agreement, in addition to any and all remedies available at law. C-10 11 IN WITNESS WHEREOF, the undersigned have caused this License Agreement to be executed by their respective authorized representatives. This License Agreement may be executed in counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same original.
STAC, INC. HI/FN, INC. /s/ JOHN R. WITZEL /s/ ARTHUR J. COLLMEYER - -------------------------------- -------------------------------- Authorized Signature Authorized Signature John R. Witzel Arthur J. Collmeyer - -------------------------------- -------------------------------- Printed Name Printed Name Vice President, Finance President - -------------------------------- -------------------------------- Title Title 11/21/96 11/21/96 - -------------------------------- -------------------------------- Date Date
C-11 12
ATTACHMENT A - ------------------------------------------------------------------------------------------------------------------- SER.NO PROSECUTION STATUS TITLE FILED PRIORITY COUNTRY - ------------------------------------------------------------------------------------------------------------------- ISSUED 3/26/91 U.S. PAT. NO. WRITE OPERATION WITH 8/26/88 237,394 US 4,996,690; GATING CAPABILITY MAINTENANCE FEES DUE 8/26/98; AND 8/26/02 - ------------------------------------------------------------------------------------------------------------------- ISSUED 5/29/90 U.S. PAT. NO. DIGITAL PHASE LOCK 12/6/88 281,305 US 4,930,142; MAINT. FEE DUE LOOP 11/29/97 AND 11/29/01 - ------------------------------------------------------------------------------------------------------------------- ISSUED 5/14/91 U.S. PAT. NO. DATA COMPRESSION 1/13/89 297,152 US 5,016,009 APPARATUS AND METHOD MAINT. FEES DUE 11/14/98; AND 11/14/02 - ------------------------------------------------------------------------------------------------------------------- ISSUED 3/26/91 U.S. PAT. NO. CIP: DATA COMPRESSION 10/6/89 418,034 BASED US 5,003,307; APPARATUS WITH SHIFT ON USSN 297,152 REGISTER SEARCH 1/13/89 MAINT. FEES DUE 9/26/98; MEANS AND 9/26/02 - ------------------------------------------------------------------------------------------------------------------- ASSOC TO CONDUCT DATA COMPRESSION 1/12/90 2-6057; BASED JAPAN INTERVIEW W/EXAMINER, APPARATUS WITH SHIFT ON USSN 297,152 STATUS CHECK SET FOR REGISTER SEARCH AND 418,034 9/11/96; MEANS APPEAL NO. 7-9744: A WAITING EXAMINATION; ASSOCIATE FILED AMENDMENT AND APPEAL BRIEF 10/19/95; ASSOCIATE TO FILE AMENDMENT DUE 5/31/95; INTERVIEW SHOULD OCCUR MID JULY '95; ASSOCIATE INSTRUCTED 4/21 RE NOTICE OF APPEAL DUE 5/1/95; RESPONSE TO OFFICE ACTION AND DIVISIONAL APPLICATION FILED 7/11/94; - -------------------------------------------------------------------------------------------------------------------
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ATTACHMENT A - ------------------------------------------------------------------------------------------------------------------- SER.NO PROSECUTION STATUS TITLE FILED PRIORITY COUNTRY - ------------------------------------------------------------------------------------------------------------------- ASSOCIATE INSTRUCTED 6/26/94 TO RESPOND TO OFFICE ACTION DUE 7/11/94; REQUEST FOR EXAMINATION FILED - ------------------------------------------------------------------------------------------------------------------- STATUS CHECK SET FOR DATA COMPRESSION 7/11/94 6-159042 JAPAN 9/11/96; APPARATUS WITH SHIFT REGISTER SEARCH DIVISION OF 2- PER ASSOC 5/17/96: MEANS 6057 EXAMINER WILL ISSUE OA AFTER DECISION ON APPEAL IN PARENT, HAS PROVIDED REFS TO BE CITED AND WILL REVIEW DRAFT AMENDMENT BEFOREHAND; ASSOCIATE INSTRUCTED 3/10/96 RE RESPONSE TO OFFICE ACTION DUE 3/14/96; REQUEST FOR EXAMINATION FILED WITH APPLICATION 7/11/94; - ------------------------------------------------------------------------------------------------------------------- U.S.PATENT NO. 5,126,739; DATA COMPRESSION 11/27/90 07/619,295 US ISSUED 6/30/92; MAINT. FEES APPARATUS AND DUE 12/30/95; METHOD BASED ON 297,152 12/30/99; and 12/30/03 - ------------------------------------------------------------------------------------------------------------------- U.S.PATENT NO. 5,146,221 DATA COMPRESSION 11/27/90 07/619,291 US ISSUED SEPTEMBER 8, 1992; APPARATUS AND MAINT. FEES DUE 3/8/96; METHOD BASED ON 3/8/00 and 3/8/04 297,152 - ------------------------------------------------------------------------------------------------------------------- PATENT NO. 5,414,850 ISSUED SYSTEM FOR 8/23/91 07/748,978 US 5/9/95; TRANSPARENTLY COMPRESSING DATA MAINT. FEES DUE 11/9/98; FILES IN A COMPUTER 11/9/02; & 11/9/06 SYSTEM - -------------------------------------------------------------------------------------------------------------------
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ATTACHMENT A - ------------------------------------------------------------------------------------------------------------------- SER.NO PROSECUTION STATUS TITLE FILED PRIORITY COUNTRY - ------------------------------------------------------------------------------------------------------------------- CERT. OF CORRECTION DATA COMPRESSION 5/9/94 08/240,960 US REC'D; PATENTS NO. 5,414,425 APPARATUS AND ISSUED 5/9/95; METHOD FWC BASED ON 08/023,874 MAINT. FEES DUE 11/9/98; 11/9/02: AND 11/9/06 - ------------------------------------------------------------------------------------------------------------------- PATENT NO. 5,532,694 ISSUED HLZS 7/7/95 08/499,230 US 7/2/96, MAINTENANCE FEES DUE FWC BASED ON 1/2/00; 1/2/04 AND 1/2/08; 07/927,343 - ------------------------------------------------------------------------------------------------------------------- STATUS CHECK SET FOR HLZS 8/10/93 5-198670 JAPAN 9/11/96; ASSOCIATED INSTRUCTED 3/10 & 12 RE RESPONSE TO OFFICE ACTION DUE 3/14/96: REQ. EXAM FILED 12/17/93: PUBLISHED 8/12/94 UNDER PUB. NO. 6-224778 - ------------------------------------------------------------------------------------------------------------------- PATENT NO. 5,463,390 ISSUED FWC: DATA 7/21/94 08/279.714 US 10/31/95; MAINTENANCE FEES COMPRESSION DUE 1/30/99; 4/30/03 AND APPARATUS AND BASED ON 4/30/07 METHOD 192,949 ISSUE FEE/DRAWINGS DUE 9/12/95 FILED 8/2/95; DRWGS ORDERED 6/22/95; IDS AND TERMINAL DISCLAIMER FILED 1/24/95; FILING RECEIPT RECEIVED - -------------------------------------------------------------------------------------------------------------------
C-14 15 ATTACHMENT A
- --------------------------------------------------------------------------------------------------------- SER.NO. PROSECUTION STATUS TITLE FILED PRIORITY COUNTRY - --------------------------------------------------------------------------------------------------------- PATENT NO. 5,506,580 ISSUED FWC: DATA 12/6/94 08/350,389 US 4/9/96; COMPRESSION APPARATUS AND BASED ON MAINT. FEES DUE 10/9/99; METHOD 08/008,450 10/9/03 AND 10/9/07; - --------------------------------------------------------------------------------------------------------- U.S. PATENT NO. 4,701,745 DATA COMPRESSION 3/3/86 835,793 US ISSUED 10/20/87;CPA SYSTEM INSTRUCTED 2/6 TO PAY BASED ON GB MAINT. FEE DUE 4/20/95 8505790 FILED 3/6/85 MAINTENANCE FEES DUE 4/20/95 AND 4/20/99 - --------------------------------------------------------------------------------------------------------- BELGIAN PATENT NO. 904359 DATA COMPRESSION 3/6/86 904,359 BELGIUM ISSUED 3/6/86; 1/12/94: SYSTEM - --------------------------------------------------------------------------------------------------------- PATENT NO. 36 06 869 ISSUED DATA COMPRESSION 3/6/86 P 36 06 869.1 GERMANY 6/29/94; ANNUITIES DUE SYSTEM 3/31/95; ASSOCIATE INSTRUCTED 8/10 TO PAY GRANT FEE DUE 9/6/94; - --------------------------------------------------------------------------------------------------------- U.K. PATENT NO. 2,172,127 DATA COMPRESSION 3/6/85 2172127 U.K. SYSTEM - --------------------------------------------------------------------------------------------------------- FILING RECEIPT RECEIVED; HIGH-SPEED PRIVATE 12/29/95 08/580,636 US FOREIGN DEADLINE 12/29/96; KEY STREAM ENCRYPTION - ---------------------------------------------------------------------------------------------------------
C-15 16 ATTACHMENT B ("SOFTWARE") The following compression software is included within the definition of "Software" for all purposes under this License Agreement: MPPC221-C LZS221-C LZS221-86 LZS221-396 LZS221-68 LZS221-960 LZS221-PPP LZS321-C The following encryption software is included within the definition of "Software" for all purposes under this License Agreement: Spruce Mum C-16 17 ATTACHMENT C-1 IBM HARDWARE PATENT LICENSE C-17 18 ATTACHMENT C-2 IBM SOFTWARE PATENT LICENSE C-18 19 ATTACHMENT D MOTOROLA PATENT LICENSE C-19 EX-10.5 4 EXHIBIT 10.5 1 EXHIBIT 10.5 EMPLOYEE BENEFITS & OTHER EMPLOYMENT MATTERS ALLOCATION AGREEMENT THIS EMPLOYEE BENEFITS & OTHER EMPLOYMENT MATTERS ALLOCATION AGREEMENT (this "Agreement") is made and entered into as of December 7, 1998, by and between STAC, INC., a Delaware corporation ("Stac"), and HI/FN, INC., a Delaware corporation ("Hi/fn," and collectively with Stac, the "Parties"), effective as of the Distribution Date (as hereinafter defined). R E C I T A L S WHEREAS, subject to certain conditions, Stac intends to spin off its semiconductor business by distributing to Stac stockholders a special dividend (the "Distribution") of one share of Hi/fn Common Stock for every ______ shares of Stac Common Stock held as of the close of business on the Record Date (the "Distribution Ratio"); and WHEREAS, in connection with such spin-off, Stac and Hi/fn have entered into a Distribution Agreement of even date herewith (the "Distribution Agreement"); and WHEREAS, pursuant to the aforesaid Distribution Agreement, Stac and Hi/fn have agreed to enter into an agreement allocating responsibilities with respect to employee compensation, benefits and certain other employment matters pursuant to the terms and conditions set forth herein. NOW, THEREFORE, in consideration of the mutual covenants contained herein, and other valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Stac and Hi/fn agree as follows: ARTICLE I. DEFINITIONS Section 1.01. Definitions. As used in this Agreement, the following terms shall have the meanings indicated below: COBRA: Code Section 4980B and ERISA Sections 601 through 608, establishing employer requirements for continuation of health care benefits for the benefit of certain current and former employees or dependents thereof. Code: the Internal Revenue Code of 1986, as amended, or any successor legislation. Commission: the Securities and Exchange Commission. Distribution: the spin-off of Hi/fn pursuant to the Distribution Agreement. Distribution Agreement: the agreement described in the second recital of this Agreement. 2 Distribution Date: the date on which the Distribution occurs. Employee: any individual who is in one of the following categories: a Stac Employee, a Stac Terminee, a Hi/fn Employee or a Hi/fn Terminee. Employer: Stac or Hi/fn, as the context indicates. Employer Common Stock: Stac Common Stock in the case of Stac Employees and Stac Terminees and Hi/fn Common Stock in the case of Hi/fn Employees and Hi/fn Terminees. Employer Stock Option Plan: a plan which provides for awards of additional compensation to eligible Employees in the form of nonqualified or incentive options to purchase Employer Common Stock, including without limitation, the Stac Director Option Plan, the Stac Stock Option Plan and the Hi/fn Equity Plan. ERISA: the Employee Retirement Income Security Act of 1974, as amended, or any successor legislation. Hi/fn: Hi/fn, inc., a Delaware corporation, or any of its direct or indirect subsidiaries. Hi/fn Common Stock: the common stock, par value $.001 per share, of Hi/fn. Hi/fn Employee: any individual who is or becomes an employee of Hi/fn on or after the Distribution Date. It also includes any director of Stac who resigns from the Stac Board of Directors before the Distribution and concurrently or within 90 days thereof is elected to the Hi/fn Board of Directors. Hi/fn Equity Plan: the Hi/fn, Inc. 1996 Equity Incentive Plan. Hi/fn Individual: any individual who (i) is a Hi/fn Employee, (ii) is a Hi/fn Terminee, or (iii) is a dependent or beneficiary of any individual described in clause (i) or (ii). Hi/fn Medical/Dental Plans: any Medical/Dental Plans maintained by Hi/fn for or providing benefits to Hi/fn Individuals. Hi/fn Profit Sharing Plan: the Profit Sharing Plan to be established by Hi/fn in accordance with Section 2.02(b). Hi/fn Qualified Beneficiary: any Hi/fn Individual (or dependent thereof) who, on or before the Distribution Date, was a Qualified Beneficiary under any Hi/fn Medical/Dental Plan. Hi/fn Stock Option: an option to purchase Hi/fn Common Stock pursuant to the Hi/fn Equity Plan. Hi/fn Stock Value: the last sales price per share of Hi/fn Common Stock (traded on a "when-issued" basis) on the Distribution Date. 2 3 Hi/fn Terminee: any individual who was formerly employed by Hi/fn who terminated employment prior to the Distribution Date. HMO: any health maintenance organization organized under 42 U.S.C. Sec. 300e-9, or a state health maintenance organization statute that provides medical services for Stac Individuals or Hi/fn Individuals under any Plan. IRS: the Internal Revenue Service. Medical/Dental Plan: a Welfare Plan providing health benefits to Employees and their dependents. Nasdaq National Market: The Nasdaq Stock Market's Nasdaq National Market. Plan: any plan, policy, arrangement, contract or agreement providing compensation benefits for any group of Employees or former Employees or individual Employee or former Employee, or the dependents or beneficiaries of any such Employee or former Employee, whether formal or informal or written or unwritten, and including, without limitation, any means, whether or not legally required, pursuant to which any benefit is provided by an Employer to any Employee or former Employee or the beneficiaries of any such Employee or former Employee, adopted or entered into by a Party prior to, or upon the Distribution. The term "Plan" as used in this Agreement does not include any contract, agreement or understanding entered into by Stac or Hi/fn relating to settlement of actual or potential Employee related litigation claims. Qualified Beneficiary: an individual (or dependent thereof) who either (1) experiences a "qualifying event" (as that term is defined in Code Section 4980B(f)(3) and ERISA Section 603) while a participant in any Medical/Dental Plan, or (2) becomes a "qualified beneficiary" (as that term is defined in Code Section 4980B(g)(1) and ERISA 607(3)) under any Medical/Dental Plan. Record Date: December 1, 1998. Service Credit: the period taken into account under any Plan for purposes of determining length of service or plan participation to satisfy eligibility, vesting, benefit accrual and similar requirements under such Plan. Stac: Stac, Inc., a Delaware corporation, or any of its direct or indirect subsidiaries. Stac Common Stock: the common stock, par value $.001 per share, of Stac, Inc., a Delaware corporation. Stac Director Option: an option to purchase Stac Common Stock pursuant to the Stac Director Option Plan. Stac Director Option Plan: The Stac, Inc. 1992 Non-Employee Directors' Stock Option Plan to be continued by Stac following the Distribution pursuant to Section 2.03(b). 3 4 Stac Employee: any individual who immediately prior to the Distribution was a Stac Employee and who is an employee or director of Stac immediately following the Distribution. Stac Individual: any individual who is (i) a Stac Employee, (ii) a Stac Terminee, or (iii) a dependent or beneficiary of any individual specified in clause (i) or (ii). Stac Medical/Dental Plans: any Medical/Dental Plans maintained for or providing benefits to Stac Individuals. Stac Profit Sharing Plan: the Stac Profit Sharing and 401(k) Plan. Stac Qualified Beneficiary: a Qualified Beneficiary who, immediately following the Distribution, is not a Hi/fn Qualified Beneficiary and who, immediately prior to the Distribution, was a Qualified Beneficiary under any Stac Medical/Dental Plan. Stac Stock Option: an option to purchase Stac Common Stock pursuant to the Stac Stock Option Plan. Stac Stock Option Plan: The Stac Electronics 1992 Stock Option Plan and Stock Option Plan to be continued by Stac following the Distribution pursuant to Section 2.03(a). Stac Stock Post-Distribution Value: the last sales price per share of Stac Common Stock on the Nasdaq National Market on the Distribution Date, less the Hi/fn Stock Value divided by the Distribution Ratio. Stac Stock Value: the last sales price per share of Stac Common Stock on the Nasdaq National Market on the Distribution Date. Stac Terminee: any individual who was formerly employed by Stac who terminated such employment prior to the Distribution Date. Stock Option: a nonqualified or incentive option to purchase Employer Common Stock under an Employer Stock Option Plan. Welfare Plan: any Plan which provides medical, health, disability, accident, life insurance, death, dental or any other welfare benefit, including, without limitation, any post-employment benefit, but excluding vacation benefits covered under Section 2.05. Section 1.02. Other Terms. Any capitalized terms used herein but not defined herein shall have the meaning set forth in the Distribution Agreement. Section 1.03. Certain Constructions. References to the singular in this Agreement shall refer to the plural and vice-versa and references to the masculine shall refer to the feminine and vice-versa. Section 1.04. Sections. References to a "Section" are, unless otherwise specified, to one of the Sections of this Agreement. 4 5 Section 1.05. Survival. Obligations described in this Agreement shall remain in full force and effect and shall survive the Distribution Date. ARTICLE II. EMPLOYEE BENEFITS Section 2.01. Employment. (a) Allocation of Responsibilities on Distribution Date. On the Distribution Date, except to the extent retained or assumed by Stac under this Agreement or any other agreement relating to the Distribution, Hi/fn shall retain or assume, as the case may be, responsibility as employer for the Hi/fn Employees. On the Distribution Date, except to the extent retained or assumed by Hi/fn under this Agreement or any other agreement relating to the Distribution, Stac shall retain or assume, as the case may be, responsibility as employer for the Stac Employees. The assumption or retention of responsibility as employer by Stac or Hi/fn described in this Section 2.01 shall not, of itself, constitute a severance or a termination of employment under any Plan which provides for severance benefits nor shall it constitute a change of control of Stac or Hi/fn for purposes of any Plan. (b) Assumption of Liabilities on Distribution Date: Except as specifically provided in this Agreement, or as otherwise agreed by the Parties: (i) Immediately following the Distribution, Hi/fn shall assume or retain, as the case may be, all benefit obligations and all related rights in connection with any Plan with respect to the Hi/fn Employees and Hi/fn Terminees and Stac shall have no further liability with respect thereto. (ii) Stac shall assume or retain, as the case may be, all benefit obligations and all related rights in connection with any Plan and with respect to the Stac Employees and Stac Terminees, and Hi/fn shall have no further liability with respect thereto. (c) Service Credits. In connection with the Distribution and for purposes of determining Service Credits under any Plans, Stac shall credit each Stac Employee and Hi/fn shall credit each Hi/fn Employee with such Employee's Service Credits and original hire date as reflected in the Stac records or Hi/fn records, as applicable, as of the Distribution Date. Such Service Credits and hire date shall continue to be maintained as described herein for as long as the Employee does not terminate employment or as otherwise may be required by applicable law or any applicable Plan. Section 2.02. Profit Sharing and 401(k) Plans. (a) Stac Profit Sharing Plan. Effective as of the Distribution Date, Stac and Hi/fn shall take, or cause to be taken, all action necessary and appropriate to terminate the participation of the Hi/fn Employees in the Stac Profit Sharing Plan. (b) Establishment of Hi/fn Profit Sharing Plan. On or prior to January 1, 1999, Hi/fn shall take, or cause to be taken, all action necessary and appropriate to establish and 5 6 administer a Profit Sharing Plan, hereafter referred to as the Hi/fn Profit Sharing Plan, which shall contain such terms and conditions as Hi/fn may determine, provided, however, that all Hi/fn Employees who were participating in the Stac Profit Sharing Plan shall be eligible to participate in the Hi/fn Profit Sharing Plan and, the Hi/fn Profit Sharing Plan shall at a minimum provide for the benefits protected under Section 411(d)(6) of the Code that were provided under the Stac Profit Sharing Plan. The Hi/fn Profit Sharing Plan shall be intended to qualify for tax-favored treatment under Sections 401(a) and 401(k) of the Code and to comply with the requirements of ERISA. (c) Transfer and Acceptance of Account Balances. As soon as practicable after January 1, 1999 but not later than January 29, 1999 (the "Transfer Date"), and subject to Hi/fn's compliance with Section 2.02(e), Stac shall cause the trustees of the Stac Profit Sharing Plan to transfer to the trustees or other funding agent of the Hi/fn Profit Sharing Plan the amounts (in cash, securities, other property or a combination thereof) representing the account balances of all Hi/fn Individuals to be allocated to the account balances of such individuals under the Hi/fn Profit Sharing Plan. Such transfer shall comply with Section 414(1) of the Code and the requirements of ERISA and the regulations promulgated thereunder. Hi/fn shall cause the trustees or other funding agent of the Hi/fn Profit Sharing Plan to accept the plan-to-plan transfer from the Stac Profit Sharing Plan trustees, and to credit the accounts of such Hi/fn Employees under the Hi/fn Profit Sharing Plan with amounts transferred on their behalf. (d) Stac to Provide Information. Stac shall provide Hi/fn, as soon as practicable after the Distribution Date (with the cooperation of Hi/fn to the extent that relevant information is in the possession of Hi/fn, and in accordance with Section 5.02), with a list of Hi/fn Individuals who, to the best knowledge of Stac, were participants in or otherwise entitled to benefits under the Stac Profit Sharing Plan on the Distribution Date, together with a listing of each participant's Service Credits under such Plan and a listing of each such Hi/fn Individual's account balance thereunder. Stac shall, as soon as practicable prior to or on the Transfer Date and in accordance with Section 5.02, provide Hi/fn with such additional information in the possession of Stac (and not already in the possession of Hi/fn) as may be reasonably requested by Hi/fn and necessary for Hi/fn to receive the plan-to-plan transfer under Section 2.02(c) and to administer effectively the Hi/fn Profit Sharing Plan thereafter. (e) Regulatory Filings. Hi/fn and Stac shall, in connection with the plan-to-plan transfer described in Section 2.02(c), cooperate in making any and all appropriate filings required by the Commission or the IRS, or required under the Code or ERISA or any applicable securities laws and the regulations thereunder, and take all such action as may be necessary and appropriate to cause such plan-to-plan transfer to take place. Further, prior to making the plan-to-plan transfer under Section 2.02(c) Hi/fn shall either provide a favorable IRS determination letter that the Hi/fn Profit Sharing Plan, as adopted, satisfies the requirements for qualification under Section 401(a) of the Code, or an opinion letter satisfactory to Stac, from Hi/fn's legal counsel that the Hi/fn Profit Sharing Plan, as adopted, satisfies in form the requirements for qualification under Section 401(a) of the Code. Stac shall make any amendment and take any actions necessary to ensure that the Stac Profit Sharing Plan satisfies the requirements for qualification under Section 401(a) of the Code at the time of the Transfer Date. 6 7 (f) Account Balances of Stac Employees. Stac shall retain sole responsibility for all liabilities and obligations under the Stac Profit Sharing Plan with respect to Stac Individuals, and Hi/fn shall have no liability or obligation with respect thereto. Hi/fn shall assume or retain, sole responsibility for all liabilities and obligations under the Hi/fn Profit Sharing Plan with respect to Hi/fn Individuals, and Stac shall have no liability or obligation with respect thereto. Section 2.03. Stock Plans. (a) Stac Stock Option Plan. Stac shall continue the Stac Stock Option Plan. All options granted under the Stac Stock Option Plan will continue to be denominated in Stac Common Stock and except as provided in Section 2.03(d)(iv), subject to the terms and conditions of the Stac Stock Option Plan and any option agreement entered into in connection therewith. Stac shall continue to reserve those shares already reserved under the Stac Stock Option Plan. Additionally, Stac, after the Distribution Date, will cause to be reserved any additional shares identified for reservation thereunder to the extent authorized by the stockholders of Stac. (b) Stac Director Option Plan. Stac shall continue the Stac Director Option Plan. All options granted under the Stac Director Option Plan will continue to be denominated in Stac Common Stock and except as provided in Section 2.03(d)(iv), subject to the terms and conditions of the Stac Director Option Plan and any option agreement entered into in connection therewith. Stac shall continue to reserve those shares already reserved under the Stac Director Option Plan. Additionally, Stac, after the Distribution, will cause to be reserved any additional shares identified for reservation thereunder to the extent authorized by the stockholders. (c) Hi/fn Equity Plan. Hi/fn shall continue the Hi/fn Equity Plan. All options granted under the Hi/fn Equity Plan will continue to be denominated in Hi/fn Common Stock and subject to the terms and conditions of the Hi/fn Equity Plan and any option agreement entered into in connection therewith. Hi/fn shall continue to reserve those shares already reserved under the Hi/fn Equity Plan. Additionally, Hi/fn, after the Distribution, will cause to be reserved any additional shares identified for reservation thereunder to the extent authorized by the stockholders. (d) Effect of the Distribution on Awards Made Prior to the Distribution Date. (i) Treatment of Stac Options: Stac Stock Options and Stac Director Options, whether vested or unvested, held by Stac Employees shall remain in effect following the Distribution/ provided, however, that the option exercise price shall be equitably adjusted in accordance with Section 2.03(d)(iii) to reflect the Distribution. (ii) Treatment of Hi/fn Options: Hi/fn Stock Options and Hi/fn Director Options, whether vested or unvested, held by Hi/fn Employees shall remain in effect following the Distribution. The Hi/fn Options will not be adjusted in connection with the Distribution. 7 8 (iii) Adjustment of Stac Stock Options: The number of options and the option exercise price of Stac Stock Options and Stac Director Options, shall be adjusted to reflect the Distribution. After the Distribution Date the Option exercise price of each Stac Stock Option and Stac Director Option shall equal the product of (A) the Stac Stock Post-Distribution Value and (B) the quotient obtained by dividing the per share exercise price of the Stac Option by the Stac Stock Value, rounded to the nearest whole cent. After the Distribution Date the number of shares of Stac Common Stock subject to each Stac Stock Option and Stac Director Option shall equal the product of (x) the number of shares Stac Common Stock subject to such Stac Stock Option or Stac Director Option and (y) the quotient obtained by dividing the Stac Stock Value by the Stac Stock Post Distribution Value. (iv) Whiting Options: Subject to the terms of this Agreement, on the Distribution Date, Hi/fn shall grant to Douglas L. Whiting (so long as he is a director of both Stac and Hi/fn on such date), a Hi/fn Option, with respect to the Stac Options held by him as set forth on Exhibit A, in substantially the form attached hereto as Exhibit B (each, a "Whiting Option"). Each Whiting Option shall provide for the purchase of a number of shares of Hi/fn Common Stock equal to the quotient of the number of shares of Stac Common Stock subject to a particular Stac Option held by him divided by the Distribution Ratio, and then rounded down to the nearest whole share. The per share exercise price of each Whiting Option shall equal the Hi/fn Stock Value minus the Adjusted Hi/fn Per Share Spread. The Adjusted Hi/fn Per Share Spread shall equal the Hi/fn Aggregate Spread divided by the number of shares subject to the Whiting Option calculated above. The Hi/fn Aggregate Spread equals the product of the Stac Spread and a fraction the numerator of which is the Hi/fn Stock Value divided by the Distribution Ratio and the denominator of which is the Stac Stock Value. The Stac Spread equals the number of shares subject to the Stac Option listed on Exhibit A multiplied by the difference between the Stac Stock Value and the Stac Exercise Price. The vesting provisions, term and other provisions of each Whiting Option shall be the same as those in effect with respect to the applicable corresponding Stac Option on the Distribution Date. The per share exercise price of each Stac Option held by Mr. Whiting listed on Exhibit A shall be adjusted as of the Distribution Date to equal the Stac Stock Post-Distribution Value minus the Adjusted Stac Per Share Spread. The Adjusted Stac Per Share Spread shall equal the Stac Aggregate Spread divided by the number of shares subject to the Stac Option. The Stac Aggregate Spread equals the product of the Stac Spread (as defined above) and a fraction the numerator of which is the Stac Stock Post-Distribution Value and the denominator of which is the Stac Stock Value. The vesting provisions, term and other provisions of each Whiting Option shall be the same as those in effect with respect to the applicable corresponding Stac Option on the Distribution Date. The vesting provisions, term and other provisions of each such Stac Option shall be the same as those in effect immediately prior to the Close of the Distribution Date. (v) Limitation on Adjustments: To the extent that any adjustment or limitation of this Section 2.03(d) is inconsistent with the intended tax or accounting treatment of the Distribution or any option, it shall not apply, and Stac and Hi/fn shall mutually agree on an alternative adjustment. Section 2.04. Medical/Dental Plans. 8 9 (a) Liability for Claims. (i) Except as otherwise provided herein, as of the Distribution Date, Stac shall assume or retain and shall be responsible for, or cause its insurance carriers or HMOs to be responsible for, all liabilities and obligations related to claims asserted or incurred or premiums owed with respect to any Stac Individuals under any Stac Medical/Dental Plan, and Hi/fn shall have no liability or obligation with respect thereto. (ii) Except as otherwise provided herein, as of the Distribution Date, Hi/fn shall assume or retain and shall be responsible for, or cause its insurance carriers or HMOs to be responsible for, all liabilities and obligations related to claims asserted or incurred or premiums owed with respect to all Hi/fn Individuals under the Hi/fn Medical/Dental Plan, and Stac shall have no liability or obligation with respect thereto. (b) Continuation Coverage Administration. As of the Distribution Date, Stac shall assume or retain and shall be solely responsible for, or cause its insurance carriers or HMOs to be responsible for, providing and administering the continuation coverage required by COBRA as it relates to any Stac Qualified Beneficiary, and Hi/fn shall have no liability or obligation with respect thereto. (c) Continuation Coverage Claims. As of the Distribution Date, Hi/fn shall assume or retain and shall be responsible for, or cause its insurance carriers or HMOs to be responsible for, all liabilities and obligations in connection with claims asserted or incurred or premiums owed through the Distribution Date under any Stac Medical/Dental Plan in respect of any Hi/fn Qualified Beneficiary and claims asserted or incurred or premiums owed after the Distribution Date under any Stac Medical/Dental Plan in respect of any Hi/fn Qualified Beneficiary, and Stac shall have no liability or obligation with respect thereto. Section 2.05. Vacation and Sick Pay Liabilities. Stac shall retain or assume all accrued liabilities (whether vested or unvested, and whether funded or unfunded) for vacation and sick leave in respect of all Stac Employees as of the Distribution Date. Hi/fn shall retain or assume all accrued liabilities (whether vested or unvested, and whether funded or unfunded) for vacation and sick leave in respect of all Hi/fn Employees as of the Distribution Date. Hi/fn shall be solely responsible for the payment to Hi/fn Employees of vacation or sick leave accrued after the Distribution Date, and Stac shall be solely responsible for the payment to Stac Employees of vacation or sick leave accrued after the Distribution Date. Section 2.06. Preservation of Right to Amend or Terminate Plans. Except as otherwise expressly provided in this Article II, no provisions of this Agreement, including, without limitation, the agreement of Stac or Hi/fn to make a contribution or payment to or under any Plan herein referred to for any period, shall be construed as a limitation on the right of Stac or Hi/fn to amend such Plan or terminate its participation therein which Stac or Hi/fn would otherwise have under the terms of such Plan or otherwise, and no provision of this Agreement shall be construed to create a right in any employee or former employee, or dependent or beneficiary of such employee or former employee under a Plan which such person would not otherwise have under the terms of the Plan itself; provided, however, that neither Party shall amend any Plan to the 9 10 extent that such amendment would have the effect of increasing the liabilities of the other Party under any Plan of the other Party, without such other Party's consent. Section 2.07. Payroll Reporting and Withholding. (a) Form W-2 Reporting. Hi/fn and Stac may adopt the "alternative procedure" for preparing and filing IRS Forms W-2 (Wage and Tax Statements), as described in Section 5 of Revenue Procedure 84-77, 1984-2 IRS Cumulative Bulletin 753 ("Rev. Proc. 84-77"). Under this procedure Hi/fn as the successor employer shall provide all required Forms W-2 to all Hi/fn Employees and Stac Employees who join Hi/fn on or after the Distribution Date reflecting all wages paid and taxes withheld by both Stac as the predecessor and Hi/fn as the successor employer for the entire year during which the Distribution takes place. Stac shall provide all required Forms W-2 to all other Stac Employees reflecting all wages and taxes paid and withheld by Stac before and after the Distribution Date. Stac and Hi/fn shall be responsible for filing IRS Forms 941 for their respective Employees. (b) Forms W-4 and W-5. Hi/fn and Stac may adopt the alternative procedure of Rev. Proc. 84-77 for purposes of filing IRS Forms W-4 (Employee's Withholding Allowance Certificate) and W-5 (Earned Income Credit Advance Payment Certificate). Under this procedure Stac shall provide to Hi/fn as the successor employer all IRS Forms W-4 and W-5 on file with respect to each Hi/fn Employee, and Hi/fn will honor these forms until such time, if any, that such Hi/fn Employee submits a revised form. (c) Garnishments, Tax Levies, Child Support Orders, and Wage Assignments. With respect to Employees with garnishments, tax levies, child support orders, and wage assignments in effect with Stac on the Distribution Date, Hi/fn as the successor employer with respect to each Hi/fn Employee shall honor such payroll deduction authorizations and will continue to make payroll deductions and payments to the authorized payee, as specified by the court or governmental order which was filed with Stac. (d) Authorizations for Payroll Deductions. Unless otherwise prohibited by this or another agreement entered into in connection with the Distribution, or by a Plan document, with respect to all Stac Employees to be transferred to Hi/fn on the Distribution Date who have authorizations for payroll deductions in effect with Stac on the Distribution Date, Hi/fn as the successor employer will honor such payroll deduction authorizations relating to each Hi/fn Employee, and shall not require that such Hi/fn Employee submit a new authorization to the extent that the type of deduction by Hi/fn does not differ in amount or form from that made by Stac. Such deduction types include, without limitation, contributions to any Plan; scheduled loan repayments to the relevant Profit Sharing Plan or to an employee credit union; and direct deposit of payroll, bonus advances, union dues, employee relocation loans, and other types of authorized company receivables usually collectible through payroll deductions. 10 11 ARTICLE III. EMPLOYMENT MATTERS Notwithstanding any other provision of this Agreement or any other Agreement between Hi/fn and Stac to the contrary, Hi/fn and Stac understand and agree that: Section 3.01. Separate Employers. On and after the Distribution Date and the separation of Employees into their respective companies, Hi/fn and Stac will be separate and independent employers. Section 3.02. Employment Policies and Practices. Subject to the provisions of ERISA and except as limited by applicable law or agreement, Hi/fn and Stac may adopt, continue, modify or terminate such employment policies, compensation practices, retirement plans, welfare benefit plans, and other employee benefit plans of any kind or description, as each may determine, in its sole discretion, are necessary or appropriate. Section 3.03. Special Matters. (a) Reimbursement. Stac and Hi/fn acknowledge that Stac, on the one hand, and Hi/fn, on the other hand, may incur costs and expenses, including, but not limited to, contributions to Plans, administrative costs associated with the plan-to-plan transfer under Section 2.02(c) and the payment of insurance premiums arising from or related to any of the Plans which are, as set forth in this Agreement, the responsibility of the other Party hereto. Accordingly, Stac and Hi/fn shall reimburse each other, as soon as practicable, but in any event within thirty (30) days of receipt from the other Party of appropriate verification, for all such costs and expenses. (b) Payments to Stac. To the extent that Stac makes any payment for, or takes responsibility for future payment of, any liability or obligation which exists as of the Distribution Date and is assumed by Hi/fn pursuant to this Agreement (any such payment, a "Liability Payment"), not later than thirty (30) days after receipt of an invoice from Stac of such Liability Payment, Hi/fn shall make a payment to Stac equal to the amount of such Liability Payment. Section 3.04. Notice of Claims. Without limitation to the scope and application to each Party in the performance of its duties under Sections 3.03, each Party will notify in writing and consult with the other Party prior to making any settlement of an employee claim in such settlement reasonably could result in any prejudice to such other Party arising from the settlement. Section 3.05. Assumption of Unemployment Tax Rates. Changes in state unemployment tax experience from that of Stac as of the Distribution Date shall be handled as follows. In the event an option exists to allocate to Hi/fn state unemployment tax experience of Stac, the Stac experience shall be transferred to Hi/fn if this results in the lowest aggregate unemployment tax costs for both Stac and Hi/fn combined, and the Stac experience shall be retained by Stac if this results in the lowest aggregate unemployment tax costs for Stac and Hi/fn combined. 11 12 Section 3.06. Employees on Leave of Absence. After the Distribution Date, Hi/fn shall assume responsibility, if any, as employer for all Hi/fn Employees returning from an approved leave of absence. After the Distribution Date, Stac shall assume responsibility, if any, as employer for all Stac Employees returning from an approved leave of absence. Section 3.07. No Third Party Beneficiary Rights. (a) Neither this Agreement nor any other intercompany agreement between Hi/fn and Stac is intended to nor does it create any third party contractual or other common law rights. No person shall be deemed a third-party beneficiary of the agreements between Hi/fn and Stac. (b) Nothing contained in this Agreement shall confer upon any Employee any right with respect to continuance of employment by either Party, nor shall anything herein interfere with the right of either party to terminate the employment of any Employee at any time, with or without cause, or restrict a Party in the exercise of its independent business judgment in modifying any of the terms and conditions of the employment of an Employee, except as provided by applicable law. (c) No provision of this Agreement shall create any third party beneficiary rights in any Employee or any beneficiary or dependent thereof with respect to the compensation, terms and conditions of employment and benefits that may be provided to any Employee by either Party or under any benefit plan which a Party may maintain. Section 3.08. Attorney/Client Privilege. The provisions herein requiring either Party to this Agreement to cooperate shall not be deemed to be a waiver of the attorney/client privilege for either Party nor shall it require either Party to waive its attorney/client privilege. ARTICLE IV. DEFAULT Section 4.01. Default. If either Party materially defaults hereunder, the non-defaulting Party shall be entitled to all remedies provided by law or equity (including reasonable attorneys' fees and costs of suit incurred). Section 4.02. Force Majeure. Hi/fn and Stac shall incur no liability to each other due to a default under the terms and conditions of this Agreement resulting from fire, flood, war, strike, lock-out, work stoppage or slow-down, labor disturbances, power failure, major equipment breakdowns, construction delays, accident, riots, acts of God, acts of United States' enemies, laws, orders or at the insistence or result of any governmental authority or any other delay beyond each other's reasonable control. 12 13 ARTICLE V. MISCELLANEOUS Section 5.01. Relationship of Parties. Nothing in this Agreement shall be deemed or construed by the Parties or any third party as creating the relationship of principal and agent, partnership or joint venture between the Parties, it being understood and agreed that no provision contained herein, and no act of the Parties, shall be deemed to create any relationship between the Parties other than the relationship set forth herein. Section 5.02. Access to Information, Cooperation. Stac and Hi/fn and their authorized agents shall be given reasonable access to and may take copies of all information relating to the subjects of this Agreement (to the extent permitted by federal and state confidentiality laws) in the custody of the other Party, including any agent, contractor, subcontractor, agent or any other person or entity under the contract of such Party. The Parties shall provide one another with such information within the scope of this Agreement as is reasonably necessary to administer each Party's Plans. The Parties shall cooperate with each other to minimize the disruption caused by any such access and providing of information. Section 5.03. Assignment. Neither Party shall, without the prior written consent of the other, have the right to assign any rights or delegate any obligations under this Agreement. Section 5.04. Headings. The headings used in this Agreement are inserted only for the purpose of convenience and reference, and in no way define or limit the scope or intent of any provision or part hereof. Section 5.05. Severability of Provisions. Neither Stac nor Hi/fn intend to violate statutory or common law by executing this Agreement. If any section, sentence, paragraph, clause or combination of provisions in this Agreement is in violation of any law, such sections, sentences, paragraphs, clauses or combinations shall be inoperative and the remainder of this Agreement shall remain in full force and effect and shall be binding upon the Parties. Section 5.06. Parties Bound. This Agreement shall inure to the benefit of and be binding upon the Parties hereto and their respective successors and permitted assigns. Nothing herein, expressed or implied, shall be construed to give any other person any legal or equitable rights hereunder. Section 5.07. Notices. All notices, consents, approvals and other communications given or made pursuant hereto shall be in writing and shall be deemed to have been duly given when delivered personally or by overnight courier or three days after being mailed by registered or certified mail (postage prepaid, return receipt requested) to the named representatives of the Parties at the following addresses for at such other address for a Party as shall be specified by like notice, except that notices of changes of address shall be effective upon receipt): 13 14 (a) To Stac: Stac, Inc. 12636 High Bluff Drive, 4th Floor San Diego, CA 92130 Attention: Cliff Flowers (b) To Hi/fn: Hi/fn, Inc. 2105 Hamilton Ave., Suite 230 San Jose, CA 95125 Attention: William Walker Hi/fn and Stac agree that, upon the request of either Party, the requested Party will give copies of all of its notices, consents, approvals and other communications hereunder to any lender to the requesting Party or other person specified by such requesting Party. Section 5.08. Further Action. Hi/fn and Stac each shall cooperate in good faith and take such steps and execute such papers as may be reasonably requested by the other Party to implement the terms and provisions of this Agreement. Section 5.09. Waiver. Hi/fn and Stac each agree that the waiver of any default under any term or condition of this Agreement shall not constitute a waiver of any subsequent default or nullify the effectiveness of that term or condition. Section 5.10. Governing Law. Unless otherwise preempted by Federal law, all controversies and disputes arising out of or under this Agreement shall be determined pursuant to the laws of the State of California, regardless of the laws that might be applied under applicable principles of conflicts of laws. Section 5.11. Entire Agreement. This Agreement and the Distribution Agreement constitute the entire understanding between the Parties hereto, and supersede all prior written or oral communications, relating to the subject matter covered by said agreements. To the extent that the terms of this Agreement and similar terms of the Distribution Agreement are in conflict, the interpretation given to the conflicting terms of the Distribution Agreement shall govern the interpretation and performance of this Agreement. No amendment, modification, extension or failure to enforce any condition of this Agreement by either Party shall be deemed a waiver of any of its rights herein. This Agreement shall not be amended except by a writing executed by the Parties. Section 5.12. Dispute Resolution. Any dispute arising under this Agreement shall be resolved by binding arbitration in the manner contemplated by Section 8.13 of the Distribution Agreement, including the attorneys fees provisions referred to therein. IN WITNESS WHEREOF, the Parties have executed this Agreement as of the date first above written. 14 15 STAC, INC., a Delaware corporation By:______________________________________ Name:____________________________________ Title:___________________________________ HI/FN, INC., a Delaware corporation By:______________________________________ Name:____________________________________ Title:___________________________________ 15 EX-10.6 5 EXHIBIT 10.6 1 EXHIBIT 10.6 TAX ALLOCATION AND INDEMNITY AGREEMENT TAX ALLOCATION AND INDEMNITY AGREEMENT, dated as of __________, 1998, among Stac, Inc., a Delaware corporation (the "Company"), and hi/fn, inc., a Delaware corporation ("Hi/fn"). WHEREAS, the Company, Hi/fn and the Company's other subsidiaries have joined in filing consolidated federal income tax returns and certain consolidated, combined or unitary state income tax returns; WHEREAS, pursuant to a Distribution Agreement dated as of _______________, 1998 among the Company and Hi/fn (the "Distribution Agreement"), the Company will distribute to the holders of its common stock the shares of common stock of Hi/fn held by the Company in a transaction intended to qualify for tax-free treatment under Code Section 355 (the "Spin-off"); WHEREAS, pursuant to the Spin-off, Hi/fn will leave the Stac Pre-Spin-off Group (as defined herein); and WHEREAS, the parties hereto wish to provide for (i) the allocation of, and indemnification against, certain liabilities for Taxes, (ii) the preparation and filing of Tax Returns on a basis consistent with prior practice and the payment of Taxes with respect thereto, and (iii) certain related matters; NOW THEREFORE, in consideration of their mutual promises, the parties hereby agree as follows: 1. DEFINITIONS. When used herein the following terms shall have the following meanings: "Affiliate" -- with respect to any corporation (the "given corporation"), each person, corporation, partnership or other entity that directly or indirectly, through one or more intermediaries, controls, is controlled by, or is under common control with, the given corporation. For purposes of this definition, "control" means the possession, directly or indirectly, of 50% or more of the voting power or value of outstanding voting interests. "Affiliated Group" -- an affiliated group of corporations within the meaning of Code Section 1504(a) for the Taxable Period or, for purposes of any state income tax matters, any consolidated, combined or unitary group of corporations within the meaning of the corresponding provisions of tax law for the state in question. "After-Tax Basis" -- with respect to any liability indemnified hereunder, the actual amount of any payment to be made with respect to such liability, after giving effect to any tax cost incurred by the recipient arising out of the receipt of such payment (unless such receipt is treated as other than the receipt of taxable income), and reducing such payment by the value of, any and all Federal, state or other Tax Benefits attributable to the full payment of the indemnified liability, which value shall be determined on an assumed basis by multiplying the amount of any applicable 1 2 deduction, credit, offset or other tax item by the applicable highest marginal rate of taxation in effect for the period for which the adjustment is made. "Closing Date" -- the date on which the Spin-off is effected by the Company. "Code" -- the Internal Revenue Code of 1986, as amended, or any successor thereto, as in effect for the Taxable Year in question. "Combined Jurisdiction" -- for any Taxable Period, any state, local or foreign jurisdiction in which the Company or a Company Affiliate is included in a consolidated, combined, unitary or similar return with the Company or any Company Affiliate for state, local or foreign Income Tax purposes. "Company"-- as defined in the preamble to this Agreement. "Effective Time" -- the time at which the Spin-off becomes effective. "Final Determination" -- (i) a decision, judgment, decree, or other order by a court of competent jurisdiction, which has become final and unappealable; (ii) a closing agreement or accepted offer in compromise under Code Sections 7121 or 7122, or comparable agreements under the laws of other jurisdictions; or (iii) any other final settlement with the IRS or other Taxing Authority, or (iv) the expiration of an applicable statute of limitations. "Hi/fn" -- as defined in the preamble to this Agreement. "Hi/fn Group" -- Hi/fn and each corporation that would be a member of an Affiliated Group with respect to which Hi/fn is the common parent on the day after the Closing Date. "Hi/fn Member" -- a corporation that would be a member of the Hi/fn Group. "Income Tax(es)" -- with respect to any corporation or group of corporations, any and all Taxes based upon or measured by net income (regardless of whether denominated as an "income tax," a "franchise tax" or otherwise), imposed by any Taxing Authority, together with any related interest, penalties or other additions thereto. "Information Return(s)" -- any and all returns, reports, estimates, information statements, declarations or other filings (other than Tax Returns) required to be filed or supplied to any Tax Authority by any corporation with respect to the Tax Liabilities of any other person or entity. "IRS" -- the U.S. Internal Revenue Service. "IRS Ruling" -- The letter ruling issued by the IRS in response to the Ruling Request. "Neutral Auditors" -- means a firm of nationally recognized independent accountants who shall not have had a material relationship with the Company or its Affiliates, or 2 3 Hi/fn or its Affiliates, within the two (2) years preceding the date of the notice of a dispute given pursuant to Section 7(p). "Other Tax(es)" -- with respect to any corporation or Affiliated Group, any and all Taxes, other than Income Taxes, together with any related interest, penalties or other additions thereto. "Overdue Rate" -- a rate of interest per annum that fluctuates with the Federal short-term rate established from time to time pursuant to Code Section 6621. "Post-Closing Straddle Period" -- with respect to any Straddle Period, the period beginning on the day after the Closing Date and ending on the last day of such Taxable Year. "Post-Closing Taxable Period" -- a Taxable Year that ends after the Closing Date. "Pre-Closing Straddle Period" -- with respect to any Straddle Period, the period beginning on the first day of such Taxable Year and ending on the close of business on the Closing Date. "Pre-Closing Taxable Period" -- a Taxable Year that ends on or before the Closing Date. "Representative" -- with respect to any person or entity, any of such person's or entity's directors, officers, employees, agents, consultants, accountants, attorneys and other advisors. "Ruling Request" -- the private letter ruling request filed by the Company with the IRS, as supplemented and amended from time to time, with respect to certain federal Income Tax matters relating to the Spin-off and other related matters. "Separate Jurisdiction" -- for any Taxable Period, any state, local or foreign jurisdiction that is not a Combined Jurisdiction. "Spin-off" -- as defined in the Preamble. "Stac Pre-Spin-Off Group" -- the Company and each corporation that joined with the Company in filing a consolidated federal income tax return for any Pre-Closing Taxable Period. For purposes of this Agreement, the Stac Pre-Spin-Off Group shall terminate at the close of the Closing Date. To the extent applicable to any state income tax matters, the "Stac Pre-Spin-Off Group" shall include all corporations joining in the filing of a consolidated, combined or unitary income tax return for the state in question. "Stac Pre-Spin-off Member" -- a corporation that was a member of the Stac Pre-Spin-Off Group at the close of the Closing Date. "Stac Post-Spin-off Group" -- the Company and each corporation that joins with the Company in filing a consolidated federal income tax return for any Post-Closing Taxable 3 4 Period. For purposes of this Agreement, the Stac Post-Spin-off Group shall exist from and after the day after the Closing Date. To the extent applicable to any state income tax matters, the "Stac Post-Spin-off Group" shall include all corporations joining in the filing of a consolidated, unitary or combined income tax return for the state in question. "Stac Post-Spin-off Member" -- a corporation that was a Stac Pre-Spin-off Member and, for purposes of this Agreement, is a member of the Stac Post-Spin-off Group on the day after the Closing Date. "Straddle Period" -- any Taxable Year beginning before and ending after the close of business on the Closing Date. "Tax(es)" -- any net income, gross income, gross receipts, sales, use, excise, franchise, transfer, payroll, premium, property or windfall profits tax, alternative or add-on minimum tax, or other tax, fee or assessment, together with any interest and any penalty, addition to tax or additional amount imposed by any Taxing Authority, whether any such tax is imposed directly or through withholding. "Taxable Period" -- a Pre-Closing Taxable Period, a Post-Closing Taxable Period, or a Straddle Period. "Taxable Year" -- a taxable year (which may be shorter than a full calendar or fiscal year), year of assessment or similar period with respect to which any Tax may be imposed. "Tax Benefit(s)" -- (i) in the case of an Income Tax for which a consolidated Federal, or a consolidated, combined or unitary state or other, Tax Return is filed, the amount by which the Tax liability of the Affiliated Group or other relevant group of corporations is actually reduced on a "with and without" basis (by deduction, entitlement to refund, credit, offset or otherwise, whether available in the current Taxable Year, as an adjustment to taxable income in any other Taxable Year or as a carryforward or carryback, and including the effect on other Income or Other Taxes of such reduction), plus any interest received with respect to any related Tax refund, and (ii) in the case of any other Tax, the amount by which the Tax liability of a corporation is actually reduced on a "with and without" basis (by deduction, entitlement to refund, credit, offset or otherwise, whether available in the current taxable year, as an adjustment to taxable income in any other Taxable Year or as a carryforward or carryback, and including the effect on other Income or Other Taxes of such reduction), plus any interest received with respect to any related Tax refund. "Taxing Authority" -- the IRS and any other domestic or foreign governmental authority responsible for the administration of any Tax. "Tax Practices" -- the most recently applied policies, procedures and practices employed by the Stac Pre-Spin-Off Group in the preparation and filing of, and positions taken on, any Tax Returns of the Company or any Company Affiliate for any Pre-Closing Taxable Period. 4 5 "Tax Return(s)" -- all returns, reports, estimates, information statements, declarations and other filings relating to, or required to be filed by any taxpayer in connection with, its liability for, or its payment or receipt of any refund of, any Tax. "Tax Treatment" -- as defined in Section 3(c) hereto. 2. OBLIGATIONS, RESPONSIBILITIES AND RIGHTS OF THE COMPANY AND HI/FN. (a) Preparation and Filing of Tax Returns. (i) By the Company. The Company shall prepare and timely file (or cause to be prepared and timely filed): (A) on behalf of the Stac Pre-Spin-Off Group and all Stac Pre-Spin-off Members, all Income Tax Returns for all Pre-Closing Taxable Periods; (B) on behalf of all Stac Post-Spin-off Members on a separate or group basis, all Other Tax and Information Returns for all Pre-Closing Taxable Periods; and (C) on behalf of the Stac Post-Spin-off Group and all Stac Post-Spin-off Members, all Tax and Information Returns for all Straddle Periods and Post-Closing Taxable Periods (including in any such Returns filed on a consolidated, combined or unitary basis, to the extent required by law, that include the operations of Hi/fn of any Hi/fn Member for any Pre-Closing Taxable Periods or Straddle Periods (or any portion of a Straddle Period) with respect to such corporations). (ii) By Hi/fn. Except to the extent specifically provided in Section 2(a)(i), Hi/fn shall prepare and timely file (or cause to be prepared and timely filed) on behalf of the Hi/fn Group, all Hi/fn Members, and any group of less than all Hi/fn Members, all Tax and Information Returns for all Taxable Periods required to be filed after the Closing Date. (b) Provision of Filing Information. Hi/fn (or the Company, as the case may be) shall cooperate and assist the Company (or Hi/fn) in the preparation and filing of all Tax Returns subject to Section 2(a) and submit to the Company (or Hi/fn) (x) all necessary filing information in a manner consistent with past Tax Practices and (y) all other information reasonably requested by the Company (or Hi/fn) in connection with the preparation of such Tax Returns promptly after such request. It is expressly understood and agreed that the Company's (or Hi/fn's) ability to discharge its Tax Return preparation and filing responsibilities is contingent upon Hi/fn (or the Company) providing the Company (or Hi/fn) with all cooperation, assistance and information reasonably necessary or requested for the filing of such Income Tax Returns and that Hi/fn (or the Company) shall indemnify the Company (or Hi/fn) against any and all liability for Tax Increases (as defined below), and the Company's (or Hi/fn's) indemnification obligations of Section 3 shall not apply, if, and to the extent that, Taxes are increased as a result of material inaccuracies in such information or of failures to provide such information and assistance (with the amount of such resulting increase in Taxes referred to as the "Tax Increase"). 5 6 (c) Taxable Year. Hi/fn and the Company agree that, to the extent permitted by applicable law, (i) the Taxable Year of the Hi/fn Members included in the consolidated Federal Income Tax Return of the Stac Pre-Spin-Off Group for the Stac Pre-Spin-Off Group Taxable Year that includes the Closing Date (and all corresponding consolidated, combined or unitary state, local or other Income Tax Returns of the Stac Pre-Spin-Off Group) shall end at the close of the Closing Date, and (ii) the Hi/fn Group and each Hi/fn Member shall begin a new Taxable Year for purposes of such Federal, state, local or other Income Taxes on the day after the Closing Date. The parties further agree that, to the extent permitted by applicable law, all Federal, state, local or other Tax and Information Returns shall be filed consistently with this position. (d) Advance Review of Tax Returns. At least thirty (30) days prior to the filing of any Federal Income Tax Return (including amendments thereto) that includes a Hi/fn Member, and at least fifteen (15) days prior to the filing of any Tax Return other than any Federal Income Tax Return (including amendments thereto) that includes a Hi/fn Member, the Company shall provide Hi/fn with the portion of such Tax Return related to the Hi/fn Member. In the case of each Tax Return subject to the conformity requirements of Section 2(e) and filed pursuant to Section 2(a)(ii), Hi/fn shall provide the Company with copies of any such Tax Return at least thirty (30) days prior to the filing thereof (including amendments thereto). Hi/fn and its Representatives (or the Company and its Representatives, as the case may be) shall have the right to review all related work papers prior to the filing of any such Tax Return. The Company (or Hi/fn, as the case may be) shall consult with Hi/fn (or the Company) regarding its comments with respect to such Tax Returns and shall in good faith (A) consult with Hi/fn (or the Company) in an effort to resolve any differences with respect to the preparation and accuracy of such Tax Returns and their consistency with past Tax Practices and (B) consider Hi/fn's (or the Company's) recommendations for alternative positions with respect to items reflected on such Tax Returns; provided, however, that the Company (or Hi/fn) shall not be required to consider any such recommendation if the result thereof would adversely affect the Taxes of the Stac Post-Spin-off Group or any Stac Post-Spin-off Member (or the Hi/fn Group or any Hi/fn Member) for any Post-Closing Taxable Period and may condition the acceptance of any such recommendation upon the receipt of appropriate indemnification from Hi/fn (the Company) for any increases in Taxes that may result from the adoption of the relevant alternative position. (e) Consistent Positions on Tax Returns. The Company (or Hi/fn, as the case may be) shall prepare all Tax Returns filed pursuant to Section 2(a) for all Taxable Years ended on or before December 31, 1998 in a manner consistent with past Tax Practices except as otherwise required by changes in applicable law or material underlying facts. (f) Allocation of Straddle Period Taxes. If required to effect the purposes of this Agreement, Taxes shall be allocated between the Pre- and Post-Closing Straddle Periods, by the Company in a reasonable manner, subject to the following rules: (i) To the extent not impractical, on the basis of the actual operations and taxable income for each such period, determined by closing the books of the entity at the close of business on the Closing Date; or 6 7 (ii) To the extent that an allocation based on a closing of the books is impractical, the Company may use any reasonable method or methods, including allocations based on (x) allocations of taxable income, loss, gain, deduction and credits made for the entity for Federal Income Tax purposes, (y) rounding to the next nearest accounting period-end, and (z) the actual number of days in the Pre- and Post-Closing Straddle Periods in proportion to the number of days in the entire Straddle Period. (g) Payment of Taxes. The Company shall pay (i) all Taxes shown to be due and payable on all Tax Returns filed by the Company pursuant to Section 2(a)(i) hereof (other than any Income Taxes of Hi/fn Members for Separate Jurisdictions for all Pre-Closing Taxable Periods), and (ii) subject to Section 3(b) and 3(c), all additions to Taxes payable by the Company under clause (i) of this Section 2(g) that result from a Final Determination. Hi/fn shall pay (w) all Taxes shown to be due and payable on all Tax Returns filed by Hi/fn pursuant to Section 2(a)(ii) hereof, (x) all Income Taxes of Hi/fn Members for Separate Jurisdictions for all Pre-Closing Taxable Periods, (y) all additions to Taxes payable under clauses (w) or (x) of this Section 2(g) that result from a Final Determination, and (z) to the extent provided in Section 3(c), all additional Taxes of the Company, the Stac Pre-Spin-Off Group, any Stac Pre-Spin-off Member, the Stac Post-Spin-off Group or any Stac Post-Spin-off Member. (h) Amendments to Tax Returns. The Company (or Hi/fn, as the case may be) shall be entitled to amend Tax Returns filed by the Company (or Hi/fn) pursuant to Section 2(a); provided, however, that Hi/fn (or the Company, solely with respect to Income Taxes of Hi/fn Members for Separate Jurisdictions) shall not amend for any reason whatsoever any Tax Return of the Company or any Stac Post-Spin-off Member (or Hi/fn, the Hi/fn Group or any Hi/fn Member) for any Pre-Closing Taxable Period or any Post-Closing Taxable Period ended on or before December 31, 1998, except (A) pursuant to the settlement or other resolution of a contest subject to Section 6 or (B) with the Company's (or Hi/fn's) written consent (which consent shall not be unreasonably withheld or delayed); provided, however, that such prohibition shall not extend to the correction of mathematical or material factual errors or other adjustments necessary to conform such Tax Returns to applicable law or past Tax Practices. (i) Refunds of Taxes. The Company shall be entitled to any refund of any and all Taxes for which the Company shall have the payment obligation under the first sentence of Section 2(g). Hi/fn shall be entitled to any refund of any and all Taxes for which Hi/fn shall have the payment obligation under the second sentence of Section 2(g). Except as otherwise provided in this Agreement, if the Company or any Stac Post-Spin-off Member (or Hi/fn or any Hi/fn Member, as the case may be) receives a Tax refund to which Hi/fn or any Hi/fn Member (or the Company or any Stac Post-Spin-off Member) is entitled pursuant to this Agreement, the Company (or Hi/fn) shall pay (in accordance with Section 4) the amount of such refund (including any interest received thereon) to Hi/fn (or the Company) promptly after receipt thereof. (j) Carrybacks. Hi/fn shall notify the Company promptly of the existence of any items of deduction, loss or credit arising in a Post-Closing Taxable Year that are required to be carried back to a Taxable Period of the Stac Pre-Spin-Off Group or any Stac Pre-Spin-off Member (other than to a separate Tax Return of a member of the Hi/fn Group). Hi/fn hereby expressly agrees (on its behalf and on behalf of all Hi/fn Members and successors thereto) that the Company or any member of the Stac Post-Spin-off Group may retain any cash refund or 7 8 reduction of a Tax liability or any other Tax Benefit obtained by the Company or any member of the Stac Post-Spin-off Group (other than a member of the Hi/fn Group) as a result of any carryback without compensation to Hi/fn or any Hi/fn Member. Notwithstanding Section 2(e), Hi/fn and the Company agree that Hi/fn should elect to carry forward all such items that affect the Company or any member of the Stac Post-Spin-off Group to the extent permitted under applicable law. (k) NOL, ITC and AMT Credit Benefits. If any Hi/fn Members have attributable to them, under applicable Federal and state Income Tax law, any net operating loss carryforwards, investment tax credit carryforwards and alternative minimum tax credit carryforwards (the "Carryforwards"), the parties hereto agree that the Hi/fn Group and the Hi/fn Members shall be exclusively entitled to use and benefit from the Carryforwards without compensation to the Stac Pre-Spin-Off Group, any Stac Pre-Spin-off Member, the Stac Post-Spin-off Group or any Stac Post-Spin-off Group Member. Hi/fn further agrees that it shall have no recourse against the Stac Pre-Spin-Off Group, any Stac Pre-Spin-off Member, the Stac Post-Spin-off Group or any Stac Post-Spin-off Member regardless of (a) what amount of such Carryforwards are or will be available to the Hi/fn Group and the Hi/fn Members in Post-Closing Taxable Years and (b) whether the Carryforwards shall be subject to any limitation imposed as a result of the application of Code Sections 382 and 383, the Treasury regulations thereunder or other applicable law. The Company hereby agrees to take any action or make any election reasonably required to permit Hi/fn and the Hi/fn Members to utilize the Carryforwards; provided, however, that no such action or election shall be required if it would adversely affect in any way the Income Tax liabilities of the Stac Post-Spin-off Group or any Stac Post-Spin-off Member for any Taxable Year. The parties also hereby agree that the provisions of this Section 2(k) shall apply with respect to any similar carryforwards available under applicable state, local or foreign Income Tax law. (l) Information and Other Tax Returns. Any party required to file any Information or other Tax Return pursuant to this Section 2 shall pay any related fees or charges (including any such fees or charges that shall thereafter become due and payable with respect to such Information or other Tax Return) and shall indemnify and hold the other party harmless against any related interest and penalties, as well as any such fees or charges which are assessed against such party as the result of a failure by the party responsible for such failure to file any Information Return in a timely and accurate manner. 3. INDEMNIFICATION. (a) By the Company. (i) Taxes. Subject to Sections 2(b), 3(b) and 3(c), the Company shall indemnify and hold Hi/fn and the Hi/fn Members harmless (on an After-Tax Basis) against any and all Taxes for which the Company has the payment obligation under the first sentence of Section 2(g). (ii) Member Liability. Subject to Sections 2(b), 3(b) and 3(c), the Company shall indemnify and hold Hi/fn and the Hi/fn Members harmless (on an After-Tax Basis) against each and every liability for Taxes of the Stac Pre-Spin-Off Group under Treas. Reg. 8 9 Section 1.1502-6 or any similar law, rule or regulation administered by any Taxing Authority, together with any related interest, penalties and other additions. (b) By Hi/fn. (i) Taxes. Hi/fn shall indemnify and hold the Stac Post-Spin-off Group and the Stac Post-Spin-off Members harmless (on an After-Tax Basis) against the Taxes for which Hi/fn has the payment obligation under the second sentence of Section 2(g). (ii) Post-Closing Transactions. Notwithstanding any contrary provision in this Agreement or in the Distribution Agreement, Hi/fn shall indemnify and hold the Stac Post-Spin-off Group and the Stac Post-Spin-off Members harmless (on an After-Tax Basis) against any Taxes imposed on or against the Stac Pre-Spin-Off Group or the Stac Post-Spin-off Group (including any Stac Pre-Spin-off Member or Stac Post-Spin-off Member) that are attributable to, or arise from, transactions or events which take place outside the ordinary course of business of Hi/fn and the Hi/fn Members and which occur after the Spin-off becomes effective and prior to the close of the Closing Date. (c) Assumed Tax Treatments. (i) The parties expressly agree for all purposes to treat the Spin-off as a tax-free distribution under Code Section 355 in accordance with (x) the IRS Ruling and Ruling Request or (y) an opinion of independent accountants as described in Section _____ of the Distribution Agreement (the "Tax Treatment"). Each party hereto also expressly agrees not to take (and to cause each of its Affiliates not to take) any action (except where such action is required by law) that is inconsistent with the treatment of the Spin-off and all related transactions in accordance with the Tax Treatment and to take (and to cause each of its Affiliates to take) any and all actions reasonably available to such party (or Affiliate) to support and defend the Tax Treatment. (ii) Notwithstanding anything to the contrary in Sections 2(g), 3(a) or 3(b): a. If there is a Final Determination that results in the disallowance, in whole or in part, of the Tax Treatment, and there has been no material breach of Section 3(c)(i) and no Stac Post-Spin-off Member or Hi/fn Member has taken actions after the Spin-off which result in such disallowance, then any liability of the Company for Taxes as a result of such disallowance shall be borne solely by the Company. b. Subject to the following sentence, if there is a Final Determination that results in the disallowance, in whole or in part, of the Tax Treatment, and one or more Stac Post Spin-off Members and one or more Hi/fn Members have materially breached Section 3(c)(i) or taken actions after the Spin-off which result in such disallowance, then any liability of the Company for 9 10 Taxes as a result of such disallowance shall be divided equally between the Company and Hi/fn. Notwithstanding the foregoing, if (A) there is a Final Determination that results in the disallowance, in whole or in part, of the Tax Treatment, (B) such disallowance is caused, in whole or in part, by the application of Section 355(e) (or any successor statute) (in which case the Spin-off shall constitute a "Disqualifying Distribution"), and (C) prior to the Final Determination, each of one or more Stac Post Spin-off Members, on the one hand, and one or more Hi/fn Members, on the other hand, have taken actions after the Spin-off which result in the Distribution constituting a Disqualifying Distribution, then any liability of the Company for Taxes as a result of the application of Section 355(e) shall be borne solely by either (X) Hi/fn, in the event the first actions after the Spin-off which caused the Spin-off to constitute a Disqualifying Distribution were taken or caused by one or more Hi/fn Members, or (Y) the Company, in the event the first Disqualifying Distribution after the Spin-off was taken or caused by one or more Stac Post Spin-off Members. c. If there is a Final Determination that results in the disallowance, in whole or in part, of the Tax Treatment, and any Hi/fn Member (and no Stac Post-Spin-off Member) has materially breached Section 3(c)(i) or has taken any action after the Spin-off which results in such disallowance, then Hi/fn shall indemnify and hold each Stac Post-Spin-off Member harmless for any Taxes which would not have occurred but for such disallowance. d. If there is a Final Determination that results in the disallowance, in whole or in part, of the Tax Treatment, and any Stac Post-Spin-off Member (and no Hi/fn Member) has materially breached Section 3(c)(i) or has taken any action after the Spin-off which results in such disallowance, then the Company shall indemnify and hold each Hi/fn Member harmless for any Taxes which would not have occurred but for such disallowance. Any such claim for indemnification shall otherwise be handled in the manner specified under this Section 3, but shall not affect in any manner the provisions of Sections 5 and 6 with respect to cooperation and control of contests and audits. (d) Indemnification Procedure. Hi/fn (or the Company, as the case may be) shall notify the Company (or Hi/fn) of any Taxes paid by the Hi/fn Group or any Hi/fn Member (or the Stac Post-Spin-off Group or any Stac Post-Spin-off Member) which are subject to indemnification under this Section 3; provided, however, that no Tax liability of $10,000 or less in the aggregate shall in any event be indemnified hereunder. To the extent not otherwise provided in this Section 3, any other notification contemplated by this Section 3(d) shall include a detailed calculation (including, if applicable, separate allocations of such Taxes between Pre- and Post-Closing Taxable Periods and supporting work papers) and a brief explanation of the basis for 10 11 indemnification hereunder. Whenever a notification described in this Section 3(d) is given, the notified party shall pay the amount requested in such notice to the notifying party in accordance with Section 4, but only to the extent that the notified party agrees with such request. To the extent the notified party disagrees with such request, it shall, within 20 days, so notify the notifying party, whereupon the parties shall use their best efforts to resolve any such disagreement. If such a dispute cannot be so resolved, resolution of the dispute shall be governed by Section 7(p) hereof. To the extent not otherwise provided for in this Section 3 or in Section 4, any payment made after such 20-day period shall include interest at the Overdue Rate from the date such payment would have been made under Section 4 based upon the original notice given by the notifying party. (e) Loss of Tax Benefits. Appropriate payments shall be made between the parties to take account of subsequent losses of, or changes in, any Tax Benefit that has been taken into account for purposes of determining the After-Tax Basis of any indemnification payment. 4. METHOD, TIMING AND CHARACTER OF PAYMENTS REQUIRED BY THIS AGREEMENT. (a) Payment Procedures. The Company and Hi/fn hereby agree to the following quarterly monitoring, notification and payment system with respect to all amounts that shall become due and payable hereunder between the parties: (i) the Company's Tax Department shall maintain a current accounting for all amounts due and payable by the Company, Hi/fn or their respective subsidiaries pursuant to this Agreement, (ii) Hi/fn shall notify the Company in writing of any amounts that shall become due to it or its subsidiaries hereunder on or before the 20th calendar day of the third month of each quarterly period, (iii) on or before the last business day of the third month of each quarterly period, the Company shall prepare and distribute to Hi/fn a comprehensive quarterly report of all amounts that have become due hereunder to either party or their subsidiaries (including any amounts known by the Company to be due to Hi/fn or its subsidiaries even if not subject to a written notification in accordance with clause (ii) above), (iv) the net amount due between the Company and its subsidiaries on the one hand and Hi/fn and its subsidiaries on the other hand as of such quarter-end (including any amounts remaining unpaid, plus interest thereof, from prior periods) shall become payable on the 10th calendar day of the first month of the following quarter (or, if such day is not a business day, the next business day thereafter). The parties hereby agree to consult with each other in good faith to resolve any differences with respect to such quarterly reports and payments. The Company's (or the Hi/fn's) failure to prepare or distribute any report under this Section 4(a) shall not relieve or defer the Company's (or Hi/fn's) obligation to pay any amounts the Company (or Hi/fn) may owe to Hi/fn (or the Company) hereunder. (b) Payment in Immediately Available Funds; Interest. All payments made pursuant to this Agreement shall be made in immediately available funds. Except as otherwise provided herein, any payment not made on the date when payable under Section 4(a) or otherwise hereunder shall thereafter bear interest at the Overdue Rate. (c) Characterization of Payments. Any payment (other than interest thereon) made hereunder by the Company to Hi/fn or by Hi/fn to the Company shall be treated by 11 12 all parties for all purposes as a non-taxable intercompany settlement of liabilities existing immediately before the Spin-off or, to the extent appropriate, as a non-taxable dividend distribution or capital contribution. 5. COOPERATION; DOCUMENT RETENTION; CONFIDENTIALITY. (a) Provision of Cooperation, Documents and Other Information. Upon reasonable request by a requesting party, the Company and Hi/fn shall promptly provide (and shall cause their respective Affiliates to provide) such requesting party with such cooperation and assistance, documents, and other information, without charge, as may be necessary or reasonably helpful in connection with (i) the preparation and filing of any original or amended Tax Return, (ii) the conduct of any audit or other examination or any judicial or administrative proceeding involving to any extent Taxes or Tax Returns within the scope of this Agreement, or (iii) the verification by a party of an amount payable hereunder to, or receivable hereunder from, another party. Such cooperation and assistance shall include, without limitation: (w) the provision on demand of books, records, Tax Returns, documentation or other information relating to any relevant Tax Return; (x) the execution of any document that may be necessary or reasonably helpful in connection with the filing of any Tax Return by the Stac Pre-Spin-Off Group, a Stac Pre-Spin-off Member, the Stac Post-Spin-off Group, a Stac Post-Spin-off Member, the Hi/fn Group or a Hi/fn Member, or in connection with any audit, proceeding, suit or action of the type generally referred to in the preceding sentence, including, without limitation, the execution of powers of attorney and extensions of applicable statutes of limitations, with respect to Tax Returns which the Company may be obligated to file on behalf of Hi/fn Members pursuant to Section 2(a); (y) the prompt and timely filing of appropriate claims for refund; and (z) the use of reasonable best efforts to obtain any documentation from a governmental authority or a third party that may be necessary or helpful in connection with the foregoing. Each party shall make its employees and facilities available on a mutually convenient basis to facilitate such cooperation. (b) Retention of Books and Records. The Company, each Stac Post-Spin-off Member, Hi/fn and each Hi/fn Member shall retain or cause to be retained all Tax Returns, and all books, records, schedules, workpapers, and other documents relating thereto, until the expiration of the later of (i) all applicable statutes of limitations (including any waivers or extensions thereof), and (ii) any retention period required by law or pursuant to any record retention agreement. The parties hereto shall notify each other in writing of any waivers, extensions or expirations of applicable statutes of limitations, and shall provide at least thirty (30) days prior written notice of any intended destruction of the documents referred to in the preceding sentence. A party giving such a notification shall not dispose of any of the foregoing materials without first obtaining the written approval (which may not be unreasonably withheld) of the notified party. (c) Status and Other Information Regarding Audits and Litigation. The Company (or Hi/fn, as the case may be) shall use reasonable best efforts to keep Hi/fn (or the Company) advised, as to the status of Tax audits and litigation involving any issue relating to any Taxes, Tax Returns or Tax Benefits subject to indemnification under this Agreement. To the extent relating to any such issue, the Company (or Hi/fn) shall promptly furnish Hi/fn (or the Company) copies of any inquiries or requests for information from any Taxing Authority or any 12 13 other administrative, judicial or other governmental authority, as well as copies of any revenue agent's report or similar report, notice of proposed adjustment or notice of deficiency. (d) Confidentiality of Documents and Information. Except as required by law or with the prior written consent of the other party, all Tax Returns, documents, schedules, work papers and similar items and all information contained therein, which Tax Returns and other materials are within the scope of this Agreement, shall be kept confidential by the parties hereto and their Representatives, shall not be disclosed to any other person or entity and shall be used only for the purposes provided herein. 6. CONTESTS AND AUDITS. (a) Notification of Audits or Disputes. Upon the receipt by the Company or any Stac Post-Spin-off Member (or Hi/fn or any Hi/fn Member, as the case may be) of notice of any pending or threatened Tax audit or assessment which may affect the liability for Taxes that are subject to indemnification hereunder, the Company (or Hi/fn) shall promptly notify Hi/fn (or the Company) in writing of the receipt of such notice. (b) Control and Settlement. (i) By The Company. The Company shall have the right to control, and to represent the interests of all affected taxpayers in, any Tax audit or administrative, judicial or other proceeding relating, in whole or in part, to any Pre-Closing Taxable Period or any other Taxable Period for which the Company is responsible, in whole or in part, for Taxes under Sections 2(g) and 3, and to employ counsel of its choice at its expense; provided, however, that, with respect to such issues that may impact Hi/fn or any Hi/fn Member for any Post-Closing Taxable Period or for which Hi/fn may be responsible in part under Sections 2(g) and 3, the Company shall (i) afford Hi/fn full opportunity to observe at any such proceedings and to review any submissions related to such issues, (ii) in good faith consult with Hi/fn regarding its comments with respect to such proceedings and submissions in an effort to resolve any differences with respect to the Company's positions with regard to such issues, (iii) in good faith consider Hi/fn's recommendations for alternative positions with respect to such issues, and (iv) advise Hi/fn of the reasons for rejecting any such alternative position. In the event of any disagreement regarding the proceedings, the Company shall have the ultimate control of the contest and any settlement or other resolution thereof. (ii) By Hi/fn: Hi/fn shall have the right to control, and to represent the interests of all affected taxpayers in, any Tax audit or administrative, judicial or other proceeding relating solely to any Post-Closing Taxable Period of the Hi/fn Group or any Hi/fn Member, or relating to any other Taxable Period for which Hi/fn is solely responsible for Taxes under Sections 2(g) and 3, and to employ counsel of its choice at its expense; provided, however, that Hi/fn shall (i) afford the Company full opportunity to observe at any such proceedings and to review any submissions related thereto and (ii) not agree to settle any such proceeding in a manner that could reasonably have a material and adverse effect on (A) any indemnification obligation of the Company hereunder, (B) any Tax liability of the Stac Pre-Spin-Off Group or any Stac Pre-Spin-off Member for any Pre-Closing Taxable Period or (C) any Tax liability of the Stac Post-Spin-off Group or any Stac Post-Spin-off Member for any Post-Closing 13 14 Taxable Period, without the prior written consent of the Company, which consent shall not be unreasonably withheld. (c) Delivery of Powers of Attorney. Hi/fn (and, to the extent necessary, its subsidiaries) shall execute and deliver to the Company, promptly upon request, such powers of attorney authorizing the Company to extend statutes of limitations, receive refunds and take such other actions that the Company reasonably considers to be appropriate in exercising its control rights pursuant to this Section 6. 7. MISCELLANEOUS. (a) Effectiveness. This Agreement shall be effective from and after the Closing Date and shall survive until the expiration of any applicable statute of limitations. (b) Entire Agreement. This Agreement contains the entire agreement among the parties hereto with respect to the subject matter hereof. (c) Guarantees of Performance. The Company and Hi/fn hereby guarantee the complete and prompt performance by the members of their respective Affiliated Groups of all of their obligations and undertakings pursuant to this Agreement. If, subsequent to the Effective Time, either the Company or Hi/fn shall be acquired by another entity such that 50% or more of its common stock is in common control, such acquirer shall, by making such acquisition, simultaneously agree to jointly and severally guarantee the complete and prompt performance by the acquired corporation and any Affiliate of the acquired corporation of all of their obligations and undertakings pursuant to this Agreement. (d) Severability. In case any one or more of the provisions contained in this Agreement should be invalid, illegal or unenforceable, the enforceability of the remaining provisions hereof shall not in any way be affected or impaired thereby. It is hereby stipulated and declared to be the intention of the parties that they would have executed the remaining terms, provisions, covenants and restrictions hereof without including any of such which may hereafter be declared invalid, void or unenforceable. In the event that any such term, provision, covenant or restriction is hereafter held to be invalid, void or unenforceable, the parties hereto agree to use their best efforts to find and employ an alternate means to achieve the same or substantially the same result as that contemplated by such term, provision, covenant or restriction. (e) Indulgences, etc. Neither the failure nor any delay on the part of any party hereto to exercise any right under this Agreement shall operate as a waiver thereof, nor shall any single or partial exercise of any right preclude any other or further exercise of the same or any other right, nor shall any waiver of any right with respect to any occurrence be construed as a waiver of such right with respect to any other occurrence. (f) Governing Law. This Agreement shall be governed by and construed in accordance with the internal laws of the State of California without regard to the conflict of law principles thereof, except with respect to matters of law concerning the internal corporate affairs of any corporate entity which is a party to or subject of this Agreement, and as 14 15 to those matters the law of the jurisdiction under which the respective entity derives its powers shall govern. (g) Notices. All notices, requests, demands and other communications required or permitted under this Agreement shall be made in the manner provided in Section [___] of the Transitional Services Agreement of even date herewith between the Company and Hi/fn (the "Transitional Services Agreement"). (h) Modification or Amendment. This Agreement may be amended at any time by written agreement executed and delivered by duly authorized officers of Hi/fn and the Company. (i) Successors and Assigns. Except by operation of law or in connection with the sale of all or substantially all the assets of a party hereto, a party's rights and obligations under this Agreement may not be assigned without the prior written consent of the other party. All of the provisions of this Agreement shall be binding upon and inure to the benefit of the parties and their respective successors and permitted assigns. (j) No Third-Party Beneficiaries. This Agreement is solely for the benefit of the parties to this Agreement and their respective Affiliates and should not be deemed to confer upon third parties any remedy, claim, liability, reimbursement, claim of action or other right in excess of those existing without this Agreement. (k) Other. This Agreement may be executed in any number of counterparts, each such counterpart being deemed to be an original instrument, and all of such counterparts shall together constitute one and the same instrument. The section numbers and captions herein are for convenience of reference only, do not constitute part of this Agreement and shall not be deemed to limit or otherwise affect any of the provisions hereof. (l) Predecessors and Successors. To the extent necessary to give effect to the purposes of this Agreement, any reference to any corporation, Affiliated Group or member of an Affiliated Group shall also include any predecessors or successors thereto, by operation of law or otherwise. (m) Effect of Transitional Services Agreement. At any time when the Company is providing tax planning and compliance services to Hi/fn under the Transitional Services Agreement, the rights and obligations of the Company and Hi/fn under the advance review, consultation, notice and cooperation provisions of Sections 2(c), 2(d), 5(a), 5(c), 6(a), 6(b) and 7(g) shall be suspended. Such rights and obligations shall be immediately reinstated upon the termination of the Transitional Services Agreement or upon written notice from Hi/fn to such effect. In performing any such services, the Company shall act as an agent and/or independent contractor of Hi/fn and shall have no personal liability with respect to any Taxes related thereto other than as expressly provided herein or in the Transitional Services Agreement. (n) Tax Elections. Nothing in this Agreement is intended to change or otherwise affect any previous tax election made by or on behalf of the Stac Pre-Spin-Off Group. The Company, as common parent of the Stac Pre-Spin-Off Group, shall continue to have sole 15 16 discretion to make any and all elections with respect to all members of the Stac Pre-Spin-Off Group for all Taxable Periods for which it is obligated to file Tax or Information Returns under Section 2(a)(i). (o) Injunctions. The parties acknowledge that irreparable damage would occur in the event that any of the provisions of this Agreement were not performed in accordance with its specific terms or were otherwise breached. The parties hereto shall be entitled to an injunction or injunctions to prevent breaches hereto and to enforce specifically the terms and provisions hereof in any court having jurisdiction; such remedy shall be in addition to any other remedy available at law or in equity. (p) Dispute Resolution. The Company and Hi/fn shall endeavor in good faith to resolve any dispute under this Agreement, including without limitation instances where the parties are required to reach mutual agreement. If such a dispute cannot be so resolved, then either party may deliver to the other a written notice detailing such party's objections. If the Company and Hi/fn are unable to resolve the dispute within fifteen (15) days of the receipt of such notice, then either party shall have the right to refer the dispute for resolution to Neutral Auditors selected by the Company and Hi/fn within ten (10) days after the expiration of such fifteen (15) day period. If the Company and Hi/fn are unable to agree on the Neutral Auditors, then Hi/fn and the Company shall each have the right to request the American Arbitration Association to appoint the Neutral Auditors. Each party agrees to execute, if requested by the Neutral Auditors, a reasonable engagement letter. All fees and expenses relating to the work, if any, to be performed by the Neutral Auditors shall be borne equally by the Company and Hi/fn. The Neutral Auditors shall act as an arbitrator to determine, based solely on presentations by the Company and Hi/fn, and not by independent review, only those issues still in dispute. The Neutral Auditors' determination shall be made within thirty (30) days of such firm's selection, shall be set forth in a written statement delivered to the Company and Hi/fn, and shall be final, binding and conclusive. (q) Further Assurances. Subject to the provisions hereof, the parties hereto shall make, execute, acknowledge and deliver such other instruments and documents, and take all such other actions, as may be reasonably required in order to effectuate the purposes of this Agreement and to consummate the transactions contemplated hereby. Subject to the provisions hereof, each party shall, in connection with entering into this Agreement, performing its obligations hereunder and taking any and all actions relating hereto, comply with all applicable laws, regulations, orders and decrees, obtain all required consents and approvals and make all required filings with any governmental agency, other regulatory or administrative agency, commission or similar authority and promptly provide the other party with all such information as it may reasonably request in order to be able to comply with the provisions of this sentence. (r) Setoff. Except as provided in Section 4(a), all payments to be made by any party under this Agreement shall be made without setoff, counterclaim or withholding, all of which are expressly waived. (s) Costs and Expenses. Unless otherwise specifically provided herein, each party agrees to pay its own costs and expenses resulting from the fulfillment of its respective obligations hereunder. 16 17 (t) Rules of Construction. Any ambiguities herein shall be resolved without regard to which party drafted this Agreement. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] 17 18 IN WITNESS WHEREOF, the parties hereto have executed this Agreement, or have caused this Agreement to be duly executed on their respective behalf by their respective officers thereunto duly authorized, as of the day and year above written. STAC, INC. a Delaware corporation By: -------------------------- Name: ------------------------ Title: ----------------------- HI/FN, INC., a Delaware corporation By: -------------------------- Name: ------------------------ Title: ----------------------- S-1 EX-10.7 6 EXHIBIT 10.7 1 EXHIBIT 10.7 TRANSITIONAL SERVICES AGREEMENT This Transitional Services Agreement (this "Agreement") is made as of this __ day of November 1998 between Stac, Inc., a Delaware corporation ("Stac"), and hi/fn, inc., a Delaware corporation ("Hi/fn"). RECITALS WHEREAS, pursuant to a Distribution Agreement dated as of November __, 1998, (the "Distribution Agreement") between Stac and Hi/fn, Stac will separate its software business and its semiconductor business (the "Spin-off") by way of a special dividend by Stac to the stockholders of record of Stac's common stock, consisting of the distribution on an approximately 1-for-4 basis, of all of the outstanding shares of Hi/fn Common Stock held by Stac (following the conversion, at Stac's election, of 6,000,000 shares of Series A Preferred Stock, par value $.001 per share, of Hi/fn into 6,000,000 shares of Hi/fn Common Stock) (the "Distribution"); and WHEREAS, a condition of the closing of the transactions contemplated by the Distribution Agreement is that Stac and Hi/fn enter into, among other things, a transitional services agreement pursuant to which Stac shall provide certain accounting services to Hi/fn. AGREEMENT NOW, THEREFORE, in consideration of the foregoing premises and the mutual covenants hereinafter set forth, and intending to be legally bound hereby, the parties agree as follows: 1. ACCOUNTING SERVICES. Stac agrees to use its employees and assets to provide to Hi/fn the accounting services currently provided by Stac to Hi/fn, which are listed on Exhibit A hereto (the "Accounting Services"). Stac shall have no obligation to perform the accounting services currently provided by Hi/fn personnel, which also are described on Exhibit A hereto. The monthly charge for the Accounting Services from and after the date hereof shall be $6,500.00. Such amount shall be prepaid through December 31, 1999 by Hi/fn prior to the Distribution. If the term of this Agreement is extended past December 31, 1999 pursuant to Section 4 hereof, Stac shall invoice Hi/fn monthly for Accounting Services performed during the prior month (beginning January 1, 2000), and Hi/fn shall pay Stac for such services not later than ten (10) days from the receipt of invoice. Hi/fn may decline any or all of the Accounting Services at any time in its sole discretion; provided that the monthly charge for services will not be reduced below $6,500 (i) unless Hi/fn has given Stac at least 30 days notice of its decision to decline all services (in which case no monthly charge will be due) or (ii) unless otherwise agreed by the parties in writing. Hi/fn expressly acknowledges and agrees that (i) Stac and its officers, directors, employees, agents and counsel shall not be responsible for the contents of Hi/fn financial statements generated by Stac or for their preparation in accordance with generally accepted accounting principles, (ii) the contents and accuracy of Hi/fn's financial statements shall be solely the responsibility of Hi/fn and (iii) Stac's responsibility shall be only to process transactions and journal entries as instructed by Hi/fn and to generate the resulting financial statements. Hi/fn understands and agrees that it shall be responsible for all planning and reporting to its various constituencies, including, but not limited to its board of directors, stockholders, employees, the Securities and Exchange Commission, the Internal Revenue 2 Service, the California Franchise Tax Board, other federal and state regulatory agencies, other taxing authorities and any corresponding or other foreign entities. 2. OUTSIDE SERVICES. In the event that the providing party is required to retain outside consultant/contractor assistance to perform any of the services hereunder, the providing party shall first obtain the consent of the other party to such retention and the other party shall pay directly the fees of such consultant/contractor. The providing party shall not be held responsible for the performance of such consultant/contractor services and the other party assumes the risk thereof. 3. CONTRACTUAL RELATIONSHIP. The relationship between Stac and Hi/fn under this Agreement shall be that of principal and agent in respect of the services to be performed hereunder. In no event is the relationship of the parties intended to be that of employer and employee and in no event is either party to be deemed or purported to be the partner or joint venturer of the other for any purpose whatsoever. 4. TERM. The term of this Agreement shall expire on December 31, 1999; provided, however, that each party shall have the right, Hi/fn upon thirty (30) days advance notice to Stac, and Stac upon six (6) months advance notice to Hi/fn, to terminate all or part of the services it performs hereunder. This Agreement may be extended on a month-to-month basis following December 31, 1999 upon mutual agreement of the parties. Upon the termination of all services, payment therefor and payment of all consultants/contractors, this Agreement shall terminate and any payments due the other party shall be immediately payable. 5. LIMITATION OF LIABILITY. Stac shall not have any liability whatsoever to Hi/fn or to any third party for any loss, liability, damage, cost or deficiency (collectively, "Losses"), or for any claim for Losses, including, without limitation, Losses or claims for personal injury, death or property damage, warranty, tort or products liability, resulting from, caused by or arising out of Stac's performance under this Agreement except for claims arising out of the negligence or willful default or breach of Stac hereunder. In no event shall Stac have liability to Hi/fn or to any third party for indirect, special or consequential damages or loss of profits (except with respect to its willful default or breach), or for punitive damages for any reason whatsoever. 6. INDEMNIFICATION. Hi/fn agrees to indemnify, protect, defend and hold harmless Stac (for purposes of this Section 6 "Stac" shall include the officers, directors, employees, agents and counsel of Stac), from and against any and all losses, claims, damages, expenses or liabilities, including the fees of not more than one counsel to Stac, arising out of or based upon allegations that financial statements or other accounting records prepared by Hi/fn with Stac's assistance pursuant to this Agreement contain inaccuracies or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading. 7. NOTICES. All notices and other communications hereunder shall be in writing and shall be delivered by hand or mailed by registered or certified mail (return receipt requested) to the parties at the following addresses (or at such other addresses for a party as shall be specified by like notice) and shall be deemed given on the date on which such notice is received: 2 3 To Stac: Stac, Inc. 12636 High Bluff Drive, 4th Floor San Diego, CA 92130 Attention: Cliff Flowers To Hi/fn: Hi/fn, Inc. 2105 Hamilton Ave., Suite 230 San Jose, CA 95125 Attention: William Walker 8. ASSIGNMENT. This Agreement and all of the provisions hereof shall be binding upon and inure to the benefit of the parties hereto and their respective successors and permitted assigns but neither this Agreement nor any of the rights, interests or obligations hereunder shall be assigned by any party hereto without the prior written consent of the other party (other than to an affiliate). Any purported assignment in violation of the provisions hereof shall be void. 9. GOVERNING LAW. This Agreement shall be governed by the laws of the State of California (regardless of the laws that might otherwise govern under applicable California conflict of laws principles) as to all matters, including but not limited to matters of validity, construction, effect, performance and remedies. 10. COUNTERPARTS. This Agreement may be executed in two or more counterparts, each of which shall be deemed an original, but all of which together shall constitute one and the same instrument. 11. INTERPRETATION. The article and section headings contained in this Agreement are solely for the purpose of reference, are not part of the agreement of the parties and shall not in any way affect the meaning or interpretation of this Agreement. 12. SEVERANCE. In the event that any provision of this Agreement is declared illegal, invalid or unenforceable or contrary to law, it shall not affect any other provision in the Agreement. 13. ENTIRE AGREEMENT. This Agreement and the Distribution Agreement embody the entire agreement and understanding of the parties hereto in respect of the subject matter hereof. This Agreement supersedes all prior agreements and understandings between the parties with respect to the transactions contemplated hereby. 14. DISPUTES. Any disputes arising under this Agreement shall be resolved by binding arbitration in the manner contemplated by Section 8.13 of the Distribution Agreement, including the attorneys' fees provision referenced therein. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] 3 4 IN WITNESS WHEREOF, each of Stac and Hi/fn has caused this Agreement to be executed by its duly authorized officer as of the date first above written. STAC, INC. By:_______________________________________ Name:_____________________________________ Title:_____________________________________ HI/FN, INC. By:_______________________________________ Name:_____________________________________ Title:_____________________________________ 4 5 EXHIBIT A The following work is currently performed by Hi/fn personnel and will continue to be done by them or such other persons as Hi/fn appoints. 1) Purchasing - preparation of purchase orders for all hi/fn product materials and services, receipt of orders, verification of receipt vs. purchase orders and other duties associated with purchasing function. 2) Inventory - ordering, shipping, maintenance and control of physical inventory including periodic counts and reconciliation, in conjunction with Stac accounting personnel, of any differences. 3) Property, plant and equipment - ordering, delivery and maintenance, tagging and tracking, input into asset accounting system and recording monthly depreciation expense. Also responsible for conducting physical inventories as needed, and reconciling the fixed asset accounting system to the general ledger. 4) Accounts Payable - matching of invoices against supporting documents, coding of account distribution, obtaining approvals and other preparation of data for input into accounts payable system, printing of checks, responding to vendor calls, reconciliation of accounts payable ledger, signing checks and other duties associated with the accounts payable function. 5) Payroll - preparation of payroll input for delivery to Stac personnel, including hours worked, distribution of hours, time-off information and any special or bonus pay information. Beginning February 1, 1999 assume responsibility for payroll input, tax filings and deposits. 6) Order entry and invoicing - entry of sales orders into sales order entry system, tracking of orders, preparation of picking tickets and shipping documents, sales reconciliation, returns processing, responding to customer calls re orders and shipments and other duties associated with the sales accounting function. 7) Journal entries - preparation of journal entries other than payroll journal entries which are prepared by Stac. Includes journal entries that adjust reserves, allowances, revenue recognition, accruals for expenses, prepaid amortization and other journal entries. 8) SEC reports - prepare and file all SEC filings, answer SEC questions and comments. Preparation may require adjustment of standard internal reports provided by Stac to comply with SEC requirements. 9) Audits and reviews - plan, schedule and control annual audit and quarterly reviews by outside independent auditors. 10) Accounting systems maintenance - in addition to the monthly $6,500 fee to Stac for accounting services, pay to outside vendors or reimburse Stac for any costs associated with licensing and maintaining the accounting software for Hi/fn's use. 11) Credit check and approval-request credit references, D&B reports and make decisions as to level of credit to be granted to new customers. 5 6 12) Option/stock accounting-track all option/stock/ESPP activity, reconcile with transfer agent, perform valuation and run reports necessary for quarterly reporting. The following work is currently performed by Stac personnel and will continue to be done by them during the term of this agreement or by such other persons as Stac appoints, unless Hi/fn takes on performance of a function or service directly. 1) Payroll - input of payroll data provided by Hi/fn, processing of payroll, delivery of checks or automatic deposits, preparation of payroll tax returns, preparation of payroll general ledger entries and other duties associated with payroll not performed by Hi/fn as described above. After February 1, Hi/fn will input their own payroll and be responsible for all tax filings and other deposits, and Stac will only do the related journal entries. 2) Cash - reconciliation of Hi/fn cash accounts, management of Hi/fn cash in the manner currently done through BT Alex Brown, preparation and delivery of cash investment reports as previously done and other duties associated with accounting for cash. 3) Accounts Receivable - collection of and deposit of Hi/fn trade accounts receivable including collection calls and other duties normally associated with the accounts receivable function and not performed by Hi/fn as described above. 4) Inventory - maintenance of accounting records in detail currently maintained, reconciliation of differences between book and physical counts with Hi/fn personnel. 5) General ledger accounts -, preparation and entry of payroll journal entries. 6) Reports - run reports currently run by Stac for Hi/fn including those listed below. Provide Hi/fn personnel access to reporting modules for purpose of designing and running own reports. Income Statement Balance Sheet Departmental expense reports 7) Closing schedules - on a best efforts basis, provide reports listed above by the 7th workday following the end of each month. 8) SEC reports - provide historical (defined as "pre-spinoff") information in addition to normal reports as reasonably requested by Hi/fn for Hi/fn's preparation of SEC filings. 9) Audits and reviews - provide historical information as requested by independent accounts for annual audit and quarterly reviews. 10) Access and turnover - provide Hi/fn personnel with access to accounting systems as authorized by Hi/fn's CFO, assist Hi/fn personnel as reasonably necessary to turn over accounting records and know-how in order for Hi/fn or their appointees to take over the Stac provided accounting functions. 6 7 11) Accounting systems maintenance - maintain accounting systems software in working order and maintain backups of accounting data. 7 EX-10.9 7 EXHIBIT 10.9 1 EXHIBIT 10.9 AGREEMENT dated as of April 1, 1994 between INTERNATIONAL BUSINESS MACHINES CORPORATION, a New York corporation (hereinafter called IBM), and STAC ELECTRONICS, INC., a California corporation (hereinafter called STAC). Each of the parties has the right (as GRANTOR herein) to grant licenses to the other party (as GRANTEE herein) under certain patents and desires to acquire a nonexclusive license under such patents of the other party. Each of the parties expects to continue research and development which will produce further patents and each party may require a nonexclusive license under such patents of the other party. In consideration of the premises and mutual covenants herein contained, IBM and STAC agree as follows: Section 1. Definitions 1.1 "Information Handling System" shall mean any instrumentality or aggregate of instrumentalities primarily designed to compute, classify, process, transmit, receive, retrieve, originate, switch, store, display, manifest, measure, detect, record, reproduce, handle or utilize any form of information, 2 intelligence or data for business, scientific, control or other purposes. 1.2 "IHS Product" shall mean: 1.2.1 one or more Information Handling Systems; 1.2.2 any instrumentality or aggregate of instrumentalities designed for incorporation into an Information Handling System; 1.2.3 one or more IHS Programs; or 1.2.4 any combination of the foregoing. 1.3 "IHS Program" shall mean a plurality of instructions capable of being executed by an Information Handling System, whether or not such instructions are in a machine-readable form and regardless of the medium in which such "IHS Program" is stored, i.e. disk, tape, Read Only Memory, etc. 1.4 "STAC Program" shall mean an IHS Program which is capable of, and primarily designed for, being executed by a Personal System Product. 1.5 "IBM Licensed Patents" shall mean all patents, including utility models and including design patents and registrations for type fonts (but not including any other design patents or -2- 3 registrations), issued or issuing on patent applications entitled to an effective filing date prior to April 1, 1999, under which patents or the applications therefor IBM or any of its Subsidiaries now has the right to grant licenses to STAC of or within the scope granted herein without such grant or the exercise of rights thereunder resulting in the payment of royalties or other consideration by IBM or its Subsidiaries to third parties (except for payments between IBM and Subsidiaries of IBM, and payments to third parties for inventions made by said third parties while employed by IBM or any of its Subsidiaries). The term "IBM Licensed Patents" shall also include said patent applications and any patent reissuing on any of the aforesaid patents. 1.6 "IBM Licensed Products" shall mean IHS Programs. 1.7 "STAC Licensed Patents" shall mean all patents, including utility models and including design patents and registrations for type fonts (but not including any other design patents or registrations), issued or issuing on patent applications entitled to an effective filing date prior to April 1, 1999, under which patents or the applications therefor STAC or any of its Subsidiaries now has the right to grant licenses to IBM of or within the scope granted herein without such grant or the -3- 4 exercise of rights thereunder resulting in the payment of royalties or other consideration by STAC or its Subsidiaries to third parties (except for payments between STAC and Subsidiaries of STAC, and payments to third parties for inventions made by said third parties while employed by STAC or any of its Subsidiaries). The term "STAC Licensed Patents" shall also include said patent applications and any patent reissuing on any of the aforesaid patents. 1.8 "STAC Licensed Products" shall mean STAC Programs. 1.9 "Subsidiary" shall mean a corporation, company or other entity: 1.9.1 more than fifty percent (50%) of whose outstanding shares or securities (representing the right to vote for the election of directors or other managing authority) are, now or hereafter, owned or controlled, directly or indirectly, by a party hereto, but such corporation, company or other entity shall be deemed to be a Subsidiary only so long as such ownership or control exists; or 1.9.2 which does not have outstanding shares or securities, as may be the case in a partnership, joint venture or unincorporated association, but more than fifty percent -4- 5 (50%) of whose ownership interest representing the right to make the decisions for such corporation, company or other entity is, now or hereafter, owned or controlled, directly or indirectly, by a party hereto, but such corporation, company or other entity shall be deemed to be a Subsidiary only so long as such ownership or control exists. 1.10 "Licensed Patents" shall mean IBM Licensed Patents and STAC Licensed Patents. 1.11 "Licensed Products" shall mean IBM Licensed Products and STAC Licensed Products. 1.12 "Personal System Product" shall mean an IHS Product which does not include one or more general or special purpose processing units primarily designed for operating under any of the following IBM operating systems or emulations or follow-on extensions thereof: VM, MVS, VSE, System 360, System 370, System 390 and OS/400. Section 2. Licenses 2.1 IBM, on behalf of itself and its Subsidiaries, grants to STAC a worldwide, fully paid-up, nonexclusive license under the -5- 6 IBM Licensed Patents to make, use, lease, license, sell and otherwise transfer STAC Licensed Products and to combine such STAC Licensed Products with IHS Products; provided, however, that such license shall not be construed to cover the manufacture, lease, sale or other transfer of any IHS Product per use which forms a part of such combination unless otherwise licensed hereunder. In the event that neither IBM nor any of its Subsidiaries has the right to grant a license under any particular IBM Licensed Patent of the scope set forth above in this Section 2.1, then the license granted herein under said IBM Licensed Patent shall be o the broadest scope which IBM or any of its Subsidiaries has the right to grant within the scope set forth above. 2.2 STAC, on behalf of itself and its Subsidiaries, grants to IBM a worldwide, fully paid-up, nonexclusive license under the STAC Licensed Patents to make, use, lease, license, sell and otherwise transfer IBM Licensed Products and to combine such IBM Licensed Products with IHS Products; provided, however, that such license shall not be construed to cover the manufacture, lease, sale or other transfer of any IHS Product per use which forms a part of such combination unless otherwise licensed hereunder. -6- 7 In the event that neither STAC nor any of its Subsidiaries has the right to grant a license under any particular STAC Licensed Patent of the scope set forth above in this Section 2.2, then the license granted herein under said STAC Licensed Patent shall be of the broadest scope which STAC or any of its Subsidiaries has the right to grant within the scope set forth above. 2.3 IBM, on behalf of itself and its Subsidiaries, hereby grants to STAC's customers a worldwide, fully paid-up, nonexclusive license under only those IBM Licensed Patents having claims that would be infringed by the combination of STAC Licensed Products with IHS Products and only for the formation of combinations of STAC Licensed Products with IHS Products, irrespective of the source of the IHS Products; provided, however, that such license shall not be construed to cover the manufacture, lease, sale or other transfer of any IHS Product per use which forms a part of such combination. 2.4 STAC, on behalf of itself and its Subsidiaries, hereby grants to IBM's customers (excluding Microsoft Corporation or any of its Subsidiaries) a worldwide, fully paid-up, nonexclusive license under only those STAC Licensed Patents having claims that would be infringed by the combination of IBM Licensed Products with IHS Products and only for the formation of combinations of -7- 8 IBM Licensed Products with IHS Products, irrespective of the source of the IHS Products; provided, however, that such license shall not be construed to cover the manufacture, lease, sale or other transfer of any IHS Product per use which forms a part of such combination. 2.5 Except as provided in Sections 2.3 and 2.4, no license or immunity is granted by either party hereto either directly or by implication, estoppel or otherwise to any third parties acquiring items from either party for the combination of items licensed hereunder with other items or for the use of such combination. Notwithstanding any other provision of this Agreement, IBM shall have no right or power to grant to Microsoft Corporation or any of its Subsidiaries any license, whether express or implied, under any STAC Licensed Patents. The foregoing limitation shall apply to any transaction between IBM (or its Subsidiaries) and Microsoft Corporation (or its Subsidiaries) involving IBM products which include compression/decompression functions and which would have the effect of, or be equivalent to, conveying to Microsoft Corporation (or its Subsidiaries) a license under any STAC Licensed Patents. Any such products licensed to Microsoft Corporation (or its Subsidiaries) shall be considered IBM Licensed Products only to the extent that STAC has granted to Microsoft Corporation a license under the STAC Licensed Patents. -8- 9 2.6 Except as provided in Section 3, neither party shall have the right to grant sublicenses to others. Section 3. Extension of License to Subsidiaries 3.1 The licenses granted herein shall include the right of the parties hereto to sublicense their respective Subsidiaries and the right of such sublicensed Subsidiaries to sublicense other Subsidiaries. Each sublicensed Subsidiary shall be bound by the terms and conditions of this Agreement. If a Subsidiary ceases to be a Subsidiary and holds any patents under which a party hereto is licensed, such licenses will continue for the life of such patents. Any sublicense granted to a Subsidiary shall terminate on the date such Subsidiary ceases to be a Subsidiary. 3.2 In the event a sublicensed Subsidiary of one party hereto is an Operating Subsidiary (as hereinafter defined) at the time it ceases to be a Subsidiary, and, with the written approval of said one party, requests in writing, within one hundred and eighty (180) days after ceasing to be a Subsidiary, a license agreement with the other party hereto upon terms and conditions substantially identical with the terms and conditions of this Agreement, as granted to said one party, (except as hereinafter provided) the other party hereto agrees that it will enter into such license agreement forthwith. An Operating Subsidiary shall -9- 10 be any Subsidiary of one party hereto which at the time it ceases to be a Subsidiary has all of the following: 3.2.1 a line of marketable products; 3.2.2 patents or other intellectual property relating to the line of marketable products; 3.2.3 tangible assets at least equivalent in value to the lesser of twenty-five million U.S. dollars ($25,000,000) or twenty percent (20%) of the total tangible assets of the party of which it was formerly a Subsidiary; and 3.2.4 at the time of entry into such license agreement, it is not a corporation, company or other entity: 3.2.4.1 more than fifty percent (50%) of whose outstanding shares or securities (representing the right to vote for the election of directors or other managing authority) are; or 3.2.4.2 which does not have outstanding shares or securities, as may be the case in a partnership, joint venture or unincorporated association, but more than fifty percent (50%) of whose ownership interest representing the right to make the decisions for such corporation, company or other entity is; owned or controlled, directly or indirectly, by a third party. -10- 11 Any such agreement with an Operating Subsidiary shall differ from this Agreement in the following respects: 3.2.5 this Section 3.2 and Sections 4 and shall be omitted; 3.2.6 the name of the Operating Subsidiary shall be substituted for the name of the party hereto of which it was formerly a Subsidiary; and 3.2.7 in the event that such Operating Subsidiary is or becomes organized under the laws of a country different from that of the party hereto of which it was formerly a Subsidiary, such license agreement shall contain such additional terms and conditions (other than royalty provisions) as may exist in patent license agreements between the other party hereto and other entities organized under the laws of the same country. Section 4. Release 4.1 Each party, on behalf of itself and its Subsidiaries which are Subsidiaries as of the date of this Agreement, hereby irrevocably releases the other party, its Subsidiaries which are Subsidiaries as of the date of this Agreement, and its and their respective customers, mediate and immediate, from any and all claims of infringement of any of its Licensed Patents, which claims have been made or which might be made at any time, with -11- 12 respect to any item manufactured, used, leased, sold or otherwise transferred by the other party or its Subsidiaries before the effective date of this Agreement, and with respect to any method practiced in the manufacture or use of such item, to the extent that such item or method would have been licensed hereunder had it been manufactured, used, leased, sold or otherwise transferred or practiced by the other party after the date of this Agreement. The release contained herein shall not apply to any person other than those specified in this Section 4.1 and shall not apply to manufacture by any person other than a party to this Agreement or its Subsidiary. Section 5. Other License Rights 5.1 It is recognized that the parties hereto or their respective Subsidiaries may, as of the date set forth above, have the right to grant licenses under one or more patents of any country, including utility models and including design patents and registrations for type fonts (but not including any other design patents or registrations), issuing on patent applications entitled to an effective filing date prior to April 1, 1999, but that such grant or the exercise of rights thereunder will result in payment of royalties or other consideration by GRANTOR or its Subsidiaries to third parties. Each party (as GRANTOR herein) agrees that, upon written request, it will grant to the other -12- 13 party to the extent and subject to the terms and conditions under which it then has the right to do so, a license of the broadest scope which GRANTOR has the right to grant at any time but of no greater scope than the scope of the licenses granted herein with respect to any such patent. Such license shall be granted under a separate agreement, upon payment of the same royalty or other consideration as that which GRANTOR or any of its Subsidiaries is obligated to pay to a third party because of the grant of such license or the exercise of rights thereunder. 5.2 Upon written request by a party, the other party will inform the requesting party of those patents or patent applications coming within the scope of Section 5.1 promptly after receipt of such request. Section 6. Term of Agreement 6.1 The term of this Agreement shall be from the date hereof until the expiration of the last to expire of the Licensed Patents, unless terminated pursuant to Section 6.3. 6.2 In the event that more than fifty percent (50%) of the outstanding shares or securities (representing the right to vote for the election of directors or other managing authority) of one party hereto hereafter become owned or controlled, directly or -13- 14 indirectly, by a third party, said one party shall promptly give notice of such acquisition to the other party. If said one party does not have outstanding shares or securities, such acquisition shall be deemed to occur if more than fifty percent (50%) of its ownership interest representing the right to make decisions for said party is acquired by said third party. All rights granted hereunder to said one party together with any sublicenses theretofore granted by said one party shall terminate on a termination date one hundred and eighty (180) days after the date of such acquisition. In the event of such acquisition, 6.2.1 all licenses granted herein to said other party under any patents issuing on patent applications having an effective filing date subsequent to said termination date and under said patent applications shall terminate; and 6.2.2 said one party shall be entitled, upon request made within one hundred and eighty (180) days after the date of such acquisition to a nontransferable, nonexclusive, royalty free license under said other party's Licensed Patents (including the right to sublicense its Subsidiaries) to make, use, lease and sell only products of the same type manufactured and marketed by said one party within the licenses granted in this Agreement prior to such -14- 15 acquisition, except that any such license agreement shall differ from this Agreement in the following respects: 6.2.2.1 the license grant to said one party in Section 2.1 or 2.2, as the case may be, shall be limited in amount to annual sales equal to the sales of Licensed Products (IBM Licensed Products if IBM is said party or STAC Licensed Products if STAC is said party) by said one party and its sublicensed Subsidiaries which are included in such acquisition in the consecutive twelve-month period that immediately precedes the date of such acquisition plus forty million dollars ($40,000,000.); and 6.2.2.2 the license grant to said one party in Section 2.1 or 2.2, as the case may be, shall include a grant of a royalty bearing license to said one party by said other party for all other sales of said one party's Licensed Products (as defined in this Agreement) under said party's Licensed Patents (as defined in this Agreement) under said other party's then standard licensing practice and on such standard terms and conditions as said other party is offering comparable royalty bearing licenses at the time such a license agreement is requested. -15- 16 6.3 This Agreement, and all licenses granted hereunder, shall be irrevocable, except that STAC may terminate this Agreement only within 30 days after 12 months after delivery by STAC to IBM of Licensed Programs, Related Materials and Development Environment under the License Agreement between the parties (Number P94124) and only to the extent IBM has not provided STAC with written notice of the commencement of the Delivery Period under such License Agreement. In order for such termination to be effective, STAC must inform IBM, in writing, within the 30 day period specified above, of its intention to terminate this Agreement, in which case such termination will be effective 60 days after receipt of such written notice. All Licensed Products of either party made to completion, licensed, sold, or otherwise transferred prior to the effective date of termination shall continue to be licensed under the other party's Licensed Patents irrespective of the termination of this Agreement. Section 7. Warranty 7.1 Each party represents and warrants that it has the full right and power to grant the licenses and release set forth in Sections 2 and 4 and that there are no outstanding agreements, assignments or encumbrances inconsistent with the provisions of said Sections or with any other provision of this Agreement. Each party (as a GRANTOR) further represents and warrants that -16- 17 prior to the execution of this Agreement it has informed the other party of any patent originating from inventions made by employees of GRANTOR or its Subsidiaries, which patent is now owned by GRANTOR or its Subsidiaries and which patent, owing to prior arrangements with third parties, does not, or will not, qualify as its Licensed Patent, under which licenses are granted of the full scope set forth in Section 2. Neither party makes any other representations or warranties, express or implied, nor does either party assume any liability in respect of any infringement of patents or other rights of third parties owing to the other party's operation under the license herein granted. Section 8. Communications 8.1 Any notice or other communication required or permitted to be made or given to either party hereto pursuant to this Agreement shall be sent to such party by registered airmail (except that registered or certified mail may be used where delivery is in the same country as mailing), postage prepaid, addressed to it at its address set forth below, or to such other address as it shall designate by written notice given to the other party, and shall be deemed to have been made or given on the date of mailing. The addresses are as follows: -17- 18 8.1.1 For IBM, IBM Director of Licensing International Business Machines Corporation 208 Harbor Drive Stamford, CT 06904 8.1.2 For STAC, John Witzel, Vice President STAC Electronics, Inc 5993 Avenida Encinas Carlsbad, California 92008 with copies to: Gary Clow, President STAC Electronics, Inc 5993 Avenida Encinas Carlsbad, California 92008 and Robert Steinberg, Esq. IRELL & MANELLA 1800 Avenue of the Stars, Suite 900 Los Angeles, CA 90067-4276 Section 9. Assignments 9.1 Neither party shall assign, or grant any right in conflict with the rights granted under this Agreement under, any of its patents, or the applications therefor, which qualify as Licensed Patents, or any of its patents or the applications therefor or rights which are subject to the other party's rights pursuant to Section 5, unless such assignment or grant is made subject to the terms and conditions of this Agreement. Subject to the provisions of Section 3, neither party shall assign under any circumstances any of its rights or privileges hereunder without -18- 19 the prior written consent of the other party, such consent not to be unreasonably withheld. Notwithstanding the foregoing, each party may withhold its consent for any reason in the event the other party attempts to sell, barter, trade, or otherwise assign in gross its rights under this Agreement or if the other party is in bankruptcy. Any attempted assignment in derogation of the foregoing shall be void, ab initio. In the event that either party consents to an assignment of the other's rights under this Agreement, such assigned rights shall be limited in scope similar to the limitations set forth in Sections 6.2.2 and 6.2.2.1 relating to acquisition, i.e. to products of the same type and with an annual sales limit as specified in Section 6.2.2.1 The parties recognize that the terms of this Agreement reflect the unique patent licensing needs of the parties hereto, including, but not limited to, the scope of the license, the definition of the STAC Licensed Products and IBM Licensed Products and the projected needs under each other's patents. Therefore, the parties hereto acknowledge that this Agreement is personal to each of them and is not assumable or assignable by either party in bankruptcy without the consent of the other (Bankruptcy Code Section 365(c)(1)). -19- 20 Section 10. Know-How and Trade Secrets 10.1 No license or other right is granted herein to either party, directly or by implication, estoppel or otherwise, with respect to any trade secrets or know-how, and no such license or other right shall arise from the consummation of this Agreement or from any acts, statements or dealings leading to such consummation. Except as specifically provided herein, neither party is required hereunder to furnish or disclose to the other any technical or other information. Section 11. Applicable Law 11.1 This Agreement shall be construed, and the legal relations between the parties hereto shall be determined, in accordance with the law of the State of New York. Section 12. Miscellaneous 12.1 Nothing contained in this Agreement shall be construed as a warranty or representation by either party as to the validity or scope of any of its Licensed Patents and either party is free to contest in any proceeding said validity or scope. 12.2 Nothing contained in this Agreement shall be construed as conferring any right to use in advertising, publicity, or other promotional activities any name, trade name, trademark, or other -20- 21 designation of either party hereto (including any contraction, abbreviation or simulation of any of the foregoing); and each party hereto agrees not to use or refer to this Agreement or any provision thereof in any promotional activity associated with apparatus licensed hereunder, without the express written approval of the other party. 12.3 Nothing contained in this Agreement shall be construed as conferring on either party any license or other right to copy the exterior design of the products of the other party. 12.4 Nothing contained in this Agreement shall be construed as conferring any rights by implication, estoppel or otherwise, to or under copyrights or mask work or similar rights, or with respect to IHS Programs under any form of statutory protection now existing or hereafter enacted, in any country or countries, wherein the copying of an IHS Program is a requisite of infringement under such form of protection. 12.5 Nothing contained in this Agreement shall be construed as limiting the rights which the parties have outside the scope of the licenses granted hereunder, or restricting the right of either party or any of its Subsidiaries to make, have made, use, -21- 22 lease, sell or otherwise dispose of any particular product or products not herein licensed. 12.6 Each party shall, upon request from the other party sufficiently identifying any patent or patent application, inform the other party as to the extent to which said patent is subject to the licenses and rights granted hereunder. If such licenses or rights under said patent or patent application are restricted in scope, copies of all pertinent provisions of any contract or other arrangement creating such restrictions shall, upon request, be furnished to the party making such request, unless such disclosure is prevented by such contract, and in that event a statement of the nature of such restriction will be provided. 12.7 Neither of the parties hereto, nor any of their respective Subsidiaries shall be required hereunder to file any patent application, or to secure any patent or patent rights, or to maintain any patent in force, or to provide copies of patent applications to the other party or its Subsidiaries, or to disclose any inventions described or claimed in such patent applications. 12.8 Neither party shall have any obligation hereunder to institute any action or suit against third parties for -22- 23 infringement of any of its Licensed Patents or to defend any action or suit brought by a third party which challenges or concerns the validity of any of its Licensed Patents. In addition, neither party shall have any right to institute any action or suit against third parties for infringement of any of the other party's Licensed Patents. 12.9 Licensed Products leased, sold or otherwise transferred by a party hereto or its sublicensed Subsidiary shall be considered to be licensed under any Licensed Patent which at any time covers such Licensed Products, notwithstanding that the Licensed Product has been re-leased, re-sold or re-transferred by any entity in the same or another country. 12.10 This Agreement will not be binding upon the parties until it has been signed hereinbelow by or on behalf of each party, in which event it shall be effective as of the date first above written. No amendment or modification hereof shall be valid or binding upon the parties unless made in writing and signed as aforesaid. This Agreement and any other agreements specifically referred to herein embody the entire understanding of the parties with respect to the subject matter hereof and merges all prior discussions between them, and neither of the parties shall be bound by any conditions, definitions, warranties, understandings -23- 24 or representations with respect to the subject matter hereof other than as expressly provided herein. 12.11 If any Section of this Agreement is found by competent authority to be invalid, illegal or unenforceable in any respect for any reason, the validity, legality and enforceability of any such Section in every other respect and the remainder of this Agreement shall continue in effect so long as the Agreement still expresses the intent of the parties. If the intent of the parties cannot be preserved, this Agreement shall be either renegotiated or terminated. 12.12 Both parties to this Agreement recognize that, for the term of the licenses granted hereunder, there are continuing licensing obligations on the part of both parties. They therefore acknowledge that, upon the filing of a bankruptcy petition naming either party to this Agreement as the debtor, this Agreement is and shall remain an executory contract under Section 365 of the Bankruptcy Code. 12.13 The headings of the several Sections are inserted for convenience of reference only and are not intended to be a part of or to affect the meaning or interpretation of this Agreement. -24- 25 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly signed as of the date first above written. INTERNATIONAL BUSINESS MACHINES CORPORATION Witness: /s/ FRANCIS W. CASEY By /s/ M.C. PHELPS, JR. ------------------------- ------------------------------- Francis W. Casey M.C. Phelps, Jr. Vice President STAC ELECTRONICS, INC. Witness: /s/ JOHN R. WITZEL By /s/ GARY CLOW ------------------------- ------------------------------- John R. Witzel Gary Clow V.P. Finance & Operations President -25- 26 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly signed as of the date first above written. INTERNATIONAL BUSINESS MACHINES CORPORATION Witness: /s/ FRANCIS W. CASEY By /s/ M.C. PHELPS, JR. ------------------------- ------------------------------- Francis W. Casey M.C. Phelps, Jr. Vice President STAC ELECTRONICS, INC. Witness: /s/ ROBERT MONSOUR By /s/ GARY CLOW ------------------------- ------------------------------- Robert Monsour Gary Clow President -25- EX-10.10 8 EXHIBIT 10.10 1 EXHIBIT 10.10 AGREEMENT dated as of April 1, 1994 between INTERNATIONAL BUSINESS MACHINES CORPORATION, A New York corporation (hereinafter called IBM), and STAC ELECTRONICS, INC., a California corporation (hereinafter called STAC). Each of the parties has granted to the other party licenses under certain of its patents for making, using and selling certain IHS Programs as specified in a license agreement between the parties of even date herewith (hereinafter referred to as the "Program Patent License Agreement"). Each of the parties has the right (as GRANTOR herein) to grant additional licenses to the other party (as GRANTEE herein) under certain patents for making, using and selling additional products and desires to acquire a nonexclusive license under such patents of the other party for making, using and selling additional products. Each of the parties expects to continue research and development which will produce further patents and each party may require a nonexclusive license under such patents of the other party. In consideration of the premises and mutual covenants herein contained, IBM and STAC agree as follows: Section 1. Definitions 1.1 "Information Handling System" shall mean any instrumentality or aggregate of instrumentalities primarily designed to compute, classify, process, transmit, receive, retrieve, originate, switch, store, display, manifest, measure, detect, record, reproduce, handle or utilize any form of information, intelligence or data for business, scientific, control or other purposes. 2 1.2 "IHS Hardware Product" shall mean: 1.2.1 one or more Information Handling Systems; 1.2.2 any instrumentality or aggregate of instrumentalities designed for incorporation into an Information Handling System; or 1.2.3 any combination of the foregoing. 1.3 "IHS Program" shall mean a plurality of instructions capable of being executed by an Information Handling System, whether or not such instructions are in a machine-readable form and regardless of the medium in which such "IHS Program" is stored, i.e. disk, tape, Read Only Memory, etc. 1.4 "STAC Program" shall mean an IHS Program which is capable of, and primarily designed for, being executed by a Personal System Product. 1.5 "IBM Licensed Patent Claims" shall mean all claims of all patents, including utility models and including design patents and registrations for type fonts (but not including any other design patents or registrations), other than claims claiming methods for manufacturing integrated circuits, issued or issuing on patent applications entitled to an effective filing date prior to April 1, 1999, under which patents or the applications therefore IBM or any of its Subsidiaries now has the right to grant licenses to STAC of or within the scope granted herein without such grant or the exercise of rights thereunder resulting in the payment of royalties or other consideration by IBM or its Subsidiaries to third parties (except for payments between IBM and Subsidiaries of IBM, and payments to third parties for inventions made by said third parties while employed by IBM or any of its Subsidiaries). The term "IBM Licensed Patent Claims" -2- 3 shall also include the claims of said patent applications and any patent reissuing on any of the aforesaid patents, other than claims claiming methods for manufacturing integrated circuits. 1.6 "IBM Licensed Products" shall mean IHS Hardware Products, except that those portions of IHS Hardware Products made for a third party which incorporates said third party's design for Lossless Data Compression and/or Lossless Data Decompression shall not be considered IBM Licensed Products. 1.7 "STAC Licensed Patent Claims" shall mean all claims of all patents, including utility models and including design patents and registrations for type fonts (but not including any other design patents or registrations), issued or issuing on patent applications entitled to an effective filing date prior to April 1, 1999, under which patents or the applications therefor STAC or any of its Subsidiaries now has the right to grant licenses to IBM of or within the scope granted herein without such grant or the exercise of rights thereunder resulting in the payment of royalties or other consideration by STAC or its Subsidiaries to third parties (except for payments between STAC and Subsidiaries of STAC, and payments to third parties for inventions made by said third parties while employed by STAC or any of its Subsidiaries). The term "STAC Licensed Patent Claims" shall also include said patent applications and any patent reissuing on any of the aforesaid patents. 1.8 "STAC Licensed Products" shall mean Lossless Data Compression Products, except that those portions of Lossless Data Compression Products made for a third party which incorporate said third party's design for Lossless Data Compression and/or -3- 4 Lossless Data Decompression shall not be considered STAC Licensed Products. 1.9 "Subsidiary" shall mean a corporation, company or other entity: 1.9.1 more than fifty percent (50%) of whose outstanding shares or securities (representing the right to vote for the election of directors or other managing authority) are, now or hereafter, owned or controlled, directly or indirectly, by a party hereto, but such corporation, company or other entity shall be deemed to be a Subsidiary only so long as such ownership or control exists; or 1.9.2 which does not have outstanding shares or securities, as may be the case in a partnership, joint venture or unincorporated association, but more than fifty percent (50%) of whose ownership interest representing the right to make the decisions for such corporation, company or other entity is, now or hereafter, owned or controlled, directly or indirectly, by a party hereto, but such corporation, company or other entity shall be deemed to be a Subsidiary only so long as such ownership or control exists. 1.10 "Licensed Patent Claims" shall mean IBM Licensed Patent Claims and STAC Licensed Patent Claims. 1.11 "Personal System Product" shall mean an IHS Product which does not include one or more general or special purpose processing units primarily designed for operating under any of the following IBM operating systems or emulations or follow-on extensions thereof: VM, MVS, VSE, System 360, System 370, System 390 and OS/400. -4- 5 1.12 "Lossless Data Compression" shall mean a reducing process by which a contiguous string of digital data is reduced to a shorter string of digital data in a manner intended to permit the recovery, upon application of a recovery process of all of the data so reduced, i.e., without loss of any of the data subject to such reducing process. 1.13 "Lossless Data Decompression" shall mean a recovery process by which a string of digital data that was subjected to Lossless Data Compression is recovered in its entirety, i.e., without loss of any of the data subject to such Lossless Data Compression. 1.14 "Lossless Data Compression Product" shall mean an integrated circuit chip primarily designed for performing Lossless Data Compression and/or Lossless Data Decompression on digital data. Lossless Data Compression Product shall include only those portions of an integrated circuit chip that contribute to the function of Lossless Data Compression and/or Lossless Data Decompression and only those portions of ancillary circuitry on the same chip that perform interfacing to other system components; such components include, but are not limited to, memory, processor units, and other peripheral circuits. Such ancillary circuitry includes register circuits and memory control circuits, but does not include circuitry which performs functions wherein some of the digital data is lost and not recovered following compression and decompression processes. Section 2. Licenses 2.1 Subject to the provisions of 2.3, each party (as GRANTOR herein), on behalf of itself and its Subsidiaries, grants to the other party (as GRANTEE herein) a worldwide, irrevocable, fully -5- 6 paid-up, nonexclusive license under GRANTOR's Licensed Patent Claims: 2.1.1 to make, use, lease, sell and otherwise transfer GRANTEE's Licensed Products and to practice any method or process involved in the manufacture or use thereof; 2.1.2 in the case of IBM, to combine IBM Licensed Products with IHS Programs licensed pursuant to the Program Patent License Agreement for the duration of said Program Patent License Agreement; 2.1.3 in the case of STAC, to combine STAC Licensed Products with STAC Programs licensed pursuant to the Program Patent License Agreement for the duration of said Program Patent License Agreement; and 2.1.4 to have made GRANTEE'S Licensed Products by another manufacturer for the use, lease, sale or other transfer by GRANTOR, only when all of the following conditions are met: 2.1.4.1 the designs, specifications and working drawings for the manufacture of said GRANTEE'S Licensed Products are furnished by, and originate with, GRANTEE (or with GRANTEE's contractor, whether or not said contractor is also said other manufacturer, provided that any patents and patent applications, based upon inventions made in the course of the contract, which cover any of GRANTEE's Licensed Product or any portion thereof which is the subject of the contract, are licensable by GRANTEE to GRANTOR hereunder). and 2.1.4.2 said designs, specifications and working drawings are in sufficient detail that no additional designing by the manufacturer is required other than adaptation to the production processes and standards normally used by the manufacturer which changes the characteristics of GRANTEE's Licensed Products only to a negligible extent. -6- 7 GRANTEE shall be deemed to have authorized said other manufacturer to make GRANTEE's Licensed Products under the license granted to GRANTEE in this Section 2.1.4 when both the aforesaid conditions are fulfilled, in the absence of a written agreement to the contrary between GRANTEE and said other manufacturer. Upon written request, GRANTEE shall inform GRANTOR whether, and if so to what extent, any manufacturer identified by GRANTOR is operating under the licensed granted to GRANTEE in this Section 2.1.4. In the event that neither GRANTOR nor any of its Subsidiaries has the right to grant a license under any particular Licensed Patent Claim of the scope set forth above in this Section 2, then the license granted herein under said Licensed Patent Claim shall be of the broadest scope which GRANTOR or any of its Subsidiaries has the right to grant within the scope set forth above. 2.2 Each party (as GRANTOR herein), on behalf of itself and its Subsidiaries, hereby grants to the users of the other's licensed products manufactured, leased, sold or otherwise transferred by the other party (as GRANTEE herein) or its sublicensed Subsidiaries, an immunity from suit under GRANTOR's Licensed Patent Claims for the formation and use of any combination of GRANTEE's Licensed Products with IHS Programs, whether or not the IHS Programs are furnished by GRANTEE; provided, however, that such immunity shall not be construed to cover any apparatus or any IHS Program per se. 2.3 Except as provided in Sections 2.2, no license or immunity is granted by either party hereto either directly or by implication, estoppel or otherwise to any third parties acquiring items from either party for the combination of items licensed hereunder with other items or for the use of such combination. -7- 8 2.4 Except as provided in Section 3, neither party shall have the right to grant sublicenses to others. Section 3. Extension of License to Subsidiaries 3.1 The licenses granted herein shall include the right of the parties hereto to sublicense their respective Subsidiaries and the right of such sublicensed Subsidiaries to sublicense other Subsidiaries. Each sublicensed Subsidiary shall be bound by the terms and conditions of this Agreement. If a Subsidiary ceases to be a Subsidiary and holds any patents under which a party hereto is licensed, such licenses will continue for the life of such patents. Any sublicense granted to a Subsidiary shall terminate on the date such Subsidiary ceases to be a Subsidiary. 3.2 In the event a sublicensed Subsidiary of one party hereto is an Operating Subsidiary (as hereinafter defined) at the time it ceases to be a Subsidiary, and, with the written approval of said one party, requests in writing, within one hundred and eighty (180) days after ceasing to be a Subsidiary, a license agreement with the other party hereto upon terms and conditions substantially identical with the terms and conditions of this Agreement, as granted to said one party, (except as hereinafter provided) the other party hereto agrees that it will enter into such license agreement forthwith. An Operating Subsidiary shall be any Subsidiary of one party hereto which at the time it ceases to be a Subsidiary has all of the following: 3.2.1 a line of marketable products; 3.2.2 patents or other intellectual property relating to the line of marketable products; 3.2.3 tangible assets at least equivalent in value to the lesser of twenty-five million U.S. dollars ($25,000,000) or twenty percent (20%) of the total tangible assets of the -8- 9 party of which it was formerly a Subsidiary; and 3.2.4 at the time of entry into such license agreement, it is not a corporation, company or other entity: 3.2.4.1 more than fifty percent (50%) of whose outstanding shares or securities (representing the right to vote for the election of directors or other managing authority) are; or 3.2.4.2 which does not have outstanding shares or securities, as may be the case in a partnership, joint venture or unincorporated association, but more than fifty percent (50%) of whose ownership interest representing the right to make the decisions for such corporation, company or other entity is; owned or controlled, directly or indirectly, by a third party. Any such agreement with an Operating Subsidiary shall differ from this Agreement in the following respects: 3.2.5 this Section 3.2 and Sections 4 and shall be omitted; 3.2.6 the name of the Operating Subsidiary shall be substituted for the name of the party hereto of which it was formerly a Subsidiary; and 3.2.7 in the event that such Operating Subsidiary is or becomes organized under the laws of a country different from that of the party hereto of which it was formerly a Subsidiary, such license agreement shall contain such additional terms and conditions (other than royalty provisions) as may exist in patent license agreements between the other party hereto and other entities organized under the laws of the same country. -9- 10 Section 4. Release 4.1 Each party, on behalf of itself and its Subsidiaries which are Subsidiaries as of the date of this Agreement, hereby irrevocably releases the other party, its Subsidiaries which are Subsidiaries as of the date of this Agreement, and its and their respective customers, mediate and immediate, from any and all claims of infringement of any of its Licensed Patent Claims, which claims have been made or which might be made at any time, with respect to any item manufactured, used, leased, sold or otherwise transferred by the other party or its Subsidiaries before the effective date of this Agreement, and with respect to any method practiced in the manufacture or use of such item, to the extent that such item or method would have been licensed hereunder had it been manufactured, used, leased, sold or otherwise transferred or practiced by the other party after the date of this Agreement. The release contained herein shall not apply to any person other than those specified in this Section 4.1 and shall not apply to manufacture by any person other than a party to this Agreement or its Subsidiary. Section 5. Other License Rights 5.1 It is recognized that the parties hereto or their respective Subsidiaries may, as of the date set forth above, have the right to grant licenses under one or more patents of any country, including utility models and including design patents and registrations for type fonts (but not including any other design patents or registrations), issuing on patent applications entitled to an effective filing date prior to April 1, 1999, but that such grant or the exercise of rights thereunder will result in payment of royalties or other consideration by GRANTOR or its Subsidiaries to third parties. Each party (as GRANTOR herein) agrees that, upon written request, it will grant to the other -10- 11 party to the extent and subject to the terms and conditions under which it then has the right to do so, a license of the broadest scope which GRANTOR has the right to grant at any time but of no greater scope than the scope of the licenses granted herein with respect to any such patent. Such license shall be granted under a separate agreement, upon payment of the same royalty or other consideration as that which GRANTOR or any of its Subsidiaries is obligated to pay to a third party because of the grant of such license or the exercise of rights thereunder. 5.2 Upon written request by a party, the other party will inform the requesting party of those patents or patent applications coming within the scope of Section 5.1 promptly after receipt of such request. Section 6. Term of Agreement 6.1 The term of this Agreement shall be from the date hereof until the expiration of the last to expire of the Licensed Patent Claims. 6.2 In the event that more than fifty percent (50%) of the outstanding shares or securities (representing the right to vote for the election of directors or other managing authority) of one party hereto hereafter become owned or controlled, directly or indirectly, by a third party, said one party shall promptly give notice of such acquisition to the other party. If said one party does not have outstanding shares or securities, such acquisition shall be deemed to occur if more than fifty percent (50%) of its ownership interest representing the right to make decisions for said party is acquired by said third party. All rights granted hereunder to said one party together with any sublicenses theretofore granted by said one party shall terminate on a -11- 12 termination date one hundred and eighty (180) days after the date of such acquisition. In the event of such acquisition, 6.2.1 all licenses granted herein to said other party under any patents issuing on patent applications having an effective filing date subsequent to said termination date and under said patent applications shall terminate; and 6.2.2 said one party shall be entitled, upon request made within one hundred and eighty (180) days after the date of such acquisition to a nontransferable, nonexclusive, royalty free license under said other party's Licensed Patent Claims (including the right to sublicense its Subsidiaries) to make, use, lease and sell only products of the same type manufactured and marketed by said one party within the licenses granted in this Agreement prior to such acquisition, except that any such license agreement shall differ from this Agreement in the following respects: 6.2.2.1 the license grant to said one party in Section 2.1 shall be limited in amount to annual sales equal to the sales of licensed products (IBM Licensed Products if IBM is said party or STAC Licensed Products if STAC is said party) by said one party and its sublicensed Subsidiaries which are included in such acquisition in the consecutive twelve-month period that immediately precedes the date of such acquisition plus eight million dollars ($8,000,000.); provided, however, in the event that at the time of acquisition this Agreement and the Program Patent License Agreement are owned by said one party, the cumulative limitation on annual sales for both license agreements shall be sales in the consecutive twelve-month period that immediately -12- 13 precedes the date of such acquisition plus forty-eight million dollars ($48,000,000.); and 6.2.2.2 the license grant to said one party in Section 2.1 shall include a grant of a royalty bearing license to said one party by said other party for all other sales of said one party's Licensed Products (as defined in this Agreement) under said party's Licensed Patent Claims (as defined in this Agreement) under said other party's then standard licensing practice and on such standard terms and conditions as said other party is offering comparable royalty bearing licenses at the time such a license agreement is requested. Section 7. Warranty 7.1 Each party represents and warrants that it has the full right and power to grant the licenses and release set forth in Sections 2 and 4 and that there are no outstanding agreements, assignments or encumbrances inconsistent with the provisions of said Sections or with any other provision of this Agreement. Each party (as a GRANTOR) further represents and warrants that prior to the execution of this Agreement it has informed the other party of any patent originating from inventions made by employees of GRANTOR or its Subsidiaries, which patent is now owned by GRANTOR or its Subsidiaries and which patent, owing to prior arrangements with third parties, does not, or will not, qualify as its Licensed Patent Claim, under which licenses are granted of the full scope set forth in Section 2. Neither party makes any other representations or warranties, express or implied, nor does either party assume any liability in respect of any infringement of patents or other rights of third parties owing to the other party's operation under the license herein granted. -13- 14 Section 8. Communications 8.1 Any notice or other communication required or permitted to be made or given to either party hereto pursuant to this Agreement shall be sent to such party by registered airmail (except that registered or certified mail may be used where delivery is in the same country as mailing), postage prepaid, addressed to it at its address set forth below, or to such other address as it shall designate by written notice given to the other party, and shall be deemed to have been made or given on the date of mailing. The addresses are as follows: 8.1.1 For IBM, IBM Director of Licensing International Business Machines Corporation 208 Harbor Drive Stamford, CT 06904 8.1.2 For STAC, John Witzel, Vice President STAC Electronics, Inc 5993 Avenida Encinas Carlsbad, California 92008 with copies to: Gary Clow, President STAC Electronics, Inc 5993 Avenida Encinas Carlsbad, California 92008 and Robert Steinberg, Esq. IRELL & MANELLA 1800 Avenue of the Stars, Suite 900 Los Angeles, CA 90067-4276 Section 9. Assignments 9.1 Neither party shall assign, or grant any right in conflict -14- 15 with the rights granted under this Agreement under, any of its patents, or the applications therefor, which qualify as Licensed Patent Claims, or any of its patents or the applications therefor or rights which are subject to the other party's rights pursuant to Section 5, unless such assignment or grant is made subject to the terms and conditions of this Agreement. Subject to the provisions of Section 3, neither party shall assign under any circumstances any of its rights or privileges hereunder without the prior written consent of the other party. Any attempted assignment in derogation of the foregoing shall be void, ab initio. The parties recognize that the terms of this Agreement reflect the unique patent licensing needs of the parties hereto, including, but not limited to, the scope of the license, the definition of the STAC Licensed Products and IDM Licensed Products and the projected needs under each other's patents. Therefore, the parties hereto acknowledge that this Agreement is personal to each of them and is not assumable or assignable by either party in bankruptcy without the consent of the other (Bankruptcy Code Section 365(c)(1)). Section 10. Know-How and Trade Secrets 10.1 No license or other right is granted herein to either party, -15- 16 directly or by implication, estoppel or otherwise, with respect to any trade secrets or know-how, and no such license or other right shall arise from the consummation of this Agreement or from any acts, statements or dealings leading to such consummation. Except as specifically provided herein, neither party is required hereunder to furnish or disclose to the other any technical or other information. Section 11. Payment 11.1 As additional consideration for the license, immunities, release and other rights granted to IBM herein, IBM shall pay to STAC the total sum of one million, two hundred thousand dollars ($1,200,000.00) by June 1, 1994. Section 12. Miscellaneous 12.1 Nothing contained in this Agreement shall be construed as a warranty or representation by either party as to the validity or scope of any of its Licensed Patent Claims and either party is free to contest in any proceeding said validity or scope. 12.2 Nothing contained in this Agreement shall be construed as conferring any right to use in advertising, publicity, or other promotional activities any name, trade name, trademark, or other designation of either party hereto (including any contraction, -16- 17 abbreviation or simulation of any of the foregoing); and each party hereto agrees not to use or refer to this Agreement or any provision thereof in any promotional activity associated with apparatus licensed hereunder, without the express written approval of the other party. 12.3 Nothing contained in this Agreement shall be construed as conferring on either party any license or other right to copy the exterior design of the products of the other party. 12.4 Nothing contained in this Agreement shall be construed as conferring any rights by implication, estoppel or otherwise, to or under copyrights or mask work or similar rights, or with respect to IHS Programs under any form of statutory protection now existing or hereafter enacted, in any country or countries, wherein the copying of an IHS Program is a requisite of infringement under such form of protection. 12.5 Nothing contained in this Agreement shall be construed as limiting the rights which the parties have outside the scope of the licenses granted hereunder, or restricting the right of either party or any of its Subsidiaries to make, have made, use, lease, sell or otherwise dispose of any particular product or products not herein licensed. -17- 18 12.6 Each party shall, upon request from the other party sufficiently identifying any patent or patent application, inform the other party as to the extent to which said patent is subject to the licenses and rights granted hereunder. If such licenses or rights under said patent or patent application are restricted in scope, copies of all pertinent provisions of any contract or other arrangement creating such restrictions shall, upon request, be furnished to the party making such request, unless such disclosure is prevented by such contract, and in that event a statement of the nature of such restriction will be provided. 12.7 Neither of the parties hereto, nor any of their respective Subsidiaries shall be required hereunder to file any patent application, or to secure any patent or patent rights, or to maintain any patent in force, or to provide copies of patent applications to the other party or its Subsidiaries, or to disclose any inventions described or claimed in such patent applications. 12.8 Neither party shall have any obligation hereunder to institute any action or suit against third parties for infringement of any of its Licensed Patent Claims or to defend any action or suit brought by a third party which challenges or concerns the validity of any of its Licensed Patent Claims. In -18- 19 addition, neither party shall have any right to institute any action or suit against third parties for infringement of any of the other party's Licensed Patent Claims. 12.9 GRANTEE's Licensed Products leased, sold or otherwise transferred by a party or its sublicensed Subsidiary shall be considered to be licensed under any GRANTOR Licensed Patent Claim which at any time covers such GRANTEE Licensed Products, notwithstanding that the GRANTEE Licensed Product has been released, re-sold or re-transferred by any entity in the same or another country. 12.10 This Agreement will not be binding upon the parties until it has been signed hereinbelow by or on behalf of each party, in which event it shall be effective as of the date first above written. No amendment or modification hereof shall be valid or binding upon the parties unless made in writing and signed as aforesaid. This Agreement and any other agreements specifically referred to herein embody the entire understanding of the parties with respect to the subject matter hereof and merges all prior discussions between them, and neither of the parties shall be bound by any conditions, definitions, warranties, understandings or representations with respect to the subject matter hereof other than as expressly provided herein. -19- 20 12.11 If any Section of this Agreement is found by competent authority to be invalid, illegal or unenforceable in any respect for any reason, the validity, legality and enforceability of any such Section in every other respect and the remainder of this Agreement shall continue in effect so long as the Agreement still expresses the intent of the parties. If the intent of the parties cannot be preserved, this Agreement shall be either renegotiated or terminated. 12.12 Both parties to this Agreement recognize that, for the term of the licenses granted hereunder, there are continuing licensing obligations on the part of both parties. They therefore acknowledge that, upon the filing of a bankruptcy petition naming either party to this Agreement as the debtor, this Agreement is and shall remain an executory contract under Section 365 of the Bankruptcy Code. 12.13 The headings of the several Sections are inserted for convenience of reference only and are not intended to be a part of or to affect the meaning or interpretation of this Agreement. 12.14 This Agreement shall be construed, and the legal relations between the parties hereto shall be determined, in accordance with the law of the State of New York. -20- 21 IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly signed as of the date first above written. INTERNATIONAL BUSINESS MACHINES CORPORATION Witness: By: /s/ M.C. PHELPS, JR. -------------------------- /s/ FRANCIS W. CASEY M.C. Phelps, Jr. - ----------------------- Vice President Francis W. Casey STAC ELECTRONICS, INC. By: /s/ ROBERT MONSOUR Witness: -------------------------- Robert Monsour /s/ JOHN R. WITZEL Vice President, - ----------------------- Business Development John R. Witzel -21- EX-10.11 9 EXHIBIT 10.11 1 EXHIBIT 10.11 CONFIDENTIAL LICENSE AGREEMENT THIS LICENSE AGREEMENT (the "Agreement") is made as of the 20th day of June, 1994, by and between Stac Electronics, a California corporation having its main office and place of business at 5993 Avenida Encinas, Carlsbad, California 92008 ("Stac") and Microsoft Corporation having its main office and place of business at One Microsoft Way, Redmond, WA 98052-6399 ("Microsoft"). RECITALS 1. Stac is the owner of the Stac Patents herein defined which embody certain algorithms and techniques that allow lossless compression and decompression of data. Microsoft is the owner of the Microsoft Developer Information herein defined and the Microsoft Patents herein defined which embody certain algorithms and techniques that allow lossless compression and decompression of data. 2. Stac and Microsoft are parties to that certain Settlement Agreement of even date herewith ("Settlement Agreement") which provides for the execution, delivery and performance of this Agreement. NOW, THEREFORE, in consideration of the premises and mutual covenants and agreements herein contained, and subject to the terms and conditions set forth herein, the parties hereto agree as follows: 1. DEFINITIONS 1.1 "MICROSOFT COMPRESSION INTERFACES" means the set of detailed rules, designs, specifications, application programming interfaces, and other information that (a) may be used for and are reasonably required by Stac for interfacing between a Stac lossless data compression software system or program and any Microsoft operating system in a form sufficient to enable such compression software system or program to become installable and workable under the Microsoft operating system, and (b) are either (i) related to preloading a compression software system or program in MS-DOS, (ii) related to interfacing a compression software system with Chicago, or (iii) made available by Microsoft to any third party software developers. 1.2 "DOUBLESPACE" means the algorithms, processes, data formats and other information relating to the lossless data compression and decompression technology included in the commercially available version of the Microsoft Products known as MS-DOS 6.0 and MS-DOS 6.2. 1 2 CONFIDENTIAL 1.3 "DRIVESPACE" means the algorithms, processes, data formats and other information relating to the lossless data compression and decompression technology included in the commercially available version of the Microsoft Product known as MS-DOS 6.22. 1.4 "EFFECTIVE DATE" means the date of this Agreement. 1.5 "INTELLECTUAL PROPERTY RIGHTS" means all applicable copyrights, patents, trade secrets, inventions, processes and know-how. 1.6 "MICROSOFT LICENSED PRODUCT" means any Microsoft Products made, used, sold, or otherwise disposed of by or for Microsoft that are covered by one or more claims of the Stac Patents and/or the Other Stac Patents. Microsoft Licensed Products do not include "private label" products (i.e., products with a source designation different than Microsoft) or other products sold without a designation that Microsoft is the source of the product. 1.7 "MICROSOFT DEVELOPER INFORMATION" means manuals, development tools, application programming interfaces, format specifications and other materials and information, including but not limited to Microsoft Compression Interfaces, that are made available by Microsoft to third-party software developers (in written and machine readable format as available) for the development of products that interoperate with Microsoft Products. 1.8 "MICROSOFT PATENTS" means the claims directed specifically to the Technical Field contained in any and all patents, issued or issuing on patent applications entitled to an effective filing date prior to June 20, 1999, under which patents or the applications therefor Microsoft has the right to grant licenses to Stac, including any and all reissues, reexaminations, divisional, continuation and continuation in part applications (including inventor's certificates and utility models and similar forms of legal protection of any country). A patent claim directed toward a method or apparatus that can be equally applied to a lossless data compression/decompression system as well as a system that does not include lossless data compression/decompression shall not be deemed to fall within the Technical Field solely because it can be used with or applied to lossless data compression/decompression. 1.9 "MICROSOFT PRODUCTS" means any and all computer software products developed by or for Microsoft, including but not limited to MS-DOS, Windows, Windows for Workgroups, Windows NT, Chicago, Daytona and Cairo, in which Microsoft owns or has licensed the Intellectual Property Rights. 1.10 "NET REVENUES" means all sums actually received by Microsoft from sales and licenses of Microsoft Licensed Products, less product returns, discounts, freight and 2 3 CONFIDENTIAL shipping allowances, and all applicable taxes and other governmental levies, including sales and use taxes and export fees. 1.11 "STAC PATENTS" means the claims in U.S. patent numbers 5,016,009 and 4,701,745 and claims directed specifically to the Technical Field contained in any and all patents, issued or issuing on patent applications entitled to an effective filing date prior to June 20, 1999, under which patents or the applications therefor Stac has the right to grant licenses to Microsoft, including any and all reissues, reexaminations, divisional, continuation and continuation in part applications (including inventor's certificates and utility models and similar forms of legal protection of any country). A patent claim directed toward a method or apparatus that can be equally applied to a lossless data compression/decompression system as well as a system that does not include lossless data compression/decompression shall not be deemed to fall within the Technical Field solely because it can be used with or applied to lossless data compression/decompression. 1.12 "STAC PRODUCTS" means any and all computer software products developed by or for Stac, including but not limited to the product called Stacker, in which Stac owns or has licensed the Intellectual Property Rights. 1.13 "OTHER STAC PATENTS" means the patent claims that are not considered to be "Stac Patents" contained in any and all patents issued or issuing on patent applications entitled to an effective filing date prior to June 20, 1999 under which patents therefor Stac has the right to grant licenses to Microsoft. 1.14 "STAC LICENSED PRODUCTS" means any Stac Products made, used, sold or otherwise disposed of by or for Stac that are covered by one or more claims of the Microsoft Patents. Stac Licensed Products do not include "private label" products (i.e., products with a source designation different than Stac) or other products sold without a designation that Stac is the source of the product. 1.15 "TECHNICAL FIELD" means (i) lossless data compression and/or decompression technology, (ii) data formats for lossless data compression/decompression, (iii) file and data management related to lossless data compression/decompression methods and apparatuses, including but not limited to storage and retrieval of losslessly compressed data, disk defragmentation, disk analysis and repair, cache management, preload, and file installation. 2. GRANT OF LICENSE TO MICROSOFT 2.1 GRANT OF LICENSE TO STAC PATENTS. Subject to the terms and conditions hereof including the consideration provided for in Section 2.5.1 below, Stac hereby grants to Microsoft during the Term of this Agreement a worldwide, non-exclusive, non- 3 4 CONFIDENTIAL transferable, non-sublicensable (except as provided in Section 2.4.2), fully paid-up, license under the Stac Patents, to make, have made, use, sell and have sold Microsoft Licensed Products. 2.2 GRANT OF LICENSE TO OTHER STAC PATENTS. Subject to the terms and conditions hereof including the consideration provided for in Section 2.5.2 below, Stac hereby grants to Microsoft a worldwide, non-exclusive, non-transferable, non-sublicensable (except as provided in Section 2.4.2), royalty-bearing, license under the Other Stac Patents to make, have made, use, sell and have sold Microsoft Licensed Products. 2.3 GRANT OF CONVERSION LICENSE. To the extent any such license is required, and only to the extent required, Stac hereby grants to Microsoft a worldwide, non-exclusive, non-transferable, non-sublicensable, royalty-free license under any Stac Intellectual Property Rights necessary for enabling Microsoft to include a conversion mechanism in Microsoft Products for converting users' data compressed by the retail releases of Stacker up to and including version 4.0 into data compressed by Microsoft Products, and to distribute such conversion mechanism through its normal business channels and to authorize users to use such conversion mechanisms. 2.4 RESERVATION OF RIGHTS 2.4.1 NO FOUNDRY RIGHTS. Without limiting the restrictions on "private labelling" as provided in Section 1.6 above, Sections 2.1 and 2.2 shall not be interpreted as granting any rights to Microsoft to manufacture third party products, wherein such products are designed by the third party without substantial input of Microsoft and such products are essentially sold only to that designing third party. 2.4.2 SUBLICENSE RIGHTS. The licenses granted under Sections 2.1 and 2.2 shall provide Microsoft with the rights to sublicense third parties to manufacture, replicate, distribute, license, sell, use or otherwise engage in commercial activity authorized by Microsoft with respect to the Microsoft Licensed Products. Nothing in this Section 2.4.2. shall be interpreted to provide to Microsoft any implied or express license to sublicense to third parties Stac Patents and/or Other Stac Patents separate from the Microsoft Licensed Products. 2.5 CONSIDERATION. 2.5.1 LICENSE FEE FOR STAC PATENTS. Whether or not Microsoft elects to make, have made, use, sell and/or have sold Microsoft Licensed Products, Microsoft agrees to pay Stac a fully paid-up license fee of forty-three million dollars ($43 million). The forty-three million dollars ($43 million) shall be paid by Microsoft to Stac in forty-three (43) consecutive monthly payments of one million dollars ($1 million). Each 4 5 CONFIDENTIAL payment shall be paid by the tenth (10th) calendar day of each month with the initial payment due on July 10, 1994, and subsequent payments due by the tenth (10th) day of each succeeding month, the final payment being due by January 10, 1998. All payments shall be made in U.S. dollars by check or wire transfer, in the case of a wire transfer to a bank account designated by Stac. Microsoft's obligation to make the payments provided for under this Section 2.5.1 is secured by a pledge of shares of Series A Preferred Stock of Stac pursuant to that certain Stock Pledge and Security Agreement between Stac and Microsoft dated of even date herewith. 2.5.1.1 The occurrence of any one or more of the following events shall constitute an "Event of Default" hereunder: (a) Nonpayment of any payment due under Section 2.5.1 within 15 days after Stac gives Microsoft written notice of such nonpayment or default. (b) A material breach of any of the license terms provided in Section 2. 2.5.1.2 If any Event of Default described in Section 2.5.1.1 occurs, the entire amount that remains payable under Section 2.5.1 shall immediately become due and payable without any election or action on the part of Stac. Interest shall accrue from the due date of any payment installment at six percent (6%) per annum, compounded quarterly. If six percent (6%) is adjudicated as being usurious, then the maximum permissible percentage shall apply. Microsoft hereby expressly waives any presentment, demand, protest, notice and right to trial by jury in connection with the payment obligation provided in Section 2.5.1, now or hereafter required by applicable law, and agrees to pay all reasonable costs and expenses of collection, including without limitation reasonable attorneys' fees. In addition to any and all other remedies. Microsoft agrees that, if any Event of Default described in Section 2.5.1.1 occurs, Stac shall be entitled to immediately seek and obtain a temporary restraining order, preliminary and permanent injunction and any other form of relief against Microsoft, causing Microsoft to stop making, using and/or selling any Microsoft Licensed Products, and in connection therewith, Stac shall be excused from posting anything more than a nominal bond and from making any additional showing of irreparable injury. 2.5.2 ROYALTY FEES FOR OTHER STAC PATENTS. For each Other Stac Patent used in Microsoft Licensed Products covered by one or more Other Stac Patents, Microsoft agrees to pay to Stac, within thirty (30) days of first commercial shipment of the first such Microsoft Licensed Product, a prepaid royalty of two hundred fifty dollars ($250,000) which shall be applied to royalty payments by Microsoft to Stac of two percent (2%) of the first fifty million dollars ($50,000 million) of Net Revenues and one percent (1%) of Net Revenues over fifty million dollars ($50 million) generated from the sales of such Microsoft Licensed Products covered by such Other Stac Patent. 5 6 CONFIDENTIAL In the event that Microsoft has already paid license fees to Stac under this Section 2.5.2 for a Microsoft Licensed Product, no additional license fees shall be due hereunder for additional Other Stac Patents covering the same Microsoft Licensed Product. 2.5.2.1 MOST FAVORED NATION STATUS. Should Stac enter into another royalty-bearing license with a third party under the Other Stac Patents, with substantially the same license conditions as set forth in this Agreement for the Other Stac Patents in paragraphs 2.2 and 2.5.2, which has a royalty rate more favorable than the one set forth herein, taking into account any other consideration provided ("Favored Royalty Rate"), then Stac shall have thirty (30) days to inform Microsoft of the existence of such an arrangement and Microsoft shall be entitled to the same Favored Royalty Rate from the date such royalty-bearing license was executed. Microsoft shall have the right to request and conduct confidential, independent audits of third party licenses as provided in the following paragraph. Stac shall maintain complete and accurate records of its license agreements to support and document the consideration exchanged and royalties payable in connection with the license granted under any Other Stac Patents. Such records shall be retained for a period of at least three (3) years after execution of the license agreement. Stac shall, upon written request, during normal business hours, but no more frequently than one time per year, provide access to such records to an independent accounting firm chosen and compensated by Microsoft, for purposes of the audit. Such accounting firm shall be required to sign a reasonable agreement with Stac protecting Stac's confidential information and shall be authorized by Stac to report to Microsoft only the terms of the consideration exchanged and royalties payable under the license agreements examined. In the event that any such audit shall uncover a more favorable royalty rate under the license agreement that was not passed onto Microsoft, Stac shall reimburse Microsoft for the cost of any audit, and royalties to be reimbursed to Microsoft due to the differing royalty rates, with interest thereon at six percent (6%) per annum within ten (10) calendar days of notice of such unreported royalty rate. 2.5.2.2 PAYMENT OF ROYALTIES. Microsoft shall promptly pay to Stac, within thirty (30) days after the conclusion of each calendar quarter the amount of royalties accruing to Stac during such calendar quarter. Payment of royalties to Stac shall be accompanied by a detailed basis for determining the amount of such payment, including but not limited to, the number of units sold, the price for each unit, and the applicable royalty for each unit. 2.5.2.3 AUDIT. Microsoft shall maintain complete and accurate accounting records, in accordance with sound accounting practices, to support and document revenue received and royalties payable in connection with the license granted in Section 2.2 above. Such records shall be retained for a period of at least three (3) years after the royalties to which such records relate have accrued and been paid. 6 7 CONFIDENTIAL Microsoft shall, upon written request, during normal business hours, but no more frequently than one time per year, provide access to such records to an independent accounting firm chosen and compensated by Stac, for purposes of the audit. Such accounting firm shall be required to sign a reasonable agreement with Microsoft protecting Microsoft's confidential information and shall be authorized by Microsoft to report to Stac only the amount of royalties due and payable for the period examined. In the event that any such audit shall uncover a short fall of royalty payments due to Stac of 5% or more, Microsoft shall reimburse Stac for the cost of any audit, and the short fall in royalties due, with interest thereon at six percent (6%) per annum within ten (10) calendar days of notice of such shortfall. 2.5.3 THIRD PARTY ROYALTIES. Notwithstanding the provisions of Section 2.5.1 and 2.5.2, in the event that Microsoft sells Microsoft Licensed Products that are covered by one or more claims of a Stac Patent or Other Stac Patent under which Stac has an ongoing royalty obligation to a third party, then Microsoft agrees (i) to use such patent in full compliance with any agreement between Stac and the third party and, notwithstanding anything contained in this Section 2 to the contrary, (ii) to pay to Stac royalties with respect to sales of such Microsoft Licensed Products at the same royalty rate payable by Stac to such third party to the extent such royalty exceeds any royalty that is otherwise payable by Microsoft to Stac with respect to such Microsoft Licensed Products. Upon written request, Stac agrees to advise Microsoft in writing of any Stac Patents or Other Stac Patents which are subject to ongoing royalty obligations to a third party. 2.5.4 TERMINATION OF ROYALTY PAYMENTS. 2.5.4.1 In the event that either U.S. Patent No. 5,016,009 or 4,701,745 is declared invalid or rendered unenforceable, after a final judgment or reexamination and exhaustion of all appeals therefrom, any remaining Microsoft payments due under Section 2.5.1 shall be reduced by ten percent (10%) for each patent so declared invalid or rendered unenforceable as of the time of such final judgement or reexamination and exhaustion of all appeals. 2.5.4.2 In the event that any claim contained in an Other Stac Patent licensed to Microsoft pursuant to Section 2.2 is declared invalid or rendered unenforceable, after final judgement or reexamination and exhaustion of all appeals therefrom, any Microsoft royalty payments due pursuant to Section 2.5.2 with respect to such claim shall terminate effective as of the time of such final judgement or reexamination and exhaustion of all appeals. 2.5.5 TAXES. All license fees and other amounts to be paid by Microsoft herein are exclusive of any federal, state, municipal or other governmental taxes, including income, franchise, sales, use, value added, property, excise or similar tax, now or 7 8 CONFIDENTIAL hereafter imposed on Stac. Such charges shall be the responsibility of Stac and may not be passed on to Microsoft. In the event taxes are required to be withheld on payments made hereunder by any U.S. (state or federal) or foreign government. Microsoft shall deduct such taxes from the amount owed Stac and pay them to the appropriate taxing authority. Microsoft shall in turn promptly secure and deliver to Stac an official receipt for any taxes withheld. Microsoft will use reasonable efforts to minimize such taxes to the extent permissible under applicable law. 3. GRANT OF LICENSES TO STAC 3.1 GRANT OF MICROSOFT PATENT LICENSE. Subject to the terms and conditions hereof, Microsoft hereby grants to Stac during the term of this Agreement a worldwide, non-exclusive, non-transferable, non-sublicensable (except as provided in the last sentence of this paragraph), royalty-free, license under the Microsoft Patents, to make, have made, use, sell and have sold Stac Licensed Products. This license shall provide Stac with the rights to sublicense third parties to manufacture, replicate, distribute, license, sell, use or otherwise engage in commercial activity authorized by Stac with respect to the Stac Licensed Products. Nothing in this Section 3.1 shall be interpreted to provide to Stac any implied or express license to sublicense to third parties Microsoft Patents separate from the Stac Licensed Products. 3.2 GRANT OF MICROSOFT DEVELOPER INFORMATION LICENSE. Subject to the terms and conditions hereof, Microsoft hereby grants to Stac a worldwide, non-exclusive, non-transferable, non-sublicensable, payment bearing (in accordance with Section 3.2.1) license to utilize the Microsoft Developer Information provided under Section 5 to make, have made, use, sell and have sold Stac Licensed Products that utilize such Microsoft Developer Information. 3.2.1 PAYMENT (IF ANY) OF MICROSOFT DEVELOPER INFORMATION FEES. Only to the extent that Microsoft requires third parties to pay fees for its licenses to the Microsoft Developer Information, Stac shall pay to Microsoft substantially the same fees for such Microsoft Developer Information as charged to other Named Accounts (defined below). 3.3 GRANT OF CONVERSION LICENSE. To the extent any such license is required, and only to the extent required, Microsoft hereby grants to Stac a worldwide, non-exclusive, non-transferable, non-sublicensable, royalty-free license under any Microsoft Intellectual Property Rights necessary for enabling Stac to include a conversion mechanism in Stac Products for converting users' data compressed by either DoubleSpace or DriveSpace into data compressed by such Stac Products, and to distribute such conversion mechanism through its normal business channels, and to authorize users to use such conversion mechanisms. 8 9 CONFIDENTIAL 3.4 RESERVATION OF RIGHTS. 3.4.1 NO FOUNDRY RIGHTS. Without limiting the restrictions on "private labelling" as provided in Section 1.14, Sections 3.1, 3.2 and 3.3 shall not be interpreted as granting any rights to Stac to manufacture for third parties products, wherein such products are designed by the third party without substantial input of Stac and such products are essentially sold only to that designing third party. 3.5 CONSIDERATION. 3.5.1 The foregoing licenses from Microsoft to Stac are hereby granted as partial consideration for the licenses granted by Stac to Microsoft pursuant to Sections 2.1, 2.2 and 2.3 above, and Stac shall have no obligation to make any direct or indirect monetary payments to Microsoft for the right to practice the licenses granted by Microsoft. 3.5.2 In addition to the foregoing licenses granted from Microsoft to Stac (Section 3.1, 3.2 and 3.3), that have been provided as partial consideration for the licenses granted by Stac to Microsoft, Microsoft also agrees to use DoubleSpace as its standard data compression technology for compressing previously uncompressed hard disks in the initial retail release of the operating system currently called Chicago and in the initial retail release of MS-DOS 7.0 (when and if such product becomes commercially available). Microsoft's commitment to utilize DoubleSpace as described above shall be (A) for a period of twelve (12) months from the general commercial release of Chicago or until the commercial availability of the next major release (e.g., version 4.0 to 4.1) of Chicago, whichever occurs later, and (B) for MS-DOS 7.0, twelve (12) months from the general commercial release of MS-DOS 7.0 or until the commercial availability of the next major release of MS-DOS 7 (e.g., version 7.0 to 7.1), whichever occurs later. This Section 3.5.2 shall not preclude Microsoft from (i) supporting compressed hard disks created using DriveSpace from MS-DOS 6.22, (ii) using DriveSpace or other compression technology in products other than Chicago and MS-DOS 7.0 or (iii) replacing DoubleSpace in Chicago or MS-DOS 7.0 during the restricted period if required to do so due to a claim of patent infringement by a third party. Microsoft's agreement to utilize DoubleSpace as described herein in Chicago and MS-DOS 7.0 for the periods set forth in this Section is based on Stac accepting reduced monetary compensation for the licenses granted by Stac to Microsoft herein. 3.5.3 Notwithstanding the provisions of Section 3.5.1, in the event that Stac sells Stac Licensed Products that are covered by one or more claims of a Microsoft Patent under which Microsoft has an ongoing royalty obligation to a third party, then Stac agrees (i) to use such patent in full compliance with any agreement between Microsoft and the third party and, notwithstanding anything contained in this Section 3 to the contrary, (ii) to pay to Microsoft royalties with respect to sales of such Stac Licensed 9 10 CONFIDENTIAL Products at the same royalty rate payable by Microsoft to such third party. Upon written request, Microsoft agrees to advise Stac in writing of any Microsoft Patents which are subject to ongoing royalty obligations to a third party. 3.5.4 For a period of three (3) years after the Effective Date. Microsoft agrees not to make commercially available any Microsoft Product which has the sole function of performing real-time lossless data compression and decompression on a hard disk (e.g., such as Stacker). 3.6 AGREEMENT TO NEGOTIATE FUTURE LICENSES. Microsoft agrees to negotiate in good faith with Stac regarding the grant of additional licenses under Microsoft patents that are not included in the definition for Microsoft Patents. Notwithstanding the foregoing, Stac acknowledges that Microsoft may elect not to license certain strategic patents to any third party. 4. PATENT MARKING 4.1 Commencing on the Effective Date, each party, unless advised otherwise by the other party, shall provide the appropriate patent notices with respect to Stac Licensed Products and Microsoft Licensed Products, as applicable, in accordance with this Agreement. Such products shall be marked with the word "Patent" or the abbreviation "Pat." together with the number of each patent which is applicable to the product, or when, from the character of the article, this cannot be done, by fixing to it, or to the package where one or more of them is contained, a label containing a like notice, or when this is impracticable by reference in the product manual. Said marking or label shall be in compliance with 35 U.S.C. Section 287(a). 4.2 Should either party believe that the other is not marking its products licensed hereunder in accordance with Section 4.1, it will so notify the other party and the notified party will make reasonable efforts to correct any defect at the next reasonable opportunity (e.g., at the time the product is next revised). 5. MOST FAVORED DEVELOPER RELATIONSHIP The provisions of this Section 5 shall extend until June 20, 1999 and thereupon expire. 5.1 DEVELOPER INFORMATION ACCESS. Microsoft acknowledges that it has relationships with third parties who are "Named Accounts" to whom it assigns technical evangelists and provides Microsoft Developer Information and developer versions (beta versions) of its operating system products (including, but not limited to MS-DOS, Windows, Windows for Workgroups, Windows NT, and Chicago) and related development tools. Starting from the Effective Date of this Agreement, and until June 10 11 CONFIDENTIAL 20, 1999, Microsoft shall designate Stac as a Named Account and provide information and beta versions to Stac in a form and in a time frame no less favorable than other Named Accounts. 5.2 CHICAGO BETA ACCESS. Notwithstanding Section 5.1, Microsoft agrees to provide Stac with the Chicago beta developer kit (known as M6) within ten (10) days after the later of (i) the Effective Date and (ii) the release of M6 to Named Accounts. Additionally, Microsoft agrees to provide Stac with the opportunity to have a Stac Product, subject to reasonable quality testing by Microsoft, included with other third party products which will be made available to beta testers of the Chicago beta known as M7. Stac will also be eligible to participate in Microsoft's "First Wave" and other comparable programs for earlier adopters of Microsoft technology, with Microsoft's approval of Stac's entry into such programs not to be unreasonably withheld. 5.3 TECHNICAL LIAISON. 5.3.1 Microsoft shall appoint a Microsoft employee to act as the technical liaison for Microsoft ("Microsoft Technical Liaison"), having authority to provide information and answers to Stac's suggestions, questions and similar requests that he/she may be asked to provide to Stac, in a timely manner so that Stac's development of Stac Products may be accomplished without unreasonable delays. Stac shall also have reasonable access to other employees of Microsoft for the purpose of asking questions and obtaining follow-up information concerning the Microsoft Developer Information. 5.3.2 The Microsoft Technical Liaison with a similarly appointed Stac technical liaison will establish a meeting schedule, as mutually agreed upon by the parties, the first meeting to occur within twenty (20) days after the Effective Date, to discuss issues concerning technical, marketing and other areas raised by either party. Each party shall designate their respective technical liaisons and notify the other party within twenty (20) days of the Effective Date. 5.4 BUSINESS LIAISON. 5.4.1 Microsoft shall appoint a Microsoft employee to act as the business liaison for Microsoft ("Microsoft Business Liaison"), having authority to provide information and answers regarding potential future business opportunities for the mutual benefit of the two parties. Stac shall also have reasonable access to other employees of Microsoft for the purpose of asking questions and obtaining follow-up information concerning such business opportunities. 5.4.2 The Microsoft Business Liaison with a similarly appointed Stac business liaison will establish a quarterly meeting schedule as practical to occur in conjunction with meetings of Stac's Board of Directors, the first meeting to occur within 11 12 CONFIDENTIAL forty-five (45) days after the Effective Date, to discuss future potential business opportunities as raised by either party. Each party shall designate their respective business liaisons and notify the other party within twenty (20) days of the Effective Date. 6. CONFIDENTIALITY 6.1 CONFIDENTIALITY. During the term of this Agreement, Stac and Microsoft both agree that the terms of this Agreement, any information regarding Microsoft's or Stac's research and development and all information revealed to Stac by Microsoft or by Microsoft to Stac in connection with this Agreement, and designated in writing as confidential, shall be treated as proprietary and shall be kept confidential. Stac and Microsoft shall take all reasonable steps to keep such information confidential. Except as permitted by this Agreement or required by law, Stac and Microsoft will not disclose such confidential information to any third party. 6.2 EXCEPTIONS. The obligations of confidentiality contained in Section 6.1 will not apply to the extent that it can be established by a party by competent proof that such confidential information: (a) was already known to such party, other than under an obligation of confidentiality, at the time of disclosure; (b) was generally available to the public or otherwise part of the public domain at the time of its disclosure to such party (provided, however, that a combination of features individually in the public domain shall not fall within this exception unless the fact of such combination is also in the public domain); (c) became generally available to the public or otherwise part of the public domain after its disclosure and other than through any act or omission of such party in breach of this Agreement; (d) was disclosed to such party, other than under an obligation of confidentiality, by a third party who had no obligation to the other party not to disclose such information to others; (e) is authorized for release in writing by the disclosing party; or (f) is developed by such party completely independently of any such received confidential information. 6.3 TERMS OF AGREEMENT. The business terms of this Agreement shall be entirely confidential, other than with respect to disclosures required to be made to 12 13 CONFIDENTIAL regulatory agencies (such as the S.E.C. or the Internal Revenue Service) or as a result of court process. 7. REPRESENTATIONS AND WARRANTIES 7.1 MUTUAL. Each party hereby represents and warrants: (a) CORPORATE POWER. Such party is duly organized and validly existing under the laws of the state of its incorporation and has full corporate power and authority to enter into this Agreement and to carry out the provisions hereof. (b) DUE AUTHORIZATION. Such party is duly authorized to execute and deliver this Agreement and to perform its obligations hereunder. (c) BINDING AGREEMENT. This Agreement is a legal and valid obligation binding upon it and enforceable in accordance with its terms. The execution, delivery and performance of this Agreement by such party does not conflict with any agreement, instrument or understanding, oral or written, to which it is a party or by which it may be bound, nor violate any law or regulation of any court, governmental body or administrative or other agency having jurisdiction over it. 8. TERM; TERMINATION 8.1 TERM. This Agreement shall become effective on the Effective Date, and continue in effect, unless sooner terminated as elsewhere provided in this Agreement, until the last to expire of the Stac Patents, the Other Stac Patents and the Microsoft Patents ("Term of this Agreement"). 8.2 TERMINATION. (a) Either party may terminate this Agreement upon written notice to the other party in accordance with Section 11.3 in the event of any default in the payment of any money due hereunder or any material breach of this Agreement by either party hereto, if the party receiving such notice fails to cure such breach within thirty (30) days after notice by the non-breaching party. Such termination shall be effective at the end of such thirty (30) days. Waiver of any such default or material breach by either party hereto shall not be construed as limiting any right of termination for a subsequent default or material breach. (b) Either party may terminate the licenses granted to the other party under this Agreement (subject to any rights the other party may have as a licensee of intellectual property under the U.S. Bankruptcy Code) immediately upon the other party's (i) becoming insolvent, (ii) commencing or having commenced against it (without 13 14 CONFIDENTIAL dismissal within 60 days), any bankruptcy, insolvency, liquidation, reorganization or similar proceeding under any U.S. or foreign law, (iii) making an assignment for the benefit of its creditors, (iv) admitting in writing its inability to satisfy its debts in the ordinary course of business, or (v) taking an action resulting in or directed to ceasing, on a permanent basis, its business or relevant operations. 8.3 EFFECT OF TERMINATION. Upon completion of the Term of this Agreement or any other termination of this Agreement, each party shall immediately, at its own expense, return to or destroy all confidential information of the other party in its possession. The termination of this Agreement shall in no event relieve Microsoft of its obligation to make the payments provided under Sections 2.5.1 and 2.5.2 (and the related subsections thereto). 9. PROPRIETARY RIGHTS 9.1 STAC OWNERSHIP. Microsoft acknowledges and agrees that the only rights transferring between the parties pursuant to this Agreement are license rights specifically granted herein. Nothing in this Agreement is intended to transfer title to any Stac Intellectual Property Rights or to take away from Stac its ownership rights in the Stac Patents or the Other Stac Patents. 9.2 MICROSOFT OWNERSHIP. Stac acknowledges and agrees that the only rights transferring between the parties pursuant to this Agreement are license rights specifically granted herein. Nothing in this Agreement is intended to transfer title to any Microsoft Intellectual Property Rights or to take away from Microsoft its ownership rights in the Microsoft Patents. 10. LIMITATION OF LIABILITY 10.1 DISCLAIMER OF WARRANTIES. EXCEPT AS EXPRESSLY PROVIDED HEREIN, EACH PARTY HEREBY EXPRESSLY DISCLAIMS ANY AND ALL WARRANTIES OF ANY KIND OR NATURE, WHETHER EXPRESS OR IMPLIED, RELATING TO THE STAC PATENTS, THE OTHER STAC PATENTS, THE MICROSOFT PATENTS OR THE MICROSOFT DEVELOPER INFORMATION. EXCEPT AS EXPRESSLY PROVIDED HEREIN, EACH PARTY FURTHER HEREBY EXPRESSLY DISCLAIMS ANY EXPRESS OR IMPLIED WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE, OR THAT THE PRACTICE OF THE STAC PATENTS, THE OTHER STAC PATENTS, THE MICROSOFT PATENTS OR MICROSOFT DEVELOPER INFORMATION, OR THE MANUFACTURING USE OR SALE OF PRODUCTS WHICH INCORPORATE THE SUBJECT MATTER OF THE STAC PATENTS, THE OTHER STAC PATENTS, THE MICROSOFT PATENTS OR THE MICROSOFT DEVELOPER INFORMATION WILL NOT INFRINGE ANY PATENT, COPYRIGHT, TRADEMARK, OR OTHER 14 15 CONFIDENTIAL RIGHTS OF THIRD PARTIES. Nothing contained in this Agreement shall be construed as either a warranty or representation by either party as to the validity or scope of the Stac Patents, the Other Stac Patents, the Microsoft Patents or the Microsoft Developer Information. Neither party assumes any liability in respect of any infringement of any patent or other right of third parties due to the activities of the other party under this Agreement. 11. MISCELLANEOUS 11.1 WAIVER. A party's failure at any time to require the other party's performance of any obligation under this Agreement shall not affect such party's right to require subsequent performance of that obligation. Any waiver of any breach of any provision of this Agreement shall not be construed as a waiver of any continuing or succeeding breach of such provision, waiver or modification of the provision itself or a waiver or any modification of any right under this Agreement. 11.2 NONASSIGNMENT. Except as provided in this Paragraph 11.2, the rights and licenses granted herein are nonassignable. Any attempted assignment of the rights or delegation of the obligations under this Agreement shall be void without the prior written consent of the nonassigning or nondelegating party (which may be withheld in the sole discretion of such party), except in connection with the sale of all or substantially all of a party's assets (by merger or otherwise). In the case of any permitted assignment under this Paragraph, this Agreement and the relevant provisions shall be binding upon, and inure to the benefit of, the successors, executors, representatives, administrators and assigns of the parties hereto. 11.3 NOTICES. All notices and other communications hereunder will be in writing and will be deemed given if delivered personally or by facsimile transmission (receipt verified), telexed, or sent by express courier service, to the parties at the following addresses (or at such other address for a party as will be specified by like notice; provided, that notices of a change of address will be effective only upon receipt thereof): If to Stac: (two copies) STAC ELECTRONICS 5993 Avenida Encinas Carlsbad, California 92008 Telecopy: (619) 431-0880 One copy marked "Attention: President" and the other marked "Attention: Chief Financial Officer" 15 16 CONFIDENTIAL If to Microsoft: (two copies) MICROSOFT CORPORATION One Microsoft Way Redmond, Washington 98052-6399 One copy marked "Attention: Treasurer," Telecopy: (206) 936-2625; \ and the other marked "Attention: Law and Corporate Affairs," Telecopy: (206) 869-1327 11.4 SURVIVAL. Sections 1, 2.5.1, 2.5.2, 6, 7, 8, 9, 10, and 11 (and the related subsections thereto) shall survive any termination of this Agreement pursuant to Section 8. Sections 3 and 5 (and the related subsections thereto) shall survive the termination of this Agreement pursuant to Section 8, unless this Agreement is terminated as a result of Stac's breach and failure to cure. Sections 2.1 and 2.3 (and the related subsections thereto) shall survive the termination of this Agreement pursuant to Section 8, unless this Agreement is terminated as a result of Microsoft's breach and failure to cure. 11.5 SEVERABILITY. Whenever possible, each provision of the Agreement will be interpreted in such manner as to be effective and valid under applicable law, but if any provision of the Agreement is held to be prohibited by or invalid under applicable law, such provision will be ineffective only to the extent of such prohibition or invalidity, without invalidating the remainder of the Agreement. 11.6 GOVERNING LAW. Any and all disputes, controversies or claims arising from or relating to the terms, conditions and/or provisions of this Agreement, including, without limitation, any and all such disputes, controversies or claims involving the interpretation and construction of this Agreement, shall be resolved by reference to and in accordance with the laws of the State of California as applied to contracts made and to be performed entirely within the State of California. Any and all litigation regarding disputes, controversies or claims arising from or relating to the terms, conditions and/or provisions of this Agreement, including, without limitation, any and all such disputes, controversies or claims involving or relating to the interpretation and construction of this Agreement, shall be brought and maintained in the federal or state courts, as appropriate depending on the nature of the subject matter of such litigation, located within the County of Los Angeles, California. The parties hereby expressly consent to the exclusive jurisdiction of such courts with respect to any and all such litigation. 11.7 SECTION HEADINGS. The heading to Sections and this Agreement are to facilitate reference only and do not form a part of this Agreement, and shall not in any way affect the interpretation hereof. 16 17 CONFIDENTIAL 11.8 ENTIRE AGREEMENT. The terms and conditions contained herein, together with the Settlement Agreement and the Stock Pledge and Security Agreement, constitute the complete, final and exclusive Agreement between the parties, and supersede all previous agreements and understandings, whether oral or written, between the parties hereto with respect to the subject matter hereof. No modification, alteration, addition or change in the term hereof shall be binding on either party hereto unless reduced to writing and duly executed by the parties in the same manner as the execution of this Agreement. 11.9 FORCE MAJEURE. Neither party will have any liability to the other for a failure to perform under this Agreement, other than Microsoft's obligation to pay money pursuant to Section 2.5.1 and 2.5.2, caused by circumstances over which such party has no control, including, without limitation, strikes, floods, riots or civil unrest, governmental actions, earthquakes, so long as the affected party takes actions that are reasonable under the circumstances to limit the delay in performance caused by such event. 11.10 ATTORNEY'S FEES TO PREVAILING PARTY. In the event of any litigation or other proceedings (including proceedings in bankruptcy) concerning or related to this Agreement, the prevailing party, solely as between Stac and Microsoft, shall be entitled to recover its reasonable attorneys' fees and expenses incurred in connection with such proceedings. IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed by their duly authorized representatives on the day and year first above written. MICROSOFT CORPORATION STAC ELECTRONICS By:/s/ GREGORY B. MAFFEI By: /s/ ROBERT A. MONSOUR --------------------- -------------------------------- Gregory B. Maffei, Robert A. Monsour, Treasurer Vice President, Business Development 17 EX-10.12 10 EXHIBIT 10.12 1 EXHIBIT 10.12 LICENSE AGREEMENT THIS LICENSE AGREEMENT (the "Agreement") is made and entered into this 16th day of February, 1996("Effective Date"), by and between MICROSOFT CORPORATION, a Washington corporation ("Microsoft"), with its principal offices located at One Microsoft Way, Redmond, Washington 98052 and STAC,INC., a California corporation ("Stac"), with its principle offices located at 12636 High Bluff Drive, Suite 400, San Diego, California 92130-2093. RECITALS WHEREAS, Stac is the owner of certain patents relating to lossless data compression and decompression; WHEREAS, pursuant to a License Agreement dated June 20, 1994 (the "Patent Agreement"), Stac has previously granted Microsoft certain license rights to make, use and sell Microsoft computer software products which embody certain patents owned by Stac; WHEREAS, Microsoft has developed a data compression and decompression format known as "Microsoft Point-to-Point Compression" products; WHEREAS, Microsoft has developed certain software that performs data compression and decompression in accordance with MPPC; WHEREAS, Stac desires to license to third parties Microsoft's MPPC-based software or Stac software based on MPPC; NOW, THEREFORE, in consideration of the mutual covenants and agreements contained herein, the parties hereby agree as follows: AGREEMENT 1. DEFINITIONS. For purposes of this Agreement, the following terms, whenever initially capitalized, shall have the following meanings; (a) "SPECIFICATION" shall mean the specification developed by Microsoft for the "Microsoft Point-to-Point Compression" technology attached hereto as Exhibit A (entitled "Microsoft PPP Data Compression"), and any modifications and additions to the specification. The Specification includes a description of the mechanism for negotiating and transporting compressed data packets using the MPPC Compression Format (defined below). 2 (b) "MICROSOFT MPPC SOFTWARE" shall mean the Microsoft developed compression software which implements the MPPC Compression Format (defined below) and which is more fully described in the Exhibit B. "OPTIMIZED MICROSOFT MPPC SOFTWARE" shall mean the Microsoft MPPC Software which has been modified and optimized by Microsoft to run more efficiently, while Microsoft "UN-OPTIMIZED MICROSOFT MPPC SOFTWARE" shall mean the Microsoft MPPC Software as delivered to Stac by Microsoft on September 28, 1995 which has not been so modified and optimized. (c) "STAC MPPC SOFTWARE" shall mean the Stac developed compression software that performs data compression in accordance with the MPPC Compression Format. (d) "MPPC COMPRESSION FORMAT" shall mean the compression encoding format defined in the Specification as the encoding format for MPPC. (e) "LZS SOFTWARE" shall mean that certain Stac developed software known as "LZS221-C" software as more fully described in Exhibit C attached hereto. (f) "INTELLECTUAL PROPERTY RIGHTS" shall mean copyrights, patents, trade secrets, inventions, processes, know-how, or any other intellectual property rights. (g) "OBJECT CODE" shall mean machine executable code in binary format. (h) "SOURCE CODE" shall mean software in human-readable, high-level language or assembly language form, from which Object Code can be generated when compiled or assembled. 2. LICENSE GRANT TO STAC FOR MPPC SOFTWARE. (a) DELIVERY AND LICENSE GRANT FOR MICROSOFT MPPC SOFTWARE. On or before the Effective Date, Microsoft shall deliver to Stac one (1) copy of the Optimized Microsoft MPPC Software in both Source Code and Object Code forms. Stac acknowledges Microsoft delivered the Un-optimized Microsoft MPPC Software on September 28, 1995 in Source and Object Code forms. Effective upon such delivery and for the remainder of the term of this Agreement, Microsoft hereby grants to Stac, under all applicable Intellectual Property Rights, the following royalty-free, non-exclusive, non-transferable, worldwide license rights: (i) To use, copy, modify, and create derivative works of the Microsoft MPPC Software (including any updates or upgrades delivered to Stac hereunder) in order to create the Stac MPPC Software; 2 3 (ii) To grant third parties the right to integrate into their products ("MPPC Enabled Products") either (A) any Microsoft MPPC Software (including any updates or upgrades delivered to Stac hereunder) which is incorporated into Stac MPPC Software, or (B) Microsoft MPPC Software (including any updates or upgrades delivered to Stac hereunder), or (C) Stac MPPC Software; (iii) To grant third parties the right to make, use copy, distribute (directly or indirectly), license or sell, rent, or lease copies of MPPC Enabled Products for the purpose of exchanging compressed data with any product that implements the MPPC Compression Format. (iv) Microsoft hereby grants to Stac the right, under applicable Microsoft patents, to perform data compression in the Stac MPPC Software in accordance with the MPPC Compression Format. All rights not expressly granted are expressly reserved by Microsoft. (b) DELIVERY AND LICENSE GRANT FOR TESTING TOOL. As soon as possible after the Effective Date, Microsoft shall deliver the most current version (in Object Code form) of the software tool described in the attached Exhibit D ("Test Tool") which will be used to verify and test the compliance of the Stac MPPC Software with the Performance and Compatibility Standards required by Section 3 of this Agreement. Microsoft will also provide Stac with any updated versions of the Tool used by Microsoft during the term of this Agreement to verify and test compliance of the Stac MPPC Software with the Performance and Compatibility Standards. Microsoft hereby grants Stac a license to use the Test Tool, in Object Code form, for the sole purpose of verifying and testing the Stac MPPC Software for compliance with the Performance and Compatibility Standards. All rights not expressly granted are expressly reserved by Microsoft. (c) LICENSE RESTRICTIONS AND CONDITIONS. (i) Stac shall market, distribute, and license the Un-optimized MPPC Software on the same terms and conditions as it licenses it un-optimized LZS Software, including without limitation, price. In connection with the foregoing, Stac shall distribute and license the Un-optimized Microsoft MPPC Software pursuant to distributor and end user license agreements which shall conform substantially to the license agreements under which it licenses its LZS Software. (ii) Stac will not remove any copyright, trademark or patent notices that appear on, or are contained in, the Microsoft MPPC Software as delivered to Stac. Stac shall cause to appear on the title page of each volume of the Microsoft MPPC Software documentation distributed by Stac (if any), and at any other location where any copyright, patent or trademark notice appears, the Microsoft and third party copyright, patent or trademark notices that appear in the release of the Microsft MPPC Software provided by 3 4 Microsoft. Stac shall contractually obligate any third parties to which it grants rights to distribute the Microsoft MPPC Software to comply with the foregoing. (iii) Stac may use third party contractors or consultants to exercise the rights granted hereunder. In the event Stac utilizes a contractor or consultant as described above. Stac shall execute written agreements with such contractor or consultant sufficient to enable Stac and the contractor or consultant to comply with the terms of this Agreement. 3. STAC MPPC SOFTWARE. (a) INITIAL DEVELOPMENT OF STAC MPPC SOFTWARE. Stac shall develop and deliver a beta version of the Stac MPPC Software to Microsoft within thirty (30) days of Microsoft's delivery of the Optimized Microsoft MPPC Software to Stac. Microsoft shall evaluate the Stac MPPC Software to determine whether it meets the Performance Standards and Compatibility Standards described in the attached Exhibit E. Microsoft shall notify Stac in writing of any failure(s) of the Stac MPPC Software to meet the Performance Standards and Compatibility Standards, within thirty (30) days of Microsoft's receipt of the beta version of the Stac MPPC Software. Stac shall correct any such failure(s) and resubmit the Software to Microsoft for re-evaluation within sixty (60) days of the end of Microsoft's thirty day notification period. In the event the corrected version of the Stac MPPC Software does not meet the Performance Standards and Compatibility Standards or Stac does not deliver the corrected version within the sixty (60) day period, Microsoft shall automatically have the rights set forth in Section 3(f), subject to paragraph (b) below. (b) ONE-TIME PERFORMANCE EXCEPTION. In the event the initial version of Stac MPPC Software (including any corrections made during a permitted correction period as provided in paragraph (a) above) delivered to Microsoft fails to meet the Performance Standards by twenty percent or less, Stac shall have the right to distribute that version of the Stac MPPC Software as permitted in Section 2. Stac shall use reasonable efforts to improve the performance of such initial version in the event Stac distributes it to third parties. However, in the event Microsoft makes any updates or upgrades to the MPPC Compression Format and/or Microsoft MPPC Software, Stac shall achieve complete compliance with the Performance Standards (as well as the Compatibility Standards). If Stac fails to do so, Microsoft shall automatically have the rights set forth in Section 3(f) below. (c) FURTHER DEVELOPMENT OF STAC MPPC SOFTWARE. Following Microsoft's confirmation that the initial Stac MPPC Software meets the Performance Standards and Compatibility Standards as set forth in (a) above and subject to (b) above, Stac shall maintain such Performance Standards and Compatibility Standards with any updates or upgrades Microsoft makes to the MPPC Compression Format and/or Microsoft MPPC Software. Microsoft will provide the applicable updated or upgraded Source Code and Object Code of Microsoft MPPC Software (in beta (and pre-beta if the code is sufficiently complete and stable) and final forms) and any other materials reasonably 4 5 necessary to assist Stac in achieving such Standards, as soon as such software and materials are available. Stac shall deliver the updated Source and Object Code of Stac MPPC Software to Microsoft in beta and final release forms as soon as possible upon completion of such releases. Stac shall use commercially reasonable efforts to release the updated Stac MPPC Software in final form simultaneously with Microsoft's release of the corresponding version of Windows NT. In the event Stac does not release the final version of Stac. 5 6 MPPC Software compatible with an update or upgrade to Windows NT or such version of Stac MPPC Software does not meet the Performance and Compatibility Standards by the later of (i) four (4) months from Microsoft's initial beta release of an update or upgrade or (ii) the commercial release of such Windows NT update or upgrade, Microsoft shall automatically have the rights set forth in Section 3(f). (d) DISTRIBUTION LICENSE. Upon completion Stac shall provide Microsoft with Stac MPPC Software, in Source and Object Code forms including accompanying documentation for Microsoft's distribution to third parties for use by third parties in creating products compatible with the MPPC Compression Format. Microsoft shall license the Stac MPPC Software under terms and conditions described in the attached Exhibit E (Microsoft will provide Stac with a copy of any such agreements in their final, fully executed form within a reasonable time following execution). In the event Microsoft desires to materially change any of the terms and conditions in Exhibit F, Microsoft shall notify Stac of the requested change and Stac shall have ten (10) business days to approve or disapprove the change, provided Stac shall not unreasonably withhold its acceptance. If Stac fails to approve or disapprove a given change within the ten day period, the change shall be deemed approved. In the event Microsoft enters into an agreement with a third party that contains a material change to a term in Exhibit F which Stac has not accepted, such change shall not be binding on Stac. (e) SPECIFICATION. Stac and Microsoft hereby agree and acknowledge that each party shall have the right to reproduce and distribute the Specification to any third party. Stac may submit the Specification to the Internet Engineering Task Force (IETF) for adoption as a standard, provided Microsoft has approved in advance the terms and conditions under which the IETF would adopt the Specification, including the licensing of any intellectual property rights. (f) CONTINGENT LICENSE TO MICROSOFT MPPC SOFTWARE AND STAC MPPC SOFTWARE. In the event (i) Stac fails to meet the Performance and Compatibility Standards as set forth in (a) or (b) above, or (ii) no longer offers or announces its intent to discontinue offering Microsoft MPPC Software or Stac MPPC Software to third parties, or (iii) Stac is in material breach of any provision of this Agreement (and fails to cure such breach within 30 days of notice), then Stac shall be deemed to have granted to Microsoft, under all applicable Stac Intellectual Property Rights, a perpetual, irrevocable, royalty-free (as to Microsoft), non-exclusive, worldwide license to: (1) make, use, modify, and create derivative works of the Stac MPPC Software for the purpose of enhancing the compression functionality of the MPPC Compression Format of the Stac MPPC Software and maintaining compatibility between the Stac MPPC Software and Windows and Windows NT (hereafter, "Microsoft Modifications"), but not to add any new functionality to the MPPC Compression Format that is covered by a Stac patent, (2) licensing third parties to make, have made, use, and sell the Microsoft MPPC Software in conjunction with their products under the terms and conditions described in the attached Exhibit F (Microsoft will provide Stac with a copy of any such agreements in their final, fully executed form within a reasonable time following execution), (3) license and distribute the Stac MPPC Software (including Microsoft Modifications) under terms and 6 7 conditions described in the attached Exhibit F (Microsoft will provide Stac with a copy of any such agreements in their final, fully executed form within a reasonable time following execution). In the event Microsoft desires to materially change any of the terms and conditions in Exhibit F, Microsoft shall notify Stac of the requested change and Stac shall have ten (10) business days to approve or disapprove the change, provided Stac shall not unreasonably withhold its acceptance. If Stac fails to approve or disapprove a given change within the ten day period, the change shall be deemed approved. In the event Microsoft enters into an agreement with a third party that contains a material change to a term in Exhibit F which Stac has not accepted, such change shall not be binding on Stac. Microsoft may use third party contractors or consultants to exercise the rights granted hereunder. In the event Microsoft utilizes a contractor or consultant as described above, Microsoft shall execute written agreements with such contractor or consultant sufficient to enable Microsoft and the contractor or consultant to comply with the terms of this Agreement. All rights not expressly granted are expressly reserved by Stac. (g) CONTINGENT LICENSE BACK TO STAC. In the event the license to Microsoft set forth in paragraph 3(f) above becomes effective, Microsoft shall be deemed to have granted to Stac, under all applicable Intellectual Property Rights, a perpetual, irrevocable, royalty free, non-exclusive, worldwide license to make, use, reproduce, distribute (directly or indirectly), and sell, rent or lease copies of the Microsoft Modifications in conjunction with Stac MPPC Software. Microsoft shall deliver all Microsoft Modifications to Stac, in Source and Object Code forms, as soon as it delivers such Modifications to other third parties. All rights not expressly granted are expressly reserved by Microsoft. (h) INCORPORATION OF LZS. Upon Stac's request, Microsoft will evaluate the possibility of integrating LZS into Windows NT. If, in Microsoft's judgment, it is commercially reasonable to include LZS support in Windows NT, the parties shall negotiate in good faith the terms and conditions for distribution of LZS in Windows NT. 4. REPRESENTATIONS AND WARRANTIES. (a) CORPORATE POWER. Each party hereby represents and warrants that it is duly organized and validly existing under the laws of the state of its incorporation and has full corporate power and authority to enter into this Agreement and to carry out the provisions hereof. (b) DUE AUTHORIZATION. Each party hereby represents and warrants that it is duly authorized to execute and deliver this Agreement and to perform its obligations hereunder. 7 8 (c) BINDING AGREEMENT. Each party hereby represents and warrants that this Agreement is a legal and valid obligation binding upon it and enforceable with its terms. The execution, delivery and performance of this Agreement by such party does not conflict with any agreement, instrument or understanding, oral or written, to which it is a party or by which it may be bound, nor violate any law or regulation of any court, governmental body or administrative or other agency having jurisdiction over it. (d) MICROSOFT MPPC SOFTWARE. Microsoft hereby represents and warrants that the Microsoft MPPC Software and Microsoft Modifications as developed by Microsoft do not infringe the copyright or trademark rights of any third parties and, to the best of Microsoft's knowledge, do not infringe the patent rights of any third party. (e) STAC MPPC SOFTWARE. Stac hereby represents and warrants that the Stac MPPC Software as developed by Stac does not infringe the copyright or trademark rights of any third parties and, to the best of Stac's knowledge, does not infringe the patent rights of any third party. 5. INDEMNIFICATION. The parties agree to indemnify, defend, and hold each other and their successors, officers, directors and employees harmless from any and all actions, causes of action, claims, demands, costs, liabilities, expenses (including, without limitation, attorneys' fees) and damages arising out of or in connection with any claim which, if true, would be a breach of the representations set forth in Section 4 of this Agreement. If any action shall be brought against either party (the "Claimant") in respect to which indemnity may be sought from the other party (the "Non-Claiming Party") pursuant to the provisions of this Section, the Claimant shall promptly notify the Non-Claiming Party in writing, specifying the nature of the action and the total monetary amount sought or other such relief as is sought therein. The Claimant shall cooperate with the Non-Claiming Party at the Non-Claiming Party's expense in all reasonable respects in connection with the defense of any such action. The Non-Claiming Party may, upon written notice thereof to Claimant, undertake to conduct all proceedings or negotiations in connection therewith, assume the defense thereof, and if it so undertakes, it shall also undertake all other required steps or proceedings to settle or defend any such action; including the employment of counsel which shall be reasonably satisfactory to Claimant, and payment of all expenses. Claimant, at its own expense, shall have the right to employ separate counsel and participate in the defense thereof. The Non-Claiming Party shall reimburse Claimant upon demand for any payments made or loss suffered by it at any time after the date hereof, based upon (i) the final judgment of any court of competent jurisdiction, or (ii) pursuant to a bona fide compromise or settlement of claims, demands, or actions as agreed to by the Non-Claiming Party, in respect to any damages to which the foregoing relates. 6. DISCLAIMER; LIMITATION OF LIABILITY. EXCEPT AS OTHERWISE PROVIDED UNDER THIS AGREEMENT, THE SOFTWARE LICENSED BY EACH PARTY TO THE OTHER PURSUANT TO THIS AGREEMENT IS PROVIDED "AS IS" WITHOUT WARRANTY OF ANY KIND. ANY REPRESENTATIONS OR WARRANTIES MADE BY EITHER PARTY TO ITS CUSTOMERS, EXPRESS OR 8 9 IMPLIED BY LAW OR OTHERWISE, REGARDING INTELLECTUAL PROPERTY ARE THE SOLE RESPONSIBILITY OF SUCH PARTY. EACH DISCLAIMS ALL OTHER WARRANTIES, EITHER EXPRESS OR IMPLIED, INCLUDING BUT NOT LIMITED TO IMPLIED WARRANTIES OF MERCHANTABILITY AND FITNESS FOR A PARTICULAR PURPOSE. IN NO EVENT SHALL EITHER PARTY BE LIABLE FOR ANY DAMAGES WHATSOEVER (INCLUDING WITHOUT LIMITATION, CONSEQUENTIAL, INCIDENTAL, INDIRECT, DIRECT, ECONOMIC, PUNITIVE, LOSS OF BUSINESS PROFITS, BUSINESS INTERRUPTION, LOSS OF BUSINESS INFORMATION, OR OTHER PECUNIARY LOSS) EVEN IF SUCH PARTY HAS BEEN ADVISED OF THE POSSIBILITY OF SUCH DAMAGES. 7. TERM AND TERMINATION. (a) TERM. This Agreement shall be effective as of the Effective Date and shall continue in force until the last to expire of any Stac patent rights applicable to MPPC Compression Format, or until earlier terminated in accordance with Section 7(b). (b) TERMINATION. In the event that a party commits any of the following events of default, the non-defaulting party may terminate this Agreement: (i) if either party materially fails to perform or comply with this Agreement or any provision hereof, including without limitation failure to promptly file required reports or pay any amount(s) due hereunder; (ii) if either party admits in writing its inability to pay its debts as they mature, or makes an assignment for the benefit of creditors; or (iii) if a petition under any bankruptcy act, receivership statute, or the like, as they now exist, or as they may be amended, is filed by either party; or if such a petition is filed by any third party, or an application for a receiver of either party is made by anyone and such petition or application is not resolved favorably to such party within sixty (60) days. Termination shall be effective thirty (30) days after written notice of termination to either party if such party's defaults have not been cured within such thirty (30) day period. The rights and remedies of the defaulting party provided in this Section shall not be exclusive and are in addition to any other rights and remedies provided by law or this Agreement. (c) RIGHTS AND OBLIGATIONS FOLLOWING TERMINATION. (i) BY MICROSOFT. In the event that Microsoft terminates this Agreement pursuant to Section 7(b) above, Stac shall immediately: (A) cease all reproduction, distribution and use of the Microsoft MPPC Software (except as licensed by Stac from Microsoft as part of and pursuant to an end user license agreement for the Windows NT product that is available via Microsoft's normal distribution channels), (B) return all 9 10 copies of Microsoft MPPC software which have been delivered to it by Microsoft under this Agreement, and (C) deliver a list of every third party to whom Stac owes a support obligation who has licensed the Microsoft MPPC Software and/or Stac MPPC Software as of the date of termination. From and after such termination, Stac shall not use internally nor employ the Microsoft MPPC Software. Existing license agreements with third parties for the MPPC Software entered into by Stac prior to the termination of this Agreement shall not be affected by such termination. (ii) SURVIVAL. Sections 1, 3(d), 3(f), 3(g), 5, 6, 7(c), 8, 9, and 10 shall survive any termination or expiration of this Agreement. In the event Stac terminates this Agreement pursuant to Section 7(b) above, Section 2 shall also survive for the balance of the term of the Agreement. 8. CONFIDENTIALITY. (a) Each party expressly undertakes to retain in confidence the terms and conditions of this Agreement, and all other non-public information and know-how disclosed to the each other that has been designated as proprietary and/or confidential or that, by the nature of the circumstances surrounding the disclosure, ought in good faith to be treated as proprietary and/or confidential (the "Confidential Information"), and will make no use of such information and know-how except under the terms and during the existence of this Agreement; provided that each party may disclose the terms and conditions of this Agreement to its immediate legal and financial consultants as required in the ordinary course of that party's business. Each party shall use its best efforts to protect the Confidential Information, which precautions shall be at least as great as the precautions it takes to protect its own confidential information. Each party may disclose Confidential Information only to its employees on a "need-to-know" basis. Each party may disclose Confidential Information as required by government or judicial order, provided each party gives the other party prompt notice of such order and complies with any protective order (or equivalent) imposed on such disclosure. Each party shall notify the other party promptly upon the discovery of any unauthorized use or disclosure of Confidential Information, and will cooperate with the other party in every reasonable way to assist the other party in regaining possession of such Confidential Information and to prevent future unauthorized use or disclosures. (b) Confidential Information shall not include that information defined as Confidential Information above which: (i) entered the public domain without the receiving party's breach of any obligation owed to the disclosing party under this Agreement by the disclosing party, (ii) became known to the receiving party prior to the disclosure of such information, (iii) became known to the receiving party from a source other than the disclosing party other than by the breach of an obligation of confidentially owed under this Agreement, (iv) was disclosed to a thirty party without any obligation of confidence, or (v) was independently developed by the receiving party. 10 11 (c) Each party acknowledges that monetary damages may not be a sufficient remedy for unauthorized disclosure or use of Confidential Information and that each party may seek, without waiving any other rights or remedies, such injunctive or equitable relief as may be deemed proper by a court of competent jurisdiction. (d) The terms of confidentiality under this Agreement shall not be construed to limit either party's right to independently develop or acquire products without use of the other party's Confidential Information. Further, either party shall be free to use for any purpose the residuals resulting from access to or work with such Confidential Information, provided that such party shall maintain the confidentiality of the Confidential Information as provided herein, except to the extent that disclosure is inherent from selling, licensing or otherwise disposing of a product using or incorporating such residuals. The term "residuals" means information in non-tangible form, which may be retained by persons who have had access to the Confidential Information, including ideas, concepts, know-how or techniques contained therein. Neither party shall have any obligation to limit or restrict the assignment of such persons or to pay royalties for any work resulting from the use of residuals or the sale of products using or incorporating residuals. However, the foregoing shall not be deemed to grant to either party a license under the other party's copyrights or patents. 9. ATTORNEYS' FEES. If either party employs attorneys to enforce any rights arising out of or relating to this Agreement, the prevailing party shall be entitled to recover its reasonable attorneys' fees, costs and other expenses. 10. NO FRANCHISE. Neither this Agreement, nor any terms and conditions contained herein, shall be construed as creating a partnership, joint venture or agency relationship or as granting a franchise as defined in the Washington Franchise Investment Protection Act, RCW 19.100, as amended, or 16 CFR Section 436.2(a). 11. NOTICES AND REQUESTS. All notices, authorizations, and requests in connection with this Agreement shall be in writing and will be deemed given if delivered personally or by facsimile transmission (receipt verified), telexed, sent by U.S. mails, postage prepaid, certified or registered, return receipt requested, or sent by express courier service, to the parties at the following addresses (or to such other address as the party to receive the notice or request so designates by written notice to the other): STAC (TWO COPIES): STAC, INC. 12636 High Bluff Drive, Suite 400 San Diego, California 92130-2093 Fax: (619) 794-4572 One copy marked "Attention: President" and the other marked "Attention: Vice President, Finance" MICROSOFT (TWO COPIES): MICROSOFT CORPORATION One Microsoft Way 11 12 Redmond, WA 98052-6399 One copy marked "Attention: Sr. Vice President, Business Systems" (Fax: (206) 936-2625) and the other marked "Attention: Law and Corporate Affairs" (Fax: (206) 869-7409). 12. ASSIGNMENT. Except as provided in this Section 12, the rights and licenses granted herein are non-assignable. Any attempted assignment of the rights or delegation of the obligations under this Agreement shall be void without the prior written consent of the non-assigning or non-delegating party (which may be withheld in the sole discretion of such party), except in connection with the sale of all or substantially all of a party's assets (by merger or otherwise). In the case of any permitted assignment under this Section 12, this Agreement and the relevant provisions hereof shall be binding upon, and inure to the benefit of, the successors, executors, representatives, administrators and assigns of the parties hereto. Notwithstanding the foregoing, Stac may "spin off" a Stac business unit into a separate corporate entity ("NewCo"), and provided NewCo assumes all the Stac obligations and has all necessary rights and authority to (including all necessary rights under present and future Stac patents) provide to Microsoft all the rights described in this Agreement, Stac may assign all of its rights and obligations relating to this Agreement to such NewCo. 12 13 13. SEVERABILITY. Whenever possible, each provision of this Agreement will be interpreted in such manner as to be effective and valid under applicable law, but if any provision of the Agreement is held to be prohibited by or invalid under applicable law, such provision will be ineffective only to the extent of such prohibition or invalidity, without invalidating the remainder of the Agreement. 14. ENTIRE AGREEMENT. This Agreement does not constitute an offer by either party and it shall not be effective until signed by both parties. Upon execution by both parties, this Agreement, together with the Patent Agreement, shall constitute the entire agreement between the parties with respect to the subject matter thereof and merge all prior and contemporaneous communications. They shall not be modified except by a written agreement signed on behalf of Stac and Microsoft by their respective duly authorized representatives. Unless agreed to in a separate writing signed by both parties, any statement appearing as a restrictive endorsement on a check or other document which purports to modify a right, obligation or liability of either party shall be of no force and effect. 15. WAIVER. No waiver of any breach of any provision of this Agreement shall constitute a waiver of any prior, concurrent or subsequent breach of the same or any other provisions hereof, and no waiver shall be effective unless made in writing and signed by an authorized representative of the waiving party. 13 14 16. SECTION HEADINGS. The section headings used in this Agreement and the attached Exhibits are intended for convenience only and shall not be deemed to supersede or modify any provisions. IN WITNESS WHEREOF, the parties have executed this Agreement as of the date set forth above. All signed copies of this Agreement shall be deemed originals. MICROSOFT CORPORATION STAC, INC. /s/ [SIG] /s/ JOHN R. WITZEL - --------------------------- ----------------------------- By By /s/ John Balgunas John R. Witzel - --------------------------- ----------------------------- Name (Print) Name (Print) Business Manager Vice President, Finance - --------------------------- ----------------------------- Title Title 2/19/96 Feb 16, 1996 - --------------------------- ----------------------------- Date Date 14 15 EXHIBIT A MICROSOFT PPP DATA COMPRESSION JUNE 22, 1995 15 16 Introduction........................................................................ Microsoft PPC Compression Protocol.................................................. Introduction................................................................ Configuration Option Format................................................. Description.......................................................... MPPC Packets................................................................ Padding.............................................................. Reliability and Sequencing........................................... Data Expansion....................................................... Packet Format........................................................ Description of Compressor and Encoding...................................... Literal Encoding..................................................... Copy Tuple Encoding.................................................. Synchronization............................................................. Microsoft Implementation of Stac LZS Compression over a Point-to-Point Link......... Introduction................................................................ Microsoft Windows Implementation of Configuration Option Negotiation........ Modifications to Stac LZS Configuration Option.............................. Microsoft Coherency......................................................... Synchronization............................................................. References..................................................................
16 17 INTRODUCTION This document describes Microsoft PPP Data Compression related specifications. There are two main parts to this document. 1. Microsoft Point-to-Point Compression (MPPC) Protocol. This is supported by Windows 95 and Windows NT family of products. 2. Microsoft Implementation of Stac LZS Compression over a Point-to-Point link. This is supported by Windows 95 product. 17 18 MICROSOFT PPC COMPRESSION PROTOCOL INTRODUCTION The Point-to-Point Protocol (PPP) [1] provides a standard method for transporting multi-protocol datagrams over point-to-point links. The PPP Compression Control Protocol [2] provides a method to negotiate and utilize compression protocols over PPP encapsulated links. This document describes the use of the Microsoft Point to Point Compression protocol (also referred to as MPPC in the document) for compressing PPP encapsulated packets. The Microsoft Point to Point Compression scheme is a means of representing arbitrary Point to Point Protocol (PPP) packets in a compressed form. MPPC is lossless, because translating into and out of MPPC causes no loss of information. MPPC is real-time because it favors speed of compression and decompression over achieving maximum compression, and it has the ability to compress on-the-fly. The MPPC scheme uses an LZ based algorithm with a sliding window history buffer. The MPPC scheme keeps a continuous history so that after 8K of data has been transmitted compressed there is always 8K of history to use for compressing, except when the history is flushed. The MPPC scheme requires only 8+8=16K of space for send and receive channels. This makes the scheme suitable for servers supporting large number of PPP clients. The MPPC scheme allows for encryption to be incorporated within the same packet encapsulation. Detailed information of encryption over PPP links is not available at this time. 18 19 CONFIGURATION OPTION FORMAT DESCRIPTION The CCP Configuration Option negotiates the use of MCCP on the link. By default or ultimate disagreement, no compression is used. A summary of the MCCP Configuration Option format is shown below. The fields are transmitted from left to right. 0 1 2 3 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 - ---------------------------------------------------------------- Type Length Supported Bits - ---------------------------------------------------------------- Supported Bits - ---------------------------------------------------------------- Type 18 Length 6 Supported Bits This field is 4 octets, most significant octet first. The sixth bit in the least significant octet set to 1 indicates desire to negotiate MPPC. The fifth bit in the least significant octet set to 1 indicates desire to negotiate encryption. The lower 2 octets of this field are reserved. 19 20 MPPC PACKETS Before any MPPC packets may be communicated, PPP must reach the Network-Layer Protocol phase, and the CCP Control Protocol must reach the Opened state. Exactly one MPPC datagram is encapsulated in the PPP Information field, where the PPP Protocol field indicates type hex 00FD (compressed datagram). The maximum length of the MPPC datagram transmitted over a PPP link is the same as the maximum length of the Information field of a PPP encapsulated packet. Only packets with PPP Protocol numbers in the range hex 0021 to hex 00FA are compressed. Other PPP packets are always sent uncompressed. PADDING The MPPC packets require the negotiation of the Self-Describing-Padding Configuration Option [3] at LCP Link Establishment. RELIABILITY AND SEQUENCING The MPPC scheme does not require a reliable link. Instead, it relies on a 12 bit coherency count in each packet to keep the history buffers synchronized. If the history buffers do not remain synchronized a Compress-Reject packet will be sent to resynchronize the history buffer. MPPC expects the packets to be delivered in sequence, otherwise history buffer re-synchronization will not occur. MPPC MAY be used over a reliable link, as described in "PPP Reliable Transmission" [4], but this typically just adds unnecessary overhead since the coherency count is all that is needed. DATA EXPANSION Any packet which is expanded is sent uncompressed. 20 21 PACKET FORMAT 0 1 2 3 - ---------------------------------------------------------------- 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 - ---------------------------------------------------------------- PPP Protocol A B C D Coherency Count - ---------------------------------------------------------------- Compressed Data... - ---------------------------------------------------------------- PPP Protocol The PPP Protocol field is described in the Point-to-Point Protocol Encapsulation [1]. When the MPPC compression protocol is successfully negotiated by the PPP Compression Control Protocol [2], the value is hex OOFD. This value MAY be compressed when Protocol-Field Compression is negotiated. Bit A This bit indicates that the history buffer has just been flushed before this packet was generated. Thus, this packet can ALWAYS be decompressed because it is not based on any previous history. This bit is typically sent to inform the peer that it has flushed it's history buffer and that the peer can accept this packet and resynchronize. This bit is referred to as FLUSHED bit in this document. Bit B This bit indicates that the packet was moved to the front of the history buffer typically because there was no room at the end of the history buffer. This bit is used to tell the decompressor to set it's current position in the history buffer back to the beginning. Bit C This bit is used to indicate that the packet is compressed. Packets may be compressed, encrypted, or both compressed and encrypted. Bit D This bit is used to indicate that the packet is encrypted. Coherency Count The coherency count is used to assure that the packets are sent in proper order and that no packet has been dropped. This count is always increased by 1 and NEVER decreases or goes back. When all bits are 1, the count returns to 0. Compressed Data The compressed data begins with the protocol field. For example, an IP packet may contain 0021 followed by an IP header. The compressor will first try to compress the 0021 protocol field and then move on to the IP header. 21 22 If the packet contains header compression, the MPPC compressor is applied AFTER header compression is performed and MUST be applied to the compressed header as well. For example, if a packet contained the protocl 002d for a compressed TCP/IP header, the compressor would first attempt to compress hex 002d and then it would attempt to compress the compressed Van-Jacobsen TCP/IP header. DESCRIPTION OF COMPRESSOR AND ENCODING The compressor runs through the length of the frame producing as output a Literal (byte to be sent uncompressed) or a [Offset, Length of Match] Copy tuple, where Offset is the number of bytes before in the history where the match lies and Length of Match is the number of bytes to copy form the location indicated by Offset. For example, consider the following string: 0 1 2 3 4 012345678901234568790123456789012345678901234567890 for whom the bell tolls, the bell tolls for thee. The compressor would produce: For whom the bell tolls, [16,15] [40,4] [36,4]e. The Literal and Copy tuple tokens are then encoded according to the MPPC encoding scheme. 22 22 23 LITERAL ENCODING Literals are bytes sent uncompressed. If the value of the Literal is below hex 80, it is encoded with its value itself. If the Literal has value greater than hex 7F it is sent as bits 10 followed by the lower 7 bits of the Literal. Examples: Literal hex 56 is shipped as 01010110 Literal hex E7 is shipped as 101100111 COPY TUPLE ENCODING Copy tuples represent compressed data. A tuple has two elements, the Offset and Length of match. The Offset is encoded before the Length of Match. OFFSET ENCODING Offset values less than 64 are encoded as bits 1111 followed by the lower 6 bits of the value. Offset values between 64 and 320 are encoded as bits 1110 followed by the lower 8 bits of the computation (value - 64). Offset values 320 or greater are encoded as bits 110 followed by the lower 13 bits of the computation (value - 320). Examples Offset value of 3 is encoded as: 1111 000011 Offset value of 128 is encoded as: 1110 01000000 Offset value of 1024 is encoded as: 110 0001011000000 LENGTH OF MATCH ENCODING Length of 3 is encoded with bit 0. Length values from 4 to 7 are encoded as 10 followed by lower 2 bits of the value. Length values from 8 to 15 are encoded as 110 followed by lower 3 bits of the value. Length values from 16 to 31 are encoded as 1110 followed by lower 4 bits of the value. Length values from 32 to 63 are encoded as 11110 followed by lower 5 bits of the value. Length values from 64 to 127 are encoded as 111110 followed by lower 6 bits of the value. Length values from 128 to 255 are encoded as 1111110 followed by lower 7 bits of the value. Length values from 256 to 511 are encoded as 11111110 followed by lower 8 bits of the value. Length values from 512 to 1023 are encoded as 111111110 followed by lower 9 bits of the value. 23 24 Length values from 1024 to 2047 are encoded as 1111111110 followed by lower 10 bits of the value. Length values from 2048 to 4095 are encoded as 11111111110 followed by lower 11 bits of the value. Length values from 4096 to 8191 are encoded as 111111111110 followed by lower 12 bits of the value. The largest Length value that can be encoded is 8191. Examples Length of 15 is encoded as: 110 111 Length of 120 is encoded as: 111110 111000 Length of 4097 is encoded as: 111111111110 000000000001 SYNCHRONIZATION Packets may be lost during transfer. If the decompressor maintained coherency count does not match the coherency count received in the compressed packet, the decompressor drops the packet and sends a CCP Reset-Request packet. The compressor on receiving this packet flushes the history buffer and sets the FLUSHED bit in the next frame it sends. The decompressor on receiving a packet with its FLUSHED bit set, flushes its history buffer and sets its coherency count to the one shipped by the compressor in that packet. Thus synchronization is acheived without a Reset-Ack packet. 24 25 MICROSOFT IMPLEMENTATION OF STAC LZS COMPRESSION OVER A POINT-TO-POINT LINK INTRODUCTION The Windows 95 Point-to-Point Protocol (PPP) [1] driver supports two compression algorithms: Microsoft Point-to-Point Compression (Microsoft PPC) and Stac(R) LZS(TM) compression. The compression algorithms are negotiated using the PPP Compression Control Protocol (CCP) [2] which provides a method to negotiate and utilize compression protocols over PPP encapsulated links. The Stac LZS data compression algorithm for PPP links is described in a draft IETF RFC [5] This document describes the implementation and use of the Stac LZS compression protocol in Microsoft Windows 95. It is provided to allow vendors to interoperate with Windows 95 so it focuses on the differences between the existing Stac RFC and the Windows 95 implementation. The reader is encouraged to reference the Stac RFC before reading this document. Microsoft uses the compression algorithm described in the Stac RFC but uses a different coherency mechanism for guaranteeing that the compressor and decompressor are synchronized. Microsoft Point-to-Point Compression protocol is described earlier in this document. 25 26 MICROSOFT WINDOWS IMPLEMENTATION OF CONFIGURATION OPTION NEGOTIATION CCP Configuration Options allow negotiation of compression algorithms and their parameters. CCP uses the same Configuration Option format defined for LCP [1], with a separate set of Options. Configuration Options, in this protocol, indicate algorithms that the receiver is willing or able to use to decompress data sent by the sender. Microsoft Windows 95 will offer to decompress option 18 (Microsoft PPC) and option 17 (Stac LZS). Microsoft Windows NT 3.5x will offer to decompress option 18 only. If multiple options are offered, Windows will send a Configure-Reject to reject all but the first supported option - Microsoft PPC or Stac LZS - offered by the peer. Windows will not validate the values in the option until a new Configure-Request with only the single preferred option is received. When a Configure-Request with a single recognized option is received, Windows will validate the values in the request. If the values in the request are not acceptable, a Configure-NAK will be sent with the option modified appropriately. The Configure-NAK will contain only those options that will be acceptable. A new Configure-Request should be sent with only the single preferred option, adjusted as specified in the Configure-Nak. Windows 95 can negotiate different compression options for compression and decompression. However, Windows 95 will terminate the compression protocol if it fails to negotiate either compression or decompression. For example: it is acceptable to have Stac LZS in one direction and Microsoft PPC in the other direction but it is not acceptable to have Stac LZS in one direction and no compression in the other direction. 26 27 MODIFICATIONS TO STAC LZS CONFIGURATION OPTION The CCP Stac LZS Configuration Option negotiates the use of Stac LZS on the link. By default or ultimate disagreement, no compression is used. A summary of the Stac LZS Configuration Option format is shown below. The fields are transmitted from left to right. 0 1 2 3 - --------------------------------------------------------------- 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 - --------------------------------------------------------------- Type Length History Count - --------------------------------------------------------------- Check Mode - -------------------- Type 17 Length 5 History Count The History Count field is two octets, most significant octet first, and specifies the maximum number of Compression Histories. The value 0 indicates that the implementation expects the peer to reset the Compression History at the beginning of every packet. The value 1 is used to indicate that only one history is maintained. Other valid values range from 2 to 65535. The peer is not required to send as many histories as the implementation indicates that it can accept. Windows 95 uses a history count of 1. Check Mode The Check Mode indicates support of LCB, CRC, Sequence checking or Microsoft coherency 0 None (default) 1 LCB 2 CRC 3 Sequence Number 4 Microsoft Coherency (Microsoft implementations only support this option) 27 28 MICROSOFT COHERENCY When Check Mode 4 (Microsoft Coherency) is negotiated, the packet format is different from the format described in the Stac RFC [5]. The format is described below. 0 1 2 3 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 2 3 4 5 6 7 8 9 0 1 - --------------------------------------------------------------- PPP Protocol A B C D Coherency Count - --------------------------------------------------------------- Compressed Data... - --------------------------------------------------------------- PPP Protocol The PPP Protocol field is described in the Point-to-Point Protocol Encapsulation [1]. When a compression protocol is successfully negotiated by the PPP Compression Control Protocol [2], the value is hex 00FD. This value MAY be compressed when Protocol-Field-Compression is negotiated. Bit A - PACKET_FLUSHED This bit indicates that the history buffer has just been flushed before this packet was generated. Thus, this packet can ALWAYS be decompressed because it is not based on any previous history. This bit is typically sent to inform the peer that it has flushed it's history buffer and that the peer can accept this packet and resynchronize. Bit B This bit is not used with Stac LZS compression. Bit C - PACKET_COMPRESSED This bit is used to indicate that the packet is compressed. Bit D This bit is not used with Stac LZS compression. Coherency Count The coherency count is used to assure that the packets are sent in proper order and that no packet has been dropped. This count is always increased by 1 and NEVER decreases or goes back. When all bits are 1, the count returns to 0. The coherency count is 12 bits so the decompressor must handle the rollover case. Compressed Data The compressed data begins with the protocol field. For example, an IP packet may contain 0021 followed by an IP header. The compressor will first try to compress the 0021 protocol field and then move on to the IP header. 28 29 SYNCHRONIZATION Packets may be lost during transfer. If the decompressor maintained coherency count does not match the coherency count received in the compressed packet or if the decompressor detects that a received packet is corrupted, the decompressor drops the packet and sends a CCP Reset-Request packet. The compressor on receiving this packet flushes the history buffer and sets the PACKET_FLUSHED bit in the next frame it sends. The decompressor on receiving a packet with its PACKET_FLUSHED bit set, flushes its history buffer and sets its coherency count to the one shipped by the compressor in that packet. Thus synchronization is achieved without a Reset-Ack packet. 29 30 REFERENCES [1] Simpson, W., Editor, "The Point-to-Point Protocol (PPP)", STD 51, RFC 1661, Daydreamer, July 1994. [2] Rand. D "The PPP Compression Control Protocol (CCP)" work in progress. [3] Simpson. W.A., "PPPLCP Extensions", work in progress. [4] Rand, D., "PPP Reliable Transmission", RFC 1663, Novell, July 1994. [5] Lutz, R., "Stac LZS Compression", Stac Electronics, Sept 1994. 30 31 EXHIBIT B MPPC SOFTWARE There are two files of interest: compress.h and compress.c There are five functions in the compression library: //* compress() // // Function: Main compression function. // // Parameters: // // IN CurrentBuffer -> points to NDIS_WAN_PACKET with data to compress // OUT CompOutBuffer -> points to NDIS_WAN_PACKET to compress data to // IN CurrentLength -> points to Length of data to compress // IN context ->connection compress context // // Returns: Compression result bits one or more of PACKET_FLUSHED, // PACKET_AT_FRONT, PACKET_COMPRESSED // // UCHAR compress ( UCHAR *CurrentBuffer, UCHAR *CompOutBuffer, ULONG *CurrentLength, SendContext *context); //* decompress() // // Function: de-compression function. // // Parameters: IN inbuf -> points to data to be uncompressed // IN inlen ->length of data // IN start -> flag indicating whether to start with a clean history buffer // OUT output->decompressed data // OUT outlen->length of decompressed data // IN context->connection decompress context // // Returns: TRUE if decompress was successful // FALSE if it wasnt // int decompress( UCHAR *inbuf, int inlen, int start, UCHAR **output, int *outlen, RecvContext *context); //*getcontextsizes() 31 32 // 32 33 // Function: Returns size of send and receive context blocks // // Parameters: OUT send -> sizeof(SendContext) // OUT recv -> sizeof(RecvContext) // // // Returns: Nothing // void getcontextsizes (long *, long *); //* initsendcontext() // // Function: Initialize SendContext block // // Parameters: IN context -> connection compress context // // Returns: Nothing // void initsendcontext (SendContext *); //* initrecvcontext() // // Function: Initialize RecvContext block // // Parameters: IN context -> connection decompress context // // Returns: Nothing // void initrecvcontext (RecvContext *); 33 34 EXHIBIT C LZS SOFTWARE The following files comprise the Stac LZS221-C version 4 software library: Example.C LZS.H LZSC.C LZSD.C LZSMEM.C 34 35 EXHIBIT D TEST TOOL THE TEST TOOL DELIVERED BY MICROSOFT TO STAC ON FEBRUARY 2, 1996 35 36 EXHIBIT E PERFORMANCE AND COMPATIBILITY STANDARDS --------------------------------------- For the purposes of the performance and compatibility standards set forth below, the "CORPUS SUITE" is defined as the following set of files, which exist at Internet address "ftp.cpsc.ucalgary.ca/pub/projects/text.compression.corpus" as of January 12, 1996:
Filename Size in KB (1024 bytes) - -------- ------------ bib 109 book1 751 book2 597 geo 100 news 369 obj1 21 obj2 242 paper1 52 paper2 81 paper3 46 paper4 13 paper5 12 paper6 38 pic 502 progc 39 prog1 70 progp 49 trans 92
All files are dated May 8, 1990. With respect to the performance and compatibility standards set forth below, the standards shall be evaluated on an Intel Pentium processor running in 32-bit mode. Both the Stac MPPC Software and the Microsoft MPPC Software shall be compiled using Microsoft's most current version of its commercially released C compiler. PERFORMANCE Stac MPPC Software shall compress and decompress the data in ninety percent (90%) of the files in the Corpus Suite as fast as or faster than Microsoft MPPC Software compresses or decompresses the same files. 36 37 COMPATIBILITY Stac MPPC Software shall compress the data in each of the files in the Corpus Suite such that the Microsoft MPPC Software, when used for decompression of the compressed file, produces the same original data in the file. Furthermore, such Stac MPPC Software shall decompress the data in each of the files in the Corpus Suite compressed by the Microsoft MPPC Software to produce the same original data in the file. 37 38 EXHIBIT F DISTRIBUTION AGREEMENT TERMS (PRICING MAY BE ADJUSTED FROM TIME TO TIME BY STAC, UPON NOTICE TO MICROSOFT) LICENSE AGREEMENT This License Agreement (the "Agreement") is made and entered into as of _________, 199 _____, a ________ corporation, with its principal place of business at ____________________ A. Stac, Inc., a California corporation, with its principal place of business at 12636 High Bluff Drive, San Diego, California 92130 ("Stac"), has developed certain software programs (as defined below, the "Software"); Licensee desires to license such Software for integration with its products (as defined below the "Licensee's Products") which are to be resold by Licensee; Microsoft has the right from Stac to grant the certain limited license rights granted below to Licensee on the terms and conditions of this Agreement; B. Therefore, Microsoft desires to grant certain limited license rights to Licensee to reproduce and distribute such Software on the terms and conditions contained in this Agreement. NOW THEREFORE, based on the above premises and in consideration of the mutual covenants and agreements contained herein, the parties agree as follows: 1. Definitions. As used herein, the following terms shall have the respective meanings set forth below: 1.1 "Software" shall mean the software and documentation described in Exhibit A together with any released Corrections (as defined below) of such version. 1.2 "Corrections" shall mean subsequently commercially released versions of the Software that Stac or Microsoft, in their sole discretion, has released with its version number designation increased by hundredths, but not tenths or greater. 1.3 "End User" shall mean a person, entity, or group of entities under common control that licenses Software integrated with Licensee's Products solely for its own internal use without any right to further distribute or sublicense the Software. 1.4 "IP Rights" shall mean only those intellectual property rights, including copyrights, patents, trade secrets, trademarks, and other proprietary rights owned by Stac or Microsoft and that are specifically embodied in the Software. 1.5 "Licensee's Products" shall mean only those products listed on Exhibit B hereto. 1.6 "Upgrade" shall mean subsequently commercially released versions of the Software that Stac or Microsoft, in their sole discretion, has released with its version number designation increased by tenths right of the decimal point, but not whole integers left of the decimal point. 38 39 1.7 "Unit" is one Licensee's Product that includes one copy of the Software. 2. Grant of License and Deliverable Items 2.1 License to Licensee. Microsoft hereby grants to Licensee for the term of this Agreement a non-exclusive, non-transferable, limited license to the IP Rights for the sole purpose of reproducing and having reproduced and distributing and having distributed object code only compilations of the Software for pre-sale integration with Licensee's Products by Licensee. 2.2 Restrictions. Licensee acknowledges and agrees that this Agreement in no way shall be construed to provide to Licensee (a) an express or implied license to modify, alter, improve, decompile, disassemble or reverse engineer the Software except to change the names of functions within the Software, as necessary, to integrate with Licensee's Products, or (b) an express or implied license to any of the IP Rights other than as expressly set forth in this Agreement, or (c) an express or implied license to create any hardware implementations of the IP Rights. The limited modifications allowed in 2.2 (a) above expressly exclude changes to the compression format and changes for speed optimization of the Software compression and/or decompression. 2.3. Deliverable Items. Upon execution of this Agreement, Microsoft shall deliver to Licensee the Software and items listed as Other Deliverable Items in Exhibit A hereto. Further, Stac or Microsoft shall deliver to Licensee, for no additional License Fee, any Corrections and Upgrades that are made commercially available during the term of this Agreement. 3. License Fee and License Fee Verification 3.1 Amount of License Fee. In consideration for the license granted pursuant to this Agreement, Licensee agrees and hereby undertakes to pay to Stac a non-refundable License Fee according to the License Fee schedule in Exhibit C. 3.2 Miscellaneous Charges. The License Fees payable under this Agreement do not include any taxes that are now or hereafter enacted which are applicable to the Software sold under this Agreement, or shipping and other charges associated with disseminating the Software, excluding, however, income taxes on profits which may be levied against Stac. All applicable taxes, shipping and other charges are the responsibility of Licensee and Licensee agrees to pay Stac where Stac is obligated to collect or pay same. 3.3 Payment of License Fee. Payments of License Fees are due according to the License Fee Payment Schedule in Exhibit C hereto. All License Fee payments specified in Section 3.1 shall be paid in United States dollars by wire transfer of immediately available funds within as directed by Stac or by Licensee's check which shall be drawn upon a United States bank. 39 40 3.4 License Fee Reports. Within thirty (30) days after the end of each annual term of this Agreement, Licensee shall furnish to Stac an accounting of all sales of Licensee's Products, including total amounts of Units sold and Average Selling Price for each of Licensee's Products. Licensee shall also pay Stac any additional amount of License Fees owed for the annual term just ended, beyond the amount of License Fees paid at the beginning of the annual term just ended, based on the actual Units sold and the actual Average Selling Price for Licensee's Products during the term, as calculated in accordance with the Current License Fees Schedule set forth in Exhibit C for the annual term just ended. Such payment of an additional amount of License Fees, if any, shall be provided within the thirty (30) days after the end of the annual term just ended, together with a written statement of the accounting of all sales of Licensee's Products, certified by an authorized representative of Licensee, and concerning the computation of License Fees payable to Stac with respect to such accounting. Such written statement shall be provided whether or not any additional amount of Licensee Fees is owed, and shall include the actual total Units sold and actual Average Selling Price for each of Licensee's Products. Each such certified statement shall contain information in sufficient detail to verify the accuracy of each License Fee payment due, or to verify the accuracy of the fact that no additional License Fees payment is due. 3.5 License Fee Verification. Upon the reasonable request of Stac, Licensee shall permit access to its books and records by an independent accounting firm selected by Stac and approved by Licensee, which approval shall not be unreasonably withheld, for the sole purpose of verifying and reporting to Stac regarding the calculation of License Fees payable hereunder ("Audit"). The cost for such Audit shall be paid by Stac unless a discrepancy of five percent (5%) or more is uncovered, in which case Licensee shall pay the cost for the Audit. Such audits shall not occur more than once in any twelve month period. 4. Injunctive Relief. License agrees that in the event of a breach or alleged breach of Section 2 that Stac shall not have an adequate remedy at law, including monetary damages, and that Stac shall consequently be entitled to seek a temporary restraining order, injunction, or other form of equitable relief against the continuance of such breach, in addition to any and all remedies to which Stac shall be entitled. 5. Export. Licensee acknowledges that any export of products, and all technical data related thereto, is subject to regulation under United States laws, including but not limited to the Export Administration Act of 1979 and regulations issued thereunder. Licensee therefore agrees to: (a) comply with applicable export or asset control laws of the United States and regulations applicable to such exports; (b) comply, and take all permissible measures to insure its customers' compliance with, the provisions of said license(s), including record keeping requirements; and (c) refrain from selling or otherwise distributing products or related data in violation of such laws, regulations, or licenses. 6. Product Marking, In addition to the consideration in Section 3.1 above, when referring to the Software integrated with Licensee's Product, Licensee must use the trademark(s) and logo(s) in Exhibit D (the "Trademarks"), in accordance with Microsoft's current trademark use guidelines (referenced in Exhibit D), in Licensee's marketing and sales literature, advertising, product documentation and other communications. Neither Stac nor Microsoft shall be responsible or liable for the accuracy of Licensee's statements in such communications. In order 40 41 to properly maintain Microsoft's goodwill in the Trademarks, prior to marketing Licensee's Product(s), Licensee agrees to provide Microsoft with a reasonable opportunity to verify that Licensee's Product(s) marketing and sales literature, advertising, product documentation and other communications where Microsoft's trademark(s) or logo(s) are used meets Microsoft's compatibility and quality standards. 7. Technical Support. Licensee shall be responsible for all technical support, including End User technical support, related to the Software integrated with Licensee's Products. 8. Proprietary Rights 8.1 Title. All right, title, and interest to the IP Rights shall remain with Stac or Microsoft, as applicable, and Licensee obtains only a limited license to reproduce the Software and documentation subject to all of the terms and conditions hereof. Licensee hereby acknowledges that the Software contains valuable proprietary and confidential information developed or acquired by Stac and/or Microsoft through the expenditure and investment of a great deal of time and resources, including without limitation valuable algorithms, concepts and innovations. 8.2 IP Rights Notices. Licensee shall ensure that Stac's and Microsoft's copyright, trademark, and patent notices, which may be updated from time to time, are prominently displayed on all copies of the Software and documentation. All notices of Stac's and Microsoft's patents shall be made in accordance with 35 U.S.C. Sec 287. Licensee shall not remove or obscure any copyright, trademark, patent or other proprietary rights notice already present on any of the Software or documentation. 9. Patents and Copyrights Indemnification 9.1 Subject to Section 9.4 below, Stac will defend or settle at its expense and will pay the costs and damages awarded against Licensee in any action brought against Licensee on the basis that the Software infringes a United States patent or copyright, provided that Licensee (i) promptly notifies Stac in writing of such action, (ii) provides Stac with all reasonable assistance for the defense or settlement of such action, (iii) grants to Stac sole authority and control for the defense or settlement of such action, and (iv) fully observes all the terms and conditions of this Agreement. 9.2 If a final injunction is obtained against Licensee in such action on the basis that the Software infringes a United States patent or copyright, Stac will, at Stac's option and expense, either (i) procure for Licensee the right to continue using the Software, (ii) replace or modify the infringing portion of the Software so that it becomes non-infringing, or (iii) refund any License Fees paid by Licensee to Stac with respect to Units against which the injunction is obtained. 41 42 9.3 Stac shall not have any liability to Licensee for, and Licensee shall defend and hold Stac harmless against any expense, judgment or loss arising from any claim of patent or copyright infringement based on (i) the reproduction, manufacture, use, sale or offer for sale of anything other than a current unaltered release of the Software, (ii) any modifications made to the Software, or (iii) combinations of the Software by Licensee with any product or technology which, without such combination, such claim would not have been brought. 9.4 In no event shall Stac's total liability to Licensee under this paragraph exceed the License Fees paid to Stac by Licensee during the term of the agreement. 9.5 The use of this Software may require a license from Motorola. A license agreement for the right to use Motorola patents may be obtained through Stac or directly from Motorola. 10. WARRANTIES AND LIMITATIONS OF LIABILITY 10.1 Warranty of Title. Stac warrants that it has good title to the Software and has the right to license the use of the Software free of any known proprietary rights of any other party or any other known encumbrance whatsoever. 10.2 DISCLAIMER OF WARRANTY. THE ITEMS AND SERVICES FURNISHED UNDER OR IN CONNECTION WITH THIS AGREEMENT ARE PROVIDED, IN THEIR CURRENT STATE, AND NEITHER MICROSOFT NOR STAC MAKE ANY WARRANTIES OR COVENANTS, OTHER THAN THOSE SET OUT ABOVE, EXPRESS OR IMPLIED BY OPERATION OF LAW OR OTHERWISE, INCLUDING BUT NOT LIMITED TO ANY IMPLIED WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR USE. ANY ADDITIONAL OR OTHER CLAIMS, REPRESENTATIONS OR WARRANTIES BY LICENSEE TO ITS CUSTOMERS (EXPRESS OR IMPLIED BY LAW OR OTHERWISE) ARE THE RESPONSIBILITY OF LICENSEE. LICENSEE HAS NO RIGHT OR AUTHORITY TO MAKE ANY AGREEMENT, STATEMENT, REPRESENTATION, WARRANTY OR OTHER COMMITMENT ON BEHALF OF MICROSOFT OR STAC NOR TO INCUR ANY LIABILITY OR OBLIGATION, EXPRESS OR IMPLIED, ON BEHALF OF MICROSOFT OR STAC. 10.3 LIMITATION OF LIABILITY. EXCEPT AS PROVIDED IN SECTION 9 ABOVE, IN NO EVENT SHALL MICROSOFT OR STAC OR THEIR SUPPLIERS BE LIABLE FOR ANY DAMAGES WHATSOEVER (INCLUDING WITHOUT LIMITATION, DAMAGES FOR LOSS OF BUSINESS PROFITS, BUSINESS INTERRUPTION, LOSS OF BUSINESS INFORMATION, OTHER PECUNIARY LOSS, OR CONSEQUENTIAL DAMAGES) ARISING OUT OF THE USE OF OR INABILITY TO USE THE SOFTWARE, EVEN IF MICROSOFT OR STAC HAVE BEEN ADVISED OF THE POSSIBILITY OF SUCH DAMAGES. 11. TERM AND TERMINATION 11.1 Term. This Agreement shall become effective as of the Effective Date hereof and shall continue in force for the term specified in Exhibit E, unless earlier terminated in accordance with this Section 11. 42 43 11.2 Termination. The license granted by this Agreement shall be terminated, immediately and without notice, except as specifically provided herein, upon the occurrence of any of the following: (a) Expiration of the term specified herein, in accordance with the terms of this Agreement. (b) At Stac's or Microsoft's option, upon thirty (30) days written notice of termination, in the event of Licensee's commission of an event of default as defined in section 11.3 hereof. Such termination shall become effective unless the defaulting party shall cure all aspects of the default and so notify the terminating party of the cure in writing within said thirty (30) day period. 11.3 Events of Default. Licensee shall be considered to have committed an event of default by any of the following, giving rise to a right on the part of either Stac or Microsoft to terminate the License in accordance with the provisions of this Section 11: (a) Licensee attempts to use, modify, copy, license, or convey the Software in any manner contrary to the terms of this Agreement or in any manner which impairs, alters, or lessens Stac's proprietary rights in the Software in any way. (b) Licensee fails or neglects to perform or observe any of its existing or future obligations under this agreement, including, without limitation, the timely payment of any sums due Stac. (c) A petition in bankruptcy is filed by or against Licensee, which is not released within 90 days of filing; if a receiver, trustee in bankruptcy, or similar officer is appointed to take charge of all or part of Licensee's property; or Licensee is adjudicated a bankrupt. (d) If an audit pursuant to Section 3.5 above reveals that Licensee has underpaid License Fees due Stac under this Agreement, Licensee shall within considered in default pursuant to Section 11.2 and Licensee shall within twenty (20) days pay to Stac the amount of the underpaid License Fees and the costs, if due, of the License Fee audit. 11.4 Effect of Termination. Licensee agrees that immediately upon the termination of this Agreement, pursuant to any of the provisions of Section 11 herein, it shall immediately destroy all copies of the Software not then incorporated in Licensee's Product(s) and certify that fact to Stac. Licensee further agrees that in the event of termination through its default, all fees or charges due Stac shall immediately become due and payable. Upon termination of the license granted under this Agreement, Stac's obligations hereunder shall cease, however, End Users with valid licenses to the Software integrated with Licensee's Products entered into prior to the effective date of termination shall retain their rights to use the Software. 12. General Provisions 43 44 12.1 Assignment. Licensee shall not assign any of its rights under this Agreement nor delegate its duties hereunder to another person or legal entity without the prior written consent of Microsoft and Stac, which consent may be withheld for any reason. This Agreement shall inure to the benefit of and be binding upon the parties hereto, their respective trustees, successors, permitted assigns and legal representatives. 12.2 Non-Waiver. A failure of any party hereto to exercise any right given to it hereunder, or to insist upon strict compliance by another party of any obligation hereunder, shall not constitute a waiver of the first party's right to exercise such a right, or to exact compliance with the terms hereof. Moreover, waiver by any party of a particular default by another party shall not be deemed a continuing waiver so as to impair the aggrieved party's rights in respect to any subsequent default of the same or a different nature. 12.3 Survival. Upon the termination of this Agreement for any reason, the following Sections shall remain in full force and effect: 1, 2.2, 3, 4, 5, 7, 8, 9, 10, 11 and Section 12 except for 12.1 and 12.5. 12.4 Governing Law. The parties agree that the laws of the State of California shall govern the interpretation and enforcement of this Agreement, without giving effect to that State's choice of law rules. 12.5 Notices. All notices or other communications that shall or may be given pursuant to this Agreement, shall be in writing, in English, shall be sent by certified or registered mail with postage prepaid, return receipt requested, by facsimile, telex or cable communication, or by hand delivery. Such communications shall be deemed given and received upon dispatch, if sent by facsimile, telex, or cable communication; or upon delivery if hand delivered; or within five (5) days of mailing, if sent by certified or registered mail, and shall be addressed to the parties as set forth above on the first page of this Agreement, or to such other addresses as the parties may designate in writing from time to time. 12.6 Attorney's Fees to Prevailing Party. In the event of any litigation or other proceedings (including proceedings in bankruptcy) concerning or related to this Agreement, the prevailing party, solely as between Stac or Microsoft and Licensee, shall be entitled to recover its actual attorneys' fees and expenses incurred in connection with such proceedings. 12.7 Entire Agreement. This Agreement contains the full understanding of the parties and supersedes all prior agreements and understandings, written or oral, between the parties with respect to the subject matter hereof; and there are no representations, warranties, agreements or understandings other than those expressly contained herein. No alteration, modification, variation or waiver of this Agreement, or any of the provisions hereof shall be effective unless executed by both parties in writing. All exhibits attached hereto and referred to herein are hereby incorporated by reference and made a part hereof. 12.8 Confidentiality. Except as required by regulatory agencies or as ordered disclosed pursuant to judicial or other lawful governmental action, and then only to the extent so required or ordered, the terms of, but not the existence of, this Agreement and the required information disclosed in Section 3 herein shall be held in confidence by Stac, Microsoft and Licensee. 44 45 12.9 Captions. The captions that head certain sections and paragraphs in this Agreement are inserted only as a matter of convenience, and in no way define, limit, or extend or interpret the scope of this Agreement or of any particular Section. IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed on the dates indicated below. MICROSOFT CORPORATION ________________________ ("LICENSEE") By: ___________________________________ By: ________________________________ Its: ___________________________ Its: ______________________ Dated: ______, 199_ Dated: _____, 199_. 45 46 EXHIBIT A SOFTWARE Product Name: ________________________ The files listed below comprise the Software: - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- OTHER DELIVERABLE ITEMS - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- - ---------------------------------------- 46 47 EXHIBIT B LICENSEE'S PRODUCTS Licensee's license to reproduce, use and distribute the Software is only in conjunction with the products and equipment listed below which are made, used, sold and distributed by Licensee:
Average Annual Units Selling Price ---------------------------- --------------------------------- Product Name < $50 < $250 < $1000 > $1000 < 1K < 10K < 100K < 1000K > 1000K - ------------------------------------------- --------------------------------- Total Volume all Products Average ASP all Products
47 48 EXHIBIT C LICENSE FEE License Fees shall be payable for Units according to the following Current License Fee Schedule:
Total Average Selling Price (ASP) Units < $50 < $250 < $1,000 > $1,000 - ----- ----- ------ -------- -------- < 1K $ 5K $10K $15K $20K < 10K $12K $25K $37K $50K < 100K $25K $45K $60K $75K < 1000K $50K $70K $90K $95K > 1000K $80K $85K -- --
The Average Selling Price (ASP) of Licensee's Products is the average forecasted selling price for all Units of Licensee's Product during the period of this Agreement. The Total Units is the volume of Units forecasted for shipment during the period of this Agreement. If multiple products are listed in Exhibit B, then the License Fee payable shall be calculated as follows: The Units are the sum of the Units for each of Licensee's Products; the ASP is the average of the ASP for each Licensee's Product listed. In the case that compression is an option for Licensee's Products, the ASP is the ASP of the option together with its host platform. The Current License Fee Schedule above shall be updated annually at the time of renewal of this Agreement by Stac's then current License Fee schedule, which shall not have an amount of increase in License Fees of more than 10 percent from the Current License Fee Schedule. Such updated License Fee Schedule shall become the Current License Fee Schedule for the subsequent renewal term of this Agreement. LICENSE FEE PAYMENT SCHEDULE Payment of the License Fee for the initial term of this Agreement shall be made within thirty (30) days of the Effective Date of this Agreement. Payment of License Fees for renewal periods of this Agreement as provided for in Exhibit E shall be made within thirty (30) days following each subsequent annual renewal date of this Agreement. 48 49 EXHIBIT D Microsoft's MPPC logo is shown below. The Microsoft MPPC Logo Use Guidelines are contained in a separate manual provided with this Agreement. 49 50 EXHIBIT E TERM THE TERM OF THIS AGREEMENT SHALL BE FOR ONE YEAR FROM ITS EFFECTIVE DATE AND SHALL BE RENEWABLE FOR SUBSEQUENT ONE YEAR PERIODS UPON PAYMENT OF THE LICENSE FEE FOR THE RENEWED TERM ACCORDING TO EXHIBIT C OF THIS AGREEMENT, AND WRITTEN SUBMISSION OF A CURRENT EXHIBIT B. ANY CHANGES TO THE CURRENT EXHIBIT B MUST BE AGREED TO BY STAC IN WRITING. 50 EX-10.13 11 EXHIBIT 10.13 1 EXHIBIT 10.13 LICENSE AGREEMENT THIS AGREEMENT is entered into on this 15th day of December 1995, 1995, by and between Motorola, Inc. a Delaware corporation having an office at 1303 East Algonquin Road, Schaumburg, Illinois 60196 (hereinafter called "MOTOROLA"), and Stac, Inc., a California corporation having an office at 12636 High Bluff Drive, Suite 400, San Diego, California 92130-2093 (hereinafter called "STAC"). WHEREAS, MOTOROLA owns and has, or may have, rights in certain patents issued, and applications for patents pending, in various countries of the world as to which STAC desires to acquire licenses as hereinafter provided, and WHEREAS, STAC owns and has, or may have, rights in certain patents issued, and applications for patents pending, in various countries of the world as to which MOTOROLA desires to acquire licenses as hereinafter provided, NOW THEREFORE, in consideration of the mutual covenants and conditions hereinafter set forth, it is agreed as follows: Section 1 -- DEFINITIONS 1.1 SUBSIDIARY(IES) means any legal entity, more than fifty percent (50%) of whose outstanding shares or securities representing the right to vote for the election of directors or other managing authority are, now or hereafter, owned or controlled, directly or indirectly by that party (but only so long as such conditions exist). 1.2 LZS DATA COMPRESSION means any lossless data compression algorithm made commercially available by STAC and which STAC has the rights to license others to make, use, sell, offer for sale, copy and create derivative works therefor. -1- MOTOROLA CONFIDENTIAL PROPRIETARY 2 1.3 CZL DATA COMPRESSION means a MOTOROLA developed version of the Ziv-Lempel 77 lossless data compression algorithm. 1.4 DATA COMMUNICATION APPLICATIONS means the use of any product for the primary function of communications, such product having one or more interfaces to a public or private network. 1.5 STAC PATENTS means U.S. Patent Nos. 4,701,745; 5,016,009; 5,146,221; 5,126,739, and 5,463,390, and any patent issuing from European Patent Application Number EP 0 582 907 A2 and including all divisions, continuations, continuations-in-part, reissues, renewals, and extensions, and any foreign or domestic counterparts claiming priority therefrom. 1.6 MOTOROLA PATENTS shall mean U.S. Patent Nos. 5,130,993 and 5,245,614, any patent issuing from U.S. Patent Application No. 08/156,857 and including all divisions, continuations, continuations-in-part, reissues, renewals, and extensions, and any foreign or domestic counterparts claiming priority therefrom. 1.7 STAC COPYRIGHTS means copyrights owned by STAC in the United States and throughout the world in LZS DATA COMPRESSION algorithms, and in source code and object code versions of software implementing LZS DATA COMPRESSION algorithms. 1.8 CHIPSETS means one or more semiconductor devices which, alone or collectively, are utilized to implement the function of lossless data compression. 1.9 MERCHANT CHIPSETS means CHIPSETS offered for sale, sold or otherwise transferred as CHIPSETS, and not as incorporated in a larger product, to entities other than MOTOROLA and STAC or their SUBSIDIARIES. 1.10 MERCHANT SOFTWARE means software having lossless data compression as its primary and predominant function that is offered -2- MOTOROLA CONFIDENTIAL PROPRIETARY 3 for sale, sold, or otherwise transferred as a software-only product, and not as incorporated in a larger product, to entities other than MOTOROLA and STAC or their SUBSIDIARIES. 1.11 LICENSED MOTOROLA PRODUCT(S) means all products made by, or manufactured for, MOTOROLA or its SUBSIDIARIES that infringe the STAC PATENTS; provided, however, that LICENSED MOTOROLA PRODUCTS shall not include MERCHANT CHIPSETS, MERCHANT SOFTWARE or LICENSED MOTOROLALZS PRODUCTS. 1.12 LICENSED MOTOROLA LZS PRODUCTS means all products that incorporate LZS DATA COMPRESSION, including products that embody enhancements to LZS DATA COMPRESSION developed by MOTOROLA; provided, however, that LICENSED MOTOROLA LZS PRODUCTS shall not include CHIPSETS, LICENSED MOTOROLA PRODUCTS or MERCHANT SOFTWARE. 1.13 LICENSED STAC PRODUCT(S) means all products that infringe or cause to be infringed by purchasers, the MOTOROLA PATENTS. LICENSED STAC PRODUCT(S) shall not include software directly incorporated into computer operating systems software sold by Microsoft Corporation or software sold on media containing other software sold by Microsoft Corporation, but shall include software sold by STAC on separate media under the trade identity of STAC or its SUBSIDIARY(IES). 1.14 LICENSED STAC LZS MOTOROLA ENHANCED PRODUCT(S) means all software made by, or manufactured for, STAC or its SUBSIDIARIES having lossless data compression as its primary function which: 1) embodies enhancements to LZS DATA COMPRESSION developed by MOTOROLA; 2) is incorporated in a LICENSED MOTOROLA LZS PRODUCT; and 3) is delivered to STAC in source code form. 1.15 EFFECTIVE DATE means the date of last signature hereto as such date is entered on the first page hereof. Section 2 -- RELEASES -3- MOTOROLA CONFIDENTIAL PROPRIETARY 4 2.1 STAC and its SUBSIDIARY(IES) hereby release, acquit and forever discharge MOTOROLA (and those SUBSIDIARY(IES) affiliated with MOTOROLA on the EFFECTIVE DATE of this Agreement) and their respective distributors, dealers, customers and users from any and all claims or liability for infringement or alleged infringement of any STAC PATENTS, by the use, lease, sale or other disposition of MOTOROLA products prior to the EFFECTIVE DATE. 2.2 MOTOROLA and its SUBSIDIARY(IES) hereby release, acquit and forever discharge STAC (and those SUBSIDIARY(IES) affiliated with STAC on the EFFECTIVE DATE of this Agreement) and their respective distributors, dealers, customers and users from any and all claims or liability for infringement or alleged infringement of any MOTOROLA PATENTS, by the use, lease, sale or other disposition of STAC products prior to the EFFECTIVE DATE. Section 3 -- GRANTS 3.1 STAC hereby grants to MOTOROLA and its SUBSIDIARY(IES), for the lives of the STAC PATENTS, a non-exclusive, non-transferable royalty bearing license throughout the world under the STAC PATENTS for DATA COMMUNICATION APPLICATIONS only, without the right to sub-license: 3.1.1 to make and to have made LICENSED MOTOROLA PRODUCTS and LICENSED MOTOROLA LZS PRODUCTS, and 3.1.2 with respect to LICENSED MOTOROLA PRODUCTS and LICENSED MOTOROLA LZS PRODUCTS so made and have made, to use, lease, sell, or otherwise dispose of such LICENSED MOTOROLA PRODUCTS and LICENSED MOTOROLA LZS PRODUCTS under the trade identity of MOTOROLA or its SUBSIDIARY(IES). -4- MOTOROLA CONFIDENTIAL PROPRIETARY 5 3.2 STAC grants to MOTOROLA and its SUBSIDIARY(IES) a world-wide, non-exclusive, non-transferable, royalty bearing license under the STAC PATENTS and STAC COPYRIGHTS to use, copy, and distribute, object code only compilations LZS DATA COMPRESSION software for pre-sale integration with LICENSED MOTOROLA LZS PRODUCTS. STAC further grants to MOTOROLA and its SUBSIDIARY(IES) a world-wide, non-exclusive, non-transferable, royalty bearing license under the STAC PATENTS and the STAC COPYRIGHTS to create, use, copy and distribute modified object code only compilations of LZS DATA COMPRESSION software for pre-sale integration with LICENSED MOTOROLA LZS PRODUCTS, provided that such modified compilations of LZS DATA COMPRESSION software do not change the encoding format of the unmodified compilations of LZS DATA COMPRESSION software. 3.3 MOTOROLA grants to STAC and its SUBSIDIARY(IES) a non-exclusive, non-transferable, royalty bearing license throughout the world under the MOTOROLA PATENTS for DATA COMMUNICATION APPLICATIONS only, without the right to sublicense: 3.3.1 to make and have made LICENSED STAC PRODUCTS and LICENSED STAC LZS MOTOROLA ENHANCED PRODUCTS; and 3.3.2 with respect to LICENSED STAC PRODUCTS and LICENSED STAC LZS MOTOROLA ENHANCED PRODUCTS so made and have made, to use, lease, sell, or otherwise dispose of such LICENSED STAC PRODUCTS and LICENSED STAC LZS MOTOROLA ENHANCED PRODUCTS under the trade identity of STAC or its SUBSIDIARY(IES). Section 4 -- PAYMENTS 4.1 STAC shall pay to MOTOROLA a royalty in accordance with Schedule A for each LICENSED STAC PRODUCT sold. 4.1.1 If at any time during the execution of this AGREEMENT MOTOROLA enters into an agreement with respect to the -5- MOTOROLA CONFIDENTIAL PROPRIETARY 6 MOTOROLA PATENTS on substantially similar terms to this AGREEMENT, and providing for a more favorable royalty rate, STAC shall thereafter be entitled to such royalty rate for LICENSED STAC PRODUCTS. MOTOROLA shall notify STAC of that more favorable royalty rate within thirty (30) days of execution of such subsequent agreement. 4.2 STAC shall pay to MOTOROLA for each LICENSED STAC LZS MOTOROLA ENHANCED PRODUCT a royalty of 30% of the net selling price for each LICENSED STAC LZS MOTOROLA ENHANCED PRODUCT sold. The net selling price for each LICENSED STAC LZS MOTOROLA ENHANCED PRODUCT shall be based on the net selling price for the software only, and shall not be based on any selling price of any STAC product incorporating such LICENSED STAC LZS MOTOROLA ENHANCED PRODUCT. 4.3 MOTOROLA shall pay the royalty determined in accordance with Schedule A to STAC for each LICENSED MOTOROLA PRODUCT sold. 4.4 MOTOROLA shall pay the royalty determined in accordance with Schedule B for each LICENSED MOTOROLA LZS PRODUCT sold. 4.4.1 If at any time after the execution of this agreement, STAC enters into an agreement with respect to LZS DATA COMPRESSION on substantially similar terms to this AGREEMENT, and providing for a more favorable royalty rate, MOTOROLA shall thereafter be entitled to such royalty rate for LICENSED MOTOROLA LZS PRODUCTS. STAC shall notify MOTOROLA of that more favorable royalty rate within thirty (30) days of execution of such subsequent agreement. 4.4.2 Royalties payable by MOTOROLA to STAC hereunder for LICENSED MOTOROLA LZS PRODUCTS which transfer information from one point to another point by means of electromagnetic waves in free space shall not exceed $200,000.00 (TWO HUNDRED THOUSAND DOLLARS) per year. Royalties payable by MOTOROLA to STAC hereunder for all other LICENSED MOTOROLA LZS PRODUCTS -6- MOTOROLA CONFIDENTIAL PROPRIETARY 7 shall not exceed $200,000.00 (TWO HUNDRED THOUSAND DOLLARS) per year. 4.5 Within thirty (30) days following execution of this AGREEMENT, and on each anniversary of this AGREEMENT, a responsible official of each party shall estimate for the immediately following year, in writing, an election as to the number of LICENSED MOTOROLA PRODUCTS or LICENSED STAC PRODUCTS it will sell, lease, or otherwise dispose of for that year, and shall indicate the approximate average selling price for said LICENSED MOTOROLA PRODUCTS or LICENSED STAC PRODUCTS, and shall pay the amount indicated in accordance with Schedule A, TABLE I. Within thirty (30) days following each anniversary of this AGREEMENT, each party shall make royalty payments to the other pursuant to Schedule A, TABLE II on the number of LICENSED MOTOROLA PRODUCTS or LICENSED STAC PRODUCTS it sold, leased or otherwise disposed of in the previous year in excess of the number of LICENSED MOTOROLA PRODUCTS or LICENSED STAC PRODUCTS previously estimated for such previous year. 4.6 Within thirty (30) days following execution of this AGREEMENT, and on each anniversary of this AGREEMENT, a responsible official of MOTOROLA shall estimate for the immediately following year, in writing, an election as to the number of LICENSED MOTOROLA LZS PRODUCTS that MOTOROLA will sell, lease, or otherwise dispose of for that year, and shall indicate the approximate average selling price for said LICENSED MOTOROLA LZS PRODUCTS, and shall pay the amount indicated in accordance with the Current License Fee Schedule in accordance with the terms of Exhibit B. Within thirty (30) days following each anniversary of this AGREEMENT, MOTOROLA shall make an additional royalty payment, if any, to STAC representing the royalty owing beyond the royalty paid at the beginning of the previous year for that year, according to the Current License Fee Schedule for that year, based on the average selling price and number of LICENSED MOTOROLA LZS PRODUCTS it actually sold, leased or otherwise disposed of in the previous year. -7- MOTOROLA CONFIDENTIAL PROPRIETARY 8 4.7 Any payment hereunder which shall be delayed for more than thirty (30) days beyond the due date shall be subject to an interest charge of one (1) percent per month on the unpaid balance payable in United States currency until paid. The foregoing payment of interest shall not affect either party's right to terminate this agreement. 4.8 With respect to the royalty and reporting set forth in this Section 4, each party shall keep full, clear and accurate records with respect to LICENSED MOTOROLA PRODUCTS, LICENSED MOTOROLA LZS PRODUCTS, LICENSED STAC PRODUCTS, or LICENSED STAC LZS MOTOROLA ENHANCED PRODUCTS sold, leased or otherwise disposed of. These records shall be retained for a period of three (3) years from date of reporting and payment notwithstanding the expiration or other termination of this AGREEMENT. Each party shall have the right through a mutually agreed upon independent certified public accountant and at its expense, to examine and audit, not more than once a year, and during normal business hours, all such records and such other records and accounts as may under recognized accounting practices contain information bearing upon the amount of royalty payable to the other under this AGREEMENT. Such independent accountant shall report to the parties only as to the amount of royalties payable under this AGREEMENT. Prompt payment shall be made to compensate for any underpayments disclosed by such examination or audit. 4.9 Each party shall bear all taxes imposed on it with respect to the payments received under this Section, provided, however, that if so required by applicable law, the other party may withhold the amount of taxes levied on payments to be made pursuant to this Agreement, and shall promptly make payment of the withheld amount to the appropriate tax authorities and shall transmit to the other official tax receipts or other evidence issued by said appropriate tax authorities sufficient to enable MOTOROLA to support a claim for tax credit in respect to such withheld taxes so paid. -8- MOTOROLA CONFIDENTIAL PROPRIETARY 9 4.10 All sums due MOTOROLA are payable in United States dollars and shall be paid by wire transfer to the following MOTOROLA bank account unless otherwise directed: The Bank of Boston 100 Federal Street Boston, Massachusetts Account: 531-31430 Account Name: Motorola, Inc. Federal Fund ID: 011000390 4.11 All sums due STAC are payable in United States dollars and shall be paid by wire transfer to the following STAC bank account unless otherwise directed: Silicon Valley Bank 2240 North First Street San Jose, CA 95131 Account Number: 06001645-75 Account Name: Stac Electronics ABA Transfer Number: 1211-4039-9 4.12 Royalties payable by STAC to MOTOROLA hereunder shall not exceed $1,000,000.00 during the term of this agreement. 4.13 Royalties payable by MOTOROLA to STAC hereunder for LICENSED MOTOROLA PRODUCTS which transfer information from one point to another point by means of electromagnetic waves in free space shall not exceed $1,000,000.00 during the term of this agreement. Royalties payable by MOTOROLA to STAC hereunder for all other LICENSED MOTOROLA PRODUCTS shall not exceed $1,000,000.00 during the term of this AGREEMENT. 4.14 The obligation to pay royalties in Sections 4.1 and 4.3 by either party except for royalties accrued during the first seven years of this agreement shall end seven years from the EFFECTIVE DATE. -9- MOTOROLA CONFIDENTIAL PROPRIETARY 10 4.15 At MOTOROLA's option, MOTOROLA may eliminate the payment provisions of Section 4.1 and 4.3 herein by paying to STAC on or before September 30, 1996, the amount of $1,000,000.00, less any royalties already paid by MOTOROLA to STAC pursuant to Section 4.3, plus any royalties already paid by STAC to MOTOROLA pursuant to Section 4.1. Such amount represents a total net payment of the sum of the limits on royalties to be paid by each party to the other party under the provisions of Sections 4.12 and 4.13. Section 5 -- SUSPENSION OF LICENSE If at any time during the term of this Agreement any third party holding at least a 20% ownership interest in STAC or any SUBSIDIARY of STAC, any supplier to STAC, any user of LICENSED STAC PRODUCT(S) or LICENSED STAC LZS MOTOROLA ENHANCED PRODUCT(S) or any other third party (hereinafter, collectively "Third Party Claimant") asserts a patent essential to any standard of a recognized engineering association, such as the ITU-C, Frame Relay Forum, or the IETF, (hereinafter "ESSENTIAL PATENTS") against any MOTOROLA product and also asserts that MOTOROLA is prevented from asserting claims under any MOTOROLA PATENTS against such Third Party Claimant as a result of the licenses granted to STAC in this AGREEMENT, then the licenses granted to STAC shall immediately be suspended as to any products not generally offered for sale by the Third Party Claimant within thirty (30) days of the date of written notice by MOTOROLA to STAC of such assertions by such Third Party Claimant. The suspension of the licenses granted to STAC shall be effective only if and so long as MOTOROLA actively negotiates and/or defends such claim and only to the extent necessary to obviate the assertions made by the Third Party Claimant to the effect that MOTOROLA is prevented from asserting claims under MOTOROLA PATENTS because of this AGREEMENT. MOTOROLA agrees to institute no legal action against either STAC or the Third Party Claimant with respect to licensed product sold to Third Party Claimant by STAC for the period of thirty (30) days following the Notice of Suspension, during which thirty (30) days STAC may continue -10- MOTOROLA CONFIDENTIAL PROPRIETARY 11 to operate as if the licenses were not suspended. After such thirty (30) day period, no product sold, leased or otherwise disposed of by STAC to such Third Party Claimant and no copy of software made by or for such Third Party Claimant under authority granted by STAC shall be deemed to be a LICENSED STAC PRODUCT. Such a suspension of the licenses granted to STAC shall remain in effect until such time as MOTOROLA no longer actively negotiates and/or defends any assertion of an ESSENTIAL PATENT by the Third Party Claimant or to the extent the suspension is unnecessary for MOTOROLA to obviate any assertion made by the Third Party Claimant to the effect that MOTOROLA is prevented from asserting claims under MOTOROLA PATENTS because of this AGREEMENT. Section 6 -- SUBLICENSES 6.1 STAC may grant sublicenses to its CHIPSET and software customers for the MOTOROLA PATENTS on terms and conditions in conformance with the terms and conditions contained in the exemplary license agreement attached hereto as Exhibit C (hereinafter "INDUSTRY AGREEMENT"), as the MOTOROLA PATENTS are defined in the INDUSTRY AGREEMENT; provided, however, that STAC may not grant any sublicenses to the MOTOROLA PATENTS (as defined in the INDUSTRY AGREEMENT) to Microsoft Corporation, Apple Computer, IBM, Digital Equipment Corporation and Santa Cruz Operations. 6.2 Should STAC so desire, STAC shall be permitted to propose to MOTOROLA modifications to the terms and conditions of the INDUSTRY AGREEMENT. STAC shall propose such modifications by sending, by registered mail, return receipt requested, to the address listed hereinafter in Section 10.11.1. MOTOROLA shall either approve or deny such modifications within thirty (30) days of MOTOROLA's receipt of STAC's proposed modifications. Failure by MOTOROLA to approve or deny STAC's proposed modifications shall be deemed an approval of the proposed modifications. Once any modifications have been approved by MOTOROLA, STAC will be free to use an INDUSTRY AGREEMENT -11- MOTOROLA CONFIDENTIAL PROPRIETARY 12 containing such modifications to use in accordance with granting sublicenses pursuant to Section 6.1. 6.3 Schedule A of the INDUSTRY AGREEMENT sets forth the amount of royalties to be paid by each sublicensee and the INDUSTRY AGREEMENT sets forth the timing and manner of payments. As provided in the INDUSTRY AGREEMENT, royalties paid by each sublicensee shall be paid directly to MOTOROLA. STAC shall use its best efforts to ensure that all sublicensees pay the required royalty amounts to MOTOROLA when due. If a sublicensee fails to pay the required royalties when due, then the sublicense to that sublicensee shall, after reasonable notice to the sublicensee, be immediately suspended. 6.4 Payments for royalties due MOTOROLA on account of any sublicenses shall be discounted to STAC's benefit from the Schedule A attached to this AGREEMENT by FIFTY PERCENT (50%) for the first year of each sublicensee's INDUSTRY AGREEMENT, FORTY PERCENT (40%) for the second year of each sublicensee's INDUSTRY AGREEMENT, and THIRTY PERCENT (30%) for the third and each subsequent year of each sublicensee's INDUSTRY AGREEMENT. STAC may modify the royalties set forth on Schedule A of the INDUSTRY AGREEMENT in its sole discretion and without prior approval from MOTOROLA, so long as those royalties are not less than that listed in Exhibit A of this AGREEMENT less the aforementioned discount. Within thirty days of MOTOROLA's receipt of royalties from a STAC sublicensee pursuant to an INDUSTRY AGREEMENT, MOTOROLA shall pay STAC the difference between: 1) the royalties paid to MOTOROLA by the sublicensee, and 2) the amount that would be due from the sublicensee using Schedule A of this AGREEMENT reduced in accordance with the aforementioned discount. 6.5 Pursuant to the INDUSTRY AGREEMENT, STAC shall have the ability to perform an audit of each sublicensee once each year in order to verify that the sublicensee's payment of royalties is correct. During each year of this AGREEMENT subsequent to the first year of this AGREEMENT, MOTOROLA may request that STAC perform an audit of a reasonable number of sublicensees pursuant to the audit provisions of -12- MOTOROLA CONFIDENTIAL PROPRIETARY 13 the INDUSTRY AGREEMENT. However, in no event shall STAC be required by MOTOROLA to perform any audits in any one year of this AGREEMENT in excess of the lower of 1) ten percent (10%) of the STAC sublicensees, or 2) any number of STAC sublicensees representing twenty percent (20%) of the dollar sales volume (determined by unit volume multiplied by selling price) of all of STAC sublicensees. Nevertheless, MOTOROLA may require STAC to perform at least one audit per year. Section 7 -- TERM AND ASSIGNABILITY 7.1 The term of this Agreement shall be from the EFFECTIVE DATE through the entire unexpired term of the last to expire of STAC PATENTS and MOTOROLA PATENTS licensed or subject to license herein. 7.2 Any royalty obligation of MOTOROLA or its SUBSIDIARY(IES) shall not extend beyond the expiration of the last of the STAC PATENTS licensed herein. 7.3 Any royalty obligation of STAC or its SUBSIDIARY(IES) shall not extend beyond the expiration of the last of the MOTOROLA PATENTS licensed herein. 7.4 In the event that MOTOROLA sells a MOTOROLA business unit or SUBSIDIARY that utilizes the STAC PATENTS, STAC agrees to enter into a separate agreement with that business unit or SUBSIDIARY wherein STAC will grant the same licenses under Sections 3.1 and 3.2 above pursuant to the same royalty terms provided herein, except that the provisions of Sections 4.4.2 and 4.13 shall not apply. 7.5 In the event that STAC sells a STAC business unit or SUBSIDIARY to an entity other than Microsoft Corporation, that utilizes, or has customers that utilize, the MOTOROLA PATENTS, MOTOROLA agrees to enter into a separate agreement with that business unit or SUBSIDIARY wherein MOTOROLA will grant the same license under Section 3.3 above -13- MOTOROLA CONFIDENTIAL PROPRIETARY 14 pursuant to the same royalty terms provided herein, except that the provisions of Section 4.12 above shall not apply. 7.6 In the event that STAC sells a STAC business unit or SUBSIDIARY to an entity other than Microsoft Corporation, that utilizes, or has customers that utilize, the MOTOROLA PATENTS, and STAC determines that only the STAC business unit or SUBSIDIARY or its customers require rights to the MOTOROLA PATENTS granted in this AGREEMENT, STAC may assign all of its rights and obligations to the MOTOROLA PATENTS to such STAC business unit or SUBSIDIARY, including but not limited to the provisions of Section 4.12. For the purposes of calculating the amounts paid by such STAC business unit or SUBSIDIARY determined by Section 4.12, all prior payments made by STAC pursuant to this AGREEMENT shall be included. 7.7 In the event that MOTOROLA enters into a joint development or partnership agreement with an original equipment manufacturer, STAC agrees to enter into a separate agreement with that original equipment manufacturer wherein STAC will grant the same licenses under Sections 3.1 and 3.2 above pursuant to the same royalty terms provided herein, except that the provisions of Sections 4.4.2 and 4.13 above shall not apply. No royalty shall be due pursuant to this AGREEMENT for products sold by such original equipment manufacturer pursuant to such a separate agreement; royalties for such products shall be due pursuant to such separate agreement. 7.8 In the event that STAC enters into a joint development or partnership agreement with an original equipment manufacturer, MOTOROLA agrees to enter into a separate agreement with that original equipment manufacturer wherein MOTOROLA will grant the same licenses under Section 3.3 above pursuant to the same royalty terms provided herein, except that the provisions of Section 4.12 above shall not apply. No royalty shall be due pursuant to this AGREEMENT for products sold by such original equipment manufacturer pursuant to such a separate agreement; royalties for such products shall be due pursuant to such separate agreement. -14- MOTOROLA CONFIDENTIAL PROPRIETARY 15 Section 8 -- WARRANTIES 8.1 Each party warrants that it has all rights necessary to grant the releases, rights and licenses granted herein. 8.2 Each party warrants that any of its SUBSIDIARY(IES) licensed hereunder shall undertake all obligations contained herein as if such SUBSIDIARY(IES) were directly named as a party to this Agreement. Section 9 -- PUBLICITY 9.1 Nothing in this Agreement shall be construed as conferring upon either party the right to include in advertising, packaging or other commercial activity any reference to the other party, its trademarks, trade names, service marks, or other trade identity in a manner likely to cause confusion. 9.2 Either party may disclose the existence of this Agreement, but shall otherwise keep the terms of this Agreement confidential and shall not now or hereafter divulge any part thereof to any third party except: 9.2.1 with the prior written consent of the other party; or 9.2.2 to any governmental body having jurisdiction to request and to read the same; or 9.2.3 as otherwise may be required by law or legal processes; or 9.2.4 to legal counsel representing either party; or 9.2.5 to its SUBSIDIARY(IES) provided that such divulging party shall impose equivalent confidentiality obligations on the recipient in writing prior to such divulgence. -15- MOTOROLA CONFIDENTIAL PROPRIETARY 16 9.3 STAC agrees to include the text of Exhibit D in its multichannel data compression data sheets and in its licenses for LZS DATA COMPRESSION software. 9.4 MOTOROLA agrees to use the STAC LZS logo, as specified in Exhibit E, on the packaging and documentation of any products which use the STAC LZS DATA COMPRESSION technology. Section 10 -- MISCELLANEOUS PROVISIONS 10.1 Nothing contained in this Agreement shall be construed as: 10.1.1 restricting the right of either party or any of its SUBSIDIARY(IES) to make, use, sell, lease or otherwise dispose of any particular product or products not herein licensed; 10.1.2 conferring any license or other right, by implication, estoppel or otherwise, under any patent application, patent or patent right, except as herein expressly granted herein; 10.1.3 conferring any license or right with respect to any trademark, trade or brand name, a corporate name of either party or any of their respective SUBSIDIARY(IES), or any other name or mark, or contraction, abbreviation or simulation thereof; 10.1.4 imposing on either party any obligation to institute any suit or action for infringement of any patent, or to defend any suit or action brought by a third party which challenges or concerns the validity of any patent licensed under this Agreement; 10.1.5 a warranty or representation by either party that any manufacture, use, sale, lease or other disposition of its products or services will be free from infringement of any patent other than the patents licensed herein; -16- MOTOROLA CONFIDENTIAL PROPRIETARY 17 10.1.6 imposing on either party any obligation to file any patent application or to secure any patent or maintain any patent in force; or 10.1.7 an obligation on either party to furnish any manufacturing or technical information under this Agreement except as the same is specifically provided for herein. 10.2 No express or implied waiver by either of the parties to this Agreement of any breach of any term, condition or obligation of this Agreement by the other party shall be construed as a waiver of any subsequent breach of that term, condition or obligation or of any other term, condition or obligation of this Agreement of the same or of a different nature. 10.3 Anything contained in this Agreement to the contrary notwithstanding, the obligations of the parties hereto shall be subject to all laws, both present and future, of any Government having jurisdiction over either party hereto, and to orders or regulations of any such Government, or any department, agency, or court thereof, and acts of war, acts of public enemies, strikes, or other labor disturbances, fires, floods, acts of God, or any causes of like or different kind beyond the control of the parties, and the parties hereto shall be excused from any failure to perform any obligation hereunder to the extent such failure is caused by any such law, order, regulation, or contingency but only so long as said law, order, regulation or contingency continues. 10.4 This Agreement is the result of negotiation between the parties and, accordingly, shall not be construed for or against either party regardless of which party drafted this Agreement or any portion thereof. 10.5 Nothing in this Agreement shall be construed as creating a partnership, joint venture, or other formal business organization of any kind. -17- MOTOROLA CONFIDENTIAL PROPRIETARY 18 10.6 In no event shall either party be liable to the other party by reason of this Agreement or any breach or termination of this Agreement for any loss of prospective profits or incidental or special or consequential damages. 10.7 The captions used in this Agreement are for convenience only, and are not to be used in interpreting the obligations of the parties under this Agreement. 10.8 This Agreement and the performance of the parties hereunder shall be construed in accordance with and governed by the laws of the State of Illinois, United States of America. 10.9 If any term, clause, or provision of this Agreement shall be judged to be invalid, the validity of any other term, clause, or provision shall not be affected; and such invalid term, clause, or provision shall be deemed deleted from this Agreement. 10.10 This Agreement sets forth the entire Agreement and understanding between the parties as to the subject matter hereof and merges all prior discussions between them, and neither of the parties shall be bound by any conditions, definitions, warranties, understandings or representations with respect to such subject matter other than as expressly provided herein or as duly set forth on or subsequent to the date hereof in writing and signed by a proper and duly authorized official of the party to be bound thereby. 10.11 All notices required or permitted to be given hereunder shall be in writing and shall be valid and sufficient if dispatched by registered mail, postage prepaid, in any post office in the United States, addressed as follows: 10.11.1 If to MOTOROLA: Motorola Inc. -18- MOTOROLA CONFIDENTIAL PROPRIETARY 19 1303 East Algonquin Road Schaumburg, Illinois 60196 Attention: Vice President for Patents, Trademarks & Licensing 10.11.2 If to STAC: Stac, Inc. 12636 High Bluff Drive, Suite 400 San Diego, California 92130-2093 Attention: Vice President, Finance 10.12.3 The date of receipt of such a notice shall be the date for the commencement of the running of the period provided for in such notice, or the date at which such notice takes effect, as the case may be. IN WITNESS WHEREOF, each party hereto has caused this Agreement to be executed in duplicate by its duly authorized representative: Motorola, Inc. Stac, Inc. By: [SIG] By: [SIG] --------------------------------- ------------------------------------ Title: VP & GM Network Title: Vice President, Finance Systems Division -19- MOTOROLA CONFIDENTIAL PROPRIETARY 20 SCHEDULE A For each year of this AGREEMENT, a party who shall pay a license fee shall pay the amount from TABLE I according to forecasted NET SALES PRICE and ANNUAL VOLUME. NET SALES PRICE is the averaged forecasted selling price for all LICENSED MOTOROLA PRODUCTS or LICENSED STAC PRODUCTS, as applicable, sold during the year, and ANNUAL VOLUME is the number of LICENSED MOTOROLA PRODUCTS or LICENSED STAC PRODUCTS, as applicable, forecasted for shipment during the year. In the case of LICENSED MOTOROLA PRODUCTS or LICENSED STAC PRODUCTS where data compression is sold as an option, the NET SALES PRICE is the selling price of the option together with the host product or host platform having the option. If the actual sales for the party during the year exceed the forecasted volume for which a royalty was paid at the beginning of the year, royalties are payable in accordance with TABLE II. If no sales are anticipated for the year, then no license fee is due. However, if any sales are made during a year, the minimum royalty due is $20,000.00. TABLE I: ANNUAL LICENSE FEE
===================================================================================================== NET SALES PRICE Annual Volume <$50 <$250 <$1000 >$1000 - ----------------------------------------------------------------------------------------------------- 10,000 or less $20,000 $20,000 $25,000 $40,000 100,000 or less $40,000 $50,000 $85,000 $165,000 1,000,000 or less $105,000 $205,000 $410,000 $825,000 For annual volumes in excess of 1,000,000 units, no annual royalty is charged and, instead, the following per unit royalty is assessed: $0.125 $0.25 $0.50 $1.00 =====================================================================================================
TABLE II: PER UNIT ROYALTY FOR UNITS IN EXCESS OF VOLUME BAND UPPER LIMIT.
===================================================================================================== NET SALES PRICE Annual Volume <$50 <$250 <$1000 >$1000 - ----------------------------------------------------------------------------------------------------- 10,000 or less $0.50 $1.00 $2.00 $4.00 100,000 or less $0.25 $0.50 $1.00 $2.00 1,000,000 or less $0.125 $0.25 $0.50 $1.00 =====================================================================================================
-20- MOTOROLA CONFIDENTIAL PROPRIETARY 21 SCHEDULE B LZS Terms Royalties for each LICENSED MOTOROLA LZS PRODUCT shall be payable according to the following Current License Fee Schedule:
Total Average Selling Price (ASP) Units <$50 <$250 <$1000 >$1000 < 1K $ 5K $10K $15K $20K < 10K $12K $25K $37K $50K <100K $25K $45K $60K $75K <1000K $50K $70K $90K $95K >1000K $80K $85K -- --
The Average Selling Price (ASP) of LICENSED MOTOROLA LZS PRODUCTS is the average forcasted selling price for all LICENSED MOTOROLA LZS PRODUCTS during the applicable year. The Total Units is the volume of LICENSED MOTOROLA LZS PRODUCTS forecasted for shipment during the applicable year. If LICENSED MOTOROLA LZS PRODUCTS comprises multiple products, Total Units is the sum of all LICENSED MOTOROLA LZS PRODUCTS and the ASP is the average of the ASP for each of the products comprising LICENSED MOTOROLA LZS PRODUCTS. In the case of LICENSED MOTOROLA LZS PRODUCTS where data compression is sold as an option, the ASP is the ASP of the option together with the host product or host platform having the option. If multiple compression libraries (e.g., separate versions of LZS DATA COMPRESSION software for different platforms, or software for one or other platforms that embodies enhancements to LZS DATA COMPRESSION developed by MOTOROLA) are used, then the royalty payable shall be calculated as follows: The royalty for each individual library is calculated separately using the procedures described above. The total License Fee will be the sun of 1) the largest License Fee plus 2) half of the sum of all other License Fees. The Current License Fee Schedule above shall be updated on the anniversary of this AGREEMENT by STAC's then Current License Fee Schedule, which shall not have an amount of increase in royalties of more that ten percent (10%) from the Current License Fee Schedule for the prior applicable year. Such updated License Fee Schedule shall -21- MOTOROLA CONFIDENTIAL PROPRIETARY 22 become the Current License Fee Schedule for the subsequent year of this AGREEMENT. -22- MOTOROLA CONFIDENTIAL PROPRIETARY 23 EXHIBIT C INDUSTRY AGREEMENT -23- MOTOROLA CONFIDENTIAL PROPRIETARY 24 PATENT LICENSE AGREEMENT THIS AGREEMENT is entered into on this ___ day of _________ by and between Stac, Inc., a California corporation having an office at 12636 High Bluff Drive, Suite 400, San Diego, California 92130-2093 (hereinafter called "STAC"), and __________, hereinafter called "LICENSEE"). WHEREAS, MOTOROLA (defined below) owns and has, or may have, rights in certain patents issued, and applications for patents pending, in various countries of the world under which LICENSEE desires to acquire licenses as hereinafter provided, and WHEREAS, STAC has certain rights to grant sublicenses under certain patent rights held by MOTOROLA, NOW THEREFORE, in consideration of the mutual covenants and conditions hereinafter set forth, it is agreed as follows: Section 1 -- DEFINITIONS - ----------------------- 1.1 SUBSIDIARY(IES) means any legal entity, more than fifty percent (50%) of whose outstanding shares or securities representing the right to vote for the election of directors or other managing authority are, now or hereafter, owned or controlled, directly or indirectly by that party (but only so long as such conditions exist). 1.2 MOTOROLA means Motorola, Inc., a Delaware corporation having an office at 1303 E. Algonquin Road, Schaumburg, Illinois 60196. 1.3 MOTOROLA PATENTS shall mean U.S. Patent Nos. 5,130,993 and 5,245,614, any patent issuing from U.S. Patent Application No. 08/156,857 and including all divisions, continuations, continuations-in-part, reissues, renewals, and extensions, and any counterparts claiming priority therefrom, for any of the aforementioned. 1.4 CHIPSETS means one or more semiconductor devices which alone, or collectively, implement the function of data compression. 1.5. EQUIPMENT means routers, bridges, multiplexers, frame relay and other frame/packet access devices, modems operating over a 1 25 telephone network, data service units, and ISDN terminal adapters other than CHIPSETS, or a combination of software and routers, bridges, multiplexers, frame relay and other frame/packet access devices, modems operating over a telephone network, data service units, and ISDN terminal adapters, other than CHIPSETS, which, alone or collectively, include a function of data compression and include a function of data communication with one or more interfaces to a public or private network. 1.6 LICENSED EQUIPMENT means EQUIPMENT infringing one or more of the MOTOROLA PATENTS which is identified by LICENSEE on the form of Exhibit B. 1.7 LICENSED SOFTWARE means software infringing one or more of the MOTOROLA PATENTS which is identified by LICENSEE on the form of Exhibit B. 1.8 LICENSED PRODUCTS means LICENSED EQUIPMENT and LICENSED SOFTWARE. Section 2 -- GRANTS 2.1 STAC hereby grants to LICENSEE and its SUBSIDIARY(IES), for the lives of the MOTOROLA PATENTS, a non-exclusive, non-transferable license throughout the world under MOTOROLA PATENTS without the right to sub-license, to make and have made, LICENSED EQUIPMENT, and to use, lease, sell, or otherwise dispose of such LICENSED EQUIPMENT. 2.2 STAC on behalf of MOTOROLA hereby releases, acquits and forever discharges LICENSEE and its SUBSIDIARY(IES) and their respective distributors, dealers, customers and users from any and all claims or liability for infringement of the MOTOROLA PATENTS by the use, lease, sale or other disposition of LICENSED PRODUCTS prior to the EFFECTIVE DATE. Section 3 -- PAYMENTS 3.1 In consideration for the license grants of Section 2.1, LICENSEE agrees to pay to MOTOROLA the license fees in accordance with Schedule A. based on LICENSED PRODUCTS identified by LICENSEE on the form of Exhibit B. 2 26 3.2 In consideration for the release of Section 2.2, LICENSEE agrees to pay to MOTOROLA on the date of signing this AGREEMENT the amount representing royalties based on LICENSED PRODUCTS sold. prior to date of signing of this Agreement, in accordance with Schedule A. For the purpose of calculating such amount, all LICENSED PRODUCTS sold prior to the signing of this AGREEMENT shall be identified on the form of Exhibit B for each year prior to the signing of this AGREEMENT, beginning on July 14, 1992. If, however, the AGREEMENT is signed on or before January 31, 1996, LICENSEE need only identify on the form of Exhibit B all LICENSED PRODUCTS sold since September 1, 1995, and pay the amount based only on that LICENSED PRODUCT then identified on the form of Exhibit B. 3.3 Within thirty (30) days of executing this AGREEMENT, and on each anniversary of this AGREEMENT, a responsible official of LICENSEE shall in good faith estimate for the current year in writing to STAC and MOTOROLA an approximate number of LICENSED PRODUCTS to be sold for that year, identify such on the form of Exhibit B, and shall make a royalty payment to MOTOROLA (for itself and all of its SUBSIDIARY(IES) based upon Schedule A, Table I as to the number of LICENSED PRODUCTS sold, leased or otherwise disposed of by LICENSEE as identified on the form of Exhibit B. Within thirty (30) days following the anniversary of this AGREEMENT, LICENSEE shall certify in writing, incorporating the form of Exhibit B, either that the number of LICENSED PRODUCTS sold, leased or otherwise disposed of in the previous year did not exceed the estimated number, or LICENSEE shall certify in writing that the number of LICENSED PRODUCTS sold, leased or otherwise disposed of in the previous year exceeded the estimate, and shall pay to MOTOROLA a royalty for the number of LICENSED PRODUCTS sold in excess of the estimate for the previous year in accordance with Schedule A, Table II. 3.4 Any payment hereunder which shall be delayed for more than thirty (30) days beyond the due date shall be subject to an interest charge of one (1) percent per month on the unpaid balance payable in United States currency until paid. The foregoing payment of interest shall not affect either party's right to terminate in accordance with Section 6. 3.5 With respect to the royalty and reporting set forth in this Section 3, LICENSEE shall keep full, clear and accurate records with respect to LICENSED PRODUCTS sold, leased or otherwise disposed 3 27 of. These records shall be retained for a period of three (3) years from the date of reporting and payment notwithstanding the expiration or other termination of this AGREEMENT. STAC shall have the right through a mutually agreed upon independent certified public accountant and at its expense, to examine and audit, not more than once a year, and during normal business hours, all such records and such other records and accounts as may under recognized accounting practices contain information bearing upon the amount of royalty payable by LICENSEE to MOTOROLA under this AGREEMENT. Prompt adjustment shall be made to compensate for any errors and/or omissions disclosed by such examination or audit. 3.6 MOTOROLA shall bear all taxes imposed on it with respect to the payments of this Section, provided, however, that if so required by applicable law, LICENSEE shall withhold the amount of taxes levied on payments to be made by LICENSEE pursuant to this AGREEMENT, and shall promptly make payment of the withheld amount to the appropriate tax authorities and shall transmit to MOTOROLA official tax receipts or other evidence issued by said appropriate tax authorities sufficient to enable MOTOROLA to support a claim for tax credit in respect to such withheld taxes so paid by LICENSEE. 3.7 No royalty shall be payable on LICENSED PRODUCTS sold after the seventh full year from the date of execution of this AGREEMENT. 3.8 MOTOROLA may increase the royalties shown in Table I by not more than ten percent (10%) each year. Section 4 -- SUSPENSION OF LICENSE If at any time during the term of this AGREEMENT, LICENSEE asserts a patent against any MOTOROLA product and also asserts that MOTOROLA is prevented from asserting claims under any MOTOROLA PATENTS against LICENSEE as a result of the licenses granted to STAC in this AGREEMENT, then the licenses granted to LICENSEE shall immediately be suspended. The suspension of the licenses granted to LICENSEE shall be effective only if and so long as MOTOROLA actively negotiates and/or defends such claim and only to the extent necessary to obviate the assertions made by LICENSEE to the effect that MOTOROLA is prevented from asserting claims under MOTOROLA PATENTS because of this AGREEMENT. 4 28 Section 5 -- WIRE TRANSFER 5.1 All sums due MOTOROLA are payable in United States dollars and shall be paid by wire transfer to the following MOTOROLA bank account unless otherwise directed: The Bank of Boston 100 Federal Street Boston, Massachusetts Account: 531-31430 Account Name: Motorola, Inc. Federal Fund ID: 011000390 Section 6 -- TERM, TERMINATION, AND ASSIGNABILITY 6.1 The term of this AGREEMENT shall be from the EFFECTIVE DATE through the entire unexpired term of the last to expire MOTOROLA PATENTS licensed or subject to license herein, unless earlier terminated as hereinafter provided. 6.2 In the event of any breach of this AGREEMENT by either party hereto (including LICENSEE's obligation to make payments under Section 3), if such breach is not corrected within forty-five (45) days after written notice to the breaching party describing such breach, this AGREEMENT may be terminated forthwith by further written notice to that effect from the party noticing the breach. In the event of termination of this AGREEMENT pursuant to this Section 6.2, the licenses and rights granted to or for the benefit of LICENSEE and its SUBSIDIARY(IES) under the MOTOROLA PATENTS shall terminate as of the date termination takes effect. 6.3 This AGREEMENT is personal to each of the parties hereto; and either party shall have the right to terminate this AGREEMENT by giving written notice of termination to the other party at any time upon or after: 1) the filing by the other party of a petition in bankruptcy or insolvency; 2) any adjudication that the other party is bankrupt or insolvent; 3) the filing by the other party under any law relating to bankruptcy or insolvency; 4) the appointment of a receiver for all or substantially all of the property of the other party; 5) the making by the other party of any assignment or attempted assignment of this AGREEMENT for the benefit of 5 29 creditors; 6) any admission or statement by the other party that it is bankrupt or insolvent; or 7) the institution of any proceedings for the liquidation or winding up of the other party's business or for the termination of its corporate charter. In the event of termination of this AGREEMENT pursuant to this Section 6.3 the licenses and rights granted to or for the benefit of LICENSEE and its SUBSIDIARY(IES) under the MOTOROLA PATENTS shall terminate as of the date termination takes effect. 6.4 The rights or privileges provided for in this AGREEMENT as to LICENSED EQUIPMENT may be assigned or transferred by either party only with the prior written consent of the other party, which consent will not be unreasonably withheld, and with the authorization or approval of any governmental authority as then may be required. Section 7 -- WARRANTIES 7.1 STAC warrants that it has all rights necessary to grant the rights and licenses granted in this AGREEMENT. 7.2 Each party warrants that any of its SUBSIDIARY(IES) licensed hereunder shall undertake all obligations contained herein as if such SUBSIDIARY(IES) were directly named as a party to this AGREEMENT. Section 8 -- PUBLICITY 8.1 Nothing in this AGREEMENT shall be construed as conferring upon either party the right to include in advertising, packaging or other commercial activity any reference to the other party or MOTOROLA, its trademarks, trade names, service marks, or other trade identity in a manner likely to cause confusion. 8.2 Either party may disclose the existence of this AGREEMENT, but shall otherwise keep the terms of this AGREEMENT confidential and shall not now or hereafter divulge any part thereof to any third party except with the prior written consent of the other party; to any governmental body having jurisdiction to request and to read the same; as otherwise may be required by law or legal processes; to legal counsel representing either party; or to its SUBSIDIARY(IES) provided that such divulging party shall impose equivalent. 6 30 confidentiality obligations on the recipient in writing prior to such divulgence. Section 9 -- MISCELLANEOUS PROVISIONS 9.1 Nothing contained in this AGREEMENT shall be construed as: 9.1.1 restricting the right of either party or any of its SUBSIDIARY(IES) to make, use, sell, lease or otherwise dispose of any particular product or products not herein licensed; 9.1.2 conferring any license or other right, by implication, estoppel or otherwise, under any patent application, patent or patent right, except as herein expressly granted herein; 9.1.3 conferring any license or right with respect to any trademark, trade or brand name, a corporate name of either party or any of their respective SUBSIDIARY(IES), or any other name or mark, or contraction, abbreviation or simulation thereof; 9.1.4 imposing on either party any obligation to institute any suit or action for infringement of any patent, or to defend any suit or action brought by a third party which challenges or concerns the validity of any patent licensed under this AGREEMENT; 9.1.5 a warranty or representation by either party that any manufacture, use, sale, lease or other disposition of its products or services will be free from infringement of any patent other than the patents licensed herein; 9.1.6 imposing on either party any obligation to file any patent application or to secure any patent or maintain any patent in force; or 9.1.7 an obligation on either party to furnish any manufacturing or technical information under this AGREEMENT except as the same is specifically provided for herein. 9.2 No express or implied waiver by either of the parties to this AGREEMENT of any breach of any term, condition or obligation of this Agreement by the other party shall be construed as a waiver of any subsequent breach of that term, condition or obligation or of any 7 31 other term, condition or obligation of this AGREEMENT of the same or of a different nature. 9.3 Anything contained in this AGREEMENT to the contrary notwithstanding, the obligations of the parties hereto shall be subject to all laws, both present and future, of any Government having jurisdiction over either party hereto, and to orders or regulations of any such Government, or any department, agency, or court thereof, and acts of war, acts of public enemies, strikes, or other labor disturbances, fires, floods, acts of God, or any causes of like or different kind beyond the control of the parties, and the parties hereto shall be excused from any failure to perform any obligation hereunder to the extent such failure is caused by any such law, order, regulation, or contingency but only so long as said law, order, regulation or contingency continues. 9.4 Nothing in this AGREEMENT shall be construed as creating a partnership, joint venture, or other formal business organization of any kind. 9.5 In no event shall either party be liable to the other party by reason of this AGREEMENT or any breach or termination of this AGREEMENT for any loss of prospective profits or incidental or special or consequential damages. 9.6 If any term, clause, or provision of this AGREEMENT shall be judged to be invalid, the validity of any other term, clause, or provision shall not be affected; and such invalid term, clause, or provision shall be deemed deleted from this AGREEMENT. 9.7 This AGREEMENT sets forth the entire AGREEMENT and understanding between the parties as to the subject matter hereof and merges all prior discussions between them, and neither of the parties shall be bound by any conditions, definitions, warranties, understandings or representations with respect to such subject matter other than as expressly provided herein or as duly set forth on or subsequent to the date hereof in writing and signed by a proper and duly authorized official of the party to be bound thereby. 9.8 All notices required or permitted to be given hereunder shall be in writing and shall be valid and sufficient if dispatched by registered mail, postage prepaid, in any post office in the United States or ______________, addressed as follows: 8 32 If to STAC: Stac, Inc. 12636 High Bluff Drive, Suite 400 San Diego, California 92130-2093 Attention: Vice President, Finance If to LICENSEE: Attention: 9.9 The date of receipt of such a notice shall be the date for the commencement of the running of the period provided for in such notice, or the date at which such notice takes effect, as the case may be. IN WITNESS WHEREOF, each party hereto has caused this AGREEMENT to be executed in duplicate by its duly authorized representative: STAC, INC. LICENSEE By: By: --------------------------------- ------------------------------------ Title: Title: ------------------------------ --------------------------------- 9 33 SCHEDULE A For each year of this agreement, LICENSEE shall pay the amount from Table 1 according to forecasted NET SALES PRICE and ANNUAL VOLUME. NET SALES PRICE is the averaged forecasted selling price for all LICENSED PRODUCTS sold during the year, and ANNUAL VOLUME is the number of LICENSED PRODUCTS forecasted for shipment during the year. If the actual sales for LICENSED PRODUCTS during that year exceed the forecasted volume for which a royalty was paid at the beginning of the year, royalties are payable in accordance with TABLE II. If no sales are anticipated for that year, then no license fee is due. If any sales are made during the year, the minimum royalty is $20,000.00. TABLE I: ANNUAL LICENSE FEE
====================================================================================================== NET SALES PRICE Annual Volume <$50 <$250 <$1000 >$1000 - ------------------------------------------------------------------------------------------------------ 10,000 or less $20,000 $20,000 $25,000 $40,000 100,000 or less $40,000 $50,000 $85,000 $165,000 1,000,000 or less $105,000 $205,000 $410,000 $825,000 For volumes in excess of 1,000,000 units, no annual royalty is charged. The per unit royalty is as follows: $0.125 $0.25 $0.50 $1.00 ======================================================================================================
TABLE II: PER UNIT ROYALTY FOR UNITS IN EXCESS OF VOLUME UPPER LIMIT.
====================================================================================================== NET SALES PRICE Annual Volume <$50 <$250 <$1000 >$1000 - ------------------------------------------------------------------------------------------------------ 10,000 or less $0.50 $1.00 $2.00 $4.00 100,000 or less $0.25 $0.50 $1.00 $2.00 1,000,000 or less $0.125 $0.25 $0.50 $1.00 ======================================================================================================
10 34 EXHIBIT B Licensed Product is Identified by LICENSEE as follows:
NET SALES PRICE ANNUAL VOLUME ------------------------------ -------------------------------- Product Name <$50 <$250 <$1000 >$1000 <10K <100K <1,000K >1,000K Total Volume all Products Average NET SALES PRICE all Products
35 EXHIBIT D The use of this software and/or chip may require a license from Motorola. A license agreement for the right to use Motorola patents may be obtained through STAC or directly from Motorola. -24- MOTOROLA CONFIDENTIAL PROPRIETARY 36 EXHIBIT E The STAC LZS Logo is shown below. The STAC LZS Logo Use Guidelines are contained in a separate bound manual provided with this agreement. -25- MOTOROLA CONFIDENTIAL PROPRIETARY EX-10.17 12 EXHIBIT 10.17 1 EXHIBIT 10.17 CHANGE OF CONTROL AGREEMENT THIS CHANGE OF CONTROL AGREEMENT ("Agreement") is entered into as of ______ ___, 1998, between hi/fn, inc., a Delaware corporation (the "Company"), and ____________ ("Employee"). The parties to this Agreement shall be referred to herein as each, a Party, and collectively, the Parties. WHEREAS, it is expected that the Company from time to time will consider the possibility of a Change of Control; WHEREAS, Employee is a key employee of the Company, and currently holds (i) shares of the Company's Common Stock and/or (ii) options, warrants or rights to purchase shares of the Company's Common Stock (collectively, the "Securities") that are subject to certain vesting restrictions and/or rights of repurchase in favor of the Company; and WHEREAS, in order to ensure Employee has an opportunity to acquire and/or maintain an equity interest in the Company as an incentive for Employee to participate in the affairs of the Company, the Company is willing to provide Employee with certain benefits upon a Change of Control. NOW THEREFORE, for good and valuable consideration, the sufficiency of which is hereby acknowledged, the Parties agree as follows: 1. Accelerated Vesting of the Securities. (a) In the event of a Change of Control (as defined in Section 1(b) below) of the Company and if Employee's employment with the surviving company is Involuntarily Terminated (as defined in Section 1(c) below) within twelve (12) months following such Change of Control, (i) _____ percent (__%) of the unvested portion of the Securities then held by Employee, if any, shall automatically be accelerated such that Employee shall have the right to exercise all or any portion of such Securities, and/or (ii) the Company's repurchase right shall automatically lapse with respect to _____ percent (__%) of the Securities then held by Employee which are subject to such repurchase right. (b) A "Change of Control" shall, for the purposes of this Agreement, mean the occurrence of any of the following: (i) the consummation of a merger or consolidation of the Company with any other corporation or entity, other than a merger or consolidation which would result in the voting securities of the Company outstanding immediately prior thereto continuing to represent (either by remaining outstanding or by being converted into voting securities of the surviving entity or any parent thereof) more than fifty percent (50%) of the total voting power represented by the voting securities of the Company or such surviving entity or any parent thereof outstanding immediately after such merger or consolidation; 2 (ii) the consummation of a plan of complete liquidation of the Company or an agreement for the sale or disposition by the Company of all or substantially all of the Company's assets; or (iii) any "person" (as such term is used in Sections 13(d) and 14(d) of the Securities Exchange act of 1934, as amended) becoming the "beneficial owner" (as defined in Rule 13d-3 under said Act), directly or indirectly, of securities of the Company representing 25% or more of the total voting power represented by the Company's then outstanding securities. (c) An "Involuntary Termination" shall mean (1) a termination initiated by the surviving company, other than a termination due to acts of dishonesty, conviction of a felony or willful misconduct by Employee or (2) a termination initiated by Employee as a result of a material diminution in salary, a material change in responsibility or a change in work location of more than 30 miles from the then current job location. 2. Adjustment for Changes in Capital Stock. All references to the number of Securities in this Agreement shall be appropriately adjusted to reflect any stock split, stock dividend, stock combination or other change in the Securities which may be made by the Company after the date of this Agreement. 3. Excise Tax Payments. In the event that the Change of Control benefits provided for in this Agreement or otherwise payable to the Employee (i) constitute "parachute payments" within the meaning of Section 280G of the Internal Revenue Code of 1986, as amended (the "Code") and (ii) but for this Section, would be subject to the excise tax imposed by Section 4999 of the Code, then Employee's Change of Control benefits under Section 1 shall be either (a) delivered in full, or (b) delivered as to such lesser extent which would result in no portion of such Change of Control benefits being subject to excise tax under Section 4999 of the Code, whichever of the foregoing amounts, taking into account the applicable federal, state and local income taxes and the excise tax imposed by Section 4999, results in the receipt by the Employee on an after-tax basis, of the greatest amount of Change of Control benefits, notwithstanding that all or some portion of such Change of Control benefits may be taxable under Section 4999 of the Code. Unless the Company and the Employee otherwise agree in writing, any determination required under this Section shall be made in writing by the Company's independent public accountants (the "Accountants") immediately prior to Change of Control, whose determination shall be conclusive and binding upon the Employee and the Company for all purposes. For purposes of making the calculations required by this Section, the Accountants may make reasonable assumptions and approximations concerning applicable taxes and may rely on reasonable, good faith interpretations concerning the application of Sections 280G and 4999 of the Code. The Company and the Employee shall furnish to the Accountants such information and documents as the Accountants may reasonably request in order to make a determination under this Section. The Company shall bear all costs the Accountants may reasonably incur in connection with any calculations contemplated by this Section. -2- 3 4. Arbitration. (a) The Company and Employee agree that any dispute or controversy arising out of, relating to, or in connection with this Agreement, the interpretation, validity, construction, performance, breach, or termination hereof, or any of the matters herein released shall be settled by binding arbitration to be held in Santa Clara County, California in accordance with the National Rules for the Resolution of Employment Disputes then in effect of the American Arbitration Association. The arbitrator may grant injunctions or other relief in such dispute or controversy. The decision of the arbitrator shall be final, conclusive and binding on the parties to the arbitration. Judgment may be entered on the arbitrator's decision in any court having jurisdiction. (b) The arbitrator(s) shall apply California law to the merits of any dispute or claim, without reference to conflicts of law rules. Employee hereby consents to the personal jurisdiction of the state and federal courts located in California for any action or proceeding arising from or relating to this Agreement or relating to any arbitration in which the Parties are participants. (c) EMPLOYEE HAS READ AND UNDERSTANDS THIS SECTION, WHICH DISCUSSES ARBITRATION. EMPLOYEE UNDERSTANDS THAT BY SIGNING THIS AGREEMENT, EMPLOYEE AGREES TO SUBMIT ANY CLAIMS ARISING OUT OF, RELATING TO, OR IN CONNECTION WITH THIS AGREEMENT, THE INTERPRETATION, VALIDITY, CONSTRUCTION, PERFORMANCE, BREACH OR TERMINATION THEREOF, OR ANY OF THE MATTERS HEREIN TO BINDING ARBITRATION, AND THAT THIS ARBITRATION CLAUSE CONSTITUTES A WAIVER OF EMPLOYEE 'S RIGHT TO A JURY TRIAL AND RELATES TO THE RESOLUTION OF ALL DISPUTES RELATING TO ALL ASPECTS OF THIS AGREEMENT. 5. General Provisions. (a) This Agreement shall be governed by the laws of the State of California, without regard to the conflicts of law principles of the State of California. (b) Any notice, demand or request required or permitted to be given by either Party pursuant to the terms of this Agreement shall be in writing and shall be deemed given when delivered personally or via facsimile or deposited in the U.S. mail, First Class with postage prepaid, and addressed to the Parties at such addresses as have been previously furnished by the Parties or such other address as a Party may request by notifying the other in writing. (c) The rights and obligations of Employee under this Agreement may not be transferred or assigned without the prior written consent of the Company. (d) This Agreement is meant to supplement the terms of the restricted stock purchase agreement, stock option agreement or other agreement pursuant to which Employee acquired the Securities. To the extent that the terms and conditions of this Agreement are -3- 4 inconsistent with those found in the restricted stock purchase agreement, stock option agreement or other agreement, the terms and conditions of this Agreement shall be controlling. (e) Any Party's failure to enforce any provision or provisions of this Agreement shall not in any way be construed as a waiver of any such provision or provisions, nor prevent any Party from thereafter enforcing each and every other provision of this Agreement. The rights granted the Parties herein are cumulative and shall not constitute a waiver of any Party's right to assert all other legal remedies available to it under the circumstances. (f) Employee agrees upon request to execute any further documents or instruments necessary or desirable to carry out the purposes or intent of this Agreement. (g) In case any provision of this Agreement shall be invalid, illegal or unenforceable, the validity, legality and enforceability of the remaining provisions shall not in any way be affected or impaired. (h) This Agreement, in whole or in part, may be modified, waived or amended (retrospectively or otherwise) upon the written consent of (i) the Company and (ii) Employee. (i) By Employee's signature below, Employee represents that Employee is familiar with the terms and provisions of this Agreement, and hereby accepts this Agreement subject to all of the terms and provisions set forth herein. Employee has reviewed this Agreement in its entirety, has had an opportunity to obtain the advice of counsel prior to executing this Agreement and fully understands all provisions of this Agreement. Employee agrees to accept as binding, conclusive and final all decisions or interpretations of the disinterested majority of the Board of Directors of the Company upon any questions arising under this Agreement. This Change of Control Agreement may be executed in one or more counterparts, each of which shall be deemed an original, but all of which shall constitute one instrument. EMPLOYEE HI/FN, INC. By: - ---------------------------------- -------------------------------- Signature Title: - ---------------------------------- ----------------------------- Print Name -4- 5 EXHIBIT A CONSENT OF SPOUSE I, ____________________, spouse of Employee, have read and approve the foregoing Change of Control Agreement. In consideration of granting to my spouse the Securities of hi/fn, inc., as referenced in the recitals to the Change of Control Agreement, I hereby appoint my spouse as my attorney-in-fact in respect to the exercise of any rights under the Change of Control Agreement and agree to be bound by the provisions of the Change of Control Agreement insofar as I may have any rights in said Change of Control Agreement under the community property laws or similar laws relating to marital property in effect in the state of our residence as of the date of the signing of the foregoing Change of Control Agreement. Dated: _____________ - ------------------------------ Signature -5- EX-10.18 13 EXHIBIT 10.18 1 EXHIBIT 10.18 PROMISSORY NOTE 1. Fundamental Provisions. The following terms will be used as defined terms in this Promissory Note (this "NOTE"): Date of this Note: September 28, 1998. Borrower: Hi/fn, Inc., a Delaware corporation. Lender: Stac, Inc., a Delaware corporation. Principal Amount: $5,000,000.00. Interest Rate: 0.5% per annum above the Index Rate. The Interest Rate shall change from time to time as and when the Index Rate changes. Default Rate: 2.5% per annum above the Index Rate. The Default Rate shall change from time to time as and when the Index Rate changes. Index Rate: The floating commercial loan rate announced from time to time by Silicon Valley Bank, Santa Clara, California, as its "prime" rate. Maturity Date: September 30, 1999. 2. Promise to Pay. For good and valuable consideration, Borrower promises to pay to Lender, or order, the Principal Amount with interest at the Interest Rate from the date on which the Principal Amount is advanced by Lender, or at the Default Rate as hereinafter provided, until paid, in accordance with the terms contained herein. Interest shall be computed on the basis of a 360-day year and the actual number of days elapsed. Should any interest not be paid when due, it shall thereafter accrue interest as principal. 3. Payment Schedule. Borrower shall make payments of interest only on the first (1st) day of January, April, July and October during the term of this Note, beginning on the first (1st) day of January, 1999, and continuing on the same day of each third calendar month thereafter until the Maturity Date, at which time the entire remaining balance of principal and accrued interest shall be due and payable. All payments shall be applied first to late charges and all other charges due hereunder, then to accrued interest, and then to the principal balance. 1 2 4. Place and Manner of Payment. All payments shall be made at 12636 High Bluff Drive, 4th Floor, San Diego, California 92130, or at such other place as the holder of this Note may from time to time designate. All payments shall be made in lawful money of the United States. Checks will constitute payment only when collected. 5. Late Charges. Borrower acknowledges and agrees that Lender likely will incur significant additional administrative expenses in the event Borrower fails to make any payment required hereunder as to and when due, but that the exact amount of such expenses is difficult to predict. Accordingly, Borrower agrees that in order to compensate Lender for such expenses, Borrower shall pay to Lender, in the event that Borrower fails to make any payment as and when due and in addition to all other amounts due hereunder, an amount to the greater of $300 or 5% of the amount due but unpaid. Borrower acknowledges and agrees that said amount constitutes a reasonable estimation of the administrative expenses to which Lender may be subjected in the event of any such non-payment. Nothing in this Section shall be construed as limiting Lender's right to recover attorneys' fees and other enforcement costs incurred by Lender in connection with any such default in accordance with the other provisions of this Note. 6. Default Interest Rate. Commencing on the first to occur of (a) the Maturity Date, or (b) the occurrence of an Event of Default followed by the acceleration of this Note and the lapse of such time (if any) as may then be required by law during which Lender must allow Borrower to reinstate the obligation evidenced hereby as if no acceleration had occurred, and continuing thereafter until this Note has been paid in full, all amounts due and owing under this Note shall bear interest at the Default Rate. The provisions of this Section shall not limit the Lender's right to compel prompt performance hereunder. 7. No Prepayment Charge. This Note may be prepaid in whole or in part at any time without penalty. 8. Substituted Index Rate. If the Index Rate specified in Section 1 of this Note (including, if applicable, any back-up rate specified therein) ceases to exist or is no longer published or announced, then the term Index Rate shall mean the floating commercial loan rate announced from time to time by Bank Boston, N.A., Palo Alto, California as its "prime" rate, and if the latter Index Rate also ceases to exist or is no longer published or announced, then the term Index Rate shall mean the floating commercial loan rate announced from time to time by a major commercial bank selected by Lender as its "prime," "base" or "reference" rate. These substituted definitions of Index Rate shall become effective on the date that the previously defined Index Rate ceases to exist or the last date it is published or announced. 9. Security Agreement. The obligations of Borrower hereunder are secured by a security agreement of even date herewith executed by Borrower in favor of Lender (the "SECURITY AGREEMENT"). This Note, the Security Agreement, and all other documents and instruments now or hereafter executed by Borrower in connection with or to evidence or secure payment of the indebtedness evidenced by this Note are referred to 2 3 collectively herein as the "LOAN DOCUMENTS." 10. Event of Default. At the option of Lender, it shall be an "EVENT OF DEFAULT" hereunder if (a) Borrower fails to pay when due any sum payable under this Note, or (b) Borrower fails to perform any obligation or commits a breach of any agreement set forth in this Note or in the Security Agreement or any other Loan Documents or (c) an Insolvency Event shall have occurred with respect to Borrower or any of its Subsidiaries. As used in this Section, "INSOLVENCY EVENT" shall mean, with respect to Borrower or any of its Subsidiaries, the occurrence of any of the following: (i) such entity shall be adjudicated insolvent or bankrupt, or shall generally fail to pay or admit in writing its inability to pay its debts as they become due, (ii) such entity shall seek dissolution or reorganization or the appointment of a receiver, trustee, custodian or liquidator for it or a substantial portion of its property, assets or business or to effect a plan or other arrangement with its creditors, (iii) such entity shall make a general assignment for the benefit of its creditors, or consent to or acquiesce in the appointment of a receiver, trustee, custodian or liquidator for a substantial portion of its property, assets or business, (iv) such entity shall file a voluntary petition under any bankruptcy, insolvency or similar law, or (v) such entity, or a substantial portion of its property, assets or business shall become the subject of an involuntary proceeding or petition for its dissolution, reorganization, or the appointment of a receiver, trustee, custodian or liquidator or shall become subject to any writ, judgment, warrant of attachment, execution or similar process involving $500,000, or more, and any such proceeding, petition, writ, judgment, warrant of attachment, execution or similar process shall not be released, vacated or fully bonded within 60 days after commencement, filing or levy, as the case may be, or any order for relief shall be entered in any such proceeding. 11. Acceleration. Upon the occurrence of an Event of Default, then (a) at the option of Lender, the entire sum of principal, interest, and all other charges due under this Note shall become immediately due and payable, (b) if an Event of Default specified in Section 10(c) above shall have occurred, the entire Principal Amount, together with any interest, charges, fees or other amounts due under the Loan Documents, shall be automatically declared due and payable without any declaration, presentment, demand, protest or notice or other act of any kind by Lender whatsoever, and (c) Lender shall be entitled to exercise any and all rights and remedies available at law or in equity. 12. Attorneys' Fees. If Lender refers this Note to an attorney to enforce, construe or defend any provision hereof, or as a consequence of any Event of Default hereunder, with or without the filing of any legal action or proceeding, Borrower shall pay to Lender upon demand the amount of all attorneys' fees, costs and other expenses incurred by Lender in connection therewith, together with interest thereon from the date of demand at the rate applicable to the principal balance of this Note. The reference to "attorneys' fees" in this Section shall include without limitation such amounts as may then be charged by Lender for legal services furnished by attorneys in the employ of Lender, at rates not exceeding those that would be charged by outside attorneys for comparable services. 13. No Waiver. No delay or omission of Lender in exercising any right or power arising in connection with any Event of Default shall be construed as a waiver or 3 4 as an acquiescence therein, nor shall any single or partial exercise thereof preclude any further exercise thereof. Lender may, at its option, waive any of the conditions herein and no such waiver shall be deemed to be a waiver of Lender's rights hereunder, but rather shall be deemed to have been made in pursuance of this Note and not in modification thereof. No waiver of any Event of Default shall be construed to be a waiver of or acquiescence in or consent to any preceding or subsequent Event of Default. 14. Waiver of Notices. Borrower, all endorsers, all guarantors and all persons liable or to become liable on this Note waive presentment, protest, demand, notice of protest, dishonor or non-payment of this Note, and any and all other notices or matters of a like nature, consent to any and all renewals and extensions of the time of payment hereto, and agree further that at any time and from time to time without notice, the terms of payment hereof may be modified, or the security described in any of the Loan Documents at any time securing this Note may be released in whole or in part, or increased, changed or exchanged by agreement between the holder hereof and any owner of the collateral affected thereby, without in any way affecting the liability of any party to this Note, any endorser, any guarantor, or any person liable or to become liable with respect to any indebtedness evidenced hereby. 15. Miscellaneous Provisions. No provision of this Note may be amended, modified, supplemented, changed, waived, discharged or terminated unless Lender consents thereto in writing. In case any one or more of the provisions contained in this Note should be held to be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions contained herein shall not in any way be affected or impaired thereby. This Note shall be binding upon and inure to the benefit of Borrower, Lender and their respective successors and assigns. Time is of the essence of this Note and the performance of each of the covenants and agreements contained herein. This Note shall be governed by and construed in accordance with the laws of the State of California. If Borrower consists of more than one person or entity, the obligations of Borrower shall be the joint and several obligations of all such persons or entities, and any married person who executes this Note agrees that recourse may be had against his or her separate property for satisfaction of his or her obligations hereunder. 4 5 IN WITNESS WHEREOF, Borrower has executed this Note on the Date of this Note. BORROWER: HI/FN, INC., a Delaware corporation By /s/ RAYMOND J. FARNHAM --------------------------------------- Name: Raymond J. Farnham --------------------------------- Its: Chief Executive Officer ---------------------------------- By /s/ WILLIAM R. WALKER --------------------------------------- Name: William R. Walker --------------------------------- Its: Vice President of Finance and Chief Financial Officer ---------------------------------- 5 EX-10.19 14 EXHIBIT 10.19 1 EXHIBIT 10.19 SECURITY AGREEMENT THIS SECURITY AGREEMENT (the "SECURITY AGREEMENT") is entered into as of September 28, 1998 by HI/FN, INC., a Delaware corporation ("BORROWER"), whose principal place of business is 750 University Avenue, Los Gatos, California 95032 (the "PROPERTY"), in favor of STAC, INC., a Delaware corporation ("LENDER"). Recitals A. Lender has agreed to make a certain loan (the "LOAN") to Borrower in the amount of $5,000,000.00. The Loan will be evidenced by and subject to the terms and conditions of that certain Promissory Note of even date herewith executed by Borrower in favor of Lender (the "NOTE"). This Security Agreement, the Note, and all other documents and instruments now or hereafter executed by Borrower in connection with or to evidence or secure payment of the Loan will hereinafter be referred to collectively as the "LOAN DOCUMENTS." B. As a condition precedent to Lender making the Loan contemplated by the Promissory Note, Lender requires that Borrower shall have executed this Agreement. Agreement NOW, THEREFORE, for good and valuable consideration, receipt of which is hereby acknowledged, Borrower agrees as follows: 1. Security Interest. As security for the Obligations (as hereinafter defined), Borrower hereby grants and assigns to Lender as of the date of this Agreement a security interest in all of Borrower's right, title and interest in and to the following (collectively, the "COLLATERAL"): (a) all tangible and intangible personal property, furnishings, fixtures and equipment now owned by Borrower or which Borrower may hereafter acquire, including without limitation any such personal property, furnishings, fixtures and equipment located at the Property; and (b) all proceeds of any sale or disposition of all or any portion of such personal property, furnishings, fixtures and equipment, whether in cash or notes or any other non-cash items, including, without limitation, (i) all rights of Borrower to receive moneys due and to become due under or pursuant to the Collateral, (ii) all rights of Borrower to receive the return of any premiums for, or proceeds of, any insurance, indemnity, warranty or guaranty with respect to the Collateral or to receive any condemnation proceeds, (iii) all claims of Borrower for damages arising out of, or for breach of or default under, any agreements constituting part of the Collateral or any other Collateral, (iv) all rights of Borrower to terminate, amend, supplement, modify or waive performance under the any agreements constituting part of the Collateral, to perform thereunder and to compel performance and otherwise exercise all remedies thereunder, and (v) to the extent not included in the foregoing, all proceeds receivable or received when any and all of the Collateral is sold, collected, exchanged or otherwise disposed of, whether voluntarily or involuntarily. The Collateral includes, but is not limited to, all of Borrower's right, title and interest in and to the following: 2 (A) all of Borrower's personal property, goods, equipment, supplies, building and other materials of every nature whatsoever and all other personal property, including, but not limited to, all computer equipment, calculators, adding machines and any other electronic equipment of every nature used by Borrower; (B) all of Borrower's accounts and accounts receivable, including, without limitation, all rights to payment for goods sold or leased or for services rendered which are not evidenced by an instrument or chattel paper, all other present or future rights for money due or to become due, all of Borrower's chattel paper, instruments, promissory notes, and general intangibles for money due or to become due of any kind, in each case whether now existing or hereafter arising and wherever arising and whether or not earned by performance, other general intangibles, documents of title, warehouse receipts, leases, deposit accounts, money, tax refund claims, indemnification and other similar claims and contract rights permits and licenses, franchises, certificates, stock, and all rights in, to and under all security agreements, mortgages, deeds of trust, guarantees, leases and other agreements or contracts securing or otherwise relating to any of the foregoing; (C) all of the trademarks and service marks now held or hereafter acquired by Borrower, which are registered in the United States Patent and Trademark Office or in any similar office or agency of the United States or any other country or any state thereof or any political subdivision thereof and any application for such trademarks and service marks, as well as any unregistered marks used by Borrower in the United States or any other country and trade dress including logos, designs, trade names, business names, fictitious business names and other business identifiers in connection with which any of these registered or unregistered marks are used in the United States or any other country ("MARKS"), together with the registration and right to renewals thereof, and the goodwill of the business of Borrower symbolized by the Marks and all licenses associated therewith; (D) all copyrights which Borrower now or hereafter has registered with the United States Copyright Office or in any similar office or agency of the United States or any other country or any state thereof or any political subdivision thereof, as well as any application for a copyright registration now or hereafter made with the United States Copyright Office or in any similar office or agency of the United States or any other country or any state thereof or any political subdivision thereof by Borrower or patent to which Borrower now or hereafter has title and any divisions or continuations thereof, as well as any application for a patent now or hereafter made by Borrower, and all reissues, renewals or extension thereof; and (E) all computer programs of Borrower and all intellectual property rights therein and all other proprietary information of Borrower, including, but not limited to, trade secrets. 2. Obligations Secured. This Agreement secures the payment and performance of all present and future obligations of Borrower to Lender under the Loan, the Loan Documents, and under any document which recites that it is secured hereby (the "OBLIGATIONS"). 3. Representations and Warranties. Borrower represents and warrants that 2 3 (a) Borrower has, or will have, good title to the Collateral, (b) Borrower has not previously assigned or encumbered the Collateral, and no financing statement covering any of the Collateral has been delivered to any other person or entity, (c) Borrower's principal place of business is located as the address specified above, (d) Borrower shall not relocate its principal place of business or change its name without thirty (30) days' prior written notice to Lender, (e) Borrower is a corporation duly organized, validly existing and in good standing under the laws of the State of Delaware and is duly qualified and authorized to do business and is in good standing in the State of California and in each other jurisdiction where the character of its properties or the nature of its activities makes such qualification necessary, (f) Borrower has all requisite corporate power and authority to own its properties and assets and to transact the business in which it presently is, or proposes to be, engaged, and to execute, deliver and perform each of the Loan Documents, (g) Borrower has duly authorized, executed and delivered each Loan Document and each Loan Document is the legal, valid and binding obligation of Borrower, enforceable in accordance with its terms, and (h) the execution, delivery and performance of each Loan Document by Borrower are not in contravention of (i) the articles of incorporation, bylaws or other organizational documents of Borrower or (ii) any applicable law, rule, regulation, order or similar form of decision of any arbitrator, court or governmental authority (or political subdivision thereof), or any easement, right of way, permit, license, action, approval, consent or other similar authorization, right or approval binding on Borrower or any of its property, or (iii) any material agreement, instrument, lease or other commitment to which Borrower is a party or by which it or any of its properties are bound; and will not, except as contemplated herein, result in the imposition of any lien, charge, encumbrance, or other preferential arrangement having substantially the same economic effect, upon any of its properties. 4. Covenants. Borrower covenants and agrees that until the repayment in full in cash of the Loan, and unless otherwise waived in writing by Lender: (a) Minimum Debt Service Coverage Ratio. Borrower shall not as of the end of any fiscal quarter suffer or permit its Debt Service Coverage Ratio for the previous four fiscal quarters to be less than 1.5 to 1.0. (b) Adjusted Quick Ratio. Borrower shall not as of the end of any fiscal quarter suffer or permit its ratio (determined in respect of Borrower and its Subsidiaries on a consolidated basis) of (i) cash plus the value (valued in accordance with GAAP) of all Cash Equivalents plus net current accounts receivable (valued in accordance with GAAP) to (ii) Consolidated Current Liabilities to be less than 1.25 to 1.00. (c) Profitability. Borrower shall not as of the end of any fiscal quarter suffer or permit its Consolidated EBITDA for each of the prior four fiscal quarters to be less than zero; provided, however, that its Consolidated EBITDA for one fiscal quarter during the prior four fiscal quarters may be less than zero so long as the absolute value of the Consolidated EBITDA of such fiscal quarter (where the Consolidated EBITDA is less than zero) is not greater than $200,000. (d) Annual Financial Statements. As soon as available, but in any event, within ninety (90) days after the end of each fiscal year, Borrower shall deliver to Lender the following, 3 4 all in a form satisfactory to Lender: (i) audited statements of financial condition of Borrower, as of the end of such fiscal year with the related statements of income and retained earnings and statements of changes in financial position for such fiscal year, in each case setting forth comparative figures for the preceding fiscal year, and (ii) an unqualified opinion of a nationally recognized firm of an independent accountants acceptable to Lender. (e) Quarterly Financial Statements. As soon as available but, in any event within forty-five (45) days after the end of each of the first three fiscal quarters, Borrower shall deliver to Lender complete unaudited statements of financial condition of Borrower as of the end of such fiscal quarter with related statements of income and retained earnings and statements of changes in financial position for such fiscal quarter and for the elapsed portion of the fiscal year ended with the last day of such fiscal quarter, in each case setting forth comparative figures for the related periods in the prior fiscal year, all of which shall be in a form satisfactory to Lender, and certified as to fairness of presentation, GAAP and consistency by the financial officer of Borrower, subject to normal year-end audit adjustments. (f) Compliance Certificate. Within forty-five (45) days after the end of each fiscal quarter, Borrower shall deliver to Lender a certificate from the financial officer of Borrower in a form acceptable to Lender stating that: (i) such officer has reviewed or caused to be made a review of the transactions and financial condition of Borrower during such fiscal quarter; (ii) Borrower is in compliance with the financial covenants set forth in Sections 4(a), (b) and (c); and (iii) such review has not, to the best of such officer's knowledge, disclosed the existence of any event or condition which constitutes an Event of Default under any Loan Document, or if any such event or condition exists, the nature thereof and the corrective actions that such officer has taken or proposes to take with respect thereto. (g) Certain definitions. As used in this Section 4, the following capitalized terms shall have the following meanings: (i) "CASH EQUIVALENTS" shall mean: (A) securities issued or fully guaranteed or insured by the United States Government or any agency thereof having maturities of not more than 12 months from the date of acquisition; (B) certificates of deposit, time deposits, Eurodollar time deposits, repurchase agreements, reverse repurchase agreements, or bankers' acceptances, having in each case a tenor of not more than 12 months, issued by (i) any U.S. commercial bank or any commercial bank organized under the laws of any other country which is a member of the Organization for Economic Cooperation and Development (but including, in any event, Singapore), or a political subdivision of any such country, in each case having combined capital and surplus of not less than $100,000,000 and whose short-term securities are rated at least A-1 by Standard & Poor's Corporation ("S&P") or at least P-1 by Moody's Investor Service, Inc. ("MOODY'S"); (C) taxable and tax-exempt commercial paper of an issuer rated at 4 5 least A-1 by S&P or at least P-1 by Moody's and in either case having a tenor of not more than 270 days; (D) medium term notes of an issuer rated at least AA by S&P or at least Aa2 by Moody's and having a remaining term of not more than 12 months after the date of acquisition by Borrower or its Subsidiaries; (E) municipal notes and bonds which are rated at least SP-2 or AA by S&P or at least MIG-2 or Aa by Moody's with tenors of not more than 12 months; (F) investments in taxable or tax-exempt money market funds with assets greater than $500,000,000 and whose assets have average maturities less than or equal to 180 days and are rated at least A-1 by S&P or at least P-1 by Moody's; (G) money market preferred instruments of an issuer rated at least A-1 by S&P or at least P-1 by Moody's with tenors of not more than 12 months; (H) for similar investments, subject to Lender's prior written approval. (ii) "CONSOLIDATED CURRENT LIABILITIES" shall mean, at any time of determination, all amounts which would, in accordance with GAAP, be included under current liabilities on a consolidated balance sheet of Borrower and its Subsidiaries, but in any event including the outstanding Loan. (iii) "CONSOLIDATED EBITDA" shall mean, with respect to Borrower and its Subsidiaries on a consolidated basis for any period, net income (or loss) for such period (A) plus, to the extent deducted in computing such net income (or loss), the sum of (a) total depreciation and amortization expenses for any period, plus (b) total interest expense during such period, plus (c) if applicable, provisions for taxes based on income during such period, plus (d) losses attributable to sales of assets during such period, plus (e) other non-cash items reducing net income, and (B) minus, to the extent included in computing such net income (or loss), the sum of (x) gains attributable to sales of assets during such period, plus (y) other non-cash items increasing net income; all of the foregoing as determined on a consolidated basis for Borrower and its Subsidiaries in conformity with GAAP. (iv) "DEBT SERVICE COVERAGE RATIO" shall mean, for any period, the ratio of (i) Consolidated EBITDA during such period to (ii) the aggregate amount of debt service becoming due or payable by Borrower or any of its Subsidiaries during such period, as calculated by Borrower but subject to the approval of Lender. (v) "GAAP" shall mean generally accepted accounting principles in effect from time to time in the United States. (vi) "SUBSIDIARY" of Borrower, shall mean any corporation, association, partnership, limited liability company, joint venture or other business entity of which more than 50% of the voting stock, membership interests or other equity interests is owned or 5 6 controlled directly or indirectly by Borrower, or one or more Subsidiaries of Borrower, or a combination thereof. 5. Rights of Lender. In addition to Lender's rights as a "secured party" under the California Commercial Code, as amended or recodified from time to time (the "CODE"), Lender may, at any time and at the expense of Borrower, but shall not be obligated to, (a) give notice to any person of Lender's rights hereunder and enforce such rights, (b) insure, protect, defend and preserve the Collateral and any rights or interests of Lender therein, (c) inspect the Collateral, and (d) endorse, collect and receive any payment of money owing to Borrower under or from the Collateral. Lender shall have no duty or obligation to make or give any presentments, demands for performance, notices of nonperformance, notices of protest or notices of dishonor in connection with any of the Collateral. 6. Collateral Designation Statement. Borrower shall, from time to time within ten (10) days after request by Lender, deliver to Lender a written statement indicating the description and location of all Collateral then subject to this Agreement. 7. Other Undertakings. In addition to Borrower's obligations under the other Loan Documents, Borrower, at its sole cost, agrees (a) to pay and discharge all taxes, assessments and other charges or levies against the Collateral prior to delinquency thereof, (b) to have and maintain insurance at all times with respect to all Collateral against such risks, with such carrier and in such amounts as Lender may require, (c) to supply evidence of such insurance to Lender upon request, (d) not to sell, encumber or otherwise voluntarily or involuntarily transfer or dispose of the Collateral or any portion thereof or create, permit or suffer any encumbrance thereon, and (e) to pay, upon demand by Lender, all costs and expenses, including without limitation all attorneys' fees, incurred by Lender in connection with the creation, perfection, preservation or enforcement of any of the security interests granted under this Security Agreement. 8. Default. For purposes of this Security Agreement, an "EVENT OF DEFAULT" shall mean any one of the following events: (a) The existence of a default or Event of Default as defined under any of the other Loan Documents; or (b) Any failure by Borrower to perform any obligation hereunder, or the failure of any representation or warranty of Borrower herein to be true, and the continuance of such failure for ten (10) days after written notice thereof by Lender; or (c) an Insolvency Event shall have occurred with respect to Borrower or any of its Subsidiaries. As used in this Section, "INSOLVENCY EVENT" shall mean, with respect to Borrower or any of its Subsidiaries, the occurrence of any of the following: (i) such entity shall be adjudicated insolvent or bankrupt, or shall generally fail to pay or admit in writing its inability to pay its debts as they become due, (ii) such entity shall seek dissolution or reorganization or the appointment of a receiver, trustee, custodian or liquidator for it or a substantial portion of its property, assets or business or to effect a plan or other arrangement with its creditors, (iii) such 6 7 entity shall make a general assignment for the benefit of its creditors, or consent to or acquiesce in the appointment of a receiver, trustee, custodian or liquidator for a substantial portion of its property, assets or business, (iv) such entity shall file a voluntary petition under any bankruptcy, insolvency or similar law, or (v) such entity, or a substantial portion of its property, assets or business shall become the subject of an involuntary proceeding or petition for its dissolution, reorganization, or the appointment of a receiver, trustee, custodian or liquidator or shall become subject to any writ, judgment, warrant of attachment, execution or similar process involving $500,000, or more, and any such proceeding, petition, writ, judgment, warrant of attachment, execution or similar process shall not be released, vacated or fully bonded within 60 days after commencement, filing or levy, as the case may be, or any order for relief shall be entered in any such proceeding. 9. Remedies. Upon the occurrence of an Event of Default, then in addition to all of Lender's rights as a "secured party" under the Code or otherwise by law or equity: (a) Lender may (i) upon written notice, require Borrower to assemble any or all of the Collateral and make it available to Lender at a place designated by Lender, (ii) without prior notice, enter upon the place where any of the Collateral may be located and take possession of, collect, sell, and dispose of any or all of the Collateral, and store the same at locations acceptable to Lender at Borrower's expense, and (iii) sell, assign and deliver at any place or in any lawful manner all or any part of the Collateral and bid and become purchaser at any such sales; (b) Lender may, for the account of Borrower and at Borrower's expense, (i) operate, use, consume, sell or dispose of the Collateral as Lender deems appropriate for the purpose of performing any or all of the obligations secured by this Agreement, (ii) enter into any agreement, compromise or settlement, including the settlement of insurance claims, which Lender may deem desirable or proper with respect to any or all of the Collateral, (iii) endorse, deliver evidences of title for, receive, enforce and collect by legal action or otherwise, any or all indebtedness and obligations now or hereafter owed to Borrower in connection with or on account of any or all of the Collateral, and (iv) perform any of the obligations secured by this Security Agreement; provided, however, notwithstanding any other provision herein to the contrary, Lender shall not be deemed to have accepted any property other than cash in satisfaction of any obligation of Borrower to lender unless Lender shall have made an express written election of said remedy under Code Section 9505 or other applicable law; and (c) if an Event of Default specified in Section 8 (c) above shall have occurred, the entire amount of the Loan (including any interest, charges, fees or other amounts due under the Loan Documents) shall be automatically declared due and payable without any declaration, presentment, demand, protest or notice or other act of any kind by Lender whatsoever. 10. Power of Attorney. Borrower hereby irrevocably appoints Lender as Borrower's attorney-in-fact, such agency being coupled with an interest, and as such attorney-in-fact Lender may, without any obligation to do so, in Lender's name or in the name of Borrower, prepare, execute and file or record financing statements, continuation statements, applications for registration and like papers necessary to create, perfect or preserve any of Lender's security interests and rights in or to any of the Collateral, and upon an Event of Default hereunder take 7 8 any other action specified in Section 9(b) hereof, provided that Lender as such attorney-in-fact (a) shall provide Borrower with at least ten (10) days' prior written notice of its intention to act as its attorney-in-fact and the nature of the intended action, and (b) shall be accountable only for such funds as are actually received by Lender. 11. Possession and Use of Collateral. Except as otherwise provided in this Security Agreement or the other Loan Documents, so long as no Event of Default exists under this Security Agreement, Borrower may possess, use, move, transfer and dispose of any of the Collateral in the ordinary course of Borrower's business and in accordance with the Loan Agreement. 12. Attorneys' Fees. If Lender refers this Security Agreement or any of the other Loan Documents to an attorney to enforce, construe or defend any provision thereof, or as a consequence of any default or Event of Default thereunder, with or without the filing of any legal action or proceeding, Borrower shall pay to Lender upon demand the amount of all attorneys' fees, costs and other expenses incurred by Lender in connection therewith, together with interest thereon from the date of demand at the rate applicable to the principal balance of the Note, or, if the Note has been fully repaid, at the rate that would be applicable if the Note had not been fully repaid. The reference to "attorneys' fees" in this Section and in all other places in this Security Agreement and the other Loan Documents shall include without limitation such amounts as may then be charged by Lender for legal services furnished by attorneys in the employ of Lender, at rates not exceeding those that would be charged by outside attorneys for comparable services. 13. Integration. This Security Agreement and the other Loan Documents contain the entire agreement of the parties and supersede any and all prior negotiations. This Agreement is supplemented by the provisions of the Loan Documents, and said provisions are incorporated herein by this reference. 14. Miscellaneous Provisions. No provision of this Agreement may be amended, modified, supplemented, changed, waived, discharged or terminated unless Lender consents thereto in writing. In case any one or more of the provisions contained in this Agreement should be held to be invalid, illegal or unenforceable in any respect, the validity, legality and enforceability of the remaining provisions contained herein shall not in any way be affected or impaired thereby. This Agreement shall be binding upon and inure to the benefit of Borrower, Lender and their respective successors and assigns. Time is of the essence of this Agreement and the performance of each of the covenants and agreements contained herein. This Agreement shall be governed by and construed in accordance with the laws of the State of California. If Borrower consists of more than one person or entity, the obligations of Borrower shall be the joint and several obligations of all such persons or entities, and any married person who executes this Agreement agrees that recourse may be had against his or her separate property for satisfaction of his or her obligations hereunder. 8 9 IN WITNESS WHEREOF, Borrower has executed this Security Agreement as of the date first above written. BORROWER: HI/FN, INC., a Delaware corporation By: /s/ RAYMOND J. FARNHAM -------------------------------------- Name: Raymond J. Farnham --------------------------------- Title: Chief Executive Officer -------------------------------- By: /s/ WILLIAM R. WALKER -------------------------------------- Name: William R. Walker --------------------------------- Title: Vice President of Finance and -------------------------------- Chief Financial Officer -------------------------------- 9 -----END PRIVACY-ENHANCED MESSAGE-----