-----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, HvLkLoZPeFfGV2INMAG779xe0x6lMKBICIQGgZer8HZ+oQXJ2iw3yNEHkcDd8K42 BpqwaCz8ABKqXAVkNn0VLQ== 0000950135-99-002858.txt : 19990520 0000950135-99-002858.hdr.sgml : 19990520 ACCESSION NUMBER: 0000950135-99-002858 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19990404 FILED AS OF DATE: 19990519 FILER: COMPANY DATA: COMPANY CONFORMED NAME: PICTURETEL CORP CENTRAL INDEX KEY: 0000755095 STANDARD INDUSTRIAL CLASSIFICATION: TELEPHONE & TELEGRAPH APPARATUS [3661] IRS NUMBER: 042835972 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 001-09434 FILM NUMBER: 99630496 BUSINESS ADDRESS: STREET 1: 100 MINUTEMAN RD CITY: ANDOVER STATE: MA ZIP: 01810 BUSINESS PHONE: 5087625000 MAIL ADDRESS: STREET 1: 222 ROSEWOOD DR CITY: DANVERS STATE: MA ZIP: 01923 FORMER COMPANY: FORMER CONFORMED NAME: PICTEL CORP DATE OF NAME CHANGE: 19870505 10-Q 1 PICTURETEL CORPORATION 1 =============================================================================== SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q QUARTERLY REPORT UNDER SECTION 13 OR 15 (d) OF THE SECURITIES EXCHANGE ACT OF 1934 (MARK ONE) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 (AMENDED) FOR THE QUARTERLY PERIOD ENDED APRIL 4, 1999 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO FOR THE QUARTER ENDED APRIL 4, 1999 COMMISSION FILE NUMBER 1-9434 PICTURETEL CORPORATION (Exact name of Registrant as specified in its charter) DELAWARE 04-2835972 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 100 MINUTEMAN ROAD, ANDOVER, MA 01810 (Address of Principal Executive Offices) (Zip Code)
REGISTRANT'S TELEPHONE NUMBER: 978-292-5000 Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports), and (2) has been subject to such filing requirements for the last 90 days. Yes [X] No [ ] Indicate the number of shares outstanding of each of the issuer's classes of common stock as of the latest practical date. As of May 7, 1999, there were outstanding 40,302,942 shares of common stock of the registrant. =============================================================================== 2 PICTURETEL CORPORATION FORM 10-Q INDEX
PAGE ---- PART I. CONSOLIDATED FINANCIAL INFORMATION Item 1. Consolidated Financial Statements: Consolidated Balance Sheets April 4, 1999 and December 31, 1998............... 3 Consolidated Statements of Operations Three months ended April 4, 1999 and March 29, 1998.............................................. 4 Consolidated Statements of Cash Flows Three months ended April 4, 1999 and March 29, 1998.............................................. 5 Notes to Consolidated Financial Statements............. 6-10 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations................ 11-18 PART II. OTHER INFORMATION Item 1. Legal Proceedings.................................. 19 Item 2. Changes in Securities.............................. 20 Item 6. Exhibits and Reports on Form 8-K................... 20 Signatures.................................................. 21
2 3 PICTURETEL CORPORATION CONSOLIDATED BALANCE SHEETS (DOLLARS IN THOUSANDS)
APRIL 4, DECEMBER 31, 1999 1998 -------- ------------ ASSETS Current assets: Cash and cash equivalents.............................. $ 59,908 $ 62,642 Marketable securities.................................. 51,782 38,078 Accounts receivable, less allowance for doubtful accounts of $6,405 and $5,392 at April 4, 1999 and December 31, 1998, respectively....................... 71,227 78,995 Inventories, net....................................... 37,614 30,256 Other current assets................................... 8,980 8,692 -------- -------- Total current assets.............................. 229,511 218,663 Property and equipment, net................................. 94,356 95,655 Capitalized software costs, net............................. 18,199 20,484 Goodwill, net............................................... 5,063 5,336 Other assets................................................ 11,585 12,856 -------- -------- Total assets...................................... $358,714 $352,994 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Short-term borrowings.................................. $ -- $ 881 Accounts payable....................................... 23,107 32,777 Accrued compensation and benefits...................... 8,218 11,214 Accrued expenses....................................... 37,244 35,316 Current portion of capital lease obligations........... 2,775 3,537 Deferred revenue....................................... 27,953 22,616 -------- -------- Total current liabilities......................... 99,297 106,341 Capital lease obligations................................... 55,895 56,411 Commitments and contingencies (Notes 5 and 8) Stockholders' equity: Convertible, preferred stock, $.01 par value; 15,000,000 shares authorized; 4,478,708 shares outstanding at April 4, 1999.......................... 45 -- Common stock, $.01 par value; 80,000,000 shares authorized; 40,282,961 shares outstanding at April 4, 1999 and 40,067,771 shares outstanding at December 31, 1998.................................................. 403 400 Treasury stock, 70,000 shares.......................... (556) -- Additional paid-in capital............................. 254,374 222,230 Accumulated deficit.................................... (56,224) (30,254) Accumulated other comprehensive income (loss).......... 5,480 (2,134) -------- -------- Total stockholders' equity........................ 203,522 190,242 -------- -------- Total liabilities and stockholders' equity........ $358,714 $352,994 ======== ========
The accompanying notes are an integral part of the consolidated financial statements. 3 4 PICTURETEL CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (DOLLARS IN THOUSANDS EXCEPT PER SHARE AMOUNTS)
THREE MONTHS ENDED --------------------- APRIL 4, MARCH 29, 1999 1998 -------- --------- Revenues.................................................... $ 76,194 $101,045 Cost of revenues............................................ 51,972 55,158 -------- -------- Gross margin................................................ 24,222 45,887 Operating expenses: Selling, general and administrative.................... 32,362 32,810 Research and development............................... 17,523 16,899 -------- -------- Total operating expenses.......................... 49,885 49,709 -------- -------- Loss from operations........................................ (25,663) (3,822) Interest income, net........................................ 199 448 Other income, net........................................... 515 325 -------- -------- Loss before income tax expense (benefit).................... (24,949) (3,049) Income tax expense (benefit)................................ 1,021 (884) -------- -------- Net loss.................................................... (25,970) (2,165) Preferred stock accretion................................... 1,434 -- -------- -------- Net loss applicable to common shareholders.................. $(27,404) $ (2,165) ======== ======== Net loss per common share -- basic.......................... $ (0.68) $ (0.06) ======== ======== Net loss per common share -- diluted........................ $ (0.68) $ (0.06) ======== ======== Weighted average shares outstanding -- basic................ 40,218 38,092 ======== ======== Weighted average shares outstanding -- diluted.............. 40,218 38,092 ======== ========
The accompanying notes are an integral part of the consolidated financial statements. 4 5 PICTURETEL CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (DOLLARS IN THOUSANDS)
THREE MONTHS ENDED --------------------- APRIL 4, MARCH 29, 1999 1998 -------- --------- Cash flows from operating activities: Net loss.................................................. $(25,970) $(2,165) Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation and amortization.......................... 9,299 5,741 Bad debt reserves...................................... 1,401 -- Inventory reserves..................................... 810 -- Other non-cash items................................... 128 616 Changes in operating assets and liabilities: Accounts receivable.................................... 5,393 7,184 Inventories............................................ (8,364) 327 Other current assets................................... (173) (1,192) Accounts payable....................................... (9,428) (2,419) Accrued compensation and benefits and accrued expenses.............................................. (710) (315) Deferred revenue....................................... 5,560 (1,441) -------- ------- Net cash provided by (used in) operating activities......... (22,054) 6,336 Cash flows from investing activities: Purchase of marketable securities......................... (41,606) (36,615) Proceeds from marketable securities....................... 36,333 25,221 Additions to property and equipment....................... (4,974) (4,620) Capitalized software costs................................ -- (1,457) Purchase of other assets.................................. -- (99) -------- ------- Net cash used in investing activities....................... (10,247) (17,570) Cash flows from financing activities: Net proceeds from foreign lines of credit................. -- 748 Payments on short-term/long-term borrowings............... (850) -- Principal payments under capital lease obligations........ (1,284) (418) Common stock repurchase................................... (556) -- Proceeds from preferred stock issuance.................... 30,500 -- Proceeds from exercise of stock options................... 902 624 Proceeds from stock purchase plan......................... 790 878 -------- ------- Net cash provided by financing activities................... 29,502 1,832 Effect of exchange rate changes on cash..................... 65 (1,544) -------- ------- Net decrease in cash and cash equivalents................... (2,734) (10,946) Cash and cash equivalents at beginning of period............ 62,642 49,859 -------- ------- Cash and cash equivalents at end of period.................. $ 59,908 $38,913 ======== =======
The accompanying notes are an integral part of the consolidated financial statements. 5 6 PICTURETEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. MANAGEMENT'S REPRESENTATION As permitted by the rules of the Securities and Exchange Commission applicable to Quarterly Reports on Form 10-Q, these notes are condensed and do not contain all the disclosures required by generally accepted accounting principles. Reference should be made to the consolidated financial statements and related notes included in the Company's Annual Report on Form 10-K for the year ended December 31, 1998, as filed with the Securities and Exchange Commission on March 31, 1999. In the opinion of the management of PictureTel Corporation, the accompanying unaudited consolidated financial statements contain all adjustments necessary to present fairly the Company's financial position at April 4, 1999 and the results of operations and changes in cash flow for the three months ended April 4, 1999. The results disclosed in the Consolidated Balance Sheet at April 4, 1999 and the Consolidated Statement of Operations and Consolidated Statement of Cash Flows for the three months ended April 4, 1999 are not necessarily indicative of the results to be expected for the full year. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and also affect the reported amounts of revenues and expenses during the reporting period. The financial statements include significant estimates of the net realizable value of accounts receivable, inventory and capitalized software and the amount of certain contingent liabilities. Actual results could differ from those estimates. 2. INVENTORIES Inventories, net consist of the following (in thousands):
APRIL 4, DECEMBER 31, 1999 1998 -------- ------------ Purchased Parts.......................................... $ 2,054 $ 2,609 Work in Process.......................................... 1,350 1,399 Finished Goods........................................... 34,210 26,248 ------- ------- $37,614 $30,256 ======= =======
6 7 PICTURETEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 3. EARNINGS PER SHARE The following table reconciles the numerator and the denominators of the basic and diluted EPS computations shown on the Consolidated Statements of Operations (in thousands, except per share data):
FOR THE THREE MONTHS ENDED --------------------------- APRIL 4, MARCH 29, 1999 1998 ---------- ----------- BASIC EPS COMPUTATION: Numerator: Net loss.......................................... $(25,970) $(2,165) Preferred stock accretion......................... 1,434 -- -------- ------- Total............................................. $(27,404) $(2,165) ======== ======= Denominator: Weighted average common shares outstanding........ 40,218 38,092 ======== ======= Basic EPS.............................................. $ (0.68) $ (0.06) ======== ======= DILUTED EPS COMPUTATION: Numerator: Net loss.......................................... $(25,970) $(2,165) Preferred stock accretion......................... 1,434 -- -------- ------- Total............................................. $(27,404) $(2,165) ======== ======= Denominator: Weighted average common shares outstanding........ 40,218 38,092 Stock options, preferred stock, warrants.......... -- -- -------- ------- Total Shares...................................... 40,218 38,092 ======== ======= Diluted EPS............................................ $ (0.68) $ (0.06) ======== =======
Options to purchase shares of the Company's common stock of 7,373,874 and 5,972,190 were outstanding at April 4, 1999 and March 29, 1998, respectively, but were not included in the computation of diluted EPS because they were antidilutive due to the net losses sustained in 1999 and in 1998. Warrants for the Company's common stock of 2,723 and 4,478,708 shares of the Company's convertible, preferred stock were outstanding at April 4, 1999 but were not included in the computation of diluted EPS because they were antidilutive due to the loss sustained in 1999. 4. COMPREHENSIVE LOSS The Company in fiscal year 1998 adopted FASB 130, Reporting Comprehensive Income. The calculation of comprehensive income includes the loss as reported in the Consolidated Statements of Operations for the first quarter of 1999 and 1998, the gains and losses on foreign currency translation adjustments and unrealized gains and losses on marketable securities. Total comprehensive loss for the three months ended April 4, 1999 was $18,356,000 and total comprehensive loss for the comparable period in 1998 was $3,710,000. The change from December 31, 1998 to April 4, 1999 in accumulated other comprehensive income was a gain of $8,423,000 in marketable securities and a loss of $809,000 in cumulative translation adjustments. 7 8 PICTURETEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 5. DEBT On August 12, 1998 and March 31, 1999, the Company amended certain provisions of the amended and restated credit agreement which expires on October 4, 1999. This agreement requires interest payable at either the bank's base rate, or the adjusted eurocurrency rate plus an applicable margin of two percent. The commitment fees were also amended and are payable quarterly on any unused portion at a rate per annum equal to 0.25%. The amended agreement contains no demand feature and provides that the principal portion of the borrowings be paid by the expiration date. At April 4, 1999, no borrowings were outstanding under this credit agreement. In addition, the Company has $28,762,000 of outstanding standby letters of credit under this agreement. Fees for letters of credit outstanding against this revolving credit line were amended and are now payable at two and one-eighth percent per annum of the face amount. The revolving credit agreement is collateralized by cash and cash equivalents and contains certain financial covenants, including the maintenance of certain financial ratios and minimum net income (loss) requirements. At April 4, 1999, the Company was out of compliance with two of the debt covenants. The Company received waivers from the banks regarding those covenants and is retroactively in compliance. The Company's quarterly operating results for the remainder of the agreement term are likely to be out of compliance with the credit line's financial covenants. Effective March 26, 1999, the banks informed the Company that they would not renew the Company's letters of credit, outstanding under this agreement, as they come due. The letters of credit, which relate to security for certain of the Company's facility leases, come due as follows: $12,500,000 on June 24, 1999, $9,012,000 on July 31, 1999 and $7,250,000 on September 12, 1999. In addition, effective May 19, 1999, the respective banks have informed the Company that they will not provide additional short-term lending under this agreement. The Company is considering alternatives for the letters of credit including refinancing the loan, seeking alternative issuers of letters of credit or cash collateral. In the event that such letters of credit expire and are not renewed, the Company's cash would be reduced by the amount of the letters of credit. Local lines of credit are available for short-term advances of up to $5,300,000 to certain of the Company's foreign subsidiaries. Two of these lines are guaranteed by the Company. The agreements require interest payable ranging from the bank's prime lending rate plus up to one quarter of one percent per annum. No borrowings were outstanding against these local lines of credit at April 4, 1999. 6. CAPITAL TRANSACTION On January 19, 1999, the Company announced it had entered into a distribution and joint development agreement with Intel Corporation. On February 17, 1999, Intel invested $30.5 million in the Company, acquiring approximately 10% of the Company's equity through convertible preferred stock. The two companies will develop videoconferencing and collaborative products based on a common PC-based technology platform. Under terms of the agreement, Intel will provide the Company with distribution rights to sell the Intel ProShare(R) Video System 500 and exclusive worldwide distribution rights to sell and support the Intel(R)TeamStation(TM) System. The convertible Preferred Stock issued to Intel Corporation is non-voting and preferred with respect to dividend rights and liquidation preference to the Company's Common Stock. Additionally, each share of the Preferred Stock has the right to convert to one share of common stock. The terms of the convertible Preferred Stock are set forth in the Amendment to the Certificate of Incorporation filed as Exhibit 3.1.1 to this 10-Q. 8 9 PICTURETEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 7. SEGMENT INFORMATION The Company has determined that its reportable segments are videoconferencing products, videoconferencing services and audioconferencing. The videoconferencing products segment develops, manufactures and markets visual communications systems and collaboration software. The videoconferencing services segment provides services for the videoconferencing products. The audioconferencing segment develops, manufactures, markets and services multipoint control units.
VIDEO- VIDEO- CONFERENCING CONFERENCING AUDIO- PRODUCTS SERVICES CONFERENCING OTHER TOTAL ------------ ------------ ------------ ------- -------- QUARTER ENDED APRIL 4, 1999: Revenues from external customers...... $ 53,838 $16,780 $5,576 $ -- $ 76,194 Operating income (loss)............... $(22,735) $ 1,570 $ 423 $(4,921) $(25,663) QUARTER ENDED MARCH 29, 1998: Revenues from external customers...... $ 81,512 $13,853 $5,680 $ -- $101,045 Operating income (loss)............... $ (2,616) $ 1,041 $2,223 $(4,470) $ (3,822)
The classification "Other" consists of corporate administrative functions, which are excluded from the videoconferencing products, videoconferencing services and audioconferencing segments for management decision making. The Company evaluates the performance of its segments based upon operating income. There are no material intersegment revenues. Transfers of videoconferencing products to the videoconferencing services segment are recorded at standard cost and are not tracked for management reporting purposes. Asset information by reportable segment has not been disclosed since the Company does not produce such information internally. 8. LITIGATION A. Datapoint Litigation In December 1993, PictureTel was sued by Datapoint Corporation in the United States District Court for the Northern District of Texas. Datapoint alleged that certain of PictureTel's products infringed patent rights allegedly owned by Datapoint. On April 9, 1998 a jury returned a verdict in favor of PictureTel finding that PictureTel did not infringe the Datapoint patents and that the Datapoint patent claims raised against PictureTel were invalid. On May 3, 1999 an appeals hearing took place with regards to this litigation. While there can be no assurance that the outcome of the appeal will be in favor of the Company, the Company believes that it presented meritorious defenses to the appeal. B. Shareholder Litigation Since September 23, 1997, seven class action shareholders' complaints have been filed against the Company, Norman E. Gaut, Director and former Chairman of the Board and Chief Executive Officer, and Les Strauss, the former Vice President and Chief Financial Officer, in the United States District Court for the District of Massachusetts. The plaintiffs filed a consolidated complaint on February 11, 1998. The original complaints were filed following the Company's announcement on September 19, 1997 that it would restate its financial results for the first quarter of the fiscal year ending December 31, 1997 and the last two quarters of the fiscal year ending December 31, 1996 and were amended when the Company announced on November 13, 1997 that it would also restate the second quarter of the fiscal year ending December 31, 1997. The consolidated complaint alleges that PictureTel and Messrs. Gaut and Strauss violated Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder, during the period from October 17, 1996 through November 13, 1997, through the alleged preparation and dissemination of 9 10 PICTURETEL CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) materially false and misleading financial statements which artificially inflated the price of PictureTel Common Stock. The consolidated complaint seeks to recover an unspecified amount of damages, including attorneys' and experts' fees and expenses. On April 7, 1998, the Company filed a motion to dismiss the complaint. On October 28, 1998, the motion to dismiss Norman E. Gaut was granted and the motion to dismiss PictureTel and Les Strauss was denied. Limited discovery has occurred, and the Company expresses no opinion as to the likely outcome. The outcome of this litigation may have a material impact on the Company's financial position, results of operations and cash flows. C. Revnet, Inc. On June 2, 1998, the Company was served with a complaint from a former distribution channel customer, Revnet, Inc., which has ceased operations. (Revnet, Inc., v. PictureTel Corporation. Civil Action 98092039, filed April 2, 1998, in the Circuit Court for Baltimore City, Maryland.) The complaint alleges that the Company breached an oral contract. Revnet is seeking $200,000,000 in damages. Discovery has recently begun. The Company believes that the complaint and the claim for damages are without merit and intends to vigorously defend itself against them. In addition to the above, the Company has also been and is from time to time subject to claims and suits incidental to the conduct of business. There can be no assurance that the Company's insurance will be adequate to cover all liabilities that may arise out of such claims. Further, although the Company intends to defend itself vigorously against all such claims, the ultimate outcome of the claims cannot be accurately predicted. The Company does not believe that any claim of which it is aware, other than the claims listed above, could result in an outcome that will have a material adverse affect to its business, financial condition, results of operations or cash flows. 10 11 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS FORWARD-LOOKING STATEMENTS This document includes forward-looking statements about the Company's business, revenues and expenses, effective tax rate, and operating and capital requirements. Forward-looking statements made or incorporated by reference herein are not guarantees of future performance. In addition, forward-looking statements may be included in various other PictureTel documents to be issued in the future and in various oral statements by PictureTel representatives to security analysts and investors from time to time. Any forward-looking statements are subject to risks that could cause the actual results to vary materially. Such risks are discussed in "Risk Factors Which May Affect Future Results" and in other related portions of this document. BUSINESS DEVELOPMENTS On January 19, 1999, the Company announced it had entered into a distribution and joint development agreement with Intel Corporation. On February 18, 1999, Intel invested $30.5 million in the Company, acquiring approximately 10% of the Company's equity through convertible preferred stock. The two companies will develop videoconferencing and collaborative products based on a common PC-based technology platform. Under terms of the agreement, Intel will provide the Company with distribution rights to sell the Intel ProShare(R) Video System 500 and exclusive worldwide distribution rights to sell and support the Intel(R) TeamStation(TM) System. RESULTS OF OPERATIONS The following table sets forth, for the periods indicated, the percentage of revenues for certain items in the Company's Statement of Operations for each period:
THREE MONTHS ENDED ----------------------- APRIL 4, MARCH 29, 1999 1998 -------- --------- Revenues................................................. 100% 100% Cost of revenues......................................... 68.2 54.6 Gross margin............................................. 31.8 45.4 Selling, general and administrative...................... 42.5 32.5 Research and development................................. 23.0 16.7 Total operating expenses................................. 65.5 49.2 Income (loss) from operations............................ (33.7) (3.8) Interest income, net..................................... 0.3 0.5 Other income, net........................................ 0.7 0.3 Income (loss) before taxes............................... (32.7) (3.0) Income tax expense (benefit)............................. 1.4 (0.9) Net income (loss)........................................ (34.1) (2.1) Preferred stock accretion................................ (1.9) -- Net loss available to common shareholders................ (36.0) (2.1)
THREE MONTHS ENDED APRIL 4, 1999 COMPARED TO THREE MONTHS ENDED MARCH 29, 1998 Revenues. The Company's first quarter 1999 revenues of $76,194,000 decreased $24,851,000, or 25%, from first quarter 1998 levels. Lower videoconferencing products volume and lower average selling prices, as discussed below in "Videoconferencing Products," account for the decline. Revenues from sales to foreign markets were approximately 48% of total revenues in both periods. 11 12 Gross Margin. Overall gross margin declined $21,665,000, or 47%, in the first quarter of 1999 compared to the first quarter of 1998. Gross margin as a percentage of revenue was 32% versus 45% in the first quarters of 1999 and 1998, respectively. The decrease was caused by lower average selling prices coupled with higher per unit costs due to lower volume in videoconferencing products. Operating Expenses. First quarter 1999 operating expenses of $49,885,000 were flat compared with the comparable prior year period. However, as a percentage of revenue, operating expenses increased to 65.5% from 49.2% as a result of the decline in revenue. Selling, General and Administrative. First quarter 1999 selling, general, and administrative expenses of $32,362,000 were approximately 1% lower than first quarter 1998 due to cost reduction efforts partially offset by higher real estate costs and a $900,000 gain associated with the collection of a previously written-off receivable. However, as a percentage of revenue, selling, general and administrative increased to 42.5% from 32.5% as a result of the decline in revenue. The Company expects to record a charge of approximately $2,500,000 in the second quarter related to subleasing certain excess real estate. Research and Development. First quarter 1999 research and development expenses of $17,523,000 were approximately 4% higher than in the previous year. New product development expenditures at Starlight, which was acquired in the fourth quarter of last year, and in the audioconferencing segment, coupled with decreased capitalization of software development costs, account for the higher expenses. The Company capitalized $1,457,000 of software development costs in the first quarter of 1998. No such costs were capitalized in the first quarter of 1999 as no current projects in progress had achieved technological feasibility. Videoconferencing Products. First quarter 1999 revenues for this segment, which develops, manufactures, and markets visual communications systems and collaboration software totaled $53,838,000. This represents a $27,674,000, or 34%, decrease from first quarter 1998 levels. Lower unit volumes and lower average selling prices were responsible. Average selling prices were lower across all product lines versus 1998, with this trend expected to continue as the Company adjusts its prices in response to competitive pressures. Total videoconferencing system units decreased 18% versus the prior year, with group system volume declining by 33% and desktop/personal system volume off by 5%. Lower Concorde shipments and a decision to suspend distribution of Swiftsite II, the Company's newly introduced compact system, until certain software problems are resolved, accounted for the decreased group system volume. The Company has deferred revenue recognition on all Swiftsite II shipments until an improved version of the software is available, which is currently expected to occur in the second quarter. As a result, nearly 40% of the revenue decline and a major portion of the increase of finished goods inventory is associated with this Swiftsite II revenue deferral. The videoconferencing products segment generated an operating loss of $22,735,000 during the quarter compared to a $2,616,000 operating loss in the first quarter of 1998. Lower revenue and decreased gross margin as a percent of revenue account for the profitability decrease. Compared with the previous year's first quarter, gross margin as a percentage of revenue declined 16 percentage points to 32%. The primary reasons for the decreased gross margin percentage were lower average sales prices, excess overhead absorption associated with lower volumes and capitalized software amortization related to Swiftsite II and completed technology purchased in the fourth quarter 1998 related to the Starlight acquisition. First quarter 1999 operating expenses decreased 5% from prior year levels because of ongoing cost reduction efforts partially offset by the Starlight acquisition's operating costs and a reduction in internal software development capitalization. Videoconferencing Services. The videoconferencing services segment provides maintenance as well as professional consulting and management services for videoconferencing products sold by the Company and its competitors. First quarter 1999 revenues grew from $13,853,000 in 1998 to $16,780,000 in 1999, as both maintenance and professional service revenues increased 21%. Operating profits were $1,570,000 during 1999's first quarter compared with $1,041,000 in the comparable prior year period. Revenue growth is the main reason for the 50% improvement. 12 13 Audioconferencing. The audioconferencing segment develops, manufactures, markets, and services multipoint audioconferencing control units. First quarter 1999 segment revenues totaled $5,576,000 and were essentially flat with comparable 1998 results. Operating income decreased from $2,223,000 in the first quarter of 1998 to $423,000 in the first quarter of 1999, primarily because of increased research and development spending on enhancing existing products and developing next generation products. Income Taxes. The Company's effective income tax rate was 4% in the first quarter of 1999 compared with 29% in the comparable period in 1998. The decrease in the effective tax rate is due to the Company's recording a full valuation allowance against net deferred tax assets in the fourth quarter of 1998 and continued uncertainty as to future realization of those assets. The effective tax rate in 1999 relates to foreign and state taxes. LIQUIDITY AND CAPITAL RESOURCES At April 4, 1999 the Company had $59,908,000 in cash and cash equivalents and $51,782,000 in short-term marketable securities. The primary uses of cash during the first quarter of 1999 were expenditures for normal operations, the increase of inventory of $8,364,000 and the decrease in accounts payable of $9,428,000. The principal sources of cash were the receipt of $30.5 million of cash from the issuance of preferred stock and the decrease in trade receivables of $5,393,000. The increase in marketable securities was due primarily to the increase in value of one equity security. At April 4, 1999, no borrowings were outstanding under the Company's credit agreement with its banks. However, the Company has $28,762,000 of outstanding standby letters of credit under this agreement. Fees for letters of credit outstanding against this revolving credit line were amended and are now payable at two and one-eighth percent per annum of the face amount. The revolving credit agreement is collateralized by cash and cash equivalents and contains certain financial covenants, including the maintenance of certain financial ratios and minimum net income (loss) requirements. At April 4, 1999, the Company was out of compliance with two of the debt covenants. The Company received waivers from the banks regarding those covenants and is retroactively in compliance. The Company's quarterly operating results for the remainder of the agreement term are likely to be out of compliance with the credit line's financial covenants. Effective March 26, 1999, the banks informed the Company that they would not renew the Company's letters of credit, outstanding under this agreement, as they come due. The letters of credit, which relate to security for certain of the Company's facility leases, come due as follows: $12,500,000 on June 24, 1999, $9,012,000 on July 31, 1999 and $7,250,000 on September 12, 1999. In addition, effective May 19, 1999, the respective banks have informed the Company that they will not provide additional short-term lending under this agreement. The Company is considering alternatives for the letters of credit including refinancing the loan, seeking alternative issuers of letters of credit or cash collateral. In the event that such letters of credit expire and are not renewed, the Company's cash would be reduced by the amount of the letters of credit. Local lines of credit are available for short-term advances of up to $5,300,000 to certain of the Company's foreign subsidiaries. Two of these lines are guaranteed by the Company. The agreements require interest payable ranging from the bank's prime lending rate plus up to one quarter of one percent per annum. No borrowings were outstanding against these local lines of credit at April 4, 1999. The Company has operating leases for various rented properties. The Company signed an agreement to sublease the facility at Riverside Drive in Andover in May, 1999 as part of its space consolidation efforts. As of April 4, 1999, the remaining obligation under this operating lease was $8,900,000. After giving effect to expected sublease income, this obligation is $5,500,000. As a result of lease obligations in excess of sublease income over the term of the sublease and other charges related to the transaction, the Company expects to record a charge of approximately $2,500,000 in the second quarter of 1999. 13 14 In October 1998, the Board of Directors authorized a plan to repurchase up to 1,000,000 shares of the Company's Common Stock in open market, privately negotiated or other transactions. During the three month period ended April 4, 1999, the Company repurchased 70,000 shares at a cost of $556,000. The Company has no definitive plans to repurchase the remainder of the shares. The Company believes that funds from operations, equipment lease financing and existing cash, cash equivalents and marketable securities will be sufficient to meet the Company's operating, investing and financing requirements for the foreseeable future. RISK FACTORS WHICH MAY AFFECT FUTURE RESULTS The following risk factors relating to the business of PictureTel and certain forward looking statements contained herein, should be considered by current and prospective investors of PictureTel stock. These factors should be considered in conjunction with other information contained in this document. New Products, Cost Reductions, Technological Change, and Evolving Markets. The Company is engaged in an industry that is still emerging as a result of extensive research and development efforts and which continues to bring to market new, more technologically advanced products introduced on an accelerated basis. Simultaneously, the larger telecommunications market is in a heightened competitive state due to deregulation throughout the world. In order to maintain its market share leadership role in this fast-paced emerging market, the Company must continue to introduce, through internal development or by acquisition, significant innovative, technologically leading and cost-competitive products. There can be no assurance that such new products will be introduced by the Company, or if introduced, will be accepted by the market and its customers. In November 1998, the Company acquired all of the common stock of Starlight Networks, Inc. Starlight develops, manufactures and markets streaming video that enables live, interactive multicast video-on-demand. There can be no assurance that the integration of Starlight will be successful or produce products which will be accretive to the Company's results of operations and financial condition. In January 1999, the Company entered into a distribution and joint product development agreement with Intel Corporation. The two companies will develop videoconferencing and collaborative products based on a common PC-based technology platform. There can be no assurance that the partnership will be successful or produce products which will be accretive to the Company's results of operations and financial condition. In addition to offering products that operate in an integrated service digital network (ISDN) environment, the Company and its competitors are exploring continued development of products and services for new technologies and networks, such as the Internet and corporate intranets or LANs. The industry standards for such new technologies and networks, however, are still in the early stages of development, which the Company believes has led to customer uncertainty and, accordingly, a slowdown in the growth of the general market for videoconferencing products. As a result of customer preferences, the Company has also experienced over the past year a shift in its sales model to videoconferencing systems with lower average selling prices. There can be no assurance that the Company will be successful in implementing cost reductions for all of its products or in developing and marketing suitable new products and related services with attractive margins for these new technologies and networks. The possible transition, migration and/or convergence of technologies is difficult to predict and could have profound implications for the industry and the business of the Company. Further, there is significant risk that existing products could be rendered obsolete due to changing technology. The failure of the Company to develop and market new products on a timely basis or to enhance its existing products or to respond effectively to technological changes, new industry standards or product announcements by competitors could have a material adverse effect on the Company's business, financial condition and results of operations. Competition. In its established businesses of group and desktop/personal videoconferencing products, the Company competes with a number of corporations, such as Polycom, RSI Systems, Sony, Tandberg, VTEL and VCON. In the developing businesses of network-based videoconferencing systems and audioconferencing systems, a number of corporations such as Lucent and Cisco have begun to offer competitive products. In addition, partnerships between corporations, which compete with the Company, and corporations which develop and market network products, as well as mergers among competitors, are intensifying competition in the marketplace. This increased competition, together with a slowdown in the growth of the 14 15 general market for videoconferencing products, has led and may continue to lead to increases in the defection or dilution of the Company's distribution channel partners to competitors, decreases in average selling prices and margins in both group and desktop/personal videoconferencing products, and a lower segment market share by the Company for products and services in the emerging area of network-based visual collaboration. In some cases, the Company competes with its channel partners for various services, which increases the complexity of channel management. In addition, competitors may offer network visual collaboration software solutions or incorporate standard algorithms into processor chips free of additional charge, which may reduce the value the Company's technology provides to the market, especially in its lower end videoconferencing products. In addition, the prices which the Company is able to charge for its videoconferencing products and services may further decrease from historical levels as a result of new product introductions by competitors, price competition, technological advances, or otherwise. Any of these factors could have a material adverse effect on the Company's business, financial condition and results of operations. Manufacturing. Certain key subassemblies and products are currently available only from one vendor and several vendors are smaller corporations with limited financial resources that could prove to be inadequate. In some cases components are sourced from only one vendor, even where multiple sources are available, to maintain quality control and enhance the working relationship with the vendor. In addition, the Company from time to time enters into development arrangements with third parties to develop and incorporate new features and functions into the Company's products. Failure of these third parties to fulfill their respective obligations under these development arrangements could have a material adverse effect on the Company's business, financial condition and results of operations. The Company's business could also be adversely affected by delays or interruptions in delivery, and poor quality of supplies, subassemblies or products from key vendors. In addition, the Company designs and procures certain circuits, components and subassemblies from non-videoconferencing divisions of its competitors, such as Sony and Panasonic Corporation. The failure to obtain adequate supplies or the requirement to redesign and source supplies from another manufacturer may take substantial time and result in significant expense, each of which could impact product shipments and materially and adversely affect the Company's business, financial condition or results of operations. Recent History of Losses. The Company reported a 25% decrease in revenues for the quarter ended April 4, 1999 as compared to revenues for the quarter ended March 29, 1998 and an increase in net loss from $2,165,000 to $25,970,000. The Company had revenues of $406,152,000 and $466,425,000 for the year ended December 31, 1998 and December 31, 1997, respectively, and net losses of $55,679,000 and $39,398,000, respectively. Included in the results for the year ended December 31, 1998 were charges totaling $9,957,000 related to discontinuing a video network server product line and the write-down of certain inventory and fixed assets and a valuation allowance for deferred taxes of $35,141,000. The Company recorded other charges in the year ended December 31, 1997 to bring expenses into line with its lower level of revenues and a lower expected rate of growth. Revenues and prospects for growth have been impacted by, among other things, the decline in the average selling price for several PictureTel products, a decline in the profitability of the industry, a slowdown in the general market for videoconferencing products, a suspension of Swiftsite II distribution, as discussed in the results of operations above, and also in part resulting from the perceived uncertainty of customers with respect to the compatibility of existing products of the Company and its competitors with expected new multimedia videoconferencing products utilizing the Internet and LAN systems. Continued lower operating results will impact the Company's ability to remain in compliance with covenants under its existing revolving credit agreement. Further, there can be no assurance that the Company can return to the level of revenues or profits in relation to net sales experienced in years prior to the year ended December 31, 1997. Product Protection and Intellectual Property. The Company's success depends in part on its proprietary technology. The Company attempts to protect its proprietary technology through patents, copyrights, trademarks, trade secrets and license agreements. In absence of broad patent protection, which is not likely, and despite the Company's reliance upon its proprietary confidential information, competitors of the Company have been able to use algorithms or other features similar to those used by the Company to design and manufacture products that are directly competitive with the Company's products. The Company believes that due to the rapid pace of technological change in the visual collaboration industry, legal protection for its 15 16 products is less significant than factors such as the Company's use, implementation and enhancement of standards-based open architecture and the Company's ongoing efforts in product innovation. Although the Company does not believe that its products infringe the proprietary rights of any third parties, third parties have asserted infringement and other claims against the Company from time to time. There can be no assurance that third parties will not assert such claims against the Company in the future or that such claims will not be successful. The Company could incur substantial costs and diversion of management resources with respect to the defense of any claims relating to proprietary rights, which in turn could have a material adverse effect on the Company's business, financial condition and result of operations. See "Litigation." Potential Fluctuations of Quarterly Operating Results. The majority of the Company's revenues in each quarter result from orders booked in that quarter, and a substantial portion of the Company's orders and shipments typically occur during the last weeks of each quarter such that forecasting of revenue and product mix is both complex and difficult. Unanticipated variations in the timing of receipt of customer orders in any quarter may produce significant fluctuations in quarterly revenues. As a result, a shortfall in revenue compared to internal expectations may not evidence itself until late in the quarter and any resulting impact on earnings may not be determinable until several weeks after the end of the quarter. The Company's ability to maintain or increase net revenues depends upon its ability to increase unit volume sales. There can be no assurance that the Company will be able to increase or to maintain the current level of unit volume sales. Other factors which may cause period-to-period fluctuations in operational results include the timing of new product announcements and introductions by the Company and its competitors, market acceptance of new or enhanced versions of the Company's products, changes in the product mix of sales, changes in the relative proportions of sales among distribution channels or among customers within each distribution channel, changes in manufacturing costs, and general economic factors such as the recent decline of currency values in the Asian markets. International Operations. Revenues related to international operations of the Company totaled approximately 48% of revenue for both periods ended April 4, 1999 and March 29, 1998 and 43% of total revenues for both the years ended December 31, 1998 and 1997, respectively. Management of the Company expects international revenues to continue to constitute a significant portion of total revenues in future periods. However, there can be no assurance that the Company will be able to maintain or increase international market demand for its products and, to the extent the Company is unable to do so, its business, financial condition, results of operations or cash flows could be materially adversely affected. The Company's sales to international distributors are denominated in U.S. dollars in order to minimize risks associated with fluctuating foreign currency rates. An increase in the value of the U.S. dollar relative to other currencies, however, could make the Company's product more expensive and, therefore, potentially less competitive in foreign markets. Sales by the Company's foreign subsidiaries are generally made in the foreign subsidiary's local currency, in which case fluctuations in the value of the U.S. dollar relative to such other currencies could have a material adverse effect on the operating results of the Company. Currently, the Company employs various currency hedging strategies to reduce these risks. In addition, a significant portion of the Company's revenue is derived from Asian markets. Given the current general weakness in the Asian markets, there can be no assurance that the Company will be able to sustain current revenue levels or growth in such markets. There can be no assurance that the above factors will not have a material adverse effect on the Company's future international sales and, consequently, on its business, financial condition, results of operations or cash flows. Volatility of Stock Price. As is frequently the case with the stocks of high technology corporations, the market price of PictureTel Common Stock has been, and may continue to be, volatile. Factors such as quarterly fluctuations in results of operations, increased competition, the introduction of new products by the Company and by its competitors, changes in the mix of products and sales channels, the timing of significant customer orders, and macroeconomic conditions generally, may have a significant adverse effect on the market price of the Company's stock in any given period. In addition, the stock market has, from time to time, experienced extreme price and volume fluctuations, which have particularly affected the market price for many high technology corporations and which, on occasion, have appeared to be unrelated to the operating performance of such corporations. Past financial performance should not be considered a reliable indicator of future performance and investors should not use historical trends to anticipate results or trends in future 16 17 periods. Any shortfall in revenue or earnings from the levels anticipated by securities analysts could have an immediate and significant adverse effect on the market price of PictureTel Common Stock in any given period. Dependence on Key Personnel. In February, 1998, Bruce R. Bond succeeded Dr. Norman Gaut as Chief Executive Officer and President. In June, 1998, Bruce Bond was elected Chairman of the Board and Dr. Gaut retired as an active employee while remaining a member of the Board of Directors. There can be no assurance that the transition from Dr. Gaut to Bruce Bond will be successful. On October 15, 1998, the Company announced the appointment of Gary Bond as Group Vice President and General Manager of Products. On October 21, 1998, Arthur Fatum was appointed as Vice President and Chief Financial Officer. The Company depends on a limited number of key senior management personnel, including Bruce Bond; David Grainger, Group Vice President and General Manager of Services; David Goselin, Vice President, Operations; Lawrence Bornstein, Vice President, Human Resources; Gary Bond; Arthur Fatum; Frazer Hamilton, Group Vice President of Worldwide Sales; and John Nye, Vice President, MultiLink. There has been considerable turnover in the Company's senior management team over the past several years, and the loss of the services of one or more of the Company's senior management team or the inability to attract, retain, motivate and manage additional key personnel could have a material adverse effect on the business, financial condition or operating results of the Company. In addition, over the past year, the Company has experienced an increase in voluntary employee attrition from engineering and other departments. There is no assurance, given the competitive nature of the current job market, that the Company will be able to adequately fill the open positions. Year 2000 Readiness Disclosure. The Company has formed an internal compliance team to evaluate its internal information technology infrastructure and application systems ("IT Systems") and other non-IT infrastructure systems ("Non-IT Systems") to determine whether such systems will operate correctly with regard to the import, export, and processing of date information, including correct handling of leap years, in connection with the change in the calendar year from 1999 to 2000 (the "Year 2000 Issue"), and to evaluate the Year 2000 Issue with respect to the systems of third party partners and suppliers with which the Company has a material relationship ("Third Party Systems"). The Company expects to complete in the second quarter of 1999 a comprehensive IT Systems inventory analysis and risk assessment. As previously planned and budgeted, the Company completed the upgrade of its core domestic IT Systems to incorporate additional desired features and functionality and is now testing the Year 2000 compliance of the customizations to the software. The Company expects to complete this process as planned by June 30, 1999. IT systems at several foreign subsidiaries will be converted to the IT systems used domestically by the end of July, 1999. Systems supporting MultiLink will likely be replaced in 1999 in order to achieve Year 2000 compliance. The Company currently estimates an additional $1,200,000 of 1999 IT system remediation costs based on its assessment to date. To the extent, however, that such upgrades are not completed in a timely manner, the Company's operations, financial condition, results of operations or cash flows could be materially adversely affected. The Company also expects to complete a Non-IT Systems inventory analysis and risk assessment in the second quarter of 1999. The costs of any remediation actions required in order to be Year 2000 compliant have not been identified at this time. As the Company believes the number of mission critical Non-IT Systems is relatively small, the Company does not expect that any additional costs of addressing the Year 2000 Issue for Non-IT Systems will have a material adverse impact on its operations or its financial position, results of operations or cash flows. With the assistance of an independent Year 2000 solution provider, the Company is in the process of creating a plan to complete a Third Party Systems inventory and risk assessment. The Company expects to verify Year 2000 compliance of Third Party Systems using this independent Year 2000 solution provider. As the Company believes the number of mission critical Third Party Systems is relatively small, the Company expects to be in a position to evaluate the risks in a timely manner. Until Year 2000 compliance of all Third Party Systems is ascertained and written assurances are received, the risk to the Company's operations and any additional costs relating to such Third Party Systems is unknown. 17 18 The Company estimates it will spend a total of $433,000 on inventory analysis and risk assessment. To date, the Company has incurred $288,000 of expense relating to inventory analysis and risk assessment. These Year 2000 expenditures are within the Company's planned organizational budgets and include the cost of independent Year 2000 solution providers. Year 2000 expenditures for IT Systems, Non-IT Systems and Third Party Systems do not reflect the cost to the Company of internal resources working on the Year 2000 Issue and do not reflect planned upgrades or planned replacement systems which may have a positive impact on resolving the Year 2000 Issue. The Company expects to complete its risk assessment and cost estimate relating to the Year 2000 Issue no later than the end of May, 1999 and to develop a high-level contingency plan relating to the remediation and prioritization of its IT Systems, Non-IT Systems and Third Party Systems shortly thereafter. As of April 4, 1999, no IT Systems projects have been deferred due to problems associated with the Year 2000 Issue. The Company has also tested its products for Year 2000 compliance and had determined that all PictureTel products currently available for sale have either successfully passed Year 2000 compliance testing or are not subject to Year 2000 compliance because such products do not import, export or process date information in any manner. Recently, it has come to the Company's attention that two of its newly released products, which are supplied by a third party and whose prior versions passed the Year 2000 compliance tests, are not Year 2000 compliant. The Company is actively pursuing the third party supplier to provide fixes to these products. A small number of the Company's installed base products do not meet Year 2000 compliance testing. For these older, non-compliant versions of products, the Company has, with one exception, developed adequate workarounds that will be made available to customers and that will permit the products to continue to operate with full functionality. Euro. On January 1, 1999, eleven of the fifteen member countries of the European Union established fixed conversion rates between their existing sovereign currencies and established the euro, making the euro their common legal currency on that date. Based on a recent assessment, the euro conversion has not had and is not anticipated to have a material impact on the Company's business. 18 19 PART II -- OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS A. Datapoint Litigation In December 1993, PictureTel was sued by Datapoint Corporation in the United States District Court for the Northern District of Texas. Datapoint alleged that certain of PictureTel's products infringed patent rights allegedly owned by Datapoint. On April 9, 1998 a jury returned a verdict in favor of PictureTel finding that PictureTel did not infringe the Datapoint patents and that the Datapoint patent claims raised against PictureTel were invalid. On May 3, 1999 an appeals hearing took place with regard to this litigation. While there can be no assurance that the outcome of the appeal will be in favor of the Company, the Company believes that it presented meritorious defenses to the appeal. B. Shareholder Litigation Since September 23, 1997, seven class action shareholders' complaints have been filed against the Company, Norman E. Gaut, Director and former Chairman of the Board and Chief Executive Officer, and Les Strauss, the former Vice President and Chief Financial Officer, in the United States District Court for the District of Massachusetts. The plaintiffs filed a consolidated complaint on February 11, 1998. The original complaints were filed following the Company's announcement on September 19, 1997 that it would restate its financial results for the first quarter of the fiscal year ending December 31, 1997 and the last two quarters of the fiscal year ending December 31, 1996 and were amended when the Company announced on November 13, 1997 that it would also restate the second quarter of the fiscal year ending December 31, 1997. The consolidated complaint alleges that PictureTel and Messrs. Gaut and Strauss violated Sections 10(b) and 20(a) of the Exchange Act and Rule 10b-5 promulgated thereunder, during the period from October 17, 1996 through November 13, 1997, through the alleged preparation and dissemination of materially false and misleading financial statements which artificially inflated the price of PictureTel Common Stock. The consolidated complaint seeks to recover an unspecified amount of damages, including attorneys' and experts' fees and expenses. On April 7, 1998, the Company filed a motion to dismiss the complaint. On October 28, 1998, the motion to dismiss Norman E. Gaut was granted and the motion to dismiss PictureTel and Les Strauss was denied. Limited discovery has occurred, and the Company expresses no opinion as to the likely outcome. The outcome of this litigation may have a material impact on the Company's financial position, results of operations and cash flows. C. Revnet, Inc. On June 2, 1998, the Company was served with a complaint from a former distribution channel customer, Revnet, Inc., which has ceased operations. (Revnet, Inc., v. PictureTel Corporation. Civil Action 98092039, filed April 2, 1998, in the Circuit Court for Baltimore City, Maryland.) The complaint alleges that the Company breached an oral contract. Revnet is seeking $200,000,000 in damages. Discovery has recently begun. The Company believes that the complaint and the claim for damages are without merit and intends to vigorously defend itself against them. In addition to the above, the Company has also been and is from time to time subject to claims and suits incidental to the conduct of business. There can be no assurance that the Company's insurance will be adequate to cover all liabilities that may arise out of such claims. Further, although the Company intends to defend itself vigorously against all such claims, the ultimate outcome of the claims cannot be accurately predicted. The Company does not believe that any claim of which it is aware, other than the claims listed above, could result in an outcome that will have a material adverse affect to its business, financial condition, results of operations or cash flows. 19 20 ITEM 2. CHANGES IN SECURITIES (a) The rights of the common stock are materially limited or qualified by the issue of non-voting, convertible Series A Preferred Stock to Intel Corporation with respect to preferred dividend rights and liquidation preference of said Series A Preferred Stock. On the date hereof each outstanding share of the Series A Preferred has the right to convert to one share of common, see the terms of the Series A Preferred Stock as set forth in the Amendment to the Certificate of Incorporation filed as Exhibit 3.1.1 to this Report. (b) On February 17, 1999, the Company sold 4,478,708 shares of Series A Preferred Stock to Intel Corporation for cash of $30,500,000. The Company expects to use the proceeds to accelerate growth of videoconferencing worldwide, especially in the use of videoconferencing products. The securities were exempt from registration under the Securities Act of 1933 by virtue of Section 4(2) as a private placement, accompanied by an investment representation by Intel Corporation. The shares of this series of non-voting Series A Preferred Stock, convertible into the same number of shares of PictureTel Common Stock (with anti-dilution protection for stock splits and the like), was established by vote of PictureTel's Board of Directors pursuant to its authority under the Company's Certificate of Incorporation as reported in the Company's January 18, 1999 8-K filing. This represented on an as-converted basis, an investment in approximately 10% of PictureTel Common Stock. This security was sold by PictureTel in consideration of the payment by Intel of cash as described above and Intel's entering into a Distribution and Joint Product Development Agreement with PictureTel. Under the Stock Purchase and Investor Rights Agreement Intel has certain ancillary rights to acquire additional securities of PictureTel in order to maintain, subject to the specified terms and conditions, its percentage ownership of PictureTel's equity. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits 3.1.1 Certificate of designation, preferences and other rights of the Series A Preferred Stock of PictureTel Corporation, consisting of an Amendment to the Certificate of Incorporation. 10.1 Employment agreement between PictureTel Corporation and Frazer Hamilton dated June 16, 1998. 10.2 Change in control agreement between PictureTel Corporation and Frazer Hamilton dated June 22, 1998. 10.3 Consultant agreement between PictureTel Corporation and Enzo Torresi dated January 5, 1999. 27.1 Financial Data Schedule for the period ended April 4, 1999 as required by Item 601(c) of Regulation S-K.
(b) Reports on Form 8-K On January 22, 1999, the Company filed a report on Form 8-K to announce it had entered into a distribution and joint development agreement with Intel Corporation. On February 18, 1999, Intel invested $30.5 million in the Company, acquiring approximately 10% of the Company's equity through convertible preferred stock. The two companies will develop videoconferencing and collaborative products based on a common PC-based technology platform. Under terms of the agreement, Intel will provide the Company with distribution rights to sell the Intel ProShare(R) Video System 500 and exclusive worldwide distribution rights to sell and support the Intel(R)TeamStation(TM) System. 20 21 SIGNATURE Pursuant to the Securities Exchange Act of 1934, the registrant has duly caused this report on Form 10-Q to be signed on its behalf by the undersigned thereunto duly authorized. PICTURETEL CORPORATION /s/ ARTHUR L. FATUM -------------------------------------------- ARTHUR L. FATUM VICE PRESIDENT AND CHIEF FINANCIAL OFFICER, (PRINCIPAL FINANCIAL AND ACCOUNTING OFFICER) May 19, 1999. 21 EX-3.1.1 2 CERTIFICATE OF DESIGNATIONS, PREFERENCES & OTHER 1 EXHIBIT 3.1.1 CERTIFICATE OF DESIGNATIONS, PREFERENCES AND OTHER RIGHTS OF THE SERIES A PREFERRED STOCK OF PICTURETEL CORPORATION Pursuant to Section 151(g) of the Delaware General Corporations Law Picturetel Corporation, a corporation organized and existing under the laws of the State of Delaware (the "CORPORATION"), hereby certifies that, pursuant to the authority conferred upon the Board of Directors of the Corporation (the "BOARD OF DIRECTORS") by the Certificate of Incorporation of the Corporation, as amended (the "CERTIFICATE OF INCORPORATION"), and in accordance with Section 151(g) of the Delaware General Corporations Law, the Board of Directors on January 18, 1999 duly adopted the following resolution, which resolution remains in full force and effect as of the date hereof: RESOLVED, that pursuant to the authority granted to and vested in the Board of Directors and in accordance with the provisions of the Certificate of Incorporation, there is hereby created and authorized a series of Preferred Stock, par value $0.01 per share, of the Corporation, and the designation and amount thereof and the powers, preferences and rights of the shares of such series, and the qualifications, limitations or restrictions thereof are as follows: SERIES A PREFERRED STOCK SECTION 1. DESIGNATION. The series of Preferred Stock hereby created shall be designated and known as the "SERIES A PREFERRED STOCK." The number of shares constituting such series shall be Six Million (6,000,000). SECTION 2. LIQUIDATION RIGHTS. 2.1 In the event of any voluntary or involuntary liquidation, dissolution or winding up of the affairs of the Corporation, each holder of shares of Series A Preferred Stock shall be entitled to receive on the date of payment of any liquidation amount to the holders of the Corporation's common stock, par value $0.01 per share ("COMMON STOCK"), a payment equal to the purchase price originally paid for the Series A Preferred Stock upon issuance (the "PURCHASE PRICE") together with any declared but unpaid dividends therein, before any payment is made to the holders of common stock (the "PREFERENCE AMOUNT"). After the full Preference Amount on all outstanding shares of the Series A Preferred Stock has been paid, 2 any remaining funds and assets of the Corporation legally available for distribution to stockholders shall be distributed pro rata among the holders of the Common Stock. If the Corporation has insufficient assets to permit payment of the Preference Amount in full to all Series A Preferred Stock stockholders, then the assets of the Corporation shall be distributed ratably to the holders of the Series A Preferred Stock in proportion to the Preference Amount each such holder would otherwise be entitled to receive. 2.2 A merger or consolidation of the Corporation, or sale of the Corporation's Common Stock (including, without limitation, pursuant to a tender offer) in any single transaction or series of related transactions, in any such case in which its stockholders do not retain a majority of the voting power in the surviving corporation, or a sale of all or substantially all the Corporation's assets, shall each be deemed to be a liquidation, dissolution or winding up of the Corporation. SECTION 3. CONVERSION. 3.1. VOLUNTARY CONVERSION. Each share of Series A Preferred Stock will be convertible, at the option of the holder thereof, at the office of the Corporation or any transfer agent for such shares, into Common Stock. The number of shares of Common Stock into which each share of Series A Preferred Stock will be converted will be equal to the Purchase Price of such share divided by the Conversion Price (as hereinafter defined) of such share. The initial Conversion Price for each share of Series A Preferred Stock shall be an amount equal to the Purchase Price of such share. The Conversion Price shall be subject to adjustment as provided in Section 3.3. 3.2. MECHANICS OF CONVERSION. No fractional shares of Common Stock shall be issued upon conversion of Series A Preferred Stock. In lieu of any fractional shares to which the holder would otherwise be entitled, the Corporation shall pay cash equal to such fraction multiplied by the then fair market value of one share of Common Stock, as reasonably determined in good faith by the Board of Directors. Before any holder of Series A Preferred Stock shall be entitled to receive certificates for the shares of Common Stock issued upon conversion, such holder shall surrender the certificate or certificates for the shares of Series A Preferred Stock being converted, duly endorsed, at the principal office of the Corporation and shall state therein its name or the name, or names, of its nominees in which it wishes the certificate or certificates for shares of Common Stock to be issued. The Corporation shall, as soon as practicable thereafter, issue and deliver at such office to such holder of Series A Preferred Stock or to such holder's nominee or nominees, a certificate or certificates for the number of shares of Common Stock to which such holder or such holder's nominee shall be entitled as aforesaid, together with cash in lieu of any fraction of a share of Common Stock. Subject to the foregoing, such conversion shall be deemed to have been made immediately and upon surrender of the certificate representing the shares of Series A Preferred Stock to be converted in the case of a voluntary conversion pursuant to Section 3.1. The Person or Persons entitled to receive the shares of Common Stock issuable upon conversion shall be treated for all purposes as the record holder or holders of such shares of Common Stock on such date. 2 3 3.3 ADJUSTMENTS TO CONVERSION PRICE. If the Corporation shall issue shares of Common Stock to the holders of Common Stock as a dividend or stock split, or in the event that the Corporation reduces the number of outstanding shares of Common Stock in a reverse stock split or stock combination, then the Conversion Price shall be adjusted such that the holders of shares of Series A Preferred Stock shall receive, upon conversion of the Series A Preferred Stock, that number of shares of Common Stock that such holder would have owned following such dividend, stock split, reverse stock split or stock combination if such conversion had occurred immediately prior to the record date for such stock split, stock dividend, reverse stock split or stock combination of the Common Stock, as the case may be. If the Corporation shall issue shares of Series A Preferred Stock to the holders of Series A Preferred Stock as a stock dividend or stock split, or in the event that the Corporation reduces the number of outstanding shares of Series A Preferred Stock in a reverse stock split or stock combination, then the Conversion Price shall be adjusted such that the holder of shares of Series A Preferred Stock shall receive, upon conversion of the Series A Preferred Stock, the number of shares of Common Stock that such holder would have owned if such conversion had occurred immediately prior to the record date for such stock split, stock dividend, reverse stock split or stock combination of the Series A Preferred Stock, as the case may be. In the event of a reclassification or other similar transaction as a result of which shares of Common Stock are converted into another security, then the Conversion Price shall be determined such that the holders of shares of Series A Preferred Stock shall receive, upon conversion of such Series A Preferred Stock, the number of such securities that such holder would have owned following such conversion of the Common Stock into another security if such conversion had occurred immediately prior to the record date of such reclassification or other similar transaction. No adjustments with respect to dividends (other than stock dividends) shall be made upon conversion of any share of Series A Preferred Stock; PROVIDED, HOWEVER, that if a share of Series A Preferred Stock shall be converted subsequent to the record date for the payment of a dividend (other than a stock dividend) or other distribution on shares of Series A Preferred Stock but prior to such payment, then the registered holder of such share at the close of business on such record date shall be entitled to receive the dividend (other than a stock dividend) or other distribution payable on such share on such date notwithstanding the conversion thereof or the Corporation's default in payment of the dividend (other than a stock dividend) due on such date. 3.4. COMMON STOCK RESERVED. The Corporation shall reserve and keep available out of its authorized but unissued Common Stock such number of shares of Common Stock as shall, at all times, be sufficient for conversion of all outstanding Series A Preferred Stock. SECTION 4. DIVIDEND RIGHTS. 4.1 GENERALLY. Until February 18, 2004, the holders of shares of Series A Preferred Stock will be entitled to receive, if (but only if), when and as declared by the Board of Directors, out of any funds legally available therefor, noncumulative dividends at the rate of 6% of the Purchase Price per share per annum (appropriately adjusted for stock splits and combinations) for each share of Series A Preferred Stock then held by them. Such dividends may be payable quarterly or otherwise as the Board of Directors 3 4 may from time to time determine. Dividends may be declared and paid upon shares of Common Stock or any other senior series of preferred stock in any fiscal year of the Corporation, but only if dividends are also concurrently declared and paid on the Series A Preferred Stock in an amount per share equal to: (a) in the case of a dividend declared on the Common Stock, the amount per share declared on each such share of Common Stock, (b) in the case of a dividend declared on senior preferred stock convertible into Common Stock, the amount determined by dividing the aggregate amount of the dividend declared and paid on all outstanding shares of such senior preferred stock, divided by the number of shares of Common Stock such outstanding shares of senior preferred stock are convertible into as of the record date for such dividend, and (c) in the case of senior preferred stock that is not convertible into Common Stock, in an amount determined by the Board of Directors in good faith such that the holders of Series A Preferred Stock receive an equivalent dividend in such circumstances. The record date for any such dividend shall be the same record date as set for holders of Common Stock or senior preferred stock, as the case may be. No right shall accrue to holders of Series A Preferred Stock by reason of the fact that dividends on said shares are not declared in any prior year, nor shall any undeclared or unpaid dividends bear or accrue interest. 4.2 PARTICIPATION WITH COMMON. If any dividend or other distribution payable in property other the cash is declared on the Common Stock (excluding any dividend or other distribution for which adjustment to the Conversion Price is provided by Section 3.3), each holder of Series A Preferred Stock on the record date for such dividend or distribution shall be entitled to receive on the date of payment or distribution of such dividend or other distribution the same property that such holder would have received if on such record date such holder was the holder of record of the number (including for purposes of this Section 4 any fraction) of shares of Common Stock into which the shares of Series A Preferred Stock then held by such holder are convertible. SECTION 5. VOTING RIGHTS. 5.1. GENERALLY. The holders of shares of Series A Preferred Stock shall have no voting rights except as otherwise provided in the Corporation's Certificate of Incorporation or by law. 5.2. OTHER RIGHTS. In addition to any other rights provided by law or in the Certificate of Incorporation, so long as any shares of Series A Preferred Stock shall be outstanding, the Corporation shall not, without first obtaining the affirmative vote or written consent of the holders of not less than a majority of the outstanding shares of the Series A Preferred Stock, take any action (including, without limitation, any repeal, amendment or modification to the Certificate of Incorporation or the Bylaws of the Corporation) that alters or changes any of the rights, privileges and preferences of the Series A Preferred Stock. SECTION 6. RESERVATION OF RIGHTS. Pursuant to the authority vested in it by the Certificate of Incorporation, the Board of Directors reserves the right to create and designate from time to time one or more additional series of 4 5 Preferred Stock with powers, designations, preferences and rights that, subject to the provisions of Section 4.1, are senior, pari passu or junior to the Series A Preferred Stock. SECTION 7. SERIES A PREFERRED STOCK. The Series A Preferred Stock shall not be redeemable. SECTION 8. NOTICES. In addition to any other notices to which the holders of Series A Preferred Stock may be entitled pursuant to the Certificate of Incorporation, the Bylaws of the Corporation, law, contract or otherwise, the Corporation shall cause to be sent to each holder all written communications sent generally to the holders of Common Stock. In addition, within two business days following the public announcement of the establishment of a record date with respect to any vote, right or other matter relating to holders of the Corporation's Common Stock, the Corporation shall send, by first class mail, to each holder of record of Series A Preferred Stock, written notice setting forth such record date, the vote, right or other matter to which that matter relates, and all other material facts relating thereto. The Corporation shall cause such communications to be sent to holders of Series A Preferred Stock concurrently with, and in the same manner as, the sending of such communications to the holders of Common Stock. [The remainder of this page is intentionally left blank.] 5 6 IN WITNESS WHEREOF, the Corporation has caused this Certificate of Designations, Preferences and Other Rights to be executed by a duly authorized officer on January 18, 1999. PICTURETEL CORPORATION By: /s/ A.L. Fatum ----------------------------------- Name: A.L. Fatum ----------------------------------- Title: Vice President and CFO ----------------------------------- 6 EX-10.1 3 EMPLOYMENT AGREEMENT DATED 6/16/98 1 EXHIBIT 10.1 June 16, 1998 Mr.Frazer Hamilton 16 Garden Close Hook Hampshire RG27 9QZ U.K. Dear Frazer: On behalf of PictureTel Corporation ( the "Company" ), I am very pleased to offer you an opportunity to immediately join our Company as the Vice President, Quality reporting directly to me. Initially, you will be based in the United Kingdom, but you will be expected to travel to and spend appropriate work periods at the Company's headquarters in Andover, Massachusetts. While based in the U.K., you will an employee of PictureTel International Corporation, and for administrative, pay and benefit purposes, you will be placed on the United Kingdom subsidiary payroll. You will be eligible for all benefits and other emoluments provided U.K. employees in similar positions and circumstances as yours, including but not limited to, the health scheme, pension contributions, death in service benefits (life insurance) and participation in the subsidiary's prevailing automobile scheme. The cash compensation in the offered position will contain two elements: an annual base salary and an annual bonus opportunity under PictureTel's Management Incentive Plan. The base salary for the position will be paid at the monthly rate of P10,000. ( this the equivalent of P120,000. annually based on 12 monthly pay periods in the year ). The offered base salary will be the minimum paid while employed with the Company. As Vice President, Quality a full personal performance and total compensation ( salary, bonus, and equity ) review is completed by the Compensation Committee of the Board during the quarter immediately following the close of the fiscal year and recommendations acted upon as appropriate. The payment of a bonus under the Management Incentive Plan is predicated on the Company's achievement of the annual revenue and profitability objectives established at the start of the fiscal year and your performance in meeting your Individual Goals for the year. The bonus opportunity will be 0% - 40% of base salary for full performance in meeting the objectives for the year, but may range up to 80% of base salary for performance in excess of the plan. The bonus, if any, is determined and paid in the first quarter following the close of the fiscal year. The Company will offer you a cash sign-on bonus in the amount of P75,000.; paid as follows: P30,000. thirty ( 30 ) days following your employment start date; P15,000. on January 1, 1999 and P30,000. on July 1, 1999. In addition, we will recommend to the Compensation Committee of the Board of Directors your participation in PictureTel's Equity Incentive Plan. The recommendation presented will be for you to be granted an option to purchase 70,000 shares of the Common Stock of the Company ( "Option" ). The Option will vest over a four year period, with the first twenty-five ( 25 ) percent of the aggregate number of shares vesting one ( 1 ) year following the date the option grant is approved and six and one quarter ( 6.25 ) percent of the aggregate number of shares vesting each quarter thereafter. The purchase price of the Option will be determined by the Compensation Committee on the day your option grant is approved and will be no less than the closing price as quoted on the National Market System of NASDAQ on that date. Vesting shall be conditional on your continued full-time employment with the company. Certain other restrictions may apply to your option grant as are set forth in the Equity Incentive Plan. As a Vice President, additional option grants are subject to the annual total compensation review discussed above. 2 Inasmuch as you will be expected to travel to and spend appropriate work periods at the Company's headquarters in Andover, Massachusetts while based in the U.K, the Company will provide you with appropriate local housing and an automobile during such periods of time. You will have eighteen months following the commencement of work with the Company to make a decision to relocate to the United States. If you decide to relocate, PictureTel will provide you with full relocation assistance from Hook, Hampshire, U.K. to the Andover, Massachusetts area. Details will be specified at the time you decide to effect your relocation and will be in accordance with standard Company Relocation Policy. After relocation, you will given one annual home leave trip to the U.K. for you and your spouse, any additional home leave trips will be decided between you and Bruce Bond. However, in the event that you voluntarily terminate your employment within eighteen ( 18 ) months of the relocation, the relocation expenses paid up to the termination date shall be subject to repayment to the Company pro-rata for your service with the company. In the event that you are involuntarily terminated by the Company for any reason other than for Cause, you would be entitled to receive a continuation of your then current base salary for a period of twelve ( 12 ) months. During the twelve months that you receive salary payments from the Company, you will remain eligible for the same continued benefit coverage provided employees in similar positions and circumstances as yours. Further, if such termination occurs after you have relocated to the U.S., the Company will fully "repatriate" you back to the U.K.. For purposes of this letter, "Cause" shall be defined as and be limited to conviction of a felony or willful misconduct or gross negligence in the performance of duties which result in material harm to PictureTel. Further, the Company will enter into a separate Change in Control Agreement ( "CIC Agreement" ) which will provide you with certain benefits in the event of an involuntary termination due to a change in control. The CIC Agreement will include certain triggering events and provide, but not be limited to, severance equal to the sum of ( i ) your then current base salary, plus ( ii ) the highest bonus paid in the three years preceding the triggering events, paid over a twelve ( 12 ) month period. Additionally, if such termination occurs after you have relocated to the U.S., the Company will fully "repatriate" you back to the U.K.. The full acceleration of all unvested stock options in the event of a change in control is specifically covered in PictureTel's Equity Incentive Plan and will not be included in the CIC Agreement. The CIC Agreement will be executed concurrently with your acceptance of our employment offer and the commencement of work with the Company. Please indicate your acceptance of this offer and your anticipated start date by completing and signing the enclosed copy of this letter, the PictureTel Application for Employment, and the Proprietary Information Agreement. Please return all signed documents to Larry Bornstein as soon as practical. If you have any questions regarding this offer, please do not hesitate to call Larry or me. We look forward to your joining and being an important member of our team. Sincerely, Bruce Bond President and Chief Executive Officer ACCEPTED:_____________________________________ Date:_____________ SS#:___________________ Anticipated Start Date:_________________ EX-10.2 4 CHANGE IN CONTROL AGREEMENT DATED 6/22/98 1 EXHIBIT 10.2 KEY VICE PRESIDENT CHANGE IN CONTROL AGREEMENT THIS AGREEMENT dated as of June 22, 1998 is made by and between PictureTel Corporation, a Delaware Corporation, (the "Company") and Frazer Hamilton, 16 Garden Close, Hook, Hampshire, RG 27 9QZ, United Kingdom ("Executive"). WHEREAS the Company considers it essential to the best interests of the Company, its shareholders, and its employees generally to foster the continuous employment of key management personnel; and WHEREAS the Board of Directors of the Company (the "Board") recognizes that, as is the case with many publicly held corporations, the possibility of a Change in Control (as defined in the last Section hereof) exists and that such possibility, and the uncertainty and questions which it may raise among the Company's management, may result in the departure or distraction of management personnel to the detriment of the Company and its shareholders; and WHEREAS the Board has determined that appropriate steps should be taken to reinforce and encourage the continued attention and dedication of members of the Company's management, including the Executive, to their assigned duties without distraction in the face of potentially disrupting circumstances arising from the possibility of a Change in Control; NOW THEREFORE, in consideration of the premises and the mutual covenants herein contained and other good and valuable consideration, the Company and the Executive hereby agree as follows: 1.0 DEFINED TERMS. The definition of capitalized terms used in this Agreement is provided in the last Section hereof. 2.0 TERM OF AGREEMENT. This Agreement shall commence on the date hereof and shall continue in effect through November 30, 2000; provided, however, that commencing on December 1, 1998 and each December 1st thereafter, the term of this Agreement shall automatically be extended for one additional year unless, not later than September 30th preceding that December 1st, the Company or the Executive shall have given notice not to extend this Agreement or a Change in Control shall have occurred prior to such September 30th; provided, however, if a Change in Control shall have occurred during the term of this Agreement, this Agreement shall continue in effect for a period of not less than twenty-four (24) months beyond the date on which such Change in Control occurred. 3.0 COMPANY'S COVENANTS SUMMARIZED. In order to induce the Executive to remain in the employ of the Company and in consideration of the Executive's covenants set forth in Section 4.0 hereof, the Company agrees, under the conditions described herein, to pay the Executive the "Severance Payments" described in Section 6.1 hereof and the other payments and benefits described herein in the event the Executive's employment with the Company is terminated following a Change in Control and during the term of this Agreement. No amount or benefit shall be payable under this Agreement unless there shall have been (or, under the terms hereof, there shall be deemed to have been) a termination of the Executive's employment with the Company following a Change in Control. This Agreement shall not be construed as creating an express or implied contract of employment prior to the date of a Change in Control and the Executive shall not have any right to be retained in the employ of the Company. 4.0 THE EXECUTIVE'S COVENANTS. The Executive agrees that, subject to the terms and conditions of this Agreement, in the event of a Potential Change in Control during the term of this Agreement, the Executive will remain in the employ of the Company until the earliest of (A) a 2 date which is six (6) months from the date of such Potential Change of Control, (B) the date of a Change in Control, (C) the date of termination by reason of death or Disability, or (D) the termination by the Company of the Executive's employment for any reason. 5.0 COMPENSATION OTHER THAN SEVERANCE PAYMENTS. 5.1 Following a Change in Control during the term of this Agreement, during any period that the Executive fails to perform the Executive's full-time duties with the Company as a result of incapacity due to physical or mental illness, the Company shall pay the Executive's full salary to the Executive at the rate in effect at the commencement of any such period, together with all compensation and benefits payable to the Executive under the terms of any compensation or benefit plan, program or arrangement maintained by PictureTel UK Limited during such period, until the Executive's employment is terminated by the Company for Disability. 5.2 If the Executive's employment shall be terminated for any reason following a Change in Control during the term of this Agreement, the Company shall pay the Executive's full salary to the Executive through the Date of Termination at the rate in effect at the time the Notice of Termination is given, together with all compensation and benefits payable to the Executive through the Date of Termination under the terms of any compensation or benefit plan, program or arrangement maintained by PictureTel UK Limited prior to the Date of Termination. 5.3 If the Executive's employment shall be terminated for any reason following a Change in Control during the term of this Agreement, the Company shall pay the Executive's normal post-termination compensation and benefits to the Executive as such payments become due. Such post-termination compensation and benefits shall be determined under, and paid in accordance with, PictureTel UK Limited's retirement, insurance and other compensation or benefit plans, programs and arrangements; provided however, that the Severance Payments under Section 6.0 of this Agreement shall be the only severance paid following a Change in Control during the term of this Agreement. 6.0 SEVERANCE PAYMENTS. 6.1 The Company shall pay the Executive the payments described in this Section 6.1 ("Severance Payments") upon the termination of the Executive's employment following a Change in Control during the term of this Agreement, in addition to the payments and benefits described in Section 5.0 hereof, unless such termination is (A) by the Company for Cause, or (B) by reason of Death or Disability. The Executive's employment shall be deemed to have been terminated following a Change in Control by the Company without Cause if the Executive's employment is terminated prior to a Change in Control without Cause at the direction (or action which constitutes a direction) of a Person who has entered into an agreement with the Company the consummation of which will constitute a Change in Control. (i) Subsequent to the Date of Termination, the Company shall make cash severance payments to the Executive over a twelve (12) month period in substantially equal monthly installments, in an amount equal to one (1) times the sum of (a) the higher of the Executive's annual base salary in effect immediately prior to the occurrence of the event or circumstance upon which the Notice of Termination is based or in effect immediately prior to the Change in Control, and (b) the higher of the highest annual bonus paid to the Executive in the three years preceding the year in which the Date of Termination occurs or paid in the three years preceding the year in which the Change in Control occurs. (ii) For a twelve- (12) month period after the Date of Termination, the Company shall arrange to provide the Executive with medical and dental insurance benefits substantially similar to those that the Executive is receiving immediately prior to the Notice of Termination. Benefits otherwise receivable by the Executive pursuant to this Section 6.1(ii) shall be reduced to the extent comparable benefits are actually received by or made available to the Executive without cost during the twelve (12) 3 month period following the Executive's termination of employment (and any such benefits actually received by the Executive shall be reported to the Company by the Executive). 6.2 The Company also shall pay to the Executive all legal fees and expenses incurred by the Executive as a result of a termination which entitles the Executive to the Severance Payments (including all such fees and expenses, if any, incurred in disputing any such termination or in seeking in good faith to obtain or enforce any benefit or right provided by this Agreement or in connection with any tax audit or proceeding to the extent attributable to any payment or benefit provided hereunder). Such payments shall be made within five (5) business days after delivery of the Executive's written requests for payment accompanied with such evidence of fees and expenses incurred as the Company reasonably may require. 7.0 TERMINATION PROCEDURES AND COMPENSATION DURING DISPUTE. 7.1 NOTICE OF TERMINATION. After a Change in Control and during the term of this Agreement, any purported termination of the Executive's employment (other than by reason of death) shall be communicated by written Notice of Termination from one party hereto to the other party hereto in accordance with Section 10.0 hereof. For purposes of this Agreement, a "Notice of Termination" shall mean a notice which shall indicate the specific termination provision in this Agreement relied upon and shall set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of the Executive's employment under the provision so indicated. 7.2 DATE OF TERMINATION. "Date of Termination", with respect to any purported termination of the Executive's employment after a Change in Control during the term of this Agreement, shall mean: (A) if the Executive's employment is terminated for Disability, thirty (30) days after Notice of Termination is given (provided that the Executive shall not have returned to the full-time performance of the Executive's duties during such thirty (30) day period), and (B) if the Executive's employment is terminated for any other reason, the date specified in the Notice of Termination (which, in the case of a termination by the Company, shall not be less than thirty (30) days (except in the case of a termination for Cause). 7.3 DISPUTE CONCERNING TERMINATION. If within fifteen (15) days after any Notice of Termination is given, or, if later, prior to the Date of Termination (as determined without regard to this Section 7.3), the party receiving such Notice of Termination notifies the other party that a dispute exists concerning the termination, the Date of Termination shall be the date on which the dispute is finally resolved, either by mutual written agreement of the parties by arbitrator's award, or, to the extent permitted by Section 14.0, by a final judgment, order or decree of a court of competent jurisdiction on the arbitrator's award (which is not appealable or with respect to which the time for appeal therefrom has expired and no appeal has been perfected); provided further that the Date of Termination shall be extended by a notice of dispute only if such notice is given in good faith and the party giving such notice pursues the resolution of such dispute with reasonable diligence. 7.4 COMPENSATION DURING DISPUTE. If a purported termination occurs following a Change in Control and during the term of this Agreement and such termination is disputed in accordance with Section 7.3 hereof, the Company shall continue to pay the Executive the full compensation in effect when the notice giving rise to the dispute was given (including, but not limited to, salary) and continue the Executive as a participant in all compensation, benefit and insurance plans in which the Executive was participating when the notice giving rise to the dispute was given, until the dispute is finally resolved in accordance with Section 7.3 hereof. Amounts paid under this Section 7.4 are in addition to all other amounts due under this Agreement (other than those due under Section 5.2 hereof) and shall not be offset against or reduce any other amounts due under this Agreement. 4 8.0 NO MITIGATION. The Company agrees that, if the Executive's employment by the Company is terminated during the term of this Agreement, the Executive is not required to seek other employment or to attempt in any way to reduce any amounts payable to the Executive by the Company pursuant to Section 6.0 or Section 7.4. Further, the amount of any payment or benefit provided for in Section 6.0 (other than Section 6.1(ii) or Section 7.4 shall not be reduced by any compensation earned by the Executive as the result of employment by another employer, by retirement benefits, by offset against any amount claimed to be owed by the Executive to the Company, or otherwise. 9.0 SUCCESSORS; BINDING AGREEMENT. 9.1 In addition to any obligations imposed by law upon any successor to the Company, the Company will require any successor (whether direct or indirect, by purchase, merger, consolidation or otherwise) to all or substantially all of the business and / or assets of the Company to expressly assume and agree to perform this Agreement in the same manner and to the same extent that the Company would be required to perform it if no such succession had taken place. In any event this agreement shall be binding upon the Company and any successors or assignee. 9.2 This Agreement shall inure to the benefit of and be enforceable by the Executive's personal or legal representatives, executors, administrators, successors, heirs, distributees, devisees and legatees. If the Executive shall die while any amount would still be payable to the Executive hereunder (other than amounts which, by their terms, terminate upon the death of the Executive) if the Executive had continued to live, all such amounts, unless otherwise provided herein, shall be paid in accordance with the terms of this Agreement to the executors, personal representatives or administrators of the Executive's estate. 10.0 NOTICES. For the purpose of this Agreement, notices and all other communications provided for in the Agreement shall be in writing and shall be deemed to have been duly given when delivered in hand or when delivered or mailed by United States certified mail, return receipt requested, postage prepaid, addressed to the respective addresses set forth below, or to such other address as either party may have furnished to the other in writing in accordance herewith, except that notice of change of address shall be effective only upon actual receipt: To the Company: PictureTel Corporation 100 Minuteman Road Andover, Massachusetts 01810 Attention: General Counsel To the Executive: Mr. Frazer Hamilton 16 Garden Close Hook Hampshire RG27 9QZ United Kingdom 11.0 MISCELLANEOUS. No provision of this Agreement may be modified, waived or discharged unless such waiver, modification or discharge is agreed to in writing and signed by the Executive and such officer as may be specifically designated by the Board. No waiver by either 5 party hereto at any time of any breach by the other party hereto of, or compliance with, any condition or provision of this Agreement to be performed by such other party shall be deemed a waiver of similar or dissimilar provisions or conditions at the same or at any prior or subsequent time. No agreements or representations, oral or otherwise, express or implied, with respect to the subject matter hereof have been made by either party which are not expressly set forth in this Agreement. The laws of the Commonwealth of Massachusetts shall govern the validity, interpretation, construction and performance of this Agreement and the Agreement shall be an instrument under seal. All references to sections of the Exchange Act shall be deemed also to refer to any successor provisions to such sections. Any payments provided for hereunder shall be paid net of any applicable withholding required under United Kingdom or local law and any additional withholding to which the Executive has agreed. The obligations of the Company and the Executive under Sections 6.0, 7.0, 8.0 and 14.0 shall survive the expiration of the term of this Agreement. 12.0 VALIDITY. The invalidity or unenforceability or any provision of this Agreement shall not affect the validity or enforceability of any other provision of this Agreement, which shall remain in full force and effect. In addition, if any provision of this Agreement is held invalid or unenforceable by a court of competent jurisdiction, then such provision shall be deemed modified to the extent necessary to enable such provision to be valid and enforceable. 13.0 COUNTERPARTS. This Agreement may be executed in several counterparts, each of which shall be deemed to be an original but all of which together will constitute one and the same instrument. 14.0 SETTLEMENT OF DISPUTES; ARBITRATION. All claims by the Executive for benefits under this Agreement shall be directed to the Board and shall be in writing. Any denial by the Board of a claim for benefits under this Agreement shall be delivered to the Executive in writing and shall set forth the specific reasons for the denial and the specific provisions of this Agreement relied upon. The Board shall afford a reasonable opportunity to the Executive for a review of the decision denying a claim and shall further allow the Executive to appeal to the Board a decision of the Board within sixty (60) days after notification by the Board that the Executive's claim has been denied. Any further dispute or controversy arising under or in connection with this Agreement shall be settled exclusively by arbitration in Boston, Massachusetts in accordance with the rules of the American Arbitration Association then in effect. Judgment may be entered on the arbitrator's award in any court having jurisdiction; provided, however, that the Executive shall be entitled to seek specific performance of the Executive's right to be paid until the Date of Termination during the pendency of any dispute or controversy arising under or in connection with this Agreement in such arbitration or by a proceeding in the federal court in Boston or the Massachusetts state court in Essex County. 15.0 DEFINITIONS. For purposes of this Agreement, the following terms shall have the meanings indicated below: (A) "Beneficial Owner" shall have the meaning defined in Rule 13d-3 under the Exchange Act. (B) "Board" shall mean the Board of Directors of the Company. (C) "Cause" for termination by the Company of the Executive's employment, after any Change in Control, shall mean: (i) the willful and continued failure by the Executive to substantially perform the Executive's duties with the Company (other than any such failure resulting from the Executive's incapacity due to physical or mental illness or any such actual or anticipated failure after the issuance of a Notice of Termination for Good Reason by the Executive pursuant to Section 7.1) after a written demand for substantial 6 performance is delivered to the Executive by the Board, which demand specifically identifies the manner in which the Board believes that the Executive has not substantially performed the Executive's duties, or (ii) the willful engaging by the Executive in conduct which is demonstrably and materially injurious to the Company or its subsidiaries, monetarily or otherwise. For purposes of clauses (i) and (ii) of this definition, no act, or failure to act, on the Executive's part shall be deemed "Willful" unless done, or omitted to be done, by the Executive not in good faith and without reasonable belief that the Executive's act, or failure to act, was in the best interest of the Company. (D) A "Change in Control", shall be deemed to have occurred if the conditions set forth in any one of the following paragraphs shall have been satisfied: (i) any Person is or becomes the Beneficial Owner, directly or indirectly, of securities of the Company representing twenty-five (25) percent or more of the combined voting power of the Company's then outstanding securities; or (ii) during any period of not more than two consecutive years (not including any period prior to the execution of this Agreement), individuals who at the beginning of such period constitute the Board and any new director (other than a director designated by a Person who has entered into an agreement with the Company to effect a transaction described in clause (i), (ii) or (iii) of this Section 15(D)) whose election by the Board or nomination for election by the Company's stockholders was approved by a vote of at least two-thirds (2/3) of the directors then still in office who either were directors at the beginning of the period or whose election or nomination for election was previously so approved, cease for any reason to constitute a majority thereof; or (iii) the shareholders of the Company approve a merger or consolidation of the Company with any other corporation, other than (a) 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) sixty (60) percent or more of the combined voting power of the voting securities of the Company or such surviving entity outstanding immediately after such merger or consolidation, or (b) a merger or consolidation effected to implement a recapitalization of the Company (or similar transaction) in which no Person acquires twenty-five (25) percent or more of the combined voting power of the Company's then outstanding securities; or (iv)the shareholders of the Company approve a plan of complete liquidation of the Company or an agreement for the sale or disposition by the Company of all or substantially all the Company's assets. (E) "Company" shall mean PictureTel Corporation and any successor to its business and/or assets which assumes and agrees to perform this Agreement by operation of law, or otherwise (except in determining, under Section 15(D) hereof, whether or not any Change in Control of the Company has occurred in connection with such succession). (F) "Date of Termination" shall have the meaning stated in Section 7.2 hereof. (G) "Disability" shall be deemed the reason for the termination by the Company of the Executive's employment, if, as a result of the Executive's incapacity due to physical or mental illness, the Executive shall have been absent from the full-time performance of the Executive's duties with the Company for a period of six (6) consecutive months, the 7 Company shall have given the Executive a Notice of Termination for Disability, and, within thirty (30) days after such Notice of Termination is given, the Executive shall not have returned to the full-time performance of the Executive's duties. (H) "Exchange Act" shall mean the Securities Exchange Act of 1934, as amended from time to time. (I) "Executive" shall mean the individual named in the first paragraph of this Agreement. (J) "Notice of Termination" shall have the meaning stated in Section 7.1 hereof. (K) "Person" shall have the meaning given in Section 3(a)(9) of the Exchange Act, as modified and used in Sections 13(d) and 14(d) thereof; however, a Person shall not include: (i) the Company, (ii) a trustee or other fiduciary holding securities under an employee benefit plan of the Company, or (iii) a corporation owned, directly or indirectly, by the stockholders of the Company in substantially the same proportions as their ownership of stock of the Company. (L) "Potential Change in Control', shall be deemed to have occurred if the conditions set forth in any one of the following paragraphs shall have been satisfied: (i) the Company enters into an agreement, the consummation of which would result in the occurrence of a Change in Control; (ii) the Company or any Person publicly announces an intention to take or to consider taking actions which, if consummated, would constitute a Change in Control; (iii) the Board adopts a resolution to the effect that, for purposes of this Agreement, a Potential Change in Control has occurred. (M) "Severance Payments" shall mean those payments described in Section 6.1 hereof. PictureTel Corporation By ________________________________ Name: Bruce R. Bond Title: Chairman of the Board of Directors, President and Chief Executive Officer -------------------------------- Frazer Hamilton EX-10.3 5 CONSULTANT AGREEMENT DATED 1/5/99 1 EXHIBIT 10.3 CONSULTANT AGREEMENT THIS CONSULTANT AGREEMENT (the "Agreement"), made as of the 5th day of January, 1999, is entered into by PictureTel Corporation a duly organized Delaware Corporation with its principal place of business at 100 Minuteman Road, Andover, Massachusetts 01810 (the "Company") and Enzo Torresi, 211 Tourney Loop, Los Gatos, CA 95032 (the "Consultant"). WHEREAS, the Company is engaged in the design, development, manufacture, marketing, sale and service of advanced video collaboration solutions worldwide; and WHEREAS, Consultant possesses extensive executive management experience in the development of high technology businesses producing low cost (hardware and software) products with high volume distribution worldwide; and WHEREAS, the Company is desirous of engaging the Consultant to oversee the development of a business which will provide the company with low cost video collaboration products and high volume distribution; and WHEREAS, Consultant is willing to perform such work for the Company. NOW, THEREFORE, in consideration of the mutual convenants herein contained, the parties hereto agree as follows: 1. TERM OF AGREEMENT ----------------- This Agreement shall be in force for a period of three (3) months commencing January 1, 1999 and continuing through March 31,1999 (the "Consulting Period"). The Consulting Period shall be subject to extension by mutual written consent thirty (30) calendar days prior to the end of the Consulting Period (the "Extended Consulting Period"), or / unless the Agreement is terminated in accordance with Section 6. hereof. 2. STATEMENT OF WORK ----------------- Consultant shall perform such work as is necessary to develop and produce a business plan to assist the Company establish a "SOHO" retail business complete with products and distribution strategy, and provide such other ancillary services as may be mutually agreed from time to time (the "Consulting Services"). 3. CONSULTING FEES & EXPENSES -------------------------- The Company agrees to pay the Consultant a fee of $2,000 per day for not less than five (5) days nor more than ten (10) days of Consulting Services in each month of the Consulting Period (the "Consulting Fee"). The Consulting Fee shall be promptly paid at the end of each month of the Consulting Period upon the Consultant's submission of an invoice for the Consulting Services provided during that month. During any Extended Consulting Period, the Company agrees to deliver to the Consultant, in lieu of the cash Consulting Fee above, 600 shares of the Company's Common Stock per day for not less than five (5) days nor more than ten (10) days of Consulting Services in each month of the Extended Consulting Period upon the Consultant's submission of an invoice for the Consulting Services provided during that month. The Company agrees to reimburse the Consultant for all actual and reasonable travel, living and other expenses incurred during the performance of the Consulting Services. For purposes of determining such expenses, Mountain View, California shall be established as the site from which the Consulting Services shall be performed (actual office location to be determined). Payment shall be made promptly upon submission of the appropriate receipts for any incurred expenses. 2 4. EMPLOYMENT RELATIONSHIP ----------------------- The Company does not intend to establish an Employee / Employer relationship by the execution of this Agreement. The sole relationship between the Consultant and the Company shall be as an independent contractor. As such, Consultant shall not be eligible to participate in any employee benefit programs of the Company nor shall the Company make any federal or state income tax withholdings. It shall be the Consultant's sole responsibility for any income tax liabilities. 5. PROPRIETARY INFORMATION AND INVENTIONS AGREEMENT ------------------------------------------------ Consultant agrees to sign the PictureTel Proprietary Information and Inventions Agreement, a copy of which is attached. The signed copy will be annexed to and become part of this Agreement. 6. TERMINATION ----------- The Company or Consultant may terminate this Agreement without cause, at any time, upon either party giving a thirty (30) calendar day written notice of termination. If the Consultant gives the termination notice, the Consultant shall immediately cease to incur expenses under this Agreement and the Company shall have no further obligation to pay Consulting Fees after the termination date. If the Company gives the termination notice, the Consultant shall immediately cease to incur expenses under this Agreement and Consultant shall be paid Consulting Fees for the minimum consulting days remaining in the Consulting Period. 7. NOTICE ------ Any notice required to be given under the terms of this Agreement shall be in writing, and sent by registered or certified mail, postage prepaid, return receipt requested, to the respective addresses stated herein. 8. COMPLETE AGREEMENT ------------------ This Agreement supersedes all prior agreements and understandings between the parties and may not be changed unless mutually agreed upon in writing by both parties. 9. ASSIGNMENT ---------- This Agreement is personal to the Consultant who shall not assign this Agreement or any interest therein, without prior written consent of the Company. 10. GOVERNING LAW ------------- The laws of the Commonwealth of Massachusetts shall govern this Agreement. 11. ENFORCEABILITY -------------- In the event any provision of this Agreement is found to be legally unenforceable by a court of competent jurisdiction, such unenforceability shall not prevent enforcement of any other provision of the Agreement. IN WITNESS WHEREOF, the parties hereto have executed this Agreement effective the day and year first written above. - ------------------------------- ---------------------------- Enzo Torresi Bruce Bond Consultant Chairman, President and Chief Executive Officer EX-27 6 FINANCIAL DATA SCHEDULE
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM PICTURETEL'S BALANCE SHEET AND INCOME STATEMENT FOR THE PERIOD ENDED APRIL 4, 1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH 10-Q FILING. 1,000 U.S. DOLLARS 3-MOS DEC-31-1999 JAN-01-1999 APR-04-1999 1 59,908 51,782 77,632 (6,405) 37,614 229,511 206,748 (112,392) 358,714 99,297 0 0 45 403 203,074 203,522 76,194 76,194 51,972 51,972 0 0 1,169 (24,949) 1,021 (25,970) 0 0 0 (25,970) (0.68) (0.68)
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