-----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, KX3EVORYenYV43JFH5Fp1CzdRkDQPfwZ565UYUsmXIDG+lbNVrpXZ6I6o0e9uhvk snrefL4RpCfV+NfUZbglmQ== 0000950148-99-000662.txt : 19990402 0000950148-99-000662.hdr.sgml : 19990402 ACCESSION NUMBER: 0000950148-99-000662 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19981231 FILED AS OF DATE: 19990331 FILER: COMPANY DATA: COMPANY CONFORMED NAME: TEKELEC CENTRAL INDEX KEY: 0000790705 STANDARD INDUSTRIAL CLASSIFICATION: RADIO & TV BROADCASTING & COMMUNICATIONS EQUIPMENT [3663] IRS NUMBER: 952746131 STATE OF INCORPORATION: CA FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-15135 FILM NUMBER: 99582354 BUSINESS ADDRESS: STREET 1: 26580 W AGOURA RD CITY: CALABASAS STATE: CA ZIP: 91302 BUSINESS PHONE: 8188805656 MAIL ADDRESS: STREET 1: 26580 W AGOURA RD CITY: CALABASAS STATE: CA ZIP: 91302 10-K 1 FORM 10-K (12/31/1998) 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, DC 20549 FORM 10-K ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31,1998 COMMISSION FILE NUMBER 0-15135 TEKELEC (Exact name of registrant as specified in its charter) CALIFORNIA 95-2746131 (State or other jurisdiction of (I.R.S.Employer incorporation or organization) Identification Number) 26580 WEST AGOURA ROAD, CALABASAS, CALIFORNIA 91302 (Address of principal executive offices) (Zip Code) REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (818) 880-5656 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: COMMON STOCK, WITHOUT PAR VALUE (Title of class) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value of the voting stock held by non-affiliates of the registrant, based upon the last reported sale price of the Common Stock on March 1, 1999 as reported on The Nasdaq Stock Market, was approximately $486,000,000. The number of shares outstanding of the registrant's Common Stock on March 1, 1999, was 54,515,592. DOCUMENTS INCORPORATED BY REFERENCE Portions of the registrant's definitive Proxy Statement to be delivered to shareholders in connection with their Annual Meeting of Shareholders to be held on May 14, 1999 are incorporated by reference into Part III of this Annual Report. 2 TEKELEC INDEX TO ANNUAL REPORT ON FORM 10-K For the fiscal year ended December 31, 1998
Page ---- PART I Item 1. Business.......................................................... 3 Item 2. Properties........................................................ 23 Item 3. Legal Proceedings................................................. 23 Item 4. Submission of Matters to a Vote of Security Holders............... 23 PART II Item 5. Market for Registrant's Common Equity and Related Stockholder Matters............................................... 24 Item 6. Selected Consolidated Financial Data.............................. 25 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations......................................... 26 Item 7A. Quantitative and Qualitative Disclosures about Market Risk........ 36 Item 8. Financial Statements and Supplementary Data....................... 36 Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.......................................... 36 PART III Item 10. Directors and Executive Officers of the Registrant................ 37 Item 11. Executive Compensation............................................ 37 Item 12. Security Ownership of Certain Beneficial Owners and Management.... 37 Item 13. Certain Relationships and Related Transactions.................... 37 PART IV Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.. 38
2 3 PART I ITEM 1. BUSINESS. Tekelec (the "Company") designs, manufactures and markets innovative switching solutions and diagnostic systems for the global communications marketplace. Tekelec's solutions enable both traditional carriers and new emerging carriers to rapidly deliver advanced communications products and services in order to compete in today's fast-evolving public communications network environment. The Company's EAGLE(R) STP switching platform enables operators of wireline and wireless networks to deliver Intelligent Network (IN) and Advanced Intelligent Network (AIN) services such as Caller ID, voice messaging, personal number calling, Service Provider Local Number Portability and customized routing and billing, as well as digital wireless services such as Personal Communications Systems (PCS) and Global Systems for Mobile (GSM). Derived from the EAGLE switching platform, the Company's IP7(TM) suite of products enables traditional carriers and new entrants to pursue cost-reduced and performance-enhanced network architectures based on Internet Protocol (IP), Asynchronous Transfer Mode (ATM) or other "packet" technologies. The Company's switching products have been sold primarily to U.S. Regional Bell Operating Companies (RBOCs), competitive local exchange carriers (CLECs), interexchange carriers (IXCs), PCS and cellular operators, international Postal Telephone and Telegraph Companies (PTTs) and independent telephone companies (ITCs). Switching products have been sold primarily through the Company's U.S. direct sales force. In order to pursue emerging opportunities in Europe, the Company established in 1998 a sales, marketing and support office in London. In addition to the Company's direct sales efforts, the Company markets its switching products through reference relationships with the Company's diagnostic distributor base, and to a lesser extent through various third-party distribution and marketing relationships. The Company's MGTS and Chameleon diagnostic product lines enable carriers and communications equipment suppliers to ensure conformance to specifications and to evaluate network performance in controlled environments, without subjecting "live" networks to risk. Introduced in 1998, the MGTS Sentinel(TM) enables carriers to monitor the performance of in-service networks. The Company sells its diagnostic systems worldwide to long distance carriers, telephone operating companies, communications equipment manufacturers, wireless and cellular network operators and government agencies. The MGTS, MGTS Sentinel and Chameleon products are sold through the Company's direct sales force and through its global distributor network. 3 4 INDUSTRY BACKGROUND The telecommunications industry has experienced and is continuing to experience rapid and dynamic changes resulting from deregulation and, more importantly, significant advances in switching technologies that, until recently, were applied only in data networks. The migration of these data technologies to the Public Switched Telecommunications Network (PSTN) is commonly referred to as "convergence", and frequently includes a reference to voice telephony over Internet Protocol or voice telephony over Asynchronous Transfer Mode. Convergence generally includes telecommunications carriers' objective to channel traditional circuit-based voice switching technologies over more technologically efficient and cost-effective packet-switched technologies. Ideally, true convergence would allow carriers to use identical network architectures and infrastructure to accommodate traditional voice traffic and rapidly growing data payloads. For more than a century, engineering the PSTN has revolved primarily around voice call statistics. Measurements such as average call duration, percentage of local calls versus long distance, and the distribution of calls throughout each day have historically determined the size of switching devices and the transmission paths to facilitate them. A measurable change in any of these statistics would significantly affect the capability of the network to perform as expected. The vast majority of PSTN communications paths in today's network are circuit-oriented. Consequently, for the duration of the call dialogue, the circuit connecting users of the network is considered dedicated to that dialogue and a certain unit of bandwidth is consumed for the duration of the call. This model is known as circuit-switched communications, wherein a physical circuit is completely dedicated to the transmission. An alternative model of communications is the "packet switched" model. Under this model, communications are packaged in discrete units and routed on a packet-by-packet basis. Packet switching is significantly more cost- and material-efficient than circuit switching in that packets are not exchanged when the dialogue is not active. Industry research suggests that transmitting the same amount of "data" via packet-switching technologies would prove more efficient than traditional circuit switching by at least one order of magnitude. Even though the core of some voice transmission networks is "packet oriented," these networks still do not benefit from the full advantages of completely packetized networks. The maximum benefit of end-to-end packet switching will only be realized when the switching components (versus the transmission components) in today's networks are migrated from circuit switch technology to packet switch technology. While the critical elements of the future converged voice and data networks have yet to be defined, most industry experts expect a highly complex protocol called Common Channel Signaling System #7 ("SS7") to play a key enabling role in their deployment. 4 5 Intelligent Network and Advanced Intelligent Network Switching The Intelligent Network (IN) utilizes SS7 to provide the basis for virtually all new telecommunications services. The IN architecture uses two separate but parallel paths; one to handle the voice or data traffic and a second to carry the signaling information for call set up and routing. Network operators utilize the IN architecture to increase the efficiency of their networks by offloading signaling traffic onto the SS7 network, thus freeing up trunk line capacity needed for revenue generating traffic. A second generation Intelligent Network called the Advanced Intelligent Network (AIN) is used by carriers and service providers seeking to differentiate themselves by offering advanced voice and data communications services. The AIN is a network architecture and a set of standards designed to allow network operators to create, deploy and modify these services quickly and economically. AIN services represent the merging of telephony with database information through SS7 signaling. Such services include Caller ID, voice messaging, personal number calling, Service Provider Local Number Portability and customized routing and billing as well as digital wireless services such as PCS and GSM. Network operators are increasingly using SS7 networks as a source of competitive advantage to introduce new services through software changes in IN elements rather than in central office switches. The key network elements in the IN and AIN architecture are as follows: Signal Transfer Point (STP) - An STP is a switch that handles the signaling messages used to set up telephone calls, queries external databases for routing and processing information and dispatches call handling instructions. Service Switching Point (SSP) - An SSP is a component of the central office switch that sets up trunk connections. When an SSP identifies an AIN call, it routes a signaling message to the STP and awaits further instructions for call processing. Service Control Point (SCP) - Traditionally, an SCP has been a computer database that is accessed by STPs or SSPs for customer call routing and other special information required for AIN services. The Company has developed applications that integrate SCP functionality into the EAGLE STP, such as the Company's EAGLE STP / LNP product. Additional components of the AIN architecture include Service Creation Environments (SCE) used to create new software-based services and Service Management Systems (SMS) used for billing, administration and management. While SS7 has been available since the 1980s, to date it has been used principally to support intelligent services such as call set-up, 800 number calling and calling card verification. AIN standards and services have only recently emerged and the number and complexity of these services continue to grow. Services such as Caller ID, voice messaging, personal number calling, Service Provider Local Number Portability and customized routing and billing as well as digital wireless services such as PCS and GSM all require SS7 networking technology. The growth of the Internet has also increased the need for SS7 to provide signaling connectivity for 5 6 evolving networks based on Internet Protocol (IP) and Asynchronous Transfer Mode (ATM) and to implement internet offload solutions to carry internet traffic more efficiently. The accelerating rate of introduction of these new enhanced services enabled by SS7 has placed increasing demand for functionality and capacity on the installed base of older generation STPs. These devices are, in most cases, modified central office digital switches that fundamentally were not optimized for AIN purposes. In addition, the telecommunications industry is evolving towards an architecture of more intelligent distributed switching in which software will allow for third party developers to be involved in creating applications. The FCC's June 1996 order requiring that Incumbent Local Exchange Carriers (ILECs) provide competitors with the ability to transition customers to their networks without changing the customer's existing telephone number (i.e., Service Provider Local Number Portability) is having a dramatic impact upon the SS7 network and telecommunications network service providers. With competition among network operators accelerating the deployment of AIN services, the strategic and economic value of sophisticated switching equipment optimized for SS7 applications is rapidly increasing. In addition, the importance of SS7 network-to-network operators mandates extremely high reliability and fault tolerance from the equipment as well as higher throughput and scaleability to support the rapid and unpredictable growth in enhanced AIN services. Companies that offer SS7-based products that are built on scaleable, open distributed architectures, enable AIN applications, or offer integrated, multi-service platforms such as the EAGLE STP / LNP solution, can benefit from this industry shift. Diagnostic Tools The proliferation of standards and protocols, growth of the Internet and Intranet and the increasing complexity of communications equipment and networks are creating a need for new, more sophisticated diagnostic systems capable of simultaneously testing multiple existing and emerging technologies. Network operators use diagnostic tools to efficiently monitor network performance, simulate network services and test interoperability of equipment. In an increasingly competitive environment, network operators need diagnostic systems that can reduce time to market by shortening the testing cycles necessary to model and implement new services. In addition, network operators require advanced diagnostic solutions that verify reliability of network elements, offer flexibility to support new standards and protocols as they emerge and enable them to centralize the testing expertise within their organizations. Equipment manufacturers use diagnostic tools to design and test their products, such as switches, hubs and routers, for conformance to new and existing standards and to simulate network operating conditions. Manufacturers seek diagnostic tools that enable them to shorten their product development cycles and reduce their testing costs as these elements are principal contributors to product development time and expense. Furthermore, diagnostic tools with a flexible architecture are necessary to accommodate the rapid changes in technology. 6 7 PRODUCTS Network Switching Products EAGLE STP. The Company introduced the EAGLE STP in early 1992. The EAGLE STP is designed to meet the demands of SS7 switching and features a fully distributed, standards-based open architecture. Its distributed open architecture, high capacity and throughput are tailored to the SS7 switching needs of common carriers, local exchange carriers, PCS and cellular operators and IP-based carriers. The EAGLE STP is economically scaleable in configurations from 2 to 500 links. Ongoing software releases provide continual product improvement to meet the evolving needs of end users. As is required in SS7 networks, the EAGLE is sold and deployed in pairs, for redundancy. The EAGLE has the following features: Designed for SS7 Standards. The EAGLE STP is designed to exceed the requirements for STPs as defined by Bell Communications Research (Bellcore) and presently supports both American National Standards Institute (ANSI) and International Telephone and Telegraph Consultative Commission (CCITT) SS7 standards. Bellcore defines the standards used primarily by the RBOCs for equipment used in their networks. See "Sales, Marketing and Support." Powerful, Distributed Architecture. The EAGLE STP features a fully distributed, open architecture, utilizing Intel x86 microprocessors. The performance of the product results from its uniquely distributed architecture and the elimination of central processors. In the EAGLE STP, all SS7 network intelligence, including SS7 routing information, is distributed among up to 250 signaling interface processors. Each interface is interconnected via a high-speed, redundant bus subsystem. The bus subsystem utilizes two counter-rotating 125 Mbps buses and features proprietary switching and buffering algorithms, which minimize collision and guarantee message delivery between all attached interfaces. All interfaces attached to the bus subsystem are hot-swappable, so that interface repair or replacement does not affect system operation. Software Architecture. The EAGLE STP's software is fully modular and written entirely in industry-standard programming languages. All software is released in complete versions, eliminating the need for interim patching and minimizing the potential for errors. EAGLE STP software is optimized for the capacity and redundancy features of the host hardware. Open Software Interfaces. Users of the EAGLE STP can rapidly add new functionality and value-added services to their network, utilizing the EAGLE STP's open software interfaces. Features enabling these open interfaces include: STP LAN, which allows users to attach inexpensive general purpose computers to the EAGLE for network analysis; Database Transport Access, which allows users to change the behavior of protocols in their network without relying on the vendor's development cycles; and X.25 to SS7/IS.41 Protocol Conversion which allows first-generation legacy cellular switches to interwork with the more advanced SS7 cellular network. A significant capability enabling Service Provider Local Number Portability on the EAGLE allows carriers to eliminate the need for significant numbers of dedicated Service Control Point (SCP) general purpose computers. 7 8 Ease of Operation and Maintenance. EAGLE STP installations generally do not require any enhancements to the central office's power supply, cooling system or flooring and require less than 36 square feet of space. An EAGLE STP can usually be installed in less than one week. No scheduled maintenance is required to support the EAGLE STP, eliminating the requirement for on-site personnel. Prices for a pair of EAGLE STPs typically range from approximately $250,000 to $5,000,000, depending on configuration and associated software applications. Network Diagnostics Products Equipment manufacturers and network service providers utilize Tekelec's diagnostic products to perform a wide variety of test applications that simulate, monitor and analyze network communications infrastructures. The Company's proprietary simulation language enables the controlled imitation of communications devices and nodes in conjunction with variable traffic loads. Its analysis software packages support full-rate monitoring, selective capture and triggering of digitized pulses transmitted through a network. Uses of the Company's diagnostic products include the following: - Designing Communications Equipment. By simulating existing and emerging communications devices and nodes (e.g., digital switches, STPs, SCPs, routers and intelligent hubs) and protocols (e.g., IP, ATM, High-Speed Frame Relay, SS7, Fast Ethernet, SMDS, ISDN, FDDI, BERT and Token Ring), the Company's products enable engineers to quickly design communications devices that will transition seamlessly into emerging network infrastructures, minimizing potential breakdowns of network components deployed throughout the network. - Ensuring Product Reliability. By simulating actual network conditions within an operating environment, including protocol errors and other network failures, the Company's products can help ensure that communications equipment manufacturers produce devices that will operate error-free, thus accelerating time to market and potentially reducing costly failures after installation. - Verifying Certification. By executing conformance and performance test suites, network operators and manufacturers use the Company's products to rapidly verify that communication devices meet specified standards (e.g., IP, ATM, Frame Relay, SS7, ISDN and BERT). - Monitoring Networks. By collecting and analyzing traffic, the Company's products can monitor the health of networks on a continuous basis and provide advance notice of potential system failures, allowing quicker service restoration or even service failure prevention. - Troubleshooting. By identifying the specific location and type of communication error, the Company's products can isolate which network device has failed (e.g., router, intelligent hub, switch port, edge switch). The Company's products help technicians and engineers repair devices and networks promptly and minimize expensive downtime associated with service failure. 8 9 The Company's principal intelligent network diagnostic products are described below. MGTS. The MGTS system is used primarily for SS7-based device simulation, load generation and network monitoring. In its fully configured form, the system includes Tekelec's proprietary programming tool, PASM, that can be used to design customized testing scenarios. The MGTS software runs on Sun Microsystems and Hewlett-Packard UNIX operating systems with an X-Windows, Motif graphical user interface. The MGTS system supports a number of protocols, including SS7, AIN, GSM, IS.41, CDMA and PCS. The system is scaleable and can support any number of links with multiple systems and can be networked over large geographical areas. MGTS Companion(TM). The compact and portable MGTS Companion takes the power and capabilities of the lab-based MGTS to the field. It is used by field technicians in first office application testing, equipment installation acceptance testing and complex signaling systems integration. MGTS companion also enables sophisticated field-based troubleshooting of installed signaling products. With PASM, MGTS Companion enables field technicians to either develop custom test scenarios, or use scenarios that were designed in the lab, to simulate or test intelligent network services for wireline and wireless networks. MGTS Companion is also used to test roaming and other GSM network services. MGTS Sentinel(TM). Introduced in mid-1998, MGTS Sentinel is a complete network maintenance and diagnostic system that provides telephony operators total visibility of and access to their SS7 networks. MGTS Sentinel includes network surveillance capabilities and fault-management functions. It provides a combination of passive monitoring and proactive testing capabilities that enable service providers to perform problem detection and analysis as well as verify fixes from a centralized location on a single platform. In addition to reducing operations costs, MGTS Sentinel enables network operators to enhance the quality of the services they provide. It also has an open interface to accommodate additional applications such as those used for fraud prevention, billing verification, and quality of service measurement. The Company's principal data network diagnostic products are described below. Chameleon(R) Open. The Chameleon Open is a multiprotocol communications analyzer that features a flexible modular architecture, multiple LAN, MAN, WAN and GAN technologies and protocols, simultaneous interoperability between different technologies, and full bandwidth capabilities from low data transmission rates to high-speed optical interfaces. Technologies supported include ATM, SMDS, High-Speed Frame Relay, FDDI, ISDN, WAN DS-1/E1, Fast Ethernet, Ethernet, BERT and Token Ring. The Chameleon Open's user-friendly interface allows customers to quickly diagnose their network or switch performance and detect any upper layer violations within the protocol stack utilized within the network or switch fabric. The Chameleon Open's products are available in two configuration options: portable 6 slot test application (Chameleon Open) or the rack-mounted 12 slot test application (Chameleon Open-X). Each Chameleon Open product operates with the same hardware and software packages, and thus provides customers with the most flexible test applications for portability and remote testing. 9 10 Chameleon 32+. The Chameleon 32+ protocol analyzer supports a variety of protocols and technologies including SS7, ISDN, IS-41, X.25/X.75, SNA and Frame Relay, enabling network operators as well as equipment manufacturers to perform active network diagnostics, troubleshoot network or device problems on existing network equipment and validate new equipment being developed. The Chameleon 32+ can be utilized for extensive monitoring and simulation testing for a wide array of protocols and interfaces including: X.25, X.75, QLC, PSH, SNA, Async, Bisync, ISDN, SS7, IS-41, OSI, DPNSS, DASS 2, DMI, V.120, DDCMP, U Interface, Frame Relay, ASAI, SCAI, Digital Test Access and BERT. List prices for the Company's principal diagnostic products for equipment design and test range from approximately $50,000 to $200,000, depending on configuration. List prices for the Company's principal diagnostic products for network monitoring and maintenance range from approximately $50,000 to $2,000,000, depending on configuration. Compliance with Industry Standards The Company's products are designed to meet a significant number of standards and regulations, some of which are evolving as new technologies are deployed. In the United States, the Company's products must comply with various regulations defined by the FCC and Underwriters Laboratories as well as standards established by Bellcore and the ANSI. Internationally, the Company's products must comply with standards established by telecommunications authorities in various countries as well as with recommendations of the CCITT and the International Standards Organization (ISO). The failure of the Company's products to comply, or delays in compliance, with the various existing and evolving standards could have a material adverse effect on the Company's business and operating results. PRODUCT DEVELOPMENT The communications market is characterized by rapidly changing technology, evolving industry standards and frequent new product introductions. Standards for new services such as AIN, PCS, IP and ATM are still evolving. As these standards and the demand for services and applications evolve, the Company intends to adapt its products or develop and support new products. The Company solicits product development input through discussions with users of the Company's products and participation in industry organizations and international standards committees, such as the Telecommunications Industry Association (TIA) and the ATM Forum, and by closely monitoring the activities of the ITU, ETSI, ISO and Bellcore. The Company's network switching product development group is principally focused on the release of new software versions to incorporate enhancements or new features desired by customers and compliance with standards to enable EAGLE to address additional domestic and international markets. In addition, the Company plans continued improvement of hardware components to improve performance and capabilities. The Company's diagnostic product development activities are principally focused on expanding the capabilities of the MGTS and Chameleon products, including their interfaces, software modules and protocol capabilities for emerging technologies such as AIN and ATM, and adapting these products for the emerging network operations market. From time to time the 10 11 Company engages in development projects for special applications for customers. The Company typically retains the right to use such technology in future products that are not competitive with the specific application for which the development work was performed. The Company utilizes a common standards-based open architecture approach in the design of its products. This approach facilitates and accelerates the development of new applications and products and permits the Company to enhance existing products by substituting new hardware or software modules. This modular approach also helps to extend the life cycles of the Company's products, ensure compatibility among successive generations of products and simplify manufacturing. The Company's success depends, to a substantial degree, upon its ability to respond rapidly to changes in technology, industry standards and customer requirements. This requires the timely selection, development and marketing of enhancements and new products on a cost-effective basis. The Company has invested and expects to continue to invest substantial resources in the development of new products and technology and product enhancements. There can be no assurance that the Company's product development efforts will result in commercially successful new or enhanced products or that the Company's products will not be rendered obsolete or noncompetitive by changing technology or new competitive products. Products as complex as those offered by the Company may contain undetected errors or failures when first introduced or as new versions are released. Such errors have occurred in the past. Although the Company's products have not experienced any significant errors, such errors, particularly those that result in a failure of the Company's switching products, could have a material adverse effect on the Company's customer relationships, business and operating results. There can be no assurance that, despite thorough testing by the Company and by customers, errors will not be found in the Company's products. Product development includes expenditures for research and development, new product design, enhancement of existing products and selective acquisition of technology. Research and development expenses amounted to approximately $26.4 million, $21.0 million and $17.1 million in 1998, 1997 and 1996, respectively. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." The Company's development facilities are located in California, North Carolina, Washington and Japan. As of March 1, 1999, the Company had 243 persons engaged full time in product development. The Company believes that recruiting and retaining highly skilled engineering personnel is essential to its success. To the extent that the Company is not successful in attracting and retaining its technical staff, its business and operating results would be adversely affected. SALES, MARKETING AND SUPPORT The Company's sales and marketing strategy for its EAGLE switching product is to continue to focus on sales to the traditional circuit-based telephony markets and to expand into the emerging packet-based telephony networks with new products and applications. The Company also intends to expand its international presence through additional sales personnel and 11 12 product enhancements targeted to the international market. Current and future strategic alliances will continue to be an integral component of the strategy to reach broader markets and attain greater market presence. The network switching sales cycle typically ranges from three to 18 months depending on the complexity of a customer's planning, bidding and implementation requirements. RBOCs and other large service providers require their suppliers to continuously participate in Bellcore Technical Auditing programs as new hardware and software features are introduced. Bellcore provides Technical Auditing Services ("technical audits") to suppliers of network equipment assessing the supplier's conformance to certain Bellcore standards which have been adopted by RBOCs and other service providers. Ongoing technical audits of the EAGLE STP are conducted by Bellcore and the results of these audits are available to the Company and its customers. Bellcore does not endorse or certify any product or service or guarantee its performance. Failure or delay in obtaining favorable technical audit results could have a material adverse effect on the Company's ability to sell its EAGLE STP to this large segment of the communications carrier market. The Company's sales and marketing strategy for its MGTS Sentinel product is to focus on sales to the traditional circuit-based telephony markets and to expand into the emerging packet-based telephony networks with new products and applications. The Company also intends to expand its international presence through additional sales personnel and product enhancements targeted to the international market. The Company's sales and marketing strategy for its other diagnostic products is to initially target customers' research and development departments designing the next generation of communications equipment and then to target the manufacturing groups and ultimate users in network operations as equipment is manufactured, certified and installed. This strategy permits the Company to gain expertise in testing emerging technologies in the early stages of their life cycles. Domestic Distribution. The Company sells its switching and diagnostic products in the U.S. principally through separate direct sales forces and, for the EAGLE STP to a lesser extent, through strategic relationships with various third-parties. The Company's direct sales forces operate out of the Company's headquarters in Calabasas, California and its regional offices located in Colorado, Illinois, New Jersey, North Carolina, Northern California and Texas. International Distribution. The Company sells its switching products internationally through its direct sales force and a distributor in Korea. The Company sells its diagnostic products internationally through a network of 30 distributors and a wholly owned subsidiary in Japan. The Company's Japanese subsidiary, which presently sells only diagnostic products, generated approximately 12%, 13% and 22% of the Company's revenues for 1998, 1997 and 1996, respectively. During 1998, the Company formed a subsidiary in the United Kingdom to conduct sales and marketing activities primarily for switching products. 12 13 Tekelec-Airtronic, S.A., an affiliate of the Company, and its wholly owned subsidiaries are the distributors of the Company's diagnostic products in France, Italy, Germany, the Netherlands, Belgium, Luxembourg, Portugal, Spain and China. Twenty four additional independent companies distribute the Company's products in other Western European countries, the Far East (other than Japan), Australia, Mexico, Puerto Rico, New Zealand, Latin America, the Middle East and South Africa. Distributors typically purchase products directly from the Company pursuant to agreements that are exclusive for a particular territory and are cancelable by either party upon 90 days notice. Export sales through international distributors accounted for approximately 7%, 10% and 13% of revenues in 1998, 1997 and 1996, respectively. The Company typically invoices export sales in U.S. dollars and its foreign subsidiary invoices sales in its local currency. International sales are subject to inherent risks, including longer payment cycles, unexpected changes in regulatory requirements and tariffs, difficulties in staffing and managing foreign operations and distributors, greater difficulty in accounts receivable collection and potentially adverse tax consequences. Additionally, exchange rate fluctuations on foreign currency transactions and translations arising from international operations may contribute to fluctuations in the Company's business and operating results. Fluctuations in exchange rates could also affect demand for the Company's products. In addition, due to the technical nature of the Company's products, certain of the Company's export sales must be licensed by the Office of Export Administration of the U.S. Department of Commerce. The Company's products are subject, in certain international jurisdictions, to reduced protection for the Company's copyrights and trademarks. See Notes A, D and M to consolidated financial statements. Strategic Relationships. The Company believes that it can improve market penetration and acceptance for its EAGLE products through strategic relationships with leading communications equipment suppliers. These suppliers have long-standing relationships with public carriers and provide a broad range of services to these carriers through their existing sales and support networks. Tekelec seeks strategic relationships that (i) enhance the Company's presence in its target markets, (ii) offer products that complement the EAGLE to provide value-added networking solutions and (iii) leverage the Company's core technologies enabling the communications equipment suppliers to develop enhanced products with market differentiation that can be integrated with the EAGLE platform. The Company has a non-exclusive distribution agreement with Lucent, an exclusive distribution agreement with Daewoo and a strategic marketing and sales alliance with Bellcore under which the Company and Bellcore will jointly market each other's products and also exchange interfaces and potentially other product specifications to allow the interworking of the Company's EAGLE IP7 Gateway and Bellcore's ISCP(R) System. The Company believes that these relationships demonstrate recognition of the technical advantages of the EAGLE STP and IP7 products, and that these agreements provide the Company with additional opportunities to penetrate the SS7 network switching marketplace and the convergence market. Through the Company's relationships with Lucent, Daewoo and Bellcore, the Company has enhanced its market presence and its ability to access leading telephone companies. In general, these agreements can be terminated by either party on limited notice and, except for Daewoo, do not require minimum purchases. Furthermore, Lucent and Bellcore are not precluded from selling products that are competitive with the Company's products. Although the Company's current 13 14 sales through its relationships with Lucent and Bellcore are not significant, a termination of the Company's relationship with Lucent or Bellcore, or the sale of competing products by Lucent or Bellcore, could adversely affect the Company's business and operating results. Advertising and Promotion. The Company uses advertising in trade journals, exhibitions at trade shows, a presence on the Internet via the World Wide Web and direct mail to promote awareness of the Company and its products. The Company has been most successful in generating sales through demonstrations of its products and, therefore, focuses its advertising and promotional activities on generating opportunities for demonstrations. The Company also provides extensive training for, and merchandising aids to, its direct sales force and distributors. These include sales brochures, demonstration systems and promotional product literature. Services, Support and Warranty. The Company believes that customer service, support and training are important to building and maintaining strong customer relationships. The Company services, repairs and provides technical support for its products. The Company maintains an in-house repair facility and provides ongoing training and telephone assistance to customers and international distributors from its headquarters in Calabasas, California, certain U.S. regional offices and its Japanese subsidiary. The Company's Technical Assistance Center in Morrisville, North Carolina, supports the Company's switching products on a 24 hour-a-day, seven day-a-week basis. Support services include 24-hour technical support, remote access diagnostic and servicing capabilities, extended maintenance and support programs, comprehensive technical customer training, extensive customer documentation, field installation and emergency replacement. The Company typically warrants its products against defects in materials and workmanship for one year after the sale and thereafter offers extended service warranties. To date, warranty expenses have been within management's expectations. CUSTOMERS During 1998, the Company shipped approximately 62 pairs of EAGLE STPs to 35 customers worldwide and 780 units of its diagnostic products to over 190 customers worldwide. The Company's customers include end users and marketing intermediaries. End users for the Company's EAGLE STP consist primarily of U.S. ITCs, PCS and cellular operators, interexchange carriers, competitive access providers, local exchange carriers and RBOCs. End users for the Company's diagnostic products include long-distance carriers, telephone operating companies, communications equipment manufacturers, wireless and cellular network operators and government agencies. No customer accounted for more than 10% of the Company's revenues in 1998. The Company's diagnostic business is substantially dependent on repeat business and, therefore, customer satisfaction and loyalty are crucial to its long-term success. Many of the Company's largest customers in 1998 were purchasers of the Company's diagnostic systems in prior years. Federal and state agencies, including the FCC, regulate many of the Company's domestic customers. The FCC and a majority of the states have enacted or are considering regulations based upon alternative pricing methods. Uncertainty regarding future pricing policies and the cost effectiveness of deploying public network services may affect demand for communications 14 15 products, including the Company's products. However, the Company believes that deregulation of the telecommunications market and new methods of price regulation as evidenced by the passage of the Telecommunications Act of 1996 could increase the demand for products such as those offered by the Company which enhance the efficiency of the network or allow the expedited introduction of new revenue-producing services. BACKLOG Backlog for switching products typically consists of contracts or purchase orders for both product delivery scheduled within the next 12 months and EAGLE STP extended service warranty to be provided over the next five years. Orders for the Company's diagnostic products are usually placed by customers on an as-needed basis, and the Company has typically been able to ship these products within 15 to 30 days after acceptance of the purchase order. Because of variations in the magnitude and duration of orders received by the Company, and customer delivery requirements, which may be subject to cancellation or rescheduling by the customer, the Company's backlog at any particular date may not be a meaningful indicator of future financial results. At December 31, 1998, the Company's backlog amounted to approximately $72.8 million, of which $45.3 million related to EAGLE STP service warranty. This compared to a backlog of $59.0 million at December 31, 1997, of which $28.7 million related to EAGLE STP service warranty. MANUFACTURING The Company's manufacturing operations consist of the procurement and inspection of components, final assembly, burn-in, quality control testing and packaging. Printed circuit boards, chassis and most of the other major components used in the Company's products are subassembled to the Company's specifications by independent contractors with whom the Company generally has had long-standing working relationships. The assembled components are then delivered to the Company's production facilities for final assembly, quality control testing and product configuration, including software installation. The Company's products incorporate the Company's proprietary software as well as software licensed from third parties. The Company believes that its use of independent contractors for subassembly coupled with in-house final assembly improves production planning, increases efficiency, reduces costs and improves quality. The Company has a computerized manufacturing inventory control system that integrates and monitors purchasing, inventory control and production. The Company's quality control process tests for reliability and conformance with product specifications and utilizes certain automated software test procedures. The Company received ISO 9002 certification from Bellcore in 1995, ISO 9001 certification from Bellcore for its network switching operations in 1996 and for its intelligent network diagnostics operations in 1997. 15 16 The Company has obtained CE Mark registration for its principal diagnostic products and for its EAGLE STP to meet EC regulations for shipment of products into Europe. As new hardware and software features or new products are introduced, the Company routinely engages in the process of obtaining CE Mark registration as needed. Failure or delay in the Company's ability to obtain CE Mark registration for its products could have a material impact on future sales in Europe. The Company generally uses industry standard components for its products that are available from multiple sources; however, a few key components, such as certain microprocessors, video displays and power supplies, are currently only available from single suppliers. Vendor supply agreements often include provisions requiring the vendor to maintain a specified level of key components. The Company believes that inventory levels of key components, including those maintained by vendors, are adequate. In addition, should any components become unavailable the Company believes that functionally similar, if not identical, components could be obtained, and any necessary internal redesign accomplished, without materially adversely impacting the Company. To date, the Company has not experienced any significant delays in obtaining components from its suppliers and independent contractors. However, the electronics industry is subject to rapid technological change. Components become obsolete and are discontinued by manufacturers as new succeeding generations are introduced. An inability to obtain essential components, if prolonged, could materially adversely affect the Company's business and operating results and damage customer relationships. COMPETITION Network Switching Products. The market for STPs is highly competitive and has been highly concentrated among a limited number of dominant suppliers. The Company expects competition to increase in the future from existing and new competitors. The Company presently competes with Alcatel Alstom S.A. and Northern Telecom Ltd. and to a lesser extent with a limited number of other manufacturers, all of which have significantly greater financial, marketing, manufacturing and other resources and larger installed customer bases than the Company. The Company believes that its long-term success will depend on its ability to further penetrate the major telephone companies, both domestically and internationally, offer products with the best price/performance profile and be responsive to customers' needs for new features and services. The Company believes that the principal competitive factors in the network switching products market are product price/performance characteristics and reliability, customer service and support and the supplier's financial resources, marketing and distribution capability. The Company anticipates that responsiveness in adding new features will become an increasingly important competitive factor. While the Company's competitors have greater financial resources, the Company believes it competes favorably in other respects. However, there can be no assurance that new entrants or established competitors with greater financial resources have not or will not offer products superior in performance, quality, service and support to, and/or lower in price than, those of the Company. 16 17 Diagnostic Products. The communications diagnostic market is intensely competitive and subject to rapid technological change and evolving industry standards. The Company primarily competes in the high performance segment of the market. Its principal competitor is Hewlett-Packard. The Company also competes with a number of other manufacturers, some of which have greater financial, marketing, manufacturing and technological resources than the Company. The Company believes that its long-term success will depend in part on its ability to be a leader in offering products that address new emerging industry standards and to offer a broad line of integrated applications. The Company believes that the principal competitive factors in the communications diagnostic market in which the Company competes are product/price performance, functionality and reliability, timely introduction of new products, breadth of integrated product applications, marketing and distribution capability and customer service and support. The Company believes that it competes favorably, although there can be no assurance that new or established competitors will not offer products superior to or lower in price than those of the Company. INTELLECTUAL PROPERTY The Company relies on a combination of patent, trade secret, copyright and trademark laws and contractual restrictions to establish and protect proprietary rights in its products. The Company has entered into confidentiality and invention assignment agreements with its employees, and enters into non-disclosure agreements with its suppliers, distributors and appropriate customers among others so as to limit access to and use and disclosure of its proprietary information. There can be no assurance that these statutory and contractual arrangements will prove sufficient to deter misappropriation of the Company's technologies or independent third-party development of similar technologies. The laws of certain foreign countries in which the Company's products are or may be developed, manufactured or sold may not protect the Company's products or intellectual property rights to the same extent as do the laws of the United States and thus make the possibility of misappropriation of the Company's technologies and products more likely. The Company believes that, because of the rapid pace of technological change in the communications market, legal protections for its products are less significant factors in the Company's success than the knowledge, ability and experience of the Company's employees, the frequency and timely introduction of product enhancements and the quality of support services provided by the Company. The communications industry is characterized by the existence of a large number of patents and frequent litigation based on allegations of patent infringement. From time to time, third parties may assert exclusive patent, copyright, trademark and other intellectual property rights to technologies that are important to the Company. There are no currently pending material claims that the Company's products, trademarks or other proprietary rights infringe the proprietary rights of third parties. However, there can be no assurance that the Company will not receive communications from third parties in the future asserting that the Company's products infringe or may infringe the proprietary rights of third parties. In its distribution agreements and certain of its major customer agreements, the Company agrees to indemnify its customers for any expenses or liabilities resulting from claimed infringements of patents, trademarks or copyrights of third parties. In the event of litigation to determine the validity of any third-party claims, such litigation, whether or not determined in favor of the Company, could result in significant expense 17 18 to the Company and divert the efforts of the Company's technical and management personnel from productive tasks. In the event of an adverse ruling in such litigation, the Company might be required to discontinue the use and sale of infringing products, expend significant resources to develop non-infringing technology or obtain licenses from third parties. There can be no assurance that licenses from third parties would be available on reasonable commercial terms, if at all. In the event of a successful claim against the Company and the failure of the Company to develop or license a substitute technology, the Company's business and operating results would be materially adversely affected. EMPLOYEES At March 1, 1999, the Company had 581 employees, comprising 203 in sales, marketing and support, 71 in manufacturing, 243 in research, development and engineering and 64 in management, administration and finance. The Company believes that its future success will depend in part on its ability to attract, motivate and retain highly qualified personnel. Virtually all of the Company's employees hold stock options and/or participate in an employee stock purchase plan. None of the Company's employees is represented by a labor union, and the Company has not experienced any work stoppages. The Company believes that its employee relations are excellent. 18 19 GLOSSARY AIN (Advanced Intelligent Network)............. Bellcore's set of standards for advanced intelligent services for the telephone networks of Regional Bell Operating Companies. ANSI (American National Standards Institute).................................. The coordinating body for voluntary standards groups within the United States. ANSI is a member of the International Organization for Standardization (ISO). ATM (Asynchronous Transfer Mode)............... A broadband, low-delay, packet-based switching and multiplexing technique. Usable capacity is segmented into fixed-size cells, consisting of header and information fields, allocated to services on demand. BRI (Basic Rate Interface)..................... One interface type used to access the Integrated Services Digital Network. The BRI allows two simultaneous calls across a single pair of copper wires. CCITT (International Telephone and Telegraph Consultative Committee)........... A United Nations organization that establishes international telecommunications standards. El ............................................ The European telecommunications standard defining circuits that operate at speeds of 2.048 Mbps, similar to T1 lines in the United States. Ethernet....................................... A standard set of specifications for a particular type of LAN that employs baseband signaling (single signal on a cable) and has a transmission rate of 10 Mbps. Fast Ethernet.................................. 100 Mbps' technology for workstation LANs from the eponymous Fast Ethernet Alliance, which includes 3Com and SynOptics. It has been adopted by the IEEE as the basis for the 100BaseT Ethernet standard. FDDI (Fiber Distributed Data Interface).................................. A standard for operating fiber optic-based LANs at 110 Mbps used for high speed and backbone applications. Frame Relay.................................... A variable length packet-based transmission technology that is used to transmit data at speeds up to 2 Mbps.
19 20 GAN (Global Area Network)...................... A network of computers connected across countries. GSM (Global Systems for Mobile)................ The standard for a set of protocols for digital wireless initially deployed in Europe. IN (Intelligent Network)....................... An out-of-band, packet switched overlay network to the in-band Public Switched Telephone Network (PSTN). The Intelligent Network minimally consists of SS7-equipped Central Offices (Service Switching Points, or SSPs), packet switches (Signal Transfer Points, or STPs) and databases (Service Control Points, or SCPs). Internet....................................... The worldwide system of linked networks that is capable of exchanging mail and data through a common addressing and naming system based on TCP/IP protocols. Intranet....................................... A private network that uses Internet software and standards. ISDN (Integrated Services Digital Network).................................... Public digital communications services supporting a wide range of data, voice and image services accessed by standard interfaces integrated with customer control. IS.41.......................................... One of the Interim Standards for North American mobile applications for digital cellular. LAN (Local Area Network)....................... A type of high-speed data communications arrangement in which multiple computer and related products in an office or campus environment are connected by means of a standard transmission medium (typically coaxial cable, twisted-pair wire or optical fiber). MAN (Metropolitan Area Network)................ A high-speed network designed to link together sites in a metropolitan or campus area. The IEEE has defined its 802.6 standard for MANs based on the Distributed Queue Dual Bus technology. Mbps (Megabits per second)..................... A measurement unit, equal to 1,048,576 bits per second, used to describe data transfer rates as a function of time. MSC (Mobile Switching Center).................. A switch that coordinates trunk call set-up to and from users in a digital cellular network. Packet Switching............................... A data transmission technique whereby user information is segmented and routed in discrete data envelopes called packets, each with its own appended control information for routing, sequencing and error checking.
20 21 PCS (Personal Communications Systems).................................... A set of evolving standards and protocols providing for the concept of one number per user and associated advanced intelligent services regardless of location primarily involving mobile communications. PDC (Personal Digital Communications)............................. A set of protocol standards for Japanese digital cellular mobile network promulgated by NEC. Primary Rate Interface (PRI)................... A T1 or E1 circuit used to carry 23 or 30 ISDN calls, respectively. In an ISDN PRI, a single channel is used for signaling for calls placed on all of the other channels in the T1 or E1 circuit. protocol....................................... A formal set of standards governing the establishment of a communications link and controlling the format and timing of transmissions between two devices. RBOCs (Regional Bell Operating Companies).................................. Telephone companies created in 1984 as a result of the break-up of AT&T. signaling...................................... The process by which digital information is exchanged to establish, control and manage connections in a network. SCE (Service Creation Environments)............ An application in the Advanced Intelligent Network which allows for the development and customization of new telephone services, utilizing Advanced Intelligent Network (AIN) "building blocks". Using customized Service Information Blocks (SIBs) and "triggers", users describe services such as time-of-day routing. These descriptions are loaded into Service Control Points (SCPs) or Service Nodes (SNs) for execution in the network. SCP (Service Control Point).................... A computer database that is accessed by STPs for customer call routing information and other special information required for AIN services. SMDS (Switched Multi-megabit Data Service).................................... A communications service providing high speed, connectionless data transport. SMS (Service Management System)................ A proprietary application that provides the user with a maintenance and administration interface to various IN and AIN network elements. SP-LNP (Service Provider Local Number Portability)......................... A capability mandated by the Federal Communications Commission in June, 1996 that allows telephone customers to change their local service provider without changing their telephone number. Adding SP-LNP capabilities to the Public Switched Telephone Network requires the introduction of three new network elements and new software capabilities in virtually every existing network element.
21 22 SS7 (Common Channel Signaling System No. 7)............................... A complex protocol which governs signaling between certain devices in a digital telephone network. SSP (Service Switching Point).................. An SSP is a component of the central office switch that sets up trunk connections. When an SSP identifies an AIN call, it routes a signaling message to the STP and awaits further instructions for call processing. STP (Signal Transfer Point).................... An STP is a switch that handles the signaling messages used to set up telephone calls, queries external databases for routing and processing information and dispatches call handling instructions. T1 ............................................ The North American telecommunications standard defining a circuit that multiplexes and switches 24 channels and operates at speeds of 1.544 Mbps (T3 is the equivalent of 27 T1 circuits). TCP/IP (Transmission Control Protocol/Internet Protocol)................. The common name for the suite of protocols developed by the U.S. Department of Defense in the 1970s to support the construction of world- wide internetworks. TCP and IP are the two best- known protocols in the suite. TCP corresponds to Layer 4 (the transport layer) of the OSI reference model. It provides reliable transmission of data. IP corresponds to layer 3 (the network layer) of the OSI reference model and provides connectionless datagram service. WAN (Wide Area Network)........................ A network that extends beyond the distance that can be accommodated by local cabling methods. A WAN typically utilizes public carrier services to connect sites, which may span a city, state, country or the world. xDSL........................................... Another name for an ISDN BRI channel. Operated at the Basic Rate Interface (with two 64 kbps circuit switched channels), the DSL can carry both voice and data signals at the same time, in both directions, as well as the signaling data used for call information and customer data. X.25........................................... A protocol for transfer of information across packet data networks. X.25 was the first packet data technology to be widely implemented.
22 23 ITEM 2. PROPERTIES. The Company's executive offices, as well as its principal manufacturing operations, are located in an approximate 58,000 square-foot facility in Calabasas, California, under a lease that expires in November 2004 with an option to extend for an additional five years. The Company also occupies two facilities comprising 98,000 square feet in Morrisville, North Carolina, under leases expiring in March and September, 2003, primarily for engineering, product development, customer support and regional sales activities for its network switching and intelligent network diagnostics products. In November 1998, the Company agreed to lease a 152,000 square-foot facility in Morrisville, North Carolina. Under the terms of this lease, the Company will terminate its current leases in North Carolina without penalty. The Company intends to occupy the new facility and terminate its current leases upon completion of construction of the new facility currently scheduled for November 1999. The Company also has five regional sales offices occupying an aggregate of approximately 9,000 square feet under leases expiring between 1999 and 2001 in Campbell, California; Aurora, Colorado; Lombard, Illinois; Tinton Falls, New Jersey and Irving, Texas. Additionally, the Company has a research and development facility in Woodinville, Washington occupying approximately 2,100 square feet under a lease expiring in November 1999. The Company's Japanese subsidiary occupies approximately 10,600 square feet in Tokyo under leases expiring between April 1999 and November 1999. The Company's subsidiary in the United Kingdom occupies approximately 300 square feet in London under a month-to-month lease. The Company believes that its existing facilities will be adequate to meet its needs at least through 1999, and that it will be able to obtain additional space when and as needed on acceptable terms. ITEM 3. LEGAL PROCEEDINGS. Inapplicable. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. Inapplicable. 23 24 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS. The Company's Common Stock is traded over the counter on The Nasdaq Stock Market under the symbol TKLC. The following table sets forth the high and low closing sales prices for the Common Stock, as reported on The Nasdaq Stock Market. As of March 1, 1999, there were 238 record holders of the Company's Common Stock and approximately 9,000 beneficial holders based on information provided by the Company's transfer agent and proxy solicitation agent.
High Low ----------- ----------- 1997 First Quarter ................................. $ 5.74 $ 4.13 Second Quarter ................................ 9.44 4.75 Third Quarter ................................. 19.85 8.82 Fourth Quarter ................................ 23.57 13.97 1998 First Quarter ................................. $ 22.69 $ 14.05 Second Quarter ................................ 25.13 19.94 Third Quarter ................................. 24.63 13.75 Fourth Quarter ................................ 22.25 10.63
The Company has never paid a cash dividend. It is the present policy of the Company to retain earnings to finance the growth and development of its business and, therefore, the Company does not anticipate paying cash dividends on its Common Stock in the foreseeable future. 24 25 ITEM 6. SELECTED CONSOLIDATED FINANCIAL DATA. The statement of operations data included in the selected consolidated financial data set forth below for the years ended December 31, 1998, 1997 and 1996 and the balance sheet data set forth below at December 31, 1998 and 1997 are derived from, and are qualified in their entirety by reference to, the Company's audited consolidated financial statements and notes thereto. The statement of operations data set forth below for the years ended December 31, 1995 and 1994 and the balance sheet data set forth below at December 31, 1996, 1995 and 1994 are derived from audited consolidated financial statements of the Company, which are not included herein. FIVE-YEAR SELECTED FINANCIAL DATA
FOR THE YEARS ENDED DECEMBER 31, 1998 1997 1996 1995 1994 --------------------------------------------------------------------- (thousands, except per-share data) STATEMENT OF OPERATIONS DATA: Revenues ........................................ $176,669 $125,140 $ 72,126 $ 75,276 $ 61,189 Income (Loss) before provision for income taxes .............................. 55,551 29,741 (284) 8,450 5,711 Net income (loss) ............................... 39,209 28,996 (2,511) 6,311 4,460 Earnings (Loss) per share(1): Basic ....................................... $ 0.73 $ 0.58 $ (0.05) $ 0.15 $ 0.13 Diluted ..................................... 0.67 0.51 (0.05) 0.13 0.12 Weighted average number of shares outstanding(1): Basic ....................................... 53,518 50,408 47,100 42,116 34,736 Diluted ..................................... 58,708 56,842 47,100 48,207 37,259 BALANCE SHEET DATA (at December 31): Cash and investments ............................ $113,774 $ 70,518 $ 44,244 $ 43,609 $ 7,653 Working capital ................................. 108,762 86,354 44,688 56,983 13,466 Total assets .................................... 210,242 136,465 82,518 80,488 34,409 Long-term liabilities ........................... 2,252 2,839 1,061 380 654 Shareholders' equity ............................ 165,777 107,877 61,751 63,607 18,720
- ----------------- (1) Earnings (Loss) per share and weighted average number of shares outstanding have been retroactively adjusted to reflect the two-for-one stock split effected July 6, 1998. 25 26 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS. The following discussion should be read in conjunction with, and is qualified in its entirety by, the consolidated financial statements and the notes thereto included in this Annual Report on Form 10-K. Historical results and percentage relationships among any amounts in the financial statements are not necessarily indicative of trends in operating results for any future periods. CORPORATE ORGANIZATION The Company is currently organized into two divisions: Network Switching and Intelligent Network Diagnostics. In January 1999, the Company scaled down its Data Network Diagnostics Division and integrated this division into its Intelligent Network Diagnostics Division. The Company's most successful data network diagnostics efforts have been in the high speed links environment such as for SS7 over ATM and High Speed Frame Relay. These programs are synergistic with the Company's intelligent network diagnostics programs. By combining these programs, the Company believes it can better focus on future opportunities for its diagnostic products. The Network Switching Division develops and markets products, features and applications based on the Company's EAGLE platform, a high-capacity packet switch supporting a variety of advanced switching technologies including SS7, IP, ATM and others, enabling traditional circuit-based operators and new, packet-based operators to offer value-added services to their respective customers. The Intelligent Network Diagnostics Division develops and markets diagnostic products for the communications marketplace. These products, principally the MGTS products for intelligent network diagnostics and the Chameleon family of data network diagnostics products, have been the foundation of the Company's business and the source of the technology and expertise that has facilitated the Company's entry into other markets. 26 27 RESULTS OF OPERATIONS The following table sets forth, for the periods indicated, the percentages that statement of operations items bear to total revenues:
PERCENTAGE OF REVENUES FOR THE YEARS ENDED DECEMBER 31, ---------------------------------- 1998 1997 1996 ---------------------------------- Revenues ...................................... 100.0% 100.0% 100.0% Cost of goods sold ........................ 33.3 33.2 37.0 ------ ------ ------ Gross profit .................................. 66.7 66.8 63.0 Research and development .................. 14.9 16.8 23.7 Selling, general and administrative ....... 22.9 27.9 41.4 Restructuring ............................. -- -- 0.4 ------ ------ ------ Income (Loss) from operations ................. 28.9 22.1 (2.5) Interest and other income, net ............ 2.6 1.7 2.1 ------ ------ ------ Income (Loss) before provision for income taxes 31.5 23.8 (0.4) Provision for income taxes ................ 9.3 0.6 3.1 ------ ------ ------ Net income (loss) ....................... 22.2% 23.2% (3.5)% ====== ====== ======
The following table sets forth, for the periods indicated, the revenues by principal product line as a percentage of total revenues:
PERCENTAGE OF REVENUES FOR THE YEARS ENDED DECEMBER 31, -------------------------------- 1998 1997 1996 -------------------------------- Network switching ................. 66% 58% 35% Intelligent network diagnostics ... 26 29 36 Data network diagnostics .......... 8 13 29 ----- ----- ----- Total ....................... 100% 100% 100% ===== ===== =====
The following table sets forth, for the periods indicated, the revenues by geographic territory as a percentage of total revenues:
PERCENTAGE OF REVENUES FOR THE YEARS ENDED DECEMBER 31, ------------------------------------ 1998 1997 1996 ------------------------------------ North America .. 69% 73% 58% Japan .......... 12 13 22 Europe ......... 4 5 9 Rest of World .. 15 9 11 ------ ------ ------ Total .... 100% 100% 100% ====== ====== ======
27 28 1998 COMPARED WITH 1997 Revenues The Company's revenues increased by $51.5 million, or 41%, during 1998 due to higher sales of switching products and intelligent network diagnostics products. Sales of data network diagnostics products decreased both in dollars and as a percentage of total sales. Revenues from switching products increased by 62%, or $44.3 million, to $116.3 million due primarily to increased EAGLE STP market acceptance worldwide as reflected by higher international sales, increased sales of upgrades and software enhancements to the Company's larger EAGLE STP installed base and higher sales of Local Number Portability (LNP) and Local Service Management System (LSMS) features. In 1998, the Company sold 62 pairs of EAGLE STPs compared with 45 pairs in 1997. Revenues from intelligent network diagnostics products increased by 27%, or $9.7 million, to $46.3 million. This increase was primarily driven by higher sales of development services in Japan and the addition of sales of the Company's MGTS Sentinel product domestically, partially offset by lower MGTS product sales in Japan. Revenues from data network diagnostics products decreased by 15%, or $2.5 million, to $14.1 million primarily due to lower sales of the Company's Chameleon products in all markets, partially offset by increased sales of third-party data diagnostics products in Japan by the Company's Japanese subsidiary. Revenues in North America increased by $29.9 million, or 33%, as a result of higher switching and MGTS product sales, partially offset by lower Chameleon product sales. Revenues in Japan increased by $5.6 million, or 34%, due primarily to higher sales of MGTS-related development services and third-party data diagnostics products, partially offset by lower Chameleon and MGTS product sales. Revenues in Europe increased by $1.1 million, or 16%, due to higher switching product sales. Other international revenues increased by $15.0 million, 141%, primarily due to higher switching product sales including a large sale in South Africa. The impact of exchange rate fluctuations on currency translations, which consisted primarily of the translation of Japanese yen into U.S. dollars, decreased revenues by approximately $1.5 million, or 1%, and did not have a significant impact on net income. The Company believes that its future revenue growth depends in large part upon a number of factors, including the continued market acceptance of the Company's products, particularly the EAGLE products and related applications, the MGTS Sentinel, and market acceptance of the Company's recently introduced EAGLE IP7 and FALCON product lines. In 1998, the Company experienced significant revenue growth, particularly in switching products. The Company expects that switching product sales will continue to grow in 1999, both in dollars and as a percentage of total revenues, although at a lower percentage rate of growth than in 1998. 28 29 Gross Profit Gross profit as a percentage of revenues was essentially flat at 67%. Changes in the following factors, among others, may affect gross profit: product and distribution channel mix, competition, customer discounts, supply and demand conditions in the electronic components industry, internal manufacturing capabilities and efficiencies, foreign currency fluctuations and general economic conditions. Research and Development Although research and development expenses increased by $5.4 million, or 25%, such expenses decreased as a percentage of revenues from 17% in 1997 to 15% in 1998. The dollar increase was attributable primarily to ongoing development expenses in the Network Switching Division with respect to development of new features for the EAGLE products and consisted principally of expenses incurred in connection with the hiring of additional personnel and higher depreciation expense resulting from equipment acquisitions. The Company intends to continue to make substantial investments in product and technology development and believes that its future success depends in large part upon its ability to continue to enhance existing products and to develop or acquire new products that maintain its technological competitiveness. Selling, General and Administrative Although selling, general and administrative expenses increased by $5.5 million, or 16%, such expenses decreased as a percentage of revenues from 28% in 1997 to 23% in 1998. The increase in dollars was attributable primarily to increased infrastructure costs required to meet the needs of the growing EAGLE installed base and to support higher sales levels of switching and intelligent network diagnostics products. Sales, general and administrative expenses were reduced in 1998 by the proceeds from the settlement of an insurance claim in the amount of approximately $1.7 million, net of applicable costs. Income Taxes During 1998, the Company recorded tax benefits of $3.7 million resulting from a reduction of its valuation allowance for deferred taxes, and tax benefits associated with research and development tax credits. The reduction in the valuation allowance was based on the Company's improved income trend and management's assessment of various uncertainties related to the Company's ability to utilize certain research and development tax credit carryforwards. For the year ended December 31, 1998, excluding the one-time tax benefits, the Company had a tax provision of $20.0 million, resulting in an effective tax rate of 36%. For 1997, the Company had an effective tax rate of 33% excluding a one-time tax benefit of $9.0 million resulting from a reduction of its valuation allowance for deferred taxes. Interest, Net Net interest income increased by $2.4 million primarily as a result of higher average investment balances in 1998. 29 30 1997 COMPARED WITH 1996 Revenues The Company's revenues increased by $53.0 million, or 73%, during 1997 due to higher sales of switching products and intelligent network diagnostics products. Sales of data network diagnostics products decreased both in dollars and as a percentage of total sales. Revenues from switching products increased by 184%, or $46.6 million, to $71.9 million due primarily to increased EAGLE STP market acceptance principally in the U.S., and the addition of sales of the Company's LNP and related LSMS features. Additionally, the EAGLE STP average selling price increased as a result of the Company's sales of larger systems to the Regional Bell Operating Company (RBOC) market. In 1997, 45 pairs of EAGLE STPs were sold compared with 26 pairs in 1996. Revenues from intelligent network diagnostics products increased by 43%, or $11.0 million, to $36.6 million. This increase was primarily driven by strong demand for the Company's MGTS products in all geographic markets, particularly North America. Revenues from data network diagnostics products decreased by 21%, or $4.6 million, to $16.6 million primarily due to lower sales in all markets for both the Chameleon Open and the Company's older Chameleon products. Revenues in North America increased by $49.5 million, or 118%, as a result of higher switching and MGTS product sales, partially offset by lower Chameleon product sales. Revenues in Japan increased by $638,000, or 4%, due primarily to higher sales of MGTS products partially offset by the impact of exchange rate fluctuations on currency translations in 1997. Other international revenues increased by $2.8 million, or 19%, primarily due to higher switching product sales in the rest of the world and higher MGTS product sales in Europe. The impact of exchange rate fluctuations on currency translations, which consisted primarily of the translation of Japanese yen into U.S. dollars, decreased revenues by approximately $1.9 million, or 2%, and did not have a significant impact on net income. 30 31 Gross Profit Gross profit as a percentage of revenues increased from 63% in 1996 to 67% in 1997, due primarily to the addition of sales of higher margin LNP and LSMS features and improved manufacturing efficiencies due to higher sales volumes. Research and Development Although research and development expenses increased by $3.9 million, or 23%, such expenses decreased as a percentage of revenues from 24% in 1996 to 17% in 1997. The dollar increase was attributable primarily to ongoing development expenses in the Network Switching Division with respect to the Company's LNP and LSMS features for the EAGLE STP product, and consisted principally of expenses incurred in connection with the hiring of additional personnel and higher depreciation expense resulting from equipment acquisitions. Additionally, research and development expenses increased as a result of the accrual of certain costs for performance-related award programs. Selling, General and Administrative Although selling, general and administrative expenses increased by $5.1 million, or 17%, such expenses decreased as a percentage of revenues from 41% in 1996 to 28% in 1997. The increase in dollars was attributable primarily to increased infrastructure costs to meet the needs of the growing EAGLE installed base and to support higher sales levels of switching and intelligent network diagnostics products, and the accrual of certain costs for performance-related award programs. Income Taxes During 1997, the Company recorded a tax benefit of $9.0 million resulting from a reduction of its valuation allowance for deferred taxes. The reduction in the valuation allowance was based on the Company's improved income trend and management's assessment of various uncertainties related to the future realization of its deferred tax benefits. For the year ended December 31, 1997, excluding the one-time tax benefit, the Company had a tax provision of $9.7 million, resulting in an effective tax rate of 33%. Although the Company's 1996 pretax results showed a loss, the Company had a tax provision of $2.2 million, which consisted principally of foreign taxes on the income of the Company's Japanese subsidiary and reflected the Company's then inability to recognize a benefit for its U.S. loss and credits carryforwards. Interest, Net Net interest income increased by $685,000 primarily as a result of higher average investment balances in 1997. LIQUIDITY AND CAPITAL RESOURCES During 1998, cash and cash equivalents decreased by $6.8 million to $31.9 million, after a net purchase of approximately $50.1 million of short-term and long-term investments. Operating activities, including the effects of exchange rate changes on cash, provided $44.5 million. Financing activities, which represented proceeds from the issuance of Common Stock upon the exercise of options and warrants, provided $7.6 million and investing activities, excluding purchases of short-term and long-term investments, used $8.9 million. 31 32 Accounts receivable at December 31, 1998, including amounts due from related parties, increased by 80% compared to December 31, 1997, due primarily to increased sales levels and a higher concentration of sales at the end of the fourth quarter of 1998 compared to 1997. Inventories increased by 14% during 1998 primarily to support the increased sales levels and the expanded breadth of the Company's products. Trade accounts payable and accrued expenses increased by 122% and 86%, respectively, primarily due to the timing of purchases and increased level of operating expenses incurred by the Company primarily to support higher sales levels and the Company's product development programs. Deferred revenues increased by 21% primarily as a result of increased extended warranty service revenues that are recognized ratably over the warranty period and the timing of installation activities. Capital expenditures were $8.7 million during 1998 and represented the planned acquisition of equipment principally for research and development, manufacturing operations and facility expansion. The Company expects capital expenditures will increase significantly in 1999, principally for the acquisition of equipment for research and development, sales demonstration and manufacturing operations to support the Company's planned growth. Net cash provided by financing activities in 1998 was $7.6 million, which represented proceeds from the issuance of Common Stock upon the exercise of options and warrants. In July 1998, the Company renewed its credit facility with a U.S. bank and increased the maximum line of credit available thereunder from $10.0 million to $15.0 million. The Company also has lines of credit aggregating $3.9 million available to its Japanese subsidiary from various Japan-based banks. The Company's $15.0 million credit facility is collateralized by substantially all of the Company's assets, bears interest at, or in some cases below, the lender's prime rate (7.75% at December 31, 1998), and expires on June 30, 2000, if not renewed. Under the terms of this facility, the Company is required to maintain certain financial ratios and meet certain net worth and indebtedness tests for which the Company is in compliance. The Company's Japanese subsidiary has collateralized yen-denominated lines of credit with Japan-based banks, primarily available for use in Japan, amounting to the equivalent of $3.9 million with interest at the Japanese prime rate (1.5% at December 31, 1998) plus 0.125% per annum, which expire between August 5, 1999, and March 31, 2000, if not renewed. There were no borrowings by the Company under the lines of credit described above or any other lines of credit in 1998 or 1997. The Company believes that existing working capital, funds generated from operations and its current bank lines of credit are sufficient to satisfy anticipated operating requirements at least through 1999. Nonetheless, the Company may seek additional sources of capital as necessary or appropriate to fund acquisitions or to otherwise finance the Company's growth or operations; however, there can be no assurance that such funds, if needed, will be available on favorable terms, if at all. 32 33 Foreign Exchange International operations are subject to certain opportunities and risks, including currency fluctuations. In 1998, 1997 and 1996, the percentages by which weighted average exchange rates for the Japanese yen weakened against the U.S. dollar were 7%, 9% and 18%, respectively. The change in cumulative translation adjustments in 1998 was due primarily to the strengthening of the Japanese yen against the U.S. dollar when comparing the exchange rate at December 31, 1998, to that of December 31, 1997. Realized exchange gains (losses) are recorded in the period when incurred, and amounted to $56,000, $(273,000) and $(180,000) in 1998, 1997 and 1996, respectively. Exchange gains and losses include the remeasurement of certain currencies into functional currencies and the settlement of intercompany balances. Readiness for Year 2000 Background. As the year 2000 approaches, a critical issue has emerged regarding how existing application software programs, operating systems and embedded computer chips can accommodate the year 2000 date value. The Company has a year 2000 project team in place with overall responsibility for the Company's year 2000 compliance programs. In addition, executive management regularly monitors the status of the Company's year 2000 remediation plans. Project. The Company has identified potential year 2000 risks in four categories: software and system products the Company sells to customers; internal business software and information technology systems; systems other than information technology systems ("Non-IT systems"); and third-party suppliers to the Company. The Company's year 2000 project includes the following phases for the first three categories above: (1) identifying year 2000 risks; (2) assigning priorities to identified risks; (3) testing year 2000 compliance for risks determined to be material to the Company; (4) correcting problems determined to be material and not year 2000 compliant; (5) retesting corrections that have been implemented; and (6) developing contingency plans. With respect to the Company's third-party suppliers, the Company's year 2000 project consists of the following phases: (1) contacting suppliers for information concerning their year 2000 readiness; (2) prioritizing suppliers as to relative importance; (3) validating supplier responses regarding year 2000 compliance; and (4) developing contingency plans in the event that one or more suppliers fail to achieve year 2000 compliance. Assessment. The software and systems products that the Company sells to customers consist of internally developed software, third-party software licensed by the Company for use in or with the Company's products, hardware systems designed and manufactured by the Company and hardware systems designed and manufactured by third parties. The Company has identified priorities, completed the initial testing phase and begun offering solutions to its customers. The Company believes that its current product offerings are year 2000 compliant. For past product offerings that the Company is still supporting, the Company is offering releases that should make such products year 2000 compliant. However, failure to achieve year 2000 compliance for any products could materially adversely affect sales in 1999. Additionally, if any of the Company's mission critical products were to fail in the field as a result of year 2000 noncompliance, such failure could result in substantial liability to the Company and have a material adverse effect on the Company's financial results, business, market position, reputation and prospects. 33 34 Internal business software and systems consist primarily of the Company's business information systems in the United States and at the Company's Japanese subsidiary. The Company has completed its initial year 2000 project phases with respect to its business systems, and is in the process of developing, implementing and testing the necessary modifications. The Company believes that its internal business software and systems will be year 2000 compliant. However, if the Company's business systems are not year 2000 compliant, the Company could experience interruptions to its production process, development programs and general business operations. The Company has been advised by the suppliers of its Non-IT systems, which consist primarily of environmental systems such as fire suppression and security systems in the various buildings the Company occupies, that such systems are year 2000 compliant. Third-party suppliers provide component parts, purchased assemblies and contract manufacturing services incorporated by the Company into the products and systems it sells. The Company is requiring that each of its key suppliers certify whether they are year 2000 compliant. The Company has also prioritized its suppliers by level of criticality to the Company's business. Based on information received from its suppliers, the Company estimates that approximately 41% of its critical suppliers are presently year 2000 compliant. The Company plans to monitor its critical suppliers and either develop alternate sources or increase inventory levels prior to the year 2000 for those vendors considered to be at risk of not timely achieving year 2000 compliance. However, there can be no assurance that such alternate sources will be available or that adequate inventory levels will be attainable if necessary, and the Company could experience parts shortages and production interruptions if one or more key third-party suppliers experience year 2000 problems. Costs. Incremental costs of the Company's year 2000 project have consisted of the hiring of two contractors to assist with administrative duties related to the year 2000 project, consulting by PricewaterhouseCoopers LLP at the initial stages of the project and a third-party audit team, which provides year 2000 compliance test audit reports. Such costs in the aggregate have not been material to the Company's financial position, results of operations or cash flows. The balance of the effort for the Company's year 2000 project has been by employees whose costs for this project are not tracked separately. The Company believes that costs for the remainder of the year 2000 project will not be material to the Company's financial position, results of operations or cash flows. Risks. The Company's results of operations, financial condition and cash flows could be materially adversely affected if the Company or any of its key suppliers or customers do not achieve year 2000 compliance. Although the Company's year 2000 project is expected to minimize the Company's risks of experiencing a year 2000 problem, inherent risks and uncertainties exist despite the Company's efforts. There can be no assurance that a failure on the part of the Company, its products, its key suppliers or its customers will not be disruptive to the Company's business. As a result of these uncertainties the Company is unable to determine at this time whether the consequences of year 2000 failures will have a material effect on the Company's results of operations, financial condition or cash flows. 34 35 Reorganization In January 1999, the Company announced its decision to scale down its Data Network Diagnostics Division and integrate the division into its Intelligent Network Diagnostics Division. In connection with this activity, the Company will record a charge of approximately $1.8 million in the first quarter of 1999, which represents a workforce reduction of 25 employees and the write-off of certain assets related to the Data Network Diagnostics Division. "Safe Harbor" Statement under the Private Securities Litigation Reform Act of 1995 The statements that are not historical facts contained in this Management's Discussion and Analysis of Financial Condition and Results of Operations and other sections of this Annual Report on Form 10-K are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 that reflect the current belief, expectations or intent of the Company's management. These statements are subject to and involve certain risks and uncertainties including, but not limited to, timing of significant orders and shipments, changes in customer product mix, customer acceptance of the Company's products, capital spending patterns of customers, including shifts in such patterns as a result of customers' deferral of product purchases until the year 2000, competition and pricing, new product introductions by the Company or its competitors, carrier deployment of intelligent network services, the level and timing of research and development expenditures, regulatory changes, readiness for the year 2000 by the Company, its customers and its suppliers, general economic conditions and other risks described in this Annual Report on Form 10-K and in certain of the Company's other Securities and Exchange Commission filings. Many of these risks and uncertainties are outside of the Company's control and are difficult for the Company to forecast or mitigate. Actual results may differ materially from those expressed or implied in such forward-looking statements. 35 36 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. Inapplicable. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA. See the consolidated financial statements of the Company and its subsidiaries included herein and listed in Item 14 (a) of this Annual Report on Form 10-K. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE. Inapplicable. 36 37 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT. The information required by this Item is incorporated by reference to the sections of the Company's definitive Proxy Statement for the Annual Meeting of Shareholders to be held on May 14, 1999, entitled "Election of Directors" and "Executive Officers" to be filed with the Commission. ITEM 11. EXECUTIVE COMPENSATION. The information required by this Item is incorporated by reference to the sections of the Company's definitive Proxy Statement for the Annual Meeting of Shareholders to be held on May 14, 1999, entitled "Election of Directors - Compensation of Directors," "Executive Compensation and Other Information," "Board of Directors and Compensation Committee Reports on Executive Compensation" and "Performance Graph," to be filed with the Commission. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. The information required by this Item is incorporated by reference to the section of the Company's definitive Proxy Statement for the Annual Meeting of Shareholders to be held on May 14, 1999, entitled "Common Stock Ownership of Principal Shareholders and Management," to be filed with the Commission. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS. The information required by this Item is incorporated by reference to the section of the Company's definitive Proxy Statement for the Annual Meeting of Shareholders to be held on May 14, 1999, entitled "Certain Relationships and Related Transactions," to be filed with the Commission. 37 38 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K. (a) The following documents are filed as part of this Report:
CONSOLIDATED FINANCIAL STATEMENTS PAGE ---- - Report of Independent Accountants F-1 - Consolidated Statements of Operations for each of the three years in the period ended December 31, 1998 F-2 - Consolidated Balance Sheets as of December 31, 1998 and 1997 F-3 - Consolidated Statements of Cash Flow for each of the three years in the period ended December 31, 1998 F-4 - Consolidated Statements of Shareholders' Equity for each of the three years in the period ended December 31, 1998 F-5 - Consolidated Statements of Comprehensive Income for each of the three years in the period ended December 31, 1998 F-6 - Notes to Consolidated Financial Statements F-7 - Report of Independent Accountants on Financial Statement Schedule S-1 - Schedule II Valuation and Qualifying Accounts and Reserves for each of the three years in the period ended December 31, 1998 S-2
Schedules which are not listed above have been omitted because they are not applicable or the information required to be set forth therein is included in the consolidated financial statements or notes thereto. LIST OF EXHIBITS 3.1 Amended and Restated Articles of Incorporation(1) 3.2 Bylaws, as amended(2) 4.1 Rights Agreement dated as of August 25, 1997 between the Registrant and U.S. Stock Transfer Corporation as Rights Agent(3) 38 39 10.1 Amended and Restated 1984 Stock Option Plan, including forms of stock option agreements(4)(5) 10.2 Amended and Restated Non-Employee Director Equity Incentive Plan, including forms of stock award certificate and nonstatutory stock option agreements(6), as amended February 21, 1996(5)(7) 10.3 1994 Stock Option Plan, including forms of stock option agreements(6), as amended February 4, 1995(8), March 3, 1995 (8), January 27, 1996(7), February 26, 1997(9), March 19, 1997(9), and March 20, 1998(5)(10) 10.4 Retirement Pension Rules of Tekelec, Ltd.(5)(11) 10.5 Form of Indemnification Agreement between the Registrant and all directors of the Registrant(5)(12) 10.6 Lease dated as of February 8, 1988 between the Registrant and State Street Bank and Trust Company of California, N.A., not individually, but solely as an Ancillary Trustee for State Street Bank and Trust Company, a Massachusetts banking corporation, not individually, but solely as Trustee for the AT&T Master Pension Trust, covering the Company's principal facilities in Calabasas, California(13) 10.7 Form of International Distributor Agreement(14) and Schedule of Distributors 10.8 Officers Severance Plan, including form of Employment Separation Agreement (5)(15), as amended March 8, 1999 10.9 Employee Stock Purchase Plan, including form of subscription agreement(5)(7) 10.10 Credit Agreement dated October 22, 1996 between the Registrant and Imperial Bank, together with Promissory Note of the Registrant dated October 22, 1996(2), amended by First Amendment to Credit Agreement dated July 15, 1998, together with Promissory Note of the Registrant dated July 15, 1998(1) 10.11 General Security Agreement dated October 22, 1996 between the Registrant and Imperial Bank(2) 10.12 Agreement dated September 9, 1997 between the Registrant and Shigeru Suzuki(3), as amended by Agreement dated January 6, 1998(16) 10.13* Distribution and OEM Agreement dated as of June 1, 1997 between the Registrant and Daewoo Telecom, Ltd.(3) 10.14 Warrants to purchase shares of the Company's Common Stock and Schedule of Warrantholders(5)(17) 39 40 10.15 Stock Award Agreement dated February 17, 1998 between the Registrant and Michael Margolis(16) 10.16 Lease dated as of November 6, 1998 between the Registrant and Weeks Realty, L.P., covering the Company's facilities in Morrisville, North Carolina 10.17 Employment Offer Letter dated January 13, 1999 between the Registrant and Teresa Pippin 21.1 Subsidiaries of the Registrant 23.1 Consent of PricewaterhouseCoopers LLP 27.1 Financial Data Schedule for the year ended December 31, 1998 - ---------------------- * Confidential treatment has been granted with respect to portions of this exhibit, and such confidential portions have been deleted and filed with the Commission pursuant to Rule 24b-2 promulgated under the Securities Exchange Act of 1934. (1) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q (File No. 0-15135) for the quarter ended June 30, 1998. (2) Incorporated by reference to the Registrant's Annual Report on Form 10-K (File No. 0-15135) for the year ended December 31, 1996. (3) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q (File No. 0-15135) for the quarter ended September 30, 1997. (4) Incorporated by reference to the Registrant's Registration Statement on Form S-8 (Registration No. 33-48079) filed with the Commission on May 22, 1992. (5) Constitutes a management contract or compensatory plan or arrangement required to be filed as an exhibit to this Annual Report on Form 10-K. (6) Incorporated by reference to the Registrant's Registration Statement on Form S-8 (Registration No. 33-82124) filed with the Commission on July 28, 1994. (7) Incorporated by reference to the Registrant's Registration Statement on Form S-8 (Registration No. 333-05933) filed with the Commission on June 13, 1996. (8) Incorporated by reference to the Registrant's Registration Statement on Form S-8 (Registration No. 33-60611) filed with the Commission on June 27, 1995. 40 41 (9) Incorporated by reference to the Registrant's Registration Statement on Form S-8 (Registration No. 333-28887) filed with the Commission on June 10, 1997. (10) Incorporated by reference to the Registrant's Registration Statement on Form S-8 (Registration No. 333-71261) filed with the Commission on January 27, 1999. (11) Incorporated by reference to the Registrant's Annual Report on Form 10-K (File No. 0-15135) for the year ended December 31, 1994. (12) Incorporated by reference to the Registrant's Annual Report on Form 10-K (File No. 0-15135) for the year ended December 31, 1987. (13) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q (File No. 0-15135) for the quarter ended June 30, 1988. (14) Incorporated by reference to the Registrant's Registration Statement on Form S-1 (Registration No. 33-4123) filed with the Commission on March 19, 1986. (15) Incorporated by reference to the Registrant's Annual Report on Form 10-K (File No. 0-15135) for the year ended December 31, 1993. (16) Incorporated by reference to the Registrant's Quarterly Report on Form 10-Q (Filed No. 0-15135) for the quarter ended March 31, 1998. (17) Incorporated by reference to the Registrant's Registration Statement on Form S-8 (Registration No. 333-37843) filed with the Commission on October 14, 1997. (b) REPORTS ON FORM 8-K No reports on Form 8-K were filed or required to be filed by the Registrant during the quarter ended December 31, 1998. (c) EXHIBITS See the list of Exhibits under Item 14(a)3 of this Annual Report on Form 10-K. (d) FINANCIAL STATEMENT SCHEDULES See the Schedule under Item 14(a)2 of this Annual Report on Form 10-K. 41 42 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. TEKELEC By: /s/ MICHAEL L. MARGOLIS ------------------------------------- Michael L. Margolis, President and Chief Executive Officer Dated: March 29, 1999 Pursuant to the requirements of the Securities Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.
Signature Title Date --------- ----- ---- /s/ Jean-Claude Asscher Chairman of the Board March 29, 1999 - ------------------------------- Jean-Claude Asscher /s/ Michael L. Margolis President, Chief Executive March 29, 1999 - ------------------------------- Officer and Director Michael L. Margolis /s/ Robert V. Adams Director March 29, 1999 - ------------------------------- Robert V. Adams /s/ Daniel L. Brenner Director March 29, 1999 - ------------------------------- Daniel L. Brenner /s/ Howard Oringer Director March 29, 1999 - ------------------------------- Howard Oringer /s/ Jon F. Rager Director March 29, 1999 - ------------------------------- Jon F. Rager /s/ Gilles C. Godin Vice President, Finance and March 29, 1999 - ------------------------------- Chief Financial Officer Gilles C. Godin
42 43 REPORT OF INDEPENDENT ACCOUNTANTS To The Shareholders And Board Of Directors Of Tekelec In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, cash flow, shareholders' equity, and comprehensive income present fairly, in all material respects, the financial position of Tekelec and its subsidiaries (the "Company") at December 31, 1998 and 1997, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1998, in conformity with generally accepted accounting principles. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with generally accepted auditing standards which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for the opinion expressed above. /s/ PricewaterhouseCoopers LLP Woodland Hills, California February 2, 1999 F-1 44 TEKELEC CONSOLIDATED STATEMENTS OF OPERATIONS
FOR THE YEARS ENDED DECEMBER 31, ----------------------------------------------------- 1998 1997 1996 ----------------------------------------------------- (thousands, except per-share data) REVENUES ........................................... $ 176,669 $ 125,140 $ 72,126 COSTS AND EXPENSES: Cost of goods sold ............................. 58,902 41,524 26,682 Research and development ....................... 26,371 21,019 17,076 Selling, general and administrative ............ 40,458 34,971 29,842 Restructuring .................................. -- -- 327 ----------- ----------- ----------- Total costs and expenses ..................... 125,731 97,514 73,927 ----------- ----------- ----------- Income (Loss) from operations ...................... 50,938 27,626 (1,801) Other income (expense): Interest, net .................................. 4,785 2,378 1,693 Other, net ..................................... (172) (263) (176) ----------- ----------- ----------- Total other income ........................... 4,613 2,115 1,517 Income (Loss) before provision for income taxes .... 55,551 29,741 (284) ----------- ----------- ----------- Provision for income taxes ..................... 16,342 745 2,227 ----------- ----------- ----------- NET INCOME (LOSS) ............................ $ 39,209 $ 28,996 $ (2,511) =========== =========== =========== EARNINGS (LOSS) PER SHARE(1): Basic ........................................ $ 0.73 $ 0.58 $ (0.05) Diluted ...................................... 0.67 0.51 (0.05) WEIGHTED AVERAGE NUMBER OF SHARES OUTSTANDING(1): Basic ........................................ 53,518 50,408 47,100 Diluted ...................................... 58,708 56,842 47,100
- -------------- (1) Earnings (Loss) per share and weighted average number of shares outstanding have been retroactively adjusted to reflect the two-for-one stock split effected July 6, 1998. See notes to consolidated financial statements F-2 45 TEKELEC CONSOLIDATED BALANCE SHEETS
DECEMBER 31, ------------------------------- 1998 1997 ------------------------------- (thousands, except share data) ASSETS CURRENT ASSETS: Cash and cash equivalents .......................................... $ 31,932 $ 38,748 Short-term investments, at fair value .............................. 37,704 19,773 Accounts and notes receivable, less allowances 1998 -- $763; 1997 -- $469 ..................................... 54,606 29,141 Inventories ........................................................ 12,872 11,281 Amounts due from related parties ................................... 1,896 2,286 Income taxes receivable ............................................ 32 805 Deferred income taxes, net ......................................... 8,616 8,309 Prepaid expenses and other current assets .......................... 3,317 1,760 ----------- ----------- Total current assets ............................................. 150,975 112,103 Long-term investments, at fair value ................................... 44,138 11,997 Property and equipment, net ............................................ 12,859 9,841 Deferred income taxes, net ............................................. 1,514 1,999 Other assets ........................................................... 756 525 ----------- ----------- Total assets ..................................................... $ 210,242 $ 136,465 =========== =========== LIABILITIES AND SHAREHOLDERS' EQUITY CURRENT LIABILITIES: Trade accounts payable ............................................. $ 10,904 $ 4,919 Accrued expenses ................................................... 10,932 5,862 Accrued payroll and related expenses ............................... 5,660 6,846 Current portion of deferred revenues ............................... 10,480 7,693 Income taxes payable ............................................... 4,237 429 ----------- ----------- Total current liabilities ........................................ 42,213 25,749 Long-term portion of deferred revenues ................................. 2,252 2,839 ----------- ----------- Total liabilities ................................................ 44,465 28,588 ----------- ----------- COMMITMENTS AND CONTINGENCIES SHAREHOLDERS' EQUITY(1): Common stock, without par value, 200,000,000 shares authorized; issued and outstanding 1998 -- 54,328,512; 1997 -- 52,252,086 .... 92,803 75,627 Retained earnings .................................................. 72,084 32,875 Accumulated other comprehensive income (loss) ...................... 890 (625) ----------- ----------- Total shareholders' equity ....................................... 165,777 107,877 ----------- ----------- Total liabilities and shareholders' equity ....................... $ 210,242 $ 136,465 =========== ===========
- ----------------------- (1) Number of shares outstanding have been retroactively adjusted to reflect the two-for-one stock split effected July 6, 1998. See notes to consolidated financial statements F-3 46 TEKELEC CONSOLIDATED STATEMENTS OF CASH FLOW
FOR THE YEARS ENDED DECEMBER 31, ----------------------------------------------------- 1998 1997 1996 ----------------------------------------------------- (thousands) CASH FLOW FROM OPERATING ACTIVITIES: Net income (loss) ................................ $ 39,209 $ 28,996 $ (2,511) Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization .................... 5,795 4,790 3,842 Deferred income taxes ............................ 276 (82) (80) Stock-based compensation ......................... 343 -- -- Changes in assets and liabilities: Accounts and notes receivable .................. (24,873) (12,537) 1,810 Inventories .................................... (1,507) (3,299) (1,840) Amounts due from related parties ............... 389 93 672 Income taxes receivable ........................ 775 (857) -- Prepaid expenses and other current assets ...... (1,548) (266) (564) Trade accounts payable ......................... 5,660 (412) 1,776 Accrued expenses ............................... 4,955 (49) 1,645 Accrued payroll and related expenses ........... (1,225) 2,842 755 Deferred revenues .............................. 2,200 6,766 870 Income taxes payable ........................... 12,800 (849) 370 ----------- ----------- ----------- Total adjustments ............................ 4,040 (3,860) 9,256 ----------- ----------- ----------- Net cash provided by operating activities ... 43,249 25,136 6,745 ----------- ----------- ----------- CASH FLOW FROM INVESTING ACTIVITIES: Purchase of available-for-sale securities ........ (107,272) (22,737) (45,033) Proceeds from maturity of available-for-sale securities ................................... 57,200 18,000 18,000 Purchase of property and equipment ............... (8,702) (6,552) (6,008) (Increase) Decrease in other assets .............. (195) 46 63 ----------- ----------- ----------- Net cash (used in) investing activities ...... (58,969) (11,243) (32,978) ----------- ----------- ----------- CASH FLOW FROM FINANCING ACTIVITIES: Repayments of short-term borrowings .............. -- -- (570) Repayment of long-term debt ...................... -- -- (380) Repayments of other obligations .................. -- -- (31) Proceeds from issuance of common stock ........... 7,634 8,759 2,050 ----------- ----------- ----------- Net cash provided by financing activities .... 7,634 8,759 1,069 ----------- ----------- ----------- Effect of exchange rate changes on cash .............. 1,270 (1,115) (1,234) ----------- ----------- ----------- Net increase (decrease) in cash and cash equivalents ................................. (6,816) 21,537 (26,398) ----------- ----------- ----------- CASH AND CASH EQUIVALENTS AT BEGINNING OF THE YEAR ... 38,748 17,211 43,609 ----------- ----------- ----------- CASH AND CASH EQUIVALENTS AT END OF THE YEAR ......... $ 31,932 $ 38,748 $ 17,211 =========== =========== =========== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: CASH PAID DURING THE YEAR FOR: Interest ....................................... $ -- $ -- $ 98 Income taxes ................................... 2,297 2,408 1,970 SUPPLEMENTAL DISCLOSURE OF NON-CASH FLOW ACTIVITY: Tax benefit related to stock options ........... 9,199 9,819 63
See notes to consolidated financial statements F-4 47 TEKELEC CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
COMMON STOCK ACCUMULATED -------------------------- OTHER TOTAL NUMBER RETAINED COMPREHENSIVE SHAREHOLDERS' OF SHARES(1) AMOUNT EARNINGS INCOME (LOSS) EQUITY --------------------------------------------------------------------------------- (thousands) - ----------------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 1995 ............. 46,396 $ 54,936 $ 6,390 $ 2,281 $ 63,607 Exercise of stock options and warrants ..................... 1,644 2,050 -- -- 2,050 Stock option tax benefits .......... -- 63 -- -- 63 Translation adjustment ............. -- -- -- (1,458) (1,458) Net loss ........................... -- -- (2,511) -- (2,511) - ----------------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 1996 ............. 48,040 57,049 3,879 823 61,751 Exercise of stock options and warrants ..................... 4,212 8,759 -- -- 8,759 Stock option tax benefits .......... -- 9,819 -- -- 9,819 Translation adjustment ............. -- -- -- (1,448) (1,448) Net income ......................... -- -- 28,996 -- 28,996 - ----------------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 1997 ............. 52,252 75,627 32,875 (625) 107,877 Exercise of stock options and warrants ..................... 2,032 7,634 -- -- 7,634 Issuance of restricted stock, net of unearned compensation ..... 45 343 -- -- 343 Stock option tax benefits .......... -- 9,199 -- -- 9,199 Translation adjustment ............. -- -- -- 1,515 1,515 Net income ......................... -- -- 39,209 -- 39,209 - ----------------------------------------------------------------------------------------------------------------------------- BALANCE, DECEMBER 31, 1998 ............. 54,329 $ 92,803 $ 72,084 $ 890 $ 165,777 =============================================================================================================================
- -------------- (1) Number of shares of Common Stock have been retroactively adjusted to reflect the two-for-one stock split effected July 6, 1998. See notes to consolidated financial statements F-5 48 TEKELEC CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
For the Years Ended December 31, ----------------------------------------- 1998 1997 1996 ----------------------------------------- (thousands) Net income (loss) ............................... $ 39,209 $ 28,996 $ (2,511) Other comprehensive income (loss): Foreign currency translation adjustments .... 1,515 (1,448) (1,458) -------- -------- -------- Comprehensive income (loss) ..................... $ 40,724 $ 27,548 $ (3,969) ======== ======== ========
See notes to consolidated financial statements F-6 49 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE A -- SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION AND PRESENTATION The consolidated financial statements include the accounts of the Company and its subsidiaries. All significant intercompany accounts and transactions are eliminated. Certain items shown in the December 31, 1997 and 1996 financial statements have been reclassified to conform with the current period presentation. ESTIMATES The preparation of financial statements 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 dates of the financial statements and revenues and expenses during the reporting periods. Actual results could differ from those estimates. CASH AND CASH EQUIVALENTS The Company considers all highly liquid debt instruments purchased with an original maturity of three months or less to be cash equivalents. INVENTORIES Inventories are stated at the lower of cost (first in, first out) or market. PROPERTY AND EQUIPMENT Property and equipment are stated at cost, less accumulated depreciation and amortization. Depreciation and amortization are provided using the straight-line method. The estimated useful lives are: Manufacturing and development equipment 3-5 years Furniture and office equipment 5 years Demonstration equipment 3 years Leasehold improvements The shorter of useful life or lease term
LONG-TERM ASSETS The Company identifies and records impairment on long-lived assets when events and circumstances indicate that such assets have been impaired. The Company periodically evaluates the recoverability of its long-lived assets based on expected nondiscounted cash flows, and recognizes impairment, if any, based on expected discounted cash flows. F-7 50 PRODUCT WARRANTY COSTS The Company generally warrants its products for one year after sale and provides for estimated future warranty costs at the time revenue is recognized. At December 31, 1998 and 1997, accrued product warranty costs amounted to $2.3 million and $1.2 million, respectively, and are included in accrued expenses. REVENUE RECOGNITION Revenues from sales of diagnostic products are generally recognized when products are shipped. Revenues from sales of switching products are recognized upon shipment to the customer's final site and satisfaction of related Company obligations, if any. Revenues associated with multiple-element arrangements (products, upgrades, enhancements and post-contract customer support) are allocated to each element based on the relative fair value. Revenues associated with installation are realized upon completion. Extended warranty service revenues are recognized ratably over the warranty period. Engineering service revenues are recognized on delivery or as the services are performed. Development contract revenues are recognized using the percentage-of-completion method based on the costs incurred relative to total estimated costs. Provisions for anticipated losses, if any, on development contracts are recognized in income currently. INCOME TAXES Income tax expense is the tax payable for the period and the change during the period in non-capital-related deferred tax assets and liabilities. Deferred income taxes are determined based on the difference between the financial reporting and tax bases of assets and liabilities using enacted rates in effect during the year in which the differences are expected to reverse. Valuation allowances are established when necessary to reduce deferred tax assets to the amount expected to be realized. ADVERTISING Advertising costs are expensed as incurred and amounted to $781,000, $669,000 and $620,000 for 1998, 1997 and 1996, respectively. TRANSLATION OF FOREIGN CURRENCIES Translation of foreign currencies is accounted for using the local currency as the functional currency of the Company's foreign subsidiaries. All assets and liabilities are translated at exchange rates in effect on the balance sheet dates while revenues and expenses are translated at average rates in effect for the period. The resulting gains and losses are included in a separate component of shareholders' equity. Realized gains (losses) on foreign currency transactions are reflected in net income (loss) and amounted to $56,000, $(273,000) and $(180,000) for 1998, 1997 and 1996, respectively. EARNINGS (LOSS) PER SHARE Earnings (Loss) per share are computed using the weighted average number of shares outstanding and dilutive Common Stock equivalents (options and warrants), in accordance with Statement of Financial Accounting Standards (SFAS) No. 128 "Earnings per Share." F-8 51 COMPREHENSIVE INCOME In 1998, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 130, "Reporting Comprehensive Income," and accordingly has included a separate Statement of Comprehensive Income. Comprehensive income generally represents all changes in shareholders' equity during the period except those resulting from investments by, or distributions to, shareholders. SEGMENT INFORMATION In 1998, the Company adopted SFAS No. 131, "Disclosures about Segments of a Business Enterprise and Related Information." SFAS No. 131 supersedes SFAS No. 14, "Financial Reporting for Segments of a Business Enterprise," replacing the "industry segment" approach with the "management" approach. The management approach designates the internal organization that is used by management for making operating decisions and assessing performance as the source of the Company's reportable segments. SFAS No. 131 also requires disclosures about products and services, geographic areas and major customers. The adoption of SFAS No. 131 did not affect results of operations or financial position but did affect the disclosure of segment information. See Note M. NOTE B -- FAIR VALUE OF INVESTMENTS The Company has short-term investments in corporate debt securities with original maturities of less than 90 days whose carrying amounts approximate their fair values because of their short maturities. These short-term investments are included in cash and cash equivalents, are classified as held-to-maturity securities and amounted to $19.4 million and $25.3 million at December 31, 1998, and December 31, 1997, respectively. The Company also had investments classified as available-for-sale securities included in short-term and long-term investments, categorized as follows:
DECEMBER 31, ------------------------- 1998 1997 ------------------------- (thousands) TYPE OF SECURITY: Corporate debt securities with maturities of less than one year ........... $ 25,704 $ 10,745 U.S. government securities with maturities of less than one year .......... 12,000 9,028 ---------- ---------- Total short-term investments .............................................. 37,704 19,773 U.S. government securities with maturities of between one and two years .. 44,138 11,997 ---------- ---------- $ 81,842 $ 31,770 ========== ==========
These available-for-sale securities are accounted for at their fair value, and unrealized gains and losses on these securities are reported as a separate component of shareholders' equity. At December 31, 1998 and 1997, net unrealized gains or losses on available-for-sale securities were not significant. The Company utilizes specific identification in computing realized gains and losses on the sale of investments. Realized gains and losses are reported in other income and expense, and were not significant for 1998, 1997 and 1996. F-9 52 NOTE C -- BUSINESS AND CREDIT RISK Financial instruments, which potentially subject the Company to concentration of credit risk, consist principally of cash, investments and trade receivables. The Company invests its excess cash in interest-bearing deposits with major banks, United States government securities, high-quality commercial paper and money market funds. At times the Company's cash balances may be in excess of the FDIC insurance limits. With respect to trade receivables, the Company sells network switching and communications diagnostic systems worldwide primarily to telephone operating companies, equipment manufacturers and corporations that use its systems to design, install, maintain, test and operate communications equipment and networks. Credit is extended based on an evaluation of each customer's financial condition, and generally collateral is not required. Credit losses, if any, have been provided for in the financial statements and to date have been within management's expectations. NOTE D -- RELATED PARTY TRANSACTIONS As of December 31, 1998, the Company's principal shareholder, a director and his family, and a foreign-affiliated company controlled by the director owned an aggregate of approximately 27% of the Company's outstanding stock. The following is a summary of transactions and balances with these affiliates:
1998 1997 1996 ---------- ---------- ---------- (thousands) Product sales ..................... $ 4,269 $ 4,471 $ 4,130 Purchases of inventory ............ -- 212 125 Director's fees and expenses ...... 51 104 59 Due from affiliates ............... 1,896 2,286 2,381 Due to affiliates ................. -- -- 145
The amounts due from and to the affiliates are non-interest bearing. In August 1996, the Company entered into a consulting agreement with a director, pursuant to which such director earned $30,000 and received a warrant to purchase 120,000 shares of the Company's Common Stock. This agreement terminated December 31, 1996. F-10 53 NOTE E -- RESTRUCTURING During the third quarter of 1996, the Company recorded restructuring charges amounting to $327,000 which represent severance pay and benefit costs for eight terminated employees in research and development and support functions, and other costs related to the consolidation of the Company's Ohio research facility into the Company's North Carolina facility. The costs consisted of the following:
(thousands) Severance pay .......................... $250 Other accrued expenses ................. 57 Property and equipment write-down ...... 20 ---- $327 ====
At December 31, 1997, all identified employees had been terminated, and all severance costs and other accrued expenses had been paid. NOTE F -- INCOME TAXES The provision for income taxes consists of the following:
FOR THE YEARS ENDED DECEMBER 31, --------------------------------------------- 1998 1997 1996 ----------- ----------- ----------- (thousands) CURRENTLY PAYABLE: Federal ............. $ 10,736 $ 5,394 $ -- State ............... 3,500 1,554 1 Foreign ............. 1,794 390 2,392 DEFERRED: Federal ............. 2,134 (5,974) -- State ............... (1,338) (745) -- Foreign ............. (484) 126 (166) ----------- ----------- ----------- $ 16,342 $ 745 $ 2,227 =========== =========== ===========
F-11 54 The primary components of temporary differences that gave rise to deferred taxes at December 31, 1998 and 1997 are as follows:
DECEMBER 31, 1998 1997 --------------------------- (thousands) DEFERRED TAX ASSETS: Net operating loss carryforward .... $ -- $ 3,319 Foreign tax credit carryforward .... -- 247 Allowance for doubtful accounts .... 258 257 Inventory adjustments .............. 1,708 1,715 Depreciation and amortization ...... 188 223 Research and development credit carryforward ............ 4,447 2,756 Accrued liabilities ................ 2,191 3,154 Warranty accrual ................... 885 515 Other .............................. 453 370 ----------- ----------- Total deferred tax asset ........... 10,130 12,556 Less, valuation allowance .......... -- (2,248) ----------- ----------- TOTAL NET DEFERRED TAX ASSET ....... 10,130 10,308 ----------- ----------- CURRENT PORTION ........................ 8,616 8,309 ----------- ----------- LONG-TERM PORTION ...................... $ 1,514 $ 1,999 =========== ===========
The valuation allowance for deferred taxes decreased by approximately $2.2 million during the year ended December 31, 1998. The reduction in the valuation allowance is based on the Company's improved income trend and management's assessment of various uncertainties related to the Company's ability to utilize certain research and development tax credit carryforwards. Realization of the net deferred tax assets of $10.1 million is dependent on the Company generating sufficient taxable income in the future. Although realization is not assured, the Company believes it is more likely than not that the deferred tax assets will be realized. The amount of the deferred tax assets considered realizable, however, could be reduced in the future if estimates of future taxable income are reduced. F-12 55 The provision for income taxes differs from the amount obtained by applying the federal statutory income tax rate to income before provision for income taxes as follows:
FOR THE YEARS ENDED DECEMBER 31, ----------------------------------------------- 1998 1997 1996 ----------------------------------------------- (thousands) Federal statutory provision (benefit) ........... $ 19,443 $ 10,112 $ (97) State taxes, net of federal benefit ............. 1,530 534 -- Foreign taxes ................................... 335 226 785 Reduction in valuation allowance ................ (2,248) (8,960) -- Utilization of operating loss carryforwards ..... -- (499) -- Research and development credits ................ (2,111) (723) -- Nontaxable FSC income ........................... (865) -- -- Loss for which no tax benefit was recorded ...... -- -- 1,182 Temporary differences for which no tax benefit was recorded .................... -- -- 252 Other ........................................... 258 55 105 ----------- ----------- ----------- Actual income tax provision ..................... $ 16,342 $ 745 $ 2,227 ----------- ----------- ----------- Effective tax rate .............................. 29.4% 2.5% 784.0%
At December 31, 1998, the Company had available research and development credit carryforwards of $4.4 million, which will begin to expire in the year 2007. The Company has not provided for federal income taxes on $13.1 million of undistributed earnings of its foreign subsidiaries that have been reinvested in their operations. NOTE G -- INVENTORIES The components of inventories are:
DECEMBER 31, -------------------------- 1998 1997 -------------------------- (thousands) Raw materials ...... $ 3,830 $ 3,738 Work in process .... 2,064 2,448 Finished goods ..... 6,978 5,095 ----------- ----------- $ 12,872 $ 11,281 =========== ===========
F-13 56 NOTE H -- PROPERTY AND EQUIPMENT Property and equipment consist of the following:
DECEMBER 31, ---------------------------- 1998 1997 ---------------------------- (thousands) Manufacturing and development equipment .......... $ 23,024 $ 17,645 Furniture and office equipment ................... 9,677 7,773 Demonstration equipment .......................... 4,038 3,964 Leasehold improvements ........................... 1,953 1,397 ----------- ----------- 38,692 30,779 Less, accumulated depreciation and amortization .. (25,833) (20,938) ----------- ----------- $ 12,859 $ 9,841 =========== ===========
NOTE I -- LINES OF CREDIT In July 1998, the Company renewed its credit facility with a U.S. bank and increased the maximum line of credit available thereunder from $10.0 million to $15.0 million. The Company also has lines of credit aggregating $3.9 million available to its Japanese subsidiary from various Japan-based banks. The Company's $15.0 million credit facility is collateralized by substantially all of the Company's assets, bears interest at, or in some cases below, the lender's prime rate (7.75% at December 31, 1998), and expires on June 30, 2000, if not renewed. Under the terms of this facility, the Company is required to maintain certain financial ratios and meet certain net worth and indebtedness tests for which the Company is in compliance. There have been no borrowings under this credit facility. The Company's Japanese subsidiary has collateralized yen-denominated lines of credit with Japan-based banks, primarily available for use in Japan, amounting to the equivalent of $3.9 million with interest at the Japanese prime rate (1.5% at December 31, 1998) plus 0.125% per annum, which expire between August 5, 1999 and March 31, 2000, if not renewed. There have been no borrowings under these lines of credit. NOTE J -- COMMITMENTS AND CONTINGENCIES The Company leases its office and manufacturing facilities together with certain office equipment under operating lease agreements. Lease terms generally range from one to ten years; certain building leases contain options for renewal for additional periods and are subject to increases up to 10% every 24 months. F-14 57 Total rent expense was $2.5 million, $2.5 million and $2.4 million for 1998, 1997 and 1996, respectively. Minimum annual noncancelable lease commitments at December 31, 1998 are:
For the Years Ending December 31, - --------------------------------- (thousands) 1999 ....................................................... $ 2,476 2000 ....................................................... 2,940 2001 ....................................................... 2,729 2002 ....................................................... 2,730 2003 ....................................................... 2,797 Thereafter ................................................. 13,427 ----------- $ 27,099 ===========
NOTE K -- STOCK OPTIONS AND EMPLOYEE BENEFIT PLANS The Company has various stock option plans with maximum terms of ten years under which 29.1 million shares of the Company's Common Stock have been issued or reserved for issuance. The terms of options granted under these option plans are determined at the time of grant, generally vest ratably over a three- to five-year period, and in any case the option price may not be less than the fair market value per share on the date of grant. Both incentive stock options and nonstatutory stock options can be issued under the option plans. The Company also has Employee Stock Purchase Plans ("ESPP"), with maximum terms of ten years, the latest of which expires in the year 2006, and under which 800,000 shares of the Company's Common Stock have been authorized and reserved for issuance. Eligible employees may authorize payroll deductions of up to 10% of their compensation to purchase shares of Common Stock at 85% of the lower of the market price per share at the beginning or end of each six-month offering period. F-15 58 Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" ("SFAS 123"), encourages but does not require companies to record compensation cost for stock-based employee compensation plans at fair value for awards granted subsequent to December 31, 1995. The Company has chosen to continue to account for stock-based compensation using the intrinsic value method prescribed in Accounting Principles Board Opinion No. 25 "Accounting for Stock Issued to Employees," and related interpretations. Accordingly, no compensation expense has been recognized for the Company's stock option and purchase plans. Had compensation costs under these plans been determined based upon the methodology prescribed under SFAS 123, the Company's net income (loss) and diluted earnings (loss) per share would approximate the following proforma amounts (in thousands except per-share data):
As Reported Proforma ---------- ---------- YEAR ENDED DECEMBER 31, 1998: Net income ...................... $ 39,209 $ 32,836 Earnings per share (diluted) .... 0.67 0.56 Year Ended December 31, 1997: Net income ...................... $ 28,996 $ 26,646 Earnings per share (diluted) .... 0.51 0.47 Year Ended December 31, 1996: Net loss ........................ $ (2,511) $ (3,777) Loss per share (diluted) ........ (0.05) (0.08)
The effects of applying SFAS 123 in this proforma disclosure are not indicative of future amounts, and additional awards in future years are anticipated. A summary of the status of the Company's stock options, as of December 31, 1998, 1997 and 1996, and the changes during the year ended on those dates are presented below (shares in thousands):
1998 1997 1996 -------------------------------------------------------------------------- Wgtd. Avg. Wgtd. Avg. Wgtd. Avg. Shares Exer. Price Shares Exer. Price Shares Exer. Price ------ ----------- ------ ----------- ------ ----------- Outstanding at beginning of year ....... 8,298 $ 4.50 9,672 $ 2.43 9,352 $ 2.07 Granted - price equals fair value ...... 1,959 20.25 2,722 7.27 2,446 3.36 Granted - price greater than fair value 340 17.71 339 10.33 2,738 3.56 Exercised .............................. 1,838 2.88 3,777 1.87 1,380 1.00 Cancelled .............................. 321 8.15 658 3.72 3,484 3.56 ----- ----- ----- Outstanding at year-end ................ 8,438 8.90 8,298 4.50 9,672 2.43 ===== ===== ===== Options exercisable at year-end......... 2,550 2,273 3,918 Options available for future grant...... 3,528 3,513 1,992 Weighted average fair value of options granted during the year: Exercise price equals fair value at grant date ...................... $13.92 $ 5.23 $ 2.42 Exercise price greater than fair value at grant date................. 11.85 6.89 1.08
F-16 59 The following table summarizes information about stock options outstanding at December 31, 1998 (shares in thousands):
Options Outstanding Options Exercisable ------------------------------------- ------------------------- Wgtd. Avg. Number Remaining Wgtd.Avg. Number Wgtd. Avg. Outstanding Contractual Exercise Outstanding Exercise Range of Exercise Price at 12/31/98 Life Price at 12/31/98 Price - --------------------------------------------------------------------------------------------- $0.66 to $ 0.99 686 4.59 $ 0.86 609 $ 0.85 1.00 to 3.78 1,940 6.86 3.10 815 3.14 3.82 to 5.55 2,609 7.51 4.47 833 4.35 7.07 to 10.63 560 8.64 8.17 117 7.78 14.08 to 20.94 2,168 9.15 19.28 139 17.69 21.25 to 23.69 475 9.36 21.96 37 22.36 ----- ----- 0.66 to 23.69 8,438 7.72 8.90 2,550 4.27 ===== =====
The fair value of options granted during 1998, 1997 and 1996 is estimated as $15.7 million, $6.9 million and $3.3 million, respectively, on the dates of grants using the Black-Scholes option-pricing model with the following assumptions: (i) dividend yield of 0%, (ii) expected volatility of 81%, 86% and 87%, respectively, for 1998, 1997 and 1996, (iii) weighted average risk-free interest rates of 5.3%, 6.4% and 6.2% for 1998, 1997 and 1996, respectively, (iv) weighted average expected life of 5.1 years, 5.1 years and 4.8 years for 1998, 1997 and 1996, respectively, and (v) assumed forfeiture rate of 50%, 58% and 64%, respectively, for 1998, 1997 and 1996. During 1998, 1997 and 1996, approximately 103,000, 161,000 and 247,000 shares, respectively, were purchased under the Company's ESPP at weighted average exercise prices of $13.94, $5.07 and $2.40, respectively. At December 31, 1998, 1997 and 1996 there were approximately 427,000, 530,000 and 691,000 shares, respectively, available for future grants. The weighted average fair values of ESPP shares granted in 1998, 1997 and 1996 were $7.37, $2.23 and $1.18 per share, respectively. In 1997, the Company granted warrants to purchase 521,000 shares of Common Stock. The grant date fair values of these warrants was $7.44 per share. There were no warrants granted in 1998. See Note N. The Company has a 401(k) tax-deferred savings plan under which eligible employees may authorize from 2% to 12% of their compensation to be invested in employee-elected investment funds managed by an independent trustee. As determined annually by the Board of Directors, the Company may contribute matching funds of up to 50% of the employees' payroll deductions. During 1998, 1997 and 1996, the Company's contributions amounted to $654,000, $401,000 and $187,000, respectively. F-17 60 NOTE L --EARNINGS PER SHARE The following table provides a reconciliation of the numerators and denominators of the basic and diluted per-share computations for the years ended December 31, 1998, 1997 and 1996:
NET INCOME (LOSS) SHARES PER-SHARE (NUMERATOR) (DENOMINATOR) AMOUNT ----------------------------------------------------- FOR THE YEAR ENDED DECEMBER 31, 1998: (thousands except per-share amount) Basic EPS ........................... $ 39,209 53,518 $ 0.73 Effect of Dilutive Securities - Stock Options and Warrants ............ -- 5,190 -------- -------- Diluted EPS ......................... $ 39,209 58,708 $ 0.67 ======== ======== ======== FOR THE YEAR ENDED DECEMBER 31, 1997: Basic EPS ........................... $ 28,996 50,408 $ 0.58 Effect of Dilutive Securities - Stock Options and Warrants ............ -- 6,434 -------- -------- Diluted EPS ......................... $ 28,996 56,842 $ 0.51 ======== ======== ======== FOR THE YEAR ENDED DECEMBER 31, 1996: Basic EPS ........................... $ (2,511) 47,100 $ (0.05) Effect of Dilutive Securities - Stock Options and Warrants ............ -- -- -------- -------- Diluted EPS ......................... $ (2,511) 47,100 $ (0.05) ======== ======== ========
The computation of diluted number of shares excludes unexercised stock options and warrants that are anti-dilutive. The numbers of such shares excluded were 1.3 million, 89,000 and 9.9 million for the years ended December 31, 1998, 1997 and 1996, respectively. There were no transactions subsequent to December 31, 1998, which, had they occurred prior to December 31, 1998, would have changed materially the number of shares in the basic or diluted earnings per share computations. F-18 61 NOTE M --OPERATING SEGMENT INFORMATION The Company has adopted Statement of Financial Accounting Standards (SFAS) No. 131, "Disclosures about Segments of an Enterprise and Related Information," which requires the reporting of certain financial information by operating segment and geographical area. The Company's reportable operating segments are strategic operating units that are managed separately due to their different products or geographic location. The Network Switching operating segment develops and supplies the Company's EAGLE product, a high-capacity packet switching platform. The Intelligent Network Diagnostics operating segment develops and supplies diagnostic products for intelligent networks. The Data Network Diagnostics operating segment develops and supplies diagnostic products for data networks (see Note P). The Japan Diagnostics operating segment sells the Company's and third parties' diagnostic products to customers in Japan. Transfers between operating segments are made at prices reflecting market conditions. Geographic areas for which revenues from external customers are reported are determined by the destination of the sale. F-19 62 The Company's operating segments and geographical information are as follows (in thousands): OPERATING SEGMENTS
Net Sales ------------------------------------------------------- 1998 1997 1996 ------------------------------------------------------- (thousands) Network Switching ................. $ 116,259 $ 71,941 $ 25,359 Intelligent Network Diagnostics ... 33,116 29,905 20,790 Data Network Diagnostics .......... 8,100 11,552 15,427 Japan Diagnostics ................. 21,981 16,384 15,746 Intercompany Eliminations ......... (2,787) (4,642) (5,196) --------- --------- --------- Total net sales ............... $ 176,669 $ 125,140 $ 72,126 ========= ========= =========
Operating Income ---------------------------------------------------- 1998 1997 1996 ---------------------------------------------------- (thousands) Network Switching ................. $ 47,186 $ 22,591 $ (598) Intelligent Network Diagnostics ... 11,544 11,956 3,516 Data Network Diagnostics .......... (3,466) (2,196) (1,656) Japan Diagnostics ................. 4,342 3,450 4,156 Intercompany Eliminations ......... 283 152 102 General Corporate ................. (8,951) (8,327) (7,321) -------- -------- -------- Total operating income (loss) . $ 50,938 $ 27,626 $ (1,801) ======== ======== ========
ENTERPRISE WIDE DISCLOSURES The following table sets forth, for the periods indicated, revenues from external customers by principal product line:
1998 1997 1996 -------------------------------------------------- Network Switching ............................. $116,259 $ 71,941 $ 25,359 Intelligent Network Diagnostics ............... 46,305 36,570 25,586 Data Network Diagnostics ...................... 14,105 16,629 21,181 -------- -------- -------- Total revenues from external customers .... $176,669 $125,140 $ 72,126 ======== ======== ========
The following table sets forth, for the periods indicated, revenues from external customers by geographic territory:
1998 1997 1996 -------- -------- -------- North America ................................. $121,288 $ 91,404 $ 41,853 Japan ......................................... 21,981 16,384 15,746 Europe ........................................ 7,738 6,687 6,498 Rest of World ................................. 25,662 10,665 8,029 -------- -------- -------- Total revenues from external customers .... $176,669 $125,140 $ 72,126 ======== ======== ========
F-20 63 The following table sets forth, for the periods indicated, long-lived assets by geographic area in which the Company holds assets:
1998 1997 1996 ----------------------------------------------- United States ...... $12,348 $ 9,370 $ 7,375 Japan .............. 1,216 996 1,387 Other .............. 51 -- 35 ------- ------- ------- Total Assets ... $13,615 $10,366 $ 8,797 ======= ======= =======
There were no customers accounting for 10% or more of revenues in 1998. Sales to one customer accounted for 23% of revenues in 1997 and included sales from the Network Switching, Intelligent Network Diagnostics and Data Network Diagnostics operating segments. Sales to one customer for the Japan Diagnostics operating segment accounted for 12% of revenues in 1996. NOTE N -- COMMON STOCK On July 6, 1998, the Company effected a two-for-one stock split. All references to number of shares and per-share amounts have been restated to reflect the stock split. At December 31, 1998 and 1997, the Company had warrants outstanding to purchase an aggregate of 319,000 and 409,000 shares of its Common Stock, respectively, as more fully discussed as follows. In July 1997, the Company issued warrants to purchase a total of 360,000 shares of its Common Stock to five directors and one corporate officer at $14.08 per share. These warrants vest and become exercisable in 12 equal quarterly installments beginning on September 30, 1997. At December 31, 1997, 355,000 of these warrants were outstanding. During 1998, 36,000 of these warrants were exercised, and 319,000 were outstanding at December 31, 1998. In January 1997, the Company issued warrants to a director and corporate officer to purchase 161,000 shares of its Common Stock at $4.67 per share, all of which vested in 1997. At December 31, 1997, 54,000 of these warrants were outstanding, all of which were exercised during 1998. In February 1998, the Company granted a restricted stock award of 30,000 shares of its Common Stock to a director and corporate officer in connection with the commencement of his employment. The restricted shares vest in five equal annual installments beginning in February 1999. This award was valued at $607,000, which is being recognized as stock-based compensation expense over the term of the award. In January 1998, the Company granted a restricted stock award for an aggregate of 15,000 shares of its Common Stock to its five non-employee directors. The restricted shares became fully vested in January 1999. This award was valued at $240,000, all of which was recognized as stock-based compensation expense in 1998. F-21 64 NOTE O -- QUARTERLY FINANCIAL SUMMARY (UNAUDITED)
For the Years Ended December 31, QUARTERS First Second Third Fourth ---------------------------------------------------------------------- (thousands, except per-share data) 1998 Revenues ............................... $ 34,908 $ 42,949 $ 49,658 $ 49,154 Gross profit ........................... 23,503 28,818 32,998 32,448 Income before provision for income taxes ................................. 10,735 13,488 16,734 14,594 Net income ............................. 6,656 8,365 10,372 13,816 Earnings per share: Basic .............................. $ 0.13 $ 0.16 $ 0.19 $ 0.26 Diluted ............................ 0.11 0.14 0.18 0.24 1997 Revenues ............................... $ 20,577 $ 25,077 $ 36,112 $ 43,374 Gross profit ........................... 13,899 16,065 23,763 29,889 Income before provision for income taxes ................................ 2,397 3,846 9,532 13,966 Net income ............................. 1,628 3,370 15,061 8,937 Earnings per share: Basic .............................. $ 0.03 $ 0.07 $ 0.30 $ 0.17 Diluted ............................ 0.03 0.06 0.26 0.15
Tekelec typically operates with a limited backlog, and most of its revenues in each quarter result from orders received in that quarter. Further, Tekelec typically generates a significant portion of its revenues for each quarter in the last month of the quarter. Tekelec establishes its expenditure levels based on its expectations as to future revenues, and if revenue levels were to fall below expectations this would cause expenses to be disproportionately high. Therefore, a drop in near-term demand would significantly affect revenues, causing a disproportionate reduction in profits or even losses in a quarter. Tekelec's quarterly operating results may fluctuate as a result of a number of factors, including general economic and political conditions (such as recessions in the U.S. and Japan), capital spending patterns of Tekelec's customers, including shifts in such patterns as a result of customers' deferral of product purchases until the year 2000, increased competition, variations in the mix of sales, fluctuation in proportion of foreign sales, and announcements of new products by Tekelec or its competitors. NOTE P -- SUBSEQUENT EVENT In January 1999, the Company announced a plan to scale down its Data Network Diagnostics Division and integrate the division into its Intelligent Network Diagnostics Division. In connection with this activity the Company will record a charge of approximately $1.8 million in the first quarter of 1999, which includes a workforce reduction of 25 employees and the write-off of certain assets related to the Data Network Diagnostics Division. F-22 65 REPORT OF INDEPENDENT ACCOUNTANTS ON FINANCIAL STATEMENT SCHEDULE To The Shareholders And Board Of Directors Of Tekelec Our report on the consolidated financial statements of Tekelec and its subsidiaries is included on page F-1 of this Form 10-K. In connection with our audits of such financial statements, we have audited the related financial statement schedule at December 31, 1998, 1997 and 1996 and for each of the three years in the period ended December 31, 1998, as included on page S-2 of this Form 10-K. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information required to be included therein. /s/ PricewaterhouseCoopers LLP Woodland Hills, California February 2, 1999 S-1 66 SCHEDULE II TEKELEC VALUATION AND QUALIFYING ACCOUNTS AND RESERVES
Column A Column B Column C Column D Column E - --------------------------------------------------------------------------------------------------------------------------------- Additions Balance at Charged to Charged to Deductions Balance at Beginning Costs and Other and other End of Description of Period Expenses Accounts Adjustments Period - --------------------------------------------------------------------------------------------------------------------------------- (thousands) Year ended December 31, 1996: Allowance for doubtful accounts $ 391 $ -- $ -- $ 23 $ 368 Product warranty ............... 879 1,083 -- 407 1,555 Inventory provision ............ 1,165 391 -- 241 1,315 Deferred tax valuation allowance 10,271 4,719 -- -- 14,990 Year ended December 31, 1997: Allowance for doubtful accounts $ 368 $ 101 $ -- $ -- $ 469 Product warranty ............... 1,555 655 -- 990 1,220 Inventory provision ............ 1,315 775 -- 750 1,340 Deferred tax valuation allowance 14,990 -- -- 12,742 2,248 Year ended December 31, 1998: Allowance for doubtful accounts $ 469 $ 475 $ -- $ 181 $ 763 Product warranty ............... 1,220 2,388 -- 1,261 2,347 Inventory provision ............ 1,340 1,021 -- 621 1,740 Deferred tax valuation allowance 2,248 -- -- 2,248 --
S-2 67 EXHIBIT INDEX
Sequentially Exhibit Numbered Number Description Page - ------ ----------- ---- 10.7 Schedule of Distributors................................. 10.8 Amendment No. 1 to Tekelec Officer Severance Plan dated March 8, 1999............................................ 10.16 Lease dated as of November 6, 1998 between the Registrant and Weeks Realty, L.P., covering the Company's facilities in Morrisville, North Carolina........................... 10.17 Employment Offer Letter dated January 13, 1999 between the Registrant and Teresa Pippin.......................... 21.1 Subsidiaries of the Registrant........................... 23.1 Consent of PricewaterhouseCoopers LLP.................... 27.1 Financial Data Schedule for the year ended December 31, 1998........................................
EX-10.7 2 EXHIBIT 10.7 1 TEKELEC SCHEDULE OF DISTRIBUTORS SUBJECT TO STANDARD INTERNATIONAL DISTRIBUTION AGREEMENT DISTRIBUTOR TERRITORY Altech Instruments Pty, Ltd. South Africa Bynet Israel Eagle Telecom Puerto Rico Etek Columbia Euro Tech Far East, Ltd. Hong Kong Grupo Ingedigit Venezuela Heli-Ocean Technology Taiwan HITECH Brazil Industrial Electro-Communications, Inc. Philippines KDC Corporation South Korea Lagercrantz Communication Sweden Medcom, S.A. de C.V. Mexico MIBO Integra Slovenia Nichecom New Zealand Pernec Corp. Malaysia PT Tridaya Setiamanungeal Indonesia Reycom Electronica SRL Argentina Sintel Norway, Denmark Sirretta LTD Great Britain ST Computer Systems Singapore Tecono Oy Finland, Baltics Tekelec Airtronic SPA Italy Tekelec Airtronic B.V. The Netherlands,Luxembourg,Belgium Tekelec Airtronic GMBH Germany Tekelec-Airtronic, S.A. France Tekelec Australia, Pty. Ltd. Australia Tekelec China China Tekelec Espana, SA Spain and Portugal Tenet India Twintech Design Co. Ltd. Thailand
EX-10.8 3 EXHIBIT 10.8 1 EXHIBIT 10.8 AMENDMENT NO. 1 TO TEKELEC OFFICER SEVERANCE PLAN Section(d) of the Tekelec Officer Severance Plan is hereby amended to read in its entirety as follows: "(d) (i) If in connection with, or within two years following, a Change in Control of the Company, (A) an Eligible Officer's employment with the Company (or the Acquiror) is terminated by the Company (or the Acquiror) without Cause or (B) an Eligible Officer terminates his/her employment with the Company (or the Acquiror) for "Good Reason," then all of such Eligible Officer's then unvested options and other rights to purchase or acquire securities or other property of the Company or the Acquiror (including but not limited to any options or rights assumed by the Acquiror in connection with the Change in Control), other than any such options or rights that were granted after the effective date of the Change in Control, shall automatically vest and become immediately exercisable in full and all of such Eligible Officer's options and rights to purchase securities or other property of the Company and/or the Acquiror (other than any such options and rights that are granted after the effective date of the Change in Control, which options and rights shall be governed by the terms thereof) shall be exercisable for a period of one year following the effective date of such Eligible Officer's termination of employment with the Company or the Acquiror, as the case may be (notwithstanding any terms or provisions to the contrary in any applicable stock option plan, stock option agreement or other plan or agreement); provided, however, that any such option or other right shall not be exercisable after the expiration of the term of such option or other right set forth in the option agreement or other agreement evidencing such right. (ii) If in connection with a Change in Control of the Company described in Section 2(e)(iii) of this Plan, an Eligible Officer is not offered, at least ten days prior to the effective date of such Change in Control, employment with the Acquiror after the effective date of the Change in Control on terms and conditions generally no less favorable to the Eligible Officer than the terms and conditions of his/her 2 employment in effect with the Company immediately prior to the effective date of the Change in Control, then all of such Eligible Officer's unvested options and other rights to purchase or acquire the Company's securities that are outstanding immediately prior to the effective date of the Change in Control shall automatically vest and become immediately exercisable in full and all of such Eligible Officer's options and rights to purchase or acquire the Company's securities that are outstanding immediately prior to the effective date of the Change in Control shall be exercisable for a period of one year following the effective date of such Change in Control (notwithstanding any terms or provisions to the contrary in any applicable stock option plan, stock option agreement or other plan or agreement); provided, however, that any such option or other right shall not be exercisable after the expiration of the term of such option or other right set forth in the option agreement or other agreement evidencing such right." Dated: March 8, 1999 EX-10.16 4 EXHIBIT 10.16 1 EXHIBIT 10.16 LEASE AGREEMENT BY AND BETWEEN TEKELEC, as Tenant AND WEEKS REALTY, L.P., as Landlord PARAMOUNT CENTER, MORRISVILLE, NC 2 TABLE OF CONTENTS 1. PREMISES AND TERM. 2. BASE RENT, TAXES, INSURANCE, COMMON AREA MAINTENANCE, AND SECURITY DEPOSIT. 3. COMPLIANCE WITH LAWS AND USE. 4. REPAIR AND MAINTENANCE. 5. ALTERATIONS. 6. SIGNS. 7. INSPECTION. 8. UTILITIES. 9. ASSIGNMENT AND SUBLETTING. 10. FIRE AND CASUALTY DAMAGE. 11. LIABILITY. 12. CONDEMNATION. 13. HOLDING OVER. 14. QUIET ENJOYMENT. 15. EVENTS OF DEFAULT. 16. REMEDIES. 17. LANDLORD'S LIEN. 18. MORTGAGES. 19. MECHANIC'S LIENS. 20. NOTICES. 21. BROKER'S CLAUSE. 22. LANDLORD'S LIABILITY. 23. RULES AND REGULATIONS. 24. HAZARDOUS MATERIALS. 25. [INTENTIONALLY DELETED.] 26. COVENANT OF TENANT. 27. MISCELLANEOUS. i 3 EXHIBIT A- THE LAND EXHIBIT B- FLOOR PLAN EXHIBIT C- PLANS AND SPECIFICATIONS EXHIBIT C-1 - SCHEDULE EXHIBIT C-2 - DESIGN CRITERIA EXHIBIT D- RULES AND REGULATIONS EXHIBIT E- ADJACENT PROPERTY ii 4 LEASE AGREEMENT THIS LEASE AGREEMENT (the "Lease"), is made and entered into as of the 6th day of November, 1998, by and between TEKELEC, a California corporation (the "Tenant"), and WEEKS REALTY, L.P., a Georgia limited partnership authorized to do business in North Carolina as WEEKS REALTY LIMITED PARTNERSHIP (the "Landlord"). W I T N E S S E T H: 1. PREMISES AND TERM. In consideration of the obligation of Tenant to pay rent as herein provided, and in consideration of the other terms, provisions and covenants hereof, Landlord hereby leases to Tenant and Tenant hereby leases from Landlord, certain premises comprised of 152,372 rentable square feet in a building to be constructed in a development known as Paramount Center, Morrisville, NC (the "Building") situated on certain land (the "Land") in the County of Wake, State of North Carolina, more particularly described on Exhibit A, attached hereto and incorporated herein by reference, together with all rights, privileges, easements, appurtenances and immunities belonging to or in any way pertaining to the premises (hereinafter referred to as the "Premises"). The obligations of Tenant shall commence hereunder upon the Commencement Date and the delivery of the Premises by Landlord to Tenant. A floor plan of the Premises is attached hereto and made a part hereof as Exhibit B. Except as expressly set forth herein, the Premises are leased by Tenant "as is". Any upfit performed by Landlord to prepare the Premises for occupancy by Tenant shall be conducted in a good and workmanlike manner. The taking of possession by Tenant shall be deemed conclusively to establish that the Premises and any improvements thereto are in good and satisfactory condition as of when possession was taken. Tenant further acknowledges that no representations as to the repair of the Premises, nor promises to alter, remodel or improve the Premises have been made by Landlord, unless such representations or promises are expressly set forth in this Lease. Within five days of the Commencement Date, Tenant shall, upon demand of Landlord, execute and deliver to Landlord a letter of acceptance of delivery of the Premises, acknowledging the Commencement Date and Termination Date, the square footage leased, the square footage of the Building, and the dates for increase in payment of base rent hereunder. The Letter shall reflect an adjustment of the Commencement Date and the Termination Date hereunder to reflect the corrected dates for purposes of this Lease in the event the Premises are not occupied on the Commencement Date provided in this Lease. Notwithstanding anything to the contrary contained herein, Tenant shall not be required to take any corrective action with respect to any condition or design which constitutes a latent defect in the Premises by virtue of Tenant's acceptance of the Premises. If any latent defect affects Tenant's quiet enjoyment of the Premises, constitutes a dangerous condition or is required to be corrected by law, then Landlord will undertake the appropriate corrective action at Landlord's cost. As between Landlord and Tenant, nothing in this paragraph shall be construed to impose on Tenant or subject Tenant to any liability to any third party for injury to property or persons arising out of latent defects unless such latent defects were created by Tenant or its employees, agents or contractors in the course of repair work or physical improvements or alterations to the Premises performed by Tenant or its employees, agents or contractors. As between Landlord and Tenant, nothing in this paragraph shall be construed to impose on Landlord or subject Landlord to any liability to any third party for injury to property or persons arising out of latent defects unless such latent defects were created by Landlord or its employees, agents or contractors in the course of construction of the upfit of the Premises by Landlord, its employees, agents or contractors. All upfit of the Premises shall be performed by Landlord in accordance with plans and specifications for the Premises (the "Plans") which are subject to the approval of Landlord and Tenant, a copy of which shall be attached hereto and made a part hereof as Exhibit C. Landlord shall provide Tenant with an allowance in an amount up to .50 per rentable square foot of the Premises for use by Tenant in its obtaining drawings for the upfit of the Premises. The drawings obtained by Tenant are subject to the review and approval of Landlord. The contractor of Landlord shall use reasonable efforts to solicit three bids from subcontractors for each of the major trades performing upfit of the Premises, including, mechanical, electrical, plumbing, and drywall. 1 5 Landlord shall provide Tenant with an upfit allowance for the Premises in the amount of $20.00 per rentable square foot of the Premises (the "Upfit Allowance"). The Upfit Allowance shall be used to upfit the Premises based upon the provisions of Exhibit C. The base building design shall be in accordance with the Design Criteria, attached hereto and made a part hereof as Exhibit C-2. Should the upfit costs for the Premises be less than the Upfit Allowance, Tenant shall be allowed to upgrade the improvements to the Premises, as reasonably approved by Landlord, to fully utilize the entire Upfit Allowance, to apply any or all of the remaining Upfit Allowance to the costs of Tenant for architectural fees, or Tenant may elect to have Landlord apply the remaining Upfit Allowance (together with the reduced financing costs and commissions of Landlord) multiplied by a factor of eleven and one quarter percent (11.25%) to reduce the base rent due hereunder, proportionately over the entire Lease term, all as reasonably determined by Landlord. Should the upfit costs for the Premises be greater than the Upfit Allowance, the excess over the Upfit Allowance up to an amount equal to $25.00 per rentable square foot of the Premises (together with the financing costs and commissions of Landlord) shall be amortized and repaid plus interest at a rate of ten and one-half percent (10.5%) per annum, proportionately over the entire Lease term as Additional Rent, all as reasonably determined by Landlord (and any current increases in base rent each year shall remain at the same percentage increase). Any cost and expense incurred by Landlord in upfitting the Premises in excess of $25.00 per rentable square foot of the Premises (the "Excess") shall be borne by Tenant and payable by Tenant to Landlord within thirty days of demand by Landlord to Tenant. Failure by Tenant to pay the Excess upon demand as aforesaid is an event of default hereunder, and in addition, to all other remedies available to Landlord at law, or in equity for such event of default, Landlord may recover from Tenant the cost it incurs in preparing the Premises for another tenant which amount shall be reduced by any amounts that Landlord may recoup from a new tenant. Attached hereto as Exhibit C-1 is a schedule for the upfit of the Premises, including the dates by which Tenant must make certain decisions regarding the Premises (the "Schedule"). Landlord and Tenant shall use diligent good faith efforts to ensure construction of the Premises remains on schedule in accordance with the Schedule, provided, however, that in no event shall the failure of Landlord to deliver the Premises to Tenant on or prior to the Commencement Date (as hereinafter defined) constitute a default by Landlord under this Lease. TO HAVE AND TO HOLD the same for a term commencing on the date a temporary certificate of occupancy is issued for the Premises (the "Commencement Date"), and ending on the date that is one hundred and twenty months (120) thereafter, unless sooner terminated pursuant to the provisions hereof (the "Termination Date"). The Commencement Date and Termination Date shall be extended due to delays beyond the control of Landlord, including, but not limited to, acts or omissions of Tenant, force majeure, delays in obtaining permits, licenses or other approvals, acts of God, delays caused by Tenant, and/or inclement weather, including site conditions or winter weather that prohibit or adversely affect construction (the "Excused Delays"). In the event the Commencement Date has not occurred by November 1, 1999 due to acts or omissions of Landlord (with such date being extended for any Excused Delays), Landlord shall credit against the first installment(s) of base rent due hereunder from Tenant an amount equal to one day's base rent for each day the Commencement Date is delayed. In the event the Commencement Date has not occurred by November 1, 1999 due to acts or omissions of Tenant (with such date being extended for any Excused Delays), Landlord shall receive from Tenant on the Commencement Date an amount equal to one day's base rent for each day the Commencement Date is delayed. The aforesaid monetary amounts shall act as a sole and exclusive remedy to each party hereto for any delay in the Commencement Date. Option to Renew. Provided there is no default or event of default by Tenant under the Lease, Tenant shall have the option to renew the term of the Lease for one renewal term of five years (the "Renewal Term") at the then prevailing market rate, as determined by Landlord provided Tenant shall provide Landlord written notice of its desire to renew the term of the Lease at least nine months prior to the Termination Date. Failure of Tenant to provide Landlord with the aforesaid written notice shall render the rights of Tenant to renew or extend the term of this Lease null and void. Upon the exercise by Tenant of its option to renew, all of the terms and conditions of this Lease shall apply with base rent being the then prevailing market rate, and 2 6 Tenant shall have no further rights to renew or extend the term of this Lease. The date of the commencement of the Renewal Term shall be the date after the end of the current Lease term. Right to Terminate Prior Leases. Effective the Commencement Date herein and provided that (i) there is no default or event of default under this Lease, the Lease by and between Landlord and Tenant for Enterprise Center II dated February 24, 1995 (the Lease, and all amendments thereto shall be referred to herein collectively as the "Enterprise II Lease"), or the Lease by and between Landlord and Tenant for Enterprise Center IV dated July 28, 1998 (the Lease and all amendments thereto shall be referred to herein collectively as "Enterprise IV Lease"), and (ii) Tenant shall have entered into occupancy of the Premises upon delivery of same by Landlord as provided herein, Landlord will (1) terminate the Enterprise IV Lease and the Enterprise II Lease, and (2) release Tenant from any and all of its obligations under the Enterprise II and IV Leases (other than the obligation of Tenant to pay rent and all other obligations thereunder until the termination of each such Lease at the rates and in the amounts then in effect under such Leases, and any other obligations that expressly survive such termination, as provided in such Leases). Adjacent Land. During calendar year 1999 for so long as there shall be no default or event of default under the Lease by Tenant, Landlord shall refrain from leasing to a third party certain land of Landlord located adjacent to the Land as more particularly described on Exhibit E, attached hereto and made a part hereof (the "Adjacent Property"). During calendar year 2000 for so long as there shall be no default or event of default under the Lease by Tenant and provided Tenant shall pay the interest charges of Landlord and the ad valorem taxes of Landlord for the Adjacent Property, Landlord shall refrain from leasing the Adjacent Property to a third party. During calendar year 2001 for so long as there shall be no default or event of default under the Lease by Tenant, and provided Tenant shall continue to pay the interest charges of Landlord and the ad valorem taxes of Landlord for the Adjacent Property and in addition, Tenant shall pay Landlord an amount equal to an eleven percent (11%) return on the investment of Landlord in the Adjacent Property, as reasonably determined by Landlord, Landlord shall refrain from leasing the Adjacent Property to a third party. Failure of Tenant to comply strictly with any of the aforesaid conditions precedent shall render null and void all rights of Tenant hereunder with respect to the Adjacent Property, and Landlord may lease the Adjacent Property without any obligation or liability to Tenant. Should Tenant fail to lease the Adjacent Property on or prior to December 31, 2001, Tenant shall have no further rights with respect thereto and Landlord may lease the Adjacent Property without any obligation or liability to Tenant. 2. BASE RENT, TAXES, INSURANCE, LAWN DRIVEWAY AND PAVED PARKING AREA MAINTENANCE, SECURITY DEPOSIT. (a) Tenant agrees to make monthly payments of base rent to Landlord for the Premises ("base rent"), in advance, without demand, deduction or offset, in lawful money of the United States, at an annual rate in the following amounts: Year 1 $11.95 per rentable square foot of the Premises. Year 2 $11.95 per rentable square foot of the Premises. Year 3 $12.31 per rentable square foot of the Premises. Year 4 $12.68 per rentable square foot of the Premises. Year 5 $13.06 per rentable square foot of the Premises. Year 6 $13.45 per rentable square foot of the Premises. Year 7 $13.85 per rentable square foot of the Premises. Year 8 $14.27 per rentable square foot of the Premises. Year 9 $14.70 per rentable square foot of the Premises. Year 10 $15.14 per rentable square foot of the Premises. Rent payments for any fractional calendar month at the end, or the beginning of the term of the Lease, shall be prorated. The first lease year hereunder shall commence on the Commencement Date and shall end on the last day of the twelfth full calendar month thereafter. The first lease year shall include the first twelve (12) full calendar months of the term and any partial calendar month occasioned by the commencement of rent on a date other than the first 3 7 day of a calendar month. Each successive lease year shall commence on the anniversary date of the first day of the first full calendar month of the first lease year. (b) TAXES Beginning on the Commencement Date and continuing for the entire term hereof, Tenant shall pay to Landlord, as additional rental, Tenant's pro rata share of all taxes, assessments and governmental charges of any kind or nature whatsoever levied or assessed against the Land and the Building by any municipality, county, or other governmental agency (the "TAXES"), which shall be based upon the ratio of the rentable square footage of the Building occupied by Tenant to the total rentable square footage of the Building. Tenant shall pay its pro rata share of the Taxes in advance in equal monthly installments in such amounts as are reasonably estimated for each year by Landlord at the beginning of each calendar year during the term, each such installment being made along with payments of base rent hereunder. Tenant's share of Taxes for the initial year of the term is estimated by Landlord to be $.84 per square foot per year or $10,666.04 per month. Landlord shall promptly notify Tenant of the total actual taxes assessed against the Land and the Building, attaching a copy of the tax or special assessment bill and shall specify (i) Tenant's pro rata share thereof, and (ii) the excess, if any, of Tenant's pro rata share over Landlord's estimation of Taxes for such tax year. Tenant shall pay the excess amount so specified to Landlord within fifteen (15) days following receipt by Tenant of Landlord's letter. Failure by Tenant to pay Landlord such amount within the period designated shall constitute a non-payment of rent by Tenant and a default of Tenant's obligation under the Lease, and Landlord shall be entitled to all remedies provided for in this Lease upon default in payment of rent. If the first year for which Tenant's pro rata share of the Taxes are due or the final year of the term hereof do not coincide with the calendar year, Tenant's pro rata share of the Taxes for the portion of that year shall be prorated according to the number of months during which Tenant was in possession of the Premises. In the event Landlord's estimation of Taxes shall exceed the actual amount of Taxes, the amount paid by Tenant for such year shall be adjusted between Landlord and Tenant and Tenant shall receive a credit against the next due installment of rent hereunder in such excess amount unless this Lease has expired or been otherwise terminated, in which event Landlord shall pay to Tenant such excess amount within fifteen (15) days following receipt by Tenant of Landlord's letter. (c) INSURANCE Beginning on the Commencement Date and continuing for the entire term hereof, Tenant shall pay to Landlord, as additional rental, Tenant's pro rata share of the insurance premiums (the "Insurance Expense") for commercial general liability, fire and extended coverage on the Building and the Land, which shall be based upon the ratio of the rentable square footage of the Building to the total rentable square footage of the Building. Tenant shall pay its pro rata share of the Insurance Expense in advance in equal monthly installments in such amounts as are reasonably estimated by Landlord at the beginning of each calendar year during the term, each such installment being made along with payments of base rent hereunder. Tenant's pro rata share of the Insurance Expense for the initial year of the term is estimated by Landlord to be $.03 per square foot per year or $380.93 per month. Landlord shall promptly notify Tenant of the total amount of the actual Insurance Expense, and at Tenant's request, attaching a copy of the Insurance Expense invoice related thereto and shall specify (i) Tenant's pro rata share thereof, and (ii) the excess, if any, of Tenant's pro rata share over Landlord's estimation of the Insurance Expense for such year. Tenant shall pay the excess amount so specified to Landlord within fifteen (15) days following receipt by Tenant of Landlord's letter. Failure by Tenant to pay Landlord such amount within the period designated shall constitute a non-payment of rent by Tenant and a default of Tenant's obligation under the Lease, and Landlord shall be entitled to all remedies provided for in this Lease upon default in payment of rent. If the first year for which Tenant's pro rata share of the Insurance Expense is due or the final year of the term hereof do not coincide with the calendar year, Tenant's pro rata share of the Insurance Expense for the portion of that year shall be prorated according to the number of months during which Tenant was in 4 8 possession of the Premises. In the event Landlord's estimation of the Insurance Expense shall exceed the actual amount of the Insurance Expense, the amount paid by Tenant for such year shall be adjusted between Landlord and Tenant and Tenant shall receive a credit against the next due installment of rent hereunder in such excess amount unless this Lease has expired or been otherwise terminated, in which event Landlord shall pay to Tenant such excess amount within fifteen (15) days following receipt by Tenant of Landlord's letter. (d) LAWN, DRIVEWAY, INTERIOR COMMON AREA, AND PAVED PARKING AREA MAINTENANCE Beginning on the Commencement Date and continuing for the entire term hereof, Tenant shall pay to Landlord, as additional rental, Tenant's pro rata share of the cost to Landlord of the lawn, interior common area, and driveway and paved parking area maintenance related to the Land upon which the Premises are located (the "CAM Expense") which shall be based upon the ratio of the rentable square footage of the Building occupied by Tenant to the total rentable square footage of the Building. The CAM Expense shall include, without limitation, the costs of lawn maintenance, driveway and parking area maintenance for the Premises and for the streets and roadways providing access to the Building and the Land, management and supervisory fees, exterior lighting maintenance, snow removal, waste removal, repair and maintenance of paved areas, cleaning supplies, miscellaneous building supplies, sweeper brushes, supplies for materials used in common by all tenants of the complex in which the Premises are located, external paint for the Building, exterior and interior common area maintenance, elevator repair and maintenance, external plumbing for the Building, exterior lighting in common areas, insect and pest extermination, security guards for the complex in which the Premises are located, signs for the complex in which the Premises are located, fuel for vehicles and street sweepers used by Landlord in the complex in which the Premises are located and miscellaneous maintenance expenses. Tenant shall pay its pro rata share of the CAM Expense in advance in equal monthly installments in such amounts as are reasonably estimated for each year of the term of this Lease by Landlord at the beginning of each calendar year during the term, each such installment being made along with payments of base rent hereunder. Tenant's pro rata share of the CAM Expense for the initial year of the term is estimated by Landlord to be $1.71 per square foot per year or $21,713.01 per month. Failure by Tenant to pay Landlord said amount within the period designated shall constitute a non-payment of rent by Tenant and a default of Tenant's obligation under the Lease, and Landlord shall be entitled to all remedies provided for in this Lease upon default in payment of rent. In the event Landlord's estimation of the CAM Expense shall exceed the actual amount thereof, calculated on an annual basis, the amount paid by Tenant for such year shall be adjusted between Landlord and Tenant and Tenant shall receive a credit against the next due installment of rent hereunder in such excess amount unless this Lease has expired or been otherwise terminated, in which event Landlord shall pay to Tenant such excess amount within fifteen (15) days following the receipt by Tenant of Landlord's letter. Landlord shall notify Tenant on an annual basis of the actual CAM Expense of Tenant for the Premises. (e) RECONCILIATION OF EXPENSES. Landlord shall promptly notify Tenant of the total actual (i) Taxes assessed against the Land and the Building, (ii) Insurance Expense, and (iii) CAM Expense, attaching a copy of the tax or special assessment bill, the insurance invoice, or the calculation of CAM Expense, as applicable, and shall specify (i) Tenant's pro rata share thereof, and (ii) the excess, if any, of Tenant's pro rata share over Landlord's estimation for each calendar year. Tenant shall pay the excess amount so specified to Landlord within fifteen (15) days following receipt by Tenant of Landlord's letter. Failure by Tenant to pay Landlord such amount within the period designated shall constitute a non-payment of rent by Tenant and a default of Tenant's obligation under the Lease, and Landlord shall be entitled to all remedies provided for in this Lease upon default in payment of rent. If the first year for which Tenant's pro rata share of Taxes, Insurance Expense, or CAM Expense (hereinafter collectively, the "Expenses") are due or the final 5 9 year of the term hereof do not coincide with the calendar year, Tenant's pro rata share of Expenses for the portion of that year shall be prorated according to the number of months during which Tenant was in possession of the Premises. In the event Landlord's estimation of Expenses shall exceed the actual amount of Expenses, the amount paid by Tenant for such year shall be adjusted between Landlord and Tenant and Tenant shall receive a credit against the next due installment of rent hereunder in such excess amount unless this Lease has expired or been otherwise terminated, in which event Landlord shall pay to Tenant such excess amount within fifteen (15) days following receipt by Tenant of Landlord's letter. (f) [INTENTIONALLY DELETED] (g) PROVISIONS TO SURVIVE LEASE TERMINATION All outstanding obligations of Tenant under the provisions of this Section 2 shall survive the termination of the Lease, for whatever reason, or any extension or renewal hereof. 3. COMPLIANCE WITH LAWS AND USE. (a) The Premises shall be used only for the following purposes: for a service center, research and development, and light manufacturing, the operation of a cafeteria for use by its employees and visitors, and general office use related thereto. Tenant shall conduct no activity that will result in the discharge of harmful gases, affluents or other wastes or toxic substances. Outside storage, including, without limitation, trucks and other vehicles, is prohibited without Landlord's prior written consent, not to be unreasonably withheld. Tenant shall at its sole cost and expense obtain any and all business licenses and permits necessary for its use of the Premises. Tenant shall comply with all governmental laws, ordinances and regulations relating to the use of the Premises, and shall promptly comply with all governmental orders and directives for the correction, prevention and abatement of nuisances in or upon, or connected with, the Premises, all at Tenant's sole expense, only if caused by Tenant, its agents, employees, licensees, or invitees. Tenant shall not permit any objectionable or unpleasant odors, smoke, dust, gas, noise or vibrations to permeate in or emanate from the Premises, nor take any other action which would constitute a nuisance or would disturb or endanger any other tenants of the Building or unreasonably interfere with their respective premises. Without Landlord's prior written consent, Tenant shall not receive, store or otherwise handle any product, material or merchandise which is explosive, inflammable, combustible, corrosive, caustic or poisonous, other than in the normal course of its business, in which event, all such materials shall be handled in accordance with all applicable laws. Tenant will not permit the Premises to be used for any purpose or in any manner (including, without limitation, any method of storage) which would render the insurance thereon void or the insurance risk more hazardous or cause the State Board of Insurance or other insurance authority to disallow any sprinkler credits. Tenant shall give notice to Landlord immediately upon the occurrence of any accident in the Premises or upon Tenant's discovery of any defects thereon or in any fixtures or equipment located therein or upon the occurrence of any emergency in the Premises or the Building. (b) Tenant, at its expense, in its use of the Premises and in making any alterations, renovations, upfit or modifications of the Premises shall comply with all laws, ordinances, orders, rules and regulations of state, federal, municipal or other agencies or bodies having jurisdiction relating to the use, condition and occupancy of the Premises, including, but not limited to, the provisions of the Americans with Disabilities Act of 1990, as amended, and with recorded covenants, conditions and restrictions applicable for the Land and Building. 4. REPAIRS AND MAINTENANCE. (a) Landlord shall at its expense maintain only the roof, downspouts, gutters, foundation, utility lines located outside the Premises and the structural soundness of the 6 10 exterior walls of the Building in good condition and repair in accordance with the standards for buildings of similar size and utility in Wake County, NC subject to reasonable wear and tear. Landlord shall wash the exterior windows of the Premises on a quarterly basis. Tenant shall repair, and pay for, any damage to the foregoing caused by the negligence of Tenant or Tenant's employees, agents or invitees, or caused by Tenant's default hereunder. The term "walls" as used herein shall not include windows, glass or plate glass, doors, special store fronts or office entries. Tenant shall immediately give Landlord written notice of defect or need for repairs, after which Landlord shall have reasonable opportunity to repair same or cure such defect. Landlord's liability with respect to any defects, repairs or maintenance for which Landlord is responsible under any of the provisions of this Lease shall be limited to the cost of such repairs or maintenance or the curing of such defect and any costs to repair any resultant damage to the trade fixtures of Tenant. (b) Tenant shall at its own cost and expense keep and maintain all parts of the Premises (except those for which Landlord is expressly responsible under the terms of this Lease) in good condition, promptly making all necessary repairs and replacements, including, but not limited to, windows, glass and plate glass, doors, any special office entry, interior walls, finish work, floors and floor covering, heating and air conditioning systems, dock boards, truck doors, dock bumpers, plumbing work and fixtures and regular removal of trash and debris. Tenant shall not be obligated to repair any casualty covered by the insurance to be maintained by Landlord pursuant to subparagraph 10(A) below. To the extent deemed necessary by Landlord, Landlord shall make available to Tenant for its use in effecting repairs, any warranties with respect to components of the Building. (c) Tenant shall enter into a maintenance contract providing for the periodic maintenance of all hot water, heating and air conditioning systems and units in the Premises, and removal and replacement of filters, and shall enter into a janitorial contract providing for the daily cleaning of the Premises. These contracts shall be with parties and upon such terms and conditions as shall be reasonably approved by Landlord. Tenant shall provide Landlord a copy of such contracts within thirty days of the Commencement Date. (d) Tenant shall not damage any demising wall of the Building, or disturb the integrity and support provided by any demising wall and shall, at its sole cost and expense, promptly repair any damage or injury to any demising wall caused by Tenant or its employees, agents or invitees. (e) Tenant and its employees, customers and licensees shall have the non-exclusive right to use the parking areas as may be designated by Landlord in writing, subject to reasonable rules and regulations as Landlord may from time to time prescribe and subject to rights of ingress and egress of other tenants. Parking shall be available at the Building for the non-exclusive use of Tenant at a ratio of five spaces per 1,000 rentable square feet. Included within this ratio shall be seven parking spaces located adjacent to the Building near the entrance to the Premises that shall be marked as spaces for visitors. Landlord shall not be responsible for enforcing Tenant's parking rights against any third parties. Landlord may require, at its option, in its sole discretion, that Tenant, its employees, invitees, and visitors use certain numbered spaces to be designated by Landlord. 5. ALTERATIONS. Tenant shall not make any alterations, additions or improvements to the Premises (including, but not limited to, roof and wall penetrations) without the prior written consent of Landlord, Tenant may, without the consent of Landlord, but at its own cost and expense and in a good workmanlike manner, erect such shelves, bins, machinery and trade fixtures as it may deem advisable, without altering the basic character or structure of the Premises or improvements and without overloading or damaging the Premises or improvements, and in each case complying with all applicable governmental laws, ordinances, regulations and other requirements. Tenant shall not make any alterations, additions or improvements to the Premises which will contravene 7 11 Landlord's policies insuring against loss or damage by fire or other hazards, including but not limited to commercial general public liability, or which will prevent Landlord from securing such policies in companies acceptable to Landlord. If any such alterations, additions or improvements cause the rate of fire or other insurance on the Premises by companies acceptable to Landlord to be increased beyond the minimum rate from time to time applicable to the Premises for permitted uses thereof, Tenant shall pay as additional rent the amount of any such increase promptly upon demand by Landlord. Any and all alterations, additions, improvements, partitions and fixtures erected by Tenant shall be the property of Landlord and shall remain at the Premises upon termination of the Lease or upon earlier vacating of the Premises. All shelves, bins, machinery and trade fixtures installed by Tenant may be removed by Tenant prior to the termination of this Lease provided such removal may be accomplished without damage to the Premises or to the primary structure or structural qualities of the buildings and other improvements situated on the Premises. Tenant shall repair any damage to the Premises, or the Building as a result of any alteration, or repair by Tenant, its employees, agents, invitees, or contractors to the Premises. 6. SIGNS. (a) Tenant shall have the right to install signs upon the Premises only when first approved in writing by Landlord, such approval not to be unreasonably withheld, and subject to any applicable governmental laws, ordinances, regulations and other requirements. Tenant shall remove all such signs upon the termination of this Lease. Such installations and removals shall be made in such manner as to avoid injury or defacement of the Premises, and Tenant shall repair any injury or defacement, including, without limitation, discoloration of the Building caused by such installation and/or removal. (b) Included within the Upfit Allowance shall be signage for the Premises that shall include (i) a monument sign on the Land with the name of Tenant; and (ii) a sign on the exterior of the Premises. All signage shall be in form, substance, color, and shape, subject to the reasonable approval of Landlord. 7. INSPECTION. Landlord and Landlord's agents and representatives shall have the right to enter and inspect the Premises at any reasonable time during business hours upon reasonable notice except in the event of an emergency when Landlord or Landlord's agents may access the Premises at any time and without notice for the purpose of ascertaining the condition of the Premises or in order to make such repairs as may be required or permitted to be made by Landlord under the terms of this Lease or in order to show the Premises to any prospective purchaser or lender. During the period that is six (6) months prior to the end of the term hereof, Landlord and Landlord's agents and representatives shall have the right to enter the Premises at any reasonable time during business hours upon reasonable notice for the purpose of showing the Premises to any prospective tenant and shall have the right to erect on the Premises a suitable sign indicating the Premises are available. Tenant shall schedule with Landlord at least sixty (60) days prior to vacating the Premises a time mutually agreeable to the parties hereto for a joint inspection of the Premises prior to vacating. In the event of Tenant's failure to give notice or arrange such joint inspection, Landlord's inspection at or after Tenant's vacating the Premises shall be conclusively deemed correct for purposes of determining Tenant's responsibilities for repairs and restoration. 8. UTILITIES. Landlord agrees to provide at its cost, all utility line connections into the Premises. Tenant shall pay all charges for all water, electrical, telephone, sewer, and other utilities or services used on or from the Premises, together with any taxes, penalties, surcharges or the like pertaining thereto, including, but not limited to, any costs for utilities used by Tenant at the Premises after normal business hours, 8:00 AM to 5:00 PM, Monday - Friday. Tenant shall also pay for any utility maintenance charges and shall furnish all replacement electric light bulbs and replacement tubes required for the Premises. If any such services are not separately metered to Tenant, Tenant shall pay a reasonable proportion as determined by Landlord of all charges jointly metered with other 8 12 tenants of the Building. Landlord shall in no event be liable for any interruption or failure of utility services on the Premises, unless caused by the negligence of Landlord in which event Landlord shall use reasonable efforts to effect the reconnection of such services. 9. ASSIGNMENT AND SUBLETTING. Tenant shall not sublet the Premises in whole or in part or sell, assign, lien, encumber, or in any manner transfer this Lease or assign or delegate the management or permit the use or occupancy of the Premises or any part thereof by anyone other than Tenant without the prior written consent of Landlord, which consent shall not be unreasonably withheld. Landlord and Tenant acknowledge and agree that the foregoing provisions have been freely negotiated by the parties hereto and that Landlord would not have entered into this Lease without Tenant's consent to the terms of this Paragraph 9. No assignment, transfer, mortgage, sublease or other encumbrance, whether or not approved, and no indulgence granted by Landlord to any assignee or subtenant, shall in any way impair the continuing primary liability (which after an assignment shall be joint and several with the assignee) of Tenant hereunder, and no approval in a particular instance shall be deemed to be a waiver of the obligation to obtain Landlord's approval in any other case. If for any approved assignment or sublease Tenant receives rent or other consideration, either initially or over the term of the assignment or sublease, in excess of the base rent hereunder, or in case of a sublease of part of the Premises, in excess of the portion of such rent fairly allocable to such part, after appropriate adjustments to assure that all other payments called for hereunder are appropriately taken into account, Tenant shall pay to Landlord as additional rent one-half of the excess of each such payment of rent or other consideration received by Tenant promptly after its receipt. Anything contained in the foregoing provisions of this section to the contrary notwithstanding, neither Tenant nor any other person having an interest in the possession, use occupancy or utilization of the Premises shall enter into any lease, sublease, license, concession or other agreement for use, occupancy or utilization of space in the Premises which provides for rental or other payment for such use, occupancy or utilization base, in whole or in part, on the net income or profits derived by any person from the Premises leased, used, occupied, or utilized (other than an amount based on a fixed percentage or percentages of receipts or sales), and any such purported lease, sublease, license, concession or other agreement shall be absolutely void and ineffective as a conveyance of any right or interest in the possession, use, occupancy or utilization of any part of the Premises. 10. FIRE AND CASUALTY DAMAGE. A. Landlord agrees to maintain standard fire and extended coverage insurance covering the Building in an amount not less than 80% (or such greater percentage as may be necessary to comply with the provisions of any co-insurance clauses of the policy) of the "replacement cost" thereof as such term is defined in the Replacement Cost Endorsement to be attached thereto, insuring against special causes of loss, including, the perils of fire, and lightning, such coverages and endorsements to be as defined, provided and limited in the standard bureau forms prescribed by the insurance regulatory authority for the State of North Carolina. Subject to the provisions of subparagraphs 10(C), 10(D) and 10(E) below, such insurance shall be for the sole benefit of Landlord and under its sole control. B. If the Premises should be damaged or destroyed by any peril covered by the insurance to be provided by Landlord under subparagraph 10(A) above, Tenant shall give immediate written notice thereof to Landlord. C. If the Premises should be totally destroyed by any peril covered by the insurance to be provided by Landlord under subparagraph 10(A) above, or if they should be so damaged thereby that rebuilding or repairs cannot in Landlord's reasonable estimation be completed within one hundred and eighty (180) days after the date upon which Landlord is notified by Tenant of such damage, this Lease shall terminate and the rent shall be 9 13 abated during the unexpired portion of this Lease, effective upon the date of the occurrence of such damage. D. If the Premises should be damaged by any peril covered by the insurance to be provided by Landlord under subparagraph 10(A) above, but only to such extent that rebuilding or repairs can, in Landlord's reasonable estimation, be completed within one hundred and eighty (180) days after the date upon which Landlord is notified by Tenant of such damage, this Lease shall not terminate, and Landlord shall, at its sole cost and expense, thereupon proceed with reasonable diligence to rebuild and repair the Premises to substantially the condition in which they existed prior to such damage, except that Landlord shall not be required to rebuild, repair or replace any part of the partitions, fixtures, additions and other improvements which may have been placed in, on or about the Premises by Tenant. If the Premises are untenantable in whole or in part following such damage, the rent payable hereunder during the period in which they are untenantable shall be reduced to such extent as may be fair and reasonable under all of the circumstances. E. Notwithstanding anything herein to the contrary, in the event the holder (the "Holder") of any indebtedness secured by a mortgage or deed of trust covering the Premises requires that the insurance proceeds be applied to such indebtedness, then Landlord shall have the right to terminate this Lease by delivering written notice of termination to Tenant within fifteen (15) days after such requirement is made by any such holder, whereupon all rights and obligations hereunder thereafter accruing shall cease and terminate; provided, however, upon its receipt of notice from the Holder that insurance proceeds shall be applied toward the indebtedness, Landlord shall act reasonably to seek to obtain sufficient financing to repair and restore the Premises at an interest rate, under terms and conditions, and with a lender all as approved by Landlord, in its sole discretion. F. Each of Landlord and Tenant hereby releases the other from any loss or damage to property caused by fire or any other perils insured through or under either by way of subrogation or otherwise for any loss or damage to property caused by fire or any other perils insured in policies of insurance covering such property, even if such loss or damage shall have been caused by the fault or negligence of the other party, or anyone for whom such party may be responsible; provided, however, that this release shall be applicable and in force and effect only with respect to the loss or damage occurring during such times as the releasor's policies shall contain a clause of endorsement to the effect that any such release shall not adversely affect or impair said policies or prejudice the right of the releasor to recover thereunder and then only to the extent of the insurance proceeds payable under such policies. Each of Landlord and Tenant agrees that it will request its insurance carriers to include in its policies such a clause or endorsement. If extra cost shall be charged therefor, each party shall advise the other thereof and of the amount of the extra cost, and the other party, at its election, may pay the same, but shall not be obligated to do so. 11. LIABILITY. Landlord shall not be liable to Tenant or Tenant's employees, agents, patrons or visitors, or to any other person whomsoever, for any injury to person or damage to property on or about the Premises to the extent resulting from and/or caused by the negligence or misconduct of Tenant, its agents, employees, patrons or visitors, or of any other person entering upon the Premises. Tenant hereby covenants and agrees that it will at all times indemnify, defend and hold safe and harmless Landlord (including, without limitation, its trustees and beneficiaries if Landlord is a trust), and Landlord's agents, employees, patrons and visitors from any loss, liability, claims, suits, costs, expenses, including without limitation attorney's fees and damages, arising out of any such damage or injury, excluding only injury to persons or damage to property to the extent such injury or damage is caused by the negligence, willful misconduct, acts or omissions of Landlord or its agents or employees, or the failure of Landlord to repair any part of the Premises which Landlord is obligated to repair and maintain hereunder within a reasonable time after the receipt of written notice from Tenant of needed repairs. 10 14 Tenant shall not be liable to Landlord or Landlord's employees, agents, patrons, or visitors, or to any other person whomsoever, for any injury to person or damage to property on or about the Premises, to the extent resulting from and/or caused by the negligence or misconduct of Landlord, its agents, employees, patrons or visitors. Landlord hereby covenants and agrees that it will at all times indemnify, defend and hold safe and harmless Tenant (including, without limitation, its trustees and beneficiaries if Tenant is a trust), and Tenant's agents, employees, patrons, and visitors from any loss, liability, claims, suits, costs, expenses, including, without limitation attorneys' fees and damages, arising out of any such damage or injury, excluding only injury to persons or damage to property to the extent such injury or damage is caused by the negligence, willful misconduct, acts or omissions of Tenant or its agents or employees, or the failure of Tenant to repair any part of the Premises which Tenant is obligated to repair and maintain hereunder within a reasonable time after the receipt of written notice from Landlord of needed repairs. Tenant shall procure and maintain throughout the term of this Lease a policy or policies of insurance, at its sole cost and expense, insuring both Landlord and Tenant against all claims, demands or actions arising out of or in connection with: (i) the Premises; (ii) the condition of the Premises; (iii) Tenant's operations in and maintenance and use of the Premises; and (iv) Tenant's liability assumed under this Lease, in which the limits of commercial general liability shall not be less than $5,000,000.00 with respect to each occurrence, not less than $5,000,000 with respect to personal injury or death of a single person, not less than $5,000,000 general aggregate, and not less than $5,000,000 with respect to products completed operations aggregate. All such policies shall be procured by Tenant from responsible insurance companies with at least an A rating from Best's. Certified copies of such policies, together with receipt evidencing payments of premiums thereof, shall be delivered to Landlord prior to the Commencement Date. Not less than fifteen (15) days prior to the expiration date of any such policies, certified copies of the renewals thereof (bearing notations evidencing the payment of renewal premiums) shall be delivered to Landlord. Such policies shall further provide that not less than thirty (30) days prior written notice shall be given to Landlord before such policy may be canceled or changed to reduce insurance provided thereby. 12. CONDEMNATION. A. If the whole or any substantial part of the Premises should be taken for any public or quasi-public use under governmental law, ordinance, or regulation, or by right of eminent domain, or by private purchase in lieu thereof, and the taking would prevent or materially interfere with the use of the Premises by Tenant for the purposes provided herein, this Lease shall terminate and the rent shall be abated during the unexpired portion of this Lease, effective when the physical taking of the Premises shall occur. B. If part of the Premises shall be taken for any public or quasi-public use under any governmental law, ordinance or regulation, or by right of eminent domain, or by private purchase in lieu thereof, and this Lease is not terminated as provided in the subparagraph above, this Lease shall not terminate but the rent payable hereunder during the unexpired portion of this Lease shall be reduced to such extent as may be fair and reasonable under all of the circumstances. C. In the event of any such taking or private purchase in lieu thereof, Landlord shall be entitled to receive and retain all awards as may be awarded in any condemnation proceedings other than those specifically awarded Tenant for a taking of Tenant's personal property, loss of business and moving expenses. 13. HOLDING OVER. Tenant will, at the termination of this Lease by lapse of time or otherwise, yield up immediate possession to Landlord. If Landlord agrees in writing that Tenant may hold over after the expiration or termination of this Lease, unless the parties hereto otherwise agree in writing on the terms of such holding over, the hold over tenancy shall be subject to termination by Landlord at any time upon not less than ten (10) days advance written notice, or by Tenant at any time upon not less than thirty (30) days advance written notice, and all of the other terms and provisions of this Lease shall be applicable during that period, except that Tenant shall pay Landlord from time to time upon demand, as rental for the period of any 11 15 hold over, an amount equal to one and one-half (1-1/2) the rent in effect on the termination date, computed on a daily basis for each day of the hold over period. No holding over by Tenant, whether with or without consent of Landlord, shall operate to extend this Lease except as otherwise expressly provided. The preceding provisions of this Paragraph 13 shall not be construed as Landlord's consent for Tenant to hold over. 14. QUIET ENJOYMENT. Landlord covenants that it now has, or will acquire before Tenant takes possession of the Premises, good title to the Premises, free and clear of all liens and encumbrances, excepting only the lien for current taxes not yet due, deed of trust(s), or mortgage(s) of record, zoning ordinances and other building and fire ordinances and governmental regulations relating to the use of such property, and easements, restrictions and other conditions of record. Landlord represents and warrants that it has full right and authority to enter into this Lease and that Tenant, upon paying the rental herein set forth and performing its other covenants and agreements herein set forth, shall peaceably and quietly have, hold and enjoy the Premises for the term hereof without hindrance or molestation from Landlord, subject to the terms and provisions of this Lease. 15. EVENTS OF DEFAULT. The following events shall be deemed to be events of default by Tenant under this Lease: (a) Tenant shall fail to pay (i) any installment of the rent herein reserved within five days after the due date thereof, or (ii) payment with respect to taxes hereunder, or any other payment or reimbursement to Landlord required herein, within ten (10) days after the due date thereof. (b) Tenant shall become insolvent, or shall make a transfer in fraud of creditors, or shall make an assignment for the benefit of creditors. (c) Tenant shall file a petition under any section or chapter of the Bankruptcy Reform Act, as amended or under any similar law or statute of the United States or any state thereof; or Tenant shall be adjudged bankrupt or insolvent in proceedings filed against Tenant thereunder. (d) A receiver or trustee shall be appointed for all or substantially all of the assets of Tenant. (e) Tenant shall desert or vacate all or a portion of the Premises. (f) Tenant shall fail to comply with any term, provision or covenant of this Lease (other than the subparagraphs (a), (b), (c), (d), and (e) of this Paragraph 15), and shall not cure such failure within thirty (30) days after written notice thereof to Tenant; provided, however, in the event Tenant is proceeding with due diligence to effect a cure under this subparagraph (f) and addition time is needed by Tenant to complete its cure, Landlord shall act reasonably to grant such additional time. 16. REMEDIES. Upon the occurrence of any event of default in Paragraph 15 hereof, after the expiration of any applicable grace or cure periods, Landlord shall have the option to pursue any remedy at law or in equity, including, but not limited to, one or more of the following remedies without any notice or demand whatsoever: (a) Terminate this Lease, in which event Tenant shall immediately surrender the Premises to Landlord, and if Tenant fails to do so, Landlord may, without prejudice to any other remedy which it may have for possession or arrearage in rent, enter upon and take possession of the Premises and expel and remove Tenant and any other person who may be occupying the Premises or any part thereof, with or without judicial approval, by any legal means necessary, secure the Premises against unauthorized entry; and Tenant agrees to pay to Landlord on demand the amount of all loss and damage which Landlord may suffer by reason of such termination, whether through inability to relet the Premises on satisfactory terms or otherwise. (b) Enter upon and take possession of the Premises and expel or remove Tenant and any other person who may be occupying such Premises or any part thereof, with or without judicial approval, by any legal means necessary, receive the rent thereof; secure the Premises against unauthorized entry; store any property located on the Premises at the 12 16 expense of the owner thereof and Tenant agrees to pay to Landlord on demand any deficiency that may arise by reason of such reletting. In the event Landlord is successful in reletting the Premises at a rental in excess of that agreed to be paid by Tenant pursuant to the terms of this Lease, Landlord and Tenant each mutually agree that Tenant shall not be entitled, under any circumstances, to such excess rental, and Tenant does hereby specifically waive any claim to such excess rental. (c) Enter upon the Premises, with or without judicial approval, by any legal means necessary, secure the Premises against unauthorized entry and do whatever Tenant is obligated to do under the terms of this Lease; and Tenant agrees to reimburse Landlord on demand for any expenses which Landlord may incur in thus effecting compliance with Tenant's obligations under this Lease. (d) Accelerate and demand the payment of all base rent and other charges due and payable hereunder over the term of this Lease. In the event Tenant fails to pay any installment of base rent or additional rent hereunder within fifteen days of the due date of such installment, Tenant shall pay to Landlord on demand a late charge in an amount equal to one percent (1%) of such installment per month to help defray the additional cost to Landlord for processing such late payment. The provision for such late charge shall be in addition to all of Landlord's other rights and remedies hereunder or at law and shall not be construed as liquidated damages or as limiting Landlord's remedies in any manner. If, on account of any breach or default by Tenant in Tenant's obligations under the terms and conditions of this Lease, it shall become necessary or appropriate for Landlord to employ or consult with an attorney concerning or to enforce or defend any of Landlord's rights or remedies hereunder, Tenant agrees to pay any and all reasonable attorneys' fees so incurred. Pursuit of any of the foregoing remedies shall not preclude pursuit of any of the other remedies herein provided or any other remedies provided by law or equity, nor shall pursuit of any remedy herein provided constitute a forfeiture or waiver of any rent due to Landlord hereunder or of any damages accruing to Landlord by reason of the violation of any of the terms, provisions and covenants herein contained. No act or thing done by Landlord or its agents during the term hereby granted shall be deemed a termination of this Lease or an acceptance of the surrender of the Premises, and no agreement to terminate this Lease or accept a surrender of the Premises shall be valid unless in writing signed by Landlord. No waiver by Landlord of any violation or breach of any of the terms, provisions and covenants herein contained shall be deemed or construed to constitute a waiver of any other violation or breach of any of the terms, provisions and covenants herein contained. Landlord's acceptance of the payment of rental or other payments hereunder after the occurrence of an event of default shall not be construed as a waiver of such default, unless Landlord so notifies Tenant in writing, and no receipt of money by Landlord from Tenant after the termination of this Lease or after service of any notice or after the commencement of any suit or after final judgment for possession of the Premises shall reinstate, continue or extend the term of this Lease or affect any such termination, notice, suit or judgment, unless Landlord so notifies Tenant in writing. Forbearance by Landlord to enforce one or more of the remedies herein provided upon an event of default shall not be deemed or construed to constitute waiver of such default or of Landlord's right to enforce any such remedies with respect to such default or any subsequent default. 17. LANDLORD'S LIEN. [INTENTIONALLY DELETED.] 18. MORTGAGES. Tenant accepts this Lease subject and subordinate to any mortgage(s) and/or deed(s) of trust now or at any time hereafter constituting a lien or charge upon the Premises or the improvements situated thereon; provided, however, that if the mortgagee, trustee, or holder of any such mortgage or deed of trust elects to have Tenant's interest in this Lease superior to any such instrument, then by notice to Tenant from such mortgagee, trustee or holder, this Lease shall be deemed superior to such lien, whether this Lease was executed before or after said mortgage or deed of trust. Tenant shall at any time hereafter on demand execute any instruments, releases or other documents which may be required by any mortgagee or trustee for the purpose of further subjecting and subordinating this Lease to the lien of any such mortgage or deed to trust. 13 17 19. MECHANIC'S LIENS. Tenant shall have no authority, express or implied, to create or place any lien or encumbrance of any kind or nature whatsoever upon, or in any manner to bind, the interest of Landlord in the Premises or to charge the rentals payable hereunder for any claim in favor of any person dealing with Tenant, including those who may furnish materials or perform labor for any construction or repairs, and each such claim shall affect and each such lien shall attach to, if at all, only the leasehold interest granted to Tenant by this instrument. Tenant covenants and agrees that it will pay or cause to be paid all sums legally due and payable by it on account of any labor performed or materials furnished in connection with any work performed on the Premises on which any lien is or can be validly and legally asserted against its leasehold interest in the Premises or the improvements thereon and that it will save and hold Landlord harmless from any and all loss, cost or expense based on or arising out of asserted claims or liens against the leasehold estate or against the right, title and interest of Landlord in the Premises or under the terms of this Lease. 20. NOTICES. Each provision of this instrument or of any applicable governmental laws, ordinances, regulations, or other requirements with reference to the sending, mailing, or delivery of any notice by Landlord to Tenant or with reference to the sending, mailing, or delivery of any notice or the making of any payment by Tenant to Landlord shall be deemed to be complied with when and if the following steps are taken: (a) All rent and other payments required to be made by Tenant to Landlord hereunder shall be payable to Landlord at the address hereinbelow set forth or at such other address as Landlord may specify from time to time by written notice delivered in accordance herewith. Tenant's obligations to pay rent and any other amounts to Landlord under the terms and of this Lease shall not be deemed satisfied until such rent and other amounts have been actually received by Landlord. (b) Any notice or document required or permitted to be delivered hereunder shall be deemed to be delivered whether actually received or not when deposited in the United States Mail, postage prepaid, sent by federal express or other nationally recognized overnight courier, Certified or Registered Mail, return receipt requested, addressed to the parties hereto at the respective addresses set out below, or at other such addresses as they have heretofore specified by written notice delivered in accordance therewith. LANDLORD: Weeks Realty, L.P. 1800 Perimeter Park Drive Suite 200 Morrisville, North Carolina 27560 Attention: Mr. Robert Cutlip With a copy to: Dave Lindner Weeks Corporation 1800 Perimeter Park Drive Suite 200 Morrisville, NC 27560 and Cathy M. Rudisill, Esq. Smith Helms Mullis & Moore, L.L.P. 2800 Two Hannover Square Raleigh, North Carolina 27601 TENANT: Tekelec 26580 West Agoura Road 14 18 Calabasas, California 91302 Attention: Gilles Godin If and when included within the term "Landlord", as used in this instrument, there is more than one person, firm or corporation, all shall jointly arrange among themselves for their joint execution of such a notice specifying some individual at some specific address for the receipt of notices and payments to Landlord; if and when included within the term "Tenant", as used in this instrument, there is more than one person, firm or corporation, all shall jointly arrange among themselves for their joint execution of such a notice specifying some individual at some specific address within the continental United States for the receipt of notices to Tenant. All parties included within the terms "Landlord" and "Tenant", respectively, shall be deemed to have received notices in accordance with the provisions of this paragraph with the same effect as if each had received such notice. 21. BROKER'S CLAUSE. Tenant warrants and represents to Landlord that it has had no dealings with any real estate broker or agent in connection with this Lease, and Tenant covenants to pay, hold harmless, and indemnify Landlord from and against any and all costs, expenses, liabilities (including reasonable attorneys' fees), causes of action, claims or suits in connection with any compensation, commission, fee, or charges claimed by any other real estate broker or agent with respect to this Lease or the negotiation thereof, arising out of any act of Tenant. Landlord warrants and represents to Tenant that it has had no dealings with any real estate broker or agent in connection with this Lease, and Landlord covenants to pay, hold harmless, and indemnify Tenant from and against any and all costs, expenses, liabilities (including reasonable attorneys' fees), causes of action, claims or suits in connection with any compensation, commission, fee, or charges claimed by any other real estate broker or agent with respect to this Lease or the negotiation thereof, arising out of any act of Landlord. 22. LANDLORD'S LIABILITY. Notwithstanding anything to the contrary contained in this Lease, Tenant agrees and understands that Tenant shall look solely to the estate and property of Landlord in the Building for the enforcement of a judgment (or other judicial decree) requiring the payment of money by Landlord to Tenant by reason of default or breach of Landlord in performance of its obligations under this Lease, it being intended that there will be absolutely no personal liability on the part of Landlord, its successors and assigns with respect to any of the terms, covenants, and conditions of this Leases, and no other assets of Landlord or of Landlord's partners, if any, shall be subject to levy, execution, attachment or any other legal process for the enforcement or satisfaction of the remedies pursued by Tenant in the event of such default or breach, this exculpation of liability to be absolute and without exception whatsoever. 23. RULES AND REGULATIONS. Tenant shall fully comply with the Rules and Regulations attached hereto as Exhibit D and made a part hereof and any and all modifications thereof or amendments thereto with respect to which Landlord notifies Tenant and which are applied on a non-discriminatory basis to all tenants in the building in which the Premises are located. 24. HAZARDOUS MATERIALS. (a) Tenant agrees that it will not release, discharge, place, hold, or dispose of any Hazardous Material (as hereinafter defined) on, under or at the Premises, in the Building, or on the Land, and that it will not use the Premises, the Building, the Land, or any other portion thereof as a treatment, storage, or disposal (whether permanent or temporary) site for any Hazardous Material. Tenant further agrees that it will not cause or allow any asbestos to be incorporated into any improvements or alterations which it makes or causes to be made to the Premises, or the Building. (b) Tenant hereby agrees to and does indemnify, defend and hold harmless Landlord from and against any and all losses, liabilities, damages, injuries, costs, expenses and claims of any and every kind whatsoever (including without limitation, court costs and attorneys' fees) which at any time or from time to time may be paid, incurred or suffered by, or asserted against Landlord for, with respect to, or as a direct or indirect result of (i) any breach by Tenant of the provisions of this Paragraph, or (ii) to the extent caused or 15 19 allowed by Tenant or any agent, employee, invitee, or licensee of Tenant, the presence on or under, or the escape, seepage, leakage, spillage, discharge, emission, or release from, onto, or into the Premises, the Building, the Land, the atmosphere, or any watercourse, body of water, or groundwater, of any Hazardous Material (including, without limitation, any losses, liabilities, damages, injuries, costs, expenses or claims asserted or arising under the Comprehensive Environmental Response, Compensation and Liability Act, any so-called "Superfund" or "Superlien" law, or any other Federal, state, local or other statute, law, ordinance, code, rule, regulation, order or decree regulating, relating to or imposing liability or standards of conduct concerning any Hazardous Material); and the provisions of and undertakings and indemnification set forth in this paragraph shall survive the termination or expiration of this Lease, for any reason, and shall continue to be the liability, obligation and indemnification of Tenant, binding upon Tenant forever. The provisions of the preceding sentence shall govern and control over any inconsistent provision of this Lease. (c) For purposes of this Lease, "Hazardous Material" means and includes any hazardous or toxic substance, pollutant, contaminant, gas, or petroleum product defined as such in (or for purposes of) the Comprehensive Environmental Response, Compensation, and Liability Act, as amended, any so-called "Superfund" or "Superlien", law, the Toxic Substances Control Act, as amended, or any other Federal, state or local statute, law, ordinance, code, rule, regulation, order or decree regulating, relating to, or imposing liability or standards of conduct concerning, any hazardous, toxic or dangerous waste, substance or material, as now or at any time hereafter in effect, or any other hazardous, toxic or dangerous, waste, substance or material, gas or petroleum product. (d) Notwithstanding the foregoing, Tenant shall have the right to handle Hazardous Materials in the normal course of its business, provided, however, Tenant shall conduct all such activities in accordance with all applicable laws and regulations. 25. [INTENTIONALLY DELETED.] 26. COVENANT OF TENANT. If Landlord encounters difficulties in negotiating construction or permanent financing for the Premises, and after using its best efforts is unable to resolve those difficulties without obtaining minor modifications to this Lease, Tenant will act in good faith to work with Landlord in Landlord's efforts, but this agreement on the part of Tenant will not require Tenant to make any changes that in Tenant's reasonable judgment alter the term hereof, or adversely affect any substantive right or interest of Tenant, whether legal or economic. 27. MISCELLANEOUS. A. Words of any gender used in this Lease shall be held and construed to include any other gender, and words in the singular number shall be held to include the plural, unless the context otherwise requires. B. The terms, provisions and covenants and conditions contained in this Lease shall apply to, inure to the benefit of, and be binding upon the parties hereto and upon their respective heirs, legal representatives, successors and permitted assigns, except as otherwise herein expressly provided. Landlord shall have the right to assign any of its rights and obligations under this Lease. Each party agrees to furnish to the other, promptly upon demand, a resolution, or other appropriate documentation evidencing the due authorization of such party to enter into this Lease. C. The captions inserted in this Lease are for convenience only and in no way define, limit or otherwise describe the scope or intent of this Lease, or any provision hereof, or in any way affect the interpretation of this Lease. D. Tenant agrees from time to time, within ten (10) days after request of Landlord, to deliver to Landlord, or Landlord's designee, an estoppel certificate stating that this Lease is in full force and effect, the date to which rent has been paid, the unexpired term of this Lease and such other matters pertaining to this Lease as may be reasonably requested by Landlord. It is understood and agreed that Tenant's obligation to furnish such estoppel 16 20 certificates in a timely fashion is a material inducement for Landlord's execution of this Lease. E. This Lease may not be altered, changed or amended except by an instrument in writing signed by both parties hereto. F. All obligations of Tenant and Landlord hereunder not fully performed as of the expiration or earlier termination of the term of this Lease shall survive the expiration or earlier termination of the term hereof, including, without limitation, all payment obligations concerning the condition of the Premises. Upon the expiration or earlier termination of the term hereof, and prior to Tenant's vacating the Premises, Tenant shall pay to Landlord any amount reasonably estimated by Landlord as necessary to put the Premises, including, without limitation, all heating and air conditioning systems and equipment therein, in good condition and repair. Tenant shall also, prior to vacating the Premises, pay to Landlord the amount, as estimated by Landlord, of Tenant's obligation hereunder for real estate taxes and insurance premiums for the year in which the Lease expires or terminates up to the Termination Date. All such amounts shall be used and held by Landlord for payment of such obligations of Tenant hereunder, with Tenant being liable for any additional costs therefor upon demand by Landlord, or with any excess to be returned to Tenant after all such obligations have been determined and satisfied, as the case may be. Any security deposit held by Landlord shall be credited against the amount payable by Tenant under this Paragraph 27(F). G. In the event of a transfer by Landlord of its interest in the Premises, Landlord shall be released from all obligations and liabilities under the terms of this Lease subsequent to the date of such transfer. In the event a transferee shall agree to assume the obligations and liabilities of Landlord under the Lease prior to the date of the transfer, Landlord shall be released from all obligations and liabilities under the Lease. H. If any clause or provision of this Lease is illegal, invalid or unenforceable under present or future laws effective during the term of this Lease, then and in that event, it is the intention of the parties hereto that the remainder of this Lease shall not be affected thereby, and it is also the intention of the parties to this Lease that in lieu of each clause or provision of this Lease that is illegal, invalid or unenforceable, there be added as a part of this Lease contract a clause or provision as similar in terms to such illegal, invalid or unenforceable clause or provision as may be possible and be legal, valid and enforceable. I. [INTENTIONALLY DELETED.] J. All references in this Lease to "the date hereof" or similar references shall be deemed to refer to the last date, in point of time, on which all parties hereto have executed this Lease. K. Time is of the essence of this Lease. L. Landlord shall not be in default in the performance of any of Landlord's obligations hereunder unless and until Landlord shall have failed to perform such duties or obligations within thirty (30) days (or such additional time as is reasonably required to correct any such default) after written notice by Tenant to Landlord, and to any mortgagee with a lien on the Land or the Building, properly specifying wherein Landlord has failed to perform any such duty or obligation. Neither party hereto shall have any liability to the other party hereto for any incidental, special, indirect, punitive, or consequential damages of a party hereto for any reason whatsoever. M. In the event that Landlord shall default in the performance of Landlord's obligations hereunder, the holder of a mortgage or the beneficiary of a deed of trust which includes the Premises shall have the right, but not the obligation, to perform or comply with any covenants, agreements and provisions violated in connection with such default. Further, if such holder of beneficiary notifies Tenant that such holder or beneficiary has taken over Landlord's right under this Lease, Tenant shall not assert any right to deduct the cost of repairs or any monetary claims against Landlord theretofore accrued from rent 17 21 thereafter due and payable, but shall look solely to Landlord and not such holder or beneficiary for satisfaction of such claim. N. This Lease does not create the relationship of partner or joint venturer between Landlord and Tenant. This Lease shall not result in the creation of an estate for years in Tenant. Accordingly, Tenant shall have only an usufruct not subject to levy or sale. Tenant shall have no rights of assignment, subletting, sale or transfer beyond those set forth herein and hereby waives any such rights existing pursuant to the laws of the State of North Carolina or otherwise. No estate shall pass out of Landlord to Tenant hereunder, and Tenant shall not be entitled to any award of whatsoever nature based on this Lease and/or Tenant's right to occupy the Premises hereunder. O. The laws of the State of North Carolina shall govern the interpretation, the validity, performance and enforcement of this Lease. P. (i) If Tenant is a corporation, the undersigned officer of Tenant does hereby warrant and certify to Landlord that Tenant is a corporation in good standing and duly organized under the laws of the State of North Carolina, or if chartered in a state other than the State of North Carolina, is a corporation in good standing and duly organized under the laws of such state and is authorized to do business in the State of North Carolina. The undersigned officer of Tenant hereby further warrants and certifies to Landlord that such officer is authorized and empowered to bind the corporation to the terms of this Lease by such officer's signature hereto, (ii) If Tenant is a general or limited partnership, the undersigned general partner of Tenant does hereby warrant and certify to Landlord that Tenant is a general partnership or limited partnership, as the case may be, validly existing under the laws of the State of North Carolina, or if formed in a state other than the State of North Carolina, is a general partnership or limited partnership validly existing under the laws of such state and is authorized to do business in the State of North Carolina. The undersigned general partner of Tenant hereby further warrants and certifies to Landlord that such general partner is authorized and empowered to bind Tenant to the terms of this Lease by such general partner's signature hereto. Q. This Lease shall be executed in duplicate, each of which shall be deemed an original and complete of itself and may be introduced into evidence or used for any purpose without the production of any other copy. If Tenant is a corporation, two authorized corporate officers must execute this Lease in their appropriate capacity for Tenant and affix the corporate seal. R. The provisions contained in the Rider attached hereto, if any, are incorporated herein by reference and made a part of this Lease. In the event of a conflict between the printed portion of this Lease and the Rider, the provisions of the Rider shall govern and control. S. Although the printed provisions of this Lease were drafted by Landlord, such fact shall not cause this Lease to be construed either for or against Landlord or Tenant. T. This Lease may not be recorded. Upon the request and at the expense of Tenant, Landlord shall execute a memorandum of Lease suitable for recording which shall omit the financial terms herein but which shall identify the Premises and the term of this Lease, Upon the expiration of this Lease, a recorded memorandum of this Lease may be canceled of record by a document executed by Landlord, or its successor in interest for such purpose. U. To the best of its knowledge, Landlord certifies that on or after January 1, 2000, all systems installed in the Building by or on behalf of Landlord to service the Premises, including, but not limited to, the heating, air conditioning, sprinkler, security, electrical, plumbing, and other systems installed by Landlord in the Building will record, store, process, and present calendar dates in the same manner and with the same functionality as such Systems record, store, process, and present calendar dates falling on or before December 31, 1999. 18 22 V. Tenant shall provide to Landlord within ninety days of the close of its fiscal year, and thereafter upon reasonable request of Landlord, financial statements of Tenant certified by the chief financial officer of Tenant, and Tenant shall act to ensure that any guarantor hereof provides Landlord with copies of its financial statements within ninety days of the close of its fiscal year. W. No remedy conferred herein is intended to be exclusive of any other remedy and each and every remedy shall be cumulative and shall be in addition to every other remedy given hereunder or thereunder or now or hereafter existing at law or in equity or by statute or otherwise. X. Parking shall be available for tenants of the Building at the rate of five parking spaces for each 1000 rentable square feet of the Building. [THE REMAINDER OF THIS PAGE WAS INTENTIONALLY LEFT BLANK.] 19 23 IN WITNESS WHEREOF, the parties hereto have executed this Lease under seal as of the day and year first above written. LANDLORD: WEEKS REALTY, L.P. (SEAL), a Georgia limited partnership authorized to do business in the State of North Carolina as WEEKS REALTY LIMITED PARTNERSHIP BY: WEEKS GP HOLDINGS, INC., Georgia corporation, its sole general partner By: /s/ ROBERT G. CUTLIP ------------------------------- Robert G. Cutlip, Senior Vice President TENANT: TEKELEC, a California corporation By: /s/ GILLES C. GODIN By: /s/ MIKE MARGOLIS ----------------------- --------------------- Print Name: Gilles C. Godin Print Name: Mike Margolis ------------------ ---------------- Vice President & CFO President & CEO Witness/Attest: /s/ KAROLYN FLESHER - ------------------------------- Print Name: Karolyn Flesher -------------------- Title: Assistant Secretary ------------------------- [CORPORATE SEAL] 20 24 EXHIBIT A LEGAL DESCRIPTION METES AND BOUNDS DESCRIPTION FOR PHASE 1 LOT 8 PARAMOUNT CENTER That 15.86 acre tract of land lying in the Cedar Fork Township, Morrisville, Wake Country, North Carolina, and being a portion of the tract found in Deed Book (D.B.) 5605 Page (Pg.) 216-218 in the Register of Deeds office of said Wake County, and being bounded on the North by Lot 7 Paramount Center; on the East by J.A. Ferrell (D.B.) 1437 (Pg.) 780 now or formerly and Jesse Marcom (D.B.) 877 (Pg.) 32 now or formerly; on the South by Lot 9 Paramount Center and Proposed Paramount Parkway (100' Public right-of-way); and on the West by Phase II Paramount Center Lot 8 and Proposed Road "A" (100' Public right-of-way); and being more particularly described as follows: Beginning at a new iron pipe set in the Western line of said J.A. Ferrell and also being the Northeast corner of said Lot 8, said iron being South 03 degrees 05 minutes 47 seconds East 884.33 feet from an existing iron pipe in the said Western line of J.A. Ferrell; thence along said J.A. Ferrell's Western line, South 03 degrees 05 minutes 47 seconds East 399.39 feet to an existing iron pipe, a common corner with said Jesse Marcom; thence along the said Jesse Marcom's Western line, South 00 degrees 25 minutes 05 seconds East 286.92 feet to a point, the Northeast corner of said Lot 9, thence leaving said Jesse Marcom's Western line along a common lot line with said Lot 9, South 88 degrees 41 minutes 07 seconds West 442.57 feet to a point; thence with said common Lot 9 line, South 51 degrees 26 minutes 44 seconds West 399.66 feet to a point in the Northern right-of-way line of said proposed Paramount Parkway; thence along the said Northern right-of-way line of Paramount Parkway Northwesterly 248.90 feet along a nontangential curve to the left, central angle 14 degrees 19 minutes 57 seconds, radius 995.00 feet to a point; thence leaving said Northern right-of-way line along a Phase line for Phases I and II, North 19 degrees 40 minutes 36 seconds East 114.00 feet to a point; thence North 00 degrees 00 minutes 00 seconds East 56.74 feet to a point; thence South 90 degrees 00 minutes 00 seconds East 195.69 feet to a point; thence Northeasterly 38.27 feet along a tangential curve to the left, central angle 90 degrees 00 minutes 00 seconds, radius 25.00 feet to a point; thence North 00 degrees 00 minutes 00 seconds East 322.48 feet to a point; thence South 90 degrees 00 minutes 00 seconds West 36.51 feet to a point; thence North 00 degrees 00 minutes 00 seconds East 250.34 feet to a point; thence South 90 degrees 00 minutes 00 seconds West 141.35 feet to a point; thence North 48 degrees 14 minutes 55 seconds West 61.24 feet to a point in the Eastern right-of-way line of said proposed Road "A"; thence along the said Eastern right-of-way line of Road "A:, North 41 degrees 45 minutes 05 seconds East 385.98 feet to a new iron pipe set, the Northwest corner of said Lot 8 and common corner with said Lot 7; thence leaving said Eastern right-of-way line with the common line of said Lot 7, South 57 degrees 37 minutes 22 seconds East 369.41 feet to a new iron pipe set; thence with the common line of said Lot 7, South 80 degrees minutes 30 seconds 357.55 feet to the Point of Beginning. Said parcel contains 15.86 acres and is the same as shown in a Preliminary Site Plans entitled "PARAMOUNT CENTER - LOT 8" prepared by DSAtlantic Corporation and dated May 20, 1998 with a last revision date of August 15, 1998. 25 EXHIBIT B FLOOR PLAN TEKELEC BUILD TO SUIT PARAMOUNT CENTER MORRISVILLE, NORTH CAROLINA FIRST FLOOR [FLOOR PLAN] 26 EXHIBIT B-1 FLOOR PLAN (cont.) TEKELEC BUILD TO SUIT PARAMOUNT CENTER MORRISVILLE, NORTH CAROLINA SECOND FLOOR [FLOOR PLAN] 27 EXHIBIT C PLANS AND SPECIFICATIONS [TO BE ATTACHED UPON APPROVAL BY LANDLORD AND TENANT] 28 EXHIBIT C-1 SCHEDULE 29 TEKELEC INTERIOR DESIGN PROGRAM - --------------------------------------------------------------------------------------------------------------- 10 Task Name Duration Start - --------------------------------------------------------------------------------------------------------------- 1 TEKELEC PRELIMINARY SCHEMATIC SUBMITTAL 0 days 10/16/98 - --------------------------------------------------------------------------------------------------------------- 2 TEKELEC WEEKS PRELIMINARY SCHEMATIC REVIEW 5 days 10/19/98 - --------------------------------------------------------------------------------------------------------------- 3 REVISE PRELIMINARY SCHEMATIC PER COMMENTS 3 days 10/26/98 - --------------------------------------------------------------------------------------------------------------- 4 FINAL APPROVED PRELIMINARY SCHEMATIC ISSUED 0 days 10/28/98 - --------------------------------------------------------------------------------------------------------------- 5 - --------------------------------------------------------------------------------------------------------------- 6 WEEKS SUBMITS CORE FINISHES FOR APPROVAL 0 days 10/28/98 - --------------------------------------------------------------------------------------------------------------- 7 TEKELEC REVIEWS SELECTIONS 5 days 10/29/98 - --------------------------------------------------------------------------------------------------------------- 8 WEEKS REVISES CORE FINISHES, IF NECESSARY 3 days 11/5/98 - --------------------------------------------------------------------------------------------------------------- 9 WEEKS PRESENTS FINAL CORE FINISHES 1 day 11/10/98 - --------------------------------------------------------------------------------------------------------------- 10 - --------------------------------------------------------------------------------------------------------------- 11 TEKELEC PRODUCES "FOR PRICING" DRAWINGS 10 days 10/29/98 - --------------------------------------------------------------------------------------------------------------- 12 TEKELEC SUBMITS "FOR PRICING" DRAWINGS 0 days 11/11/98 - --------------------------------------------------------------------------------------------------------------- 13 WEEKS REVIEWS PRICING DOCUMENT FOR CLARITY 3 days 11/12/98 - --------------------------------------------------------------------------------------------------------------- 14 TEKELEC REVISES DOCUMENTS PER COMMENTS 2 days 11/17/98 =============================================================================================================== Schedule Date: 6/3/97 Task [ ] Critical Task [ ] Milestone * Price Date: 9/1/98 tekelec.mpp - --------------------------------------------------------------------------------------------------------------- Page 1 - --------------------------------------------------------------------------------------------------------------- - --------------------------------------------------------------------------------------------------------------------------- Jul '98 Aug '98 Sep '98 Oct '98 Nov '98 Dec '98 Jan '99 Feb '99 Mar '99 Apr '99 May 28 5 12 19 26 2 9 16 23 30 6 13 20 27 4 11 18 25 1 8 15 22 29 6 13 20 27 3 10 17 24 31 7 14 21 28 7 14 21 28 4 11 18 25 2 9 - --------------------------------------------------------------------------------------------------------------------------- 10/16 * TEKELEC PRELIMINARY SCHEMATIC SUBMITTAL - --------------------------------------------------------------------------------------------------------------------------- TEKELEC/ WEEKS PRELIMINARY SCHEMATIC REVIEW 10/19 [ ] 10/23 - --------------------------------------------------------------------------------------------------------------------------- REVISE PRELIMINARY SCHEMATIC PER COMMENTS 10/26 [ ] 10/28 10/28 * FINAL APPROVED PRELIMINARY SCHEMATIC ISSUED - --------------------------------------------------------------------------------------------------------------------------- - --------------------------------------------------------------------------------------------------------------------------- 10/28 * WEEKS SUBMITS CORE FINISHES FOR APPROVAL - --------------------------------------------------------------------------------------------------------------------------- TEKELEC REVIEWS SELECTIONS 10/29 [ ] 11/4 - --------------------------------------------------------------------------------------------------------------------------- WEEKS REVISES CORE FINISHES, IF NECESSARY 11/5 [ ] 11/9 WEEKS PRESENTS FINAL CORE FINISHES 11/10 [ ] 11/10 - --------------------------------------------------------------------------------------------------------------------------- - --------------------------------------------------------------------------------------------------------------------------- TEKELEC PRODUCES "FOR PRICING" DRAWINGS 10/29 [ ] 11/11 11/11 * TEKELEC SUBMITS "FOR PRICING" DRAWINGS - --------------------------------------------------------------------------------------------------------------------------- WEEKS REVIEWS PRICING DOCUMENT FOR CLARITY 11/12 [ ] 11/16 TEKELEC REVISES DOCUMENTS PER COMMENTS 11/17 [ ] 11/18 =========================================================================================================================== Summary [ ] TENANT APPROVED BY /s/ [Sig Illegible] DATE 9/2/98 - --------------------------------------------------------------------------------------------------------------------------- Page 1 - --------------------------------------------------------------------------------------------------------------------------- Page 1 of 3
30 TEKELEC INTERIOR DESIGN PROGRAM
- ------------------------------------------------------------------------------------------------------------------------------------ Jul '98 Aug '98 Sep '98 Oct '98 Nov '98 Dec '98 ------------------------------------------------------------------------ ID i TASK NAME DURATION START 28 5 12 19 26 2|9 16;23 30 6 13|20|27 4 11 18 25 1 8 15|22 29 6 13 20 27 - ------------------------------------------------------------------------------------------------------------------------------------ 15 WEEKS PRICING OF DOCUMENTS 15 DAYS 11/19/98 - ------------------------------------------------------------- 16 PRICING PRESENTED TO TEKELEC 0 days 12/9/98 - ------------------------------------------------------------- 17 - ------------------------------------------------------------- 18 - ------------------------------------------------------------- 19 TEKELEC REVIEW OF PRICING DATA 5 days 12/10/98 - ------------------------------------------------------------- 20 WEEKS REPRICE PER TEKELEC COMMENTS 5 days 12/17/98 - ------------------------------------------------------------- 21 TEKELEC SIGN-OFF OF FINAL "WORK" COST 0 days 12/23/98 - ------------------------------------------------------------- 22 FINAL "FOR CONSTRUCTION" DRAWING PRODUCED 17 days 12/24/98 - ------------------------------------------------------------- 23 - ------------------------------------------------------------- 24 INTERIOR BUILDING PERMIT 23 days 1/18/99 - ------------------------------------------------------------- 25 INITIAL SUBMISSION TO CITY 0 days 1/18/99 - ------------------------------------------------------------- 26 CITY REVIEW AND COMMENT 15 days 1/19/99 - ------------------------------------------------------------- 27 RECEIVE COMMENTS 0 days 2/8/99 - ------------------------------------------------------------- 28 ADDRESS COMMENTS 3 days 2/29/99 - ------------------------------------------------------------------------------------------------------------------------------------ Schedule Date: 6/3/97 Task [ ] Critical Task [ ] Milestone [ ] Summary [ ] Print Date: 9/1/98 Tekelec.mpp - ------------------------------------------------------------------------------------------------------------------------------------ Page 2 - ------------------------------------------------------------------------------------------------------------------------------------
- ------------------------------------------------------------------------------------------------------------------------------------ Jan '99 Feb '99 Mar '99 Apr '99 May '99 ------------------------------------------------------------------------ ID i TASK NAME DURATION START 3 10 17 24 31 7 14 21 28 7 14 21 28 4 11 18 25 2 9 - ------------------------------------------------------------------------------------------------------------------------------------ 15 WEEKS PRICING OF DOCUMENTS 15 DAYS 11/19/98 WEEKS PRICING OF DOCUMENTS - ------------------------------------------------------------- 11/19 [ ] 12/9 16 PRICING PRESENTED TO TEKELEC 0 days 12/9/98 - ------------------------------------------------------------- 12/9 [ ] PRICING PRESENTED TO TEKELEC 17 - ------------------------------------------------------------- 18 - ------------------------------------------------------------- 19 TEKELEC REVIEW OF PRICING DATA 5 days 12/10/98 TEKELEC REVIEW OF PRICING DATA - ------------------------------------------------------------- 12/10 [ ] 12/16 20 WEEKS REPRICE PER TEKELEC COMMENTS 5 days 12/17/98 - ------------------------------------------------------------- WEEKS REPRICE PER TEKELEC COMMENTS 21 TEKELEC SIGN-OFF OF FINAL "WORK" 12/17 [ ] 12/23 COST 0 days 12/23/98 12/23 [ ] TEKELEC SIGN-OFF OF FINAL "WORK" COST - ------------------------------------------------------------- FINAL "FOR CONSTRUCTION" DRAWING PRODUCED 22 FINAL "FOR CONSTRUCTION" DRAWING 12/24 [ ] 1/18 PRODUCED 17 days 12/24/98 INTERIOR BUILDING PERMIT - ------------------------------------------------------------- 1/18 [ ] INITIAL SUBMISSION TO CITY 23 CITY REVIEW AND COMMENT - ------------------------------------------------------------ 1/19 [ ] 2/8 24 INTERIOR BUILDING PERMIT 23 days 1/18/99 - ------------------------------------------------------------- 2/8 [ ] RECEIVE COMMENTS 25 INITIAL SUBMISSION TO CITY 0 days 1/18/99 ADDRESS COMMENTS - ------------------------------------------------------------- 2/9 [ ] 2/11 26 CITY REVIEW AND COMMENT 15 days 1/19/99 - ------------------------------------------------------------- 27 RECEIVE COMMENTS 0 days 2/8/99 - ------------------------------------------------------------- 28 ADDRESS COMMENTS 3 days 2/29/99 - ------------------------------------------------------------------------------------------------------------------------------------ Schedule Date: 6/3/97 Task [ ] Critical Task [ ] Milestone [ ] Summary [ ] Print Date: 9/1/98 Tekelec.mpp - ------------------------------------------------------------------------------------------------------------------------------------ Page 2 - ------------------------------------------------------------------------------------------------------------------------------------
31 TEKELEC INTERIOR DESIGN PROGRAM - -------------------------------------------------------------- 1D i Task Name Duration Start - -------------------------------------------------------------- 29 CITY FINAL REVIEW 5 days 21/12/99 - -------------------------------------------------------------- 30 RECEIVE PERMIT 0 days 2/18/99 - --------------------------------------------------------------
- ---------------------------------------------------------------------------------------------------------------------------------- Jul '98 Aug '98 Sep '98 Oct '98 Nov '98 Dec '98 Jan '99 Feb '99 Mar '99 Apr '99 May? - ---------------------------------------------------------------------------------------------------------------------------------- 28 5 12 19 25 2 9 16 23 30:6 13:20 27 4 11 18 25 1 8 15 22 29:6 13 20 27:3 10 17 24 31 7 14 21:26 7 14 21 28 4 11:18 25 2 9 - ---------------------------------------------------------------------------------------------------------------------------------- CITY FINAL REVIEW 2/12 [ ] 2/18 2/18 [ ] RECEIVE PERMIT - ----------------------------------------------------------------------------------------------------------------------------------- Schedule Date: 6/3/97 Task Critical Task Milestone [ ] Summary ________________ Print Date: 9/1/98 Tekelec.mpp - ---------------------------------------------------------------------------------------------------------------------------------- Page 3 - ----------------------------------------------------------------------------------------------------------------------------------
Page 3 0f 3 32 EXHIBIT C-2 DESIGN CRITERIA DESIGN CRITERIA: A, CONCRETE SYSTEMS 1. FOUNDATIONS a. Spread Footings i. Provide at column line intersections, sized by registered structural engineer designs. ii. Reinforced as required. b. Perimeter Strip Footings i. Provide for exterior dock wall, sized by registered structural engineer design. ii. Reinforced as required. 2. SLAB-ON-GRADE a. 4" thick; 3,000 psi concrete with 8 mil. vapor barrier on compacted earth. b. Provide perimeter turndown for exterior walls at slab edge, reinforced as required. c. Include 1.5" thick by 3' wide rigid insulation underslab on grade at exterior walls, per local energy codes. d. Provide clear sealed floor finish on prepared surface. 3. ELEVATED SLAB a. Provide 3,000 psi lightweight concrete on galvanized composite metal deck, reinforced with 6x6 W2.1x2.1 welded wire mesh. B. MASONRY 1. BRICK VENEER a. Modular brick veneer with 3/8" thick mortar joint. b. Field brick material: Richtex, #760 Medium Gray Wirecut. c. Accent brick material: Lee Brick, #608, Beauford. d. Mortar: Natural gray. 2. MISCELLANEOUS a. Two-part, screw-attached ties at exterior sheathing construction. b. Thru-wall flashing. 33 c. Include weep wicks to conduct moisture out of walls as noted on contract documents. C. METALS 1. STRUCTURAL STEEL a. Provide a free standing structural steel frame. b. Floor to floor height: 14'. 2. MISCELLANEOUS METALS a. Include five interior concrete filled metal pan steel stairs. b. Include brick shelf angle and kickers. c. Include elevator pit ladders, sump angle frames and sills. d. Include pipe bollards at loading dock. 3. ARCHITECTURAL METALS a. Include steel picket handrail at second floor lobby. D. CARPENTRY 1. ROUGH CARPENTRY a. Include pressure-treated wood nailers for roofing system. b. Include pressure-treated wood nailers for storefront system. c. Include interior wood blocking at core areas. 2. MILLWORK a. Include solid surface lavatories at core area restrooms. E. MOISTURE PROTECTION 1. CAULKING a. Include dymeric caulking of masonry control joints. b. Include caulking of window wall and storefront systems. c. Include caulking of hollow metal exterior door frames. 2. ROOF SYSTEMS a. Type: single-ply, river-stone ballasted, 45 mil. E.P.D.M. membrane system on one (1) layer of 5/8" gypsum board, with a 20-year warranty on materials and 10-year warranty on installation. b. Insulation: R-14 rigid insulation. c. Include 24-gauge, pre-finished Kynar 500 coping, flashing, downspouts and gutters. 2 34 3. FIREPROOFING a. Include sprayed on fireproofing to provide 1 hour rating to the floor, columns and bracing. 4. SKYLIGHT STRUCTURE a. Provide one pyramid skylight structure, with translucent fiberglass and glass panels. F. DOORS & WINDOWS 1. WOOD DOORS a. Include 3' x 8'-8" custom-grade, solid core, rotary sliced natural birch wood doors in hollow metal frames. b. Include rated doors with positive latch set and closers as required in rated wall assemblies. c. Include doors for core area only. All other doors to be included in the Office Finish Allowance. 2. FINISH HARDWARE a. Include finish hardware. 3. STOREFRONT a. Include system consisting of 1" Ford Blue, insulated, reflective glass in a prefinished Kawneer frame. b. Include aluminum Kawneer 1500 series curtainwall system at front entry. c. Include medium stile glass entry doors, with manufacturer's standard hardware. d. Finish of exposed aluminum surfaces to be clear anodized. G. FINISHES 1. DRYWALL CONSTRUCTION a. Exterior wall: metal studs with gypsum board sheathing, 15 lb. felt, brick ties and flashing. b. Partition wall: metal studs with gypsum board, attached to metal ceiling grid and supported to structure as required. c. Elevator wall: metal studs with fire rated gypsum liner panel on one side and fire rated GWB on opposite side. d. Stair walls: metal studs with fire rated GWB on each side. e. Typical core walls: metal studs with gypsum board and sound batt insulation. Walls to be one-hour fire rated as required by code. f. All other partitions and furring is included in the Office Finish Allowance. 2. ACOUSTICAL CONSTRUCTION 3 35 a. Core area ceilings: Provide USG 2'-0" x 2'-0" #707 Glacier acoustical ceiling furnished and fully installed. b. Tenant ceilings: Provide 2'-0" x 4'-0" framed grid with Armstrong Cortega revealed #704 acoustical tile stocked on floor. 3. TILE a. Provide 2" x 2" unglazed ceramic floor tile and base, in each toilet. b. Well walls in toilets to receive 4-1/4" x 4-1/4" bright/matte wall tile and trim, to 5'-0" af.f. c. Provide quarry tile at the entry lobby. 4. CARPET AND RESILIENT FLOORING a. Provide an allowance of $20.00/SY for the furnishing and installation of carpet. b. Carpet to be utilized in core areas. c. Provide 12" x 12" x 1/8" VCT in the freight elevator lobbies. d. Mechanical, electrical, phone and elevator equipment rooms to have an exposed concrete floor. e. Provide 4" rubber cove base. f. All areas outside of the core area are included in the Finish Allowance. 5. PAINTING AND WALLCOVERING a. Provide flat latex paint for the interior of the stairwells, freight elevator lobby, mechanical room, electrical room, phone room and elevator equipment room. b. Provide alkyd enamel painting of metal pan stairs and rails. c. Provide fabric wallcovering in the lobby area. d. Provide vinyl wallcovering in the restrooms. e. All areas outside of core area are included in the Finish Allowance. H. SPECIALTIES 1. TOILET PARTITIONS a. Provide baked enamel steel, floor mounted, overhead braced toilet partitions. b. Provide baked enamel steel, wall hung, urinal screens. 2. TOILET ACCESSORIES a. Provide accessories in men's toilets as follows: i. Paper towel dispenser and waste receptacle - Bobrick 3944. ii. Double-roll toilet tissue holder - Bobrick 2740. 4 36 iii. Soap dispenser - Bobrick 822. iv. Grab bar B6806 X 36" v. Grab bar B6806 X 42" b. Provide accessories in women's toilet as follows: i. Paper towel dispenser and waste receptacle - Bobrick 3944. ii. Double-roll toilet tissue holder - Bobrick 2740. iii. Soap dispenser - Bobrick 822. iv. Grab bar B6806 x 36" v. Grab bar B6806 x 42" vi. Napkin-tampon disposal - Bobrick B822. c. Provide mop and broom rack in each janitor closet. 3. DOCK BUMPERS a. Provide dock bumpers at loading dock. 4. BLINDS a. Provide 1" horizontal mini-blinds on exterior windows. 5. ELEVATORS a. Provide two (2), 2500 lb. capacity, 125 fpm holeless hydraulic passenger elevators. b. Provide one (1), 4500 lb. capacity, 100 fpm holeless hydraulic elevator. c. Include an allowance of $10,000 per passenger cab for interior finishes. d. Freight elevator cab finishes to be manufacturer's standard. I. MECHANICAL 1. FIRE PROTECTION a. Include a wet pipe sprinkler system per the approval of all required local governing authorities. b. System to be designed for Light Hazard Occupancy and hydraulically calculated to meet a design density of 0.10 gallons per minute over the most remove 1,500 SF. c. Provide maximum head spacing of 225 SF. d. Provide semi-recessed pendant heads with chrome escutcheons. 2. HEATING, VENTILATION AND AIR CONDITIONING (HVAC) 5 37 a. HVAC through VAV roof top units. b. All medium pressure duct will be installed. c. All components of the HVAC system "upstream" of terminal units will be installed. d. All components "downstream" from the terminal units will be part of the tenant costs. e. Conditioned air will be supplied to the occupied spaces via a Variable Air Volume (VAV) Air Conditioning System thermostatically controlled from individual zones within each tenant's suite. Each zone will have a thermostat and will not exceed 1,200 SF. All corners, exterior exposures, large conference rooms, training rooms, and elevator equipment rooms will constitute a zone and will have a thermostat. Other area requiring special zoning consideration will be considered above and beyond zoning provided and will be addressed prior to design. f. The air conditioning system will be designed to maintain space temperature of 75 degrees F in the summer and a minimum space temperature of 68 degrees F in the winter. ASHRAE 1% (99%) weather data will determine the outside design conditions used for load calculations. Also, the following internal heat gain will be assumed for load calculations: Occupancy load = 1 person per 150 SF Lighting load = 2 watts per SF Other electric load = 2 watts per SF A minimum of 1 cfm per SF of conditioned supply air will be provided. Outside air will be supplied to the space per standards set forth by ASHRAE 62-1989, but not less than 20 cfm per person. g. The air conditioning system will be controlled via a central control panel with modem and terminal. All controls will be DDC (Direct Digital Control). Zone sensors (thermostats) will have thumbwheel control between pre-determined setpoints and override capability. Automatic shut-down of the air handling units will be provided per Standard Mechanical Code. As required, stairwell pressurization and elevator shaft smoke removal controls will be provided per Standard Mechanical Code and Standard Building Code. h. The Atrium shall be provided with a code required smoke exhaust system, via two exhaust fans. J. PLUMBING 1. System shall include all core area fixtures, risers, floor drains, roof drains and all associated piping. One (1) 20 gallon, 3kW, electric water heater shall be provided for each core restroom group. K. ELECTRICAL SYSTEMS 1. ELECTRICAL DISTRIBUTION a. Provide 3,000 amp, 480/277 volt, main switchboard. b. Electrical service will be distributed to sub-panels in the electrical room in each quadrant on each floor, as follows: i. 277/480 volt, 400 amp panelboard for mechanical equipment ii. 277/480 volt, 100 amp panelboard for lighting 6 38 iii. 120/208 volt, 2 section, 250 amp, 84 pole panelboard served from a 480:208/120 volt, 75 kva transformer c. An allowance of 2 watts per square foot is to be provided on each floor for lighting and approximately 5 watts per square foot for 208/120 volt receptacles. 2. EMERGENCY DISTRIBUTION a. Provide emergency battery lighting for all public areas and corridors. 3. TELEPHONE SYSTEM a. Provide (4) 4" underground conduits from the telephone company manhold at the property line to the main telephone room. 4'x8' telephone backboards shall be provided in each electrical room on each floor with (2) 4" conduit to each quadrant riser from the main telephone backboard. 4. LIGHTING a. Fluorescent strip lighting shall be used in all storage areas and equipment rooms. b. Tenant area fluorescent fixtures will be stacked on the floor and ready to be installed. Fixtures shall be 2'x4' three lamp, 3" deep parabolic lens (one per 100 useable square feet). Each fixture shall have air return features. c. All fluorescent fixtures shall utilize electronic ballast's and T8 lamps with 3500K color. d. Provide decorative lighting in each lobby. e. Provide PL downlights to product 30 foot-candles in core toilets and corridors. 5. LIFE SAFETY SYSTEMS a. A complete addressable fire alarm and life safety system shall be provided, including pull stations, smoke detectors, flow switches, horns, annunciator panel and control panel. Smoke detectors shall be provided in mechanical supply and return ducts, Electrical Room, Mechanical rooms and elevator lobbies. 6. BRANCH CIRCUIT DISTRIBUTION a. Lighting i. One 20 amp, 277 volt circuit per column bay with three circuits per homerun junction box will be provided. b. Receptacle Circuits i. One (1) one inch (1") conduit per bay will be provided. L. OFFICE FINISHES 1. To be provided by Weeks to Tekelec at later date M. EXCLUSIONS 7 39 1. The following is not included: i. Security System. ii. Telephone/Data wiring. iii. 24 hour cooling or computer room units. iv. Dust collection systems. 8 40 EXHIBIT D RULES AND REGULATIONS 1. The sidewalks, common areas, and public portions of the Building, such as entrances, passages, courts, elevators, vestibules, stairways, corridors or halls, and the streets, alleys or ways surrounding or in the vicinity of the Building shall not be obstructed by Tenant, even temporarily, or encumbered by Tenant or used for any purpose other than ingress to and egress from the Premises. 2. No awnings or other projections shall be attached to the outside walls of the Building. 3. No sign, advertisement, notice or other lettering shall be exhibited, inscribed, painted or affixed by Tenant on any part of the outside of the Premises or Building unless approved by Landlord. Signs on entrance doors shall, at Tenant's expense, be inscribed, painted or affixed for each tenant by sign makers approved by Landlord. In the event of the violation of the foregoing by Tenant, Landlord may remove same without notice to Tenant or any liability therefor, and may charge the expense incurred by such removal to Tenant. 4. The sashes, sash doors, skylights, windows, heating, ventilating and air conditioning vents and doors that reflect or admit light and air into the halls, passageways or other public places in the Building shall not be covered or obstructed by Tenant. 5. No show cases or other articles shall be put in front of or affixed to any part of the exterior of the Building, nor placed in the public halls, corridors, or vestibules without the prior written consent of Landlord. 6. The bathrooms and plumbing fixtures shall not be used for any purposes other than those for which they were designed, and no sweepings, rubbish, rags, or other substances shall be thrown therein. All damages resulting from any misuse of the bathrooms or fixtures shall be the responsibility of Tenant. 7. Tenant shall not in any way deface any part of the Premises or the Building. 8. No bicycles, vehicles, or animals of any kind shall be brought into or kept in our about the Premises, or in the Building. No cooking shall be done or permitted by Tenant on the Premises except in conformity with all applicable laws, statutes, regulations and ordinances and then only in the area designated as a kitchen, if any, on the Premises of Tenant, which is to be primarily used by Tenant's employees for heating beverages and light snacks, and in the cafeteria. Tenant shall not cause or permit any unusual or objectionable odors to be produced upon or permeate from the Premises. 9. [INTENTIONALLY DELETED.] 10. No space in the Building shall be used for the sale of merchandise, goods, or property of any king at auction except for food items sold in the cafeteria located on the Premises. 11. Tenant shall not make, or permit to be made, any unseemly or disturbing noises or disturb or interfere with occupants of the Building or neighboring buildings or premises or those having business with them, whether by the use of any musical instrument, radio, talking machine, unmusical noise, whistling, singing, or in any other way. Tenant shall not throw anything out of the doors, windows or skylights or down the passageways 12. Neither Tenant, nor any of Tenant's servants, employees, agents, visitors, or licensees, shall at any time bring or keep upon the Premises any inflammable, combustible or explosive fluid, or chemical substance, other than reasonable amounts of cleaning fluids or solvents required in the normal operation of Tenant's business offices. 13. No additional locks or bolts of any kind shall be placed upon any of the doors, walls, accessways, or windows by Tenant, nor shall any changes be made in existing locks or the 41 mechanism thereof, without the prior written approval of Landlord and unless and until a duplicate key or access card, as applicable, is delivered to Landlord. Tenant shall, upon the termination of its tenancy (i) return to Landlord all keys for the Premises and for any area of the Building, or common areas, either furnished to, or otherwise procured by Tenant, (ii) restore the locks, walls, accessways, windows, and doors to their original condition on the date of this Lease by removing any security measures installed by Tenant, repairing any damage to the Premises or to the Building as a result of the restoration and removal, and (iii) in the event of the loss of any keys furnished to Tenant by Landlord, Tenant shall pay to Landlord the cost thereof. 14. Tenant shall not overload any floor. 15. Tenant shall not occupy or permit any portion of the Premises to be used for the possession, storage, manufacture or sale of liquor, narcotics, or tobacco in any form. 16. Tenant shall be responsible for all persons for whom it issues passes and/or keys and shall be liable to Landlord for all acts of such persons. 17. The Premises shall not be used for lodging or sleeping or for any immoral or illegal purpose. 18. The requirements of Tenant will be attended to only by Landlord or the property manager of the Premises. 19. Canvassing, soliciting, and peddling in the Building are prohibited and Tenant shall cooperate to prevent the same. 20. All paneling, and other wood products not considered furniture shall be of fire retardant materials. 21. No smoking is permitted in the Premises, or in the Building. Smoking is permitted outside the Building in designated smoking areas. All cigarette butts and other refuse should be placed in designated containers. 22. No weapons concealed or visible are permitted in the Premises, in the Building, or on the Land. 23. Landlord shall not be responsible to Tenant or liable for the non-observance or violation of any of these Rules and Regulations by any other tenant. Whenever the above rules conflict with any of the rights or obligations of Tenant pursuant to the provisions of the Lease, the provisions of the Lease shall govern. 42 EXHIBIT E ADJACENT PROPERTY That 8.50 acre tract of land lying in the Cedar Fork Township, Morrisville, Wake County, North Carolina, and being a portion of the tract found in Deed Book (D.B.) 5605 Page (Pg.) 216-218 and Book of Maps (BOM) 1998 (Pg.) 1232 in the Register of Deeds office of said Wake County, and being bounded on the North and East by Phase I Lot 8 Paramount Center; on the South by Proposed Paramount Parkway (100' Public right-of-way); and on the West by Proposed Road "A" (100' Public right-of-way); and being more particularly described as follows: Beginning at a point in the Northern right-of-way line of said proposed Paramount Parkway and also being South 41 degrees 45 minutes 05 seconds West 385.98 feet from an existing iron pipe, the Northwest corner of said Lot 8; thence leaving said Northern right-of-way line along a Phase line for Phases I and II, South 48 degrees 14 minutes 55 seconds East 61.24 feet to a point; thence North 90 degrees 00 minutes 00 seconds East 141.35 feet to a point; thence South 00 degrees 00 minutes 00 seconds East 250.34 feet to a point; thence North 90 degrees 00 minutes 00 seconds East 36.51 feet to a point; thence South 00 degrees 00 minutes 00 seconds East 322.48 feet to a point; thence Southwesterly 39.27 feet along a tangential curve to the right, central angle 90 degrees 00 minutes 00 seconds, radius 25.00 feet to a point; thence North 90 degrees 00 minutes 00 seconds West 195.69 feet to a point; thence South 00 degrees 00 minutes 00 seconds West 56.74 feet to a point; thence South 19 degrees 40 minutes 36 seconds West 114.00 feet to a point in the Eastern right-of-way line of said proposed Paramount Parkway; thence along the said Eastern right-of-way line of Paramount Parkway the following calls: Northwesterly 268.57 feet along a non-tangential curve to the left, central angle 15 degrees 27 minutes 55 seconds, radius 995.00 feet to a point of tangency; thence North 85 degrees 47 minutes 19 seconds West 114.70 feet to a point of curvature; thence Northwesterly 153.38 feet along a tangential curve to the right, central angle 33 degrees 32 minutes 30 seconds, radius 262.00 feet to a point of tangency; thence North 52 degrees 14 minutes 49 seconds West 11.29 feet to a point of curvature; thence leaving said proposed Paramount Parkway Eastern right-of-way line, Northwesterly 49.22 feet along a tangential curve to the right, central angle 93 degrees 59 minutes 54 seconds, radius 30.00 feet to a point of tangency in the said Eastern right-of-way line of Road "A"; thence along said Eastern right-of-way line of Road "A", North 41 degrees 45 minutes 05 seconds East 849.98 feet to the Point of Beginning. Said parcel contains 8.50 acres and is the same as shown in a Preliminary Site Plans entitled "PARAMOUNT CENTER - LOT 8" prepared by DSAtlantic Corporation and dated May 20, 1998 with a last revision date of August 15, 1998. The boundary description prepared from the Site Plan embodies the Surveyor's opinion of the location of the boundary lines of the tract and is not to be construed as a certification to quality of title to the property. EX-10.17 5 EXHIBIT 10.17 1 EXHIBIT 10.17 January 13, 1999 PERSONAL AND CONFIDENTIAL - ------------------------- Teresa Pippin 101 Fountain Hills Road Garland, Texas 75044 Dear Teresa: On behalf of Tekelec, I am pleased to offer you employment as Vice President, Human Resources of Tekelec, on the terms and conditions set forth in this letter. As Vice President, Human Resources, you will report directly to Tekelec's Chief Executive Officer, will be principally responsible for Tekelec's human resources matters and will have such other duties and responsibilities as may be delegated to you from time to time by the Chief Executive Officer or the Board of Directors. You may select your start date so long as it is on or before February 15, 1999. Your compensation and benefits will be as follows: 1. Your starting annual base salary will be $200,000 (i.e., $7,692.31 per bi-weekly period). 2. You will be eligible to participate in Tekelec's 1999 Officer Bonus Plan, with your participation to be calculated as if you were a full time employee as of January 1, 1999 and determined in accordance with a percentage of your 1999 base salary. Under the terms of the 1999 Officer Bonus Plan, you will be eligible to receive up to 50% of your annual base salary as a cash bonus if Tekelec achieves certain financial milestones in 1999. For 1999, you will be guaranteed a minimum bonus of $50,000 which will be paid during the first quarter of 2000. 3. You will be entitled to take four weeks personal time annually. 4. You will receive applicable benefits, including health, dental, vision, long-term disability and life insurance, as are generally provided to Tekelec's executive officers. 5. You will be offered the opportunity to participate in Tekelec's Employee Stock Purchase Plan and 401(k) Plan upon your satisfaction of the eligibility requirements for such plans. 2 Teresa Pippin January 13, 1999 Page 2 6. You will be covered by Tekelec's Officer Severance Plan (a copy of which has been previously provided to you). 7. The Compensation Committee of Tekelec will grant to you stock options (incentive stock options to the maximum extent permitted under law, with the balance being nonstatutory stock options) under Tekelec's 1994 Stock Option Plan (the "Plan") to purchase 180,000 shares of Tekelec Common Stock ("Options"), effective as of the later of your start date or the date of the Compensation Committee's action granting such options (the "grant date"). The exercise price of your Options will be equal to the closing price of Tekelec's Common Stock on the grant date (as reported in The Wall Street Journal on the first business day following the grant date). Your Options will vest to the extent of 36,000 shares on the one-year anniversary of your start date. The remaining 144,000 shares will vest and become exercisable cumulatively in 16 equal quarterly installments of 9,000 shares each, with the first installment vesting on June 30, 2000 and one additional installment vesting on the last day of each calendar quarter thereafter as long as you remain an employee of Tekelec. Your Options will expire, to the extent previously unexercised, upon the earlier of ten years from the date of grant or a date not less than three months after you cease to be a Tekelec employee as determined in accordance with the terms of the Plan. The Options will in all respects be subject to the terms and provisions of the Plan and the stock option agreement evidencing the grant of the Options. In addition to the foregoing grant, it is anticipated that the Compensation Committee will periodically, typically annually, consider whether additional options should be granted to you while you remain an officer of the Company. 8. Although your position will be based in Dallas, Texas, your duties will require you to travel as needed to Tekelec offices worldwide. You are aware that Tekelec prohibits employees from unlawfully using confidential or proprietary information belonging to any other person or entity. By signing the enclosed copy of this letter, you agree not to disclose or use or induce Tekelec or any of its employees to use any trade secrets or confidential or proprietary information belonging to any of your former employers. As a condition of commencing your employment with Tekelec, you will be required to sign Tekelec's standard "Confidentiality and Non-Disclosure Agreement and Assignment of Rights" (a copy of which will be provided to you under separate cover). As with every Tekelec employee, you reserve the right to terminate your employment at any time, and we reserve the right to terminate your employment at will. We hope and expect, however, that this will be a long and mutually beneficial relationship. 3 Teresa Pippin January 13, 1999 Page 3 This letter agreement contains our entire understanding with respect to your employment with Tekelec. The provisions of this letter may be amended only by a writing signed by you and Tekelec. If you have any questions about the meaning of any of the terms or provisions included herein, please let me know at your earliest convenience. This letter agreement shall be construed under the laws of California. Teresa, we believe that Tekelec can provide you with opportunities for professional growth and financial return. We look forward to working with you and to a mutually fulfilling and rewarding relationship. If this letter agreement is acceptable to you, then please acknowledge your acceptance by signing and dating the enclosed copy of this letter agreement where indicated below and then faxing (fax number: 818.880.0176) and returning such signed copy to me for receipt no later than January 21, 1999. Sincerely, /s/ Michael L. Margolis Michael L. Margolis Chief Executive Officer and President Acknowledged and Accepted: /s/ Teresa Pippin - ---------------------------------- Date: January 21, 1999 Teresa Pippin EX-21.1 6 EXHIBIT 21.1 1 EXHIBIT 21.1 SUBSIDIARIES OF THE REGISTRANT
STATE OR OTHER JURISDICTION OF NAME OF SUBSIDIARY INCORPORATION OR ORGANIZATION - ------------------ ----------------------------- Tekex Corporation California Tekex Limited U.S. Virgin Islands Tekelec, Ltd. Japan Tekelec Canada Inc. Canada Chameleon Network Systems, Limited United Kingdom Protocol Technologies, Inc. California Chameleon Network Systems California Tekelec Limited United Kingdom
- -------------- * The subsidiaries of the Registrant do not do business under any name other than as listed above. EX-23.1 7 EXHIBIT 23.1 1 EXHIBIT 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We consent to the incorporation by reference in the following Registration Statements of Tekelec on Form S-8 (Registration Nos. 33-48079, 33-82124, 33-60611, 333-05933, 333-28887, 333-37843 and 333-71261) and on Form S-3 (Registration No. 33-62035) of our report dated February 2, 1999, on our audits of the consolidated financial statements and financial statement schedule of Tekelec as of December 31, 1998 and 1997, and for the years ended December 31, 1998, 1997 and 1996, which report is included in this Annual Report on Form 10-K. /s/ PricewaterhouseCoopers LLP Woodland Hills, California March 29, 1999 EX-27.1 8 EXHIBIT 27.1
5 1,000 YEAR DEC-31-1998 JAN-01-1998 DEC-31-1998 31,932 37,704 56,502 763 12,872 150,975 38,692 25,833 210,242 42,213 0 0 0 92,803 72,974 210,242 176,669 176,669 58,902 58,902 66,829 0 0 55,551 16,342 39,209 0 0 0 39,209 0.73 0.67 On July 6, 1998, the Company effected a two-for-one split of its outstanding shares of Common Stock. Data listed for "EPS-PRIMARY" is the newly defined "BASIC EPS". Data listed for "EPS-DILUTED" is the newly defined "DILUTED EPS".
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