-----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, RInDBcdU10+94QsKxXT3JdoabDkNqxUaAsK/cNVEKYMTTixaYlYOvr7MU6gvuyma OZJsG5x43extTbWpDXAB6w== 0000950133-97-001160.txt : 19970401 0000950133-97-001160.hdr.sgml : 19970401 ACCESSION NUMBER: 0000950133-97-001160 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 7 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970331 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: INFORMATION RESOURCE ENGINEERING INC CENTRAL INDEX KEY: 0000850313 STANDARD INDUSTRIAL CLASSIFICATION: RADIO & TV BROADCASTING & COMMUNICATIONS EQUIPMENT [3663] IRS NUMBER: 521287752 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: 1934 Act SEC FILE NUMBER: 000-20634 FILM NUMBER: 97570516 BUSINESS ADDRESS: STREET 1: 8029 CORPORATE DRIVE CITY: BALTIMORE STATE: MD ZIP: 21236 BUSINESS PHONE: 4109317500 MAIL ADDRESS: STREET 1: 8029 CORPORATE DR CITY: BALTIMORE STATE: MD ZIP: 21236 10-K405 1 FORM 10-K FOR YEAR ENDED DECEMBER 31, 1996. 1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K (Mark One) - ---------- [X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the fiscal year ended December 31, 1996 Or [ ] Transition Report Pursuant to Section 13 OR 15 (d) Of the Securities Exchange Act of 1934 Commission File Number 0-20634 INFORMATION RESOURCE ENGINEERING, INC. (Exact name of registrant as specified in its charter) DELAWARE 52-1287752 -------- ---------- (State or other jurisdiction of (IRS Employer Identification No.) incorporation or organization) 8029 Corporate Drive BALTIMORE, MARYLAND 21236 ------------------- ----- (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code (410) 931-7500 -------------- Securities registered under Section 12 (b) of the Exchange Act: NONE Securities registered under Section 12 (g) of the Exchange Act: Name of each exchange on Title of each class which registered ------------------- ---------------- Common Stock, $.01 par value Nasdaq National Market
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. [X] Revenues for the most recent fiscal year were $14,317,423. The aggregate market value of the voting stock held by non-affiliates of the Registrant as of March 21, 1997, based upon the closing price on that date, on the Nasdaq National Market, was approximately $38,578,455. The number of shares of the registrant's Common Stock outstanding as of March 21, 1997 was 5,461,527. DOCUMENTS INCORPORATED BY REFERENCE Part III incorporates information by reference from the registrant's proxy statement for the Annual Meeting of Shareholders, which proxy statement in definitive form will be filed no later than 120 days after the close of the registrant's fiscal year ended December 31, 1996. 2 PART I ITEM 1 - BUSINESS Except for historical information contained herein, the statements in this Item are forward-looking statements that are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks and uncertainties which may cause the Company's actual results in future periods to differ materially from forecasted results. Those risks include, among others, risks associated with the receipt and timing of future customer orders, price pressures and other competitive factors leading to a decrease in anticipated revenues and gross profit margins. See "Glossary of Technical Terms" on page 11 for explanation of certain technical terms used herein. GENERAL Information Resource Engineering, Inc. (the "Company") designs, manufactures and markets enterprise network security systems using encryption technology. The Company's products are used in electronic commerce applications by financial institutions, government agencies and large corporations to secure data transmissions on private and public computer networks, such as the Internet. In order to expand its product offerings, the Company acquired GRETACODER Data Systems, A.G. ("GDS") in October 1995. GDS designs, manufactures and markets cryptographic equipment primarily in Switzerland and Europe. Encryption technologies are utilized by the Company to provide selective access to computer networks, prevent electronic eavesdropping or alteration during electronic data transmission; to provide message authentication confirming that messages are received in unaltered form; and to enable user authentication and digital signatures verifying the identity of the message sender and limiting computer access to authorized users. The Company offers a choice of encryption algorithms to provide the level of network security appropriate for each client application. The Company's clients include seven of the largest banks in the U.S., Union Bank of Switzerland, the Society for Worldwide Interbank Financial Telecommunications ("SWIFT") an international financial clearing house, The Euroclear System ("Euroclear"), MCI Telecommunications Corporation ("MCI"), TRW Inc., major federal, state and international law enforcement agencies and the U.S. Department of Treasury. While the network security market has traditionally been limited to financial institutions and government agencies, the Company believes that emerging electronic commerce applications, particularly business-to-bank and business-to-business, provide new market opportunities. In the second half of 1996, the Company introduced "SafeNet/Enterprise(TM)", a comprehensive, centrally managed security system that enables secure use of public networks, such as the Internet, for private business transactions. In August 1996, the Company announced the formation of a joint product development and marketing agreement with CyberGuard Corporation ("CyberGuard") to provide firewall security solutions, including a Virtual Private Networking (VPN) security solution for Internet business communications to its SafeNet clients. The Company was originally incorporated in Maryland on April 7, 1983 under the name "Industrial Resource Engineering, Inc." The Company reincorporated under its present name in Delaware by merging with its subsidiary in March 1989. The Company's executive offices are located at 8029 Corporate Drive, Baltimore, Maryland 21236, and its telephone number is (410) 931-7500. THE MARKET FOR ENTERPRISE NETWORK SECURITY SOLUTIONS Management believes that the market for security systems and products providing secure remote access to computer networks has grown over the last several years due to an increase in the use of computer networks and the vulnerability of data which is transmitted over these networks. Remote access to computers has increased substantially due to the use of remote databases, work-at-home arrangements or telecommuting, electronic mail, 2 3 satellite offices connected to a central computer, electronic funds transfer, electronic data interchange with clients, suppliers and business partners and numerous other arrangements. With the increasing use of public and private communications networks and the ability of different types of computers to communicate with each other, data integrity and security have gained increased importance. Unsecured data transmitted over public networks, such as the Internet, is subject to interception, electronic vandalism or terrorism, and alteration. The increased use of networked computers also increases risk, both by multiplying the number of access points to valuable data and the number of personal computers which can be utilized to obtain unauthorized information. The Company believes that the use of computer networks such as the Internet, will continue to expand and that, as the reliance on these networks grows, organizations will become more dependent on the integrity and security of the network. A 1996 report from The Yankee Group expects the network security market to grow 70% annually. Therefore, management believes that protecting information on computer networks, such as the Internet, is likely to offer future business growth opportunities. BUSINESS STRATEGY The Company's objective is to be a leading provider of secure network systems, services and products to the growing market for electronic communications. The key elements of the Company's strategy are as follows: Provide Clients with a Broad Range of Enterprise Network Security Solutions The Company has historically grown by applying its technological competence to the development of network security systems and products for use in the complex computer networks of financial, corporate and government clients. The Company's focus on technology has led to a family of products which have reduced the complexity and cost associated with applying encryption technology to computer networks. The SafeNet/Enterprise(TM) product line includes firewalls, encryption and user identification tokens in a comprehensive, centrally managed system. The Company believes that this focus on technology is vital for its future growth and will continue to invest its resources accordingly. Develop an OEM Business The Company believes that, due to the fact that security is a major concern among network users, manufacturers of computer and communications products are seeking to add security capabilities to their products. Consequently, the Company is developing a family of products which can be incorporated into computers and communications products manufactured by others. Such products include smart card readers, a secure communications chip and a line of products designed around the chip. Develop a Transaction Services Business The Company is leveraging its network security expertise to develop a transaction services business since it believes that the recurring revenue stream and strategic relationships generated from such business will be instrumental to its future growth. In the second half of 1996, the Company established the SafeNet/Trusted Services facility at Company headquarters to provide security management services such as subscriber enrollment, product configuration, digital certificates, and key management services to Internet access providers and directly to end users. The Company expects to receive both monthly fixed and fee per transaction revenue for providing such services. Establish Key Strategic Relationships The Company seeks to establish domestic and international relationships with organizations that have the ability to expand the use of encryption technology. Relationships currently exist with the following: Analog Devices Inc. ("ADI"), a leading manufacturer of high-performance integrated circuits, is assisting the Company in the design, manufacture and marketing of the Company's new secure communications chip. The 3 4 new chip, which is expected to become available in 1997, will provide organizations with a highly secure, inexpensive solution to conducting business over computer networks; CybergGuard, a leading provider of network security solutions, has entered into a joint product development and marketing agreement aimed at providing a comprehensive security solution for Internet business communications; MCI, a leading provider of Internet access services; and the Company have entered into a sales and marketing agreement. The Company has joined the MCI Sales Alliance program which allows the MCI sales force and the Company to co-market the Company's SafeNet products. See "Principal Clients"; Financial Services Technology Consortium is a group of leading financial institutions whose goal is to utilize emerging technologies to enhance the competitiveness of the financial services industry. The Company is a member of a multiple industry team formed to design and implement an electronic check for use of the Internet by consumers and businesses. Expand through Acquisition The network security field is characterized by a large number of small organizations which focus on various aspects of security. The Company believes that its major clients and potential clients seek to do business with suppliers that can offer solutions to multiple network security problems; are able to provide global support; and are organizationally and financially stable. Therefore, the Company may seek to augment its internal growth through the acquisition of companies or technology that provide complementary products, systems, management and markets. In November 1995, the Company acquired GDS, a Swiss corporation, which designs manufacturers and markets cryptographic equipment. PRODUCT DESIGN STANDARDS Encryption technologies are utilized by the Company to provide selective access to computer networks, prevent electronic eavesdropping or alteration during electronic data transmission; to provide message authentication confirming that messages are received in unaltered form; and to enable user authentication and digital signatures verifying the identity of the message sender and limiting computer access to authorized users. The Company offers a choice of encryption algorithms to provide the level of network security appropriate for each client application. All of the Company's network security systems and products comply with the following general product design standards: Standards Compliance The Company's policy is to offer products based upon encryption algorithms that have been approved as industry and government standards. This provides the Company's clients assurance that they are using interoperable products which meet commercial reasonability tests as applied by both government regulation and courts of law. Network Compatibility The Company's systems and products contain sufficient intelligence to accommodate the specific communication protocols employed by complex computer networks. Appropriate models of each product type are provided to support Frame Relay, Dial Asynchronous, leased line, X.25, Bisync and Internet protocol-based networks. This network compatibility results in security systems that are completely independent of the computer hardware systems and software application programs used by clients. No modifications to hardware or application software are required to implement the Company's systems and products. 4 5 Ease of Use The Company believes that users of its products, while concerned that their data is secure, do not wish to be required to take specific actions to achieve secure status. Therefore, the Company's products are designed to function without user involvement, thus offering an extremely high level of ease of use. Ease of Administration The Company has extended its ease of use concept to the central management of a secure network with a product known as the SafeNet/Security Center(TM) ("SSC"). The SSC provides central management and tracking capability for the entire encrypted network thus reducing the cost of implementing security for client organizations. For organizations aiming to defer capital and personnel investment, the Company's SafeNet/Trusted Services subsidiary provides comprehensive security management as an optional service performed at the Company's headquarters. Price Performance Criteria The Company believes that in order for clients to invest in encryption technology, its products must be implemented cost effectively. As such, the Company's development staff follows a design approach similar to that used with consumer electronics products that are designed for low manufacturing cost. ENCRYPTION ALGORITHMS At the present time, the Company's products utilize "DES", the U.S. government's Data Encryption Standard and "Skipjack" a new algorithm, recently developed by the U.S. government. DES, as described in American National Standards Institute ("ANSI") Standard X3.92, has been certified by the National Institute of Standards and Technology ("NIST") and is the accepted encryption algorithm for commercial and non-classified government applications in the U.S. as well as financial applications worldwide. The Company has received export approval from the U.S. Commerce Department to export its products with the DES algorithm. The acquisition of GDS added two new encryption algorithms, "GRETACODER" and "RSA." GRETACODER is a highly secure encryption algorithm which has been used by security conscious European organizations including banks and government agencies. RSA is a proprietary algorithm of RSA Data Security Inc. which utilizes public key-based encryption in networks including the Internet. New encryption algorithms are periodically proposed as industry standards. The Company's policy is to adopt and offer its clients new algorithms for various applications as they become certified by standards organizations such as ANSI, NIST and Internet security groups. CURRENT NETWORK SECURITY PRODUCTS AND SYSTEMS The Company's principal network security systems and products, secure information transmissions on public and private networks. Public Network/Internet Products SAFENET/ENTERPRISE(TM). In the second half of 1996, the Company introduced SafeNet/Enterprise(TM), a comprehensive, centrally managed security system that enables secure use of public networks, such as the Internet, for private business transactions. By providing a high level of security, SafeNet/Enterprise(TM) will allow organizations to reduce their networking costs by using the Internet instead of costly private networks. The product line includes: 5 6 - SafeNetDial/(TM), a secure pocket modem operating at 28.8 bps for secure dial access to the Internet by remote users such as traveling professionals and telecommuters, - SafeNet/Dial-R provides security identical to the SafeNet/Dial(TM), without the integral modem, - SafeNet/LAN(TM) Encrypting Firewall which provides security for LAN connections to the Internet, as well as packet filtering, - SafeNet/Firewall is a highly secure proxy firewall based on the CyberGuard Firewall, - SafeNet/Smartcard is a credit card user token that stores user identification and encryption keys in an advanced computer chip, - SafeNet/Soft is a Windows compatible software package that provides continuous user authentication, one-time password generation and data encryption, - SafeNet/Security Center(TM), a high performance workstation which automatically manages the entire suite of SafeNet/Enterprise(TM) products, - SafeNet/Trusted Services provides central management of VPN security as a service 24 hours a day, 365 days a year. Private Network Products SECURE MODEMS. In 1994, the Company introduced its AX400 Secure Modem. The AX400 is a portable device that fits in the palm of a user's hand, weighs just a few ounces and uses power from the remote computer. It contains an internal modem that delivers a 14.4K bps data rate while in secure operation using standards compliant encryption technology. The AX400 also generates a random password for each communications session when a user enters the appropriate personal identification number. Due to its small size, user authentication and data protection capabilities, the AX400 is convenient for mobile or remote users. SECURE DIAL ACCESS SYSTEMS. These products are designed to protect data communications when remote users access host computers via the voice telephone network and are most commonly employed when personal computers are communicating with central computer sites, such as company headquarters. Since computer communications are taking place over normal, unsecured telephone lines, some type of security is frequently required in this application. X.25 SECURITY SYSTEMS. Complex computer networks such as X.25 networks break down the data stream sent from computers into smaller, more manageable pieces called, "packets" which contain address and routing information as well as user data. The X.25 Security System selectively applies encryption technology only to the users data while leaving address and routing information intact, thus assuring proper delivery of user data in secure form at minimal expense. The Company markets X.25 Security Systems under both the IRE and GDS names. LINK SECURITY SYSTEMS. While dedicated links are inherently more secure than dial networks, the nature of the data that is frequently transmitted over dedicated lines (the connections to bank branch offices, for instance) often requires a high level of security. IRE's products are designed to protect synchronous or asynchronous communications at speeds up to 64K bps over dedicated telephone lines. GDS products are designed to protect synchronous or asynchronous communications at speeds up to 2M bps over dedicated telephone lines. The Link Security Systems are protocol transparent and supports asynchronous, bisynchronous, SDLC and HDLC communications protocols. GRETACODER FRAME RELAY ENCRYPTORS. The GDS Frame Relay encryptor combines the advantages of circuit and packet switched services: small delays over the network and lower transmission cost. The properties of Frame Relay make it especially suitable for LAN interconnections where bursty traffic has to be transmitted. 6 7 NEW PRODUCT DEVELOPMENT The Company conducts product development activities to increase the size of its available market through broader product offerings and to reduce the cost of its products resulting in more competitive pricing and/or better operating margins. New products, capable of a high level of security on the Internet, were introduced under the SafeNet/Enterprise(TM) brand name in the second half of 1996. The Company intends to continue to develop new versions of the SafeNet/Enterprise(TM) products to support growth of both its product and service businesses. New encryption algorithms such as the digital signature standard, escrowed encryption or Skipjack, and RSA utilize a technology generally known as public key encryption. The Company believes that this new technology has potential widespread demand, and is therefore developing products that utilize this new technology to manage the security of large computer networks. In January 1997, the Company announced that it is developing a low-cost secure communications chip with ADI. The new chip can combine encryption and communications functions, such as modems and LAN adapters, on a single integrated circuit. The chip supports current and future security standards and can be software personalized for communications applications such as LAN, ADSL, ISDN and cable modems. The initial secure communications chip will be software personalized as a V.34 modem. The Company is currently devoting significant resources toward the foregoing product development activities. There can be no assurance that the Company will successfully complete the development of these products in a timely fashion or that the Company's current or planned products will satisfy the needs of the computer and network security market. PRINCIPAL CLIENTS The Company focuses its marketing efforts on both commercial and U.S. government sales. The Company's largest clients vary from year to year and the Company has experienced shifts in sales patterns with large clients in the past. Accordingly, the complete loss of any large client or substantial reduction of sales to such clients could have a material adverse effect on the Company. Principal commercial clients of the Company, which accounted for more than 10% of total revenues, by year and percentage of revenue were MCI with 27% and 13% of revenues in 1996 and 1995, respectively and The University of California, Lawrence Livermore National Laboratory (11%) in 1994. For the years ended December 31, 1995 and 1994, the percentage of revenues from sales to agencies of the U.S. government was 26% and 20%, respectively. In 1996 revenues from the U.S. Government were less than 10%. Commercial Clients Sales to financial institutions are a central part of the Company's business. Banks use the Company's network security systems and products to protect corporate cash management applications. In these systems, treasurers located at corporations use personal computers to dial into the bank's computing facility in order to transfer funds electronically. The Company's network security systems and products are used to secure electronic funds transfers at Citibank N.A., J.P. Morgan Company, Mellon Bank, Northern Trust Company, PNC Bank and Wachovia Bank. In November 1996, the Company entered into a new sales and marketing agreement with MCI, which transcends the Company's relationship with MCI from a supplier to a marketing alliance partner. The MCI Sales Alliance Program is a cooperative plan for the sales and marketing of IRE's SafeNet Secure Internet products to MCI customers and prospects. The Company believes the Alliance Program is well structured to enable the Company's products to be marketed through the MCI channel. 7 8 In the past year the Company received orders from TRW Inc., the prime contractor for the development and maintenance of the Treasury Communications System (TCS) of the U.S. Department of Treasury . The Company's AX Family and SafeNet/Enterprise(TM) products are being used to protect communications between Treasury departments and offices nationwide. The Company's automated key management center was also purchased by TRW for user identification and authentication, real-time security monitoring, audit services and electronic key delivery. Euroclear is the world's largest provider of security clearinghouse services to over 1,400 large international banks and brokerage firms. Euroclear is owned by a consortium of 120 international financial institutions. The Company's network security systems and products are used to protect the money transfer service available to Euroclear participants. When the participant authorizes a wire transfer for payment, the transfer is protected by the Company's network security systems and products. Participants who wish to use the wire transfer service are required to purchase the Company's remote security devices which provide message authentication, user authentication and data encryption for the participant's funds transfers communications. GDS has also recognized the emerging information security needs of commercial clients, primarily transactions between banks. GDS products are utilized commercially in several countries to protect financial transactions from wiretapping and fraudulent data manipulation. Several Swiss banks and other financial institutions use GDS units to protect their electronically transmitted transactions, including Union Bank of Switzerland, Swiss Interbank Clearing, SWIFT, European Payment Systems Services, Societa Interbancaria per l'Automazione S.p.A., and Swiss Securities Clearing Operation. Government Clients The U.S. Department of Treasury uses the Company's network security systems and products to protect the electronic payment of the government's bills for civilian agencies, securing approximately 750 million payment requests each year, with an annual value of more than $700 billion. In the electronic certification system provided to the U.S. Department of Treasury, the Company's products verify the integrity of electronic payment orders using message and user authentication. The U.S. Department of Energy uses a large installation of the Company's Link Security System in a communications network that is part of a premises security system at a highly classified location. The Department of Energy has deployed the Company's Link Security System at an additional installation. Other government agencies deploying the Company's systems and products include the Federal Bureau of Investigation, National Crime Information Network, U.S. Drug Enforcement Agency and U.S. Customs Service. The Company's security systems and products are utilized by these law enforcement agencies to protect sensitive information traveling across telephone and computer networks. CLIENT SUPPORT AND PRODUCT WARRANTIES The Company provides support for clients through a staff of support engineers knowledgeable in both the Company's network security systems and products and complex computer networks. In addition to supporting clients, this group of engineers performs system level quality assurance testing of new products and product enhancements. The Company provides client telephone support, including 24 hour a day "hot line" support. In addition, the Company offers on-site training, installation and trouble-shooting services, generally on a fee basis. The Company provides limited warranties on its products for one year from acceptance of a product. After warranty expiration, clients may purchase an extended warranty support contract. This contract extends warranty service for an additional one year period, providing repair or replacement of defective products, telephone support, software and firmware support, regular maintenance releases for products and early access to major product enhancements. The Company also offers support on a time and materials basis. 8 9 SALES AND MARKETING Sales In North America, IRE sells its products through a direct sales force headed by a Vice President of U.S. Sales. In Switzerland, GDS sells its products through a direct sales force reporting to a sales manager at GDS. Outside of such territories, the Company and GDS sell their products through distributors of communication or information security products. Support for these distributors is provided by a sales force headed by a Vice President of International Sales. The Company intends to increase its European presence through the acquisition of GDS, which, by virtue of its central European location and its brand name recognition, is suited to distribute and support IRE products as well as products under the GRETACODER brand name. Marketing In 1996, the Company's marketing program emphasized expanded public relations and continued trade show participation to generate sales leads resulting in increased coverage of the Company's products in leading trade publications. In addition, the Company has upgraded the quality of its sales materials, equipping each sales employee with the capability to make live demonstrations illustrating the value and efficacy of secure communications to prospective clients. INVENTORY, SUPPLIES AND MANUFACTURING Components for the Company's products are purchased from a limited number of electronic parts manufacturers and distributors. Electronic assembly firms are used to mount components onto printed circuit boards according to designs and instructions provided by the Company's engineers. Since the components are readily available from other suppliers and since there are several electronic assembly firms available, a change in suppliers would not have a material effect on the Company's operations. However, while the Company has not experienced any significant supply problems in the past, it is possible that in the future the Company may encounter shortages in parts, components, or other elements vital to the manufacture, production and sale of its products. GDS operations are quality certified according to ISO 9001 and EN 29001. This is meant to ensure that quality control procedures satisfying the requirements of these standards are maintained in all processes performed by GDS. Actual compliance and control are checked by semi-annual third party audits. In addition to manufacturing, such certifications also extend to marketing, sales and administration. The Company anticipates that it will continue to utilize qualified suppliers and electronic assembly firms to produce sub-assemblies. The Company presently performs system integration, final assembly and testing which consists of assembling the cases containing the product components; attaching integrated circuits, which contain the specific computer instructions and algorithms, to printed circuit boards; labeling; adding serial numbers; testing; packaging and shipping. The Company has and will continue to utilize contract manufacturers for products requiring high volume production. COMPETITION The network security market is relatively new, highly competitive and subject to rapid technological changes. The Company believes that competition in this market is likely to intensify as a result of increasing demand for network security products. There are several companies in this field that have been established longer than the Company, and have greater financial, research, service support and marketing resources than those of the Company. There are also a number of other data encryption methods on the market, both hardware and software, which compete with the Company's products. 9 10 Management believes that the principal competitive factors affecting the network security market include standards compliance, quality/reliability, technical features, network compatibility, ease of use, client service and support, distribution and price. Although the Company believes its products currently compete favorably with respect to such factors, there can be no assurance that the Company can maintain its competitive position against current and potential competitors. If the network security market continues to develop, it will likely be characterized by rapid advances in technology and the continuing introduction of new products which could render the existing technology upon which the Company's products are based obsolete or non-competitive. This risk will increase to the extent that the Company's competitors include manufacturers of computer equipment and modems to which the Company's products relate, since such manufacturers may be in a better position than the Company to develop security products in anticipation of developments in their computer equipment. INTELLECTUAL PROPERTY In September 1996, the Company was awarded a United States Patent covering portable encrypting and authenticating network interface devices such as modems. The new patent provides the Company with ownership rights to a technology that the Company believes will be applicable to the growth of computer networks, such as the Internet. The patent covers various forms of pocket-sized devices including PCMCIA and Smartcard-based secure tokens and is adaptable to modems and newer network technologies including ISDN, ADSL and cable modems. The Company's products covered by the patent include the SafeNet/Dial(TM) and the AX400. The computer software source codes, which are essential elements of the Company's products, are the proprietary trade secrets of and are copyrighted by the Company. The protection of proprietary technology and information developed by the Company will be limited to such protection as the Company may be able to secure pursuant to trade secret or copyright laws or under any confidentiality agreements which it may enter. The Company has filed trademarks and trade names for certain of its product names and marks, however, there is no assurance as to the validity, enforceability or lack of infringement of such trade names and trademarks. In March 1996, the Company acquired an option for exclusive worldwide license rights, subject to the issuance of a United States Patent, to a self authenticating fingerprint identification card for certain computer security and financial applications from CardGuard International, Inc. ("CardGuard"). The Company has been informed by CardGuard that it expects a United States Patent with respect to the technology to be issued in 1997. At present, the Company is a party to confidentiality agreements with its officers, directors and employees. There can be no assurance that the scope of any such protection the Company is able to secure will be adequate to protect its proprietary information, or that the Company will have the financial resources to engage in litigation against parties who may infringe such proprietary technology or copyrights. In addition, there can be no assurance that others will not develop similar technology independently of the Company. The Company believes that its products do not infringe the proprietary rights of third parties. There can be no assurance, however, that third parties will not assert infringement claims in the future. EMPLOYEES As of March 21, 1997, the Company had approximately 115 full time employees, of whom 14 are engaged in assembly and quality control, 13 in administration and financial control, 47 in engineering, development and client support, and 41 in marketing and sales. The Company employs 85 full time employees in the U.S. and 30 persons are in Switzerland. 10 11 GLOSSARY OF TECHNICAL TERMS ALGORITHM A process or procedure, generally expressed as a set of instructions for carrying out a particular task. ASYNCHRONOUS Data transmission that takes place one character (of 5 to 8 bits) at a time, with each character preceded by a start code and followed by a stop code of set duration. BISYNCHRONOUS (BISYNC) A type of synchronous communication protocol characterized by bi-directional transmission of character-oriented data. DEDICATED LINK A type of network wherein telecommunications lines are dedicated to particular clients along predetermined routes. DIAL ASYNCHRONOUS A type of network wherein remote computers access a host computer through dial telephone lines and the clocks need not be synchronous. DIGITAL SIGNATURE A mechanism that allows the recipient of information stored in digital form to prove that the information originated from the claimed source. DIGITAL SIGNATURE STANDARD A U.S. Government standard for digital signatures using the Digital Signature Algorithm, proposed by NIST. ENCRYPT, ENCRYPTION TECHNOLOGY The protection of data employing cryptographic procedures to convert it to a form that is unintelligible until it is converted back to its original form. FIREWALL Hardware or software devices which screen data traffic at Internet access points in order to assure that only authorized data and users can reach computers that are connected to the network. FRAME RELAY A data communication technology that is used to provide higher speed for Internet connections. Its usual application is in connecting work groups rather than individuals. HDLC High Level Data Link Control. A well-known family of data link layer protocols defined by the International Standards Organization. INTERNET A global collection of interconnected computer networks which use TCP/IP, a common communications protocol. INTRANET A network within an organization which provides similar services to the Internet but is not necessarily connected to it. ISDN A collection of telecommunications protocols and standards for high-speed, error-minimized, digital data and voice transmission at speeds up to 128 Kbps worldwide. KEY, CRYPTOGRAPHIC KEY A sequence of letters/numbers/bits which is used by a cryptographic algorithm to transform data from plaintext to ciphertext or vice versa. DES uses a key which is 56 bits long. KEY MANAGEMENT SYSTEM OR CENTER The physical place or workstation running specialized programs that are responsible for generating, disseminating, distributing, changing, replacing, storing, checking, and destroying cryptographic keys. 11 12 LAN Local-Area Network. An interconnected set of systems and devices--such as PCs, mainframes, workstations, minicomputers, file servers, terminals, printers, and other communications and computing devices--within a localized environment. LINK ENCRYPTION The use of encryption at the beginning, and decryption at the end, of each link in a communications chain. MESSAGE AUTHENTICATION A system in which a cryptographic checksum/checkfunction is created for a message, and the result added to the message. The recipient performs the same procedure on the message and compares the computed result to that appended to the original message to verify that it is complete and has not been modified in any way. PACKET A collection of data and control characters in a specified format that are transferred as a whole. PRIVATE KEY One of the two keys in a public-key cryptographic system--normally the key used for decryption--which is kept secret. PROTOCOL A set of rules and conventions for communications, especially those in a network, that include specifications of syntax, semantics, and timing. PUBLIC KEY One of the two keys in a public-key cryptographic system, normally made public or distributed to others for their use in encrypting messages to a particular recipient. PUBLIC-KEY CRYPTOGRAPHY A cryptographic system employing separate keys for encryption and decryption. One of the keys can be made public, thus enabling a message to be encrypted for transmission to a particular recipient, preserving its confidentiality because no one without the private key can decipher the message. SDLC Synchronous Data Link Control. A bit-oriented IBM version of HDLC protocol, as used in IBM's Systems Network Architecture. SMARTCARD A plastic card resembling a credit card containing one or more computer chips and logic for identification, special-purpose processing, and data storage and distribution. SYNCHRONOUS DATA Transmission that takes place with predictable, exact departure or arrival times regulated by clocking data. TCP/IP Transmission Control Protocol/Internet Protocol. A suite of network protocols that allow computers with different architectures and operating system software to communicate with other computers on the Internet. USER AUTHENTICATION Generally, a means of verifying the claimed identity of an individual computer user or terminal so as to properly determine what access rights are to be given. VPN Virtual Private Network. Same as Intranet. A network within an organization which provides similar services to the Internet but is not necessarily connected to it. X.25 A widely used protocol standard for telecommunications between a computer and a packet-switched data network; it encompasses layers 2 and 3 of the OSI model. 12 13 ITEM 2 - PROPERTIES The Company maintains its corporate and administrative facilities at 8029 Corporate Drive, Baltimore, Maryland. The building, constructed in 1988, has approximately 25,000 square feet and is also used for the Company's executive headquarters, United States production facilities and for SafeNet Trusted Services. The lease, which expires in June 2003, requires the Company to pay real estate taxes, insurance and maintenance. The lease, which provides for annual increases in rentals during each year of the lease, requires the Company to pay approximately $155,000 in 1997. GDS leases approximately 20,000 square feet for its administrative and production facilities in Regensdorf, Switzerland. The lease, which expires on December 31, 1997, calls for an annual rental of approximately $347,000. The Company also leases office space in Danvers, MA for its consulting staff and in Bethesda, MD for its international sales staff. ITEM 3 - LEGAL PROCEEDINGS The Company knows of no litigation or proceeding, pending or threatened, to which the Company is or may become a party. ITEM 4 - SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS There were no matters submitted to the vote of Security Holders, through the solicitation of proxies or otherwise, during the fourth quarter of the fiscal year covered by this report. PART II ITEM 5 - MARKET FOR COMMON EQUITY AND RELATED MATTERS The following table sets forth the range of high and low sales prices for the Company's Common Stock, as reported by the Nasdaq National Market under the symbol IREG.
HIGH LOW ------ ------ 1997: First Quarter (through March 21, 1997) $10.75 $8.125 1996: Fourth Quarter 20.25 8.75 Third Quarter 24.75 10.50 Second Quarter 29.50 17.75 First Quarter 25.50 16.00 1995: Fourth Quarter 29.00 15.88 Third Quarter 21.00 12.00 Second Quarter 14.13 6.75 First Quarter 9.22 5.88
On March 21, 1997, the last reported sale price of the Company's Common Stock was $9.00, as reported by the Nasdaq National Market. As of that date, there were approximately 259 holders of record of the Common Stock and 3100 beneficial holders of the Common Stock. The Company has not paid dividends on its Common Stock and intends for the foreseeable future to retain earnings, if any, to finance the expansion and development of its business. 13 14 ITEM 6 - SELECTED FINANCIAL DATA The selected financial data set forth below as of and for each of the five-years ended December 31, 1996 are derived from the Consolidated Financial Statements of the Company, which financial statements have been audited by KPMG Peat Marwick LLP. The Consolidated Financial Statements as of December 31, 1995 and 1996 for the years then ended are included elsewhere herein. The selected financial data is qualified by and should be read in conjunction with the Financial Statements, and Management's Discussion and Analysis of Financial Condition and Results of Operations included elsewhere herein. (IN THOUSANDS, EXCEPT PER SHARE DATA)
Year ended December 31, -------------------------------------------------------------------------- 1992 1993 1994 1995 1996 ----------- ----------- ---------- ---------- ----------- STATEMENT OF OPERATIONS DATA Revenues $3,110 $2,631 $3,424 $8,149 $14,317 Cost of revenues 768 871 1,233 3,318 7,672 ----------- ----------- ---------- ---------- ----------- Gross profit 2,342 1,760 2,191 4,831 6,645 Selling, general and administrative expenses 1,426 1,833 2,694 4,609 11,509 Amortization of acquired intangible assets -- -- 410 631 732 Write-off of unamortized acquired intangible assets from the Connective Strategies, Inc. acquisition -- -- -- -- 2,216 ----------- ----------- ---------- ---------- ----------- Operating earnings (loss) 916 (73) (913) (409) (7,812) Interest income (expense), net 19 117 24 (96) 728 ----------- ----------- ---------- ---------- ----------- Earnings (loss) before income taxes 935 44 (889) (505) (7,084) Income tax expense (benefit) 222 (15) (173) 190 -- ----------- ----------- ---------- ---------- ----------- Net earnings (loss) 713 59 (716) (695) (7,084) Preferred stock dividends 31 128 85 82 -- ----------- ----------- ---------- ---------- ----------- Net earnings (loss) attributable to common stock $ 682 $ (69) $ (801) $ (777) $(7,084) =========== =========== ========== ========== =========== Earnings (loss) per common share $ .27 $ (.02) $ (.25) $ (.20) $ (1.34) =========== =========== ========== ========== =========== Weighted average number of common shares outstanding 2,485 3,000 3,229 3,826 5,305
December 31, ------------------------------------------------------------ 1992 1993 1994 1995 1996 --------- --------- ---------- --------- --------- BALANCE SHEET DATA Working capital $ 3,914 $ 3,536 $ 671 $ 2,186 $16,664 Intangible assets 298 384 3,974 4,927 3,223 Total assets 4,852 4,812 7,724 15,472 24,653 Long-term debt -- -- 116 47 17 Stockholders' equity 4,335 4,236 5,405 8,216 21,861
14 15 ITEM 7 - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Except for historical information contained herein, the statements in this Item are forward-looking statements that are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements involve known and unknown risks and uncertainties which may cause the Company's actual results in future periods to differ materially from forecasted results. Those risks include, among others, risks associated with the receipt and timing of future customer orders, price pressures and other competitive factors leading to a decrease in anticipated revenues and gross profit margins. OVERVIEW The Company designs, manufactures and markets enterprise network security solutions using encryption technology. The Company's products are used in electronic commerce applications by financial institutions, government agencies and large corporations to secure data transmissions on private and public computer networks, such as the Internet. In order to expand its product offerings, the Company acquired GDS in October 1995. GDS designs, manufactures and markets cryptographic equipment primarily in Switzerland and Europe. During 1994, the Company acquired CSI which designs, manufactures and markets communication equipment enabling data/voice connectivity via the ISDN. In the past year, the Company has invested in the development of a new secure communications chip. Due to this new superseding technology, which does not utilize CSI's ISDN product, the Company no longer markets its CSI products to new customers. Consequently, the Company has taken a one-time charge of $2,216,200 related to the write-off of the unamortized acquired intangible assets from this acquisition. Future CSI ISDN product sales are not expected to be significant since the products will only be sold pursuant to commitments to existing customers. The Company's historical operating results have been dependent on a variety of factors including, but not limited to, the length of the sales cycle, the timing of orders from and shipments to clients, product development expenses and the timing of development and introduction of new products. The Company's expense levels are based, in part, on expectations of future revenues. The size and timing of the Company's historical revenues have varied substantially from quarter to quarter and year to year. Accordingly, the results of a particular period, or period to period comparisons of recorded sales and profits may not be indicative of future operating results. While Management is committed to the long-term profitability of the Company, the recent growth of the computer security industry has made it important that market share be obtained. The Company has undertaken various strategies in order to increase its revenues and improve its future operating results, including the GDS acquisition and new product offerings such as its SafeNet/Enterprise(TM) products for the Internet and the SafeNet/Security Center(TM), a high performance workstation which automatically manages SafeNet/Enterprise(TM) products. Management believes that growth in the market for products that provide secure remote access to computer networks requires the Company to increase its investment in development, sales and marketing activities to allow the Company to take advantage of this market opportunity and to achieve long-term profitability thereby maximizing shareholder value. Accordingly, the Company incurred additional personnel costs associated with expansion of its sales, marketing and engineering staff in 1995 and 1996. However, there can be no assurance that these strategies will be successful. RESULTS OF OPERATIONS OF THE COMPANY The following table sets forth certain Consolidated Statement of Operations data of the Company as a percentage of revenues for the years ended December 31: 15 16
1994 1995 1996 ------ ------ ------ Revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 100 % 100 % 100 % Cost of revenues . . . . . . . . . . . . . . . . . . . . . . . . . . . . 36 41 54 ---- --- --- Gross profit . . . . . . . . . . . . . . . . . . . . . . . . . . . . 64 59 46 Selling, general and administrative expenses . . . . . . . . . . . . . . 79 57 80 Amortization of acquired intangible assets . . . . . . . . . . . . . . . 12 7 5 Write-off of unamortized acquired intangible assets from the CSI acquisition . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . - - 15 ---- --- --- Operating loss . . . . . . . . . . . . . . . . . . . . . . . . . . . (27) (5) (54) Interest income (expense), net . . . . . . . . . . . . . . . . . . . . . 1 (1) 5 ---- --- --- Earnings (loss) before income tax expense (benefit) . . . . . . (26) (6) (49) Income tax expense (benefit) . . . . . . . . . . . . . . . . . . . . . . (5) 2 - ---- --- --- Net earnings (loss) . . . . . . . . . . . . . . . . . . . . . . . . . . . (21) % (8) % (49) % ==== === ===
Year ended December 31, 1996, Compared to Year ended December 31, 1995 Revenues increased 76%, or $6,168,199, to $14,317,423 for the year ended December 31, 1996, from $8,149,224 in 1995. Of the increase, $2,228,055 is attributable to network security systems and products, mainly the Company's SafeNet/Enterprise(TM) dial access products for the Internet. The remainder of the increase, $3,940,144, is attributable to the revenues of GDS. Since GDS was acquired in October 1995, the year ended December 31, 1995 includes only two months revenue from GDS. On a pro forma basis, which includes GDS, revenues for 1995 were $13,175,000. The Company concluded discussions with MCI in the fourth quarter of 1996 to terminate a previous product agreement under which MCI was obligated to purchase approximately $7.0 million of SafeNet/Enterprise(TM) products during the twelve month period ending in September 1997. Pursuant to a new Alliance and Joint Marketing Agreement between the Company and MCI, the Company has become a member of the MCI Strategic Alliance Program (the "Program") and has received an option to purchase the existing MCI inventory of the Company's SafeNet/LAN(TM) and dial access products at a substantial discount. The Company believes that the Program will provide a significant marketing opportunity for its SafeNet/Enterprise(TM) products as the Program has for its other current participants. There can be no assurance, however, that the Program will be successful for the Company or that the Program will generate sufficient SafeNet/Enterprise(TM) product sales volume to enable the Company to benefit from the discounts offered by MCI. On a pro forma basis, revenues from sales of network security products during the last six months of 1996 increased by $138,000 over similar revenues during the same time period in 1995 when sales to MCI are removed from both periods. Cost of revenues increased to 54% for the year ended December 31, 1996, from 41% for 1995. Cost of revenues includes $236,000 in 1996 and $238,000 in 1995 for amortization of a purchase accounting adjustment to the carrying value of GDS inventory. Without this charge cost of revenues was 52% in 1996 and 38% in 1995. On a pro forma basis, which includes GDS, the cost of revenues was 39% in 1995. The 1996 increase reflects higher costs associated with the production of the SafeNet/Enterprise(TM) dial access products for the Internet, changes in GDS product mix, and a favorable profit margin on a large purchase order in the first quarter of 1995. The recent growth in Internet security products has made market share very important. Accordingly, the Company realized a lower gross profit on the SafeNet dial access products sold to MCI in the first half of 1996. It is anticipated that the gross margin will be improved in subsequent periods by developing new products, by changing the product sales mix, by improved sales and marketing activities and by the net service revenues to be generated by the SafeNet/Security Center(TM) which is projected to begin operations in 1997. Selling, general and administrative expenses ("SG&A") totaled $11,509,304 in the year ended December 31, 1996, compared to $4,609,358 for 1995. On a pro forma basis, which includes GDS, SG&A totaled $8,180,000 in 1995. The increase in SG&A is primarily related to increased personnel related costs associated with the expansion of the sales, marketing and engineering staffs ($1,446,000), to increased sales and marketing activities ($635,000), 16 17 to expansion of client support functions ($341,000), and to start-up costs associated with SafeNet Trusted Services ($672,000). The Company had a net operating loss of $7,812,682 for the year ended December 31, 1996, compared to $409,397 in 1995. The 1996 operating loss includes charges for amortization of acquired intangible assets from the recent acquisitions of CSI and GDS of $732,644, compared to $630,658 in 1995. The 1996 loss also includes a one-time charge of $2,216,200 for the write-off of unamortized acquired intangible assets from the CSI acquisition. Net interest income totaled $728,132 in 1996, which is attributable to the temporary investment of surplus cash that resulted mainly from the Company's public offering of 1,172,500 shares of common stock in February 1996, compared to net interest expense of $95,854 in 1995. The Company had no income tax expense for the year ended December 31, 1996, compared with $190,000 for the year ended December 31, 1995. The Company has established a valuation allowance since its ability to fully use the net operating loss is dependent upon future taxable income. The Company had a net loss of $7,084,550 for the year ended December 31, 1996, compared to $695,251 in 1995. The loss per common share was $1.34 for the year ended December 31, 1996, of which $.42 is associated with the one-time charge, compared to a loss of $.20 per share in 1995. On a pro forma basis, the net loss was $.30 in 1995. Year ended December 31, 1995, Compared to Year ended December 31, 1994 Revenues increased 138%, or $4,725,463, to $8,149,224 for the year ended December 31, 1995, from $3,423,761 in 1994. Network security system and product sales increased $1,482,920. In addition, $946,700 of the increase is attributable to revenues from ISDN products added as a result of the CSI acquisition and $2,295,843 is attributable to GDS revenues after its acquisition. Since CSI was acquired in October 1994, the year ended December 31, 1994 includes only two months revenue from ISDN products. Since GDS was acquired in October 1995, the year ended December 31, 1994 does not includes any revenue from GDS products. On a pro forma basis, which includes CSI and GDS, revenues were $13,175,000 for 1995 and $13,407,000 for 1994. Cost of revenues increased to 41% for the year ended December 31, 1995, from 36% for 1994. Cost of revenues in 1995 includes $238,000 for amortization of a purchase accounting adjustment to the carrying value of GDS inventory. Without this charge the cost of revenues was 38% in 1995. On a pro forma basis, the cost of revenues was 39% in 1995, compared to 40% in 1994. Selling, general and administrative expenses were $4,609,358 for the year ended December 31, 1995, compared to $2,694,019 for 1994. On a pro forma basis, SG&A totaled $8,180,000 in 1995 and $7,318,000 in 1994. The increase in SG&A was primarily related to GDS expenses for which there were no corresponding amounts in 1994 ($655,000), increased personnel related costs ($1,069,000), increased marketing costs ($231,000), and increased consultants costs related to product development and general corporate purposes ($196,000). The Company had a net operating loss of $409,397 for the year ended December 31, 1995, compared to $912,585 in 1994. The 1995 loss includes the charge for amortization of acquired intangible assets of $630,658, compared with $409,813 in 1994. Net interest expense totaled $95,854 in 1995, which is primarily attributable to promissory notes issued in the GDS acquisition, compared to net interest income of $24,082 in 1994. The Company had income tax expense of $190,000 for the year ended December 31, 1995, compared with an income tax benefit of $173,000 in 1994. The tax expense in 1995, despite the pre-tax loss, is due principally to a $203,000 foreign tax provision on GDS earnings which offset an acquired deferred tax asset, and the establishment of a valuation allowance of $169,500. In addition, the amortization of acquired intangible assets and the amortization of the GDS purchase accounting adjustment are not deductible for income tax purposes. 17 18 The Company's net loss decreased to $695,251 for the year ended December 31, 1995, from a net loss of $715,503 in 1994. The loss per common share was $.20 in the year ended December 31, 1995, compared to $.25 in 1994. On a pro forma basis, the net loss was $.30 in 1995, compared to $.06 in 1994. LIQUIDITY AND FINANCIAL POSITION OF THE COMPANY The Company believes that its current cash resources, together with the cash flows from operations, will be sufficient to meet its needs for its 1997 fiscal year. As of December 31, 1996, the Company had cash, short-term investments and accounts receivable totaling $15,793,000 and a backlog of $1,987,000. In February 1996, the Company completed a public offering of 1,172,500 shares of common stock at a per share price of $20.00. The net proceeds to the Company from the offering were $21,035,000 after deducting offering expenses. The proceeds were used to pay promissory notes incurred in the GDS acquisition ($3,853,416) and for working capital and general corporate purposes, including product development and expansion of the Company's sales and marketing efforts. In August 1996, the Company signed a Joint Development and Marketing Agreement with CyberGuard. The companies have developed and intend to market a product that combines the Company's SafeNet/Enterprise(TM) products and CyberGuard's Firewall product. In connection therewith, the Company has prepaid a refundable $1.0 million license fee to CyberGuard which it believes will be recovered through purchases of Firewall products. The Company increased its inventory by $1,203,827 during the year. A $1,489,569 increase in finished goods which was partially offset by $285,742 decline in raw materials. The finished goods increase was mainly caused by the cancellation of the MCI contract. Internet security products had been produced in anticipation of being shipped to MCI. While the Company believes that it will sell these products during 1997, there can be no assurance that they will be sold during the period. Significant uses of the Company's financial resources in 1996 include $1,274,770 spent on the purchase of fixed assets related primarily to the establishment of its SafeNet/Trusted Services build-out of previously unused office space, and equipment associated with the expansion of its sales, marketing and engineering efforts. Other uses include $280,979 paid to retire certain debt. INFLATION AND SEASONALITY The Company does not anticipate that inflation will significantly impact its business. The Company does not believe its business is seasonal, however, because the Company recognizes revenues upon shipment of finished products, such recognition may be irregular and uneven, thereby disparately impacting quarterly operating results and balance sheet comparisons. 18 19 ITEM 8 - FINANCIAL STATEMENTS INDEX TO FINANCIAL STATEMENTS
PAGE ---- Independent Auditors' Report 20 Consolidated Balance Sheets as of December 31, 1995 and 1996 21 Consolidated Statements of Operations for the years ended December 31, 1994, 1995 and 1996 23 Consolidated Statements of Stockholders' Equity for the years ended December 31, 1994, 1995 and 1996 24 Consolidated Statements of Cash Flows for the years ended December 31, 1994, 1995 and 1996 25 Notes to Consolidated Financial Statements 27
19 20 INDEPENDENT AUDITOR'S REPORT The Board of Directors Information Resource Engineering, Inc.: We have audited the accompanying consolidated balance sheets of Information Resource Engineering, Inc. and subsidiaries as of December 31, 1995 and 1996, and the related consolidated statements of operations, stockholders' equity and cash flows for each of the years in the three-year period ended December 31, 1996. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Information Resource Engineering, Inc. and subsidiaries as of December 31, 1995 and 1996, and results of their operations and their cash flows for each of the years in the three-year period ended December 31, 1996 in conformity with generally accepted accounting principles. KPMG PEAT MARWICK LLP Baltimore, Maryland March 21, 1997 20 21 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Consolidated Balance Sheets December 31, 1995 and 1996
=================================================================================================================== 1995 1996 - ------------------------------------------------------------------------------------------------------------------- ASSETS Current assets: Cash and cash equivalents $ 2,656,494 11,916,991 Short-term investments -- 2,311,980 Accounts receivable (note 4) 4,328,211 1,564,381 Inventories (note 5) 2,340,168 3,543,995 Recoverable income taxes 32,369 -- Prepaid expenses 36,815 101,843 - ------------------------------------------------------------------------------------------------------------------- Total current assets 9,394,057 19,439,190 Equipment and leasehold improvements, net (notes 6 and 9) 1,069,792 1,842,725 Computer software development costs, net of accumulated amortization of $833,222 and $336,525 2,863,351 1,142,352 Goodwill, net of accumulated amortization of $133,998 and $142,662 2,063,188 1,080,568 Prepaid license fee (note 16) -- 1,000,000 Other assets 81,806 148,406 - ------------------------------------------------------------------------------------------------------------------- $ 15,472,194 24,653,241 ===================================================================================================================
(Continued) 21 22 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Consolidated Balance Sheets, Continued December 31, 1995 and 1996
==================================================================================================================== 1995 1996 - -------------------------------------------------------------------------------------------------------------------- LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Notes payable (note 8) $ 4,053,416 -- Current maturities of long-term debt (note 9) 68,787 18,480 Accounts payable 1,376,846 1,288,929 Accrued expenses (note 7) 1,517,513 1,317,389 Deferred revenue on maintenance contracts 191,788 150,498 - -------------------------------------------------------------------------------------------------------------------- Total current liabilities 7,208,350 2,775,296 Long-term debt, less current maturities (note 9) 47,382 16,710 - -------------------------------------------------------------------------------------------------------------------- Total liabilities 7,255,732 2,792,006 - -------------------------------------------------------------------------------------------------------------------- Stockholders' equity (notes 10 and 14): Preferred stock, $.01 par value per share. Authorized 500,000 shares -- -- Common stock, $.01 par value per share. Authorized 15,000,000 shares, issued and outstanding 4,244,827 shares in 1995 and 5,458,127 shares in 1996 42,448 54,581 Additional paid-in capital 9,712,777 30,917,584 Deficit (1,512,453) (8,597,003) Cumulative foreign currency translation adjustment (26,310) (513,927) - -------------------------------------------------------------------------------------------------------------------- Net stockholders' equity 8,216,462 21,861,235 Commitments (notes 12 and 16) - -------------------------------------------------------------------------------------------------------------------- $ 15,472,194 24,653,241 =====================================================================================================================
See accompanying notes to consolidated financial statements. 22 23 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Consolidated Statements of Operations Years ended December 31, 1994, 1995 and 1996
===================================================================================================================== 1994 1995 1996 - --------------------------------------------------------------------------------------------------------------------- Revenues (note 4) $ 3,423,761 8,149,224 14,317,423 Cost of revenues (note 4) 1,232,514 3,318,605 7,671,957 - --------------------------------------------------------------------------------------------------------------------- Gross profit 2,191,247 4,830,619 6,645,466 Selling, general and administrative expenses 2,694,019 4,609,358 11,509,304 Amortization of acquired intangible assets (note 3) 409,813 630,658 732,644 Write-off of unamortized acquired intangible assets from the Connective Strategies, Inc. acquisition -- -- 2,216,200 - --------------------------------------------------------------------------------------------------------------------- Operating loss (912,585) (409,397) (7,812,682) Interest income (expense), net 24,082 (95,854) 728,132 - --------------------------------------------------------------------------------------------------------------------- Loss before income tax expense (benefit) (888,503) (505,251) (7,084,550) Income tax expense (benefit) (note 11) (173,000) 190,000 -- - --------------------------------------------------------------------------------------------------------------------- Net loss (715,503) (695,251) (7,084,550) Preferred stock dividends (85,870) (82,270) -- - --------------------------------------------------------------------------------------------------------------------- Net loss attributable to common stockholders $ (801,373) (777,521) (7,084,550) ===================================================================================================================== Loss per common share $ (.25) (.20) (1.34) ===================================================================================================================== Weighted average number of common shares outstanding 3,228,806 3,826,831 5,304,984 =====================================================================================================================
See accompanying notes to consolidated financial statements. 23 24 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Consolidated Statements of Stockholders' Equity Years ended December 31, 1994, 1995 and 1996
==================================================================================================================================== 9% Convertible Series A convertible redeemable cumulative redeemable cumulative preferred stock preferred stock Common stock --------------------- --------------------- ----------------------- Shares Amount Shares Amount Shares Amount - ------------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1993 83,847 $ 838 -- $ -- 3,136,851 $ 31,368 Stock options exercised -- -- -- -- 600 6 Conversion of preferred stock (8,761) (87) -- -- 20,612 206 Issuance of common stock and Series A convertible redeemable cumulative preferred stock in connection with acquisition of Connection Strategies, Inc. (note 3) -- -- 65 1 480,000 4,800 Preferred stock dividends declared -- -- -- -- -- -- Net loss for 1994 -- -- -- -- -- -- - ------------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1994 75,086 751 65 1 3,638,063 36,380 Sale of common stock, net of offering expenses -- -- -- -- 300,000 3,000 Stock options exercised -- -- -- 300 3 Conversion of preferred stock (74,586) (746) (65) (1) 240,464 2,405 Redemption of preferred stock (500) (5) -- -- -- -- Issuance of common stock upon exercise of warrants, net of registration expense -- -- -- -- 66,000 660 Preferred stock dividends declared -- -- -- -- -- -- Net loss for 1995 -- -- -- -- -- -- Foreign currency translation adjustment -- -- -- -- -- -- - ------------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1995 -- -- -- -- 4,244,827 42,448 Sale of common stock, net of offering expenses -- -- -- -- 1,172,500 11,725 Stock options exercised -- -- -- -- 40,800 408 Net loss for 1996 -- -- -- -- -- -- Foreign currency translation adjustment -- -- -- -- -- -- - ------------------------------------------------------------------------------------------------------------------------------------ Balance at December 31, 1996 -- $ -- -- $ -- 5,458,127 $ 54,581 ==================================================================================================================================== ================================================================================================================================= Cumulative foreign Additional Retained currency Net paid-in earnings translation stockholders' capital (deficit) adjustment equity - --------------------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1993 4,137,245 66,441 -- 4,235,892 Stock options exercised 774 -- -- 780 Conversion of preferred stock (119) -- -- -- Issuance of common stock and Series A convertible redeemable cumulative preferred stock in connection with acquisition of Connection Strategies, Inc. (note 3) 1,965,199 -- -- 1,970,000 Preferred stock dividends declared -- (85,870) -- (85,870) Net loss for 1994 -- (715,503) -- (715,503) - --------------------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1994 6,103,099 (734,932) -- 5,405,299 Sale of common stock, net of offering expenses 3,331,036 -- -- 3,334,036 Stock options exercised 1,478 -- -- 1,481 Conversion of preferred stock (1,924) -- -- (266) Redemption of preferred stock (5,495) -- -- (5,500) Issuance of common stock upon exercise of warrants, net of registration expense 284,583 -- -- 285,243 Preferred stock dividends declared -- (82,270) -- (82,270) Net loss for 1995 -- (695,251) -- (695,251) Foreign currency translation adjustment -- -- (26,310) (26,310) - --------------------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1995 9,712,777 (1,512,453) (26,310) 8,216,462 Sale of common stock, net of offering expenses 21,023,046 -- -- 21,034,771 Stock options exercised 181,761 -- -- 182,169 Net loss for 1996 -- (7,084,550) -- (7,084,550) Foreign currency translation adjustment -- -- (487,617) (487,617) - --------------------------------------------------------------------------------------------------------------------------------- Balance at December 31, 1996 30,917,584 (8,597,003) (513,927) 21,861,235 =================================================================================================================================
See accompanying notes to consolidated financial statements. 24 25 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows Years ended December 31, 1994, 1995 and 1996
=============================================================================================================================== 1994 1995 1996 - ------------------------------------------------------------------------------------------------------------------------------- Cash flows from operating activities: Net loss $ (715,503) (695,251) (7,084,550) Adjustments to reconcile net loss to net cash provided by (used in) operating activities: Depreciation of equipment 142,581 336,826 458,199 Amortization 127,407 178,821 201,593 Amortization of acquired intangible assets 409,813 630,658 732,644 Write-off of unamortized acquired intangible assets from the Connective Strategies, Inc. acquisition -- -- 2,216,200 Deferred income taxes 27,700 215,300 -- Changes in operating assets and liabilities: (Increase) decrease in accounts receivable 77,006 (2,040,764) 2,608,430 (Increase) decrease in costs and estimated earnings in excess of billing on uncompleted contracts (248,700) 248,700 -- (Increase) decrease in inventories (82,139) 677,587 (1,425,750) (Increase) decrease in recoverable income taxes (217,241) 184,872 32,369 Increase (decrease) in accounts payable 132,206 136,106 (53,635) Increase (decrease) in accrued expenses 38,779 384,301 (112,880) Decrease in billings in excess of costs and estimated earnings on uncompleted contracts (104,946) (199,225) -- Increase (decrease) in deferred revenue on maintenance contracts (6,790) 64,759 (41,290) Other 14,806 45,152 (137,878) - ------------------------------------------------------------------------------------------------------------------------------- Net cash provided by (used in) operating activities (405,021) 167,842 (2,606,548) - ------------------------------------------------------------------------------------------------------------------------------- Cash flows from investing activities: Acquisition of Connective Strategies, Inc., net of cash acquired of $143,965 (32,421) -- -- Payment of liabilities assumed in connection with the acquisition of Connective Strategies, Inc. (968,405) -- -- Acquisition of GRETACODER Data Systems AG, net of cash acquired of $131,798 -- (439,602) -- Sale of short-term investments 2,254,569 399,409 -- Purchase of short-term investments (67,964) (902) (2,311,980) Equipment expenditures (483,959) (154,862) (1,274,770) Additions to computer software development costs (281,418) (538,200) (440,568) Prepaid license fee -- -- (1,000,000) - ------------------------------------------------------------------------------------------------------------------------------- Net cash provided by (used in) investing activities $ 420,402 (734,157) (5,027,318) - -------------------------------------------------------------------------------------------------------------------------------
(Continued) 25 26 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Consolidated Statements of Cash Flows, Continued Years ended December 31, 1994, 1995 and 1996
================================================================================================================ 1994 1995 1996 - ---------------------------------------------------------------------------------------------------------------- Cash flows from financing activities: Proceeds from notes payable $ -- 589,000 -- Payments of notes payable -- (1,081,351) (4,053,416) Proceeds from issuance of common stock, net of offering expense 780 3,620,760 21,216,940 Redemption of preferred stock -- (5,766) -- Payment of preferred stock dividends (78,753) (127,118) -- Proceeds from long-term debt 155,650 -- -- Payments of long-term debt (42,136) (67,345) (80,979) - ---------------------------------------------------------------------------------------------------------------- Net cash provided by financing activities 35,541 2,928,180 17,082,545 - ---------------------------------------------------------------------------------------------------------------- Effect of exchange rate changes on cash -- 3,266 (188,182) - ---------------------------------------------------------------------------------------------------------------- Net increase in cash and cash equivalents 50,922 2,365,131 9,260,497 Cash and cash equivalents at beginning of year 240,441 291,363 2,656,494 - ---------------------------------------------------------------------------------------------------------------- Cash and cash equivalents at end of year $ 291,363 2,656,494 11,916,991 ================================================================================================================ Cash paid for: Interest expense $ 16,210 66,481 159,509 ================================================================================================================ Income taxes $ 42,300 800 -- ================================================================================================================
See accompanying notes to consolidated financial statements. 26 27 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements Years ended December 31, 1995 and 1996 =============================================================================== (1) BUSINESS Information Resource Engineering, Inc. ("the Company") is engaged in the business of designing, manufacturing and marketing a line of products which secure data transmissions on computer networks through the use of encryption technology. During 1994, the Company acquired Connective Strategies, Inc. ("CSI"), which designs, manufactures and markets communications equipment enabling data and voice connectivity via the Integrated Services Digital Network ("ISDN"). In the past year, the Company has invested in the development of a new secure communications chip. Due to this new superseding technology, which does not utilize CSI's ISDN product, the Company no longer markets its CSI products to new customers. Consequently, the Company has taken a one-time charge of $2,216,200 related to the write-off of the unamortized acquired intangible assets from this acquisition. Future CSI ISDN product sales are not expected to be significant since the products will only be sold pursuant to commitments to existing customers. Results of operations for CSI are included in the accompanying consolidated statements of operations for the period after October 24, 1994. On October 31, 1995, the Company acquired all of the issued and outstanding stock of GRETACODER Data Systems AG (formerly Gretag Data Systems AG) ("GDS"), a company which designs, manufactures and markets cryptographic equipment. Results of operations for GDS are included in the accompanying consolidated statement of operations for the period after October 31, 1995. (2) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES PRINCIPLES OF CONSOLIDATION The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All significant intercompany balances have been eliminated in consolidation. CASH EQUIVALENTS The Company considers investments purchased with maturities, at date of purchase, of three months or less to be cash equivalents. SHORT-TERM INVESTMENTS Short-term investments, which consist of commercial paper and corporate bonds which mature within one year, are stated at the lower of cost or market. (Continued) 27 28 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (2) CONTINUED REVENUES Revenue is recognized from sales when the product is shipped. Unearned income on maintenance contracts is amortized by the straight-line method over the terms of the contracts. Revenues from engineering services are recognized on the percentage of completion method. Contract costs include all direct labor, material costs and the indirect costs related to contract performance. Costs and estimated earnings in excess of billings on uncompleted contracts are recognized as assets. Billings in excess of costs and estimated earnings are recognized as liabilities. Revenues from consulting services are recognized as the services are provided. There was no material accounts receivable related to unbilled consulting services at December 31, 1996. INVENTORIES Inventories are stated at the lower of cost or market. Cost is determined by the first-in, first-out method. EQUIPMENT AND LEASEHOLD IMPROVEMENTS Equipment and leasehold improvements are stated at cost less accumulated depreciation. Depreciation of equipment is determined using the straight-line method over the estimated useful life of five years. Leasehold improvements are amortized over the life of the lease. COMPUTER SOFTWARE DEVELOPMENT COSTS Computer software development costs are capitalized subsequent to the establishment of technological feasibility for each software product which is evidenced by a detailed program design. Capitalization of costs ceases when the product is available for general release to customers. Such costs are amortized using the straight-line method over five years beginning on product release dates. The Company assesses the recoverability of this intangible asset by comparing the unamortized balance to the net realizable value. GOODWILL The excess of acquisition costs over the fair value of net assets acquired is amortized on a straight-line basis over ten years. The Company assesses the recoverability of this intangible asset by determining whether the amortization of the goodwill balance over its remaining life can be recovered through undiscounted future operating cash flows of the acquired operation. The amount of goodwill impairment, if any, is measured based on projected discounted future operating cash flows. (Continued) 28 29 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (2) CONTINUED IMPAIRMENT OF LONG-LIVED ASSETS AND LONG-LIVED ASSETS TO BE DISPOSED OF The Company adopted the provisions of Statement of Financial Accounting Standards (SFAS) No. 121, Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of, on January 1, 1996. This Statement requires that long-lived assets and certain identifiable intangibles be reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future net cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of assets exceed the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell. Adoption of this Statement did not have a material impact on the Company's financial position, results of operations, or liquidity. PRODUCT WARRANTIES The Company warrants to the original purchaser that each of its products will be free from defects in materials and workmanship generally for a period of one year from the date of purchase. Expected future product warranty expense is recorded when the product is sold. TRANSLATION OF FOREIGN CURRENCIES Assets and liabilities of the foreign subsidiary are translated at the exchange rates as of the balance sheet dates; equity accounts are translated at historical exchange rates. Revenues and expenses are translated at the average exchange rates for the periods presented. Translation gains and losses are included in stockholders' equity. INCOME TAXES Deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date. (Continued) 29 30 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (2) CONTINUED STOCK OPTIONS On January 1, 1996, the Company adopted Statement of Financial Accounting Standards (SFAS) No. 123, Accounting for Stock-Based Compensation, and has elected to continue to apply the intrinsic value method under Accounting Principles Board (APB) No. 25, Accounting for Stock Issued to Employees to account for stock-based employee compensation. Under this method, compensation cost is recognized for awards of shares of common stock to employees under compensatory plans only if the quoted market price of the stock at the grant date (or other measurement date, if later) is greater than the amount the employee must pay to acquire the stock. SFAS No. 123 permits companies to adopt a new fair value based method to account for stock-based employee compensation plans or to continue using the intrinsic value method. If the intrinsic value method is used, information concerning the pro forma effects on net earnings and earnings per share of adopting the fair value based method for stock-based employee compensation grants made in 1995 and subsequent years is required to be presented in the notes to the financial statements. The pro forma disclosures are presented in note 14 to the consolidated financial statements. LOSS PER COMMON SHARE The loss per common share is computed by dividing the net loss applicable to common stock, which reflects the preferred stock dividend requirement for 1994 and 1995, by the weighted average number of shares of common stock outstanding during the year and common stock equivalents, to the extent they result in additional per share dilution, arising from the assumed exercise of outstanding stock options and warrants under the treasury stock method. USE OF ESTIMATES Management of the Company has made a number of estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period to prepare these financial statements in conformity with generally accepted accounting principles. Actual results could differ significantly from those estimates. FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used by the Company in estimating fair value disclosures for financial instruments: The carrying value of cash and cash equivalents, short-term investments, accounts receivable and accounts payable approximates fair value due to the short maturity of these instruments. (Continued) 30 31 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (2) CONTINUED The book value on variable-rate debt approximates fair value due to the variable interest rate. The Company evaluates the fair value of fixed-rate debt based upon rates currently available for similar types of borrowing arrangements. The book value approximates fair value of these instruments. SUPPLEMENTARY STATEMENT OF CASH FLOWS INFORMATION As described in note 3, during 1994 the Company acquired CSI through the issuance of common stock and Series A Convertible Redeemable Cumulative Preferred Stock with an aggregate estimated fair value of $1,970,000. During 1994, as part of the purchase of an automobile, the Company issued a note payable in the amount of $70,000. As described in note 3, during 1995 the Company purchased GDS for cash and the issuance of two promissory notes aggregating $3,853,416. (3) ACQUISITIONS Connective Strategies, Inc. On October 24, 1994, the Company through its wholly-owned subsidiary IRE Acquisition Corp., ("IREAC") acquired all of the issued and outstanding capital stock of CSI. The Agreement and Plan of Merger provided for a share for share stock exchange with all existing CSI shareholders, resulting in the aggregate issuance of 480,000 shares of the common stock of the Company. This transaction effectively transferred all ownership of CSI to the Company and was accounted for under the purchase accounting method. In addition, the Company issued 65 shares, valued at $10,000 per share, of its Series A Convertible Redeemable Cumulative Preferred Stock, which has a dividend rate of 8.75%, in exchange for the cancellation of a promissory note issued by CSI in the principal amount of $650,000. As a result of the plan of merger, CSI was merged into IREAC and IREAC changed its name to Connective Strategies, Inc. The aggregate net purchase price for CSI was determined as follows: 480,000 shares of the Company's common stock (at $2.75 per share) $ 1,320,000 65 shares of Series A Convertible Redeemable Cumulative Preferred Stock 650,000 Signing bonuses paid to two key employees 100,000 Liabilities assumed in excess of assets acquired 2,460,836 Transaction costs 76,386 -------------------------------------------------------------------------------------------------------------------- Net purchase price $ 4,607,222 ====================================================================================================================
(Continued) 31 32 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (3) CONTINUED The net purchase price was allocated to the acquired tangible and intangible assets based upon the relative fair values as follows: Cash $ 143,965 Other current assets 466,026 Equipment 150,578 Computer software development costs 2,564,645 In-process research and development costs 208,052 Signing bonuses to two key employees 100,000 Goodwill 973,956 -------------------------------------------------------------------------- Net purchase price $ 4,607,222 ==========================================================================
The in-process research and development costs and the signing bonuses were written off immediately following the acquisition and are included in amortization of acquired intangible assets in the consolidated statement of operations for the year ended December 31, 1994. In the past year, the Company has invested in the development of a new secure communications chip. Due to this new superseding technology, which does not utilize CSI's ISDN product, the Company no longer markets its CSI products to new customers. Consequently, the Company has taken a one-time charge of $2,216,200 related to the write-off of the unamortized acquired intangible assets from this acquisition. Future CSI ISDN product sales are not expected to be significant since the products will only be sold pursuant to commitments to existing customers. GRETACODER DATA SYSTEMS AG On October 31, 1995, the Company acquired all of the issued and outstanding stock of GDS. The Stock Purchase Agreement provided for an initial cash payment of $431,850 and two promissory notes aggregating $3,853,416. Such amount is net of a $400,000 payment discount that the Company received upon payment of the notes in February 1996. This transaction effectively transferred all ownership of GDS to the Company and was accounted for under the purchase accounting method. The aggregate net purchase price for GDS was determined as follows: Cash purchase price $ 431,850 Notes payable 3,853,416 Transaction costs 139,550 ------------------------------------------------------------------- Net purchase price $ 4,424,816 ===================================================================
(Continued) 32 33 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (3) CONTINUED The net purchase price was allocated to the acquired tangible and intangible net assets based upon the relative fair values as follows: Cash $ 131,798 Inventory 2,346,416 Other current assets 1,484,883 Equipment and leasehold improvements 412,986 Deferred tax assets 194,000 Current liabilities (1,368,497) Goodwill 1,223,230 -------------------------------------------------------------------- Net purchase price $ 4,424,816 ====================================================================
The Company allocated $474,000 of the purchase price to inventory in excess of the carrying cost of GDS. Of this amount, $238,000 and $236,000 was charged to cost of revenues in 1995 and 1996, respectively. Unaudited pro forma results of operations of the Company for the years ended December 31, 1994 and 1995 presented as if the acquisitions of CSI and GDS had occurred on January 1 of the respective years are as follows:
1994 1995 ------------------------------------------------------------------------------------------------------ Revenues $ 13,407,000 13,175,000 ------------------------------------------------------------------------------------------------------ Income (loss) before income tax expense $ 50,000 (932,000) ------------------------------------------------------------------------------------------------------ Net loss $ (113,000) (1,122,000) ------------------------------------------------------------------------------------------------------ Net loss attributable to common stockholders $ (243,000) (1,205,000) ------------------------------------------------------------------------------------------------------ Loss per common share $ (.06) (.30) ======================================================================================================
The unaudited pro forma results of operations do not purport to be indicative of the results that actually would have been obtained had the operations been consolidated for these periods. The amounts primarily reflect adjustments for the amortization of intangible assets acquired and for interest expense. The write-off of in-process research and development costs and signing bonuses has been excluded in the determination of the 1994 pro forma amounts since such charges are non-recurring. The pro forma net losses for 1994 and 1995 included non-cash charges related to depreciation and amortization of acquired intangible assets of $1,387,000 and $1,442,000, respectively. (Continued) 33 34 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (4) REVENUES AND ACCOUNTS RECEIVABLE During the three years ended December 31, 1996, revenues from two commercial clients accounted for greater than 10% of annual revenues as follows: one client accounted for 11% of 1994 revenues and one client accounted for 13% of 1995 revenues and 27% of 1996 revenues. In addition revenues from the United States Government were 26%, 20% and 3% of revenues in the years ended December 31, 1994, 1995 and 1996, respectively. During the three years ended December 31, 1996, revenues from non-U.S. clients were 14%, 34% and 47%, respectively. The majority of these revenues were derived from European distributors and financial institutions. Revenues include contract engineering revenues of $379,255 and $721,105 in the years ended December 31, 1994 and 1995, respectively. Costs of revenues includes costs applicable to such revenues of $146,212 and $362,109, respectively. There were no revenues from contract engineering in 1996. The Company grants credit to clients. Sales terms with clients, including distributors, generally do not provide for right of return privileges for credit, refund or other products. The Company's clients, which include both commercial companies and governmental agencies, are in various industries, including banking, security, communications and distributors of electronic products. Management believes all receivables are collectible and, accordingly, no reserve for uncollectible receivables is recorded at December 31, 1996. (5) INVENTORIES Inventories consist of the following:
1995 1996 ------------------------------------------------------------------------------- Raw materials $ 1,736,884 1,451,142 Finished goods 603,284 2,092,853 ------------------------------------------------------------------------------- $ 2,340,168 3,543,995 ==============================================================================
(Continued) 34 35 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (6) EQUIPMENT AND LEASEHOLD IMPROVEMENTS, NET Equipment and leasehold improvements consist of the following:
1995 1996 ------------------------------------------------------------------------------------------------------------------------- Equipment $ 1,106,395 1,873,815 Automobiles 88,519 87,636 Leasehold improvements 333,800 629,252 ------------------------------------------------------------------------------------------------------------------------- 1,528,714 2,590,703 Less accumulated depreciation and amortization 458,922 847,076 ------------------------------------------------------------------------------------------------------------------------- 1,069,792 1,743,627 Purchased software, net -- 99,098 ------------------------------------------------------------------------------------------------------------------------- $ 1,069,792 1,842,725 =========================================================================================================================
(7) ACCRUED EXPENSES Accrued expenses consist of the following:
1995 1996 ------------------------------------------------------------------------------------------------ Accrued salaries and commissions $ 859,043 694,412 Other 658,470 622,977 ------------------------------------------------------------------------------------------------ $ 1,517,513 1,317,389 ================================================================================================
(8) NOTES PAYABLE Notes payable consist of the following:
1995 1996 ------------------------------------------------------------------------------------------------------------------------- Borrowings outstanding under a $300,000 line of credit agreement with a bank bearing interest at the prime rate plus 1% (9.5% at December 31, 1995) secured by trade accounts receivable of $1,791,299 at December 31, 1995 $ 200,000 -- Notes payable in connection with GDS acquisition bearing interest at the prime rate plus 1% (9.5% at December 31, 1995), net of $400,000 discount 3,853,416 -- ------------------------------------------------------------------------------------------------------------------------- $ 4,053,416 -- =========================================================================================================================
(Continued) 35 36 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (9) LONG-TERM DEBT Long-term debt consists of the following:
1995 1996 ------------------------------------------------------------------------------------------------------------------------- Note payable to bank bearing interest at the prime rate plus 1.25% (9.75% at December 31, 1995) and requiring monthly principal payments plus interest through February 1, 1997 $ 64,076 -- Note payable to finance company bearing interest at 8.95% and requiring monthly payments of principal and interest of $1,740 through October 1998 52,093 35,190 ------------------------------------------------------------------------------------------------------------------------- 116,169 35,190 Less current maturities 68,787 18,480 ------------------------------------------------------------------------------------------------------------------------- $ 47,382 16,710 =========================================================================================================================
The notes payable are secured by office equipment and an automobile having a net carrying value of $500,111 at December 31, 1995 and an automobile having a net carrying value of $59,558 at December 31, 1996. Aggregate annual maturities on long-term debt as of December 31, 1996 are $18,480 for 1997 and $16,710 for 1998. (10) STOCKHOLDERS' EQUITY The 9% convertible redeemable cumulative preferred stock (the "9% preferred stock") required cumulative dividends of $.90 per share payable semiannually. Holders of the 9% preferred stock converted 8,761 and 74,586 shares of such stock into common stock of the Company during the years ended December 31, 1994 and 1995, respectively. The remaining 500 shares of 9% preferred stock were redeemed for cash on June 30, 1995. In connection with the offering of the 9% preferred stock, the Company issued the underwriter warrants to purchase 66,000 shares of common stock at $4.675 per share. The warrants were exercised in June 1995. The Company received proceeds from the exercise of $285,243, net of offering expenses. In connection with the acquisition of CSI (note 3), the Company issued 65 shares of Series A Convertible Redeemable Cumulative Preferred Stock (the "Series A preferred stock") valued at $10,000 per share. The Series A preferred stock required cumulative dividends payable semiannually at an annual rate of 8.75%. On December 5, 1995, the 65 shares of the Series A preferred stock were converted for 65,000 shares of common stock. (Continued) 36 37 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (10) CONTINUED On July 7, 1995, the Company effected a two-for-one stock split in the form of a dividend to stockholders. Numbers of shares disclosed herein and per share data have been retroactively adjusted to reflect the stock split for all periods presented. In February 1996, the Company completed a public offering of 1,172,500 shares of common stock at a per share price of $20.00. The net proceeds of the Company from the offering were approximately $21,035,000 after deducting offering expenses. (11) INCOME TAXES Income tax expense (benefit) consists of the following:
1994 1995 1996 ----------------------------------------------------------------------------------------------------- Current: Federal $ (172,700) (29,000) -- State (28,000) (5,300) -- Foreign -- 9,000 -- ----------------------------------------------------------------------------------------------------- (200,700) (25,300) -- ----------------------------------------------------------------------------------------------------- Deferred: Federal 22,700 19,700 -- State 5,000 1,600 -- Foreign -- 194,000 -- ----------------------------------------------------------------------------------------------------- 27,700 215,300 -- ----------------------------------------------------------------------------------------------------- $ (173,000) 190,000 -- =====================================================================================================
(Continued) 37 38 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (11) CONTINUED The income tax expense (benefit) differed from the amount computed by applying the Federal income tax rate of 34 percent to loss before income tax expense (benefit) as a result of the following:
1994 1995 1996 --------------------------------------------------------------------------------------------------------------------------- Computed "expected" tax benefit $ (302,091) (171,785) (2,408,747) Increase (reduction) in income taxes resulting from: State and local income taxes, net of Federal income tax benefit (15,180) (2,442) (190,026) Amortization of acquired intangible assets, not deductible for tax purposes 119,650 214,423 249,099 Write-off of unamortized acquired intangible assets from the Connective Strategies, Inc. acquisition not deductible for tax purposes -- -- 753,508 Income tax benefit of tax free interest (22,874) -- -- Foreign income taxes at rates less than 34% -- (72,950) -- Change in valuation allowance -- 169,500 1,774,500 Other, net 47,495 53,254 (178,334) --------------------------------------------------------------------------------------------------------------------------- $ (173,000) 190,000 -- ============================================================================================================================
The tax effects of temporary differences that give rise to significant portions of the deferred tax assets are presented below at December 31:
1995 1996 ---------------------------------------------------------------------------------------------------------------------------- Deferred tax assets: Inventories, due to additional costs inventoried for tax purposes pursuant to the Tax Reform Act of 1986 $ 33,900 67,000 Net operating loss carryforward 157,000 1,906,000 Other 17,700 18,000 ---------------------------------------------------------------------------------------------------------------------------- 208,600 1,991,000 ---------------------------------------------------------------------------------------------------------------------------- Deferred tax liabilities: Equipment, due to differences in depreciation (28,600) (22,000) Other (10,500) (25,000) ---------------------------------------------------------------------------------------------------------------------------- (39,100) (47,000) ---------------------------------------------------------------------------------------------------------------------------- Net deferred tax asset 169,500 1,944,000 Less valuation allowance (169,500) (1,944,000) ---------------------------------------------------------------------------------------------------------------------------- $ -- -- =============================================================================================================================
(Continued) 38 39 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (11) CONTINUED The Company has net operating loss carryforwards for United States income tax purposes of $4,935,000 which are available to reduce future taxable income through 2011. In addition, the Company has a net operating loss of $1,754,000 which is attributable to CSI's preacquisition period and is available to reduce future taxable income of CSI at the rate of approximately $124,000 per year and expires in various amounts through 2008. In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of the deferred tax assets is dependent on the generation of future taxable income during the periods in which temporary differences are deductible and net operating losses are allowable. Based on consideration of the above factors management established a valuation allowance for which the balance was $169,500 and $1,944,000 at December 31, 1995 and 1996, respectively. The Company has not provided any additional U.S. income taxes on the GDS taxable income since management does not expect to repatriate such earnings. (12) LEASES The Company leases office facilities and equipment leases expiring at various dates through 2003. The leases require the Company to pay real estate taxes, insurance and maintenance. The Company recognizes rent expense on a straight-line basis. The annual minimum rentals under the leases as of December 31, 1996 are as follows: 1997 $ 542,236 1998 206,506 1999 216,573 2000 194,545 2001 194,545 Thereafter 328,480 =================================================================== Rent expense for the years ended December 31, 1994, 1995 and 1996 was $120,897, $184,224 and $518,177, respectively. (13) PENSION PLAN The Company has a defined contribution pension plan for employees who have completed three months of service with the Company. The Plan permits pre-tax contributions to the Plan by participants pursuant to Section 401(k) of the Internal (Continued) 39 40 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (13) CONTINUED Revenue Code (the Code) of 3% to 10% of base compensation up to the maximum allowable contributions as determined by the Code. The Company matches participants' contributions on a discretionary basis. The Company may also make additional discretionary contributions. The Company made no contributions to the plan during the three years ended December 31, 1996. (14) STOCK OPTIONS AND WARRANTS The Company has an incentive stock option plan which provides for the granting of stock options to officers, directors, consultants and key employees of the Company. Options issued pursuant to the plan are exercisable at the fair market value of the common stock on the date of the issuance of the option. Either incentive stock options or qualified stock options may be granted under the plan. The vesting and exercise periods are determined by the Board of Directors not to exceed ten years. Options issued to date generally vest 20% per year commencing with dates of employment or dates of grant and expire seven years from date of grant. Option transactions during 1994, 1995 and 1996 were as follows:
Number Range of Weighted average of shares exercise prices exercise price ------------------------------------------------------------------------------------------------------------------------ Outstanding at December 31, 1993 76,100 $ 1.30 to $5.25 $ 3.54 Granted 65,000 $ 0.10 to $4.75 3.82 Canceled (27,900) $ 1.30 to $4.94 5.20 Exercised (600) $ 1.30 1.30 ------------------------------------------------------------------------------------------------------------------------ Outstanding at December 31, 1994 112,600 $ 0.10 to $5.25 3.22 Granted 151,000 $ 7.25 to $17.00 4.06 Canceled (9,700) $ 4.50 to $13.50 7.48 Exercised (300) $ 4.94 4.94 ------------------------------------------------------------------------------------------------------------------------ Outstanding at December 31, 1995 253,600 $ 0.10 to $17.00 9.54 Granted 393,000 $ 9.88 to $28.63 18.45 Canceled (37,200) $ 1.30 to $17.00 12.85 Exercised (40,800) $ 0.10 to $13.50 4.46 ------------------------------------------------------------------------------------------------------------------------ Outstanding at December 31, 1996 568,600 $ 1.30 to $28.63 $ 15.92 ======================================================================================================================== Exercisable at December 31, 1996 78,800 $ 1.30 to $17.00 $ 9.42 ========================================================================================================================
(Continued) 40 41 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (14) CONTINUED
Options Outstanding Options Exercisable ----------------------------------------------------------- ------------------------------ Weighted average Range of Number remaining Weighted average Number Weighted average exercise prices of shares contractual life exercise price of shares exercise price --------------------------------------------------------------------------------------------------------------------------- $1.30 to $9.88 105,300 4.97 years $ 5.90 35,100 $ 3.54 $10.00 to $20.00 285,300 5.88 years 14.55 43,700 14.14 $20.38 to $28.63 178,000 6.32 years 24.02 -- -- --------------------------------------------------------------------------------------------------------------------------- 568,600 5.85 years $ 15.92 78,800 $ 9.42 ===========================================================================================================================
The Company applies the intrinsic value method in accounting for its Plan and, accordingly, no compensation cost has been recognized for its options in the financial statements. Had the Company determined compensation cost based on the fair value at the grant date for its stock options under SFAS No. 123, the Company's net loss and per share amounts would have been the pro forma amounts indicated below:
1995 1996 ----------------------------------------------------------------------------------------------------------------------------- Net loss As reported $ (695,251) (7,084,550) Pro forma (760,000) (7,578,000) Loss per common share As reported (.20) (1.34) Pro forma (.22) (1.43) =============================================================================================================================
Pursuant to SFAS No. 123, pro forma net loss reflects only options granted in 1995 and 1996. Therefore, the full impact of calculating compensation cost for stock options under SFAS No. 123 is not reflected in the pro forma net loss amounts presented above because compensation cost if reflected over the option's vesting periods and compensation cost for options granted prior to January 1, 1995 is not considered. The weighted average fair values of options granted during 1995 and 1996 were $806,000 and $2,453,000, respectively, on the dates of grant. The fair values of options granted were calculated using the Black-Scholes option-pricing model with the following weighted average assumptions used for grants in 1995 and 1996, respectively: risk-free interest rates of 5.83% to 6.76% for 1995 and 5.25% to 6.78% for 1996; expected votality of 32% in both years; dividend yield and expected dividend growth rate of 0% in both years; and expected lives of 5 years and expected forfeitures of 0% for both years. In addition, in November 1995, in connection with the private placement of 300,000 shares of the Company's common stock, the Company issued the placement agent warrants to purchase 30,000 shares of common stock at $17.00 per share. The warrants are exercisable at any time during a four-year period commencing on January 29, 1997. (Continued) 41 42 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (14) CONTINUED The price and number of shares is subject to adjustment in certain circumstances to protect against dilution. Holders of the warrants are not entitled to vote, receive dividends or exercise any of the rights of holders of shares of common stock for any purpose until such warrants are exercised. At December 31, 1996, the Company had reserved 983,900 shares of common stock for the stock option plan and conversion of outstanding warrants. (15) LITIGATION In June 1994, a former employee of Industrial Resource Engineering, Inc., a predecessor firm to the Company, commenced an action against the Company in the Circuit Court for Baltimore County by filing a complaint for a declaratory judgment and other relief with respect to the ownership of 72,000 shares of the Company's common stock (as presently constituted), which she claims was issued to her in consideration of services performed in 1986. In August 1995 the Company settled the litigation. Pursuant to the terms of the settlement, the Company released 63,625 shares of the Company's common stock owned by the plaintiff and retired the balance of the plaintiff's shares retroactive to date of issue. Since the 72,000 shares have, at all times prior to the settlement, been reflected on the consolidated balance sheet as being issued and outstanding, the effect on earnings per shares is minimal. (16) OTHER COMMITMENTS AND CONTINGENCIES In August 1996, the Company signed a joint development and marketing agreement ("agreement") with CyberGuard Corporation ("CyberGuard"). The companies have developed and intend to market a product that combines the Company's SafeNet products and CyberGuard's Firewall product. In connection therewith, the Company has prepaid a refundable $1.0 million license fee to CyberGuard which will be recovered through purchases of Firewall products. In the event that this agreement is terminated prior to such credit aggregating $1.0 million, then CyberGuard shall repay to the Company the balance of the $1.0 million prepaid license fee within one year of the date of such termination with interest at the prime rate of interest. (Continued) 42 43 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES Notes to Consolidated Financial Statements =============================================================================== (17) OPERATIONS OUTSIDE THE UNITED STATES Net income (loss) of the Company's non-U.S. subsidiary was $403,769 and $(298,872) for 1995 and 1996, respectively. Net sales to unaffiliated customers of the Company's non-U.S. subsidiary were $2,295,843 and $6,235,987 for 1995 and 1996, respectively. The Company's investment in identifiable assets and liabilities located outside the United States was as follows at December 31:
1995 1996 ------------------------------------------------------------------------------ Current assets $ 4,405,063 4,002,221 Property, plant and equipment, net 414,968 190,187 ------------------------------------------------------------------------------ Total assets 4,820,031 4,192,408 Current liabilities 1,220,648 1,257,190 ------------------------------------------------------------------------------ Net assets $ 3,599,383 2,935,218 ==============================================================================
=============================================================================== 43 44 ITEM 9 - CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10 - DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The directors and executive officers of the Company are as follows:
NAME AGE POSITION ------------------ --- ----------------------------------------------- Anthony A. Caputo 55 Chairman, Chief Executive Officer and President Charles D. Brown 39 Senior Vice President, Sales Michael M. Kaplan 52 Senior Vice President, Technology Jill Leukhardt 40 Senior Vice President, Marketing, Director David A. Skalitzky 61 Vice President of Finance and Administration, Secretary and Treasurer Douglas E. Kozlay 57 Principal Engineer, Director Ira A. Hunt, Jr 72 Director Bruce R. Thaw 43 Director
All directors hold office until the next annual meeting of shareholders or until their respective successors are elected and qualify. Executive officers hold office until their successors are chosen and qualify, subject to earlier removal by the Board of Directors. Set forth below is a biographical description of each director and executive officer of the Company based on information supplied by each of them. Anthony A. Caputo, the Chairman, Chief Executive Officer and President of the Company, invested in the Company in 1986, and became a director in November 1986. In 1982, Mr. Caputo founded another computer security firm, TACT Technology, as a division of a public company, and after securing outside funding through a $3.0 million limited partnership in 1984, managed TACT as a separate company. Mr. Caputo resigned from TACT Technology in November 1986 to join the Company. Mr. Caputo has over 20 years' experience in the computer industry, in marketing and management capacities. In June 1993, Mr. Caputo was named Maryland's High Tech Entrepreneur of the Year, an annual award sponsored by organizations including Inc. Magazine, Ernst and Young LLP and Merrill Lynch. He has served as an officer of several publicly traded companies including International Mobile Machines Inc., and Comshare, Inc., as well as Value Software, now part of Computer Associates, Inc. Currently, Mr. Caputo is also a director of Egan Systems, Inc., a publicly traded computer software firm. Charles D. Brown joined the Company in September 1995 in connection with the Company's acquisition of CSI and became a Senior Vice President, Sales of the Company in June 1995. From 1983 to 1995 he was the President and CEO of CSI where he developed product concepts for CSI's range of ISDN products. With 19 years' experience in data networking, Mr. Brown is a recognized expert in network technology. He has lectured on LANs for INTEROP, Inc., TCP/IP for COMNET, has taught privately at IBM and AT&T Bell Laboratories and has served as a Local Area Network Program Director for Data-Tech Institute. Prior to forming CSI, Mr. Brown was the Manager of Network Development for the MCI Mail national network. Previously he was the liaison for the University of Southern California -- Information Sciences Institute to organizations in Washington, D.C. and the Strategic Air Command. 44 45 Michael M. Kaplan joined the Company in February 1996 as Senior Vice President, Technology. Formerly the Director of Secure Technologies at AT&T Bell Laboratories, Mr. Kaplan led the design, development and support of AT&T's security products for voice, data, fax and video applications. Mr. Kaplan was employed at AT&T Bell Labs for twenty-seven years and holds a Master of Science in Mathematics from Adelphi University and a Bachelor of Arts in Mathematics from Queens College. Mr. Kaplan holds four patents for various aspects of telephone security devices and associated services and there are two additional patents pending. Jill Leukhardt has been a Senior Vice President, Marketing of the Company since June 1995. She served as the Vice President of Sales and Marketing of the Company from 1989 to 1995. She was appointed a director of the Company in December, 1990. Ms. Leukhardt possesses a graduate level degree in Electrical Engineering. From 1980 to 1986, Ms. Leukhardt was a Marketing Manager at Intel Corporation where she managed several projects including the planning, specification and initial marketing of the 80386 microprocessor. Prior to joining the Company, from 1986 to 1989, she served as Vice President-Marketing for Micro Wholesalers, Inc., a microcomputer distributor. She has also served as a Trustee of Johns Hopkins University since July 1992. David A. Skalitzky has been the Vice President of Finance and Administration of the Company since 1989. Mr. Skalitzky was appointed Secretary and Treasurer of the Company in March 1993 and December 1990, respectively. From 1983 to 1989, he was an independent financial consultant. From 1968 to 1983, he was employed by PHH Group, a public company engaged in executive relocation and leasing where he served as a financial officer. Previously, from 1959 to 1968 Mr. Skalitzky, a Certified Public Accountant, was employed by Deloitte, Haskins and Sells. Douglas E. Kozlay is the co-founder, and was President, of the Company from 1983 until March 1993. Mr. Kozlay's principal responsibilities include serving as the Company's chief technical officer providing guidance and advice on product architecture to the Chief Executive Officer and performing engineering functions as required. Mr. Kozlay has been a director of the Company since its inception. From 1979 to 1982 Mr. Kozlay served as President of EMAX, Inc., a company which designed and marketed data acquisition and control systems. Previously, Mr. Kozlay has served as a manager of a research and development laboratory for the U.S. National Security Agency and design engineer for IBM Corporation. In 1982 Mr. Kozlay was Director of Industrial Automation for EMC Controls. He currently teaches graduate level courses in robotics at Loyola College of Baltimore. Ira A. Hunt, Jr. has been a director of the Company since December 1990. He is currently President of BIOSAT, a small technology firm which utilizes satellite data to monitor the status of agricultural crops worldwide. Mr. Hunt is a graduate of the U.S. Military Academy, West Point, New York. He served 33 years in various command and staff positions in the U.S. Army, retiring from active military service as a Major General in 1978. Subsequently he was President of Pacific Architects and Engineers in Los Angeles, California and a Vice President of Frank E. Basil, Inc. in Washington, D.C. Mr. Hunt has a Masters of Science degree in civil engineering from the Massachusetts Institute of Technology; an MBA from the University of Detroit; a Doctor of the University degree from the University of Grenoble, France; and a Doctor of Business Administration degree from George Washington University. Bruce R. Thaw has been a director of the Company since December 1990. From 1987 to the present, Mr. Thaw has served as general counsel to the Company. Mr. Thaw was admitted to the bar of the State of New York in 1978 and the California State Bar in 1983. Mr. Thaw is also a director of Amtech Systems, Inc., a publicly traded company engaged in the semiconductor industry. The Company's By-Laws provide for the election of directors at the annual meeting of shareholders, such directors to hold office until the next annual meeting and until their successors are duly elected and qualified. The By-Laws also provide that the annual meeting of shareholders be held each year at such time, date and place as the Board of Directors shall determine by resolution. Directors may be removed at any time for cause by the Board of Directors and with or without cause by a majority of the votes cast by the shareholders entitled to vote for the election of directors. 45 46 Officers will normally be elected at the annual meeting of the Board of Directors held immediately following the annual meeting of shareholders, to hold office for the term for which elected and until their successors are duly elected and qualified. Officers may be removed by the Board of Directors at any time with or without cause. In January 1997, the Company announced the formation of an advisory board chaired by former United States Treasury Secretary William E. Simon. Developed to assist in building shareholder value by managing and maintaining Company expansion, the Company expects to add additional high-caliber executives to its board. Subsequently, the Company announced the addition of Dr. Vinton G. Cerf, MCI's Senior Vice President of Internet Architecture and Daniel L. Mosley, a partner in the law firm of Cravath, Swaine & Moore, to the board. The Company's Certificate of Incorporation contains provisions indemnifying its officers, directors, employees and agents against certain liabilities. ITEM 11 - EXECUTIVE COMPENSATION The information required by this item is incorporated herein by reference to the definitive Proxy Statement the Company will be filed with the Securities and Exchange Commission, no later than 120 days after the close of the Company's fiscal year ended December 31, 1996. ITEM 12 - SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this item is incorporated herein by reference to the definitive Proxy Statement the Company will be filed with the Securities and Exchange Commission, no later than 120 days after the close of the Company's fiscal year ended December 31, 1996. ITEM 13 - CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this item is incorporated herein by reference to the definitive Proxy Statement the Company will be filed with the Securities and Exchange Commission, no later than 120 days after the close of the Company's fiscal year ended December 31, 1996. PART IV ITEM 14 - EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) 1. The financial statements filed as part of this report are listed separately on the Index To Financial Statements on page 19 of this Form. 2. Financial Statement Schedules: None (b) Reports on Form 8-K: None (c) Exhibits required by Item 601 of Regulation S-K: 3A Articles of Incorporation of Registrant, as filed with the Secretary of State of Delaware on November 1, 1988, as amended on March 6, 1989, May 19, 1989, September 22, 1992, June 30, 1995 and October 4, 1995 1/B/R(1) 3B By-laws of Registrant 1/B/R(2) 4 Specimen of Common Stock Certificate of Registrant 1/B/R(2) 10A Sublease dated November 2, 1993 for facility at 8029 Corporate Drive, Baltimore, Md. 1/B/R(3) 10B Stock Option Plan 1/B/R(4) 10C Employment Agreement with Douglas Kozlay 1/B/R(2) 10D Form Employee Non-Disclosure Agreement 1/B/R(2) 10E Award Contract with United States Department of the Treasury 1/B/R(4) 10F Agreement with GTE Government Systems Corporation 1/B/R(5) 10G Agreement and Plan of Merger dated September 30, 1995 with Connective Strategies, Inc. 1/B/R(6) 10H Employment Agreement with Charles D. Brown 1/B/R(7) 10I Agreement between the Registrant and AT&T International, Inc. for the acquisition of Gretag Data Systems AG 1/B/R(8) 10J Agreement between the Registrant and MCI Telecommunications Corporation 1/B/R(9)
46 47 10K Employment Agreement between GDS and Dr. Kurt H. Mueller 1/B/R(1) 10L Placement Agent Warrant 1/B/R(1) 10M Alliance and Joint Marketing Agreement between the Registrant and MCI Telecommunications Corporation 10N Joint Development and Marketing Agreement between the Registrant and CyberGuard Corporation 10O Employment Agreement with Anthony Caputo 11 Statement re computation of per share loss 21 Subsidiaries of Registrant 27 Financial Data Schedule - --------------
(1) Filed as an exhibit to the Registration Statement on Form SB-2 (File No. 33-80161) of the Registrant and incorporated herein by reference. (2) Filed as an exhibit to the Registration Statement on Form S-18 (File No. 33-28673) of the Registrant and incorporated herein by reference. (3) Filed as an exhibit to Form 10-KSB for the fiscal year ended December 31, 1993 and incorporated herein by reference. (4) Filed as an exhibit to the Registration Statement on Form S-1 (File No. 33-52066) of the Registrant and incorporated herein by reference. (5) Filed as an exhibit to Form 10-KSB for the fiscal year ended December 31, 1995 and incorporated herein by reference. (6) Filed as an exhibit to Form 8-K, dated October 24, 1995 and incorporated herein by reference. (7) Filed as an exhibit to Form 10-QSB for the quarterly period ended June 30, 1995 and incorporated herein by reference. (8) Filed as an exhibit to Form 8-K dated October 31, 1995 and incorporated herein by reference. (9) Filed as an exhibit to Form 10-QSB for the quarterly period ended September 30, 1995 and incorporated herein by reference. 47 48 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 behalf of the undersigned, thereunto duly authorized. INFORMATION RESOURCE ENGINEERING, INC. By: /s/ ANTHONY A. CAPUTO ----------------------------------------------- Anthony A. Caputo Chairman, Chief Executive Officer and President Date: March 28, 1997 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.
SIGNATURE TITLE DATE --------- ----- ---- /s/ ANTHONY A. CAPUTO Chairman, Chief Executive Officer March 28, 1997 - ------------------------------------- and President Anthony A. Caputo Senior Vice President, Marketing, Director March 28, 1997 - ------------------------------------- Jill L. Leukhardt /s/ DAVID A. SKALITZKY Vice President of Finance and March 28, 1997 - ------------------------------------- Administration, Secretary and Treasurer David A. Skalitzky (Principal Financial and Accounting Officer) /s/ DOUGLAS E. KOZLAY Director March 28, 1997 - ------------------------------------- Douglas E. Kozlay /s/ IRA A. HUNT, JR. Director March 28, 1997 - ------------------------------------- Ira A. Hunt, Jr. /s/ BRUCE R. THAW Director March 28, 1997 - ------------------------------------- Bruce R. Thaw
48 EX-10.M 2 ALLIANCE AND JOINT MARKETING AGREEMENT. 1 EXHIBIT 10M ALLIANCE AND JOINT MARKETING AGREEMENT This Alliance and Joint Marketing Agreement ("Agreement"), between MCI Telecommunications Corporation ("MCI"), a Delaware Corporation, with offices at 2100 Reston Parkway, Reston VA 22091, and Information Resource Engineering Incorporated ("IRE"), a Delaware Corporation with offices at 8029 Corporate Drive, Baltimore, MD 21236, is made and effective on the date of the second signature affixed hereto. WITNESSETH: WHEREAS, MCI and IRE desire to establish terms to govern a cooperative program ("Program") under which MCI and IRE may jointly market certain MCI and IRE products and services to third parties ("Customer(s)"). NOW, THEREFORE, in consideration of the foregoing premises and the mutual promises and commitments set forth below the parties agree as follows: 1. Programs, Products and Services (a) Attachment A will govern sales activity under the Program. Attachment A identifies the IRE products or services that are included initially in the Program. MCI and IRE may by joint agreement modify the pricing discounts or the list of its products or services included in the Program. For IRE products sold under the Program, IRE will provide its products and services to all qualified Customers (as defined in Attachment A) at the pricing discounts identified therein. (b) Attachment B identifies the MCI services that are included initially in the Program. For MCI services sold under the Program MCI will offer the price discounts identified in Attachment B. (c) Attachment C establishes terms and conditions applicable to the IRE products previously purchased by MCI, but which IRE may repurchase pursuant to this Agreement. (d) The parties agree to promote, market, and advertise the existence and use of this IRE/MCI joint selling alliance to their respective sales forces. The parties also agree to promptly enter into good faith negotiations for completion of a contract governing IRE's provision of key management services through its SafeNet Security Center. For the term of this Agreement, MCI agrees to use its reasonable efforts to maintain an impartial position when prospects for services offered by MCI through the Alliance Program express no preference for services offered by a particular alliance partner. 1 2 2. Customer Relationships Post-sale Customers, unless otherwise agreed on an individual case basis, will have a direct relationship with MCI and IRE, for their respective services and goods. 3. Order Entry Unless otherwise agreed by the parties: (a) MCI will provide order entry capability for MCI services offered in the Program; and (b) IRE will provide order entry capability for the IRE products and services offered in the Program. 4. MCI Products and Services Standards MCI will provide MCI services, and act as the Agent for foreign PTT services under the Program in accordance with its then-effective international agreements, unless otherwise agreed with a Customer. 5. IRE Products and Service Standards IRE will make its products available to Customers under the Program in accordance with Attachment A unless otherwise agreed with the Customer or MCI. IRE shall be exclusively responsible for establishing all terms and conditions, consistent with this Agreement, applicable to the sale of its products or services to Customers, including but not limited to all applicable warranty, maintenance, support, service and return policy requirements associated therewith. MCI shall not be considered a party to this vendor/vendee relationship, and all obligations arising out of the sale of IRE's products and services to Customers shall be satisfied solely and exclusively by IRE. IRE agrees and warrants that all products and services under this Program will comply with any and all applicable laws and regulations of all applicable jurisdictions. 6. Program Management The parties will each appoint a Program Manager. The Program Managers will meet regularly during initial implementation of the Program. After initial implementation, the Program Managers will meet quarterly to update forecasts, improve Program management, and review strategy and Program performance in accordance with Attachment A. 2 3 7. Training The parties will provide sales training at no charge for their respective management, support, sales, and engineering personnel. This training will be developed and reviewed jointly and may be modified from time to time by mutual agreement. 8. Term and Termination This Agreement shall commence on the effective date and shall terminate on its third anniversary, unless earlier terminated as provided below or extended by mutual agreement. Either party may terminate this Agreement on thirty (30) day's written notice to the other party. Termination shall have the effect of terminating the parties' obligations to continue any joint marketing activity hereunder. Customer contracts for provision of products and services that are in effect prior to the date of this Agreement's termination will be unaffected by a termination. Prior to the effective date of this Agreement's expiration and pursuant to notice, the parties will in good faith attempt to negotiate an appropriate transition for any joint sales activities underway prior the termination. Neither party shall have any obligation or liability to the other or to any third party by reason of the rightful termination or expiration of this Agreement. Notwithstanding anything to the contrary in this Agreement, Section 1 of Attachment A, including but not limited to IRE's right to purchase product from MCI inventory, shall survive termination of this Agreement. 9. Confidentiality The parties use and disclosure of proprietary information shall be subject to the terms of the Nondisclosure Agreement, executed by the parties and attached hereto as Attachment D. Information which is disclosed orally in a manner which makes it apparent that it is proprietary or confidential, shall be deemed to have been delivered in writing and labeled as proprietary or confidential. The terms of this provision shall survive termination of this Agreement. 10. Trademarks Nothing in this Agreement shall be construed to grant either party any rights or license in or to the other party's trademarks, service marks, logos and other proprietary marks ("Trademarks") other than as set forth herein. Neither party shall use the name, trademarks, trade names or service marks of the other party in any advertisement, promotional statement, sales literature or any other form of publicity or marketing without the prior written approval of the other party. The terms of this provision shall survive termination of this Agreement. MCI hereby acknowledges that it retains no right in or to the SafeNet trademark. 3 4 11. Indemnification Subject to the limitations contained in Article 14, MCI shall indemnify, protect and save harmless IRE, its affiliates and subsidiaries from and against any and all loss, liability, damage and expense, including reasonable attorneys' fees arising out of and to the extent any third party demand, claim, or suit for personal injury, including death, or damage to tangible property arising or related to the MCI's negligent acts or omissions in performing its obligations under this agreement. IRE shall give MCI prompt notice of any such claim and MCI shall have the sole authority to defend or settle any and all claims arising under this section. MCI shall not be liable for any settlements or compromises unless MCI has approved such settlements or compromises in advance or the defense of the claims has been tendered to MCI and it failed to promptly undertake the defense. Subject to the limitations contained in Article 14, IRE shall indemnify, protect and save harmless MCI, its affiliates and subsidiaries from and against any and all loss, liability, damage and expense, including reasonable attorney's fees arising out of and to the extent any third party demand, claim, or suit for personal injury, including death, or damage to tangible property arising or related solely to IRE's negligent acts or omissions in performing its obligations under this agreement. MCI shall give IRE prompt notice of any such claim and IRE shall have the sole authority to defend or settle any and all claims arising under this section. IRE shall not be liable for any settlements or compromises unless IRE has approved such settlements or compromises in advance or the defense of the claims has been tendered to IRE and it failed to promptly undertake the defense. 12. Relationship of the Parties This Agreement is not intended to be, nor shall it be construed as, a joint venture, association, partnership, franchise or other form of business relationship. Neither party shall have nor hold itself out as having any right or power or authority to assume, create, or incur any expense, liability or obligation, expressed or implied, on behalf of the other party, except as expressly provided herein. Nothing in this Agreement shall prevent either MCI or IRE from entering into another agreement with a third party or any other joint marketing programs with a third party. Except as expressly agreed, each party shall bear its own costs and expenses incurred under or in conjunction with its performance of obligation contained in this Agreement. 13. Notices All notices, demands or consents required or permitted hereunder shall be in writing and shall be delivered, sent by facsimile (with confirmation copy by mail) or telex, or mailed to the respective party's at the addresses first set forth in the first paragraph of this Agreement or at such other address as shall have been given to the other 4 5 party in writing for the purposes of this clause. Such notices and other communications shall be deemed effective upon the earliest to occur of (i) actual delivery, (ii) five (5) days after mailing, addressed and postage prepaid, returned receipt requested, as aforesaid, or (iii) one (1) business day after transmission by telex, telegram or facsimile where receipt has been confirmed by the same type of transmission or in writing received by the sender. If to MCI: ATTN: Howard Hempenius CC: MCI General Counsel 1133 19th Street NW Washington, DC 20036 If to IRE: ATTN: Jill Leukhardt CC: Bruce Thaw IRE General Counsel 45 Banfi Plaza Farmingdale, N.Y. 11735 14. Limitation on Liability Neither party shall be liable to the other for indirect, incidental, consequential, reliance, exemplary or special damages, including without limitation lost profits, regardless of the form of action. Terms of this provision shall survive termination of this Agreement. 15. Arbitration Any dispute or disagreement arising between the parties in connection with this Agreement, which is not settled to the mutual satisfaction of the parties within thirty (30) days (or such longer period as may be mutually agreed upon) from the date that either party informs the other in writing that such dispute or disagreement exists, shall be settled by arbitration in accordance with the J.A.M.S./ENDISPUTE Arbitration Rules and Procedures, as amended by this Agreement. The cost of the arbitration, including the fees and expenses of the arbitrator(s), will be shared equally by the parties unless the award otherwise provides. Each party shall bear the cost of preparing and presenting its case. The parties agree that this provision and the arbitrator's authority to grant relief shall be subject to the United States Arbitration Act, 9 U.S.C. 1-16 et seq. ("USAA"), the provisions of this Agreement, and the ABA-AAA Code of Ethics for Arbitrators in Commercial Disputes. The parties agree that the arbitrator(s) shall have no power or authority to make awards or issue orders of any kind except as expressly permitted by this Agreement, and in no event shall the 5 6 arbitrator(s) have the authority to make any award that provides for punitive or exemplary damages. The decision of the arbitrator(s) shall follow the plain meaning of the relevant documents, and shall be final and binding upon the parties. The award may be confirmed and enforced in any court of competent jurisdiction. All post-award proceedings shall be governed by the USAA. 16. Assignment Neither this Agreement nor any of the rights or obligations hereunder may be assigned, delegated, sublicensed or otherwise transferred by either party without the written consent of the other party except either party may at its sole discretion assign, delegate or subcontract performance of its obligations under this agreement to any other division, subsidiary, affiliate or successor entity of said party; notwithstanding any such assignment, the assigning party shall continue to be responsible for performance of this Agreement in accordance with the terms of this Agreement unless its responsibility is expressly excused by the other party. 17. Applicable Laws This Agreement shall be governed by and construed in accordance with the laws of the State of New York without reference to its choice of law principles. 18. Publicity The parties agree to release the press announcement attached hereto as Attachment E upon execution by both parties of this Agreement. The parties agree that no other news releases, media statements, or other public announcements concerning the existence of this Agreement or any of its terms and conditions or performance obligations of the parties shall be made without the prior written approval of the other party. Such written approval, whenever granted, shall expire six months after the date on which approval was granted, and shall be extended beyond six months only by express agreement between the Parties. 19. Effect on Prior Agreement The Parties hereby immediately terminate the Purchase and Maintenance Agreement ("PM Agreement") between MCI and IRE dated September 22, 1995, including its Minimum Initial Order provisions (Section VI and Schedule C). The Parties further agree to release each other from and against all actions, causes of action, claims, suits, debts, damages judgments, and demands whatsoever, whether matured or unmatured, whether at law or in equity, whether before a local, state or federal court or state or federal administrative agency or commission, whether now known or unknown, that each party now has or may have had, on behalf of it or any other person or entity, at any time prior to and including the date of this Agreement or 6 7 hereafter can, shall, or may have or claim to have, arising out of or relating to termination of the PM Agreement and its Minimum Initial Order provisions. Attachment C of this Agreement establishes terms and conditions applicable to the IRE products purchased by MCI pursuant to the PM Agreement. 20. Miscellaneous (a) No modification, amendment, supplement to, or waiver of the Agreement or any of its provisions shall be binding upon the parties hereto unless made in writing and duly signed by an authorized representative of the party against whom enforcement thereof is sought. A failure or delay of either party to this Agreement to enforce any of the provisions thereof, to exercise any option which is herein provided, or to require performance of any provision hereof shall in no way be construed to be a waiver of such provisions. (b) If any provision of this Agreement shall be declared invalid, illegal, or unenforceable as a matter of law, then that provision shall be deemed void and of no effect and the remainder of the Agreement shall survive such event. (c) The terms and conditions of any and all attachments thereto as amended from time to time by mutual written agreement of the parties or in accordance with the terms of this Agreement, are incorporated herein by reference and shall constitute part of this agreement as if fully set forth herein. This Agreement shall be construed or interpreted whenever possible to avoid conflict between the articles hereof and the Attachments hereto, provided that if such conflict shall arise, the Articles of this Agreement shall control. (d) The headings in this Agreement are for the purpose of reference only and shall not in any way limit or otherwise affect the meaning or interpretation of any of the terms hereof. (e) This Agreement may be executed in multiple counterparts, each of which shall be deemed an original, but all of which shall constitute one and the same instrument. (f) IRE agrees to indemnify and to save MCI, its officers, agents, employees, customers, suppliers, and vendors harmless from any and all losses, expense, damage, liability, claims or demands either at law or equity of actual or alleged infringement of any patent, invention, design, trade secret, trademark or copyright arising from the purchase, use or offering for sale of products and services provided by IRE under this Program, except where such infringement or alleged infringement arises by reason of designs for such materials or articles originally furnished to IRE by MCI. (g) IRE shall adhere to U.S. government regulations and requirements for any exports of cryptographic hardware, software, or services made pursuant to this 7 8 Agreement. All international or export shipments of IRE's products and services shall be the responsibility of and controlled by IRE. 21. Entirety of Agreement This Agreement, together with its Attachments, constitutes the entire Agreement and supersedes all previous agreements, promises, representations, understandings, and negotiations between the parties, whether written or oral, with respect to the subject matter hereof. IN WITNESS WHEREOF, the parties have caused this Agreement to be executed by their duly authorized representatives. IRE CORPORATION MCI TELECOMMUNICATIONS CORPORATION /s/ AA CAPUTO /s/ JOHN C. SCARBOROUGH --------------------- ----------------------- Signature Signature A A Caputo John C. Scarborough --------------------- ----------------------- Printed or Typed Name Printed or Typed Name Chairman Director --------------------- ----------------------- Title Title 12/16/96 11-13-96 --------------------- ----------------------- Date Date 8 9 IRE-MCI SERVICES AGREEMENT This Services Agreement ("Agreement"), between MCI Telecommunications Corporation ("MCI"), a Delaware Corporation, with offices at 2100 Reston Parkway, Reston VA 22091, and Information Resource Engineering Incorporated ("IRE"), a Delaware Corporation with offices at 8029 Corporate Drive, Baltimore, MD 21236, is made for the purpose of MCI and its affiliates reselling IRE services to MCI's Customers and shall be effective on the date of the second signature affixed. In consideration of the mutual promises and commitments set forth below the parties agree as follows: 1. IRE Services 1.1 IRE will provide services in accordance with Attachment A at the prices listed in Attachment B. IRE represents and warrants that services provided hereunder will meet generally accepted industry standards for information security and key management services and will be performed in a prompt and professional manner. There are no warranties, expressed or implied, of merchantability, fitness or otherwise, which extend beyond the face of this Agreement. IRE will notify MCI if an upgrade is necessary to maintain or improve the security and/or functionality of the services provided by IRE hereunder. 1.2 System availability for session key generation, recording and tracking as well as availability for trouble shooting shall be no less than 97%, as calculated according to Section 2.1.1 of Attachment A. 1.3 Questions and support requests relating to the IRE Services may be made by either MCI or MCI's Customers. IRE shall be solely responsible for responding to, and will use its best efforts to resolve, MCI Customer technical problems and complaints related to or arising from the IRE services provided hereunder, and in doing so shall comply with the Trouble-Handling Procedures and Response Times listed in Section 6 Attachment A. 1.4 IRE shall provide a minimum of two back up security centers to the primary Security Center. One security center will be collocated with the primary security center at IRE headquarters in Baltimore, Maryland and the other shall be located in Boston, Massachusetts or some other location more than 500 miles from Baltimore. To respond to emergencies, IRE shall maintain replacement hardware stored in the same building as the Security Center. Page 1 10 2. Order Entry and Billing Orders for IRE services offered hereunder may be placed by either MCI or by MCI Customers. The prices listed in Attachment B shall only apply to services provided to Mellon/Dreyfus, and shall apply for the first year of this Agreement. In the second year, and each subsequent year, IRE may increase these prices by no more than 15%. IRE shall notify MCI of any price increase 60 days before the price increase becomes effective. No later than the tenth day of each month, IRE shall provide MCI in a mutually agreed format the number of session keys used by MCI Customers in the previous month, the number of MCI Customer users during the previous month, and other services received by MCI Customers. MCI shall pay IRE invoices for services within 45 days, provided that if an MCI Customer disputes a bill based on information provided by IRE to MCI, MCI shall have the right to audit IRE's records for the purpose of resolving such dispute and may withhold payment to IRE of the disputed amount until the dispute is resolved between the customer and MCI. Upon MCI's request, IRE shall provide backup documentation for any billing information provided to MCI and shall cooperate at IRE's own expense in the resolution of any dispute between MCI and a Customer in which billing information provided by IRE is at issue. 3. Notices All notices, demands or consents required or permitted hereunder shall be in writing and shall be delivered, sent by facsimile (with confirmation copy by mail) or telex, or mailed to the respective party's at the addresses first set forth in the first paragraph of this Agreement or at such other address as shall have been given to the other party in writing for the purposes of this clause. Such notices and other communications shall be deemed effective upon the earliest to occur of (i) actual delivery, (ii) five (5) days after mailing, addressed and postage prepaid, returned receipt requested, as aforesaid, or (iii) one (1) business day after transmission by telex, telegram or facsimile where receipt has been confirmed by the same type of transmission or in writing received by the sender. If to MCI: ATTN: Howard Hempenius MCI Telecommunications Corporation 2100 Reston Parkway, 6th Floor Reston, VA 20191 CC: MCI General Counsel 1133 19th Street NW Page 2 11 Washington, DC 20036 If to IRE: ATTN: Jill Leukhardt Information Resources Engineering, Inc 8029 Corporate Drive Baltimore, MD 21236 CC: Bruce Thaw IRE General Counsel 45 Banfi Plaza Farmingdale, N.Y. 11735 4. Relationship of the Parties This Agreement is not intended to be, nor shall it be construed as, a joint venture, association, partnership, franchise or other form of business relationship. Neither party shall have nor hold itself out as having any right or power or authority to assume, create, or incur any expense, liability or obligation, expressed or implied, on behalf of the other party, except as expressly provided herein. Nothing in this Agreement shall prevent either MCI or IRE from entering into another agreement with a third party. 5. Confidentiality Each party's use and disclosure of the other party's proprietary information shall be subject to the terms of the Nondisclosure Agreement, executed by the parties and attached hereto as Attachment C. Information which is disclosed orally in a manner which makes it apparent that it is proprietary or confidential, shall be deemed to have been delivered in writing and labeled as proprietary or confidential. The terms of this provision shall survive termination of this Agreement. 6. Trademarks Nothing in this Agreement shall be construed to grant either party any rights or license in or to the other party's trademarks, service marks, logos and other proprietary marks ("Trademarks"). Neither party shall use the name, trademarks, trade names or service marks of the other party in any advertisement, promotional statement, sales literature or any other form of publicity or marketing without the prior written approval of the other party. The terms of this provision shall survive termination of this Agreement. 7. Publicity Page 3 12 The parties agree that no news releases, media statements, or other public announcements concerning the existence of this Agreement or any of its terms, conditions, or performance obligations shall be made without the prior written approval of the other party. Such written approval, whenever granted, shall expire six months after the date on which approval was granted, and shall be extended beyond six months only by express agreement between the Parties. 8. Limitation on Liability Neither party shall be liable to the other for indirect, incidental, consequential, reliance, exemplary or special damages, including without limitation lost profits, regardless of the form of action. Terms of this provision shall survive termination of this Agreement. 9. Applicable Law This Agreement shall be governed by and construed in accordance with the laws of the State of New York without reference to its choice of law principles. 10. Arbitration Any dispute or disagreement arising between the parties in connection with this Agreement, which is not settled to the mutual satisfaction of the parties within thirty (30) days (or such longer period as may be mutually agreed upon) from the date that either party informs the other in writing that such dispute or disagreement exists, shall be settled by arbitration in accordance with the J.A.M.S./ENDISPUTE Arbitration Rules and Procedures, as amended by this Agreement. The cost of the arbitration, including the fees and expenses of the arbitrator(s), will be shared equally by the parties unless the award otherwise provides. Each party shall bear the cost of preparing and presenting its case. The parties agree that this provisions and the arbitrator's authority to grant relief shall be subject to the United States Arbitration Act, 9 U.S.C. 1-16 et seq. ("USAA"), the provisions of this Agreement, and the ABA-AAA Code of Ethics for Arbitrators in Commercial Disputes. The parties agree that the arbitrator(s) shall have no power or authority to make awards or issue orders of any kind except as expressly permitted by this Agreement, and in no event shall the arbitrator(s) have the authority to make any award that provides for punitive or exemplary damages. The decision of the arbitrator(s) shall follow the plain meaning of the relevant documents, and shall be final and binding upon the parties. The award may be confirmed and enforced in any court of competent jurisdiction. All post-award proceedings shall be governed by the USAA. 11. Assignment Neither this Agreement nor any of the rights or obligations hereunder may be assigned, delegated, sublicensed or otherwise transferred by either party without Page 4 13 the written consent of the other party except either party may at its sole discretion assign, delegate or subcontract performance of its obligations under this agreement to any other division, subsidiary, affiliate or successor entity of said party; notwithstanding any such assignment, the assigning party shall continue to be responsible for performance of this Agreement in accordance with the terms of this Agreement unless its responsibility is expressly excused by the other party. For purposes of this Agreement, the term "affiliate" means any person or entity directly or indirectly controlling, controlled by, or under common control with a Party. 12. Term and Termination This Agreement shall commence on the effective date and shall terminate on its third anniversary, provided that either party may terminate this Agreement if the other party commits a material breach of its obligations hereunder and does not cure the material breach within thirty days of being notified thereof. 13. Miscellaneous 13.1 No modification, amendment, supplement to, or waiver of the Agreement or any of its provisions shall be binding upon the parties hereto unless made in writing and duly signed by an authorized representative of the party against whom enforcement thereof is sought. A failure or delay of either party to this Agreement to enforce any of the provisions thereof, to exercise any option which is herein provided, or to require performance of any provision hereof shall in no way be construed to be a waiver of such provisions. 13.2 If any provision of this Agreement shall be declared invalid, illegal, or unenforceable as a matter of law, then that provision shall be deemed void and of no effect and the remainder of the Agreement shall survive such event. 13.3 The terms and conditions of any and all attachments thereto as amended from time to time by mutual written agreement of the parties or in accordance with the terms of this Agreement, are incorporated herein by reference and shall constitute part of this agreement as if fully set forth herein. This Agreement shall be construed or interpreted whenever possible to avoid conflict between the articles hereof and the Attachments hereto, provided that if such conflict shall arise, the Articles of this Agreement shall control. 13.4 The headings in this Agreement are for the purpose of reference only and shall not in any way limit or otherwise affect the meaning or interpretation of any of the terms hereof. Page 5 14 13.5 This Agreement may be executed in multiple counterparts, each of which shall be deemed an original, but all of which shall constitute one and the same instrument. 13.6 IRE agrees to indemnify and to save MCI, its affiliates, officers, agents, employees, customers, suppliers, and vendors harmless from any and all losses, expense, damage, liability, claims or demands either at law or equity of actual or alleged infringement of any patent, invention, design, trade secret, trademark, copyright or other third party right arising from the purchase, use or offering for sale of products or services provided by IRE under this Agreement. IRE shall indemnify and hold harmless MCI, its affiliates, directors, officers, employees, and customers from and against any loss, liability, damage, or expense (including reasonable attorney's fees) incurred as a result of any third party demand, claim, suit or allegation arising out of or relating to IRE's breach of its obligations under this Agreement, misrepresentations, negligence, gross negligence, or willful misconduct. MCI shall give IRE prompt notice of any such claim, and IRE shall have sole authority to defend or settle any claims or actions hereunder. 13.7 MCI shall indemnify and hold harmless IRE, its affiliates, directors, officers, employees, and customers from and against any loss, liability, damage, or expense (including reasonable attorney's fees) incurred as a result of any third party demand, claim, suit or allegation arising out of or relating to MCI's breach of its obligations under this Agreement or misrepresentations. IRE shall give MCI prompt notice of any such claim, and MCI shall have sole authority to defend or settle any claims or actions hereunder. 13.8 IRE shall adhere to U.S. government regulations and requirements for any exports of cryptographic hardware, software, or services made pursuant to this Agreement. 13.9 Force Majeure. Neither Party shall be liable for any delay in or failure to carry out this Agreement if such delay or failure is due to any cause beyond the reasonable control of the party affected, including but not limited to governmental orders, regulations or restrictions, strikes, riots, wars, military action, or civil disorders; provided that under no circumstances will this provision relieve or excuse IRE from its system availability commitment in Section 2.1.1 of Attachment A. 14. Entirety of Agreement This Agreement, together with its Attachments, constitutes the entire Agreement between the parties and supersedes all previous agreements, promises, representations, understandings, and negotiations between the parties, whether written or oral, with respect to the subject matter hereof. Page 6 15 IN WITNESS WHEREOF, the parties have caused this Agreement to be executed by their duly authorized representatives. IRE CORPORATION MCI TELECOMMUNICATIONS CORPORATION /s/ JILL L. LEUKHARDT /s/ VINTON G. CERF - ---------------------- --------------------- Signature Signature Jill L. Leukhardt Vinton G. Cerf - ---------------------- --------------------- Printed or Typed Name Printed or Typed Name Senior Vice President Sr VP - ---------------------- --------------------- Title Title 12/19/96 12/17/96 - ---------------------- --------------------- Date Date Page 7 EX-10.N 3 JOINT DEVELOPMENT AND MARKETING AGREEMENT. 1 EXHIBIT 10N JOINT DEVELOPMENT AND MARKETING AGREEMENT This Agreement, made and entered into as of the 6th day of August, 1996, by and between CyberGuard Corporation, a Florida corporation ("CyberGuard"), whose address is 2101 West Cypress Creek Road, Fort Lauderdale, Florida 33309; and Information Resource Engineering, Inc., a Delaware corporation ("IRE"), whose address is 8029 Corporate Drive, Baltimore, Maryland 21236: WHEREAS, CyberGuard designs, manufactures and markets network security products, including the CyberGuard(TM) Firewall, for Internet, intranet and commercial networking environments; WHEREAS, IRE has developed, manufactures and markets an encrypting modem-related hardware, software and documentation, and key management services through its SafeNet Security Center ("S/SC")(TM); WHEREAS, CyberGuard and IRE desire to jointly develop and market a proposed product offering consisting of a combination of the CyberGuard Firewall and IRE SafeNet(TM) products in an interoperable centrally managed system configured for use with a virtual private network ("VPN") and in applications that combine VPNs with public Internet access and/or legacy network use; NOW THEREFORE, in consideration of the mutual covenants contained herein and other good and valuable considerations, the receipt and sufficiency of which are hereby acknowledged, and intending to be legally bound, CyberGuard and IRE enter into this Agreement in order to provide for the initial phase of joint development and marketing activities for the proposed joint product offering. I. DEFINITIONS As used herein, the following words or phrases have the following meanings: 1.1 "CyberGuard Products" shall mean the software and manuals to be incorporated with an Intel-based personal computer to be supplied by a third party vendor. 1.2 "CyberGuard Property" means any and all Intellectual Property owned by CyberGuard as of the Effective Date or developed thereafter solely by or on behalf of CyberGuard, and expressly excludes any IRE Property. 1.3 "CyberGuard Firewall" shall mean a product comprised of an Intel-based personal computer to be supplied by a third party vendor and software and manuals supplied by CyberGuard. 1.4 "Effective Date" means August 6th, 1996. 1 2 1.5 "Hereof," "herein, and "hereunder" when used in this Agreement shall refer to the Agreement as a whole, unless the context otherwise requires. 1.6 "Intellectual Property" means any and all inventions, improvements, enhancements, methods, designs, know-how, trade secrets, software, hardware, circuits, products, documentation, mask works, layouts, ornamental designs, trademarks, service marks, trade dress, company names, brand names, logos, and fictitious names, together with any and all worldwide vested and/or inchoate rights in and to any or all of the foregoing under any issued, pending and/or later filed applications for patent or copyright registration, trademark and/or service mark registration, utility models and/or any other form of protection of various forms of intellectual and/or industrial property recognized anywhere in the world including any and all rights of domestic and/or foreign priority, the right to sue and recover damages for infringements including, without limitation, any past infringements. 1.7 "IRE Property" means any and all Intellectual Property owned by IRE as of the Effective Date or developed thereafter solely by or on behalf of IRE, and expressly excludes any CyberGuard Property. 1.8 "IRE/SafeNet Products" shall consist of the SafeNet/Dial, SafeNet/LAN, SafeNet/Security Center and SafeNet/Security Services. 1.9 "Joint Developments" means any and all Intellectual Property written, invented, developed or otherwise created jointly by CyberGuard and IRE in the course of the Project during the Term of this Agreement. Joint Developments shall not include any CyberGuard Property or any IRE Property. 1.10 "Prepaid License Fee" shall have the meaning as set forth in Section 2.3 of this Agreement. 1.11 "Product" or "Products" shall mean any combination of the CyberGuard Firewall and IRE SafeNet Products, developed in accordance with this Agreement, having an interoperable centrally managed system configured for use with a VPN and for use in applications that combine VPNs with public Internet access and/or legacy network use and having the characteristics set forth in the Specifications. 1.12 "Project" means all activity relating to the design, development, implementation, testing, modification and/or improvement of any Product and/or components thereof, whether hardware, software, electronic, mechanical or otherwise. 1.13 "Proprietary Information" means proprietary rights in, and to, all computer programs, source code, algorithms, software routines, microcode and other similar data pertaining to 2 3 CyberGuard Products, the IRE/SafeNet Products, or the Product, as the case may be. 1.14 "Specifications" means the criteria for and description of the Product set forth on Exhibit A hereto. 1.15 "Term" means the period from the Effective Date through the Termination Date. 1.16 "Termination Date" means any date upon which this Agreement shall terminate in accordance with the terms hereof, or two years from the Effective Date, whichever is earlier. II. JOINT DEVELOPMENT; PREPAID LICENSE 2.1 Development of the Product. Subject to the terms and conditions of this Agreement, CyberGuard and IRE agree to cooperate with and assist each other in the joint design and development of the Product. The Product is intended to address the markets and include the functionalities in accordance with Exhibits A and B attached hereto. 2.2 Enhancements to the Product. IRE and CyberGuard each acknowledge that from time to time it may be advantageous to develop enhancements to their respective product offerings that are components of the Product. Each of the parties hereto agrees that, at the request of the other party, it will work with the other party to jointly develop enhancements or revisions to the CyberGuard Firewall and/or the IRE SafeNet products. In the event that the parties hereto fail to agree on the timing, extent or nature of such enhancements and/or revisions, or on the sharing of expense with respect to such enhancements and/or revisions, the party that does not wish to proceed with such enhancements and/or revisions shall provide to the other party a price quotation (on an actual time and materials basis) and schedule for implementing such enhancements or revision. Such enhancements and/or revisions shall be effectuated upon acceptance of such proposal by the party requesting the enhancements and/or revisions. In the event that such enhancements and/or revisions result in any new Intellectual Property, such Intellectual Property shall become the property of the party or parties which fund(s) the enhancements and/or revisions. 2.3 Prepaid License. CyberGuard acknowledges that IRE, on the Effective Date, has paid to CyberGuard a prepaid license fee in the amount of $1 million ("Prepaid License Feel"). The Prepaid License Fee shall represent a prepayment of the amounts that will become due under Section 3.1.2 hereof, and shall be credited to the account of IRE on a dollar-for-dollar basis against such amounts that otherwise would become due to CyberGuard under Section 3.1.2 hereof. In the event that this Agreement is terminated prior to such credit aggregating the $1 million, then CyberGuard shall repay to IRE the balance of the $1 million prepaid license fee within one year of the date of such 3 4 termination, with interest at the prime rate of interest as is in effect as of the date of such termination and announced by Chase Bank of New York. III. MANUFACTURE AND ASSEMBLY 3.1 Delivery of CyberGuard Products to IRE. 3.1.1 Subject to the terms and conditions hereof, CyberGuard shall use commercially reasonable efforts to supply to IRE such number of CyberGuard Products as may be required during the term of this Agreement to fill orders for the Product. 3.1.2 CyberGuard shall sell CyberGuard Products, F.O.B. CyberGuard's place of business in Fort Lauderdale, Florida, at the prices set forth on Exhibit C. Payment terms are net 30 days from the date of IRE shipment to its customers for CyberGuard Products sold. 3.1.3 All prices quoted by CyberGuard are exclusive of all excise, sales and similar taxes of whatever jurisdiction and of any other taxes, customs, duties, fees or charges that may be imposed on the sale of CyberGuard Products to IRE. 3.2 Manufacture of the Product. IRE shall assemble and configure the Product by integrating the CyberGuard Firewall and IRE/SafeNet Products in accordance with the Specifications, as such Specifications may be modified or supplemented in a writing agreed to by the parties hereto from time to time. The parties agree that the PC platform and the vendor that will supply the platform will be selected by IRE, from time to time, so long as such selection meets the technical requirements of CyberGuard. The parties agree that for this purpose the Intel-based PC platform manufactured by Advanced Logic Research, Inc. is acceptable to both IRE and CyberGuard. 3.3 Costs of Manufacture. All costs and expenses, including taxes, related to the assembly and configuration as described in Section 3.2 of the Product shall be borne solely by IRE. 3.4. No License Fee. Except for the Prepaid License Fee, the fees payable in accordance with Section 3.1.2 hereof and a fee payable under the license described in Exhibit D hereto, no license fee under this Agreement shall be payable by either IRE or CyberGuard with respect to CyberGuard Products or IRE/SafeNet Products incorporated into the Product for sale in accordance with this Agreement. IV. MARKETING AND SALES 4.1 Terms and Conditions of Sales. The parties agree to negotiate in good faith and to reach agreement on the following matters within 15 days after the Effective Date: the initial List Prices for the Product, the discounts that will be available to the various sales channels, the other terms and conditions of the 4 5 sales of the Product to third parties, and the terms, conditions and pricing under which CyberGuard will act as reseller of the Product. IRE and CyberGuard agree to cooperate in the future to establish different List Prices and discounts as needed to address cost changes or market conditions. All other terms and conditions of sales of the Product that are not addressed in the mutually agreed-to terms shall be set by IRE. 4.2 Marketing Assistance/Assignment of Sales Personnel. IRE and CyberGuard shall cooperate in marketing and selling the Product. For each sales lead generated by or becoming known to a party hereto, the parties agree that for a preliminary time period to be agreed upon by IRE and CyberGuard, each of them will use reasonable best efforts to jointly assign a sales team consisting of a representative from each corporation (consisting of a sales representative from one corporation and a customer support representative from the other) to pursue such leads with a view toward generating a sale. 4.3 Marketing Fees. In consideration of the sales support to be provided by CyberGuard under Section 4.2 hereof, for each Product sold, in addition to the payment for CyberGuard Products as set forth in Section 3.1 hereof, IRE shall pay CyberGuard a marketing fee as set forth in Exhibit C hereto. The marketing fee shall be paid monthly based upon payments received by IRE from the purchasers of the Product during the previous month. 4.4 Order Flow and Fulfillment. Orders for the Product, whether generated by CyberGuard or IRE, shall be submitted to IRE for fulfillment. IRE shall have the sole discretion to determine whether to extend credit to any potential purchaser of a Product. IRE shall process orders for shipment in accordance with commercially reasonable standards. IRE shall submit invoices to purchasers for products shipped and shall be responsible for collection of such invoices. IRE shall provide to CyberGuard written monthly reports that describe the identity of the purchasers, the Products sold, quantities, discounts and prices for all sales of Products. Revenue from sales of Product shall be considered solely the revenue of IRE for all accounting and other purposes. 4.5 Compliance With Laws and Business Practices. It is expressly understood and agreed that this Agreement, and any exports, sales, transfers, or any other disposition of CyberGuard Products or IRE/SafeNet Products, to the extent incorporated in the Product, are subject to the laws and regulations of the United States. Specifically, contracts and orders placed for the Product may require advance U.S. Government Export approval or licensing, and, therefore all such contracts and orders are subject to the receipt of any necessary approvals and licenses. The parties hereto agree to solicit orders, and IRE agrees to process and ship orders, in accordance with all applicable laws and regulations. 5 6 V. CUSTOMER SUPPORT 5.1 Initial Contact. IRE shall be the initial point of contact for customer support of the Product and shall establish and maintain support facilities sufficient to provide primary support for the Product. Primary support requires that IRE provide all necessary resources to provide initial diagnosis of both hardware and software problems and providing reasonable assistance to purchasers to resolve problems with the Product. 5.2 Maintenance. Following receipt of support requests from a customer and an assessment by IRE of the customer's additional support requirements, if it is determined that the customer requires maintenance services, CyberGuard shall provide such maintenance for CyberGuard Products and IRE shall provide such maintenance in all other instances. Each party hereto agrees to maintain support services sufficient to discharge the duty set forth in the preceding sentence, and shall provide such services in its usual and customary manner, and at customary rates, as provided to other customers (which, in all cases, shall be a commercially reasonable manner and rate). Each party agrees to maintain the availability of support services for a period of at least two years after the termination of this Agreement. The term "support," for purposes of this section 5.2, means verifying, diagnosing and resolving hardware and software problems and delivery of software patches and applicable release notes. VI. INTELLECTUAL PROPERTY RIGHTS 6.1 Ownership of Intellectual Property; Property Tradename. 6.1.1 CyberGuard Property. Subject to the provisions of Section 6.2, the parties acknowledge and agree that all CyberGuard Property is and shall remain at all times the exclusive property of CyberGuard, its successors and assigns. 6.1.2 IRE Property. Subject to the provisions of Section 6.2, the parties acknowledge and agree that all IRE Property is and shall remain at all times the exclusive property of IRE, its successors and assigns. 6.1.3 Joint Developments. Joint Developments shall be owned jointly by CyberGuard and IRE, their successors and assigns, as tenants in common. 6.1.4 Property Tradename. CyberGuard and IRE agree that the Product shall be branded with a name or names and marks that are acceptable to both IRE and CyberGuard (the "Product Tradename"). The Product Tradename shall be used only for purposes of marketing and selling the Product. Notwithstanding the foregoing, there shall be no restriction with respect to IRE's use of the "SafeNet" mark for any and all purposes. The parties agree that the Product Tradename shall be solely and exclusively IRE Property; provided, however, that CyberGuard 6 7 shall have the right to use the Product Tradename to the limited extent necessary to act as a seller of the Product. 6.2 Cross License. Subject to the terms and conditions contained herein, CyberGuard hereby grants to IRE a nontransferable, non-exclusive license to use the CyberGuard Property solely to the extent as is required to develop, manufacture and market the Product. Subject to the terms and conditions contained herein, IRE hereby grants to CyberGuard a nontransferable, non-exclusive license to use the IRE/SafeNet Property solely to the extent as is required to develop, manufacture and market the Product. Each party hereto acknowledges and agrees that the other has expended considerable time, effort and funds in developing and generating the Intellectual Property owned by it, and has and will continue to have a substantial proprietary interest and valuable trade secret therein. The license granted by each party to the other herein is granted as part of the consideration of entering into this Agreement. 6.3 Limitation. CyberGuard shall have no interest in any of the trademarks, service marks, trade dress, company names, or logos of IRE or the Product; without limiting the generality of the foregoing clause of this sentence, CyberGuard shall have no rights with respect to the tradename "SafeNet" and related tradenames, except to the limited extent necessary to act as a seller of the Product. IRE shall have no interest in any of the trademarks, service marks, trade dress, company names, or logos of CyberGuard; without limiting the generality of the foregoing clause of this sentence, IRE shall have no rights with respect to the tradename "CyberGuard" and related tradenames, except to the limited extent necessary to act as a seller of the Product. 6.4 Protection of Intellectual Property. 6.4.1 Each of the parties hereto agrees to make full and complete disclosure to the other of all Joint Developments it believes may be copyrightable, patentable or of commercial value. 6.4.2 With respect to all Joint Developments believed by either party to be copyrightable, patentable or of commercial value, the parties agree to decide jointly whether and where to apply for copyright, patent or other appropriate forms of protection. To the extent the parties agree to protect a Joint Development, the parties shall do so at their joint expense using counsel as mutually agreed. 6.4.3 In the event the parties elect not to jointly pursue protection of any Joint Development, either party (the "Electing Party") may seek such protection in its own name and at its sole expense using counsel of its choice. As to Joint Developments with respect to which the Electing Party elects to seek protection, the non-electing party shall assign its intellectual property rights in and to such Joint Development to the Electing Party and the Electing Party shall grant to the non- 7 8 electing party a fully paid-up, worldwide, extendible, nonexclusive perpetual license to use the Joint Development and any and all Intellectual Property therein for any and all purposes. 6.4.4 All expenses of renewing and or maintaining intellectual property protection of any Joint Development shall be borne by the party seeking protection, or, in the case of protection sought jointly by the parties hereto, by both parties sharing equally in such expenses. 6.5 Enforcement of Intellectual Property Rights. 6.5.1 CyberGuard shall be solely responsible for enforcing any and all CyberGuard Property, and IRE shall be, solely responsible for enforcing any and all IRE Property, whether or not such CyberGuard Property or IRE Property is incorporated into the Product. In the event that it is unclear whether CyberGuard Property or IRE Property is being infringed upon, the parties shall treat such infringement as if the infringement were on a Joint Development in accordance with the provisions below. 6.5.2 Each party agrees promptly to advise the other of suspected or known infringements on any Joint Development. 6.5.3 The parties agree to consult as to the appropriate action to be taken with respect to any infringement of any Joint Development. If the parties agree to settle or jointly prosecute any claim for misappropriation and/or infringement, the parties shall share equally in the costs and expenses, including attorney's fees, incurred in connection with such prosecution and shall share equally in any settlements or other recoveries thereon. 6.5.4 If one of the parties hereto does not agree to be responsible for its full share of the costs and expenses of prosecuting an infringement claim jointly, then either party may sue it its own name and at its sole expense and, in such case, the other party agrees to be joined as a plaintiff for standing purposes and to cooperate as reasonably requested in prosecuting such action (subject to reimbursement for reasonable costs, expenses, and attorneys' fees). In such event, any recovery shall inure to the party prosecuting the infringement and not to the other, whether or not such other party joins as a plaintiff as provided herein. 6.6 Defense of Intellectual Property. 6.6.1 CyberGuard shall be solely responsible for defending any and all claims of third parties against CyberGuard Products for infringement, and IRE shall be solely responsible for defending any and all claims of third parties against IRE/SafeNet Products for infringement, whether or not the CyberGuard Product or IRE/SafeNet Product at issue in any claim is incorporated into the Product. 8 9 6.6.2 Each party agrees promptly to advise the other of claims of infringement brought or threatened against any Joint Development. 6.6.3 The parties agree to consult as to the appropriate action to be taken with respect to any claims of infringement by any Joint Development. If the parties agree to jointly defend any claim for misappropriation and/or infringement, the parties shall share equally in the costs and expenses, including attorney's fees, incurred in connection with such defense. Each party shall bear only such damages as are awarded against it. 6.6.4 If one of the parties hereto does not agree to be responsible for its full share of the costs and expenses of defending an infringement claim jointly, then the other party may defend at its sole expense and the defending party shall have a lien upon the Intellectual Property of the other in the full amount of damages and costs and expenses of defense. VII. WARRANTIES OF THE PARTIES TO THE OTHER 7.1 Ownership of CyberGuard Products. CyberGuard warrants to IRE that it owns or otherwise holds all rights necessary to make, use, sell, offer for sale, advertise and distribute the CyberGuard Products free and clear from all claims, liens and encumbrances of third parties, except for the obligations under those agreements and licenses listed on Exhibit D hereto. 7.2 Ownership of IRE Products. IRE warrants to CyberGuard that it owns or otherwise holds all rights necessary to make, use, sell, offer for sale, advertise and distribute the IRE/SafeNet Products free and clear from all claims, liens and encumbrances of third parties. 7.3 Warranty. CyberGuard hereby warrants to IRE that under normal use and service, CyberGuard Products are free from defects in design and workmanship. IRE hereby warrants to CyberGuard that under normal use and service, IRE/SafeNet Products are free from defects in design and workmanship. Each party warrants to the other that the products delivered by such party for use in connection with the Product will be complete and in conformity with the products regularly supplied by each to purchasers and lessees of its products. CyberGuard's warranty under this Section 7.3 shall not include a warranty for the Intel-based PC that is a component of the CyberGuard Firewall and is supplied by a third party vendor. 7.4 Product Warranty. The Product shall be sold with a warranty to be agreed upon between the parties hereto, essentially to the effect that the Product will be free from defects in design, workmanship and material, with a time period (not to exceed one year) and on such other terms and conditions as are to be agreed upon between the parties. Subject to the limitations on warranty contained in this Agreement, CyberGuard agrees to assume all liability for breach of such warranty to the extent that a breach 9 10 of warranty relates solely to CyberGuard Products incorporated into the Product. Subject to the limitations on warranty contained in this Agreement, IRE agrees to assume all liability for breach of such warranty to the extent that such breach relates to the assembly or configuration of the Product or solely to IRE/SafeNet Products. CyberGuard and IRE agree to jointly assume all liability for breach of such warranty to the extent that a breach of warranty relates to the design of the Product or other matters that are not covered by either of the two preceding sentences. 7.5 Limitation on Warranty. EXCEPT AS OTHERWISE EXPRESSLY SET FORTH HEREIN AND EXCEPT FOR WARRANTY OF TITLE, NEITHER PARTY MAKES ANY OTHER WARRANTIES, EXPRESS OR IMPLIED TO THE OTHER WITH RESPECT TO ITS PRODUCTS. EXCEPT AS OTHERWISE EXPRESSLY SET FORTH HEREIN, THERE ARE NO WARRANTIES OR ANY AFFIRMATIONS OF FACT OR PROMISES BY EITHER PARTY HERETO AS TO MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE, INFRINGEMENT OR OTHERWISE. USE OF SUCH PRODUCTS CONSTITUTES THE CONSENT OF THE OTHER PARTY HERETO TO ASSUME ALL RISKS OF SUCH USE AND TO HOLD THE OTHER HARMLESS FOR ANY DAMAGES OR CLAIM OF DAMAGES ARISING IN ANY MANNER FROM SUCH USE. THE EMPLOYEES OR AGENTS OF NEITHER PARTY HAVE ANY AUTHORITY TO MAKE ANY WARRANTY OR REPRESENTATION REGARDING THE MANNER OR BENEFITS OF USE OF ANY PRODUCT OTHER THAN THOSE EXPRESSLY SET FORTH IN THE SPECIFICATION FOR SUCH PRODUCT. VIII. TERMINATION 8.1 Conditions for Termination. This Agreement shall terminate upon any of the conditions contained in this Section 8.1. 8.1.1 This Agreement shall terminate upon the occurrence of a material breach of this Agreement by either party hereto, provided: 8.1.1.1 The breaching party is given notice by the other party hereto containing a claim of breach and setting forth the nature of the breach and circumstances giving rise to such a claim; and 8.1.1.2 The party to whom notice is given fails to remedy such circumstances within sixty days after receipt of the notice. 8.1.2 This Agreement shall terminate upon the written notice of either party to the other that such party is unable to perform as provided hereunder due to labor disputes, fire, casualties and accidents, acts of the elements, acts of a public enemy, sovereign acts or regulations and any other causes beyond the control of such party, its agents, employees or officers. 8.1.3 This Agreement shall terminate if any of the following events occur as to one party hereto and the other party does not provide written notice within thirty days after it becomes aware of such event that it intends to waive termination 10 11 of this Agreement: a party makes an assignment for the benefit of its creditors, requests or permits a proposal, arrangement or reorganization under or, as an insolvent debtor, takes the benefit of any legislation now or hereafter in force for bankrupt or insolvent debtors; a receiver or other officer with like powers is appointed for a party for a substantial part of its assets; a lienholder takes possession of a substantial part of a party's property; or an order is made for the winding up, liquidation, revocation, or cancellation of incorporation of a party; or a party ceases carrying on its business as a going concern. 8.1.4 This Agreement shall terminate at the expiration of two years from its Effective Date. 8.2 Effects of Termination/Liability. 8.2.1 If this Agreement is terminated for reasons set forth in Section 8.1, then a breaching party shall indemnify the non-breaching party from and against all actual costs and expenses incurred or resulting from the breach, including reasonable attorneys' fees and costs of dispute resolution (collectively "Damages"); provided, however, that neither party hereto shall be liable under any circumstances, for indirect, special, incidental or consequential damages; and provided further that the amount of Damages payable by either party hereto to the other shall be limited to the amount that the party entitled to such Damages has incurred in connection with the performance of its obligations under this Agreement or to enforce the obligations of the other party hereunder. 8.2.2 Except as set forth herein, neither party shall be liable to the other for any claims, damages, costs, expenses or other charges incurred in connection with the entering into, performance, breach, or termination of this Agreement unless specifically provided for herein. 8.2.3 Notwithstanding the Termination Date of this Agreement, the provisions of Sections 5.2, 6.1, and 9.2 shall survive the Termination Date indefinitely, and the provisions of Article III and Section 6.2 shall survive until the second anniversary of the Termination Date. Without limiting the generality of the foregoing sentence, for two years after the Termination Date, CyberGuard shall continue to use commercially reasonable efforts to supply to IRE such number of CyberGuard Products as may be required for IRE to fulfill its orders for the Product and IRE shall continue to use commercially reasonable efforts to assemble and configure the number of Products as may be required for CyberGuard to fulfill its orders for the Product. The prices to be charged by IRE and CyberGuard to the other in fulfillment of the obligations stated in the foregoing sentence are described in Exhibit C and Section 4.1 hereto. 8.2.4 The parties hereto agree to deposit with mutually agreeable escrow agents in the case of (i) CyberGuard, a 11 12 current version of its software source code which incorporates all necessary and appropriate improvements, revisions, enhancements, or updates for the source code for the CyberGuard Products so that at all times, such source code will correspond with the software actually in use by CyberGuard (subject to the rights of Santa Cruz Operation, Inc. as set forth in the licenses and agreements described in Exhibit D hereto); (ii) IRE, all necessary schematics, diagrams and source code for the IRE/SafeNet Products (excluding SafeNet/Services) and all documentation reasonably necessary to manufacture the Product so that at all times, the source code, schematics and diagrams will correspond with the products and software actually in use by IRE. The parties hereto agree to negotiate and enter into escrow agreements to effectuate the purposes of the foregoing and to place the source codes and, as the case may be, schematics and diagrams for the CyberGuard Products and IRE/SafeNet Products in escrow so as to provide each party with access to such information in the event that the other party does not perform its obligations under this Agreement. IX. MISCELLANEOUS PROVISIONS 9.1 Assignment. Neither party shall assign this Agreement or any interest therein without the prior written consent of the other party. 9.2 Confidentiality. Neither party hereto shall, without the express written consent of the other, provide, disclose, transfer or otherwise make available any Proprietary Information, or parts or copies thereof, to any third party. Each party shall ensure that it, its employees and third party agents having access to any Proprietary Information, or to the CyberGuard Products or IRE/SafeNet Products of the other, will restrict and control the use, copying, modification, disclosure, transfer, protection and security of such items, in accordance with these provisions. Each party hereto agrees to protect all Proprietary Information with the same standard of care that it uses to protect its own like information. 9.3 Nonsolicitation. The parties hereto agree that they will not, at any time during the term this Agreement and for a period of one year thereafter, directly or indirectly, for itself or for any other person, firm, corporation, partnership, association or other entity, attempt to employ, employ or enter into any contractual arrangement with any employee or former employee of the other party, its subsidiaries or predecessors in interest, unless such employee or former employee has not been employed by the other party, its subsidiaries or its predecessors in interest, for a period in excess of six months. 9.4 Publicity. The parties hereto agree to cooperate in the drafting of any press releases or other public disclosure that relates to the Project. Neither shall make any public disclosure relating to the Project or the other party without the consent of such other party. Notwithstanding the foregoing, in the event 12 13 that a party hereto (the "Disclosing Party") is advised by counsel that public disclosure relating to the Project or the other party is required, the Disclosing Party shall provide to the other party a copy of the proposed disclosure in advance of its public release and shall use all reasonable efforts to seek the comments of the other party prior to its publication. 9.5 Notices. All notices permitted or required hereunder shall be effective: upon receipt if delivered personally; on the third business after sending if sent via registered or certified U.S. mail, return receipt requested; on the second business day after sending, charges prepaid for next day delivery, via a nationally recognized overnight delivery service (Federal Express, Purolator Courier, DHL and UPS are acceptable for these purposes); and upon acknowledgment of receipt by the party to be charged with notice if sent via any other means. Notice shall be given to the following address or to such other address as to which a party shall give notice: If to CyberGuard: CyberGuard Corporation 2101 W. Cypress Creek Road Ft. Lauderdale, FL 33309 Attention: President If to IRE: Information Resource Engineering, Inc. 8029 Corporate Drive Baltimore, MD 21236 Attention: Chairman 9.6 Disputes. 9.6.1 Any controversy or claim related to or arising out of this Agreement shall be settled by binding arbitration conducted under the Commercial Arbitration Rules of the American Arbitration Association. Judgment on the arbitrator's award may be entered and enforced in any court of competent jurisdiction. Neither party will be precluded from seeking provisional remedies in the courts including, but not limited to, temporary restraining orders and preliminary injunctions, to protect its rights and interests, but such relief will not be sought as a means to avoid or stay arbitration. 9.6.2 This Section 9.6 provides the sole recourse for the settlement of any dispute arising under or in connection with this Agreement. In any arbitration between the parties, the prevailing party shall be entitled to reasonable attorneys' fees and all costs of proceedings incurred in enforcing this Agreement in addition to any other amount of recovery ordered in such arbitration. 13 14 9.6.3 IRE and CyberGuard each agree that if either of them determine to begin an arbitration action, then such action may be brought only in the city or county in which the corporate headquarters of the defendant to such action is located, and each agree that venue is proper in such location. 9.7 Relationship of the Parties. The parties hereto agree that no agency, employment, partnership, joint venture or franchise relationship is created or shall be deemed to be created hereunder. Neither party shall have, and neither shall represent to have, any power, right or authority to bind the other or to assume or create any obligation or responsibility, express or implied, on behalf of the other party or in the other party's name, except as herein expressly permitted. 9.8 Entire Agreement. This Agreement constitutes the entire agreement and supersedes any prior agreements or understandings between the parties hereto regarding the subject matter hereof, and no amendment, alteration or waiver of this Agreement shall be valid or binding unless made in writing and signed by both parties. 9.9 Governing Law. This Agreement shall be governed by, and interpreted and construed in accordance with the laws of the State of New York. 9.10 Further Agreements. The parties hereto agree to enter into good faith negotiations for the purposes of executing and delivering an appropriate agreement or agreements providing for CyberGuard's ability to resell the IRE SafeNet family of products and for IRE's ability to resell the CyberGuard Firewall family of products, now or hereafter developed during the term of this Agreement. 9.11 Severability. Any provision in this Agreement found to be void, voidable or unenforceable shall not affect the validity or enforceability of any other provision in this Agreement. In the event that any provision of this Agreement shall be declared void, voidable or unenforceable by a court of competent jurisdiction, said provision shall be deemed to be amended to provide the party seeking to enforce this Agreement the greatest protection available under law. 14 15 IN WITNESS WHEREOF the undersigned have executed and delivered this Agreement as of the date and year first above written. INFORMATION RESOURCE CYBERGUARD CORPORATION ENGINEERING, INC. By: /s/ ANTHONY A. CAPUTO By: /s/ ROBERT L. CARBERRY ------------------------- ---------------------------- Anthony A. Caputo Robert L. Carberry Its: Chairman, Chief Executive Its: Chairman,President Officer and President and Chief Executive Officer EX-10.O 4 EMPLOYMENT AGREEMENT. 1 EXHIBIT 10O EMPLOYMENT AGREEMENT AGREEMENT, dated this 27th day of March, 1997 between Information Resource Engineering, Inc., a Delaware corporation (the "Company") with offices at 8029 Corporate Drive, Baltimore, MD and Anthony A. Caputo (the "Executive"). W I T N E S S E T H : WHEREAS, the Company and the Executive wish to enter into an employment and compensation arrangement on the following terms and conditions; 1. Employment. Subject to the terms and conditions of this Agreement, the Company agrees to employ the Executive as its Chief Executive Officer during the Employment Period (as defined in Section 7) and to perform such acts and duties and furnish such services to the Company and its affiliates and related parties as the Company's Board of Directors shall from time to time direct. The Executive shall have general and active charge of the business and affairs of the Company as its Chief Executive Officer and, in such capacity, shall have responsibility for the day-to-day operations of the Company, subject to the authority and control of the Board of Directors of the Company. During the Employment Period, the Company shall continue to take such actions as necessary to cause the Executive's nomination as a member of the Board of Directors of the Company. The Executive hereby accepts such employment and agrees to devote his full time and best efforts to the duties provided herein, provided, that the Executive may engage in other business activities which (i) involve no conflict of interest with the interests of the Company (subject to approval by the Board of Directors, which approval shall not be unreasonably withheld) and (ii) do not materially interfere with the performance by the Executive of his duties under this Agreement. 2. Compensation. For services rendered to the Company during the term of this Agreement, the Company shall compensate the Executive with an initial salary, payable in bi-weekly installments, of $250,000 per annum. Such base salary shall be reviewed on an annual basis by the Compensation Committee of the Company's Board of Directors (the "Compensation Committee") and shall be increased by at least ten (10%) percent per annum. (1) 2 3. Incentive Compensation. The Executive shall also be entitled to annual incentive compensation of up to fifty (50)% of the applicable base salary if the Company's business objectives as set forth in the Company's annual business plan are achieved. The nature and extent of such incentive compensation shall be determined by the Compensation Committee no later than ninety (90) days following the end of the Company's fiscal year. 4. Stock Options. As further compensation, Employee shall be issued 50,000 incentive stock options (subject to allowable limitations set forth in the Internal Revenue Code of 1986, as amended, hereinafter "stock options") upon the effective date of this Agreement. The stock options shall be issued at the fair market value of the Employer's common stock as of the date of this Agreement and shall then be vested at 20% per full year of service (and shall not be vested for interim periods on a pro-rata basis, except as otherwise provided in the applicable Stock Option Agreement) from the date of this Agreement, over a five year period, all of the foregoing to be in accordance with the provisions of Employer's Stock Option Plan, as may be amended from time to time, which is incorporated by reference herein. If the Executive's employment is terminated (i) because of his death or disability pursuant to Section 8 of this Agreement, (ii) by the Company for any reason other than for Cause or (iii) by the Executive for Good Reason: (x) the portion of the stock option which was exercisable at termination shall remain exercisable for a period of 3 years after such date; and (y) with respect to that portion, if any, of the stock option which was not yet exercisable at termination, such portion shall immediately become exercisable and shall remain exercisable until the end of such 3-year period. The stock option shall be memorialized in a separate written stock option agreement reasonably satisfactory to the Company and the Executive. In the event that the Common Stock to be issued upon the exercise of said options has not been registered under the Securities Act of 1933 (the "Act"), it must be held by the Executive indefinitely, and may not be sold or disposed of unless (i) a registration statement covering those shares becomes effective under the Act, or (ii) if an exemption from registration becomes available. The Company is not under any obligation to register the shares under the Act. The Company shall use its best efforts to timely file all reports, statements and other documents as may be required under (2) 3 the Securities and Exchange Act of 1934 to keep available the exemption under Rule 144 of the Act or other comparable rules or regulations of the Securities and Exchange Commission. 5. Benefits. During the Employment Period, the Company shall provide or cause to be provided to the Executive such employee benefits as are provided to other executive officers of the Company, including family medical and dental, disability and life insurance, and participation in pension and retirement plans, incentive compensation plans, stock option plans and other benefit plans. During the Employment Period, the Company may provide or cause to be provided to the Executive such additional benefits as the Company may deem appropriate from time to time. The Company shall also provide the Executive the use of an automobile of at least equal value to that which is presently utilized by the Executive as of the date of this Agreement 6. Vacation. The Executive shall be entitled to annual vacations in accordance with the Company's vacation policies in effect from time to time for executive officers of the Company. 7. Term; Employment Period. The "Employment Period" shall commence on the date of this Agreement and shall terminate 5 years thereafter, unless extended by written agreement between the parties or unless earlier terminated pursuant to Section 8. If the Executive shall remain in the full-time employ of the Company beyond the Employment Period without any written agreement between the parties, this Agreement shall be deemed to continue on a month to month basis and either party shall have the right to terminate this Agreement at the end of any ensuing calendar month on written notice of at least 30 days. 8. Termination. (a) Executive's employment with the Company shall be "at will". Either the Company or the Executive may terminate this Agreement and Executive's employment at any time, with or without Cause or Good Reason (as such terms are defined below), in its or his sole discretion, upon thirty (30) days' prior written notice of termination. (b) Without limiting the foregoing Section 8(a), (i) the Executive may terminate his employment with the Company at any time for Good Reason, or (ii) the Company may terminate his employment at any time for Cause. "Good Reason" shall mean death, Disability (as defined below) (3) 4 or a termination of employment as a result of a substantial diminution in the Executive's responsibilities, or base salary below $250,000 or a demotion in title or status. "Cause" shall mean (i) the Executive's willful, repeated or neglectful failure to perform his duties hereunder or to comply with any reasonable or proper direction given by or on behalf of the Company's Board of Directors following ten (10) days written notice to such effect; (ii) the Executive being guilty of serious misconduct on the Company's premises or elsewhere, whether during the performance of his duties or not, which may cause damage to the reputation of the Company or render it difficult for the Executive to satisfactorily continue to perform his duties; (iii) the Executive being found guilty in a criminal court of any offense of a nature likely to affect the reputation of the Company or to prejudice its interests if the Executive were to continue to be employed by the Company; (iv) the Executive's commission of any act of fraud, theft or dishonesty, or any intentional tort against the Company; or (v) the Executive's violation of any of the material terms, covenants, representations or warranties contained in this Agreement. (c) "Disability" shall mean that the Executive, in the good faith determination of the Board of Directors of the Company, is unable to render services of the character contemplated hereby and that such inability (i) may be expected to be permanent, or (ii) may be expected to continue for a period of at least three (3) consecutive months (or for shorter periods totaling more than six (6) months during any period of twelve consecutive months). Termination resulting from Disability may only be effected after at least thirty (30) days written notice by the Company of its intention to terminate the Executive's employment. (d) "Termination Date" shall mean (i) if this Agreement is terminated on account of death, the date of death; (ii) if this Agreement is terminated for Disability, the date established by the Company pursuant to Section 8(c) hereof; (iii) if this Agreement is terminated by the Company, the date on which a notice of termination is given to the Executive; (iv) if the Agreement is terminated by the Executive, the date the Executive ceases work; or (v) if this Agreement expires by its terms, the last day of the term of this Agreement. (4) 5 9. Severance. (a) If (i) the Company terminates the employment of the Executive against his will and without Cause, or (ii) the Executive terminates his employment for Good Reason (excluding death or Disability), the Executive shall be entitled to receive salary, target incentive compensation and vacation accrued through the Termination Date plus the lesser of (i) $600,000 or (ii) the balance of the Executive's compensation hereunder to the end of the term of this Agreement computed using the latest applicable salary rate. The Company shall make such termination payment within 30 days of such termination. Notwithstanding the foregoing, the Company shall not be required to pay any severance pay for any period following the Termination Date if the Executive violates the provisions of Section 15, Section 16 or Section 17 of this Agreement. In such event, the Company shall provide written notice to the Executive detailing such violation. (b) If, after two years of service pursuant to this Agreement, the Executive voluntarily terminates his employment other than for Good Reason, then the Executive shall be entitled to receive salary, accrued vacation and six months' severance pay. (c) If (i) prior to two years of service pursuant to this Agreement the Executive voluntarily terminates his employment other than for Good Reason, (ii) the Executive's employment is terminated due to death or Disability, or (iii) the Executive is terminated by the Company for Cause, then the Executive shall be entitled to receive salary and accrued vacation through the Termination Date only. (d) In addition to the provisions of Section 9(a), 9(b) and 9(c) hereof, to the extent COBRA shall be applicable to the Company or as provided by law, the Executive shall be entitled to continuation of group health plan benefits for a period of one (1) year following the Termination Date if the Executive makes the appropriate conversion and payments. (e) The Executive acknowledges that, upon termination of his employment, he is entitled to no other compensation, severance or other benefits other than those specifically set forth in this Agreement or any applicable Stock Option Agreement. (5) 6 10. Expenses. The Company shall pay or reimburse the Executive for all expenses normally reimbursed by Company, reasonably incurred by him in furtherance of his duties hereunder and authorized and approved by the Company in compliance with such rules relating thereto as the Company may, from time to time, adopt and as may be required in order to permit such payments as proper deductions to Company under the Internal Revenue Code of 1986, as amended, and the rule and regulations adopted pursuant thereto now or hereafter in effect. 11. Facilities and Services. The Company shall furnish the Executive with office space, secretarial, support staff and such other facilities and services as shall be reasonably necessary for the performance of his duties under this Agreement. 12. Mitigation Not Required. In the event this Agreement is terminated, the Executive shall not be required to mitigate amounts payable pursuant hereto by seeking other employment or otherwise. The Executive's acceptance of any such other employment shall not diminish or impair the amounts payable to the Executive pursuant hereto. 13. Place of Performance. The Executive shall perform his duties primarily in Baltimore, Maryland or locations within a reasonable proximity thereof, except for reasonable travel as the performance of the Executive's duties may require. 14. Insurance and Indemnity. During the Employment Period, if available at reasonable costs, the Company shall maintain, at its expense, officers and directors fiduciary liability insurance covering the Executive and all other executive officers and directors in an amount of no less than $1,000,000. The Company shall also indemnify the Executive, to the fullest extent permitted by law, from any liability asserted against or incurred by the Executive by reason of the fact that the Executive is or was an officer or director of the Company or any affiliate or related party or is or was serving in any capacity at the request of the Company for any other corporation, partnership, joint venture, trust, employment benefit plan or other enterprise. This indemnity shall survive termination of this Agreement. (6) 7 15. Noncompetition. A. The Executive agrees that, except in accordance with his duties under this Agreement on behalf of the Company, he will not during the term of this Agreement: Participate in, be employed in any capacity by, serve as director, consultant, agent or representative for, or have any interest, directly or indirectly, in any enterprise which is engaged in the business of distributing, selling or otherwise trading in products or services which are competitive to any products or services distributed, sold or otherwise traded in by the Company or any of its subsidiaries during the term of the Executive's employment with the Company, or which are competitive to any products or services being actively developed, with the bona fide intent to market same, by the Company or any of its subsidiaries during the term of the Executive's employment with the Company; In addition, the Executive agrees that for a period of two years after the end of the term of this Agreement (unless this Agreement is terminated due to a breach of the terms hereof by the Company in failing to pay to the Executive all sums due him under the terms hereof, in which event the following shall be inapplicable), the Executive shall observe the covenants set forth in this Section 15 and shall not own, either directly or indirectly or through or in conjunction with one or more members of his or his spouse's family or through any trust or other contractual arrangement, a greater than five percent (5%) interest in, or otherwise control either directly or indirectly, any partnership, corporation, or other entity which distributes, sells, or otherwise trades in computer network security products or other products which are competitive to any products or services being developed, distributed, sold, or otherwise traded in by the Company or any its subsidiaries, during the term of this Agreement, or being actively developed by the Company or any of its subsidiaries during the term of this Agreement with the Company with a bona fide intent to market same. Executive further agrees, for such two year period following termination, to refrain from directly or indirectly soliciting Company's vendors, customers or employees. B. The Executive hereby agrees that damages and any other remedy available at law would be inadequate to redress or remedy any loss or damage suffered by the Company upon any breach of the terms of this Section 15 by the Executive, and the Executive therefore agrees that the Company, in addition to recovering on any claim for damages or obtaining any other remedy available at law, also may enforce the terms of this Section 15 by injunction or specific performance, and may obtain any other appropriate remedy available in equity. (7) 8 16. Assignment of Patents. Executive shall disclose fully to the Company any and all discoveries he shall make and any and all ideas, concepts or inventions which he shall conceive or make during his period of employment, or during the period of six months after his employment shall terminate, which are in whole or in part the result of his work with the Company. Such disclosure is to be made promptly after each discovery or conception, and the discovery, idea, concept or invention will become and remain the property of the Company, whether or not patent applications are filed thereon. Upon request and at the expense of the Company, the Executive shall make application through the patent solicitors of the Company for letters patent of the United States and any and all other countries at the discretion of the Company on such discoveries, ideas and inventions, and to assign all such applications to the Company, or at its order, forthwith, without additional payment by the Company during his period of employment and for reasonable compensation for time actually spent by the Executive at such work at the request of the Company after the termination of the employment. He is to give the Company, its attorneys and solicitors, all reasonable assistance in preparing and prosecuting such applications and, on request of the Company, to execute all papers and do all things that may be reasonably necessary to protect the right of the Company and vest in it or its assigns the discoveries, ideas or inventions, applications and letters patent herein contemplated. Said cooperation shall also include all actions reasonably necessary to aid the Company in the defense of its rights in the event of litigation. 17. Trade Secrets. A. In the course of the term of this Agreement, it is anticipated that the Executive shall have access to secret or confidential technical and commercial information, records, data, specifications, systems, methods, plans, policies, inventions, material and other knowledge ("Confidential Material") owned by the Company and its subsidiaries. The Executive recognizes and acknowledges that included within the Confidential Material are the Company's confidential commercial information, technology, methods of manufacture, designs, and any computer programs, source codes, object codes, executable codes and related materials, all as they may exist from time to time, and that they are valuable special and unique aspects of the Company's business. All such Confidential material shall be and remain the property of the Company. Except as required by his duties to the Company, the Executive shall not, directly or indirectly, either during the term of his employment or at any time thereafter, disclose or disseminate to anyone or make use of, for any (8) 9 purpose whatsoever, any Confidential Material. Upon termination of his employment, the Executive shall promptly deliver to the Company all Confidential Material (including all copies thereof, whether prepared by the Executive or others) which are in the possession or under the control of the Executive. The Executive shall not be deemed to have breached this Section 17 if the Executive shall be specifically compelled by lawful order of any judicial, legislative, or administrative authority or body to disclose any confidential material or else face civil or criminal penalty or sanction. B. The Executive hereby agrees that damages and any other remedy available at law would be inadequate to redress or remedy any loss or damage suffered by the Company upon any breach of the terms of this Section 17 by the Executive, and the Executive therefore agrees that the Company, in addition to recovering on any claim for damages or obtaining any other remedy available at law, also may enforce the terms of this Section 17 by injunction or specific performance, and may obtain any other appropriate remedy available in equity. 18. Payment and Other Provisions After Change of Control (a) In the event Executive's employment with the Company is terminated within one year following the occurance of a Change of Control (other than as a consequence of death or disability) either (x) by the Company for any reason other than for Cause, or (y) by Executive for Good Reason, then Executive shall be entitled to receive from the Company, in lieu of the severance payment otherwise payable pursuant to Section 9(a), the following: (i) Base Salary: Executive's annual base salary as in effect at the date of termination, multiplied by three, shall be paid on the date of termination; (ii) Target Incentive Compensation: The amount of the Executive's target incentive compensation under the applicable Executive Bonus Plan for the fiscal year in which the date of termination occurs, multiplied by three, shall be paid on the date of termination; and (iii) Other Benefits: Notwithstanding the vesting period provided for in the Company's Stock Option Plan and any related stock option agreements between the Company and the Executive for stock options ("options") granted Executive by the Company all of options shall be fully vested and exercisable upon a Change of Control and termination of employment. (9) 10 (b) For purposes of this Agreement, the term "Change of Control" shall mean: (i) The acquisition, other than from the Company, by any individual, entity or group (within the meaning of Rule 13d-3 promulgated under the Exchange Act or any successor provision) (any of the foregoing described in this Paragraph 18.b.i hereafter a "Person") of 50% or more of either (a) the then outstanding shares of Capital Stock of the Company (the"Outstanding Capital Stock") or (b) the combined voting power of the then outstanding voting securities of the Company entitled to vote generally in the election of directors (the "Voting Securities"), provided, however, that any acquisition by (x) the Company or any of its subsidiaries, or any employee benefit plan (or related trust) sponsored or maintained by the Company or any of its subsidiaries or (y) any Person that is eligible, pursuant to Rule 13d-1(b) under the Exchange Act, to file a statement on Schedule 13G with respect to its beneficial ownership of Voting Securities, whether or not such Person shall have filed a statement on Schedule 13G, unless such Person shall have filed a statement on Schedule 13D with respect to beneficial ownership of 50% or more of the Voting Securities or (z) any corporation with respect to which, following such acquisition, more than 60% of, respectively, the then outstanding shares of common stock of such corporation and the combined voting power of the then outstanding voting securities of such corporation entitled to vote generally in the election of directors is then beneficially owned, directly or indirectly, by all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Capital Stock and Voting Securities immediately prior to such acquisition in substantially the same proportion as their ownership, immediately prior to such acquisition, of the Outstanding Capital Stock and Voting Securities, as the case may be, shall not constitute a Change of Control; or (ii) Individuals who, as of the Effective Date, constitute the Board (the "Incumbent Board") cease for any reason to constitute at least a majority of the Board, provided that any individual becoming a director subsequent to the date hereof whose election or nomination for election by the Company's shareholders, was approved by a vote of at least a majority of the directors then comprising the Incumbent Board shall be considered as though such individual were a member of the Incumbent Board, but excluding, for this purpose, any such individual whose initial assumption of office is in connection with an actual or threatened election contest relating to the election of the Directors of the Company (as such terms are (10) 11 used in Rule 14a-11 of Regulation 14A, or any successor section, promulgated under the Exchange Act); or (iii) Approval by the shareholders of the Company of a reorganization, merger or consolidation (a "Business Combination"), in each case, with respect to which all or substantially all holders of the Outstanding Capital Stock and Voting Securities immediately prior to such Business Combination do not, following such Business Combination, beneficially own, directly or indirectly, more than 60% of, respectively, the then outstanding shares of common stock and the combined voting power of the then outstanding voting securities entitled to vote generally in the election of directors, as the case may be, of the corporation resulting from the Business Combination; or (iv) (a) a complete liquidation or dissolution of the Company or (b) a sale or other disposition of all or substantially all of the assets of the Company other than to a corporation with respect to which, following such sale or disposition, more than 60% of, respectively, the then outstanding shares of common stock and the combined voting power of the then outstanding voting securities entitled to vote generally in the election of directors is then owned beneficially, directly or indirectly, by all or substantially all of the individuals and entities who were the beneficial owners, respectively, of the Outstanding Capital Stock and Voting Securities immediately prior to such sale or disposition in substantially the same proportion as their ownership of the Outstanding Capital Stock and Voting Securities, as the case may be, immediately prior to such sale or disposition. 19. Notices. Any notice required or permitted to be given under this Agreement shall be sufficient if in writing and if sent by registered or certified mail, return receipt requested to his residence in the case of the Executive, or to its principal office in the case of the Company, or to such other addresses as they may respectively designate in writing. 20. Entire Agreement; Waiver. This Agreement contains the entire understanding of the parties and may not be changed orally but only by an agreement in writing, signed by the party against whom enforcement of any waiver, change, modification or discharge is sought. Waiver of or failure to exercise any rights provided by this Agreement in any respect shall not be deemed a waiver of any further or future rights. (11) 12 21. Binding Effect; Assignment. The rights and obligations of this Agreement shall bind and inure to the benefit of any successor of the Company by reorganization, merger or consolidation, or any assignee of all or substantially all of the Company's business or properties. The Executive's rights hereunder are personal to and shall not be transferable nor assignable by the Executive. 22. Headings. The headings contained in this Agreement are for reference purposes only and shall not affect the meaning or interpretation of this Agreement. 23. Governing Law; Arbitration. This Agreement shall be construed in accordance with and governed for all purposes by the laws and public policy of the State of Delaware applicable to contracts executed and to be wholly performed within such state. Any dispute or controversy arising out of or relating to this Agreement shall be settled by arbitration in accordance with the rules of the American Arbitration Association and judgment upon the award may be entered in any court having jurisdiction thereover. The arbitration shall be held in Wilmington, Delaware or in such other place as the parties hereto may agree. 24. Further Assurances. Each of the parties agrees to execute, acknowledge, deliver and perform, and cause to be executed, acknowledged, delivered and performed, at any time and from time to time, all such further acts, deeds, assignments, transfers, conveyances, powers of attorney and/or assurances as may be necessary or proper to carry out the provisions or intent of this Agreement. 25. Severability. The parties agree that if any one or more of the terms, provisions, covenants or restrictions of this Agreement shall be determined by a court of competent jurisdiction to be invalid, void or unenforceable, the remainder of the terms, provisions, covenants and restrictions of this Agreement shall remain in full force and effect and shall in no way be affected, impaired or invalidated. 26. Counterparts. This Agreement maybe executed in several counterparts, each of which shall be deemed to be an original, but all of which together will constitute one and the same Agreement. (12) 13 IN WITNESS WHEREOF, INFORMATION RESOURCE ENGINEERING, INC. has caused this instrument to be signed by a duly authorized officer and the Executive has hereunto set his hand the day and year first above written. INFORMATION RESOURCE ENGINEERING, INC. By /s/ DAVID A. SKALITZKY ------------------------------- Vice President, Finance /s/ ANTHONY A. CAPUTO ------------------------------- ANTHONY A. CAPUTO (13) EX-11 5 COMPUTATION. 1 INFORMATION RESOURCE ENGINEERING, INC. AND SUBSIDIARIES EXHIBIT 11 Computation of Per Share Loss Years ended December 31, 1994, 1995 and 1996
=========================================================================================================================== 1994 1995 1996 - --------------------------------------------------------------------------------------------------------------------------- PRIMARY Net loss $ (715,503) (695,251) (7,084,550) Accrued dividends on preferred stock (85,870) (82,270) -- - --------------------------------------------------------------------------------------------------------------------------- Loss attributable to common stockholders $ (801,373) (777,521) (7,084,550) =========================================================================================================================== Average number of common shares outstanding 3,228,806 3,826,831 5,304,984 Dilutive effect of stock options and warrants -- -- -- - --------------------------------------------------------------------------------------------------------------------------- Weighted average number of common shares outstanding 3,228,806 3,826,831 5,304,984 =========================================================================================================================== Loss per common share $ (.25) (.20) (1.34) =========================================================================================================================== ASSUMING FULL DILUTION Loss attributable to common stockholders $ (801,373) (777,521) (7,084,550) =========================================================================================================================== Weighted average number of common shares outstanding 3,228,806 3,826,831 5,304,984 Additional dilutive effect of stock options and warrants -- -- -- - --------------------------------------------------------------------------------------------------------------------------- Weighted average number of common shares outstanding 3,228,806 3,826,831 5,304,984 =========================================================================================================================== Loss per common share assuming full dilution $ (.25) (.20) (1.34) ===========================================================================================================================
EX-21 6 SUBSIDIARIES OF REGISTRANT. 1 Exhibit 21 SUBSIDIARIES OF REGISTRANT The registrant owns 100% of the capital stock of the following subsidiaries: Connective Strategies, Inc. (A Delaware Corporation) GRETACODER Data Systems AG (A Switzerland Corporation) SafeNet/Trusted Services Corporation (A Delaware Corporation) IRE Secure Solutions, Inc. (A Delaware Corporation) 49 EX-27 7 FINANCIAL DATA SCHEDULE.
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED BALANCE SHEET AT DECEMBER 31, 1996 AND THE CONSOLIDATED STATEMENT OF OPERATIONS FOR THE YEAR ENDED DECEMBER 31, 1996 FOR INFORMATION RESOURCE ENGINEERING INC. AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. YEAR DEC-31-1996 JAN-01-1996 DEC-31-1996 11,916,991 2,311,980 1,564,381 0 3,543,995 19,439,190 2,689,801 847,076 24,653,241 2,775,296 16,710 0 0 54,581 21,806,654 24,653,241 14,317,423 14,317,423 7,671,957 7,671,957 0 0 69,059 (7,084,550) 0 (7,084,550) 0 0 0 (7,084,550) (1.34) (1.34)
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