-----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, A1ko/xkN2UpPSDBAGHUcy+W+BeKi5VUI+sQvMC/Tdq0hauQrcJX8tom+ubVNbjvb 7HYpIQLyA83BFAkcifHybg== 0000927016-97-000879.txt : 19970327 0000927016-97-000879.hdr.sgml : 19970327 ACCESSION NUMBER: 0000927016-97-000879 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970326 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: TRANSWITCH CORP /DE CENTRAL INDEX KEY: 0000944739 STANDARD INDUSTRIAL CLASSIFICATION: SEMICONDUCTORS & RELATED DEVICES [3674] IRS NUMBER: 061236189 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-25996 FILM NUMBER: 97564014 BUSINESS ADDRESS: STREET 1: 8 PROGRESS DR CITY: SHELTON STATE: CT ZIP: 06484 BUSINESS PHONE: 2039298810 MAIL ADDRESS: STREET 1: 8 PROGRESS DR CITY: SHELTON STATE: CT ZIP: 06484 10-K 1 FORM 10-K - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-K [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 FOR THE TRANSITION PERIOD FROM TO COMMISSION FILE NUMBER 0-25996 TRANSWITCH CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 06-1236189 (I.R.S. EMPLOYER IDENTIFICATION (STATE OF INCORPORATION) NUMBER) 8 PROGRESS DRIVESHELTON, CONNECTICUT 06484 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) TELEPHONE (203) 929-8810 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [_] The aggregate market value of the voting stock held by non-affiliates of the Registrant, based upon the closing sale price of Common Stock on February 28, 1997, as reported on the Nasdaq National Market, was approximately $60,956,972. Shares of Common Stock held by each executive officer and director and by each person who to the Company's knowledge owns 5% or more of the outstanding voting stock have been excluded in that such persons may be deemed to be affiliates. This determination of affiliate status is not necessarily a conclusive determination for other purposes. COMMON STOCK, PAR VALUE $.001 PER SHARE, OUTSTANDING AT FEBRUARY 28, 1997: 12,025,074 DOCUMENTS INCORPORATED BY REFERENCE Parts of the following document are incorporated by reference in Part III of this Form 10-K Report: (1) Proxy Statement for Registrant's 1997 Annual Meeting of Shareholders--Items 10, 11, 12 and 13. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- PART I ITEM 1. BUSINESS GENERAL TranSwitch Corporation, a Delaware corporation established in April 1988 ("TranSwitch" or the "Company"), designs, develops, markets and supports highly integrated digital and mixed-signal semiconductor solutions for the telecommunications and data communications markets. The Company's customers are the original equipment manufacturers (OEM's) who serve four communications market segments; worldwide public network infrastructure, including cable television (CATV), internet infrastructure, corporate wide area networks (WAN) and local area networks (LAN). TranSwitch's VLSI devices are compliant with asynchronous (called PDH in Europe), synchronous optical network (SONET, SDH in Europe) and asynchronous transfer mode (ATM) data and telecommunications transmission standards and are designed to transparently integrate these standards. The Company's mixed- signal and digital design capability, in conjunction with its telecommunications systems expertise, enables the Company to determine and implement optimal combinations of design elements for desired analog and digital functionality. The Company believes that this approach allows its customers to achieve faster time-to-market and to introduce systems that offer greater functionality, improved performance, lower power dissipation and greater reliability relative to competing discrete solutions, while reducing system size and cost. Statements in this Form 10-K which are not historical facts, so-called "forward looking statements," are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that all forward looking statements involve risks and uncertainties, including those detailed in the Company's filings with the Securities and Exchange Commission. See also "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations--Certain Factors That May Affect Future Results." PRODUCTS AND APPLICATIONS TranSwitch supplies high-speed (broadband) VLSI devices to systems vendors of public network equipment, such as multiplexers and DACS (Digital Access Cross-connect Systems); ISP's (Internet Service Providers) and CATV systems equipment; and LAN and WAN equipment, such as routers, bridges and hubs. The Company's core competencies as a systems innovation leader include an in-depth understanding of relevant asynchronous/PDH, SONET/SDH and ATM standards and associated nuances, the ability to design complex mixed-signal high-speed VLSI devices, and the capability to verify the design against customers' requirements and standards' requirements through analysis, simulation and certification. The Company believes that its "chip-set" approach and broad product coverage in all three product lines position it as a "one-stop source" for broadband communications VLSI products. Systems vendors can mix and match TranSwitch's VLSI devices to optimally configure a specific system. The Company's three sets of products can be grouped synergistically, providing seamless integration of asynchronous/PDH, SONET/SDH and ATM applications. The prices for the Company's products typically range from $15 to $300 depending on volume, complexity and functionality. Asynchronous/PDH Products TranSwitch's asynchronous products provide high bandwidth connections and can be used to configure transmission products for use in the public network, to ease the management burden of public networks and to enable CPE (Customer Premises Equipment) products like hubs and routers used in LANs and WANs to access the public network for communication with similar products in other locations. 1 The Company's asynchronous VLSI products include devices that provide physical interfaces for DS-series and E-series standards. This product line also includes multiplexers, devices that combine multiple low speed lines to form a higher speed line, and demultiplexers, which perform the reverse function. In addition, the Company offers framers, devices that identify the starting point of a defined bit stream, permitting a system to recognize other bits. SONET/SDH Products In the SONET/SDH area, the Company offers devices that provide a direct interface for fiber optic transmission in North America, Europe and the Far East. The Company's "mappers" bridge the interconnection between SONET/SDH equipment and asynchronous equipment, allowing DS-series and E-series transmission lines to be connected with SONET/SDH lines. Asynchronous signals can therefore be transported across the SONET/SDH network transparently. TranSwitch's SONET/SDH products are used in Add/Drop multiplexers (ADM), DACS and other telecommunications and data communications equipment. The SONET/SDH products also have applications in CPE products such as routers and LAN-switches, as well as in microwave transmission products. CATV vendors are now using optical fiber technology based on SONET/SDH standards to upgrade their infrastructure and provide new value-added services. ATM Products In the ATM area, TranSwitch offers devices that convert data communications packets (such as those on LANs and WANs) into the cell format needed for transmission on ATM networks, along with devices that provide ATM interfaces to both asynchronous and SONET/SDH transmission links. The Company believes that its CUBIT device will be a cornerstone of its ATM product line, because CUBIT is designed to provide a low-to-medium (under 1 Gbps) capacity ATM switch based on the Company's CellBus architecture. There can be no assurance that the Company's CUBIT device will achieve market acceptance or significant customer demand. The success of this product is subject to risks and uncertainties, including without limitation risks and uncertainties associated with challenges to the Company's intellectual property rights by third parties, the manufacture of these products by third party VLSI fabrication facilities, the willingness of OEM's to incorporate the Company's CUBIT device into their products, risks associated with competition and competitive pricing if competitors introduce competing products, and risks associated with technological advances by others which could render the Company's CUBIT product obsolete. TECHNOLOGY The Company believes that one of its core competencies is the telecommunications and data communications knowledge and expertise of its key executives and its engineering organization. The group possesses substantial telecommunications and data communications design experience, as well as extensive knowledge of relevant standards. A key aspect of "know-how" includes not only a thorough understanding of the actual written standards promulgated, but also an awareness of and appreciation for the nuances associated with these standards necessary for assuring that device designs are fully compliant. The Company's telecommunications and data communications experience and participation in the standards development and promulgation process provide it with significant advantages in designing semiconductor devices meeting the evolving needs of its customers. Complementing the Company's accumulated communications industry expertise is its VLSI design competence. The Company's VLSI design staff has extensive experience in designing analog and mixed-signal devices, which require a sophisticated understanding of complex technology, as well as the specifics of manufacturing processes and their resulting impact on device performance. TranSwitch has also developed a large number of VLSI blocks that operate under the demanding requirements of the telecommunications and data 2 communications industry. These blocks have been designed to be merged using standard programming languages such as VHDL and M (a C-like language) to create new devices that meet expanding customer requirements. TranSwitch has also developed a proprietary toolset called the "Test Bench," which facilitates on-time development of products and ensures that products meet customer and standards requirements. TranSwitch has also developed a large library of reusable portable cells. In addition to standard logic functions, the cell library consists of a large number of analog cells such as clock-recovery functions, phase-locked-loops, and equalizers. The library also includes key asynchronous, SONET/SDH and ATM functions. The Company is investing significant resources in developing an architecture which allows increased programmability. Programmability provides accelerated time-to-market by decoupling hardware and software verification. In addition, programmability permits standards upgrades and fixes to be effected more easily. Further, customers can have the flexibility to tailor their products to their specific requirements. SALES AND MARKETING TranSwitch's sales and marketing strategy is to focus on worldwide suppliers of high-speed communications and communications-oriented equipment. These customers are easily identifiable and include telecommunications, data communications, CPE, computing, process control and defense equipment vendors. The Company has established a direct sales force and a worldwide network of independent distributors and sales representatives for marketing its products. TranSwitch's direct sales force, technical support personnel and key engineers work together in teams to support key customers. TranSwitch has located technical support capabilities in key geographical locations, including Europe and the Far East. These field sales engineers and independent distributors and sales representatives support the rest of the Company's customers. TranSwitch maintains a technical support team at the Company's headquarters as a backup to the field sales engineers. TranSwitch has established foreign distributors and sales representative relationships in Australia, Benelux, Brazil, Canada, Finland, France, Germany, Israel, Italy, Japan, Korea, People's Republic of China, Spain, Sweden, Switzerland, Taiwan and the United Kingdom. The Company also sells its products through a domestic distributor and a network of domestic sales representatives. The Company has regional sales/technical support capabilities in Boston, Ma., Sunnyvale, Ca., Morristown, N.J., Great Falls, Va., Brussels, Belgium, Taipei, Taiwan, as well as in its headquarters facility in Shelton, Connecticut. CUSTOMERS Since shipping its first product in 1990, the Company has sold its products and services to over 300 customers. The Company's customers include: public network systems suppliers that incorporate the Company's products into telecommunications systems; LAN and WAN equipment suppliers; ISP's; communications test and performance measurement equipment suppliers; and government, university and private laboratories that use the Company's products in advanced public network and LAN/WAN developments. In 1996 ECI Telecom Ltd, Insight Electronics, Inc. and Tellabs Operations, Inc. accounted for 21.8%, 15.6% and 14.4% of total revenues, respectively. In 1995 Tellabs Operations, Inc. and Insight Electronics, Inc. accounted for 16.8% and 15.9% of total revenues, respectively. In 1994, ECI Telecom Ltd. accounted for approximately 16.3% of total revenues. No other customer accounted for 10% or more of revenues during 1996, 1995, and 1994. Export revenues represented 45.9%, 38.0%, and 47.0% of total revenues in 1996, 1995 and 1994, respectively. RESEARCH AND DEVELOPMENT The Company believes that the continued introduction of new products in its target markets is essential to its growth. As of December 31, 1996 the Company had 46 full-time employees engaged in research and 3 development efforts. The Company currently anticipates only slight increases in its research and development staffing in 1997. Expenditures for research and development in 1996, 1995 and 1994 were approximately $8.9 million, $6.7 million and $5.6 million, respectively. Currently, the Company's major development programs include new SONET/SDH products, new ATM products and new Asynchronous/PDH products which are targeted at end markets in the public network transmission structure, the Internet infrastructure, the corporate wide area network (WAN) and in local area networks (LAN). PATENTS AND LICENSES The Company has 23 patents issued and five patent applications pending in the U.S. Of the 23 issued patents, one is co-owned by ECI Telecom Ltd. Of the five pending applications, one is co-owned by Siemens Telecommunications Systems Ltd. The Company has three patents issued and 13 patent applications pending in Canada. The Company has six patents issued in Taiwan, with one patent being co-owned by Siemens Telecommunications Systems Ltd. The Company has three patents issued in the People's Republic of China. The Company has 12 patent applications pending in selected countries in the European Patent Office (EPO), and one patent issued in France, Germany, and the U.K. In addition, the Company has seven patent applications pending in Japan and five patent applications pending in Israel and two patents in Israel. Further, the Company has three patent applications pending under the Patent Cooperation Treaty (PCT) with the possibility of filing five PCT applications in the EPO, Canada, Japan and Israel and one of the applications in Canada, the EPO and Japan. The Company also has been granted registration of five trade or service marks in the U.S., and it has six more U.S. applications for trademarks awaiting approval. The Company's ability to compete depends upon its ability to protect its proprietary information through various means, including ownership of patents, copyrights, mask work registrations and trademarks. While no intellectual property right of the Company has been invalidated or declared unenforceable, there can be no assurance that such rights will be upheld in the future. The Company believes that, in view of the rapid pace of technological change in the semiconductor industry, the technical experience and creative skills of its engineers and other personnel are the most important factors in determining the Company's future technological success. TranSwitch has entered into various license agreements for product or technology exchange. The purpose of these licenses has, in general, been to obtain second sources for standard products or to convey or receive rights to certain proprietary or patented cores, cells or other technology. In March 1995, the Company entered into an agreement with StrataCom, Inc., whereby the Company obtained the right to use intellectual property covered by two StrataCom, Inc. patents. The Company entered into an OEM relationship with IBM Corporation in 1994, whereby it was granted the right to purchase and resell two ATM line interface products. The Company sells its products into the telecommunications industry, an industry whose products are subject to various standards which are agreed upon by recognized industry standards committees. Where applicable, the Company designs its product to be in conformity with these standards. The Company has received and expects to continue to receive, in the normal course of business, communications from third parties stating that if certain of TranSwitch's products meet a particular standard, these products may infringe one or more patents of that third party. After a review of the circumstances of each communication, the Company in its discretion and upon the advice of counsel has taken or may take in the future one of the following courses of action; the Company may negotiate payment for a license under the patent or patents that may be infringed, the Company may use its technology and/or patents to negotiate a cross-license with the third party or the Company may decline to obtain a license on the basis that it does not infringe the claimant's patent or patents, or that such patents are not valid, or other basis. There can be no assurance that licenses for any of these patents will be available to the Company on reasonable terms, or that the Company would prevail in any litigation seeking damages or expenses from the Company or to enjoin the Company from selling its products on the basis of any of the alleged infringements. 4 MANUFACTURING AND QUALITY TranSwitch's manufacturing objective is to produce reliable, high quality devices cost-competitively. To this end, the Company seeks to differentiate itself by maximizing the reliability and quality of its products, achieving on-time delivery of its products to its customers, minimizing capital and other resource requirements by subcontracting capital-intensive manufacturing and achieving a gross margin compatible with the value of its products. All of the Company's VLSI devices are manufactured by established independent foundries. This approach permits the Company to focus on its design strengths, minimize fixed costs and capital expenditures and access diverse manufacturing technologies. Currently, the Company utilizes four foundries, Texas Instruments Incorporated (TI), Symbios Logic Inc., LSI Logic Corporation in the U.S. and Taiwan Semiconductor Manufacturing Company Limited (TSMC) in Taiwan to process its wafers. Foundries are required to have qualified and reliable processes, high-frequency test capability, ISO-9002 qualification and quick turnaround prototyping. The selection of a foundry for a specific device is based on availability of the required process technology and the foundry's capability to support the particular set of tools used by TranSwitch for that device. Currently, TI manufactures all of the Company's BiCMOS devices. The Company entered into a foundry agreement with TI in December, 1995, pursuant to which the Company received access to TI's process technology through 2000. The Company also has an agreement with TSMC that guarantees the Company a minimum capacity level for four years, in return the Company has agreed to pay for unutilized commitment below an agreed minimum level. There are certain significant risks associated with the Company's reliance on outside foundries, including the lack of assured wafer supply and control over delivery schedules, the unavailability of or delays in obtaining access to key process technologies and limited control over quality assurance, manufacturing yields and production costs. In addition, the manufacture of integrated circuits is a highly complex and technologically demanding process. Although the Company has undertaken to diversify its sources of semiconductor device supply and works closely with all its foundries to minimize the likelihood of reduced manufacturing yields, the Company's foundries have from time to time experienced lower than anticipated manufacturing yields, particularly in connection with the introduction of new products and the installation and start up of new process technologies. Such reduced yields have at times adversely affected the Company's operating results. There can be no assurance that the Company's foundries will not experience lower than expected manufacturing yields in the future, which could materially and adversely affect the Company's business, financial condition and operating results. COMPETITION The semiconductor industry is intensely competitive and is characterized by price erosion, rapid technological change, shortage in fabrication capacity, heightened international competition in many markets, and unforeseen manufacturing yield problems. The telecommunications and data communications industries, which are the primary target markets for TranSwitch, are also becoming intensely competitive because of deregulation and heightened international competition. This heightened competition is likely to result in pricing pressures on the Company's products, potentially affecting its margins. TranSwitch believes that the principal bases of competition in the semiconductor industry include product definition, product design, test capabilities, reliability, functionality, time-to-market, reputation and price. The Company believes that it competes favorably with respect to these factors. TranSwitch also believes that its competitive strengths include the distribution channels it has established, the Company's workforce of highly experienced digital and mixed-signal circuit designers with strong systems architecture skills, and its proprietary design and development tools, including its proprietary simulations and testing software and its library of analog and digital blocks and cells. 5 The ability of the Company to compete successfully in the rapidly evolving area of high performance integrated circuit technology depends on factors both within and outside its control, including success in designing and subcontracting the manufacture of new products that implement new technologies, protection of Company products by effective utilization of intellectual property laws, product quality, reliability, price, efficiency of production, the pace at which customers incorporate the Company's integrated circuits into their products, success of competitors' products and general economic conditions. Although the Company believes that it competes favorably on the basis of functionality, reliability and price, there is no assurance that the Company will be able to compete successfully in the future. The Company's competition consists of suppliers of similar products from the United States as well as other countries, including internal competition from semiconductor divisions of vertically integrated companies like Lucent Technologies, IBM Corporation, NEC Corporation and Siemens Corporation. New entrants are also likely to attempt to obtain a share of the market for the Company's current and future products. The Company's principal competitors in the asynchronous/PDH and SONET/SDH areas are AMCC Corporation, AT&T, Brooktree Corporation, Crystal Semiconductor, Inc., Dallas Semiconductor Corp., EXAR Corporation, Integrated Telecom Technology, Inc., National Semiconductor Corporation, PMC/Sierra Corporation, Texas Instruments, Inc., Triquint Semiconductor Inc., Vitesse Semiconductor Corp. and VLSI Technology. In addition, there are a number of ASIC vendors, including AMI Industries, Inc., LSI Logic Corp., and SGS-Thompson Microelectronics, Inc. who compete with the Company by supplying customer-specific products to OEMs. In the ATM area, the Company's principal competitors include all the vendors mentioned above and AMD Corporation and IDT. Numerous other domestic and international vendors have announced plans to enter this market. BACKLOG As of December 31, 1996, the Company's backlog was $4.9 million, as compared to $8.1 million as of December 31, 1995. Backlog represents firm orders anticipated to be shipped within the next 12 months. The Company's business and, to a large extent, that of the entire semiconductor industry is characterized by short-term order and shipment schedules. Since orders constituting the Company's current backlog are subject to changes in delivery schedules or to cancellation at the option of the purchaser without significant penalty, backlog is not necessarily an indication of future revenue. EMPLOYEES As of December 31, 1996, the Company had 99 full time employees. The Company's employees are not represented by any collective bargaining agreement and the Company has never experienced a work stoppage. The Company believes that its employee relationships are good. ITEM 2. PROPERTIES FACILITIES The Company's headquarters are located in a suburban office park in Shelton, Connecticut where it leases approximately 40,000 square feet in a two story office building. Most product development and all final inspection and shipping, marketing and administration activities are located at this facility. Approximately 75% of the existing space is fully utilized and the Company believes its current space to be adequate to meet its needs for the next 12 months, although there can be no assurance that the space will be adequate or that the Company will be able to obtain additional space on commercially reasonable terms, if necessary. The lease is due to expire in March, 1999. The Company also leases approximately 1,100 square feet in Research Triangle Park, North Carolina where additional product development efforts take place. The Company leases a 1,100 square foot sales and support facility in Sunnyvale, California. The Company also maintains a small sales office in Brussels, Belgium. In February, 1996 the Company opened a new leased facility of 2,000 square feet Taipei, Taiwan. 6 ITEM 3. LEGAL PROCEEDINGS None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY-HOLDERS No matters were submitted to a vote of security holders during the three months ended December 31, 1996. 7 PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Company's Common Stock has been traded on the Nasdaq National Market tier of The Nasdaq Stock Market under the symbol "TXCC" since its initial public offering on June 14, 1995. The following table sets forth, for the periods indicated, the range of quarterly high and low bid information for the Company's Common Stock as reported on the Nasdaq National Market:
HIGH BID LOW BID -------- ------- 1995 Second Quarter (June 14, 1995 to June 30, 1995)............. $ 9.63 $ 8.94 Third Quarter............................................... 14.25 9.13 Fourth Quarter.............................................. 14.00 8.63 1996 First Quarter............................................... $13.75 $ 7.88 Second Quarter.............................................. 21.63 12.44 Third Quarter............................................... 13.25 5.50 Fourth Quarter.............................................. 7.00 3.63
As of February 28, 1997, there were approximately 315 holders of record of the Company's Common Stock and at least 3,000 beneficial holders, based on information obtained from the Company's transfer agent. The Company has never paid cash dividends on its Common Stock. The Company currently intends to retain earnings, if any, for use in its business and does not anticipate paying any cash dividend in the foreseeable future. In addition, the Company's loan agreement prohibits the payment of cash dividends without prior bank approval. Any future declaration and payment of dividends will be subject to the discretion of the Company's Board of Directors, will be subject to applicable law and will depend upon the Company's results of operations, earnings, financial condition, contractual limitations, cash requirements, future prospects and other factors deemed relevant by the Company's Board of Directors. 8 ITEM 6. SELECTED FINANCIAL DATA The following table includes selected consolidated financial data for each of the five years ended December 31, 1996 which are derived from and more fully described in the consolidated financial statements and notes included in this report at Item 14.
YEAR ENDED DECEMBER 31, --------------------------------------------- 1996 1995 1994 1993 1992 -------- ------- ------- -------- ------- CONSOLIDATED STATEMENT OF OPER- ATIONS DATA: Total revenues................. $ 19,650 17,466 12,101 12,018 7,792 Gross profit................... 5,844 10.071 6,185 6,006 4,293 Net loss (4)................... (10,077) ( 1,773) (3,937) (1,094) (128) Net loss per share (1)(2)(3)(4).................. $ (.86) (.18) (.48) Shares used in calculation of net loss per share............ 11,751 10,062 8,178 DECEMBER 31, --------------------------------------------- 1996 1995 1994 1993 1992 -------- ------- ------- -------- ------- CONSOLIDATED BALANCE SHEET DA- TA: Cash, cash equivalents and short term investments........ $ 12,688 17,250 3,352 6,702 1,276 Working capital................ 14,650 21,811 3,656 7,634 2,239 Total assets................... 23,311 32,670 8,969 10,994 4,713 Note payable to bank........... 0 0 1,191 128 285 Mandatorily redeemable convert- ible preferred stock.......... 0 0 20,252 20.211 13.070 Stockholders' equity (defi- cit).......................... $ 17,299 26,706 (15,324) (11,445) (10,347)
- -------- (1) See Note 1 of Notes to Consolidated Financial Statements included in this Report at Item 14. (2) Gives effect to the mandatory conversion of all outstanding Preferred Stock into 7,009,742 shares of Common Stock on completion of the Company's initial public offering in June, 1995. 1994 per share amount based on pro- forma weighted average shares outstanding for 1994. (3)Net loss per share amounts prior to 1994 are not meaningful. (4) Refer to Item 7. "Managements Discussion and Analysis of Financial Condition and Results of Operations" for discussion of Net loss. 9 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the Consolidated Financial Statements and the notes thereto included in this Report at Item 14. OVERVIEW TranSwitch Corporation commenced its operations in April, 1988. Since incorporation, the Company has designed, sourced and marketed high-speed VLSI devices for public and private network applications worldwide. The Company shipped its first product in 1990 and has increased its volume of shipments over the last seven years. The Company's product development efforts have been focused on devices that meet the needs of public and private network telecommunications and data communications equipment providers and are compliant with established standards in these markets, including asynchronous/PDH, SONET/SDH and the emerging ATM standards. The Company's products are generally incorporated into original equipment manufacturer's (OEM's) products at the design stage, which often requires significant expenditures by the Company well in advance of substantial orders from the customer. The Company has not been profitable, on a yearly basis, since its inception. As of December 31, 1996, the Company had an accumulated deficit of $28.1 million and there can be no assurance the Company will achieve profitability in the future. The Company's operating results are subject to quarterly and annual fluctuations as a result of a wide variety of factors that could materially and adversely affect profitability, including but not limited to competitive pressures on selling prices, availability and cost of semiconductor foundry capacity and materials, fluctuations in yields, changes in product mix, the Company's ability to introduce new products and technologies on a timely basis, market acceptance of products of both the Company and its customers, scheduling of orders by its customers, decisions by customers to withhold or delay orders, fluctuations of inventory cycles in the industry, foreign sales and currency fluctuations, the level of orders that are received and can be shipped in a quarter and whether the Company's customers buy through a distributor or directly from the Company. See "Certain Factors that May Affect Future Results." 10 RESULTS OF OPERATIONS The following table sets forth, for the periods indicated, consolidated statements of operations data as a percentage of total revenues:
YEAR ENDED DECEMBER 31, ------------------------- 1996 1995 1994 ------- ------- ------- Revenues: Product revenues, net.............................. 97.9% 94.3% 84.4% Research and development contracts................. 2.1 5.0 14.6 License and royalty fees........................... 0.0 .7 1.0 ------- ------- ------- Total revenues................................... 100.0 100.0 100.0 Cost of revenues: Cost of products sold.............................. 54.0 39.6 41.0 Write down of product license...................... 15.9 Cost of research and development contracts......... 0.3 2.8 7.9 ------- ------- ------- Total cost of revenues........................... 70.2 42.4 48.9 Gross profit......................................... 29.7 57.6 51.1 Operating expenses: Research and development........................... 45.4 38.1 45.9 Marketing and sales................................ 27.8 24.8 27.6 General and administrative......................... 11.3 8.4 11.2 ------- ------- ------- Total operating expenses......................... 84.5 71.3 84.7 Operating loss....................................... (54.7) (13.6) (33.6) Interest income, net............................... 3.5 3.5 1.1 ------- ------- ------- Loss before provision for taxes...................... (51.3) (10.2) (32.5) Provision for taxes................................ -- -- -- ------- ------- ------- Net loss............................................. (51.3)% (10.2)% (32.5)% ======= ======= =======
YEARS ENDED DECEMBER 31, 1996, 1995 AND 1994 Revenues. The Company derives its revenues principally from product revenues. The Company also derives revenues from sponsorship of development programs, non-recurring engineering contracts for research and development programs, and product licenses and royalties. The Company intends to continue to emphasize product revenues and expects that contract revenues will remain relatively stable or decrease as a percentage of total revenues, although there can be no assurances that this will be so. The Company's ability to generate contract revenues and license and royalty fees will depend on a number of factors, including without limitation the fact that the Company has shifted its strategic focus to product sales, and is expending less effort on generating contract revenues and license fees. The Company generated no license and royalty fees in 1996 and at this time does not anticipate any in 1997. In 1996 the Company reported revenues of $19.7 million, an increase of 13.0% over 1995. The increase was primarily in product revenues as this was the Company's focus. In 1995 the Company reported revenues of $17.5 million, an increase of 44.3% over 1994. This increase was primarily due to the continued increase of product revenues which grew to 94.3% of total revenues in 1995. The Company recognizes product revenues upon shipment to customers. Sales to certain distributors are made under distributor agreements which provide certain price protection and return and allowance rights to the distributor. Revenues from research and development contracts are recognized as the related costs are incurred over the term of the agreement. The Company recognizes license and royalty fees when its obligations under the license and royalty agreements are fulfilled. 11 In 1996 ECI Telecom, Ltd., Insight Electronics, Inc. and Tellabs Operations, Inc. accounted for 21.8%, 15.6% and 14.4% of total revenues, respectively. In 1995 Tellabs Operations, Inc. and Insight Electronics, Inc. accounted for 16.8% and 15.9% of total revenues, respectively. In 1994, ECI Telecom, Ltd. accounted for approximately 16.3% of total revenues. No other customer accounted for more than 10.0% of the Company's total revenues during these periods. Foreign sales, primarily consisting of sales to customers in Europe and the Far East, constituted 45.9%, 38.0% and 47.0% of total revenues in 1996, 1995 and 1994, respectively. All sales are denominated in U.S. dollars. The Company anticipates that international revenues will continue to represent a significant portion of total revenues, particularly as the Company opens direct sales offices in foreign countries. The Company maintains a sales support office in Europe and one in the Far East which opened in February, 1996. A significant portion of the Company's total revenues may be subject to risks associated with foreign sales, including unexpected changes in legal and regulatory requirements and policy changes affecting the telecommunications and data communications markets, changes in tariffs, exchange rates and other barriers, political and economic instability, and potentially adverse tax consequences. Product revenues, net. In 1996 product revenues grew 16.8% to $19.2 million from $16.5 million in 1995. This growth was primarily driven by increased sales of SONET/SDH products. In 1995 product revenues grew 61.2% to $16.5 million from $10.2 million in 1994. Revenues from ATM products as a portion of total product revenues grew significantly both in absolute dollars and as a percentage of total revenues during 1995 as systems manufacturers designed products incorporating the new ATM standard and the Company introduced new ATM VLSI devices. Contract revenues and license and royalty fees. Contract revenues include revenues from customers who sponsor development programs for specific products and for specific research and development projects. In 1996 contract revenues at 2.1% of total revenues declined to $414 thousand or a decline of 53% from $877 thousand in 1995 as the Company continued its focus on product revenue. Contract revenues and licenses and royalty fees declined 46.9% to $1.0 million or 5.7% of total revenues in 1995 versus 1994, as the Company reduced its efforts to obtain new contracts and license fees and shifted its strategic focus to product sales. Although the Company expects to continue to promote customer sponsorships, it anticipates that overall contract revenues will remain relatively stable or decrease as a percentage of total revenues in the future. The Company currently does not anticipate any royalty or license fees in 1997. In December 1995, the Company repurchased from Texas Instruments its license agreement ( the "TI License") which was the sole source of license and royalty fees in 1995 and 1994. Gross profit. Gross profit is derived both from product sales and contract and license and royalty fees. Cost of products sold includes the costs of production of finished semiconductors produced by third-party vendors, direct and indirect costs associated with procurement, testing and other quality assurance procedures followed by the Company, and the amortization of product licenses. Cost of research and development contracts associated with non- recurring engineering contracts are recognized as incurred. Gross margin in 1996 decreased to 29.7% of total revenues due primarily to the write down of the TI License in the fourth quarter of 1996. The TI License was written down to its net realizable value as the incremental revenue which was originally forecast did not materialize. Gross margin increased in 1995 to 57.6% of total revenues from 51.1% in 1994 as product sales, which carry a higher margin, grew as a percentage of total revenues. In 1996 product gross profit decreased to $5.8 million, as the Company recognized $3.1 million of the cost of repurchasing the TI License in cost of sales. In the fourth quarter of 1996 the Company reviewed the drop in product revenue that occurred in the third and fourth quarters and as a result determined that the originally forecasted revenues were not going to materialize. Also in the cost of sales is the write down of approximately $600 thousand of ATM product inventory which was primarily related to those specific products for which there was a significant decline in revenue the last two quarters of the year. In 1995, product gross profit increased to $9.6 million from $5.3 million in 1994, which represents a 58.0% product gross margin. The increase was 12 attributable to the decline in unit costs of products as additional volume milestones were achieved and the reduction in costs of products that were moved to, and produced at, more efficient foundries. The Company has step pricing arrangements with its major semiconductor foundry vendors, whereby as the Company's volume of purchases from the vendor meets agreed-upon milestones, the unit cost to the Company declines. Research and development. In 1996, research and development expenditures were $8.9 million, or 45.3% of total revenues, an increase of 34.0% over 1995. The increase was primarily attributable to increases in staff and in non- recurring engineering charges related to the introduction of new products during the year. In 1995, research and development expense grew at a slower rate than revenue, resulting in expenditures in 1995 of $6.7 million, a 20.0% increase over 1994, but a decline to 38.1% as a percentage of total revenues. The Company believes that the continued introduction of new products is essential to its competitiveness and is committed to continued investment in research and development. The Company believes that its research and development expenses will increase in absolute dollars in the future as it continues to add products to all of its product lines. Marketing and sales. In 1996 marketing and sales expense increased 26.0% to $5.4 million or 27.8% of total revenues, from $4.3 million, or 24.8% of total revenues in 1995. During the year, the Company added new staff in this area, including a new Vice President of Sales, opened a new sales office in Sunnyvale, California and Taipei, Taiwan, and expanded its manufacturing representative coverage. In 1995, marketing and sales expense increased 29.2% to $4.3 million from $3.3 million in 1994, but declined as a percentage of total revenues to 24.8% as the Company experienced higher volume of revenue, but did not proportionately increase resources. The Company anticipates that it will continue to incur higher marketing and sales expenses in absolute dollars as it expands its marketing and sales efforts. General and administrative. In 1996 general and administrative expenses increased 51.4% to $2.2 million or 11.2% of total revenues from $1.5 million or 8.0% of total revenues in 1995. Included in the 1996 expense is $195 thousand of non-cash expense related to the adoption of a new accounting pronouncement, SFAS#123, requiring the recognition of compensation expense using a fair value approach to non-employee stock option grants, and the remaining increase is attributed to the legal and investor relations expenses required by the Company's being public for the full year in 1996 versus 1995, in which the Company was a public company for approximately six months. In 1995, general and administrative expenses increased 8.5% to $1.5 million from $1.4 million in 1994, or 8.4% of total revenues. The increase in absolute dollars was attributable to the Company's decision to continue building its administrative organization to support its anticipated growth. The decrease as a percentage of total revenues was due to the Company's increased revenue growth. LIQUIDITY AND CAPITAL RESOURCES The Company has financed its operations and met its capital requirements since incorporation in 1988 primarily through cash generated from its operations, private placements of preferred stock and borrowings under a working capital line, and equipment financing from Silicon Valley Bank. In addition, the Company received equipment financing from Comdisco, Inc. and Dominion Ventures, Inc. The Company completed an initial public offering by July 13, 1995 and raised a total of $24.0 million, including $3.1 million from the exercise of an over-allotment option of 375,000 shares granted to the Underwriters of the initial public offering. The Company's principal sources of liquidity as of December 31, 1996 consisted of $12.7 million in cash and short-term investments and $4.0 million available under the Company's working capital line of credit and equipment line of credit provided by Silicon Valley Bank. As of December 31, 1996 the Company had no outstanding balance under these lines of credit. In 1996, the Company used $2.2 million in cash for operating activities, the result of a loss of $10.1 million, offset by non-cash charges of $2.2 million for depreciation and amortization and $3.1 million write-down of the TI License, a decrease of $2.5 million in accounts receivables and the remainder in other working capital items. In 1995 the Company used $4.9 million of cash for operating activities to finance an increase of $3.1 million in accounts receivable, a result of the growth in total revenues, as well as a $1.4 million increase in inventories to 13 support the growth in shipments of products, while it sustained a loss of $1.8 million. The increase of $0.7 million in accounts payable was primarily due to the increase in inventory. In 1994, the Company used $3.2 million of cash for operating activities as it sustained a $3.9 million loss. In 1994, the Company increased its inventory by $1.0 million in order to respond to its customers' requirements, offset in part by an increase in other current liabilities of $0.7 million. In 1996 and 1995, the Company paid fees of $0.8 million and $2.1 million primarily to Texas Instruments for the repurchase of a license agreement. Capital expenditures, including purchases of computer equipment, test equipment, furniture and fixtures and software, were $1.9 million in 1996 and $1.3 million in each of 1995 and 1994. In 1994 these expenditures were funded through existing cash and a fixed asset line provided by Silicon Valley Bank. In 1996 and 1995 they were funded from existing cash and by funds generated in the initial public offering. Net cash provided by financing activities consists primarily of proceeds from the exercise of stock options of $0.3, $0.3 and $0.1 million in 1996, 1995 and 1994 respectively, and the proceeds from the issuance of common stock for $23.2 million in 1995. In June 1995, the Company retired all outstanding Notes Payable totaling $1.1 million to Silicon Valley Bank. The Company believes that its existing cash resources and cash generated from operations will fund necessary purchases of capital equipment and provide adequate working capital through the end of 1997. However, there can be no assurance that events in the future will not require the Company to seek additional capital sooner or, if so required, that such capital will be available on terms favorable or acceptable to the Company, if at all. Inflation has not had a significant impact on the Company's operations. CERTAIN FACTORS THAT MAY AFFECT FUTURE RESULTS From time to time, information provided by the Company, statements made by its employees or information included in its filings with the Securities and Exchange Commission (including this Form 10-K) may contain statements which are not historical facts, so-called "forward-looking statements," which involve risks and uncertainties. In particular, statements in "Item 1. Business" relating to product introductions and the availability of third party VLSI fabrication facilities, in "Item 2. Properties" concerning the adequacy of the Company's current facility space, and in "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" relating to anticipated levels of contract revenues and license and royalty fees, the anticipated level of foreign sales, and the availability of capital for working capital and for the purchase of capital equipment, may be forward- looking statements. The Company's actual future results may differ significantly from those stated in any forward-looking statements. Factors that may cause such differences include, but are not limited to, the factors discussed below. Each of these factors, and others, are discussed from time to time in the Company's filings with the Securities and Exchange Commission. The Company's future results are subject to substantial risks and uncertainties. The Company currently relies on four third-party VLSI fabrication foundries to manufacture its products. There are significant risks associated with this reliance on outside foundries, including the lack of assured wafer supply and control over delivery schedules, the unavailability of or delays in obtaining access to key process technologies and limited control over quality assurance, manufacturing yields and production costs, among others. Also, the Company relies on certain intellectual property protections to preserve its intellectual property rights. Any invalidation of the Company's intellectual property rights or lengthy and expensive defense of those rights could have a material adverse affect on the Company. The development of new technologies, commercialization of those technologies into products, and market acceptance and customer demand for those products is critical to the Company's success. Successful product development and introduction depends upon a number of factors, including accurate new product definition, timely completion and introduction of new product designs, availability of foundry capacity, achievement of manufacturing yields, market acceptance of the Company's products and its customers' 14 products, and the ability to accurately specify and certify the conformance of its products to applicable standards and to develop its products in conformance with customer standards. The Company believes that factors affecting its ability to achieve market acceptance of its products include product performance, time to market, price and other factors. The semiconductor industry is intensely competitive and is characterized by price erosion, rapid technological change, shortage in fabrication capacity, heightened international competition, and unforeseen manufacturing yield problems. The telecommunications and data communications markets, which are the Company's primary target markets, are also becoming intensely competitive. Certain current and potential competitors of the Company are more established, benefit from greater market recognition, and have substantially greater financial, development, manufacturing and marketing resources than the Company. Competitive pressures or other factors could result in significant price erosion that could have a material adverse effect on the Company's results of operations. The Company derives a significant portion of its total revenues from foreign sales. Foreign sales are subject to significant risks, including unexpected changes in legal and regulatory requirements and policy changes affecting the Company's markets, changes in tariffs, exchange rates and other barriers, political and economic instability, difficulties in accounts receivable collection, difficulties in managing distributors and representatives, difficulties in staffing and managing foreign operations, difficulties in protecting the Company's intellectual property and potentially adverse tax consequences. Historically, a relatively small number of customers have accounted for a significant portion of the Company's total revenues. Loss of, or a decrease in orders from any one or more of the Company's customers could have a material adverse effect on the Company's results of operations. The Company's quarterly and annual operating results are affected by a wide variety of factors that could materially adversely affect revenues and profitability, including: competitive pressures on selling prices; the timing and cancellation of customer orders; the timing and provision of pricing protections and returns from certain distributors; availability of foundry capacity and raw materials; fluctuations in yields; changes in product mix; the Company's ability to introduce new products and technologies on a timely basis; introduction of products and technologies by the Company's competitors; market acceptance of the Company's and its competitors' products; the level of orders received that can be shipped in a quarter; the amount and timing of recognition of non-recurring engineering revenue; the timing of investments in research and development, including tooling expenses associated with product development and pre-production; and whether the Company's customers buy directly from the Company or from a distributor. Due to the absence of substantial noncancellable backlog, the Company typically plans its production and inventory levels based on internal forecasts of customer demand, which are highly unpredictable and can fluctuate substantially. Because the Company is continuing to increase its operating expenses for personnel and new product development and for inventory in anticipation of increasing sales levels, operating results would be adversely affected if increased sales are not achieved. As a result of the foregoing and other factors, the Company may experience material fluctuations in future operating results on a quarterly or annual basis which could materially and adversely affect its business, financial condition, operating results and stock price. ITEM 8. CONSOLIDATED FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The information required by this Item is contained in the financial statements and schedules set forth in Item 14 (a) of this Form 10-K. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE There has been no change of accountants nor any disagreements with accountants on any matter of accounting principles or practices or financial statement disclosure required to be reported under this Item. 15 PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by this Item is incorporated herein by reference to the information in the sections entitled "Election of Directors," "Occupations of Directors and Executive Officers," and "Compensation and Other Information Concerning Directors and Officers" contained in the Company's definitive proxy statement to be filed with the Securities and Exchange Commission not later than 120 days after the close of the fiscal year ended December 31, 1996. ITEM 11. EXECUTIVE COMPENSATION The information required by this Item is incorporated herein by reference to the information in the section entitled "Compensation and Other Information Concerning Directors and Officers" contained in the Company's definitive proxy statement to be filed with the Securities and Exchange Commission not later than 120 days after the close of the 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 information in the section entitled "Management and Principal Stockholders" contained in the Company's definitive proxy statement to be filed with the Securities and Exchange Commission not later than 120 days after the close of the fiscal year ended December 31, 1996. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS None. 16 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) 1. Consolidated Financial Statements For the following financial information included herein, see Index on page F-1: Independent Auditors' Report Consolidated Balance Sheets as of December 31, 1996 and December 31, 1995 Consolidated Statements of Operations for the years ended December 31, 1996, December 31, 1995 and December 31, 1994. Consolidated Statements of Stockholders' Equity (Deficit) for the years ended December 31, 1996, December 31, 1995 and December 31, 1994. Consolidated Statements of Cash Flows for the years ended December 31, 1996, December 31, 1995 and December 31, 1994. Notes to Consolidated Financial Statements 2. Financial Statement Schedule The following financial statement schedule is included herein: Schedule II Valuation and Qualifying Accounts All other schedules are not submitted because they are not applicable, not required or because the information is included in the Consolidated Financial Statements or Notes to Consolidated Financial Statements. 3. Exhibits
EXHIBIT NUMBER DESCRIPTION ------- ----------- 3.2* Amended and Restated Certificate of Incorporation of the Company 3.3* By-laws, as amended and restated, of the Company 4.1* Specimen certificate representing the Common Stock 4.2* Fourth Amended and Restated Registration Rights Agreement 4.3* Warrants issued to Dominion Ventures, Inc. 4.4* Form of Series C Warrant 4.5* Form of Series D Warrant 10.1* 1989 Stock Option Plan 10.2** Second Amended and Restated 1995 Stock Plan 10.3* 1995 Employee Stock Purchase Plan 10.4* 1995 Non-Employee Director Stock Option Plan 10.5* Form of Incentive Stock Option Agreement for 1989 Stock Option Plan 10.6* Form of Non-Qualified Stock Option Agreement for 1989 Stock Option Plan 10.7*** Form of Incentive Stock Option Agreement under the 1995 Stock Plan of the Company 10.8*** Form of Non-Qualified Stock Option Agreement under the 1995 Stock Plan of the Company 10.9*** 1995 Employee Stock Purchase Plan Enrollment/Authorization Form of the Company 10.10*** Form of Non-Qualified Stock Option Agreement under the 1995 Non- Employee Director Stock Option Plan of the Company #10.11* Agreement with Texas Instruments Incorporated 10.12* Authorized Distributor Agreement with Insight Electronics, Inc. 10.13* Authorized Distributor Agreement with Paltek Corporation 10.14* Development Agreement with Connecticut Innovations, Incorporated #10.15* Master Integrated Circuit Foundry Agreement with NCR Corporation
17
EXHIBIT NUMBER DESCRIPTION ------- ----------- 10.16* Master Lease Agreement with Dominion Ventures, Inc. 10.17* Master Lease with Comdisco, Inc. 10.18* Lease Agreement, as amended, with Robert D. Scinto 10.19* Amended and Restated Promissory Note (Working Capital Line of Credit) with Silicon Valley Bank 10.20* Promissory Note (Equipment Line of Credit) with Silicon Valley Bank 10.21* Commitment Letter, as amended, from Silicon Valley Bank 10.22* Security Agreement with Silicon Valley Bank 10.23* Development and License Agreement with Adaptive Corporation 10.24* OEM Agreement for Acquisition of Triquint Semiconductor Products 10.25* OEM Agreement for Acquisition of IBM Products with International Business Machines Corporation #10.26* License Agreement with StrataCom, Inc. #10.27**** Agreement with Texas Instruments Incorporated #10.28**** Integrated Circuit Foundry Agreement with Texas Instruments Incorporated 11.1** Computation of Earnings Per Share 21.1** Subsidiary of the Company 23.1** Consent of KPMG Peat Marwick LLP 27.1** Financial Data Schedule
- -------- # Confidential treatment obtained as to certain portions. * Previously filed as an exhibit to the Company's Registration Statement on Form S-1 (File No. 33-91694) and incorporated herein by reference. ** Filed herewith. *** Previously filed as an exhibit to the Company's Registration Statement on Form S-8 (File No. 33-94324) and incorporated herein by reference. **** Previously filed as an exhibit to the Company's Annual Report of Form 10- K for the fiscal year ended December 31, 1995 (b) Reports on Form 8-K No reports on Form 8-K were filed by the Company during the fourth quarter ended December 31, 1996. (c) Exhibits The Company hereby files as exhibits to this Form 10-K those exhibits listed in Item 14 (a) (3) above. (d) Financial Statement Schedule The Company hereby files as a financial statement schedule to this Form 10- K, the financial statement schedule listed in Item 14(a) (2) above. 18 SIGNATURES PURSUANT TO THE REQUIREMENTS OF SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934, THE COMPANY HAS DULY CAUSED THIS REPORT TO BE SIGNED ON ITS BEHALF BY THE UNDERSIGNED, THEREUNTO DULY AUTHORIZED. March 25, 1997 TranSwitch Corporation /s/ Dr. Santanu Das By: _________________________________ Name: Dr. Santanu Das Title: President and Chief Executive Officer POWER OF ATTORNEY AND SIGNATURES WE, THE UNDERSIGNED OFFICERS AND DIRECTORS OF TRANSWITCH CORPORATION, HEREBY SEVERALLY CONSTITUTE AND APPOINT SANTANU DAS AND MICHAEL MCCOY, AND EACH OF THEM SINGLY, OUR TRUE AND LAWFUL ATTORNEYS, WITH FULL POWER TO THEM AND EACH OF THEM SINGLY, TO SIGN FOR US IN OUR NAMES IN THE CAPACITIES INDICATED BELOW, ALL AMENDMENTS TO THIS REPORT, AND GENERALLY TO DO ALL THINGS IN OUR NAMES AND ON OUR BEHALF IN SUCH CAPACITIES TO ENABLE TRANSWITCH CORPORATION TO COMPLY WITH THE PROVISIONS OF THE SECURITIES EXCHANGE ACT OF 1934, AS AMENDED AND ALL REQUIREMENTS OF THE SECURITIES AND EXCHANGE COMMISSION. 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 COMPANY AND IN THE CAPACITIES AND ON THE DATES INDICATED. SIGNATURE TITLE(S) DATE /s/ Dr. Santanu Das President, Chief March 25, 1997 - ------------------------------------- Executive Officer DR. SANTANU DAS and Director (principal executive officer) /s/ Michael F. Stauff Senior Vice March 25, 1997 - ------------------------------------- President, Chief MICHAEL F. STAUFF Financial Officer and Treasurer (principal financial and accounting officer) /s/ Dr. Steward S. Flaschen Chairman of the March 25, 1997 - ------------------------------------- Board of Directors DR. STEWARD S. FLASCHEN 19 /s/ Dr. Charles Lee Director March 25, 1997 - ------------------------------------- DR. CHARLES LEE /s/ John C. McDonald Director March 25, 1997 - ------------------------------------- JOHN C. MCDONALD /s/ Dr. Ljubomir Micic Director March 25, 1997 - ------------------------------------- DR. LJUBOMIR MICIC /s/ James J. Millar Director March 25, 1997 - ------------------------------------- JAMES J. MILLAR /s/ Dr. Albert E. Paladino Director March 25, 1997 - ------------------------------------- DR. ALBERT E. PALADINO 20 TRANSWITCH CORPORATION AND SUBSIDIARY INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- Independent Auditors' Report............................................. F-2 Consolidated Balance Sheets as of December 31, 1996 and 1995............. F-3 Consolidated Statements of Operations for the years ended December 31, 1996, 1995 and 1994..................................................... F-4 Consolidated Statements of Stockholders' Equity (Deficit) for the years ended December 31, 1996, 1995 and 1994.................................. F-5 Consolidated Statements of Cash Flows for the years ended December 31, 1996, 1995 and 1994..................................................... F-6 Notes to Consolidated Financial Statements............................... F-7
F-1 INDEPENDENT AUDITORS' REPORT The Board of Directors and Shareholders of TranSwitch Corporation: We have audited the accompanying consolidated balance sheets of TranSwitch Corporation and subsidiary as of December 31, 1996 and 1995, and the related consolidated statements of operations, stockholders' equity (deficit), 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 financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of TranSwitch Corporation and subsidiary as of December 31, 1996 and 1995, and the 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 Stamford, Connecticut February 11, 1997 F-2 TRANSWITCH CORPORATION AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE DATA)
DECEMBER 31, ------------------ 1996 1995 -------- -------- ASSETS Current assets: Cash and cash equivalents................................ $ 3,911 $ 13,630 Short-term investments................................... 8,777 3,620 Accounts receivable, less allowance for doubtful accounts of $140 in 1996 and $138 in 1995........................ 2,893 5,380 Inventories, net......................................... 3,524 2,771 Prepaid expenses and other assets........................ 305 499 -------- -------- Total current assets................................... 19,410 25,900 Property and equipment, net................................ 2,647 2,245 Product licenses........................................... 1,254 4,525 -------- -------- Total assets........................................... $ 23,311 $ 32,670 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY (DEFICIT) Current liabilities: Accounts payable......................................... $ 1,805 $ 2,021 Accrued expenses......................................... 724 203 Accrued compensation..................................... 535 628 Warranty reserve......................................... 286 251 Sales allowance reserve.................................. 356 309 Royalty payable.......................................... 209 203 Product license fee payable, current portion............. 845 474 -------- -------- Total current liabilities.............................. 4,760 4,089 -------- -------- Product license fee payable, less current portion.......... 1,252 1,875 Commitments and contingencies Stockholders' equity (deficit): Common Stock $.001 par value; authorized 25,000,000 shares; issued and outstanding 11,912,486 shares in 1996; 11,503,606 shares in 1995......................... 12 12 Additional paid in capital............................... 45,375 44,705 Accumulated deficit...................................... (28,088) (18,011) -------- -------- Total stockholders' equity............................. 17,299 26,706 -------- -------- Total liabilities and stockholders' equity............. $ 23,311 $ 32,670 ======== ========
See accompanying notes to consolidated financial statements. F-3 TRANSWITCH CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
YEARS ENDED DECEMBER 31, -------------------------- 1996 1995 1994 -------- ------- ------- Revenues: Product revenues, net.......................... $ 19,236 $16,464 $10,213 Research and development contracts............. 414 877 1,763 License and royalty fees....................... -- 125 125 -------- ------- ------- Total revenues............................... 19,650 17,466 12,101 -------- ------- ------- Cost of revenues: Cost of products sold.......................... 10,615 6,913 4,958 Write-down of product license.................. 3,128 -- -- Cost of research and development contracts..... 63 482 958 -------- ------- ------- Total cost of revenues....................... 13,806 7,395 5,916 -------- ------- ------- Gross profit..................................... 5,844 10,071 6,185 -------- ------- ------- Operating expenses: Research and development....................... 8,928 6,660 5,551 Marketing and sales............................ 5,454 4,329 3,348 General and administrative..................... 2,229 1,472 1,357 -------- ------- ------- Total operating expenses..................... 16,611 12,461 10,256 -------- ------- ------- Operating loss................................... (10,767) (2,390) (4,071) -------- ------- ------- Interest income (expense): Interest income................................ 819 664 160 Interest expense............................... (129) (47) (26) -------- ------- ------- Interest income, net......................... 690 617 134 -------- ------- ------- Net loss......................................... (10,077) (1,773) (3,937) ======== ======= ======= Net loss per share............................... $ (.86) $ (.18) $ (.48)** ======== ======= ======= Shares used in per share calculation............. 11,751 10,062 8,178 ======== ======= =======
- -------- * Based on pro forma weighted average common and common equivalent shares outstanding. See accompanying notes to consolidated financial statements. F-4 TRANSWITCH CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (DEFICIT) (IN THOUSANDS, EXCEPT SHARE DATA)
COMMON STOCK ADDITIONAL ----------------- PAID IN ACCUMULATED SHARES AMOUNT CAPITAL DEFICIT TOTAL ---------- ------ ---------- ----------- -------- Balance at December 31, 1993....................... 707,739 $ 1 $ 814 $(12,260) $(11,445) Shares of common stock issued upon exercise of stock options and warrants................... 364,253 -- 99 -- 99 Accretion to redemption value of redeemable convertible preferred stock...................... -- -- -- (41) (41) Net loss.................... -- -- -- (3,937) (3,937) ---------- ---- ------- -------- -------- Balance at December 31, 1994....................... 1,071,992 1 913 (16,238) (15,324) Shares of common stock issued upon exercise of stock options and warrants................... 546,871 1 288 -- 289 Common stock offered by the company in initial public offering................... 2,875,000 3 23,169 -- 23,172 Conversion of preferred stock to common stock...... 7,009,743 7 20,235 -- 20,242 Compensation related to issuance of stock options.. -- -- 100 -- 100 Net loss.................... -- -- -- (1,773) (1,773) ---------- ---- ------- -------- -------- Balance at December 31, 1995....................... 11,503,606 12 44,705 (18,011) 26,706 Shares of common stock issued upon exercise of stock options and warrants................... 408,880 -- 319 -- 319 Compensation related to issuance of stock options.. -- -- 351 -- 351 Net loss.................... -- -- -- (10,077) (10,077) ---------- ---- ------- -------- -------- Balance at December 31, 1996....................... 11,912,486 $ 12 $45,375 $(28,088) $ 17,299 ========== ==== ======= ======== ========
See accompanying notes to consolidated financial statements. F-5 TRANSWITCH CORPORATION AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
YEARS ENDED DECEMBER 31, -------------------------- 1996 1995 1994 -------- ------- ------- Cash flows from operating activities: Net loss......................................... $(10,077) $(1,773) $(3,937) -------- ------- ------- Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization.................. 2,195 802 656 Write-down of product license.................. 3,128 -- -- Stock compensation expense..................... 351 100 -- Changes in assets and liabilities: Decrease(increase) in accounts receivable.... 2,487 (3,084) 246 (Increase) in inventories.................... (753) (1,440) (939) Decrease(increase) in prepaids and other current assets.............................. 194 (250) (22) Increase in accounts payable................. 470 742 37 Increase (decrease) in other liabilities and deferred revenue............................ (170) 13 712 -------- ------- ------- Total adjustments.......................... 7,902 (3,117) 690 -------- ------- ------- Net cash used in operating activities...... (2,175) (4,980) (3,247) -------- ------- ------- Cash flows from investing activities: Purchase of product licenses..................... (814) (2,176) -- Proceeds from the sale of property and equipment....................................... -- 3 -- Capital expenditures............................. (1,892) (1,309) (1,266) Purchases of short-term investments.............. (24,057) (5,620) -- Proceeds from sale of short-term investments..... 18,900 2,000 -- -------- ------- ------- Net cash used in investing activities...... (7,863) (7,102) (1,266) -------- ------- ------- Cash flows from financing activities: Proceeds from borrowings......................... -- -- 1,108 Principal payments of borrowings................. -- (1,191) (45) Proceeds from the exercise of stock options and warrants........................................ 319 289 100 Proceeds from the issuance of common stock....... -- 23,172 -- -------- ------- ------- Net cash provided by financing activities.. 319 22,270 1,163 -------- ------- ------- (Decrease) increase in cash and cash equivalents... (9,719) 10,278 (3,350) Cash and cash equivalents at beginning of year..... 13,630 3,352 6,702 -------- ------- ------- Cash and cash equivalents at end of year........... $ 3,911 $13,630 $ 3,352 ======== ======= ======= Supplemental disclosure of cash flows information: Cash paid for interest........................... $ 129 $ 47 $ 17
See accompanying notes to consolidated financial statements. F-6 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (1) ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Organization TranSwitch Corporation (the "Company") was incorporated in Delaware on April 26, 1988. On January 28, 1994, the Company formed a wholly-owned subsidiary TranSwitch Europe N.V./S.A. in Brussels, Belgium. Since the Company's formation, the Company has been designing and supplying specialized semiconductor components and subsystems for the telecommunications and datacommunications industries. Summary of Significant Accounting Policies Principles of Consolidation The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiary. All intercompany accounts and transactions have been eliminated in consolidation. Basis of Presentation Amended Certificate of Incorporation and Stock Split On April 11, 1995, the Company's Board of Directors approved a two-for-one reverse stock split of the issued and outstanding Common Stock and an amendment to the Certificate of Incorporation of the Company to increase the number of authorized shares of capital stock of the Company to 25,000,000 shares from 24,000,000 shares, $.001 par value per share, effective April 19, 1995 and April 25, 1995, respectively. All share and per share amounts have been adjusted to retroactively reflect the reverse stock split. In addition, on April 11, 1995 the Company's Board of Directors approved an Amended and Restated Certificate of Incorporation to decrease the number of authorized shares of Preferred stock to 1,000,000 shares; $.01 par value per share, effective June 19, 1995. Reclassifications Certain prior year amounts have been reclassified to conform with the current year's presentation. Cash Equivalents Cash and cash equivalents in the consolidated balance sheet include cash equivalents of $2,989,000 and $11,507,000 at December 31, 1996 and 1995, respectively, and consist of certificates of deposit, U.S. Treasury Bills, commercial paper and U.S. Agency notes. For purposes of the Statement of Cash Flows, the Company considers all certificates of deposit, U.S. Treasury Bills, commercial paper and U.S. Agency notes with an original maturity of three months or less to be cash equivalents. Investment Securities The Company adopted Statement of Financial Accounting Standard ("SFAS") No. 115 "Accounting for Certain Investments in Debt and Equity Securities." Under SFAS No. 115 the Company's short term investments were classified as available-for-sale and were recorded at fair market value in the accompanying balance sheet. Inventories Inventories are carried at the lower of cost (on a first-in, first-out basis) or estimated net realizable value. Property and Equipment Property and equipment are carried at cost less accumulated depreciation. Depreciation of property and equipment is provided on the straight-line method, based on the related assets estimated useful lives ranging from three to seven years. Depreciation of semiconductor tooling costs is provided on the straight-line method using F-7 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) the lesser of three years or the life of the related semiconductor it produces. Repairs and maintenance are charged to operations as incurred. Product Licenses Product licenses are amortized over the lesser of the Company's estimated product sales volume or the straight-line method over three to five years. Revenue Recognition Sales of product are recognized upon shipment to distributors and original equipment manufacturers. Sales to certain distributors are made under distributor agreements which provide the distributor certain price protection and return and allowance rights. Revenues are reduced for estimated price protection and returns based upon historical experience. Revenues from development contracts are derived from agreements with third parties. These agreements provide for payments to the Company for the development of new products, and reimbursement for expenses incurred, based on the achievement of certain milestones. Revenues are recognized as the related costs are incurred over the term of the agreement. The Company primarily retains exclusive ownership of technology developed in connection with the design of semiconductors. Technology developed in connection with customized computer boards generally transfers to third parties. The Company recognizes royalties and license fees when its obligations under the license and royalty agreements are fulfilled and when payment has been received or is reasonably assured. Concentration of Credit Risk The Company sells its products to customers in the United States and overseas. Credit evaluations are done on all new customers and periodically evaluated for existing customers. The Company establishes an allowance for doubtful accounts based upon factors surrounding the credit risk of specific customers, historical trends and other information. Product Warranties The Company provides for its expected costs that may be incurred under its product warranties. Estimated warranty costs are accrued as products are sold and charged to cost of revenues. Research and Development Costs Research and development costs are expensed as incurred. Income Taxes Income taxes are accounted for under the asset and liability method. 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. Computation of Earnings per Share Net loss per share is based upon the weighted average number of shares of Common Stock and common stock equivalents consisting of warrants and stock options (using the Treasury Stock method), and Preferred F-8 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Stock (using the if-converted method) outstanding for each of the periods presented. Common stock equivalents are not considered if the result would be anti-dilutive. Pursuant to the requirements of the Securities and Exchange Commission, Common Stock and common stock equivalents issued during the twelve month period prior to the Company's initial public offering have been included in the calculation as if they were outstanding for all periods presented whether they are antidilutive or not. Pro forma net loss per common and common equivalent share has been presented for the year ended December 31, 1994 and assumes the Preferred Stock and Warrants which are convertible into Preferred Stock have been converted to Common Stock, upon completion of the offering and have been outstanding for the entire period. Fully dilutive and supplemental loss per common share are not presented as they are the same as primary earnings per share. Use of Estimates Management of the Company has made a number of estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent liabilities to prepare these financial statements in conformity with generally accepted accounting principles. Actual results could differ from those estimates. Accounting Changes During 1996, the Company adopted 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." SFAS No. 121 requires companies to review assets for possible impairment and provides guidelines for recognition of impairment losses related to long-lived assets, certain intangibles and assets to be disposed of. The impact of the adoption of SFAS No. 121 was not material. During 1996, the Company adopted SFAS No. 123--"Accounting for Stock-Based Compensation." The Company plans not to recognize compensation cost for stock- based employee compensation arrangements, in its financial statements but rather, will disclose in the notes to the consolidated financial statements the impact on net income and earnings per share as if the fair value based compensation cost had been recognized (See note 9). (2) SHORT-TERM INVESTMENTS Short-term investments classified as available for sale, consists of the following (in thousands):
DECEMBER 31, --------------------------------------------------- 1996 1995 ------------------------- ------------------------- AMORT. UNREALIZED MARKET AMORT. UNREALIZED MARKET COST GAIN (LOSS) VALUE COST GAIN (LOSS) VALUE ------ ----------- ------ ------ ----------- ------ Commercial paper and corporate debt securities (average maturity of 4 months in 1996 and 1995)......... $3,774 $ -- $3,774 $1,424 $ -- $1,424 Corporate bonds......... 1,004 -- 1,004 724 (4) 720 U.S. Treasury Bill...... 3,999 -- 3,999 U.S. government securities (average maturity of 7 months in 1995).................. -- -- -- 1,472 4 1,476 ------ ----- ------ ------ ----- ------ Total................. $8,777 $ -- $8,777 $3,620 $ -- $3,620 ====== ===== ====== ====== ===== ======
Gross realized gains and losses on sales of securities in 1996 and 1995 were immaterial. F-9 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (3) FINANCIAL INSTRUMENTS Financial instruments estimated values (in thousands):
DECEMBER 31, -------------------------------- 1996 1995 --------------- ---------------- CARRYING FAIR CARRYING FAIR AMOUNT VALUE AMOUNT VALUE -------- ------ -------- ------- Cash and cash equivalents.................. $3,911 $3,911 $13,630 $13,630 Short-term investments..................... 8,777 8,777 3,620 3,620 Accounts receivable, net................... 2,893 2,893 5,380 5,380
The fair value amounts for cash and accounts receivables, net, approximate carrying amounts due to the short maturities of these instruments. Financial instruments that potentially subject the Company to significant concentrations of credit risk consist principally of cash and trade accounts receivable. The Company places its cash primarily in market rate accounts. The Company, by policy, limits the amount of credit exposure to any one financial institution or commercial issuer. (4) INVENTORIES Inventories consist of (in thousands):
DECEMBER 31, ------------- 1996 1995 ------ ------ Raw materials.................................................. $ 600 $ 458 Work in process................................................ 1,500 1,315 Finished goods................................................. 1,424 998 ------ ------ Total........................................................ $3,524 $2,771 ====== ======
(5) PROPERTY AND EQUIPMENT Property and equipment consist of (in thousands):
DECEMBER 31, ---------------- USEFUL LIVES 1996 1995 ---------- ------- ------- Purchased computer software................... 3 years $ 2,756 $ 2,008 Equipment..................................... 3-7 years 2,356 1,853 Semiconductor tooling......................... 3 years 771 504 Furniture..................................... 3-7 years 351 246 Leasehold improvements........................ Lease term 158 140 Construction in progress...................... 418 167 ------- ------- 6,810 4,918 Less accumulated depreciation and amortization................................. (4,163) (2,673) ------- ------- Net property and equipment.................... $ 2,647 $ 2,245 ======= =======
F-10 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (6) PRODUCT LICENSES On December 15, 1995 the Company entered into a new agreement with Texas Instruments (TI) in which it repurchased its license agreement for a total of $4,474,654 representing an upfront payment of $2,125,000 in cash and the discounted present value of future minimum payments. The Company has recorded the repurchased license in its consolidated balance sheet under the caption product licenses and is being amortized over a five year period based upon the estimated related incremental product sales. Interest expense is accrued over the three year minimum payment period. In the fourth quarter of 1996, the T.I. License was written down to its net realizable value as the incremental revenue which was originally forecast did not materiallize. The Company has purchased other licenses during 1996 for $314,000 which will be amortized over a three year period. (7) INCOME TAXES The tax effect of temporary differences that give rise to deferred tax assets and deferred tax liabilities are presented below (in thousands):
DECEMBER 31, ----------------- 1996 1995 -------- ------- Deferred tax assets: Inventory obsolescence.................................. $ 497 $ 123 Vacation accrual........................................ 79 90 Warranty reserve........................................ 119 104 Accrued rent............................................ -- 24 Sales allowance reserve................................. 148 128 Product license......................................... 267 -- Net operating losses.................................... 10,637 6,696 Research and development credit......................... 1,739 1,483 Other................................................... 59 57 -------- ------- Total gross deferred tax assets........................... 13,545 8,705 Less valuation allowance.................................. (13,384) (8,426) -------- ------- Net deferred tax assets................................... 161 279 Deferred tax liabilities: Property and equipment.................................. (161) (279) -------- ------- Total deferred taxes, net of valuation allowance.......... $ -- $ -- ======== =======
The net change in the total valuation allowance for the year ended December 31, 1996 was an increase of $4,958,000. Due to the Company's prior operating losses, there is uncertainty surrounding whether the Company will ultimately realize its tax assets. Accordingly, these assets have been fully reserved. The difference between the statutory federal income tax rate and the Company's effective tax rate for the years ended December 31, 1996, 1995 and 1994 is principally due to net operating losses. At December 31, 1996, the Company had available, for federal income tax purposes, net operating loss carryforwards of approximately $25,574,889 and research and development tax credit carryforwards of approximately $1,739,204 expiring in varying amounts from 2003 through 2010. The Company's ability to utilize its net operating loss and research and development tax credit carryforwards may be limited in the future if it is determined that the Company experienced an ownership change, as defined in Section 382 of the Internal Revenue Code, as a result of the initial public offering or prior transactions. F-11 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (8) MANDATORILY REDEEMABLE CONVERTIBLE PREFERRED STOCK The Company's Mandatorily Redeemable Convertible Preferred Stock was recorded at fair value on the date of issuance less costs of issuance. The excess of the redemption amount over the initial carrying value was added to the carrying value by periodic accretions from equity using the interest method. The Company had authorized a total of 14,091,368 shares of Mandatorily Redeemable Convertible Preferred Stock at December 31, 1994. The shares presented in the table below are the number of shares of Mandatorily Redeemable Preferred Stock that have been converted into Company Stock at the rate of one share of Common Stock for each two shares of Mandatorily Redeemable Convertible Preferred Stock upon the Company's initial public offering (in thousands, except share data):
PREFERRED STOCK ----------------------------------------------------------------------------------- SERIES A SERIES B SERIES D SERIES E TOTAL ------------------- ------------------- ------------------- -------------------- --------------------- SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT SHARES AMOUNT ---------- ------- ----------- ------- ---------- ------- ----------- -------- ----------- -------- Balance at December 31, 1993.. 1,836,000 $ 1,824 1,923,077 $ 2,486 7,222,562 $ 9,286 3,037,845 $ 6,615 14,019,484 $ 20,211 Accretion on Preferred Stock.. -- 3 -- 3 -- 20 -- 15 -- 41 ---------- ------- ----------- ------- ---------- ------- ----------- -------- ----------- -------- Balance at December 31, 1994.. 1,836,000 1,827 1,923,077 2,489 7,222,562 9,306 3,037,845 6,630 14,019,484 20,252 Conversion of preferred stock to common stock.......... (1,836,000) (1,827) (1,923,077) (2,489) (7,222,562) (9,306) (3,037,845) (6,630) (14,019,484) (20,252) Balance at December 31, 1995 and 1996.. -- $ -- -- $ -- -- $ -- -- $ -- -- $ -- ========== ======= =========== ======= ========== ======= =========== ======== =========== ========
Each share of preferred stock was convertible at the option of the holder and was mandatorily converted into Common Stock if the amount raised in the Company's initial public offering was $10,000,000 in the aggregate and at least $8 per share. On June 19, 1995 the Company completed its initial public offering of 2,500,000 shares of Common Stock at $9 per share, raising a total of $24,000,000; concurrent with consummation of the offering, all outstanding shares of Mandatorily Redeemable Preferred Convertible Stock were converted into 7,009,743 shares of Common Stock. (9) STOCKHOLDERS' EQUITY Common Stock All share and per share amounts have been restated to reflect a 2-for-1 reverse stock split authorized by the Board of Directors on April 11, 1995 and effective April 19, 1995. On June 19, 1995 and July 13, 1995 the Company completed its initial public offering of 2,500,000 shares of Common Stock and 375,000 shares of Common Stock, respectively, all of which were sold by the Company. Concurrent with consummation of the offering, all outstanding shares of Mandatorily Redeemable Convertible Preferred Stock were converted into 7,009,743 shares of Common Stock. Preferred Stock The Company has 1,000,000 shares, $.01 par value per share, of preferred stock authorized. None have been issued as of December 31, 1996. F-12 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Stock Option Plans 1989 Stock Option Plan Effective January 12, 1989, the Company adopted a Stock Option Plan. Under the Plan, the Board of Directors (or an appointed committee) grants to all new employees, and to certain key employees and consultants, incentive stock options ("qualified" options) and non-qualified stock options to purchase Common Stock. In 1993, the Company amended the Stock Option Plan, increasing the total number of common shares reserved for issuance to 1,827,413. The option price for incentive stock options shall not be less than 100% of the fair market value (110% in the case of an employee owning more than 10% of the combined voting power) on the date of grant; and the option price for non- qualified stock options shall not be less than 85% of the fair market value on the date of grant. 1995 Stock Plan On April 11, 1995, the Company's Board of Directors adopted the 1995 Stock Plan which was approved by the Company's stockholders on April 19, 1995. The 1995 Plan took effect upon the completion of the Initial Public Offering. In 1996, the Company increased the total number of shares of Common Stock authorized under the 1995 Stock Plan and amended and restated the 1995 Stock Plan (as amended and restated, "The 1995 Plan.") Under the terms of the 1995 Plan, 1,519,019 shares of the Company's Common Stock are reserved for issuance pursuant to the grant to employees of incentive stock options and the grant of non-qualified stock option, awards or direct purchases of the Company's Common Stock to employees, consultants, directors and officers of the Company. The terms of the options granted will be subject to the provisions of the 1995 Plan as determined by the Compensation Committee of the Board of Directors. The 1995 Plan will terminate ten years after its adoption unless earlier terminated by the Board of Directors. 1995 Employee Stock Purchase Plan On April 11, 1995, the Company's Board of Directors adopted the 1995 Employee Stock Purchase Plan (the "1995 Purchase Plan") which was approved by the Company's stockholders on April 19, 1995. Under the terms of the 1995 Purchase Plan, all employees, except five percent or more stockholders, of the Company may contribute through payroll tax deductions, up to 5% of their annual compensation toward the purchase of the Company's Common Stock. The Company has reserved 100,000 shares for issuance under the 1995 Purchase Plan. The purchase price per share is the lesser of (a) 85% of the fair market value of the Common Stock on the date of the grant of the option, as defined, or (b) 85% of the fair market value of the Common Stock on the date of exercise of the option, as defined. Director Stock Option Plan The 1995 Non-Employee Director Stock Option Plan (the "Director Plan") was adopted by the Board of Directors on April 11, 1995, and approved by the Company's stockholders on April 19, 1995. The Director Plan provides for the automatic grant of options to purchase shares of Common Stock to non-employee directors of the Company. The Director Plan will be administered by the Compensation Committee of the Board of Directors. No option granted under the Director Plan may be exercised after the expiration of five years from the date of grant. The exercise price of options under the Director Plan must be equal to the fair market value of the Common Stock on the date of grant. Options granted under the Director Plan are generally nontransferable. F-13 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The options expire five or ten years from the date of grant and are generally exercisable ratably over four years from the date of grant. Information regarding the Company's stock options are set forth as follows:
OPTIONS AVAILABLE FOR NUMBER WEIGHTED AVERAGE ISSUANCE OF SHARES PRICE PER SHARE ------------- --------- ---------------- Outstanding at December 31, 1993........................... 549,476 1,277,937 $ 0.37 Granted....................... (327,450) 327,450 0.70 Exercised..................... -- (364,100) 0.29 Canceled...................... 50,375 (50,375) 0.47 ---------- --------- Outstanding at December 31, 1994........................... 272,401 1,190,912 0.51 Authorized.................... 500,000 -- -- Granted....................... (556,225) 556,225 10.34 Exercised..................... -- (390,055) 0.43 Canceled...................... 50,373 (50,373) 2.00 ---------- --------- Outstanding at December 31, 1995........................... 266,549 1,306,709 3.86 Authorized.................... 900,000 -- -- Granted....................... (1,524,630) 1,524,630 7.63 Exercised..................... -- (296,954) 0.58 Canceled...................... 778,968 (778,968) 10.17 ---------- --------- Outstanding at December 31, 1996........................... 420,887 1,755,417 $ 4.81 ========== =========
At December 31, 1996, 1,755,417 options were outstanding with a weighted average share price of $4.81 and a weighted average remaining contractual life of 6.6 years. At December 31, 1996, 650,452 options were exercisable at exercise prices ranging from $.40-$16.25 per share. In connection with stock options granted in January 1995 through March 31, 1995, the Company recorded deferred compensation expense for the excess of the deemed value for accounting purposes of the Common Stock issuable upon exercise of such stock options over the aggregate exercise price of such options of $618,000. The Company records compensation expense over the applicable vesting periods (primarily four years). The Company recorded $156,000 and $100,000 of compensation expense for the options granted in January 1995 through March 31, 1995 for the year ended December 31, 1996 and 1995, respectively. As discussed in Note 1, the Company adopted SFAS No. 123 during 1996. The Company did not recognize compensation expense relating to "employee" stock options, because the exercise price of the option equals the fair value of the stock on the date of grant. If the Company had determined the compensation based on the fair value of the options on the date of grant in accordance with SFAS No. 123, the proforma net loss income and loss per share would be as follows:
1996 1995 -------- ------- Net loss--as reported.................................... $(10,077) $(1,773) Net loss--pro forma...................................... $(12,599) $(2,189) Primary loss per share--as reported...................... $ (0.86) $ (0.18) Primary loss per share--pro forma........................ $ (1.07) $ (0.22)
The pro forma effect on net loss for 1996 and 1995 is not representative of the pro forma effect on net income in future years because it does not take into consideration pro forma compensation expense related to grants made prior to 1995. Fully diluted loss per share are not presented as they are the same as primary. F-14 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) As reflected in the table above, the fair value of each option granted in 1996 and 1995 was $3.00 and $4.70, respectively. The fair value of each option granted was estimated on the date of grant using the modified Black-Scholes option pricing model based on the following weighted average assumptions:
1996 1995 ---- ---- Risk-free interest rate.......................................... 6.0% 5.5% Expected life in years........................................... 6.0 6.0 Expected volatility.............................................. 52.0% 52.0% Expected dividend yield.......................................... -- --
The Company recognized additional compensation expense of $195,000 as required by SFAS No. 123, relating to stock options granted to "non"-employees during 1996. Warrants Warrants to purchase Common Stock and Preferred Stock have been granted to the original investors in consideration of additional financing and loans, and for services performed by various other parties. The warrants presented in the table below are convertible into Common Stock and Preferred Stock at a rate of one share of Common Stock and Preferred Stock for each warrant to purchase Common Stock and Preferred Stock, respectively. During 1995, 58,396 shares of Preferred Stock warrants were converted into 29,198 shares of Common Stock at a rate of one share of Common Stock for each two shares of Preferred Stock and 13,488 shares of Preferred Stock warrants were canceled.
WARRANTS--COMMON STOCK WARRANTS--PREFERRED STOCK ----------------------------------------- ---------------------------------------- NUMBER PRICE PER SHARE EXPIRATION DATE NUMBER PRICE PER SHARE EXPIRATION DATE -------- --------------- --------------- ------- --------------- --------------- Outstanding at December 31, 1993............... 215,562 .06-1.00 12/96-11/98 71,884 $1.00--1.30 8/90--7/00 Granted................ (153) -- -- -- -- -- Outstanding at December 31, 1994............... 215,409 $.06-1.00 12/96-11/98 71,884 $1.00--1.30 8/90--7/00 Exercised.............. (122,964) -- 12/96-11/98 (58,396) $1.00--1.30 8/99--7/00 Canceled............... -- -- -- (13,488) $1.00--1.30 8/99--7/00 -------- --------- ----------- ------- ----------- ---------- Outstanding at December 31, 1995............... 92,445 $.06-1.00 12/96-11/98 Exercised.............. (82,011) -- 12/96-11/98 -- -- -- Outstanding at December 31, 1996............... 10,434 $.40-1.00 12/96-11/98 -- -- -- ======== ========= =========== ======= =========== ==========
(10) EMPLOYEE SAVINGS PLAN On November 21, 1988, the Company established a 401(k) retirement savings plan. All employees are entitled to contribute from 1% to 15% of their pre-tax income, not exceeding the IRS maximum for income deferrals, to the Plan, and may elect to invest their contributions in various established funds, which include fixed income, growth and equity funds. The Company made no matching contributions to the 401(k) Plan in 1995. In 1995, the maximum contribution was 20% of pre-tax income subject to IRS limitations. The Company began providing matching contributions in 1996 for 50 percent of the employees' deferred compensation up to a maximum of 6 percent. In 1996, the Company's contribution expense amounted to $156,493. F-15 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) (11) COMMITMENTS AND CONTINGENCIES Line of Credit The Company has available as of December 31, 1996 with Silicon Valley Bank lines of credit of $2,000,000 for working capital purposes, bearing interest at prime + 1/4% due on January 3, 1998 and a line of credit of $2,000,000 for equipment purchases, bearing interest at prime +1% due on May 31, 2002. The lines are secured by all corporate assets except intellectual property of the Company. The Agreement contains certain financial restrictions and covenants which, among other things, include provisions for maintaining a minimum amount of cash, net worth and profitability. Development Agreements From time to time, the Company has entered into agreements with third parties for the development and/or licensing of products for its manufacture and sale, or the licensing of technology the Company may use in the manufacture of products, for which royalties are paid against actual sales of these products. The Company recognized royalty expense of $1,265,698, $828,671, and $342,456 in 1996, 1995 and 1994, respectively, under these agreements, which is included in cost of products sold in the consolidated statements of operations. Lease Agreements Total rental expense under all operating lease agreements aggregated $446,463, $585,644, and $447,153 during 1996, 1995 and 1994, respectively. At December 31, 1996, the minimum annual and in the aggregate rental payments under existing noncancellable operating leases are as follows (in thousands): 1997.................................. $ 507 1998.................................. 476 1999.................................. 128 ------ $1,111 ======
License and Royalty Agreements On May 8, 1991, the Company entered an Agreement with Texas Instruments (TI) which granted TI manufacturing and distribution rights for certain of the Company's products, in return for the payment of non-refundable license and royalty fees. Through December 31, 1996, the Company had received $2.6 million in license and royalty fees from TI under the Agreement, of which $125,000, was recognized in 1995 and 1994. On December 15, 1995 the Company entered into a new agreement with TI in which it repurchased its license agreement and paid $2,125,000 and $500,000 in cash in 1995 and 1996, respectively. The Company will make future minimum cash payments of $1,000,000 and $1,250,000 in 1997 and 1998, respectively. In addition to the minimum payments the Company is required to pay incremental royalties based upon exceeding certain sales volumes. Such royalties will be accrued as excess volumes are to be achieved. F-16 TRANSWITCH CORPORATION AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Foundry Purchase Commitments On April 10, 1996, the Company entered into a foundry agreement with Taiwan Semiconductor Manufacturing Co., Ltd which includes future minimum purchase commitments as follows (in thousands): 1997.................................. $ 403 1998.................................. 454 1999.................................. 403 ------ $1,260 ======
Concentration of Sales The following table summarizes the percentage of revenues accounted for by the Company's significant customers:
YEARS ENDED DECEMBER 31, ---------------------------- 1996 1995 1994 -------- -------- -------- Tellabs.......................................... 14% 17% -- Insight.......................................... 16% 16% -- ECI Telecom Ltd.................................. 22% -- 16%
Export revenues represented 46%, 38%, and 47% of total revenues in 1996, 1995 and 1994, respectively. Revenues from customers outside the United States were as follows (in thousands):
YEARS ENDED DECEMBER 31, -------------------------- 1996 1995 1994 -------- -------- -------- Europe and Middle East............................ $ 6,332 $ 3,084 $ 3,411 Far East.......................................... 1,976 1,798 1,331 Canada and other.................................. 592 1,626 942 -------- -------- -------- Total........................................... $ 8,900 $ 6,508 $ 5,684 ======== ======== ========
F-17 SCHEDULE II TRANSWITCH CORPORATION VALUATION AND QUALIFYING ACCOUNTS (IN THOUSANDS)
ADDITIONS -------------------- BALANCE CHARGED TO CHARGES BALANCE BEGINNING COSTS AND TO OTHER AT END DESCRIPTION OF PERIOD EXPENSES ACCOUNTS DEDUCTIONS OF PERIOD ----------- --------- ---------- -------- ---------- --------- Year ended December 31, 1996: Deductions from asset account: Allowance for doubtful.............. $138 14 -- (12) $ 140 Inventory valuation.... 295 1,261 -- (360) 1,196 ---- ----- --- ---- ------ $433 1,275 -- (372) $1,336 ==== ===== === ==== ====== Year ended December 31, 1995: Deductions from asset account: Allowance for doubtful.............. $ 36 110 -- (8) $ 138 Inventory valuation.... 597 31 -- (333)(2) 295 ---- ----- --- ---- ------ $633 141 -- (341) $ 433 ==== ===== === ==== ====== Year ended December 31, 1994: Deductions from asset account: Allowance for doubtful.............. $ 31 7 1 (3) $ 36 Inventory valuation.... 44 583(1) (88) (118) 597 ---- ----- --- ---- ------ $ 75 590 (89) (121) $ 633 ==== ===== === ==== ======
- -------- (1) Includes a reserve for inventory on hand which was built up in anticipation of a major customer's order in 1994 which did not materialize. (2) Includes a reversal of a reserve for inventory on hand which was built up in anticipation of a major customer's order in 1994 which was no longer required as products have been shipped. F-18 EX-10.2 2 SECOND AMENDED AND RESTATED 1995 STOCK PLAN -1- EXHIBIT 10.2 ------------ TRANSWITCH CORPORATION SECOND AMENDED AND RESTATED 1995 STOCK PLAN --------------- 1. PURPOSE. The purpose of the TranSwitch Corporation 1995 Stock Plan ------- (the "Plan") is to encourage key employees of TranSwitch Corporation (the "Company") and of any present or future parent or subsidiary of the Company (collectively, "Related Corporations") and other individuals who render services to the Company or a Related Corporation, by providing opportunities to participate in the ownership of the Company and its future growth through (a) the grant of options which qualify as "incentive stock options" ("ISOs") under Section 422(b) of the Internal Revenue Code of 1986, as amended (the "Code"); (b) the grant of options which do not qualify as ISOs ("Non-Qualified Options"); (c) awards of stock in the Company ("Awards"); and (d) opportunities to make direct purchases of stock in the Company ("Purchases"). Both ISOs and Non- Qualified Options are referred to hereafter individually as an "Option" and collectively as "Options." Options, Awards and authorizations to make Purchases are referred to hereafter collectively as "Stock Rights." As used herein, the terms "parent" and "subsidiary" mean "parent corporation" and "subsidiary corporation," respectively, as those terms are defined in Section 424 of the Code. 2. ADMINISTRATION OF THE PLAN. --------------------------- A. BOARD OR COMMITTEE ADMINISTRATION. The Plan shall be administered by --------------------------------- the Board of Directors of the Company (the "Board") or by a committee appointed by the Board (the "Committee"); provided that the Plan shall be administered: (i) to the extent required by applicable regulations under Section 162(m) of the Code, by two or more "outside directors" (as defined in applicable regulations thereunder) and (ii) to the extent required by Rule 16b-3 promulgated under the Securities Exchange Act of 1934 or any successor provision ("Rule 16b-3"), by a disinterested administrator or administrators within the meaning of Rule 16b-3. Hereinafter, all references in this Plan to the "Committee" shall mean the Board if no Committee has been appointed. Subject to ratification of the grant or authorization of each Stock Right by the Board (if so required by applicable state law), and subject to the terms of the Plan, the Committee shall have the authority to (i) determine to whom (from among the class of employees eligible under paragraph 3 to receive ISOs) ISOs shall be granted, and to whom (from among the class of individuals and entities eligible under paragraph 3 to receive Non-Qualified Options and Awards and to make Purchases) Non-Qualified Options, Awards and authorizations to make Purchases may be granted; (ii) determine the time or times at which Options or Awards shall be granted or Purchases made; (iii) determine the purchase price of shares subject to each Option or Purchase, which prices shall not be less than the minimum price specified in paragraph 6; (iv) determine whether each Option granted shall be an ISO or a Non-Qualified Option; (v) determine (subject to paragraph 7) the time or times when each Option shall become exercisable and the duration of the exercise period; (vi) extend the period during which outstanding Options may be exercised; (vii) determine whether restrictions such as repurchase options are to be imposed on shares subject to Options, Awards and Purchases and the nature of such restrictions, if any, and (viii) interpret the Plan and prescribe and rescind rules and regulations relating to it. If the Committee determines to issue a Non-Qualified Option, it shall take whatever actions it deems necessary, under Section 422 of the Code and the regulations promulgated thereunder, to ensure that such Option is not treated as an ISO. The interpretation and construction by the Committee of any provisions of the Plan or of any Stock Right -2- granted under it shall be final unless otherwise determined by the Board. The Committee may from time to time adopt such rules and regulations for carrying out the Plan as it may deem advisable. No member of the Board or the Committee shall be liable for any action or determination made in good faith with respect to the Plan or any Stock Right granted under it. B. COMMITTEE ACTIONS. The Committee may select one of its members as its ----------------- chairman, and shall hold meetings at such time and places as it may determine. A majority of the Committee shall constitute a quorum and acts of a majority of the members of the Committee at a meeting at which a quorum is present, or acts reduced to or approved in writing by all the members of the Committee (if consistent with applicable state law), shall be the valid acts of the Committee. From time to time the Board may increase the size of the Committee and appoint additional members thereof, remove members (with or without cause) and appoint new members in substitution therefor, fill vacancies however caused, or remove all members of the Committee and thereafter directly administer the Plan. C. GRANT OF STOCK RIGHTS TO BOARD MEMBERS. Subject to the provisions of -------------------------------------- the first sentence of paragraph 2(A) above, if applicable, Stock Rights may be granted to members of the Board. All grants of Stock Rights to members of the Board shall in all other respects be made in accordance with the provisions of this Plan applicable to other eligible persons. Consistent with the provisions of the first sentence of Paragraph 2(A) above, members of the Board who either (i) are eligible to receive grants of Stock Rights pursuant to the Plan or (ii) have been granted Stock Rights may vote on any matters affecting the administration of the Plan or the grant of any Stock Rights pursuant to the Plan, except that no such member shall act upon the granting to himself or herself of Stock Rights, but any such member may be counted in determining the existence of a quorum at any meeting of the Board during which action is taken with respect to the granting to such member of Stock Rights. 3. ELIGIBLE EMPLOYEES AND OTHERS. ISOs may be granted only to employees of ----------------------------- the Company or any Related Corporation. Non-Qualified Options, Awards and authorizations to make Purchases may be granted to any employee, officer or director (whether or not also an employee) or consultant of the Company or any Related Corporation. The Committee may take into consideration a recipient's individual circumstances in determining whether to grant a Stock Right. The granting of any Stock Right to any individual or entity shall neither entitle that individual or entity to, nor disqualify such individual or entity from, participation in any other grant of Stock Rights. 4. STOCK. The stock subject to Stock Rights shall be authorized but ----- unissued shares of Common Stock of the Company, par value $.001 per share (the "Common Stock"), or shares of Common Stock reacquired by the Company in any manner. The aggregate number of shares which may be issued pursuant to the Plan is 2,469,019, subject to adjustment as provided in paragraph 13. If any Stock Right granted under the Plan shall expire or terminate for any reason without having been exercised in full or shall cease for any reason to be exercisable in whole or in part or shall be repurchased by the Company, the shares of Common Stock subject to such Stock Right shall again be available for grants of Stock Rights under the Plan. No employee of the Company or any Related Corporation may be granted Options to acquire, in the aggregate, more than 400,000 of shares of Common Stock under the Plan. If any Option granted under the Plan shall expire or terminate for any reason without having been exercised in full or shall cease for any reason to be exercisable in whole or in part or shall be repurchased by the Company, the shares subject to such Option shall be included in the determination of the aggregate number of shares of Common Stock deemed to have been granted to such employee under the Plan. -3- 5. GRANTING OF STOCK RIGHTS. Stock Rights may be granted under the Plan at ------------------------ any time on or after April 11, 1995 and prior to April 11, 2005. The date of grant of a Stock Right under the Plan will be the date specified by the Committee at the time it grants the Stock Right; provided, however, that such date shall not be prior to the date on which the Committee acts to approve the grant. Options granted under the Plan are intended to qualify as performance- based compensation to the extent required under Proposed Treasury Regulation Section 1.162-27. 6. MINIMUM OPTION PRICE; ISO LIMITATIONS. ------------------------------------- A. PRICE FOR NON-QUALIFIED OPTIONS, AWARDS AND PURCHASES. The exercise ----------------------------------------------------- price per share specified in the agreement relating to each Non-Qualified Option granted, and the purchase price per share of stock granted in any Award or authorized as a Purchase, under the Plan shall in no event be less than the minimum legal consideration required therefor under the laws of any jurisdiction in which the Company or its successors in interest may be organized. Non- Qualified Options granted under the Plan, with an exercise price less than the fair market value per share of Common Stock on the date of grant, and Awards and Purchases under the Plan with a purchase price per share less than the fair market value per share of Common Stock on the date of grant or authorization, as applicable, are intended to qualify as performance-based compensation under Section 162(m) of the Code and any applicable regulations thereunder. Any such Non-Qualified Options granted under the Plan or Awards made or Purchases authorized under the Plan shall be exercisable or issued, as the case may be, only upon the attainment of a pre-established, objective performance goal established by the Committee. If the Committee grants Non-Qualified Options with an exercise price less than the fair market value per share of Common Stock on the date of grant, or makes Awards or authorizes Purchases under the Plan with a purchase price per share less than the fair market value per share of Common Stock on the date of grant or authorization, as applicable, such grant or authorization will be submitted for, and will be contingent upon, shareholder approval. B. PRICE FOR ISOS. The exercise price per share specified in the -------------- agreement relating to each ISO granted under the Plan shall not be less than the fair market value per share of Common Stock on the date of such grant. In the case of an ISO to be granted to an employee owning stock possessing more than ten percent (10%) of the total combined voting power of all classes of stock of the Company or any Related Corporation, the price per share specified in the agreement relating to such ISO shall not be less than one hundred ten percent (110%) of the fair market value per share of Common Stock on the date of grant. For purposes of determining stock ownership under this paragraph, the rules of Section 424(d) of the Code shall apply. C. $100,000 ANNUAL LIMITATION ON ISO VESTING. Each eligible employee may ----------------------------------------- be granted Options treated as ISOs only to the extent that, in the aggregate under this Plan and all incentive stock option plans of the Company and any Related Corporation, ISOs do not become exercisable for the first time by such employee during any calendar year with respect to stock having a fair market value (determined at the time the ISOs were granted) in excess of $100,000. The Company intends to designate any Options granted in excess of such limitation as Non-Qualified Options. D. DETERMINATION OF FAIR MARKET VALUE. If, at the time an Option is ---------------------------------- granted under the Plan, the Company's Common Stock is publicly traded, "fair market value" shall be determined as of the date of grant or, if the prices or quotes discussed in this sentence are unavailable for such date, the last business day for which such prices or quotes are available prior to the date of grant and shall mean (i) the average (on that date) of the high and low prices of the Common Stock on the principal -4- national securities exchange on which the Common Stock is traded, if the Common Stock is then traded on a national securities exchange; or (ii) the last reported sale price (on that date) of the Common Stock on the Nasdaq National Market, if the Common Stock is not then traded on a national securities exchange; or (iii) the closing bid price (or average of bid prices) last quoted (on that date) by an established quotation service for over-the-counter securities, if the Common Stock is not reported on the Nasdaq National Market. If the Common Stock is not publicly traded at the time an Option is granted under the Plan, "fair market value" shall mean the fair value of the Common Stock as determined by the Committee after taking into consideration all factors which it deems appropriate, including, without limitation, recent sale and offer prices of the Common Stock in private transactions negotiated at arm's length. 7. OPTION DURATION. Subject to earlier termination as provided in --------------- paragraphs 9 and 10 or in the agreement relating to such Option, each Option shall expire on the date specified by the Committee, but not more than (i) ten years from the date of grant in the case of Options generally and (ii) five years from the date of grant in the case of ISOs granted to an employee owning stock possessing more than ten percent (10%) of the total combined voting power of all classes of stock of the Company or any Related Corporation, as determined under paragraph 6(B). Subject to earlier termination as provided in paragraphs 9 and 10, the term of each ISO shall be the term set forth in the original instrument granting such ISO, except with respect to any part of such ISO that is converted into a Non-Qualified Option pursuant to paragraph 16. 8. EXERCISE OF OPTION. Subject to the provisions of paragraphs 9 through ------------------ 12, each Option granted under the Plan shall be exercisable as follows: A. VESTING. The Option shall either be fully exercisable on the date of ------- grant or shall become exercisable thereafter in such installments as the Committee may specify. B. FULL VESTING OF INSTALLMENTS. Once an installment becomes exercisable ---------------------------- it shall remain exercisable until expiration or termination of the Option, unless otherwise specified by the Committee. C. PARTIAL EXERCISE. Each Option or installment may be exercised at any ---------------- time or from time to time, in whole or in part, for up to the total number of shares with respect to which it is then exercisable. D. ACCELERATION OF VESTING. The Committee shall have the right to ----------------------- accelerate the date that any installment of any Option becomes exercisable; provided that the Committee shall not, without the consent of an optionee, accelerate the permitted exercise date of any installment of any Option granted to any employee as an ISO (and not previously converted into a Non-Qualified Option pursuant to paragraph 16) if such acceleration would violate the annual vesting limitation contained in Section 422(d) of the Code, as described in paragraph 6(C). 9. TERMINATION OF EMPLOYMENT. Unless otherwise specified in the agreement ------------------------- relating to such ISO, if an ISO optionee ceases to be employed by the Company and all Related Corporations other than by reason of death or disability as defined in paragraph 10, no further installments of his or her ISOs shall become exercisable, and his or her ISOs shall terminate on the earlier of (a) ninety (90) days after the date of termination of his or her employment, or (b) their specified expiration dates, except to the extent that such ISOs (or unexercised installments thereof) have been converted into Non-Qualified Options pursuant to paragraph 16. For purposes of this paragraph 9, employment shall be considered as -5- continuing uninterrupted during any bona fide leave of absence (such as those attributable to illness, military obligations or governmental service) provided that the period of such leave does not exceed 90 days or, if longer, any period during which such optionee's right to reemployment is guaranteed by statute. A bona fide leave of absence with the written approval of the Committee shall not be considered an interruption of employment under this paragraph 9, provided that such written approval contractually obligates the Company or any Related Corporation to continue the employment of the optionee after the approved period of absence. ISOs granted under the Plan shall not be affected by any change of employment within or among the Company and Related Corporations, so long as the optionee continues to be an employee of the Company or any Related Corporation. Nothing in the Plan shall be deemed to give any grantee of any Stock Right the right to be retained in employment or other service by the Company or any Related Corporation for any period of time. 10. DEATH; DISABILITY. ----------------- A. DEATH. If an ISO optionee ceases to be employed by the Company and ----- all Related Corporations by reason of his or her death, any ISO owned by such optionee may be exercised, to the extent otherwise exercisable on the date of death, by the estate, personal representative or beneficiary who has acquired the ISO by will or by the laws of descent and distribution, until the earlier of (i) the specified expiration date of the ISO or (ii) 180 days from the date of the optionee's death. B. DISABILITY. If an ISO optionee ceases to be employed by the Company ---------- and all Related Corporations by reason of his or her disability, such optionee shall have the right to exercise any ISO held by him or her on the date of termination of employment, for the number of shares for which he or she could have exercised it on that date, until the earlier of (i) the specified expiration date of the ISO or (ii) 180 days from the date of the termination of the optionee's employment. For the purposes of the Plan, the term "disability" shall mean "permanent and total disability" as defined in Section 22(e)(3) of the Code or any successor statute. 11. ASSIGNABILITY. No Stock Right shall be assignable or transferable by ------------- the grantee except by will, by the laws of descent and distribution or, in the case of Non-Qualified Options only, pursuant to a valid domestic relations order. Except as set forth in the previous sentence, during the lifetime of a grantee each Stock Right shall be exercisable only by such grantee. 12. TERMS AND CONDITIONS OF OPTIONS. Options shall be evidenced by ------------------------------- instruments (which need not be identical) in such forms as the Committee may from time to time approve. Such instruments shall conform to the terms and conditions set forth in paragraphs 6 through 11 hereof and may contain such other provisions as the Committee deems advisable which are not inconsistent with the Plan, including restrictions applicable to shares of Common Stock issuable upon exercise of Options. The Committee may specify that any Non- Qualified Option shall be subject to the restrictions set forth herein with respect to ISOs, or to such other termination and cancellation provisions as the Committee may determine. The Committee may from time to time confer authority and responsibility on one or more of its own members and/or one or more officers of the Company to execute and deliver such instruments. The proper officers of the Company are authorized and directed to take any and all action necessary or advisable from time to time to carry out the terms of such instruments. 13. ADJUSTMENTS. Upon the occurrence of any of the following events, an ----------- optionee's rights with respect to Options granted to such optionee hereunder shall be adjusted as hereinafter provided, unless otherwise specifically provided in the written agreement between the optionee and the Company relating to such Option: -6- A. STOCK DIVIDENDS AND STOCK SPLITS. If the shares of Common Stock shall -------------------------------- be subdivided or combined into a greater or smaller number of shares or if the Company shall issue any shares of Common Stock as a stock dividend on its outstanding Common Stock, the number of shares of Common Stock deliverable upon the exercise of Options shall be appropriately increased or decreased proportionately, and appropriate adjustments shall be made in the purchase price per share to reflect such subdivision, combination or stock dividend. B. CONSOLIDATIONS OR MERGERS. If the Company is to be consolidated with ------------------------- or acquired by another entity in a merger, sale of all or substantially all of the Company's assets or otherwise (an "Acquisition"), the Committee or the board of directors of any entity assuming the obligations of the Company hereunder (the "Successor Board"), shall, as to outstanding Options, either (i) make appropriate provision for the continuation of such Options by substituting on an equitable basis for the shares then subject to such Options either (a) the consideration payable with respect to the outstanding shares of Common Stock in connection with the Acquisition, (b) shares of stock of the surviving corporation or (c) such other securities as the Successor Board deems appropriate, the fair market value of which shall not materially exceed the fair market value of the shares of Common Stock subject to such Options immediately preceding the Acquisition; or (ii) upon written notice to the optionees, provide that all Options must be exercised, to the extent then exercisable, within a specified number of days of the date of such notice, at the end of which period the Options shall terminate; or (iii) terminate all Options in exchange for a cash payment equal to the excess of the fair market value of the shares subject to such Options (to the extent then exercisable) over the exercise price thereof. C. RECAPITALIZATION OR REORGANIZATION. In the event of a ---------------------------------- recapitalization or reorganization of the Company (other than a transaction described in subparagraph B above) pursuant to which securities of the Company or of another corporation are issued with respect to the outstanding shares of Common Stock, an optionee upon exercising an Option shall be entitled to receive for the purchase price paid upon such exercise the securities he or she would have received if he or she had exercised such Option prior to such recapitalization or reorganization. D. MODIFICATION OF ISOS. Notwithstanding the foregoing, any adjustments -------------------- made pursuant to subparagraphs A, B or C with respect to ISOs shall be made only after the Committee, after consulting with counsel for the Company, determines whether such adjustments would constitute a "modification" of such ISOs (as that term is defined in Section 424 of the Code) or would cause any adverse tax consequences for the holders of such ISOs. If the Committee determines that such adjustments made with respect to ISOs would constitute a modification of such ISOs or would cause adverse tax consequences to the holders, it may refrain from making such adjustments. E. DISSOLUTION OR LIQUIDATION. In the event of the proposed dissolution -------------------------- or liquidation of the Company, each Option will terminate immediately prior to the consummation of such proposed action or at such other time and subject to such other conditions as shall be determined by the Committee. F. ISSUANCES OF SECURITIES. Except as expressly provided herein, no ----------------------- issuance by the Company of shares of stock of any class, or securities convertible into shares of stock of any class, shall affect, and no adjustment by reason thereof shall be made with respect to, the number or price of shares subject to Options. No adjustments shall be made for dividends paid in cash or in property other than securities of the Company. -7- G. FRACTIONAL SHARES. No fractional shares shall be issued under the ----------------- Plan and the optionee shall receive from the Company cash in lieu of such fractional shares. H. ADJUSTMENTS. Upon the happening of any of the events described in ----------- subparagraphs A, B or C above, the class and aggregate number of shares set forth in paragraph 4 hereof that are subject to Stock Rights which previously have been or subsequently may be granted under the Plan shall also be appropriately adjusted to reflect the events described in such subparagraphs. The Committee or the Successor Board shall determine the specific adjustments to be made under this paragraph 13 and, subject to paragraph 2, its determination shall be conclusive. 14. MEANS OF EXERCISING OPTIONS. An Option (or any part or installment --------------------------- thereof) shall be exercised by giving written notice to the Company at its principal office address, or to such transfer agent as the Company shall designate. Such notice shall identify the Option being exercised and specify the number of shares as to which such Option is being exercised, accompanied by full payment of the purchase price therefor either (a) in United States dollars in cash or by check, (b) at the discretion of the Committee, through delivery of shares of Common Stock having a fair market value equal as of the date of the exercise to the cash exercise price of the Option, (c) at the discretion of the Committee, by delivery of the grantee's personal recourse note bearing interest payable not less than annually at no less than 100% of the lowest applicable Federal rate, as defined in Section 1274(d) of the Code, (d) at the discretion of the Committee and consistent with applicable law, through the delivery of an assignment to the Company of a sufficient amount of the proceeds from the sale of the Common Stock acquired upon exercise of the Option and an authorization to the broker or selling agent to pay that amount to the Company, which sale shall be at the participant's direction at the time of exercise, or (e) at the discretion of the Committee, by any combination of (a), (b), (c) and (d) above. If the Committee exercises its discretion to permit payment of the exercise price of an ISO by means of the methods set forth in clauses (b), (c), (d) or (e) of the preceding sentence, such discretion shall be exercised in writing at the time of the grant of the ISO in question. The holder of an Option shall not have the rights of a shareholder with respect to the shares covered by such Option until the date of issuance of a stock certificate to such holder for such shares. Except as expressly provided above in paragraph 13 with respect to changes in capitalization and stock dividends, no adjustment shall be made for dividends or similar rights for which the record date is before the date such stock certificate is issued. 15. TERM AND AMENDMENT OF PLAN. This Plan was adopted by the Board on -------------------------- April 11, 1995, subject, with respect to the validation of ISOs granted under the Plan, to approval of the Plan by the stockholders of the Company at the next Meeting of Stockholders or, in lieu thereof, by written consent. If the approval of stockholders is not obtained prior to April 11, 1996, any grants of ISOs under the Plan made prior to that date will be rescinded. The Plan shall expire at the end of the day on April 10, 2005 (except as to Options outstanding on that date). Subject to the provisions of paragraph 5 above, Options may be granted under the Plan prior to the date of stockholder approval of the Plan. The Board may terminate or amend the Plan in any respect at any time, except that, without the approval of the stockholders obtained within 12 months before or after the Board adopts a resolution authorizing any of the following actions: (a) the total number of shares that may be issued under the Plan may not be increased (except by adjustment pursuant to paragraph 13); (b) the benefits accruing to participants under the Plan may not be materially increased; (c) the requirements as to eligibility for participation in the Plan may not be materially modified; (d) the provisions of paragraph 3 regarding eligibility for grants of ISOs may not be modified; (e) the provisions of paragraph 6(B) regarding the exercise price at which shares may be offered pursuant to ISOs may not be modified (except by adjustment pursuant to paragraph 13); (f) the expiration date of the Plan may not be extended; and (g) the Board may not take any action which would cause the Plan to fail to comply with Rule 16b-3. Except as otherwise provided -8- in this paragraph 15, in no event may action of the Board or stockholders alter or impair the rights of a grantee, without such grantee's consent, under any Option previously granted to such grantee. 16. CONVERSION OF ISOS INTO NON-QUALIFIED OPTIONS. The Committee, at the --------------------------------------------- written request or with the written consent of any optionee, may in its discretion take such actions as may be necessary to convert such optionee's ISOs (or any installments or portions of installments thereof) that have not been exercised on the date of conversion into Non-Qualified Options at any time prior to the expiration of such ISOs, regardless of whether the optionee is an employee of the Company or a Related Corporation at the time of such conversion. Such actions may include, but shall not be limited to, extending the exercise period or reducing the exercise price of the appropriate installments of such ISOs. At the time of such conversion, the Committee (with the consent of the optionee) may impose such conditions on the exercise of the resulting Non- Qualified Options as the Committee in its discretion may determine, provided that such conditions shall not be inconsistent with this Plan. Nothing in the Plan shall be deemed to give any optionee the right to have such optionee's ISOs converted into Non-Qualified Options, and no such conversion shall occur until and unless the Committee takes appropriate action. 17. APPLICATION OF FUNDS. The proceeds received by the Company from the -------------------- sale of shares pursuant to Options granted and Purchases authorized under the Plan shall be used for general corporate purposes. 18. NOTICE TO COMPANY OF DISQUALIFYING DISPOSITION. By accepting an ISO ---------------------------------------------- granted under the Plan, each optionee agrees to notify the Company in writing immediately after such optionee makes a Disqualifying Disposition (as described in Sections 421, 422 and 424 of the Code and regulations thereunder) of any stock acquired pursuant to the exercise of ISOs granted under the Plan. A Disqualifying Disposition is generally any disposition occurring on or before the later of (a) the date two years following the date the ISO was granted or (b) the date one year following the date the ISO was exercised. 19. WITHHOLDING OF ADDITIONAL INCOME TAXES. Upon the exercise of a Non- -------------------------------------- Qualified Option, the grant of an Award, the making of a Purchase of Common Stock for less than its fair market value, the making of a Disqualifying Disposition (as defined in paragraph 18), the vesting or transfer of restricted stock or securities acquired on the exercise of an Option hereunder, or the making of a distribution or other payment with respect to such stock or securities, the Company may withhold taxes in respect of amounts that constitute compensation includable in gross income. The Committee in its discretion may condition (i) the exercise of an Option, (ii) the grant of an Award, (iii) the making of a Purchase of Common Stock for less than its fair market value, or (iv) the vesting or transferability of restricted stock or securities acquired by exercising an Option, on the grantee's making satisfactory arrangement for such withholding. Such arrangement may include payment by the grantee in cash or by check of the amount of the withholding taxes or, at the discretion of the Committee, by the grantee's delivery of previously held shares of Common Stock or the withholding from the shares of Common Stock otherwise deliverable upon exercise of a Option shares having an aggregate fair market value equal to the amount of such withholding taxes. 20. GOVERNMENTAL REGULATION. The Company's obligation to sell and deliver ----------------------- shares of the Common Stock under this Plan is subject to the approval of any governmental authority required in connection with the authorization, issuance or sale of such shares. -9- Government regulations may impose reporting or other obligations on the Company with respect to the Plan. For example, the Company may be required to send tax information statements to employees and former employees that exercise ISOs under the Plan, and the Company may be required to file tax information returns reporting the income received by grantees of Options in connection with the Plan. 21. GOVERNING LAW. The validity and construction of the Plan and the ------------- instruments evidencing Options shall be governed by the laws of the State of Delaware, or the laws of any jurisdiction in which the Company or its successors in interest may be organized. Date Approved by the Board of Directors of the Company: April 11, 1995 Date Approved by Stockholders of the Company: April 19, 1995 Amended and restated by the Board of Directors of the Company: January 25, 1996. Amended and restated by the Board of Directors of the Company: March 6, 1997. EX-11 3 COMPUTATION OF EARNINGS PER SHARE Exhibit 11 ---------- TRANSWITCH CORPORATION COMPUTATION OF EARNINGS PER SHARE (1) (in thousands, except per share data) Twelve Months ended December 31, ------------------ 1996 1995 1994 ---- ---- ---- Primary (2) Weighted average number of common shares outstanding (5) $ 11,751 $ 9,996 $ 923 Conversion of common equivalents issued during the twelve month period prior to the initial public offering (3) 0 66 198 Common Stock Equivalents - - - --------- -------- -------- Weighted average common shares and equivalents 11,751 10,062 1,121 Conversion of preferred stock to Common Stock (4) - - 7,010 Conversion of preferred stock to Common Stock (4) - - 16 Pro forma weighted average Common Stock and equivalents 11,751 10,062 8,147 Net loss $(10,077) $(1,769) $(3,937) - -------- --------- -------- -------- Net loss per share $ (0.86) $ (0.18) $ (3.51) Pro forma net loss per share $ (0.86) $ (0.18) $ (0.48) - ---------------------------- --------- --------- -------- - ----------- (1) This exhibit should be read in connection with "Stockholders' Equity and Loss Per Share" in Note 1 of the notes to the Consolidated Financial Statements. (2) Fully diluted per share amounts are the same as primary. (3) Pursuant to the requirements of the Securities and Exchange Commission, Common Stock and common stock equivalents issued during twelve month period prior to the Company's initial public offering have been included in the calculation (using the treasury stock method and the price of $10.00 per share) as if they were outstanding for all periods presented whether they are anti-dilutive or not. (4) Pro forma weighted average Common Stock and equivalents assumes conversion of Preferred Stock warrants and Preferred Stock to Common Stock. (5) The 1995 weighted average common shares outstanding include the Preferred Stock converted to Common Stock as having been converted into Common Stock at the beginning of the period. EX-21.1 4 SUBSIDIARY OF THE COMPANY EXHIBIT 21.1 ------------ Subsidiary of the Company Name Jurisdiction TranSwitch Europe N.V./S.A. Belgium EX-23.1 5 CONSENT OF KPMG PEAT MARWICK LLP REPORT AND CONSENT OF INDEPENDENT AUDITORS The Board of DirectorsTranSwitch Corporation: The audits referred to in our report dated February 11, 1997, included the related financial statement schedule as of December 31, 1996, and for each of the years in the three-year period ended December 31, 1996, included in the Company's annual report on Form 10-K. This financial statement schedule is the responsibility of the Company's management. Our responsibility is to express an opinion on this financial statement schedule based on our audits. In our opinion, such financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly in all material respects the information set forth therein. We consent to the use of our reports included here in and incorporated by reference in the registration statements (No. 33-94234 and No. 333-03607) on Form S-8 of TranSwitch Corporation relating to the consolidated balance sheets of TranSwitch Corporation and subsidiary as of December 31, 1996, and 1995, and the related consolidated statements of operations, stockholders' equity (deficit), and cash flows for each of the years in the three-year period ended December 31, 1996, and the related schedule, which reports appear in the December 31, 1996, annual report on Form 10-K of TranSwitch Corporation. KPMG Peat Marwick LLP Stamford, Connecticut March 25, 1997 EX-27.1 6 FINANCIAL DATA SCHEDULE
5 1,000 3-MOS 12-MOS DEC-31-1996 DEC-31-1996 OCT-01-1996 JAN-01-1996 DEC-31-1996 DEC-31-1996 3,911 3,911 8,777 8,777 3,033 3,033 140 140 3,524 3,524 19,410 19,410 6,810 6,810 4,163 4,163 23,311 23,311 4,760 4,760 0 0 0 0 0 0 12 12 17,287 17,287 23,311 23,311 4,190 19,248 4,190 19,650 6,094 13,806 4,951 16,611 0 0 0 0 23 129 (6,751) (10,077) 0 0 0 0 0 0 0 0 0 0 (6,751) (10,077) (.57) (.86) (.57) (.86)
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