-----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, Vnz0Q5xIewgFatFo9aamOHXx5SUwR2gtvK/7c3k8JuJrnM0u1aUXKbs9GFHBOccn wzzFVVgjfXm45NMV2kYLfA== 0000912057-96-029639.txt : 19961219 0000912057-96-029639.hdr.sgml : 19961219 ACCESSION NUMBER: 0000912057-96-029639 CONFORMED SUBMISSION TYPE: SB-2 PUBLIC DOCUMENT COUNT: 23 FILED AS OF DATE: 19961218 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: DAOU SYSTEMS INC CENTRAL INDEX KEY: 0001003989 STANDARD INDUSTRIAL CLASSIFICATION: [] FILING VALUES: FORM TYPE: SB-2 SEC ACT: 1933 Act SEC FILE NUMBER: 333-18155 FILM NUMBER: 96682774 BUSINESS ADDRESS: STREET 1: 5120 SHOREHAM PL CITY: SAN DIEGO STATE: CA ZIP: 92122 BUSINESS PHONE: 6196462996 MAIL ADDRESS: STREET 1: 5120 SHOREHAM PL CITY: SAN DIEGO STATE: CA ZIP: 92122 SB-2 1 SB-2 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON DECEMBER 18, 1996 REGISTRATION STATEMENT NO. 333- - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ---------------- FORM SB-2 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 -------------- DAOU SYSTEMS, INC. (Name of Small Business Issuer in Its Charter) DELAWARE 5995 330284454 (State or other jurisdiction (Primary Standard (I.R.S. Employer of incorporation or Industrial Identification No.) organization) Classification Code Number)
---------------- 5120 SHOREHAM PLACE SAN DIEGO, CALIFORNIA 92122 (619) 452-2221 (Address and telephone number of principal executive offices and principal place of business) ---------------- DANIEL J. DAOU PRESIDENT 5120 SHOREHAM PLACE SAN DIEGO, CALIFORNIA 92122 (619) 452-2221 (Name, address and telephone number of Agent for Service) ---------------- COPIES TO: JOHN J. HENTRICH, ESQ. FREDERICK T. MUTO, ESQ. CARLOS D. HEREDIA, ESQ. JEREMY D. GLASER, ESQ. BAKER & MCKENZIE COOLEY GODWARD LLP 101 WEST BROADWAY, TWELFTH FLOOR 4365 EXECUTIVE DRIVE, SUITE 1100 SAN DIEGO, CALIFORNIA 92101 SAN DIEGO, CALIFORNIA 92037 (619) 236-1441 (619) 550-6045
---------------- APPROXIMATE DATE OF PROPOSED SALE TO THE PUBLIC: AS SOON AS PRACTICABLE AFTER THIS REGISTRATION STATEMENT BECOMES EFFECTIVE. If this Form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. / / If the Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. / / If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. / / ---------------- CALCULATION OF REGISTRATION FEE
PROPOSED MAXIMUM AMOUNT PROPOSED MAXIMUM AGGREGATE TITLE OF EACH CLASS OF TO BE OFFERING PRICE OFFERING AMOUNT OF SECURITIES TO BE REGISTERED REGISTERED(1) PER SHARE(2) PRICE(1)(2) REGISTRATION FEE Common Stock, par value $0.001 per share.................................... 4,427,500 $14.00 $61,985,000 $18,784
(1) Includes 577,500 shares of Common Stock subject to an over-allotment option granted to the Underwriters. (2) Estimated solely for the purposes of calculating the registration fee in accordance with Rule 457(a). ---------------- THE REGISTRATION HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THIS REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(A) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION, ACTING PURSUANT TO SAID SECTION 8(A), MAY DETERMINE. - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SUBJECT TO COMPLETION INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF ANY SUCH STATE. DECEMBER 18, 1996 3,850,000 SHARES [LOGO] COMMON STOCK --------- Of the 3,850,000 shares of Common Stock (the "Common Stock") offered hereby, 2,900,000 shares are being sold by DAOU Systems, Inc. ("DAOU" or the "Company"), and 950,000 shares are being sold by the Selling Stockholders named herein under "Principal and Selling Stockholders" (the "Selling Stockholders"). The Company will not receive any of the proceeds from shares sold by the Selling Stockholders. Prior to this offering, there has been no public market for the Common Stock. It is currently estimated that the initial public offering price will be between $12.00 and $14.00 per share. See "Underwriting" for a discussion of the factors to be considered in determining the initial public offering price. Application has been made for quotation of the Common Stock on the Nasdaq National Market under the symbol DAOU. -------------- THE COMMON STOCK OFFERED HEREBY INVOLVES A HIGH DEGREE OF RISK. SEE "RISK FACTORS" COMMENCING ON PAGE 5. ------------- THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE.
PRICE UNDERWRITING PROCEEDS TO TO DISCOUNTS AND PROCEEDS TO SELLING PUBLIC COMMISSIONS(1) COMPANY(2) STOCKHOLDERS Per Share..................... $ $ $ $ Total(3)...................... $ $ $ $
(1) See "Underwriting" for indemnification arrangements with the several Underwriters. (2) Before deducting expenses of the offering estimated at $500,000. (3) The Company has granted the Underwriters a 30-day option to purchase up to 577,500 additional shares of Common Stock solely to cover over-allotments, if any. To the extent that the option is exercised, the Underwriters will offer the additional shares at the Price to Public shown above. If the option is exercised in full, the total Price to Public, Underwriting Discounts and Commissions, and Proceeds to the Company will be $ , $ and $ , respectively. See "Underwriting." -------------- The shares of Common Stock are offered by the several Underwriters, subject to prior sale, when, as and if delivered to and accepted by them, and subject to the right of the Underwriters to reject any order in whole or in part. It is expected that delivery of the shares of Common Stock will be made at the offices of Alex. Brown & Sons Incorporated, Baltimore, Maryland on or about February , 1997. ALEX. BROWN & SONS INCORPORATED COWEN & COMPANY HAMBRECHT & QUIST THE DATE OF THIS PROSPECTUS IS FEBRUARY , 1997. [INSIDE FRONT COVER PAGE] PHOTOGRAPH DESCRIPTIONS AND CAPTIONS 1. Top border: DAOU masthead and logo in color. Caption: Healthcare Information Technology Solutions -- DAOU Systems designs, implements, supports and manages computer network systems for large, complex healthcare provider organizations, such as integrated delivery systems. Advanced computer networks enable provider organizations to access information such as patient records, X-rays and billing information at each location where care is provided. 2. Center left side: Color photo of DAOU engineer configuring a network of computer servers at DAOU's on-site computer lab. Caption: Network Services -- The Company combines its knowledge of the specialized information needs of the healthcare industry with its expertise in computer technology to design and install advanced, reliable and cost-effective computer network solutions. The Company uses the products and applications of various hardware and software vendors to create advanced computer network systems. - Network Design - Network Implementation 3. Bottom right side corner: Color photo of individual viewing Palomar-Palmerado Health System's website which was created by the Company. Caption: Network Management Services -- As computer networks become increasingly complex, provider organizations are experiencing difficulties in hiring, training and retaining qualified personnel who can maintain the performance of their computer network systems. DAOU's network management services are designed to continuously monitor and enhance the efficiency and functionality of a provider organization's computer network system. The Company offers the following management services to its customers: - Enterprise Network Management Services - DAOU Employees On-Site - Continuous Network Planning - "Burst Mode" Implementation - Network Support - I/S Outsourcing IN CONNECTION WITH THIS OFFERING, THE UNDERWRITERS MAY OVER-ALLOT OR EFFECT TRANSACTIONS WHICH STABILIZE OR MAINTAIN THE MARKET PRICE OF THE COMMON STOCK OF THE COMPANY AT A LEVEL ABOVE THAT WHICH MIGHT OTHERWISE PREVAIL IN THE OPEN MARKET. SUCH TRANSACTIONS MAY BE EFFECTED ON THE NASDAQ NATIONAL MARKET, IN THE OVER-THE-COUNTER MARKET OR OTHERWISE. SUCH STABILIZING, IF COMMENCED, MAY BE DISCONTINUED AT ANY TIME. DAOU-SM- AND THE DAOU LOGO ARE SERVICE MARKS OF THE COMPANY. TRADEMARKS AND SERVICE MARKS OF OTHER COMPANIES ARE ALSO REFERRED TO IN THIS PROSPECTUS. 2 PROSPECTUS SUMMARY THE FOLLOWING SUMMARY IS QUALIFIED IN ITS ENTIRETY BY THE MORE DETAILED INFORMATION AND FINANCIAL STATEMENTS AND NOTES THERETO APPEARING ELSEWHERE IN THIS PROSPECTUS. THIS PROSPECTUS CONTAINS CERTAIN STATEMENTS OF A FORWARD-LOOKING NATURE RELATING TO FUTURE EVENTS OR THE FUTURE FINANCIAL PERFORMANCE OF THE COMPANY. PROSPECTIVE INVESTORS ARE CAUTIONED THAT SUCH STATEMENTS ARE ONLY PREDICTIONS AND THAT ACTUAL EVENTS OR RESULTS MAY DIFFER MATERIALLY. IN EVALUATING SUCH STATEMENTS, PROSPECTIVE INVESTORS SHOULD SPECIFICALLY CONSIDER THE VARIOUS FACTORS IDENTIFIED IN THIS PROSPECTUS, INCLUDING THE MATTERS SET FORTH UNDER THE CAPTION "RISK FACTORS," WHICH COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE INDICATED BY SUCH FORWARD-LOOKING STATEMENTS. DAOU Systems, Inc. ("DAOU" or the "Company") designs, implements, supports and manages advanced computer network systems for hospitals, integrated healthcare delivery systems ("IDSs"), and other healthcare provider organizations ("provider organizations"). DAOU combines its knowledge of the specialized information needs of the healthcare industry with its technological expertise in computer network systems to provide advanced, reliable and cost-effective computer network solutions to provider organizations. The Company believes that its success is attributable to its healthcare industry focus, depth and breadth of technological expertise, ability to objectively evaluate its customers' computer network systems due to its vendor independence and its history of successful customer engagements. Since 1987, the Company has provided computer network services to over 350 customers ranging in size from single-site organizations to multi-state organizations with over 80 sites. The Company's customers include Catholic Medical Center of Brooklyn and Queens, Inc., New York; Mercy Health Services, Farmington Hills, Michigan; Atlantic Health System, Morristown, New Jersey; Lutheran Health Systems, Fargo, North Dakota; Candler Health System, Savannah, Georgia; and St. Mary's Health Network, Reno, Nevada. Pressure to control escalating healthcare costs is causing healthcare providers to consolidate and form multi-entity provider organizations such as IDSs. This consolidation has resulted in the need for prompt access to consistent and comprehensive patient information at multiple locations where care is provided. The existing information systems in these provider organizations are frequently inadequate because they were developed to meet the needs of a single facility, such as a hospital or an outpatient surgery center. In addition, the increasing variety of hardware and software applications utilized throughout provider organizations has resulted in connectivity and compatibility problems for many computer networks. Consequently, provider organizations have found it increasingly difficult to internally implement and manage their computer network systems and are looking to third parties for the technological expertise and personnel to meet their information systems requirements. DAOU believes that the ongoing consolidation among healthcare provider organizations and the increasing complexity and rapid evolution of computer network system technologies have created a significant opportunity for companies specializing in providing computer network system solutions to provider organizations. DAOU offers a broad array of services to assist hospitals, IDSs and other provider organizations in designing, implementing, supporting and managing complex computer network systems consistent with their unique and changing information needs. The Company's design services include an assessment of the customer's existing computer network system and the preparation of voice, video and data network specifications, technical design documentation and diagrams. DAOU's implementation services include the purchase, delivery and installation of enterprise-wide computer network systems. The Company's support and management services include remote and on-site network management services, as well as information systems outsourcing ("I/S outsourcing"), and are typically provided under multi-year contracts. The Company provides network support services to its customers through its regional sales and support structure and a 24-hour technical support hotline available seven days a week. DAOU typically provides its services on a fixed-price, fixed-time frame basis. DAOU's strategy is to be a leading provider of advanced computer network systems and network management services to healthcare provider organizations by continuing to focus its sales and marketing efforts on major medical centers and hospitals around which IDSs are forming, expanding and developing services that complement its existing services, and continuing to develop its expertise in emerging technologies. 3 THE OFFERING Common Stock offered by the Company............. 2,900,000 shares Common Stock offered by the Selling 950,000 shares Stockholders.................................. Common Stock to be outstanding after the 11,167,678 shares (1) offering...................................... Use of proceeds................................. Working capital and other general corporate purposes. Proposed Nasdaq National Market symbol.......... DAOU
SUMMARY FINANCIAL INFORMATION (IN THOUSANDS, EXCEPT PER SHARE DATA)
NINE MONTHS ENDED YEARS ENDED DECEMBER 31, SEPTEMBER 30, ------------------------------------------------------ --------------------- 1991 1992 1993 1994 1995 1995 1996 --------- --------- --------- --------- ---------- --------- ---------- STATEMENT OF OPERATIONS DATA: Revenues..................................... $ 2,480 $ 2,728 $ 3,483 $ 8,521 $ 14,330 $ 7,084 $ 12,357 Gross profit................................. 1,168 947 1,161 2,336 5,855 3,219 3,707 Income (loss) from operations................ 67 1 (54) 33 2,024 586 (230) Net income (loss)............................ 84 5 (52) 26 1,240 533 (46) Pro forma net income (loss) per share(2)..... $ 0.17 $ (0.01) Shares used in computing pro forma net income (loss) per share(2)........................ 7,495 8,808
SEPTEMBER 30, 1996 ----------------------- AS ACTUAL ADJUSTED(3) --------- ------------ BALANCE SHEET DATA: Cash, cash equivalents and short-term investments..................................... $ 3,655 $ 38,216 Total assets.......................................................................... 11,468 46,029 Long-term debt, less current portion.................................................. -- -- Redeemable preferred stock............................................................ 8,068 -- Total stockholders' equity............................................................ 777 43,406
- -------------- (1) Excludes (i) 829,173 shares of Common Stock issuable upon exercise of stock options outstanding under the Company's 1996 Stock Option Plan with a weighted average exercise price of $4.53 per share at November 30, 1996 and (ii) 133,285 shares of Common Stock issuable upon exercise of outstanding warrants at an exercise price of $4.99 per share. See "Management -- 1996 Stock Option Plan," "Certain Transactions," "Description of Capital Stock" and Notes 6 and 9 of Notes to Financial Statements. (2) See Note 1 of Notes to Financial Statements for information concerning the calculation of pro forma net income (loss) per share. (3) Adjusted to give effect to the conversion of all outstanding shares of the Company's Preferred Stock into 1,603,430 shares of Common Stock upon the completion of this offering and to the estimated net proceeds of this offering based upon an assumed initial public offering price of $13.00 per share. See "Use of Proceeds." -------------- EXCEPT AS OTHERWISE SPECIFIED, ALL INFORMATION IN THIS PROSPECTUS ASSUMES NO EXERCISE OF THE UNDERWRITERS' OVER-ALLOTMENT OPTION. SEE "UNDERWRITING." EXCEPT AS SET FORTH IN THE FINANCIAL STATEMENTS AND AS OTHERWISE NOTED, ALL INFORMATION IN THIS PROSPECTUS HAS BEEN ADJUSTED TO GIVE EFFECT TO THE REINCORPORATION OF THE COMPANY IN DELAWARE PRIOR TO THE COMPLETION OF THIS OFFERING AND THE CONVERSION OF ALL OUTSTANDING SHARES OF PREFERRED STOCK INTO COMMON STOCK UPON THE COMPLETION OF THIS OFFERING. SEE "CAPITALIZATION" AND "DESCRIPTION OF CAPITAL STOCK." 4 RISK FACTORS IN ADDITION TO THE OTHER INFORMATION IN THIS PROSPECTUS, THE FOLLOWING FACTORS SHOULD BE CONSIDERED CAREFULLY IN EVALUATING AN INVESTMENT IN THE SHARES OF COMMON STOCK OFFERED BY THIS PROSPECTUS. THIS PROSPECTUS CONTAINS CERTAIN STATEMENTS OF A FORWARD-LOOKING NATURE RELATING TO FUTURE EVENTS OR THE FUTURE FINANCIAL PERFORMANCE OF THE COMPANY. PROSPECTIVE INVESTORS ARE CAUTIONED THAT SUCH STATEMENTS ARE ONLY PREDICTIONS AND THAT ACTUAL EVENTS OR RESULTS MAY DIFFER MATERIALLY. IN EVALUATING SUCH STATEMENTS, PROSPECTIVE INVESTORS SHOULD SPECIFICALLY CONSIDER THE VARIOUS FACTORS IDENTIFIED IN THIS PROSPECTUS, INCLUDING THE MATTERS SET FORTH BELOW, WHICH COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE INDICATED BY SUCH FORWARD-LOOKING STATEMENTS. MANAGEMENT OF GROWTH. The Company is currently experiencing a period of rapid growth which has placed significant and increasing demands on the Company's management and operational, technical, financial and other resources. The Company's revenues increased 68% in 1995, from $8.5 million in 1994 to $14.3 million in 1995. Revenues for the nine months ended September 30, 1995 and 1996 were $7.1 million and $12.4 million, respectively, which represents an increase of 74%. In addition, since January 1, 1995, the Company's workforce increased from 78 to 124 full-time employees as of November 30, 1996. Further increases in staffing levels are expected during 1997 although the Company does not believe that these rates of growth are sustainable. This growth has resulted in new and increased responsibilities for management personnel and has placed significant demands on the Company's management and operating and financial systems. The Company will be required to continue to develop and improve its operational, financial and other internal systems to accommodate the increased number of transactions and customers and the increased size of the Company's operations, workforce and facilities. There can be no assurance, however, that the Company's management or systems will be adequate to support the Company's existing or future operations. Any failure to develop and improve the Company's systems or to hire and retain appropriate personnel to manage its operations could have a material adverse effect on the Company's business, financial condition and results of operations. In addition, any future unexpected shortfall in revenues without a corresponding and timely reduction in staffing and other expenses (or redeployment of employees to other customer projects), or any staffing increase that is unaccompanied by a corresponding increase in revenues, could have a material adverse effect on the Company's business, financial condition and results of operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." NEED TO ATTRACT AND RETAIN KEY EMPLOYEES AND QUALIFIED NETWORK ENGINEERS. The Company's success and execution of its business strategy will depend in large part on the continued services of its key management and technical personnel. The loss of the services of one or more of the Company's key employees or the inability to hire additional key personnel as needed could have a material adverse effect on the Company's business, financial condition and results of operations. The Company's business involves the delivery of computer network services and is labor-intensive. As a result, its future success will depend in large part on its ability to hire, train and retain qualified network engineers who together have expertise in a wide array of network and computer systems and a broad understanding of the provider organizations that the Company serves. Competition for qualified network engineers is intense and is expected to increase. In particular, competition is intense for the limited number of qualified management personnel and senior network engineers. There can be no assurance that the Company will be successful in attracting and retaining such personnel. While the Company is currently experiencing low rates of turnover, there can be no assurance that these rates of turnover will not increase in the future. Any inability of the Company to hire, train and retain a sufficient number of qualified network engineers could impair the Company's ability to adequately manage and complete its existing projects or to obtain new projects, which, in turn, could have a material adverse effect on the Company's business, financial condition and results of operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business -- Recruiting and Training of Technical Employees." 5 VARIABILITY OF QUARTERLY OPERATING RESULTS. A substantial majority of the Company's operating expenses, particularly personnel and related costs, depreciation and rent, are relatively fixed in advance of any particular quarter. However, variations in the Company's revenues and operating results may occur from time to time, as a result of various factors, including: (i) the reduction in size, delay in commencement, interruption or termination of one or more significant projects or contracts; (ii) the commencement or completion during a quarter of one or more significant projects; (iii) the failure to estimate accurately the resources required to complete new or ongoing projects; (iv) the relatively longer sales cycle in obtaining new customers and larger contracts; (v) the timing and extent of employee training or the loss of key employees; (vi) competition; (vii) the development and introduction of new services; and (viii) general economic conditions which may affect the buying decisions of the Company's current and prospective customers. In addition, the Company plans to continue to expand its operations by hiring additional network engineers and other employees, and adding new offices, systems and other infrastructure. The resulting increase in operating expenses will generally be incurred prior to any increase in revenues. Consequently, the Company's business, financial condition and results of operations would be materially and adversely affected if revenues do not increase to support such expenses. A variation in the timing of the commencement or completion of customer assignments, particularly at or near the end of any quarter, may cause significant variations in operating results from quarter to quarter and could result in losses for a particular quarter. In addition, an unanticipated delay or termination of a major project could require the Company to maintain or terminate under-utilized employees which could, in either case, result in higher than expected expenses during a quarter. The Company believes that quarterly revenues and operating results are likely to vary significantly in the future and that period-to-period comparisons of its revenues and operating results are not necessarily meaningful and should not be relied on as indications of future performance. Furthermore, these variations in revenues and operating results could cause significant variations in the price of the Company's Common Stock. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." CUSTOMER CONCENTRATION. The Company has derived, and believes that it will continue to derive, a significant portion of its revenues from a relatively limited number of large customer contracts. During the first nine months of 1996, the Company's five largest customers accounted for approximately 64% of total revenues, with Mercy Health Services ("Mercy"), Candler Health System ("Candler"), Atlantic Health System ("Atlantic"), and Catholic Medical Center of Brooklyn and Queens, Inc. ("CMC") accounting for approximately 20%, 16%, 11% and 10% of such revenues, respectively. In 1995, the Company's five largest customers accounted for approximately 77% of total revenues, with Mercy and Candler accounting for approximately 48% and 11% of such revenues, respectively. The volume of work performed for specific customers is likely to vary from year to year, and a major customer in one year may not provide the same level of revenues in any subsequent year. In particular, the annual revenues under the Company's five-year contract with Candler are subject to annual budgetary approval and may decrease from year to year. The loss of any large customer could have a material adverse effect on the Company's business, financial condition and results of operations. See "Risk Factors -- Consolidation and Uncertainty in the Healthcare Industry" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." PROJECT RISKS. The Company's computer network systems are designed to provide access to and accurate delivery of a wide range of information within a provider organization, including information used by clinicians in the diagnosis and treatment of patients. Many of the Company's projects are critical to the operation of its customers' businesses and, therefore, the Company may expose itself to potentially adverse risks in the event that the Company's services do not meet the desired expectations of its customers. For example, the failure to perform services that meet a customer's expectations may result in the Company not being paid for services rendered and may damage the Company's reputation and adversely affect its ability to attract new business. In addition, any failure by the Company's computer network systems to provide accurate, reliable and timely information could result in claims against the Company. For example, where the unavailability of such information to a provider of healthcare services is alleged to have resulted in any physical or emotional injury to a patient, such provider may become subject to a medical malpractice, product liability or other claim. The Company could then become 6 subject to a claim relating to its installation or management of a computer network system. The Company is also subject to claims by its customers for actions of the Company's employees which may have caused damages to customers' businesses or otherwise. Although the Company maintains errors or omissions insurance, there can be no assurance that such insurance coverage would adequately cover any claims asserted against the Company and any such claim could have a material adverse effect on the Company's business, financial condition and results of operations. In addition, there can be no assurance that the Company will not be subject to claims that will result in liability in excess of its insurance coverage or that appropriate insurance will continue to be available to the Company in the future at commercially reasonable rates. See "Business -- Information Technology Services." LONG SALES AND PROJECT DELIVERY CYCLES. The Company's sales process is often subject to delays associated with the lengthy approval process that typically accompanies significant capital expenditures by a customer. During this process, the Company expends substantial time, effort and resources marketing its services, preparing contract proposals and negotiating contracts. Any failure by the Company to procure a signed contract after expending significant time, effort and resources could have a material adverse effect on the Company's business, financial condition and results of operations. The delivery of computer network services generally requires a significant commitment of resources by the Company and by the customer. The length of time required to complete a project may depend on many factors outside the control of the Company, including the state of the customer's existing information systems, budgetary constraints and the customer's ability to commit the personnel and other resources necessary to complete elements of the project for which the customer is responsible. In certain instances, projects have been prolonged substantially as a result of delays attributable to customers. The Company's contracts with certain of its customers provide for a reduction in the implementation fee if, among other things, the Company fails to meet certain milestones on a timely basis. Consequently, the failure of the Company to deliver its services on a timely and cost-efficient basis could have a material adverse effect on the Company's business, financial condition and results of operations. See "Business -- Sales and Marketing" and "Management's Discussion and Analysis of Financial Condition and Results of Operations." COMPETITION. The healthcare network services industry is comprised of a large number of participants and is subject to rapid change and intense competition. The Company's competitors include system integrators, value added resellers ("VARs"), consulting companies, local and regional network services firms, telecommunications providers and network equipment, computer systems and healthcare software vendors, many of which have significantly greater financial, technical and marketing resources and greater name recognition than does the Company. In particular, the Company competes with (i) large information technology companies such as Hewlett-Packard Company ("Hewlett-Packard"), Electronic Data Systems Corporation ("EDS"), and Integrated Systems Solutions Corporation, a subsidiary of International Business Machines Corporation ("IBM"); (ii) healthcare information technology companies such as HBO & Company; and (iii) smaller regional network systems firms. In addition, the Company has faced, and expects to continue to face, additional competition from new entrants into its markets. Other healthcare information technology companies not presently offering or emphasizing network systems services and large network services companies not currently focusing on healthcare may enter the Company's markets. Increased competition could result in price reductions, fewer customer projects, under-utilization of employees, reduced operating margins and loss of market share, any of which could materially and adversely affect the Company's business, financial condition and results of operations. There can be no assurance that the Company will be able to compete successfully against current and future competitors. The failure of the Company to compete successfully would have a material adverse effect on the Company's business, financial condition and results of operations. In addition, most of the Company's customers have internal network support and service capabilities and could choose to satisfy their needs through internal resources rather than through outside service providers. As a result, the decision by the Company's customers or potential customers to perform network services internally could have a material adverse effect on the Company's business, financial condition and results of operations. See "Business -- Competition." 7 FIXED-PRICE, FIXED-TIME FRAME CONTRACTS. The Company offers the majority of its computer network systems services on a fixed-price, fixed-time frame basis, rather than on a time-and-expense basis. Consequently, the Company bears the risk of cost over-runs in connection with these projects. The Company's failure to estimate accurately the resources and time required for a project or its failure to complete its contractual obligations within the fixed-time frame committed could have a material adverse effect on the Company's business, financial condition and results of operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." CONTRACT CANCELLATION RIGHTS; ABSENCE OF LONG-TERM CONTRACTS. Although the Company enters into agreements with certain of its customers which contemplate multi-year contract terms, the Company's customers are generally able to reduce or cancel their use of the Company's services before the end of the contract term. As a result, the Company believes that the number and size of its existing projects are not reliable indicators or measures of future revenues. In addition, the Company has in the past provided, and is likely in the future to provide, services to customers without long-term contracts. When a customer defers, modifies or cancels a project, the Company must be able to rapidly redeploy network engineers and other personnel to other projects in order to minimize the under-utilization of employees and the resulting adverse impact on operating results. In addition, the Company's operating expenses are relatively fixed and cannot be reduced on short notice to compensate for unanticipated variations in the number or size of projects in progress. As a result, any termination, significant reduction or modification of its business relationships with any of its significant customers or with a number of smaller customers could have a material adverse effect on the Company's business, financial condition and results of operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business -- Sales and Marketing." CONSOLIDATION AND UNCERTAINTY IN THE HEALTHCARE INDUSTRY. Substantially all of the Company's revenues are derived from customers involved in the healthcare industry. As a result, the Company's business, financial condition and results of operations are influenced by conditions affecting this industry. Many provider organizations are consolidating to create larger organizations with greater regional market power and are forming affiliations for purchasing products and services. This consolidation could reduce the Company's target market and result in the termination of certain engagements of the Company. In particular, this consolidation has resulted, and is likely to continue to result, in the acquisition of certain of the Company's customers, and such customers may scale back or terminate their relationship with the Company following their acquisition. For example, Candler, the Company's first I/S outsourcing customer, recently signed a letter of intent with St. Joseph's Hospital to form a joint operating company. The Company anticipates that the chief executive officer of St. Joseph's Hospital will manage the surviving entity. The Company believes that it will likely continue its I/S outsourcing contract with Candler, due in large part to its successful engagement with Candler and a contractual penalty of $600,000 payable to the Company in the event of the early termination of this contract due to Candler's merger with St. Joseph's Hospital. There can be no assurance, however, that the surviving entity will continue its business relationship with the Company. Moreover, these consolidating and affiliating enterprises could also have greater bargaining power which could lead to reductions in the amounts paid to the Company for its services. The reduction in the size of the Company's target market or the failure of the Company to maintain adequate price levels could have a material adverse effect on the Company's business, financial condition and results of operations. The healthcare industry is also subject to changing political, economic and regulatory influences that may affect the procurement practices and operations of participants in the healthcare industry. The Company cannot predict with any certainty what impact, if any, these developments could have on its business, financial condition and results of operations. See "Business -- Industry Overview." RAPID TECHNOLOGICAL CHANGE. The Company has derived, and expects to continue to derive, substantially all of its revenues from projects based on complex computer networks. The markets for computer network products and services are continuing to develop and are subject to rapid change. The Company's success will depend in part on its ability to offer services that keep pace with continuing changes in technology, evolving industry standards and changing customer preferences and to hire, train 8 and retain network engineers who can fulfill the increasingly complex needs of its customers. There can be no assurance that the Company will be successful in addressing these developments in a timely manner. Any delay or failure by the Company to address these developments could have a material adverse effect on the Company's business, financial condition and results of operations. In addition, there can be no assurance that products, systems or technologies developed by third parties will not render certain of the Company's services noncompetitive or obsolete. See "Business -- Information Technology Services." DEPENDENCE ON THIRD-PARTY HARDWARE AND SOFTWARE VENDORS. The network systems solutions delivered by the Company utilize the products of third-party hardware and software vendors. A significant portion of the Company's implementation service revenues are derived from the purchase and resale of these products. Although the Company has distribution agreements with certain product vendors, there can be no assurance that these agreements will be renewed. Any significant adverse change in any of these relationships could have a material adverse effect on the Company's business, financial condition and results of operations. See "Business -- Information Technology Services." RISKS ASSOCIATED WITH POSSIBLE ACQUISITIONS. The Company may in the future pursue acquisitions of complementary businesses as it seeks to compete in the rapidly changing industry of healthcare information technology. Acquisitions involve numerous risks, including difficulties in the assimilation of the operations and personnel of the acquired business, the diversion of management's attention from other business concerns, risks of entering markets in which the Company has no direct prior experience, and the potential loss of key employees of the acquired business. In addition, future acquisitions by the Company may result in potentially dilutive issuances of equity securities, the incurrence of additional debt and amortization expenses related to goodwill and other intangible assets, which could adversely affect the Company's business, financial condition and results of operations. FUTURE ADDITIONAL CAPITAL REQUIREMENTS. Since its inception, the Company has financed its operations through cash provided by operations, the sale of equity and through debt. In the event that the Company is unable to generate sufficient revenues to fund its operations in the future, the Company may be required to raise additional funds to meet its capital and operating requirements through public or private financing, including equity financing. Any additional equity financing may be dilutive to stockholders, and debt financing, if available, will require payment of interest and may involve restrictive covenants that could impose limitations on the operating flexibility of the Company. Adequate funds for the Company's operations may not be available when needed and, if available, may not be on terms attractive to the Company. The failure to obtain funding on a timely basis could have a material adverse effect on the Company's business, financial condition and results of operations. See "Management's Discussion and Analysis of Financial Condition and Results of Operations." CONTROL BY EXISTING STOCKHOLDERS AND MANAGEMENT. Upon the completion of this offering, the present executive officers, directors and their respective affiliates will beneficially own approximately 43.9% of the outstanding Common stock (42.0% if the Underwriters' over-allotment option is exercised in full). As a result, these stockholders will be able to exercise significant influence over all matters requiring stockholder approval, including the election of directors and approval of significant corporate transactions. Such concentration of ownership may also have the effect of delaying or preventing a change in control of the Company. See "Principal and Selling Stockholders" and "Description of Capital Stock." NO PRIOR PUBLIC MARKET; POSSIBLE VOLATILITY OF STOCK PRICE. Prior to this offering, there has been no public market for the Common Stock and there can be no assurance that an active trading market will develop or be sustained. The initial public offering price will be determined by negotiations among the Company, the Selling Stockholders and the representatives of the Underwriters based on several factors, and may not reflect the price at which the Common Stock will trade after this offering. In addition, the stock market historically has experienced volatility which has affected the market price of securities of many companies and which sometimes has been unrelated to the operating performance of such companies. The trading price of the Common Stock could also be subject to significant fluctuations in 9 response to variations in quarterly results of operations, announcements of new services by the Company or its competitors, changes in earnings estimates by analysts, government regulatory action, general trends in the industry, overall market conditions and other factors. See "Underwriting." SHARES ELIGIBLE FOR FUTURE SALE. Sales of substantial amounts of Common Stock in the public market after this offering, or the possibility of such sales occurring, could adversely affect prevailing market prices for the Common Stock. Of the 11,167,678 shares to be outstanding after this offering, the 3,850,000 shares of Common Stock offered hereby will be freely tradeable without restriction in the public market, unless such shares are held by "affiliates" of the Company, as such term is defined in Rule 144 ("Rule 144") under the Securities Act of 1933, as amended (the "Securities Act"). The remaining 7,317,678 shares will be "restricted securities" as such term is defined in Rule 144. Pursuant to certain lock-up agreements, all of the Company's stockholders and option holders, including the Company's executive officers and directors who beneficially hold an aggregate of approximately 4,927,115 shares, have agreed not to offer, sell or otherwise dispose of any of their shares of Common Stock for a period of 180 days after the date of this Prospectus without the prior written consent of Alex. Brown & Sons Incorporated. The Company has also entered into an agreement with the representatives of the Underwriters that it will not offer, sell or otherwise dispose of shares of Common Stock for a period of 180 days from the date of this Prospectus other than pursuant to the Company's 1996 Stock Option Plan and currently outstanding warrants. The representatives of the Underwriters may, in their sole discretion and at any time without notice, release all or any portion of the shares subject to such lock-up agreements. Upon the completion of this offering, the beneficial owners of approximately 2,241,846 shares of Common Stock and 133,285 shares of Common Stock issuable upon the exercise of outstanding warrants will be entitled to certain rights with respect to the registration of such shares under the Securities Act. In addition, the Company intends to file a Registration Statement on Form S-8 after the date of this Prospectus in order to register an aggregate of 1,367,925 shares of Common Stock reserved for issuance under its 1996 Stock Option Plan, of which options to purchase a total of 829,173 shares were outstanding as of November 30, 1996. See "Principal and Selling Stockholders," "Shares Eligible for Future Sale" and "Underwriting." POTENTIAL ANTI-TAKEOVER EFFECTS OF DELAWARE LAW AND CERTAIN CHARTER PROVISIONS. Certain provisions of Delaware law applicable to the Company could delay or make more difficult a merger, tender offer or proxy contest involving the Company, including Section 203 of the Delaware General Corporation Law, which prohibits a Delaware corporation from engaging in any business combination with any interested stockholder for a period of three years from the date the person became an interested stockholder unless certain conditions are met. In addition, the Board of Directors of the Company may issue shares of Preferred Stock without stockholder approval on such terms as the Board may determine. The rights of the holders of Common Stock will be subject to, and may be adversely affected by, the rights of the holders of any Preferred Stock that may be issued in the future. In addition, the Company's Certificate of Incorporation and Bylaws provide for a classified board of directors, eliminate the right of stockholders to act by written consent without a meeting, require advanced stockholder notice to nominate directors and raise matters at the annual stockholders meeting, eliminate cumulative voting in the election of directors and allow for the removal of directors only for cause and with a two-thirds vote of the Company's outstanding shares. All of the foregoing could have the effect of delaying, deferring or preventing a change in control of the Company and could limit the price that certain investors might be willing to pay in the future for shares of the Company's Common Stock. See "Management" and "Description of Capital Stock -- Certain Change of Control Provisions." ABSENCE OF DIVIDENDS. The Company has never declared nor paid cash dividends on its capital stock. The Company currently intends to retain any earnings for funding growth and, therefore, does not intend to pay any cash dividends in the foreseeable future. See "Dividend Policy." DILUTION. The initial public offering price is substantially higher than the pro forma net tangible book value per share of Common Stock. Investors purchasing shares of Common Stock in this offering will therefore incur immediate and substantial net tangible book value dilution. See "Dilution." 10 THE COMPANY DAOU Systems, Inc. was incorporated in California in 1987 and intends to reincorporate in Delaware prior to the completion of this offering. Unless the context otherwise requires, references in this Prospectus to "DAOU" and the "Company" refer to DAOU Systems, Inc., a Delaware corporation, and where applicable to its California predecessor. The Company's executive offices are located at 5120 Shoreham Place, San Diego, California 92122. Its telephone number is (619) 452-2221. USE OF PROCEEDS The net proceeds to the Company from the sale of the 2,900,000 shares of Common Stock offered hereby at an assumed initial offering price of $13.00 per share are estimated to be $34.6 million ($41.5 million if the over-allotment option is exercised in full), after deducting the underwriting discounts and commissions and the estimated expenses of this offering. The Company expects to use the net proceeds from this offering principally for working capital and general corporate purposes. The Company may also use a portion of the proceeds to fund acquisitions of complementary businesses, although there are no current plans, agreements or commitments and the Company is not currently engaged in negotiations with respect to any such transactions. Pending such uses, the Company intends to invest the net proceeds of this offering in short-term, interest bearing, investment grade securities. The Company will not receive any proceeds from the sale of shares of Common Stock by the Selling Stockholders. DIVIDEND POLICY The Company has never declared nor paid cash dividends on its capital stock. The Company currently intends to retain any earnings for funding growth and, therefore, does not intend to pay any cash dividends in the foreseeable future. 11 CAPITALIZATION The following table sets forth the capitalization of the Company as of September 30, 1996 (i) on an actual basis; (ii) on a pro forma basis after giving effect to the conversion of all outstanding shares of Preferred Stock into 1,603,430 shares of Common Stock upon the completion of this offering and (iii) as adjusted to give effect to the receipt by the Company of the net proceeds from the sale of 2,900,000 shares of Common Stock offered hereby at an assumed initial public offering price of $13.00 per share and after deducting underwriting discounts and commissions and estimated offering expenses:
SEPTEMBER 30, 1996 ---------------------------------- ACTUAL PRO FORMA AS ADJUSTED --------- --------- ------------ (IN THOUSANDS) Redeemable preferred stock..................................................... $ 8,068 $ -- $ -- Stockholders' equity (1): Preferred stock: $.001 par value, 5,000,000 shares authorized, actual, pro forma and as adjusted; no shares issued and outstanding, actual pro forma and as adjusted............................................................ -- -- -- Common stock: $.001 par value, 50,000,000 shares authorized, actual, pro forma and as adjusted; 6,664,248 shares issued and outstanding, actual; 8,267,678 shares issued and outstanding, pro forma; and 11,167,678 shares issued and outstanding, as adjusted (2).................................... 7 8 11 Additional paid-in capital................................................... 208 7,825 42,383 Deferred compensation........................................................ (201) (201) (201) Accretion of redeemable preferred stock...................................... (450) -- -- Retained earnings............................................................ 1,213 1,213 1,213 --------- --------- ------------ Total stockholders' equity 777 8,845 43,406 --------- --------- ------------ Total capitalization..................................................... $ 8,845 $ 8,845 $ 43,406 --------- --------- ------------ --------- --------- ------------
- -------------- (1) The Company does not have any short-term or long-term debt. (2) Excludes (i) 829,173 shares of Common Stock issuable upon exercise of stock options outstanding under the Company's 1996 Stock Option Plan with a weighted average exercise price of $4.53 per share at November 30, 1996 and (ii) 133,285 shares of Common Stock issuable upon exercise of outstanding warrants at an exercise price of $4.99 per share. See "Management -- 1996 Stock Option Plan," "Certain Transactions," "Description of Capital Stock" and Notes 6 and 9 of Notes to Financial Statements. 12 DILUTION The pro forma net tangible book value of the Company's Common Stock as of September 30, 1996 was approximately $8.8 million or $1.07 per share. Pro forma net tangible book value per share represents the amount of the Company's stockholders' equity, less intangible assets, divided by 8,267,678 shares of Common Stock outstanding after giving effect to the conversion of all outstanding shares of Preferred Stock into 1,603,430 shares of Common Stock upon the completion of this offering. Net tangible book value dilution per share represents the difference between the amount per share paid by purchasers of shares of Common Stock in the offering made hereby and the pro forma net tangible book value per share of Common Stock immediately after the completion of this offering. After giving effect to the sale of the 2,900,000 shares of Common Stock offered hereby at an assumed offering price of $13.00 per share, and after deducting underwriting discounts and commissions and estimated offering expenses payable by the Company, the Company's pro forma net tangible book value at September 30, 1996 would have been approximately $43.4 million, or $3.89 per share. This represents an immediate increase in pro forma net tangible book value of $2.82 per share to existing stockholders and an immediate dilution in net tangible book value of $9.11 per share to new investors purchasing Common Stock in this offering. The following table illustrates this dilution on a per share basis: Assumed initial public offering price per share............................. $ 13.00 Pro forma net tangible book value per share at September 30, 1996......... $ 1.07 Increase per share attributable to new investors.......................... 2.82 --------- Pro forma net tangible book value per share after the offering.............. 3.89 --------- Net tangible book value dilution per share to new investors................. $ 9.11 ---------
The following table sets forth, on a pro forma basis as of September 30, 1996, after giving effect to the conversion of all outstanding shares of Preferred Stock into Common Stock upon the completion of this offering, the difference between the existing stockholders and the purchasers of shares in the offering (at an assumed offering price of $13.00 per share) with respect to the number of shares purchased from the Company, the total consideration paid and the average price per share paid:
SHARES PURCHASED(1) TOTAL CONSIDERATION AVERAGE -------------------------- --------------------------- PRICE NUMBER PERCENT AMOUNT PERCENT PER SHARE ------------- ----------- -------------- ----------- ----------- Existing stockholders............................. 8,267,678 74.0% $ 8,010,000 17.5% $ 0.97 New investors..................................... 2,900,000 26.0 37,700,000 82.5 $ 13.00 ------------- ----- -------------- ----- Total......................................... 11,167,678 100.0% $ 45,710,000 100.0% ------------- ----- -------------- ----- ------------- ----- -------------- -----
- -------------- (1) Sales by Selling Stockholders in this offering will cause the number of shares held by the existing stockholders to be reduced to 7,317,678, or approximately 65.5% of the total number of shares of Common Stock to be outstanding after this offering. See "Principal and Selling Stockholders." The foregoing computations assume no exercise of stock options or warrants outstanding at September 30, 1996. At November 30, 1996, there were outstanding stock options to purchase an aggregate of 829,173 shares of Common Stock at a weighted average exercise price of $4.53 per share. In addition, at November 30, 1996, 133,285 shares of Common Stock were issuable upon exercise of outstanding warrants at an exercise price of $4.99 per share. To the extent these stock options and warrants are exercised, there will be further dilution to purchasers in this offering. See "Management -- 1996 Stock Option Plan," "Certain Transactions," "Description of Capital Stock" and Note 6 of Notes to Financial Statements. 13 SELECTED FINANCIAL DATA The selected financial data set forth below should be read in conjunction with "Management's Discussion and Analysis of Financial Condition and Results of Operations" and the Financial Statements of the Company and Notes thereto included elsewhere in this Prospectus. The statements of operations data for the years ended December 31, 1994 and 1995 and the balance sheet data at December 31, 1994 and 1995 is derived from the Company's financial statements that have been audited by Ernst & Young LLP, independent auditors, included elsewhere in this Prospectus. The selected financial data as of September 30, 1996 and for the nine-month periods ended September 30, 1995 and 1996 is derived from unaudited financial statements included elsewhere in this Prospectus. The selected financial data as of December 31, 1991, 1992 and 1993 and for each of the three years in the period ended December 31, 1993 is derived from unaudited financial data not included in this Prospectus. The unaudited financial data include, in the opinion of management, all adjustments (consisting only of normal recurring adjustments) necessary for a fair presentation of the Company's financial position at those dates and results of operations for those periods. The results for the nine months ended September 30, 1996 are not necessarily indicative of the results for any future period.
NINE MONTHS ENDED YEARS ENDED DECEMBER 31, SEPTEMBER 30, ----------------------------------------------------- -------------------- 1991 1992 1993 1994 1995 1995 1996 --------- --------- --------- --------- --------- --------- --------- (IN THOUSANDS, EXCEPT PER SHARE DATA) STATEMENT OF OPERATIONS DATA: Revenues.......................................... $ 2,480 $ 2,728 $ 3,483 $ 8,521 $ 14,330 $ 7,084 $ 12,357 Cost of revenues.................................. 1,312 1,781 2,322 6,185 8,475 3,865 8,650 --------- --------- --------- --------- --------- --------- --------- Gross profit...................................... 1,168 947 1,161 2,336 5,855 3,219 3,707 Operating expenses: Sales and marketing............................. 252 390 640 796 938 690 1,167 General and administrative...................... 849 556 575 1,507 2,893 1,943 2,770 --------- --------- --------- --------- --------- --------- --------- Total operating expenses.......................... 1,101 946 1,215 2,303 3,831 2,633 3,937 --------- --------- --------- --------- --------- --------- --------- Income (loss) from operations..................... 67 1 (54) 33 2,024 586 (230) Interest income (expense) net..................... 17 4 2 12 67 259 163 --------- --------- --------- --------- --------- --------- --------- Income (loss) before income taxes................. 84 5 (52) 45 2,091 845 (67) Provision (benefit) for income taxes.............. -- -- -- 19 851 312 (21) --------- --------- --------- --------- --------- --------- --------- Net income (loss)................................. 84 5 (52) 26 1,240 533 (46) Accretion of redeemable preferred stock........... -- -- -- -- 87 -- 363 --------- --------- --------- --------- --------- --------- --------- Net income (loss) attributable to common stock.... $ 84 $ 5 $ (52) $ 26 $ 1,153 $ 533 $ (409) --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- --------- Pro forma net income (loss) per share(1).......... $ 0.17 $ (0.01) --------- --------- --------- --------- Shares used in computing pro forma net income (loss) per share(1)............................. 7,495 8,808 --------- --------- --------- ---------
DECEMBER 31, ----------------------------------------------------- SEPTEMBER 30, 1991 1992 1993 1994 1995 1996 --------- --------- --------- --------- --------- -------------- (IN THOUSANDS) BALANCE SHEET DATA: Cash, cash equivalents and short-term investments.............................. $ 100 $ 81 $ 278 $ 264 $ 6,285 $ 3,655 Total assets............................... 704 557 1,474 1,727 12,545 11,468 Long-term debt, less current portion....... 11 8 4 -- -- -- Redeemable preferred stock................. -- -- -- -- 7,705 8,068 Total stockholders' equity................. 48 52 -- 29 1,182 777
- ---------------- (1) See Note 1 of Notes to Financial Statements for information concerning the calculation of pro forma net income (loss) per share. 14 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS THIS PROSPECTUS CONTAINS CERTAIN STATEMENTS OF A FORWARD-LOOKING NATURE RELATING TO FUTURE EVENTS OR THE FUTURE FINANCIAL PERFORMANCE OF THE COMPANY. PROSPECTIVE INVESTORS ARE CAUTIONED THAT SUCH STATEMENTS ARE ONLY PREDICTIONS AND THAT ACTUAL EVENTS OR RESULTS MAY DIFFER MATERIALLY. IN EVALUATING SUCH STATEMENTS, PROSPECTIVE INVESTORS SHOULD SPECIFICALLY CONSIDER THE VARIOUS FACTORS IDENTIFIED IN THIS PROSPECTUS, INCLUDING THE MATTERS SET FORTH UNDER THE CAPTION "RISK FACTORS," WHICH COULD CAUSE ACTUAL RESULTS TO DIFFER MATERIALLY FROM THOSE INDICATED BY SUCH FORWARD-LOOKING STATEMENTS. OVERVIEW The Company designs, implements, supports and manages advanced computer network systems for hospitals, IDSs and other provider organizations. The Company believes that its success is attributable to its healthcare industry focus, depth and breadth of technological expertise, ability to objectively evaluate its customers' computer network systems due to its vendor independence and its history of successful customer engagements. The Company's design services include an assessment of the customer's existing computer network system, the preparation of voice, video and data network specifications, technical design documentation and diagrams. DAOU's implementation services include the purchase, delivery and installation of enterprise-wide computer network systems. In 1996, revenues from design services averaged approximately $49,000 per project. In addition, revenues in 1996 from enterprise-wide implementation service engagements ranged from approximately $500,000 to $4.6 million per project, while revenues from other implementation projects averaged approximately $70,000. Implementation service revenues consist of third-party hardware and software products, as well as the Company's professional services. The Company's gross margin with respect to implementation services varies significantly depending on the percentage of such services consisting of products (with respect to which the Company obtains a lower margin) versus professional services. The Company's support and management services include remote and on-site network management, as well as I/S outsourcing. The Company typically provides these services under multi-year contracts. Historically, the majority of the Company's revenues have been derived from network design and implementation services which are generally provided on a fixed-fee basis. These revenues are recognized using the percentage-of-completion method with progress to completion measured by labor costs incurred to date compared to total estimated labor costs. The Company may also provide design and implementation services on a "time and expense" basis for which revenues are also recognized as services are performed. A design project typically lasts from three to five months. The time to complete implementation projects generally ranges from three to six months, although certain projects have required up to 13 months for completion. Support and management service revenues are recognized ratably over the period that these services are provided. The Company anticipates that revenues from support and management services will increase as a percent of total revenues in the future. Payments received in advance of services performed are recorded as deferred revenues. Certain contract payment terms may result in customer billing occurring at a pace slower than revenue recognition. The resulting revenues recognized in excess of amounts billed and project costs are classified as contract work in progress on the Company's balance sheet. RESULTS OF OPERATIONS NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995 The Company's revenues were $12.4 million and $7.1 million for the nine months ended September 30, 1996 and 1995, respectively, representing an increase of 74%. This increase in revenues was due primarily to the introduction of the Company's I/S outsourcing services with the signing and commencement of the contract with Candler in April 1996. Services to Mercy, Candler, Atlantic and CMC accounted for approximately $2.4 million, $2.0 million, $1.4 million and $1.2 million of total revenues for the nine 15 months ended September 30, 1996, representing approximately 20%, 16%, 11% and 10% of such revenues, respectively. Cost of revenues were $8.7 million and $3.9 million for the nine months ended September 30, 1996 and 1995, respectively, representing an increase of 124%. Gross margin was 30% and 45% for the nine months ended September 30, 1996 and 1995, respectively. This decrease in gross margin was due primarily to the reduced content of professional services in implementation projects during 1996, as well as the lower gross margin related to the Company's I/S outsourcing services. The Company believes that the 1996 gross margin is more indicative of future results than its 1995 gross margin due to the anticipated growth of its I/S outsourcing services relative to other services. Sales and marketing expenses were $1.2 million and $690,000 for the nine months ended September 30, 1996 and 1995, respectively, representing an increase of 69%. This increase was due primarily to the establishment of regional sales teams and an increase in the number of people involved in sales and marketing activities. Sales and marketing expenses were 9% and 10% of revenues for the nine months ended September 30, 1996 and 1995, respectively. The Company intends to continue investing in its sales infrastructure and expects sales and marketing expenses to remain relatively constant as a percentage of revenues in the foreseeable future. General and administrative expenses were $2.8 million and $1.9 million for the nine months ended September 30, 1996 and 1995, respectively, representing an increase of 43%. The primary factors contributing to this increase were costs associated with the Company's larger corporate facility and the reorganization of its administrative infrastructure during 1996. General and administrative expenses were 22% and 27% of revenues for the nine months ended September 30, 1996 and 1995, respectively. The Company expects that general and administrative expenses will continue to increase in dollar terms to support the anticipated growth in the Company's business, but will remain relatively constant as a percentage of revenues in the foreseeable future. Interest income net, was $163,000 and $259,000 for the nine month ended September 30, 1996 and 1995, respectively. Interest income consists of interest on cash and cash equivalents, short-term investments and notes receivable from stockholders. Interest expense consists of interest associated with the Company's business line of credit and term financing of insurance premiums, but was not significant during either period. YEARS ENDED DECEMBER 31, 1995 AND 1994 The Company's revenues were $14.3 million and $8.5 million for the years ended December 31, 1995 and 1994, respectively, representing an increase of 68%. Revenues increased primarily due to growth in design and implementation service revenues. Increases in both the number and size of management service projects from both new and existing customers resulted in a 42% increase in management service revenues in 1995. Services to Mercy accounted for $6.8 million, or approximately 48%, of total revenues in 1995. Cost of revenues were $8.5 million and $6.2 million for the years ended December 31, 1995 and 1994, respectively, representing an increase of 37%. Cost of revenues increased primarily due to greater product costs associated with implementation projects and increased labor costs associated with new management service contracts. Gross margin was 41% and 27% of revenues for the years ended December 31, 1995 and 1994, respectively. This increase was attributable primarily to the higher content of professional services in implementation projects, an increase in the number of management service contracts, a reduction in the use of third-party professional services and increased utilization of internal engineering resources. Sales and marketing expenses were $938,000 and $796,000 for the years ended December 31, 1995 and 1994, respectively, representing an increase of 18%. This increase was due primarily to the growth in revenues and the number of people involved in sales activities, as well as the introduction of a new corporate marketing strategy. Sales and marketing expenses were 7% and 9% of revenues for the years 16 ended December 31, 1995 and 1994, respectively. This decrease as a percentage of revenues was due primarily to increased revenues and decreased commissions. General and administrative expenses were $2.9 million and $1.5 million for the years ended December 31, 1995 and 1994, respectively, representing an increase of 92%. This increase was due to one-time relocation costs and expenses of approximately $305,000 associated with the Company's move to new corporate facilities and continued growth in administrative staffing levels in finance, purchasing and human resources. General and administrative expenses were 20% and 18% of revenues for the years ended December 31, 1995 and 1994, respectively. Excluding one-time relocation expenses, there was no significant change on a percentage of revenue basis. INCOME TAXES In 1995 and 1994, the effective tax rates were 41% and 42%, respectively, and exceeded the expected combined federal and state statutory rate of 40% due primarily to the nondeductibility of certain expenses. LIQUIDITY AND CAPITAL RESOURCES Since its inception, the Company has financed its operations primarily through a combination of cash generated from operations and the private sale of equity securities. As of September 30, 1996, the Company had raised $7.6 million, net of issuance costs, from the private sale of equity securities. At September 30, 1996, the Company had $3.7 million in cash and cash equivalents and, as of October 4, 1996, $1.5 million available under a revolving line of credit. Advances under the revolving line of credit bear interest at the bank's reference rate (8.25% at November 30, 1996) plus 0.5% per annum. Through November 30, 1996, there have been no borrowings under the revolving line of credit, which expires October 1, 1997. This line of credit is secured by substantially all of the assets of the Company and contains customary covenants and restrictions. As of November 30, 1996, the Company was in compliance with all such covenants and restrictions. During the nine months ended September 30, 1996, cash used in operating activities was $2.1 million, which resulted primarily from an increase in unbilled receivables and cash expended for contract costs reported as contract work in progress in the Company's balance sheet (see Note 1 of Notes to Financial Statements). The Company believes that the net proceeds from this offering, together with available funds, will be sufficient to meet its capital requirements for the foreseeable future. The Company may also utilize cash to acquire or invest in complimentary businesses, although the Company does not have any pending plans to do so. The Company may sell additional equity or debt securities or obtain additional credit facilities. The sale of additional equity securities could result in additional dilution to the Company's stockholders and the incurrence of additional debt could result in additional interest expense. 17 QUARTERLY RESULTS AND SEASONALITY The following table presents quarterly operating results for each of the last seven quarters. This information has been derived from unaudited financial statements and has been prepared on the same basis as the Company's audited financial statements which appear elsewhere in this Prospectus. In the opinion of the Company's management, this information reflects all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of such information in accordance with generally accepted accounting principles. The operating results for any quarter are not necessarily indicative of the results for any future period.
THREE MONTHS ENDED ---------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. , DEC. 1, MAR. 31, JUNE 30, 1995 1995 1995 1995 1996 1996 ----------- ----------- ----------- ----------- ----------- ----------- (IN THOUSANDS, EXCEPT PER SHARE DATA) Revenues....................................... $ 2,597 $ 1,390 $ 3,096 $ 7,247 $ 2,329 $ 5,201 Cost of revenues............................... 847 1,013 2,005 4,610 1,675 3,668 ----------- ----------- ----------- ----------- ----------- ----------- Gross profit................................... 1,750 377 1,091 2,637 654 1,533 Operating expenses: Sales and marketing.......................... 273 216 202 247 330 376 General and administrative................... 372 478 827 1,216 791 944 ----------- ----------- ----------- ----------- ----------- ----------- Total operating expenses....................... 645 694 1,029 1,463 1,121 1,320 ----------- ----------- ----------- ----------- ----------- ----------- Income (loss) from operations.................. 1,105 (317) 62 1,174 (467) 213 Interest income (expense), net................. -- (4) (2) 73 70 50 ----------- ----------- ----------- ----------- ----------- ----------- Income (loss) before income taxes.............. 1,105 (321) 60 1,247 (397) 263 Provision (benefit) for income taxes........... 399 (149) 61 540 (168) 151 ----------- ----------- ----------- ----------- ----------- ----------- Net income (loss).............................. $ 706 $ (172) $ (1) $ 707 $ (229) $ 112 ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- ----------- SEPT. 0, 1996 ----------- Revenues....................................... $ 4,827 Cost of revenues............................... 3,307 ----------- Gross profit................................... 1,520 Operating expenses: Sales and marketing.......................... 461 General and administrative................... 1,035 ----------- Total operating expenses....................... 1,496 ----------- Income (loss) from operations.................. 24 Interest income (expense), net................. 43 ----------- Income (loss) before income taxes.............. 67 Provision (benefit) for income taxes........... (4) ----------- Net income (loss).............................. $ 71 ----------- -----------
The following table sets forth, as a percentage of revenues, certain unaudited quarterly statements of operations data:
THREE MONTHS ENDED ---------------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, 1995 1995 1995 1995 1996 1996 ----------- ----------- ----------- ----------- ----------- ----------- AS A PERCENT OF REVENUES: Revenues....................................... 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% Gross margin................................... 67.4 27.1 35.2 36.4 28.1 29.5 Sales and marketing............................ 10.5 15.5 6.5 3.4 14.2 7.2 General and administrative..................... 14.3 34.4 26.7 16.8 34.0 18.2 Income (loss) from operations.................. 42.6 (22.8) 2.0 16.2 (20.1) 4.1 Net income (loss).............................. 27.2 (12.4) 0.0 9.8 (9.8) 2.2 SEPT. 30, 1996 ----------- AS A PERCENT OF REVENUES: Revenues....................................... 100.0% Gross margin................................... 31.5 Sales and marketing............................ 9.6 General and administrative..................... 21.4 Income (loss) from operations.................. 0.5 Net income (loss).............................. 1.5
A substantial majority of the Company's operating expenses, particularly personnel and related costs, depreciation and rent, are relatively fixed in advance of any particular quarter. However, variations in the Company's revenues and operating results occur from time to time, as a result of various factors, including: (i) the reduction in size, delay in commencement, interruption or termination of one or more significant projects or contracts; (ii) the completion during a quarter of one or more significant projects; (iii) the failure to estimate accurately the resources required to complete new or ongoing projects; (iv) the relatively longer sales cycle in obtaining new customers and larger contracts; (v) the timing and extent of employee training or the loss of key employees; (vi) competition; (vii) the development and introduction of new services; and (viii) general economic conditions which may affect the buying decisions of the Company's current and prospective customers. In addition, the Company plans to continue to expand its operations by hiring additional network engineers and other employees, and adding new offices, systems and other infrastructure. The resulting increase in operating expenses will generally be incurred prior to any increase in revenues. Consequently, the Company's business, financial 18 condition and results of operations would be materially and adversely affected if revenues do not increase to support such expenses. A variation in the timing of the commencement or completion of customer assignments, particularly at or near the end of any quarter, may cause significant variations in operating results from quarter to quarter and could result in losses for a particular quarter. In addition, an unanticipated delay or termination of a major project could require the Company to maintain or terminate under-utilized employees which could, in either case, result in higher than expected expenses during a quarter. The Company believes that quarterly revenues and operating results are likely to vary significantly in the future and that period-to-period comparisons of its revenues and operating results are not necessarily meaningful and should not be relied on as indications of future performance. Furthermore, these variations in revenues and operating results could cause significant variations in the price of the Company's Common Stock. 19 BUSINESS THE COMPANY DAOU Systems, Inc. ("DAOU" or the "Company") designs, implements, supports and manages advanced computer network systems for hospitals, integrated healthcare delivery systems ("IDSs"), and other healthcare provider organizations ("provider organizations"). DAOU combines its knowledge of the specialized information needs of the healthcare industry with its technological expertise in computer network systems to provide advanced, reliable and cost-effective computer network solutions to provider organizations. The Company believes that its success is attributable to its healthcare industry focus, depth and breadth of technological expertise, ability to objectively evaluate its customers' computer network systems due to its vendor independence and its history of successful customer engagements. The Company's design services include an assessment of the customer's existing computer network system and the preparation of voice, video and data network specifications, technical design documentation and diagrams. DAOU's implementation services include the purchase, delivery and installation of enterprise-wide computer network systems. The Company's support and management services are typically provided under multi-year contracts and include remote and on-site network management services, as well as information systems outsourcing ("I/S outsourcing"). The Company provides network support services to its customers through its regional sales and support structure and a 24-hour technical support hotline available seven days a week. DAOU typically provides its services on a fixed-price, fixed-time frame basis. Since 1987, the Company has provided computer network services to over 350 customers ranging in size from single-site organizations to multi-state organizations with over 80 sites. The Company's customers include Catholic Medical Center of Brooklyn and Queens, Inc., New York; Mercy Health Services, Farmington Hills, Michigan; Atlantic Health System, Morristown, New Jersey; Lutheran Health Systems, Fargo, North Dakota; Candler Health System ("Candler"), Savannah, Georgia; and St. Mary's Health Network, Reno, Nevada. INDUSTRY OVERVIEW Pressure by employers, health insurers and government payors to control escalating healthcare costs is driving a movement in the healthcare industry towards managed care and new forms of reimbursement for healthcare providers. Payors are also demanding that providers differentiate their services by demonstrating quality of care. These economic and competitive pressures are causing healthcare providers to consolidate and form multi-entity provider organizations such as IDSs. IDSs may consist of hospitals, primary care and multi-specialty physician groups, out-patient care facilities and home healthcare providers, and are designed to serve economically the healthcare needs of a regional population. The consolidation of provider organizations and the formation of IDSs have resulted in changing healthcare information needs as these organizations increasingly require prompt access to consistent and comprehensive patient information at each location where care is provided. The existing information systems in many provider organizations were developed to meet the needs of a single facility, such as a hospital or an out-patient surgery center. The consolidation of these facilities and the formation of IDSs create complex organizations with many disparate and specialized information system infrastructures. The Company believes that these infrastructures frequently are inadequate to support the flow and integration of information necessary to efficiently manage a complex provider organization. A typical multi-site IDS, for example, requires a computer network that is capable of supporting multiple applications and processing high volumes of data across geographically remote locations. In addition, the increasing variety of hardware and software applications utilized throughout provider organizations has resulted in connectivity and compatibility problems for many computer networks. These networks must not only meet the heightened information needs of provider organizations, but also have the capability to migrate to emerging technologies. As a result of the competitive healthcare environment and the growing complexity of computer network systems, provider organizations have found it increasingly difficult to implement and manage these systems. In addition, the Company believes that the high demand for qualified network engineers 20 and other technical personnel has made it increasingly difficult for provider organizations to recruit and train qualified information technology professionals. Consequently, many provider organizations are looking to third parties for the technological expertise and personnel to meet their information systems requirements. DAOU believes that the ongoing consolidation among healthcare provider organizations and the increasing complexity and rapid evolution of computer network system technologies have created a significant opportunity for companies specializing in providing computer network system solutions to provider organizations. THE DAOU SOLUTION DAOU provides a broad array of services to assist hospitals, IDSs and other provider organizations in designing, implementing, supporting and managing complex computer network systems consistent with their unique and changing information needs. The Company believes that the delivery of a combination of design, implementation and management services better enables the Company's personnel to fully understand the customer's computing and operating environments, install computer networks that meet the customer's specialized requirements, train the customer's users and internal network management staff prior to the full migration to a new computer network system and provide effective, ongoing support and management of the computer network. DAOU has extensive experience resolving the integration, implementation and management issues faced by provider organizations. In addition, the Company has substantial knowledge of numerous software applications developed by healthcare information system and software vendors, as well as extensive expertise in advanced information technologies and computer network systems, including WANs, network/host security, high-performance LANs, Internet/Intranet and asynchronous transfer mode ("ATM") technologies. DAOU uses the products and applications of various hardware and software vendors to integrate the existing computing and communication devices and equipment of legacy systems to create advanced computer network systems. In addition, the Company does not manufacture hardware or develop software, nor does it have exclusive arrangements with any vendors of these products. DAOU believes that this vendor independence enables it to objectively assess its customers' information technology requirements and select the optimal mix of applications and products. The Company believes that its cumulative experience, healthcare focus and technology expertise enable it to deliver advanced computer network systems and services on a timely basis and at fixed prices. STRATEGY The Company's objective is to be a leading provider of advanced computer network systems and network management services to healthcare provider organizations. The principal elements of the Company's strategy are: - EXPAND AND STRENGTHEN CUSTOMER RELATIONSHIPS. The Company will continue to focus its sales and marketing efforts on major medical centers and hospitals around which IDSs are forming. In addition, the Company plans to focus additional resources on serving the information technology needs of emerging provider organizations, such as physician practice management companies, long-term care providers and rehabilitation service providers. DAOU intends to further develop its regional sales and support structure in order to monitor more closely the needs of existing and prospective customers. For example, the Company recently has placed throughout its regional structure customer-dedicated account managers who are responsible for maintaining customer satisfaction and developing new business opportunities. - DEVELOP COMPLEMENTARY SERVICES. The Company intends to develop services which complement its existing services and increase its recurring revenue stream. Currently, DAOU is expanding its services in the areas of voice, video and data integration, telemedicine, I/S outsourcing, Internet/ Intranet and cabling services. The Company intends to develop additional service capabilities such as network outsourcing, remote network monitoring and network traffic pattern analysis. To obtain feedback regarding its present and future services from a customer perspective, the 21 Company has established an advisory board comprised of chief information officers in the healthcare industry. - MAINTAIN TECHNOLOGY EXPERTISE. The Company believes that demand for complex, emerging technologies will grow as provider organizations seek to employ new applications that combine voice, video and data. The Company intends to remain at the forefront of information technology solutions for provider organizations and to continue developing its expertise in emerging technologies. Specific development efforts include in-house vendor presentations to educate employees on technological advances and new products, in-house testing of new systems, products and applications, attendance at various information technology trade shows and participation in the ATM Forum, an industry council that provides input regarding emerging ATM standards. - RECRUIT, TRAIN AND RETAIN QUALIFIED PERSONNEL. The Company believes that its competitive position is enhanced by its ability to hire, train and retain qualified technical and management personnel. DAOU believes that a key factor in recruiting and retaining its technical personnel is its ability to provide them with exposure to and training in a variety of leading edge technologies. The Company intends to continue dedicating significant resources to train its technical employees by conducting in-house workshops presented by senior network engineers, inviting vendors to provide on-site presentations and sponsoring employees to attend vendor certification programs. - HEIGHTEN DAOU'S HEALTHCARE INDUSTRY PRESENCE. The Company intends to leverage its history of successful customer engagements to become a recognized leader in providing information technology solutions to provider organizations. The Company is expanding its marketing program to enhance the market presence and visibility of the Company and its services among potential healthcare customers. INFORMATION TECHNOLOGY SERVICES DAOU designs, implements, supports and manages computer network systems that are capable of providing access to information such as patient records, X-rays and billing information at each site of a provider organization. The Company provides to its customers a broad range of computer network services, which often follow a progression from initial network design through implementation and computer network management. DAOU believes that the delivery of a combination of design, implementation and management services better enables the Company's personnel to fully understand the customer's computing and operating environments, install computer networks that meet the customer's specialized requirements, train the customer's users and internal network management staff prior to the full migration to a new computer network system and provide effective, ongoing support and management of the computer network. The Company uses the products and applications of various hardware and software vendors to integrate the existing computing and communication devices and equipment of legacy systems to create advanced computer network systems. The Company focuses on the specialized requirements of each customer project and utilizes formal planning, monitoring and communication systems and methodologies to ensure proper project completion and customer satisfaction. NETWORK SERVICES DAOU provides network services ranging from network design to large-scale network implementation. The Company generally provides network design services prior to the delivery of its other network or management services in order to determine the proper scope and delivery of these other services. DAOU generally contracts with its customers on a fixed-price basis for defined services delivered in accordance with scheduled milestones. The typical sales cycle for these services begins with an engagement for network design followed by the installation of enterprise-wide computer network systems. NETWORK DESIGN. DAOU's network design services include a review and audit of a customer's existing information technology infrastructure and an assessment of the functional requirements of its computer network system. The Company conducts detailed site visits and interviews key customer personnel in order to identify the specific technologies to be used. The Company then determines how 22 new technologies will integrate into the customer's existing hardware and software and how the entire computer network system will be managed on an ongoing basis. Following its review, the Company prepares technical design documentation and diagrams of the physical, logical, operational and communication infrastructures. The Company also prepares voice, video and data network specifications, as appropriate, and details the implementation steps necessary to meet the customer's specific computer network requirements. As part of this process, the Company designs integration strategies for designated applications, fault-tolerant strategies to help ensure reliable network operation and migration strategies for customer utilization of emerging technologies. The Company also develops detailed recommendations for computer network systems, including the selection of appropriate network products and the design of multi-vendor integration plans. The typical engagement period for network design services is three to five months. NETWORK IMPLEMENTATION. The Company's network implementation services involve the purchase, delivery, testing and installation of enterprise-wide computer network systems. Networks installed by the Company provide a variety of features and services, including switch/bridge/router configuration, PC-to-host emulation, legacy network integration, gateway installation, universal workstation design and installation, remote-site connectivity solutions, dial-up remote access solutions, document management, imaging installations, video conferencing and telemedicine installations. For each implementation project, the Company assigns a project management team typically consisting of a project manager, an account manager, a senior engineer and other technical personnel, as well as subcontractors and third-party vendors if required. Each project management team is carefully selected for its technical expertise in specific areas to meet the requirements of a particular project. The project team is responsible for creating an installation schedule, ensuring compliance with established milestones, providing on-site coordination of the activities of DAOU's personnel, subcontractors and third-party vendors, testing network performance, including stress and data traffic diagnostics, and providing regular progress reports to the project manager. The Company installs a computer network by first conducting a detailed review of the network design to determine the connectivity and product requirements. DAOU typically purchases the various network components which have been specified. After delivery to its facilities, the Company connects these components prior to installation at the customer's site and then conducts various tests of the computer network system, simulating the customer's actual computing environment in accordance with the customer's software applications and specifications. The Company also tests the network's configuration, connectivity and compatibility and analyzes the load and data throughput capacity of the network. This testing process reduces downtime risk and helps ensure that the network installation will occur with minimal disruption to the customer's ongoing business operations. The Company manages the installation of the computer network equipment, as well as software and cabling, using its own personnel or selected subcontractors. Throughout the installation process, the Company's personnel monitor the project's progress to ensure compliance with all network specifications. Upon completion of the equipment installation, the Company conducts additional connectivity testing and diagnostics. The engagement period for these services generally ranges from three to six months, but varies depending on the size and complexity of the implementation project. MANAGEMENT SERVICES As computer network systems become more complex, provider organizations are experiencing difficulties in hiring, training and retaining information technology professionals who can maintain the performance and functionality of their computer network systems. Accordingly, provider organizations have begun to outsource certain maintenance and management functions of their information systems departments. DAOU provides support and management services that are designed to maintain the effective performance of a customer's computer network system, as well as I/S outsourcing services that are designed to manage a customer's information services functions. The Company generally provides these services in multi-year engagements on a fixed-price basis. 23 NETWORK SUPPORT. The Company provides a 24-hour technical support hotline available seven days a week, as well as other network support resources such as on-site seminars and on-line support. DAOU also informs its customers of new technological advances and network solutions that may help increase the utility and functionality of their computer network systems. The Company intends to develop additional support services such as continuous network monitoring in order to monitor remotely the performance of computer network systems on an ongoing basis and detect and report network problems. The initial engagement period for the Company's existing support services typically is for one year, subject to annual renewal. ENTERPRISE NETWORK MANAGEMENT. The Company provides a range of enterprise network management services to manage and support a customer's computer network system. The Company uses its technical expertise and staffing experience to package, price and deliver combinations of these services at collective rates which are frequently lower than if provided in-house by the customer. The customer benefits from the Company's experience in providing enterprise network management services in a broad range of operating environments, including client/server networks supporting both Internet and workgroup protocols intermingled with legacy networks. The engagement period for these services typically ranges from one to five years. The Company's enterprise network management services include combinations of the following services, which are selected by the customer to meet its specific needs: - DAOU EMPLOYEES ON-SITE. DAOU works with a customer to assess the appropriate staffing needs to maintain and support its computer network system. The Company places its employees on-site on a full-time basis to provide network support services and ongoing training of the customer's internal staff. This service allows the customer to benefit continuously from DAOU's technical expertise and to reduce its hiring and training of internal network management personnel. - CONTINUOUS NETWORK PLANNING. DAOU's design personnel evaluate a customer's computer network system and provide recommendations for new network capabilities and capacity on an ongoing basis consistent with the evolving needs and strategy of the customer. In addition, DAOU evaluates hardware and software options, interprets research and development results, updates existing network designs and researches specific products and technologies of interest to customers. The Company provides these services subject to predetermined schedules. - "BURST MODE" IMPLEMENTATION. DAOU provides additional technical personnel during periods of peak network requirements to accommodate and assist in network upgrade implementation or to accommodate the anticipated or unanticipated need for additional technical staff. This service enables the customer to preplan changes in its computer network without the problems associated with recruiting and training temporary staff or hiring excess permanent technical personnel. - NETWORK SUPPORT. Depending on the specific needs of each customer, the Company also provides network support services as part of its combination of enterprise network management services. I/S OUTSOURCING. The Company has recently introduced comprehensive I/S outsourcing services for provider organizations that elect to outsource all or a portion of their information systems functions. I/S outsourcing services involve long-term engagements with customers whereby the Company may staff up to the entire information systems department and is responsible for the management and support of the customer's computer network system. DAOU provides its I/S outsourcing services in accordance with pre-determined, detailed schedules and plans established with the customer. DAOU entered into its first I/S outsourcing contract in April 1996 with Candler (the "Candler Contract"). Under the Candler Contract, the Company is responsible for the management and staffing of Candler's information systems functions with the Company's own employees and acts on behalf of Candler with respect to ongoing enhancements and maintenance of hardware and software products from third-party vendors. Additional I/S outsourcing services under the Candler Contract include: (i) the implementation of operating procedures for and management and staffing of various information systems departments; (ii) the establishment and management of the information systems budget, including personnel and capital expenditures; (iii) the negotiation and management of hardware and software vendor contracts; (iv) attendance at internal and external management meetings, user groups, convention activity and corporate meetings; 24 (v) the development and implementation of an information technology strategic plan; and (vi) ongoing recruiting and training of Candler's employees with respect to the computer network and its applications. The term of the Candler Contract is for five years and the Company anticipates that the typical contract period for additional I/S outsourcing contracts will be for three to five years. There can be no assurance, however, that a customer will not terminate its contract with the Company prior to the completion of the contract term. See "Risk Factors -- Contract Cancellation Rights; Absence of Long-Term Agreements" and "-- Consolidation and Uncertainty in the Healthcare Industry." OTHER SERVICES The Company is expanding its current services and developing new services that will assist provider organizations with the management and support of their computer network systems. DAOU is expanding its current services in the areas of voice, video and data integration, telemedicine, I/S outsourcing, Internet/Intranet and cabling. The Company intends to develop new service capabilities, such as network outsourcing (whereby the Company outsources hardware as well as personnel), remote network monitoring and network traffic pattern analysis. The Company intends to expand or develop these services either internally or through acquisitions. DAOU ADVISORY BOARD In 1994, the Company established its Advisory Board (the "Advisory Board"), a non-governing body currently comprised of twelve chief information officers ("CIOs") of various provider organizations. The Advisory Board meets as a group annually and the members confer separately with the Company periodically to provide advice on issues and trends in the healthcare industry and emerging technologies, as well as to provide strategic direction and feedback regarding the Company's present and future services. Members of the Advisory Board are reimbursed for travel, lodging and meal expenses incurred in connection with attendance at the Advisory Board's sessions and may also receive options to purchase shares of the Company's Common Stock. Larry Grandia, the CIO of Intermountain Health Care Inc., serves as the Chairman of the Advisory Board. RECRUITING AND TRAINING OF TECHNICAL EMPLOYEES The Company dedicates significant time and resources to recruit, train and retain qualified technical personnel. The technical staff of the Company consists of senior network engineers, network engineers and network systems technicians. The Company hires many of its technical staff as entry-level network systems technicians and provides these individuals with the necessary training and experience to become network engineers who are responsible for network configuration, testing, burn-in analysis, installation and documentation. Further training and experience is provided to enable these engineers to become senior network engineers who are responsible for project and resource management. The Company's technical staff undergoes extensive training and maintains certifications from leading network technology vendors such as Cisco Systems, Inc., Bay Networks, Inc., Microsoft Corporation and 3Com Corporation. In addition, the Company is a member of leading technological forums and organizations, including the ATM Forum, the CHIM Telecommunications Committee, the HL7 Committee and the BICSI Organization. The Company believes that its future success will depend in large part on its ability to hire, train and retain qualified network engineers who together have expertise in a wide array of network and computer systems and a broad understanding of the provider organizations that the Company serves. Competition for qualified network engineers is intense and is expected to increase. In particular, competition is intense for the limited number of qualified senior network engineers. Consequently, there can be no assurance that the Company will be successful in attracting and retaining such personnel. While the Company is currently experiencing low rates of turnover, there can be no assurance that these rates of turnover will not increase in the future. Any inability of the Company to hire, train and retain a sufficient number of qualified network engineers could impair the Company's ability to adequately manage and 25 complete its existing projects or to obtain new projects, which, in turn, could have a material adverse effect on the Company's business, financial condition and results of operations. Each technical employee is required to enter into a confidentiality agreement with the Company designed to protect the Company's trade secrets and other confidential information during and subsequent to employment with the Company. Any significant loss of employees to a competitor could have a material adverse effect on the Company's business, financial condition and results of operations. SALES AND MARKETING The Company's sales and support operations are divided into four regional organizations located in the west, midwest, east and southeast regions of the United States. A vice president heads each regional organization and oversees the management of existing customers by the account managers and the development of new customers by the account executives. In particular, account managers are responsible for maintaining customer satisfaction and developing new business opportunities as customer needs for computer network services evolve or increase. The Company intends to create a fifth regional organization in the southwest region during 1997. The Company seeks to establish long-term relationships with its customers by providing high levels of service and by becoming an integral part of their computer network systems operations. The Company focuses its sales and marketing efforts on the CIOs and other technology decision makers of IDSs, hospitals and other provider organizations. The Company relies upon its reputation in the marketplace, the personal contacts and networking of its professionals and the various programs of its marketing department to develop new business opportunities. The Company also receives sales leads directly from consultants, VARs and product and service vendors. The principal objectives of the Company's marketing department are to increase the Company's market presence, provide strategic direction and to generate sales leads. As a supplement to the direct selling efforts of the Company, the marketing department has developed various programs that include advertising campaigns, trade show participation, direct mail campaigns, public relations programs, marketing research and communications and the development of sales presentation materials. The Company's marketing efforts are enhanced by speaking engagements and the publication of technical articles and reports directed to the healthcare information technology industry. The Company's marketing department is also responsible for the continued development of the Company's presence on the Internet as a new marketing channel. COMPETITION The healthcare network services industry is comprised of a large number of participants and is subject to rapid change and intense competition. The Company's competitors include system integrators, VARs, consulting companies, local and regional network services firms, telecommunications providers and network equipment, computer systems and healthcare software vendors, many of which have significantly greater financial, technical and marketing resources and greater name recognition than does the Company. In particular, the Company competes with (i) large information technology companies such as Hewlett-Packard, EDS and Integrated Systems Solutions Corporation, a subsidiary of IBM; (ii) healthcare information technology companies such as HBO & Company; and (iii) smaller regional network systems firms. In addition, the Company has faced, and expects to continue to face, additional competition from new entrants into its markets. Other healthcare information technology companies not presently offering or emphasizing network systems services and large network services companies not currently focusing on healthcare may enter the Company's markets. Increased competition could result in price reductions, fewer customer projects, under-utilization of employees, reduced operating margins and loss of market share, any of which could materially and adversely affect the Company's business, financial condition and results of operations. There can be no assurance that the Company will be able to compete successfully against current and future competitors. The failure of the Company to compete successfully would have a material adverse effect on the Company's business, financial condition and results of operations. In addition, most of the Company's customers have internal network support and 26 service capabilities and could choose to satisfy their needs through internal resources rather than through outside service providers. As a result, the decision by the Company's customers or potential customers to perform network services internally could have a material adverse effect on the Company's business, financial condition and results of operations. The Company believes that the principal competitive factors in the markets in which it competes include: reputation, healthcare industry expertise, network performance and reliability, timely delivery of services, quality of service, responsiveness to customers, product knowledge and technological expertise, marketing, customer relationships and price. The Company believes that it is competitive with respect to the above mentioned factors. CUSTOMERS Since 1987, DAOU has provided computer network services to over 350 customers ranging in size from single-site organizations to multi-state organizations with over 80 sites. The Company's customers include CMC, New York; Mercy, Farmington Hills, Michigan; Atlantic, Morristown, New Jersey; Lutheran Health Systems, Fargo, North Dakota; Candler, Savannah, Georgia; and St. Mary's Health Network, Reno, Nevada. The Company has derived, and believes that it will continue to derive, a significant portion of its revenues from a relatively limited number of large customer contracts. During the first nine months of 1996, Mercy, Candler, Atlantic and CMC accounted for approximately 20%, 16%, 11% and 10% of total revenues, respectively. In 1995, Mercy and Candler accounted for approximately 48% and 11% of total revenues, respectively. No other customer accounted for more than 10% of the Company's revenues during such periods. BACKLOG The Company includes in sales backlog all unrecognized revenues attributable to signed contracts for network design, implementation and management services. At September 30, 1996 and September 30, 1995, the Company's sales backlog was approximately $13.4 million and $8.7 million, respectively. The Company estimates that approximately 28% of its backlog at September 30, 1996 will not be recognized as revenues during the following twelve months due to the long-term nature of the Company's contracts. Although the Candler Contract has an initial term of five years, sales backlog at September 30, 1996 includes estimated payments to be received under the Candler Contract only through September 30, 1997, because the Company cannot determine with certainty the exact amounts of the payments to be received under the Candler Contract subsequent to that date. Furthermore, the Company's customers are generally able to reduce or cancel their use of the Company's services before the end of the contract term. Consequently, there can be no assurance that services included in sales backlog will generate revenues in the amount estimated or that such revenues will be recognized during the specified twelve-month period or at all. See "Risk Factors -- Contract Cancellation Rights; Absence of Long-Term Contracts" and "-- Consolidation and Uncertainty in the Healthcare Industry." EMPLOYEES As of November 30, 1996, the Company employed 124 persons. Of these employees, 82 were involved in providing computer network services, 13 in sales and marketing and 29 in general administration, finance and clerical. The Company's employees are not represented by a labor union and the Company's management believes that its relationship with its employees is good. FACILITIES The Company leases approximately 32,000 square feet of office space in San Diego, California for its principal administrative, support and training facilities. This lease expires in September 1998. In addition, the Company has executive offices in Chicago and Atlanta to provide regional sales and support activities to its customers and plans to establish executive offices in Boston and Philadelphia during the first quarter of 1997. The Company continually evaluates the adequacy of its existing facilities and believes that its current and planned facilities will be adequate for the next twelve months. 27 MANAGEMENT EXECUTIVE OFFICERS AND DIRECTORS The executive officers and directors of the Company and their ages as of the date of this Prospectus are as follows:
NAME AGE POSITION - --------------------------------------- --- ------------------------------------------------------------- Georges J. Daou........................ 35 Chairman of the Board and Chief Executive Officer Daniel J. Daou......................... 31 President and Director Robert J. McNeill...................... 58 Executive Vice President and Chief Operating Officer Fred C. McGee.......................... 50 Senior Vice President, Chief Financial Officer and Secretary Dan L. Porter.......................... 57 Senior Vice President, Human Resources Ron V. Mirabile........................ 35 Vice President, Field Services Eric S. Ringwall....................... 32 Vice President, Technology Services David W. Jahns (1)(2).................. 31 Director Bernard F. McDonagh (1)(2)............. 53 Director John H. Moragne (1)(2)................. 39 Director
- -------------- (1) Member of the Audit Committee (2) Member of the Compensation Committee MR. GEORGES DAOU, a founder of the Company, has served as Chairman of the Board and Chief Executive Officer since the Company's inception in 1987. Mr. Daou sits on the boards of various healthcare and community organizations, including the College of Healthcare Management Executives and the Healthcare Information Managers Association. He holds a B.S. in Electrical Engineering and an M.S. in Information and Communication Theory from the University of California, San Diego. MR. DANIEL DAOU, a founder of the Company, has served as President since December 1994 and as a director since the Company's inception in 1987. From November 1992 to December 1994, he was the President of Complex Network Solutions, Inc., an engineering services company. From July 1987 to November 1992, he served as Vice President of the Company. Mr. Daou sits on the board of a private software company. He holds a B.S. in Computer Engineering from the University of California, San Diego. MR. MCNEILL joined the Company as Executive Vice President and Chief Operating Officer in November 1996. From September 1981 through November 1996, he served in various executive capacities with Shared Medical Systems Corporation ("SMS"), a healthcare information services company. In his most recent position with SMS as Senior Vice President of Marketing, Mr. McNeill was responsible for marketing and professional services and managed several business units, including networking and imaging systems integration. He holds a B.S. in Accounting from St. Joseph's University. MR. MCGEE joined the Company as Senior Vice President and Chief Financial Officer in August 1996. From October 1988 through July 1996, Mr. McGee was Vice President of Finance and Chief Financial Officer of Infrasonics, Inc., a publicly-traded manufacturer of medical devices used in respiratory care. Prior thereto, Mr. McGee held various financial and management positions with Sears Roebuck & Co. and other retail, wholesale and manufacturing companies. He holds a B.S. in Finance from San Diego State University. MR. PORTER has served as Senior Vice President, Human Resources, of the Company since June 1994. From October 1993 to June 1994, he was the Director, Human Resources of the San Diego Convention Center. From October 1979 to October 1993, Mr. Porter was the Corporate Vice President, Human Resources, of Scripps Memorial Hospitals, where he was responsible for all human resources activities at 28 five acute-care facilities, two extended-care facilities and all affiliated businesses. He holds a B.A. in Psychology from the University of Tulsa. MR. MIRABILE has served as Vice President, Field Services, since January 1996 and is responsible for network implementation and the Company's engineering department. After joining the Company as a network engineer in March 1989, he served as Director of Technical Services from July 1994 to December 1995. Mr. Mirabile holds a B.S. in Business Information and Decision Systems from San Diego State University. MR. RINGWALL has served as Vice President, Technology Services, since January 1996. From May 1993 to January 1996, he worked as an engineering consultant to the Company designing computer networks for provider organizations nationwide. From September 1992 to May 1993, Mr. Ringwall was a network engineer for Citizens National Mortgage Corporation, a mortgage loan institution. Prior thereto, he obtained a masters degree in Information Systems Management from the Naval Postgraduate School. Mr. Ringwall holds a B.A. in Biology from Cornell University. MR. JAHNS has been a director of the Company since October 1995. Mr. Jahns joined Galen Associates, a venture capital investment firm, in January 1993, and has served as Vice President since January 1994. Prior thereto, he earned an M.B.A. from the J.L. Kellogg Graduate School of Business. Mr. Jahns currently serves on the board of directors of various private healthcare services and technology companies. He holds a B.A. in Political Science and Economics from Colgate University. MR. MCDONAGH has been a director of the Company since March 1996. Since February 1995, he has been Vice President, Investor Relations and Business Research for United Healthcare Corporation, a managed care services provider, where he is responsible for the venture investments of that company. From August 1989 to February 1995, Mr. McDonagh was a Senior Healthcare Services Analyst and managing director for Piper Jaffray, Inc., an investment banking firm. He holds a B.A. from Manhattan College, a Ph.D. in Statistics from The Catholic University of America and an M.B.A. from the University of Minnesota. MR. MORAGNE has been a director of the Company since October 1995. Mr. Moragne has been a managing director of Trident Capital, Inc., a private investment firm, since May 1993 and a member of Trident Capital Management, LLC, an affiliated entity, since October 1995. From August 1989 to May 1993, Mr. Moragne was a principal of Bain Capital, a private investment firm, as well as a principal of Information Partners, a private equity firm associated with Dun & Bradstreet Enterprises and Bain Capital. He currently serves on the board of directors of various private information technology companies. He holds a B.A. from Dartmouth College, an M.S. from the Stanford Graduate School of Applied Engineering and an M.B.A. from the Stanford Graduate School of Business. All directors currently hold office until the next annual meeting of stockholders and until their successors have been duly elected and qualified. After this offering, the Company intends to elect two additional directors to the Board of Directors who are not affiliated with the Company. Upon reincorporation in Delaware, the Board of Directors will be classified into three classes. Each class will consist of approximately the same number of directors, who will serve for a one, two or three-year period or until their successors are duly elected and qualified. At each annual meeting of stockholders, the successors to the class of directors whose term then expires will be elected to hold office for a term expiring at the annual meeting of stockholders held subsequently in three years. The Board of Directors has a Compensation Committee and an Audit Committee, each composed of Messrs. Jahns, McDonagh and Moragne. The Compensation Committee makes recommendations to the Board of Directors concerning salaries and incentive compensation for the Company's officers and employees and administers the Company's 1996 Stock Option Plan. The Audit Committee aids management in the establishment and supervision of the Company's financial controls, evaluates the scope of the annual audit, reviews audit results, consults with management and the Company's independent auditors prior to the presentation of financial statements to the stockholders and, if appropriate, initiates inquiries into aspects of the Company's financial affairs. Officers are elected by and serve at the discretion of the Board of Directors. 29 Georges Daou and Daniel Daou are brothers and Joseph Daou, a Selling Stockholder and a former officer and director of the Company, is their father. EXECUTIVE COMPENSATION The following table sets forth certain information for the year ended December 31, 1995, regarding the compensation of the Company's Chief Executive Officer and each of the other most highly compensated executive officers of the Company whose salary and bonus for such year were in excess of $100,000 (the "Named Executive Officers"): SUMMARY COMPENSATION TABLE
ANNUAL COMPENSATION ---------------------- ALL OTHER NAME AND PRINCIPAL POSITION SALARY BONUS COMPENSATION - -------------------------------------------------------------------------- ----------- --------- --------------- Georges Daou Chairman of the Board and Chief Executive Officer................................................. $ 218,680 $ -- $ 3,113(1) Daniel Daou President............................................................... 211,520 1,550 7,865(2) Joseph Daou Former Treasurer........................................................ 211,680 -- 5,637(3)
- -------------- (1) Includes $1,395 of automobile expenses and $1,718 of health insurance benefits. (2) Includes $2,105 of automobile expenses, $3,536 of health insurance benefits and $2,224 of contributions made by the Company under its 401(k) plan. (3) Includes $2,101 of automobile expenses and $3,536 of health insurance benefits. The Company hired Fred McGee, the Company's Chief Financial Officer and Secretary, in August 1996 at an annual salary of $130,000. The Company hired Robert McNeill, the Company's Executive Vice President and Chief Operating Officer, in November 1996 at an annual salary of $175,000. OPTION GRANTS. There were no options granted to any of the Named Executive Officers during the year ended December 31, 1995. In August 1996, the Company granted to Mr. McGee options to purchase 63,135 shares of Common Stock at $4.28 per share. In November 1996, the Company granted to Mr. McNeill options to purchase 140,300 shares of Common Stock at $4.28 per share. EMPLOYMENT AGREEMENT The Company entered into an employment agreement effective as of November 22, 1996 with Robert McNeill, its Executive Vice President and Chief Operating Officer. The agreement provides for (i) a base salary of $175,000 per year, (ii) a one-time signing bonus not to exceed $105,000 and (iii) up to $120,000 in annual bonus compensation, subject to achievement of specified performance goals. In addition, the Company granted to Mr. McNeill options to purchase 140,300 shares of Common Stock at an exercise price of $4.28 per share, and has agreed to pay to Mr. McNeill a cash bonus in the amount of the difference, if any, between (i) the net value of the options at the end of the third anniversary of their date of issuance and (ii) $1,550,000. In the event that Mr. McNeill is terminated without cause, he will be entitled to severance payments in an aggregate amount not to exceed one year of his base salary. See "Certain Transactions." DIRECTOR COMPENSATION Directors of the Company do not receive cash for services that they provide as directors or as committee members. The Company has granted to each non-employee director an option to purchase 21,045 shares of Common Stock at an exercise price of $4.28 per share. These options vest over three 30 years. The Company anticipates that it will compensate its independent directors in the future. See "Management -- 1996 Stock Option Plan" and "Certain Transactions." COMPENSATION COMMITTEE INTERLOCKS AND INSIDER PARTICIPATION In 1995, the Compensation Committee of the Board of Directors consisted of Messrs. Daniel Daou and Moragne and currently consists of Messrs. Jahns, McDonagh and Moragne. Entities affiliated with Messrs. Jahns, McDonagh and Moragne have purchased 1,052,975, 210,596 and 737,083 shares of Common Stock, respectively. No executive officer of the Company served on the compensation committee of another entity or on any other committee of the board of directors of another entity performing similar functions during the last fiscal year. 1996 STOCK OPTION PLAN The Company's 1996 Stock Option Plan (the "1996 Stock Option Plan") provides for the grant of incentive stock options to employees and nonstatutory stock options to employees, directors and consultants. A total of 1,367,925 shares of Common Stock have been reserved for issuance under the 1996 Stock Option Plan, under which options to purchase 829,173 shares of Common Stock have been granted as of November 30, 1996. Options granted under the 1996 Stock Option Plan typically vest over five years. The Compensation Committee of the Board of Directors administers the 1996 Stock Option Plan and determines the exercise price of options granted thereunder. The exercise price of incentive stock options must be at least equal to the fair market value of the Common Stock on the date of grant. In addition, the exercise price of any stock option granted to an optionee who owns stock representing more than 10% of the voting power of all classes of stock of the Company must equal at least 110% of the fair market value of the Common Stock on the date of grant. The exercise price may be paid in such consideration as determined by the Board of Directors. With respect to any participant who owns stock representing more than 10% of the voting power of all classes of stock of the Company, the term of the option is limited to five years or less. The term for all other options may not exceed ten years. The Board of Directors may amend or modify the 1996 Stock Option Plan at any time without the consent of the optionees, so long as such action does not adversely affect their outstanding options. The 1996 Stock Option Plan will terminate in 2006, unless terminated earlier by the Board of Directors. Each outstanding option provides that, in the event of a "change in control," including the dissolution or liquidation of the Company or a merger of the Company with or into another corporation, each optionee will be entitled to exercise up to 70% of the shares of Common Stock underlying his unvested options immediately prior to the consummation of such "change in control" event. SECTION 401(K) PLAN In August, 1994, the Company adopted a 401(k) Salary Savings Plan (the "401(k) Plan") covering the Company's full-time employees located in the United States. The 401(k) Plan is intended to qualify under Section 401(k) of the Internal Revenue Code, so that contributions to the 401(k) Plan by employees or by the Company, and the investment earnings thereon, are not taxable to employees until withdrawn from the 401(k) Plan, and so that contributions by the Company, if any, will be deductible by the Company when made. Pursuant to the 401(k) Plan, employees may elect to reduce their current compensation by up to the statutorily prescribed annual limit ($9,500 in 1996) and to have the amount of such reduction contributed to the 401(k) Plan. The 401(k) Plan permits, but does not require, additional matching contributions to the 401(k) Plan by the Company on behalf of all participants in the 401(k) Plan. LIMITATIONS ON DIRECTORS' LIABILITY AND INDEMNIFICATION In connection with the Company's reincorporation in Delaware, it has adopted provisions in its Certificate of Incorporation that limit the liability of directors to the maximum extent permitted by Delaware law. Delaware law provides that directors of a corporation will not be personally liable for monetary damages for breach of their fiduciary duties as directors, except liability for (i) any breach of 31 their duty of loyalty to the corporation or its stockholders, (ii) acts or omissions not in good faith or which involve intentional misconduct or a knowing violation of law, (iii) unlawful payments of dividends or unlawful stock repurchases or redemptions, or (iv) any transaction from which the director derived an improper personal benefit. Such limitation of liability does not apply to liabilities arising under the federal securities laws and does not affect the availability of equitable remedies such as injunctive relief or rescission. The Company's Bylaws provide that the Company shall indemnify its directors and executive officers and may indemnify its other officers and employees and other agents to the fullest extent permitted by law. The Company believes that indemnification under its Bylaws covers at least negligence and gross negligence on the part of indemnified parties. The Company's Bylaws also permit it to secure insurance on behalf of any officer, director, employee or other agent for any liability arising out of his or her actions in such capacity, regardless of whether the Bylaws permit such indemnification. The Company has entered into agreements to indemnify its directors and executive officers, in addition to indemnification provided for in the Company's Bylaws. These agreements, among other things, indemnify the Company's directors and executive officers against expenses (including attorneys' fees), judgments, fines and settlement amounts incurred by any such person in any action or proceeding, including expenses incurred in connection with any action by or in the right of the Company, arising out of such person's services as a director or executive officer of the Company, any subsidiary of the Company or any other company or enterprise to which the person provides services at the request of the Company. The Company believes that these provisions and agreements are necessary to attract and retain qualified persons as directors and executive officers. At present, there is no pending litigation or proceeding involving a director or officer of the Company in which indemnification is required or permitted, and the Company is not aware of any threatened litigation or proceeding that may result in a claim for such indemnification. 32 CERTAIN TRANSACTIONS In October 1995, the Company issued and sold an aggregate of 1,603,430 shares of Preferred Stock at a purchase price of $4.99 per share. Upon the completion of this offering, each share of Preferred Stock will convert into one share of Common Stock. In connection with the Company's sale of Preferred Stock, Georges Daou, Daniel Daou and Joseph Daou sold an aggregate of 818,416 shares of Common Stock to the same investors at $4.28 per share. The purchasers of such shares of Common Stock and Preferred Stock included, among others, the following entities affiliated with directors of the Company:
SHARES OF SHARES OF NAME COMMON STOCK PREFERRED STOCK - ------------------------------------------------------------------------------- --------------- ---------------- ENTITIES AFFILIATED WITH DIRECTORS Galen Partners II, L.P. (1).................................................. 256,251 502,041 Galen Partners International, L.P. (1)....................................... 98,043 192,086 Galen Employee Fund, L.P. (1)................................................ 1,539 3,015 Information Associates, L.P. (2)............................................. 233,344 457,163 Information Associates, C.V. (2)............................................. 15,739 30,837 HLM Partners, VII L.P. (3)................................................... 71,167 139,429
- -------------- (1) David Jahns, a director of the Company, is a Vice President of Galen Associates, which is affiliated with Galen Partners II, L.P., Galen Partners International, L.P. and Galen Employee Fund, L.P. Mr. Jahns disclaims beneficial ownership of the shares held by these entities. In addition, the Company has granted to Mr. Jahns options to purchase 21,045 shares of Common Stock at a price of $4.28 per share. (2) John Moragne, a director of the Company, is a member of Trident Capital Management, LLC, the general partner of Information Associates, L.P. and Information Associates, C.V. Mr. Moragne disclaims beneficial ownership of the shares held by these entities, except to the extent of his interest in such shares arising from his interest in Trident Capital Management, LLC. In addition, the Company has granted to Mr. Moragne options to purchase 21,045 shares of Common Stock at a price of $4.28 per share. (3) Bernard McDonagh, a director of the Company, is the Vice President, Investor Relations and Business Research at United Healthcare Corporation, which is affiliated with HLM Partners, VII L.P. Mr. McDonagh disclaims beneficial ownership of the shares held by this entity. In addition, the Company has granted to Mr. McDonagh options to purchase 21,045 shares of Common Stock at a price of $4.28 per share. The Company has an employment agreement with Robert McNeill, its Executive Vice President and Chief Operating Officer. See "Management -- Employment Agreement." Complex Network Solutions, Inc. ("CNS"), a company founded in October 1992 by Georges Daou, Daniel Daou and Joseph Daou and of which Daniel Daou served as President, provided certain engineering services to the Company from October 1992 to December 1994. The Company paid an aggregate of approximately $1.6 million for these services in 1994, but does not intend to enter into any future business arrangements with CNS. The Company has from time to time granted options and other compensation to its directors and executive officers. See "Management -- Executive Compensation," "-- Director Compensation," "-- 1996 Stock Option Plan" and "Principal and Selling Stockholders." The Company loaned to Georges Daou, Daniel Daou and Joseph Daou certain amounts for personal use. As of September 30, 1996, the principal balances of these loans to Messrs. George Daou, Daniel Daou and Joseph Daou were $70,642, $69,897 and $66,103, respectively. These loans are unsecured, accrue interest at the rate of 6% per annum and are due and payable prior to the completion of this offering. 33 All future transaction, including any loans from the Company to its officers, directors, principal stockholders or affiliates, will be approved by a majority of the Board of Directors, including a majority of the disinterested members of the Board of Directors or, if required by law, a majority of disinterested stockholders, and will be on terms no less favorable to the Company than could be obtained from unaffiliated third parties. 34 PRINCIPAL AND SELLING STOCKHOLDERS The following table sets forth information known to the Company with respect to the beneficial ownership of its Common Stock as of November 30, 1996, and as adjusted to reflect the sale of Common Stock offered by the Company hereby and conversion of all outstanding shares of Preferred Stock into shares of Common Stock, for (i) each person who is known by the Company to own beneficially more than five percent of the Common Stock, (ii) each of the Company's directors, (iii) each of the Named Executive Officers and (iv) all directors and executive officers as a group. Unless otherwise indicated in the footnotes to the table set forth below, each person or entity named below has an address in care of the Company's principal executive offices.
SHARES BENEFICIALLY OWNED SHARES BENEFICIALLY OWNED BEFORE OFFERING AFTER OFFERING ------------------------- ------------------------- NAMES AND ADDRESSES(1) NUMBER PERCENT NUMBER PERCENT - ------------------------------------------------------------------ ----------- ------------ ----------- ------------ Georges J. Daou................................................... 1,957,361 23.6% 1,757,361 15.7% Chairman of the Board and Chief Executive Officer Daniel J. Daou.................................................... 1,952,361 23.6 1,752,361 15.7 President and Director Joseph H. Daou.................................................... 1,660,661 20.0 1,355,661 12.1 Former Treasurer and Former Director Galen Associates (2).............................................. 1,059,990 12.8 954,990 8.6 666 Third Avenue, Suite 1400 New York, New York 10017-4011 Trident Capital Management, LLC (3)............................... 744,098 9.0 669,098 6.0 2480 Sand Hill Road, Suite 100 Menlo Park, California 94025 HLM Partners, VII L.P. (4)........................................ 217,611 2.6 217,611 2.0 222 Berkeley Street Boston, Massachusetts 02116 St. John Maron.................................................... 35,000 * 0 * 1546 E. La Palma Avenue Anaheim, California 92805 St. Ephrem........................................................ 30,000 * 0 * 6310 Rancho Mission Road #157 San Diego, California 92108 All directors and executive officers as a group (10 persons) (5)................................................ 5,632,115 67.6% 4,927,115 43.9%
- -------------- * Less than 1%. (1) Except as otherwise indicated in the footnotes to this table and pursuant to applicable community property laws, the persons named in the table have sole voting and investment power with respect to all shares of Common Stock. Beneficial ownership is determined in accordance with the rules of the Securities and Exchange Commission and generally includes voting or investment power with respect to securities. Shares of Common Stock subject to options or warrants exercisable within 60 days of November 30, 1996 are deemed outstanding for computing the percentage of the person or entity holding such options but are not deemed outstanding for computing the percentage of any other person. (2) Includes 758,292 shares held by Galen Partners II, L.P., 290,129 shares held by Galen Partners International, L.P., 4,554 shares held by Galen Employee Fund, L.P. and 7,015 shares issuable under stock options held by David Jahns which are exercisable within 60 days of November 30, 1996. 35 Mr. Jahns is a Vice President of Galen Associates, the investment manager of these funds. Mr. Jahns disclaims beneficial ownership of the shares held by these funds. (3) Includes 690,507 shares held by Information Associates, L.P., 46,576 shares held by Information Associates, C.V. and 7,015 shares issuable under stock options held by John Moragne which are exercisable within 60 days of November 30, 1996. Mr. Moragne is a member of Trident Capital Management, LLC, the general partner of these funds. Mr. Moragne disclaims beneficial ownership of the shares held by these funds, except to the extent of his interest in such shares arising from his interest in Trident Capital Management, LLC. (4) Includes 7,015 shares issuable under stock options granted to Bernard McDonagh which are exercisable within 60 days of November 30, 1996. (5) Includes 61,732 shares issuable under stock options held by directors and executive officers exercisable within 60 days of November 30, 1996. 36 DESCRIPTION OF CAPITAL STOCK The authorized capital stock of the Company will consist of 50,000,000 shares of Common Stock, par value $0.001 per share, and 5,000,000 shares of Preferred Stock, par value $0.001 per share, after giving effect to the Company's reincorporation in Delaware and the completion of this offering. The following summaries of certain provisions of the Common Stock and Preferred Stock do not purport to be complete and are subject to, and qualified in their entirety by, the provisions of the Company's Restated Certificate of Incorporation, which is included as an exhibit to the Registration Statement of which this Prospectus forms a part, and by applicable law. COMMON STOCK As of November 30, 1996, after giving effect to the conversion of all shares of Preferred Stock into shares of Common Stock, there were 8,267,678 shares of Common Stock outstanding, which were held of record by 18 stockholders. The holders of Common Stock are entitled to one vote per share on all matters submitted to a vote of the stockholders. Subject to preferences that may be applicable to outstanding shares of Preferred Stock, if any, holders of Common Stock are entitled to receive ratably such dividends, if any, as may be declared from time to time by the Board of Directors out of funds legally available therefor. See "Dividend Policy." In the event of a liquidation, dissolution or winding up of the Company, holders of Common Stock are entitled to share ratably in all assets remaining after payment of the Company's liabilities and the liquidation preference, if any, of any outstanding shares of Preferred Stock. Holders of Common Stock have no preemptive rights and no rights to convert their shares of Common Stock into any other securities, and there are no redemption or sinking fund provisions with respect to such shares. All of the outstanding shares of Common Stock are fully paid and non-assessable, and the shares of Common Stock to be outstanding upon the completion of this offering will be fully paid and non-assessable. The rights, preferences and privileges of holders of Common Stock are subject to, and may be adversely affected by, the rights of the holders of shares of any series of Preferred Stock which the Company may designate and issue in the future. PREFERRED STOCK The Board of Directors has the authority, without action by the stockholders, to designate and issue Preferred Stock in one or more series and to designate the rights, preferences and privileges of each series, any or all of which may be greater than the rights of the Common Stock. It is not possible to state the actual effect of the issuance of any shares of Preferred Stock upon the rights of holders of the Common Stock until the Board of Directors determines the specific rights of the holders of such Preferred Stock. However, the effects might include, among other things, restricting dividends on the Common Stock, diluting the voting power of the Common Stock, impairing the liquidation rights of the Common Stock and delaying or preventing a change in control of the Company without further action by the stockholders. The Company has no present plans to issue any shares of Preferred Stock. WARRANTS Upon the completion of this offering and the conversion of all of the issued and outstanding shares of the Company's Preferred Stock into Common Stock, the Company will have two warrants outstanding, exercisable into a total of 133,285 shares of Common Stock at an exercise price of $4.99 per share. The warrants expire on October 26, 2000. REGISTRATION RIGHTS The holders of 2,241,846 shares of Common Stock and warrants to purchase 133,285 shares of Common Stock (collectively the "Registrable Securities"), or their transferees, are entitled to certain rights with respect to the registration of such shares under the Securities Act. These rights are provided under the terms of the Investors' Rights Agreement between the Company and such holders. Subject to certain limitations in such agreement, the holders of a majority of the Registrable Securities have the right 37 to require on one occasion that the Company register their shares for public resale. In addition, if the Company registers any of its Common Stock either for its own account or for the account of any other stockholders, the holders of Registrable Securities are entitled to include their shares of Common Stock in up to two registrations. A holder's right to include shares in an underwritten registration is subject to the good faith determination by the Company that the inclusion of such shares is compatible with the success of the offering. All expenses incurred in connection with any registration effected pursuant to the Investors' Rights Agreement (other than the underwriting discounts and commissions) will be borne by the Company. The foregoing registration rights terminate seven years following the consummation of this offering. CERTAIN CHANGE OF CONTROL PROVISIONS As a Delaware corporation, the Company is subject to Section 203 of the Delaware General Corporation Law, an anti-takeover law. In general, Section 203 prohibits a publicly-held Delaware corporation from engaging in a "business combination" with an "interested stockholder" for a period of three years following the date that the person became an interested stockholder, unless (with certain exceptions) the "business combination" or the transaction in which the person became an interested stockholder is approved in a prescribed manner. Generally, a "business combination" incudes a merger, asset or stock sale, or other transaction resulting in a financial benefit to the interested stockholder. Generally, an "interested stockholder" is a person who, together with affiliates and associates, owns (or within three years prior to the determination of interested stockholder status, did own) 15% or more of a corporation's voting stock. The existence of this provision would be expected to have anti-takeover effects with respect to transactions not approved in advance by the Board of Directors, such as discouraging takeover attempts that might result in a premium over the market price of the Common Stock. The Company's Certificate of Incorporation provides that the Board of Directors will be divided into three classes of directors, with each class serving a staggered three-year term. The classification system of electing directors may tend to discourage a third party from making a tender offer or otherwise attempting to obtain control of the Company and may maintain the incumbency of the Board of Directors, as a classified board of directors generally increases the difficulty of replacing a majority of the directors. The Certificate of Incorporation and Bylaws do not provide for cumulative voting in the election of directors and allow for the removal of directors only for cause and with a two-thirds vote of the Company's outstanding shares. In addition, the Company's Certificate of Incorporation and Bylaws eliminate the right of stockholders to act by written consent without a meeting and require advanced stockholder notice to nominate directors and raise matters at the annual stockholders meeting. Furthermore, the authorization of undesignated Preferred Stock makes it possible for the Board of Directors to issue Preferred Stock with voting or other rights or preferences that could impede the success of any attempt to change control of the Company. These and other provisions may have the effect of deferring hostile takeovers or delaying changes in control or management of the Company. The amendment of any of these provisions would require approval by holders of at least two-thirds of the outstanding shares of Common Stock. TRANSFER AGENT AND REGISTRAR The transfer agent and registrar for the Company's Common Stock is Continental Stock Transfer & Trust Company. Its telephone number is (212) 509-4000. 38 SHARES ELIGIBLE FOR FUTURE SALE Prior to this offering, there has been no market for the Common Stock of the Company. Future sales of substantial amounts of Common Stock in the public market could adversely affect market prices prevailing from time to time and the ability of the Company to raise equity capital in the future. Upon the completion of this offering, the Company will have 11,167,678 shares of Common Stock outstanding, assuming no exercise of the Underwriters' over-allotment, option and no exercise of outstanding warrants or outstanding options granted under the 1996 Stock Option Plan after November 30, 1996. Of these shares, the 3,850,000 shares of Common Stock sold in this offering will be freely tradeable without restriction under the Securities Act, unless held by "affiliates" of the Company, as that term is defined in Rule 144 under the Securities Act. The remaining 7,317,678 shares of Common Stock held by existing stockholders will be "restricted securities" as that term is defined in Rule 144 of the Securities Act (the "Restricted Shares"). The Restricted Shares may be sold in the public market only if registered under the Securities Act or if they qualify for an exemption from registration under Rule 144 or Rule 701 promulgated under the Securities Act. Sales of the Restricted Shares in the public market, or the availability of such shares for sale, could adversely affect the market price of the Common Stock. The holders of all of the Restricted Shares have entered into lock-up agreements, under which they have agreed not to offer, sell, contract to sell, grant any option to purchase or otherwise dispose of, or agree to dispose of, directly or indirectly, any shares of Common Stock, options or warrants to acquire shares of Common Stock or securities exchangeable for or convertible into Common Stock owned by them for a period of 180 days after the date of this Prospectus, without the prior written consent of Alex. Brown & Sons Incorporated. The Company has entered into a similar agreement, except that it may issue, and grant options to purchase, shares of Common Stock under the 1996 Stock Option Plan and pursuant to currently outstanding warrants. As of November 30, 1996, an aggregate of 829,173 shares were subject to outstanding options under the 1996 Stock Option Plan and 133,285 shares were subject to outstanding warrants. All of these shares are subject to the lock-up agreements described above. After the date of this Prospectus, the Company intends to file a registration statement on Form S-8 covering shares issuable under the 1996 Stock Option Plan (including shares subject to then outstanding options) thus permitting the resale of such shares in the public market without restriction under the Securities Act after expiration of the lock-up agreements. Based on the number of shares reserved for issuance and previously exercised, approximately 1,367,925 shares will be registered. Accordingly, shares registered under such registration statement will, subject to Rule 144 volume limitations applicable to affiliates, be available for sale in the public market, unless such shares are subject to vesting restrictions with the Company or the lock-up agreements described above. Upon expiration of the lock-up agreements, 4,998,574 shares of Common Stock (including approximately 133,191 shares subject to outstanding vested options) will become eligible for immediate public resale, subject in some cases to volume limitations pursuant to Rule 144. The remaining approximately 2,452,296 shares held by existing stockholders will become eligible for public resale at various times over a period of less than two years following the completion of this offering, subject in some cases to vesting provisions and volume limitations. 2,241,846 of the shares outstanding immediately following the completion of this offering will be entitled to registration rights with respect to such shares upon the release of lock-up agreements. The number of shares sold in the public market could increase if such rights are exercised. In general, under Rule 144 as currently in effect, a person (or persons whose shares are aggregated) who has beneficially owned shares for at least two years (including the holding period of any prior owner, except an affiliate) is entitled to sell in "broker's transactions" or to market makers, within any three-month period commencing 90 days after the date of this Prospectus, a number of shares that does not exceed the greater of (i) one percent of the number of shares of Common Stock then outstanding (approximately 111,677 shares immediately after this offering) or (ii) the average weekly trading volume of the Common Stock during the four calendar weeks preceding the required filing of a Form 144 with respect to such sale. Sales under Rule 144 are generally subject to certain manner of sale provisions and 39 notice requirements and to the availability of current public information about the Company. Under Rule 144(k), a person who is not deemed to have been an affiliate of the Company at any time during the 90 days preceding a sale, and who has beneficially owned the shares proposed to be sold for at least three years, is entitled to sell such shares without having to comply with the manner of sale, public information, volume limitation or notice provisions of Rule 144. Under Rule 701 under the Securities Act, persons who purchase shares upon exercise of options granted prior to the effective date of this offering are entitled to sell such shares 90 days after the effective date of this offering in reliance on Rule 144, without having to comply with the holding period requirements of Rule 144 and, in the case of nonaffiliates, without having to comply with the public information, volume limitation or notice provisions of Rule 144. The Securities and Exchange Commission (the "Commission") has recently proposed reducing the initial Rule 144 holding period to one year and the Rule 144(k) holding period to two years. There can be no assurance as to when or whether such rule changes will be enacted. If enacted, such modification will have a material effect on the time when shares of the Company's Common Stock become eligible for resale. 40 UNDERWRITING Subject to the terms and conditions of the Underwriting Agreement, the Underwriters named below (the "Underwriters"), through their Representatives, Alex. Brown & Sons Incorporated, Cowen & Company and Hambrecht & Quist LLC, have severally agreed to purchase from the Company the following respective numbers of shares of Common Stock at the initial public offering price less the underwriting discounts and commissions set forth on the cover page of this Prospectus:
NUMBER OF UNDERWRITER SHARES - ----------------------------------------------------------------------------------------------------- ----------- Alex. Brown & Sons Incorporated...................................................................... Cowen & Company...................................................................................... Hambrecht & Quist LLC................................................................................ ----------- Total.......................................................................................... 3,850,000 ----------- -----------
The Underwriting Agreement provides that the obligations of the Underwriters are subject to certain conditions precedent and that the Underwriters will purchase all shares of the Common Stock offered hereby if any of such shares are purchased. The Company has been advised by the Representatives of the Underwriters that the Underwriters propose to offer the shares of Common Stock to the public at the initial public offering price set forth on the cover page of this Prospectus and to certain dealers at such price less a concession not in excess of $ . The Underwriters may allow, and such dealers may reallow, a concession not in excess of $ per share to certain other dealers. After the initial public offering, the offering price and other selling terms may be changed by the Representatives of the Underwriters. The Company has granted to the Underwriters an option, exercisable not later than 30 days after the date of this Prospectus, to purchase up to 577,500 additional shares of Common Stock at the initial public offering price less the underwriting discounts and commissions set forth on the cover page of this Prospectus. To the extent that the Underwriters exercise such option, each of the Underwriters will have a firm commitment to purchase approximately the same percentage thereof that the number of shares of Common Stock to be purchased by it shown in the above table bears to 3,850,000, and the Company will be obligated, pursuant to the option, to sell such shares to the Underwriters. The Underwriters may exercise such option only to cover over-allotments made in connection with the sale of Common Stock offered hereby. If purchased, the Underwriters will offer such additional shares on the same terms as those on which the 3,850,000 shares are being offered. The Company has agreed to indemnify the Underwriters against certain liabilities, including liabilities under the Securities Act of 1933, as amended. Stockholders of the Company, holding in the aggregate 7,317,678 shares of Common Stock, have agreed not to offer, sell or otherwise dispose of any of such shares of Common Stock for a period of 180 days after the date of this Prospectus without the prior written consent of Alex. Brown & Sons Incorporated. The Company has entered into a similar agreement, except that it may issue, and grant options to purchase, shares of Common Stock under the 1996 Stock Option Plan and pursuant to currently outstanding warrants. See "Shares Eligible for Future Sale." The Representatives of the Underwriters have advised the Company that the Underwriters do not intend to confirm sales to any account over which they exercise discretionary authority. 41 Prior to this offering, there has been no public market for the Common Stock of the Company. Consequently, the initial public offering price for the Common Stock will be determined by negotiation among the Company, the Selling Stockholders and the Representatives of the Underwriters. Among the factors to be considered in such negotiations will be prevailing market conditions, the results of operations of the Company in recent periods, the market capitalizations and stages of development of other companies which the Company, the Selling Stockholders and the Representatives of the Underwriters believe to be comparable to the Company, estimates of the business potential of the Company, the present stage of the Company's development and other factors deemed relevant. LEGAL MATTERS Certain legal matters with respect to the legality of the issuance of the shares of Common Stock offered hereby will be passed upon for the Company by Baker & McKenzie, San Diego, California. Certain legal matters related to this offering will be passed upon for the Underwriters by Cooley Godward LLP, San Diego, California. EXPERTS The Financial Statements of the Company at December 31, 1994 and 1995 and for each of the two years in the period ended December 31, 1995 appearing in this Prospectus and Registration Statement have been audited by Ernst & Young LLP, independent auditors, as set forth in their report thereon appearing elsewhere herein and in the Registration Statement, and are included in reliance upon such report given upon the authority of such firm as experts in accounting and auditing. ADDITIONAL INFORMATION The Company is not currently subject to the information requirements of the Securities Exchange Act of 1934, as amended (the "Exchange Act"). As a result of this offering, the Company will be required to file reports and other information with the Commission pursuant to the informational requirements of the Exchange Act. The Company has filed with the Commission a Registration Statement on Form SB-2 under the Securities Act, with respect to the Common Stock offered hereby. As permitted by the rules and regulations of the Commission, this Prospectus, which is part of the Registration Statement, omits certain information, exhibits, schedules and undertakings set forth in the Registration Statement. For further information pertaining to the Company and the Common Stock, reference is made to such Registration Statement and the exhibits and schedules thereto. Statements contained in this Prospectus as to the contents or provisions of any documents referred to herein are not necessarily complete, and in each instance, reference is made to the copy of the document filed as an exhibit to the Registration Statement. The Registration Statement may be inspected without charge at the office of the Commission at 450 Fifth Street, N.W., Washington, D.C. 20549. Copies of the Registration Statement may be obtained from the Commission at prescribed rates from the Public Reference Section of the Commission at such address, and at the Commission's regional offices located at 7 World Trade Center, 13th Floor, New York, New York 10048, and at Northwestern Atrium Center, 500 West Madison Street, Suite 1400, Chicago, Illinois 60661. In addition, registration statements and certain other filings made with the Commission through its Electronic Data Gathering, Analysis and Retrieval ("EDGAR") system are publicly available through the Commission's site on the Internet's World Wide Web, located at http://www.sec.gov. The Registration Statement, including all exhibits thereto and amendments thereof, has been filed with the Commission through EDGAR. The Company intends to furnish to its stockholders annual reports containing audited financial statements examined by independent auditors and quarterly reports containing interim unaudited financial information for the first three quarters of each fiscal year. 42 INDEX TO FINANCIAL STATEMENTS Report of Ernst & Young LLP, Independent Auditors......................... F-2 Balance Sheets at December 31, 1994 and 1995 and at September 30, 1996 (Unaudited)............................................................. F-3 Statements of Operations for the year ended December 31, 1994 and 1995 and for the nine months ended September 30, 1995 (Unaudited) and 1996 (Unaudited)............................................................. F-4 Statements of Stockholders' Equity for the year ended December 31, 1994 and 1995 and the nine months ended September 30, 1996 (Unaudited)....... F-5 Statements of Cash Flows for the year ended December 31, 1994 and 1995 and for the nine months ended September 30, 1995 (Unaudited) and 1996 (Unaudited)............................................................. F-6 Notes to Financial Statements............................................. F-7
F-1 REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS The Board of Directors and Stockholders DAOU Systems, Inc. We have audited the accompanying balance sheets of DAOU Systems, Inc. as of December 31, 1994 and 1995 and the related statements of operations, stockholders' equity, and cash flows for the years then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits 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 financial statements referred to above present fairly, in all material respects, the financial position of DAOU Systems, Inc. at December 31, 1994 and 1995 and the results of its operations and its cash flows for the years then ended in conformity with generally accepted accounting principles. San Diego, California March 22, 1996, except for Note 9, as which the date is December , 1996 - -------------------------------------------------------------------------------- The foregoing report is in the form that will be signed upon the completion of the reincorporation in Delaware disclosed in Note 9 of Notes to Financial Statements. ERNST & YOUNG LLP San Diego, California March 22, 1996 F-2 DAOU SYSTEMS, INC. BALANCE SHEETS (IN THOUSANDS) ASSETS
DECEMBER 31, -------------------- 1994 1995 --------- --------- SEPTEMBER 30, PRO FORMA 1996 STOCKHOLDERS' -------------- EQUITY AT SEPTEMBER 30, (UNAUDITED) 1996 --------------- (UNAUDITED) Current assets: Cash and cash equivalents...................................... $ 264 $ 2,599 $ 3,655 $ -- Short-term investments......................................... -- 3,686 -- Accounts receivable............................................ 396 5,038 3,414 Contract work in progress...................................... 574 394 3,164 Deferred income taxes.......................................... 17 209 209 Other current assets........................................... 24 102 128 --------- --------- -------------- Total current assets......................................... 1,275 12,028 10,570 Due from officers................................................ 114 211 210 Equipment, furniture and fixtures, net........................... 315 280 627 Deferred income taxes............................................ 10 10 10 Other assets..................................................... 13 16 51 --------- --------- -------------- $ 1,727 $ 12,545 $ 11,468 --------- --------- -------------- --------- --------- -------------- LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Trade accounts payable......................................... $ 511 $ 607 $ 1,531 Accrued salaries and wages..................................... 160 327 282 Deferred revenue............................................... 856 441 540 Other accrued liabilities...................................... 97 1,306 215 Income taxes payable........................................... 43 975 -- --------- --------- -------------- Total current liabilities.................................... 1,667 3,656 2,568 Deferred rent.................................................... 31 2 55 Commitments and contingencies.................................... Redeemable preferred stock....................................... -- 7,705 8,068 Stockholders' equity: Preferred stock, $.001 par value: Authorized shares -- 5,000 Issued and outstanding shares -- none........................ -- -- -- Common stock, $.001 par value: Authorized shares -- 50,000 Issued and outstanding shares -- 6,664 at December 31, 1994 and 1995 and September 30, 1996 (8,268 shares pro forma)... 7 7 7 8 Additional paid-in capital..................................... 3 3 208 7,825 Deferred compensation.......................................... -- -- (201) (201) Accretion of redeemable preferred stock........................ -- (87) (450) -- Retained earnings.............................................. 19 1,259 1,213 1,213 --------- --------- -------------- ------- Total stockholders' equity................................... 29 1,182 777 $ 8,845 --------- --------- -------------- ------- ------- $ 1,727 $ 12,545 $ 11,468 --------- --------- -------------- --------- --------- --------------
See accompanying notes. F-3 DAOU SYSTEMS, INC. STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT FOR PER SHARE DATA)
YEARS ENDED DECEMBER NINE MONTHS ENDED 31, SEPTEMBER 30, -------------------- -------------------- 1994 1995 1995 1996 --------- --------- --------- --------- (UNAUDITED) Revenues.............................................................. $ 8,521 $ 14,330 $ 7,084 $ 12,357 Cost of revenues...................................................... 6,185 8,475 3,865 8,650 --------- --------- --------- --------- Gross profit.......................................................... 2,336 5,855 3,219 3,707 Operating expenses: Sales and marketing................................................. 796 938 690 1,167 General and administrative.......................................... 1,507 2,893 1,943 2,770 --------- --------- --------- --------- 2,303 3,831 2,633 3,937 --------- --------- --------- --------- Income (loss) from operations......................................... 33 2,024 586 (230) Interest income (expense), net........................................ 12 67 259 163 --------- --------- --------- --------- Income (loss) before income taxes..................................... 45 2,091 845 (67) Provision (benefit) for income taxes.................................. 19 851 312 (21) --------- --------- --------- --------- Net income (loss)..................................................... 26 1,240 533 (46) Accretion of redeemable preferred stock............................... -- 87 -- 363 --------- --------- --------- --------- Net income (loss) attributable to common stock........................ $ 26 $ 1,153 $ 533 $ (409) --------- --------- --------- --------- --------- --------- --------- --------- Pro forma net income (loss) per share................................. $ 0.17 $ (0.01) --------- --------- --------- --------- Shares used in computing pro forma net income (loss) per common share............................................................... 7,495 8,808 --------- --------- --------- ---------
See accompanying notes. F-4 DAOU SYSTEMS, INC. STATEMENTS OF STOCKHOLDERS' EQUITY (IN THOUSANDS)
ACCRETION OF COMMON STOCK ADDITIONAL REDEEMABLE RETAINED ------------------------ PAID-IN DEFERRED PREFERRED EARNINGS SHARES AMOUNT CAPITAL COMPENSATION STOCK (DEFICIT) ----------- ----------- ------------- --------------- ------------- ----------- Balance at December 31, 1993.......... 6,664 $ 7 $ 3 $ -- $ -- $ (7) Net income.......................... -- -- -- 26 ----- --- ----- ------ ------ ----------- Balance at December 31, 1994.......... 6,664 7 3 -- -- 19 Accretion of redeemable preferred stock............................. -- -- -- -- (87) -- Net income.......................... -- -- -- -- -- 1,240 ----- --- ----- ------ ------ ----------- Balance at December 31, 1995.......... 6,664 7 3 -- (87) 1,259 Deferred compensation (Unaudited)... -- -- 205 (205) -- -- Amortization of deferred compensation (Unaudited).......... -- -- -- 4 -- -- Accretion of redeemable preferred stock (Unaudited)................. -- -- -- -- (363) -- Net loss (Unaudited)................ -- -- -- -- -- (46) ----- --- ----- ------ ------ ----------- Balance at September 30, 1996 (Unaudited)......................... 6,664 $ 7 $ 208 $ (201) $ (450) $ 1,213 ----- --- ----- ------ ------ ----------- ----- --- ----- ------ ------ ----------- TOTAL --------- Balance at December 31, 1993.......... $ 3 Net income.......................... 26 --------- Balance at December 31, 1994.......... 29 Accretion of redeemable preferred stock............................. (87) Net income.......................... 1,240 --------- Balance at December 31, 1995.......... 1,182 Deferred compensation (Unaudited)... -- Amortization of deferred compensation (Unaudited).......... 4 Accretion of redeemable preferred stock (Unaudited)................. (363) Net loss (Unaudited)................ (46) --------- Balance at September 30, 1996 (Unaudited)......................... $ 777 --------- ---------
See accompanying notes. F-5 DAOU SYSTEMS, INC. STATEMENTS OF CASH FLOWS (IN THOUSANDS)
YEARS ENDED DECEMBER NINE MONTHS ENDED 31, SEPTEMBER 30, -------------------- -------------------- 1994 1995 1995 1996 --------- --------- --------- --------- (UNAUDITED) OPERATING ACTIVITIES Net income (loss)...................................................... $ 26 $ 1,240 $ 533 $ (46) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Depreciation and amortization........................................ 101 252 94 140 Provision for uncollectible accounts................................. -- -- -- 100 Deferred income taxes................................................ (24) (192) -- -- Changes in operating assets and liabilities: Accounts receivable................................................ (285) (4,642) (904) 1,523 Contract work in progress.......................................... 213 179 (1,534) (2,770) Other assets....................................................... (25) (81) (61) (61) Trade accounts payable............................................. 331 96 242 924 Accrued salaries and wages......................................... -- 167 (116) (44) Deferred revenue................................................... (399) (415) 2,434 99 Other accrued liabilities.......................................... 296 1,208 114 (1,091) Income taxes payable............................................... -- 932 220 (975) Deferred rent...................................................... 1 (29) -- 53 --------- --------- --------- --------- Net cash provided by (used in) operating activities.................... 235 (1,285) 1,022 (2,148) INVESTING ACTIVITIES Purchases of equipment, furniture and fixtures......................... (309) (215) (141) (483) Purchase of short-term investments..................................... -- (3,686) -- -- Maturities of short-term investments................................... -- -- -- 3,686 Advances to officers................................................... (149) (306) (269) (4) Proceeds from repayment of due from officers........................... 213 209 -- 5 --------- --------- --------- --------- Net cash (used in) provided by investing activities.................... (245) (3,998) (410) 3,204 FINANCING ACTIVITIES Repayment of long-term debt............................................ (4) -- -- -- Proceeds from issuance of redeemable preferred stock................... -- 7,618 -- -- --------- --------- --------- --------- Net cash (used in) provided by financial activities.................... (4) 7,618 -- -- --------- --------- --------- --------- (Decrease) increase in cash and cash equivalents....................... (14) 2,335 612 1,056 Cash and cash equivalents at beginning of period....................... 278 264 264 2,599 --------- --------- --------- --------- Cash and cash equivalents at end of period............................. $ 264 $ 2,599 $ 876 $ 3,655 --------- --------- --------- --------- --------- --------- --------- --------- SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Income taxes paid...................................................... $ -- $ 111 $ 82 $ 975 --------- --------- --------- --------- --------- --------- --------- ---------
See accompanying notes. F-6 DAOU SYSTEMS, INC. NOTES TO FINANCIAL STATEMENTS (INFORMATION AS OF SEPTEMBER 30, 1996 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996 IS UNAUDITED) 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION DAOU Systems, Inc. (the "Company") designs, implements, supports and manages advanced computer network systems for hospitals, integrated healthcare delivery systems and other healthcare provider organizations. The Company's design services include an assessment of the customer's existing computer network system and the preparation of voice, video and data network specifications, technical design documentation and diagrams. DAOU's implementation services include the purchase, delivery and installation of enterprise-wide computer network systems. The Company's support and management services are typically provided under multi-year contracts and include remote and on-site network management services, as well as information systems outsourcing. DAOU typically provides its services on a fixed-price, fixed-time frame basis. INTERIM FINANCIAL INFORMATION (UNAUDITED) The financial statements as of September 30, 1996 and for the nine months ended September 30, 1995 and 1996 are unaudited, but include all adjustments (consisting only of normal recurring adjustments) which management considers necessary for a fair presentation of the financial position at such date and the operating results and cash flows for such periods. Results for interim periods are not necessarily indicative of results for the entire year or any future periods. REVENUE RECOGNITION Contract revenue for the development and implementation of network solutions is recognized on the percentage-of-completion method with progress to completion measured by labor costs incurred to date compared to total estimated labor costs. Provisions for estimated losses on contracts, if any, are made during the period when the loss becomes probable and can be reasonably estimated. Revenues recognized in excess of amounts billed and project costs are classified as contract work in progress. Revenue from technical support and network management services is recognized over the period the services are performed. Payments received in advance of services performed are recorded as deferred revenue. CONCENTRATION OF CREDIT RISK Substantially all of the Company's accounts receivable are from hospitals and other healthcare providers. Generally, the Company obtains a significant deposit from its customers upon signing a contract and collateral is not required. The Company provides for losses from uncollectible accounts and such losses have historically not exceeded management's expectations. CASH, CASH EQUIVALENTS AND SHORT-TERM INVESTMENTS Cash and cash equivalents consist of cash and highly liquid investments with maturities of three months or less when purchased. Short-term investments are recorded at amortized cost plus accrued interest which approximates market value. The Company generally invests its excess cash in U.S. government securities. The Company has established guidelines relative to diversification and maturities that are periodically reviewed and modified to take advantage of trends in yields and interest rates. The Company historically has not experienced any losses on its cash equivalents or short-term investments. F-7 DAOU SYSTEMS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (INFORMATION AS OF SEPTEMBER 30, 1996 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996 IS UNAUDITED) 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) The Company applies Statement of Financial Accounting Standards No. 115, "Accounting for Certain Investments in Debt and Equity Securities" to value its investments. Under the statement, the Company classifies its short-term investments as "Available-for-Sale" and records such assets at estimated fair value in the balance sheet. As of December 31, 1995 and September 30, 1996, the cost of cash equivalents and short-term investments was equal to estimated fair value. EQUIPMENT, FURNITURE AND FIXTURES Equipment, furniture and fixtures are carried at cost. Depreciation is computed using the straight-line method over the estimated useful lives of the assets, generally three years. Leasehold improvements are amortized over the estimated useful lives of the assets or the remaining lease term, whichever is less. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions about the future that affect the amounts reported in the financial statements and disclosures made in the accompanying notes of the financial statements. The actual results could differ from those estimates. IMPAIRMENT OF LONG-LIVED ASSETS Effective January 1, 1996, DAOU Systems, Inc. adopted Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of" ("SFAS 121"). SFAS 121 establishes accounting standards for recording the impairment of long-lived assets, certain identifiable intangibles and goodwill. The adoption of SFAS 121 did not have a material impact on DAOU's financial position or the results of its operations. NET INCOME (LOSS) PER SHARE Historical net income (loss) per share is computed using the weighted average number of common shares and common stock equivalents outstanding during the periods presented. Common equivalent shares result from stock options, warrants to purchase redeemable preferred stock and redeemable preferred stock. For loss periods, common equivalent shares are excluded from the computation as their effect would be antidilutive, except that the Securities and Exchange Commission requires common and common share equivalents issued during the twelve month period prior to the initial filing of a proposed public offering, to be included in the calculation as if they were outstanding for all periods presented (using the treasury stock method and the assumed initial public offering price). Historical net income (loss) per share information is as follows:
NINE MONTHS ENDED YEARS ENDED DECEMBER 31, SEPTEMBER 30, -------------------- -------------------- 1994 1995 1995 1996 --------- --------- --------- --------- (UNAUDITED) Net income (loss) per share............................................. $ -- $ 0.17 $ 0.07 $ (0.01) --------- --------- --------- --------- --------- --------- --------- --------- Shares used in computing net income (loss) per share (in thousands)..... 7,205 7,495 7,205 7,205 --------- --------- --------- --------- --------- --------- --------- ---------
F-8 DAOU SYSTEMS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (INFORMATION AS OF SEPTEMBER 30, 1996 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996 IS UNAUDITED) 1. ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) PRO FORMA NET INCOME (LOSS) PER SHARE AND UNAUDITED PRO FORMA STOCKHOLDERS' EQUITY Pro forma net income (loss) per share has been computed as described above and also gives effect to the conversion of the redeemable preferred stock, which will automatically convert to common stock upon completion of the Company's initial public offering, using the as if-converted method from the original date of issuance which was October 26, 1995. If the offering contemplated by this Prospectus is consummated, all of the convertible preferred stock outstanding as of the closing date will automatically be converted into 1,603,430 shares of common stock. Unaudited pro forma stockholders' equity at September 30, 1996, as adjusted for the conversion of redeemable preferred stock, is disclosed in the accompanying balance sheet. STOCK OPTIONS In October 1995, the Financial Accounting Standards Board issued SFAS No. 123, ACCOUNTING FOR STOCK-BASED COMPENSATION, which is effective for the year ending December 31, 1996. SFAS No. 123 allows companies to either account for stock-based compensation under the new provisions of SFAS No. 123 or under the provisions of Accounting Principles Opinion No. 25, ACCOUNTING FOR STOCK ISSUED TO EMPLOYEES("APB 25"), but requires pro forma disclosure in the footnotes to the financial statements as if the measurement provisions of SFAS No. 123 had been adopted. The Company intends to continue accounting for its stock-based compensation in accordance with the provisions of APB 25. As such, the adoption of the statement will not impact the financial position or results of operations of the Company. 2. EQUIPMENT, FURNITURE AND FIXTURES Equipment, furniture and fixtures consist of the following (in thousands):
DECEMBER 31, -------------------- 1994 1995 --------- --------- SEPTEMBER 30, 1996 --------------- (UNAUDITED) Equipment and furniture........................................................ $ 475 $ 691 $ 1,090 Leasehold improvements......................................................... 5 6 89 --------- --------- ------- 480 697 1,179 Less accumulated depreciation and amortization................................. (165) (417) (552) --------- --------- ------- $ 315 $ 280 $ 627 --------- --------- ------- --------- --------- -------
3. LINE OF CREDIT In October 1996, the Company entered into a $1.5 million line of credit. The line bears interest at a rate equal to the Bank's reference rate plus 0.5% and expires October 1, 1997. 4. LEASE COMMITMENTS The Company leases its facilities and certain equipment under operating lease agreements. The facility leases provide for abatement of rent during certain periods and escalating rent payments during the lease term. Rent expense for 1994 and 1995 totaled $105,000 and $106,000, respectively. Rent expense for the nine months ended September 30, 1995 and 1996 was $87,000 and $238,000 respectively. F-9 DAOU SYSTEMS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (INFORMATION AS OF SEPTEMBER 30, 1996 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996 IS UNAUDITED) 4. LEASE COMMITMENTS (CONTINUED) Future minimum lease payments under noncancellable operating leases with initial terms of one year or more consist of the following (in thousands):
YEARS ENDING DECEMBER 31, - ----------------------------------------------------------- 1996....................................................... $ 374 1997....................................................... 495 1998....................................................... 299 ------------- $ 1,168 ------------- -------------
In October 1995, the Company's Board of Directors approved a relocation to a larger facility. In connection with the relocation, the Company recorded a provision for relocation costs and expenses of $305,000 which included an accrual for future rent commitments on the Company's former facility, losses on non-recoverable leaseholds and other assets and other costs directly associated with the relocation. This charge is included in general and administrative expenses in the 1995 statement of operations. During 1996, the Company's former facility was subleased to a related party. Aggregate future minimum rentals to be received under the sublease are $126,000. 5. MAJOR CUSTOMERS Sales to individual customers exceeding 10% or more of revenues in the years ended December 31 were as follows: during 1994, one customer accounted for 30% of revenues; during 1995, two customers accounted for 48%, and 11% of revenues, respectively. During the nine months ended September 30, 1996, four customers accounted for 20%, 16%, 11% and 10% of revenues, respectively. 6. REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY REDEEMABLE PREFERRED STOCK During 1995, 1,603,430 shares of redeemable preferred stock were issued at $4.99 per share for proceeds of $7,618,000 net of issuance costs. Holders of the redeemable preferred stock are entitled to receive cumulative dividends at the rate of $0.03 per share per annum, when and if declared by the Board of Directors and prior to any dividends on the common shares. The redeemable preferred stock has a liquidation preference of $4.99 per share plus any declared but unpaid dividends and is convertible at the option of the holder into one share of common stock, subject to certain antidilution adjustments. The shares of preferred stock are automatically convertible in the event of an initial public offering of the Company's common stock. The holder of each share of preferred stock is entitled to one vote for each share into which it would convert. On or after August 31, 2000, the redeemable preferred stock is redeemable subject to a written request from the holders of a majority of the then outstanding shares. The price of the redemption is equal to the original issue price plus 6% of the original issue price compounded annually, less any dividends paid. The increase in the redemption value of the redeemable preferred stock was $87,000 in 1995 and $363,000 in 1996. F-10 DAOU SYSTEMS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (INFORMATION AS OF SEPTEMBER 30, 1996 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996 IS UNAUDITED) 6. REDEEMABLE PREFERRED STOCK AND STOCKHOLDERS' EQUITY (CONTINUED) STOCK OPTION PLANS During 1996, the Company adopted the 1996 Stock Option Plan (the "Plan"), under which 947,025 shares of the Company's common stock were initially reserved for issuance upon exercise of options granted by the Company. The Plan provides for the grant of both incentive and nonstatutory stock options to officers, directors, employees and consultants of the Company. Options granted by the Company generally vest over a three to five-year period and are exercisable for a period of ten years from the date of the grant. During November 1996, the Board of Directors increased the number of shares reserved for issuance under the plan to 1,367,925. The Company recorded $205,000 of deferred compensation for options granted during the nine months ended September 30, 1996, representing the difference between the option exercise price and the deemed fair market value for financial statement presentation purposes. The Company is amortizing such compensation ratably over the vesting period of the options. The Company recorded an additional $954,000 of deferred compensation for 176,778 options granted at prices ranging from $4.28 to $10.69 per share subsequent to September 30, 1996 A summary of stock option transactions is as follows (in thousands):
OPTION PRICE PER SHARES SHARE --------- ----------- Outstanding at January 1, 1996............................................................. -- $ -- Granted (Unaudited)...................................................................... 678,000 4.28 Exercised (Unaudited).................................................................... -- -- Canceled (Unaudited)..................................................................... (25,605) 4.28 --------- ----- Outstanding at September 30, 1996 (Unaudited).............................................. 652,395 $ 4.28 --------- ----- --------- -----
At September 30, 1996, no options to purchase common shares were exercisable and 294,630 options to purchase common shares were available for future grant. WARRANTS In connection with the issuance of the redeemable preferred stock, the Company issued two warrants to purchase an aggregate of 133,285 shares of redeemable preferred stock at an exercise price of $4.99 per share. The warrants are exercisable immediately and expire on October 26, 2000. COMMON STOCK RESERVED At September 30, 1996, a total of 2,683,738 shares of the Company's common stock have been reserved for the conversion of redeemable preferred stock and the exercise of stock options and warrants. F-11 DAOU SYSTEMS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (INFORMATION AS OF SEPTEMBER 30, 1996 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996 IS UNAUDITED) 7. INCOME TAXES The provision for income taxes consists of the following (in thousands):
YEARS ENDED DECEMBER 31, -------------------- 1994 1995 --------- --------- Current: Federal....................................................................................... $ 36 $ 816 State......................................................................................... 7 227 --------- --------- 43 1,043 Deferred: Federal....................................................................................... (21) (166) State......................................................................................... (3) (26) --------- --------- (24) (192) --------- --------- $ 19 $ 851 --------- --------- --------- ---------
For the nine months ended September 30, 1995 and 1996, income taxes have been provided based on the estimated annual effective tax rate applied to pretax income (loss) for the interim period. Deferred income taxes are provided for temporary differences in recognizing certain income and expense items for financial and tax reporting purposes. Significant components of the Company's deferred tax assets and liabilities consist of the following (in thousands):
DECEMBER 31, ------------------------ 1994 1995 ----------- ----------- Deferred tax assets (liabilities): Reserves and allowances........................................................................ $ 28 $ 209 Tax depreciation differences................................................................... (1) 10 --- ----- Net deferred tax assets.......................................................................... $ 27 $ 219 --- ----- --- -----
The reconciliation of income tax computed at the federal statutory rate to the total provision for income taxes is as follows:
YEARS ENDED DECEMBER 31, ---------------------- 1994 1995 ---------- ---------- Tax at federal statutory rate.................................................................. 34.0% 34.0% Nondeductible expenses......................................................................... 8.2 2.3 Other.......................................................................................... -- 4.4 --- --- 42.2% 40.7% --- --- --- ---
The provision (benefit) for income taxes for the nine months ended September 30, 1996 was determined utilizing an effective tax rate based on the estimated operating results for 1996, expected changes in deferred tax assets and a federal current year net operating loss carryback. F-12 DAOU SYSTEMS, INC. NOTES TO FINANCIAL STATEMENTS (CONTINUED) (INFORMATION AS OF SEPTEMBER 30, 1996 AND FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1995 AND 1996 IS UNAUDITED) 8. BENEFIT PLAN The Company sponsors the DAOU Systems, Inc. 401(k) Salary Savings Plan which covers employees who meet certain age and service requirements. Employees may contribute a portion of their earnings each plan year subject to certain Internal Revenue Service limitations. The Company made elective contributions to the Plan of $2,000 and $13,000 for the years ended December 31, 1994 and 1995, respectively. The Company made elective contributions to the Plan of $11,000 and $10,000 for the nine months ended September 30, 1995 and 1996, respectively. 9. REINCORPORATION IN DELAWARE On November 12, 1996 the Company's Board of Directors approved the reincorporation of the Company in Delaware which will be accomplished through a merger of the existing California corporation into a new Delaware corporation. The ratio of exchange will be 1.403 to one. The number of authorized shares of the new Delaware corporation will be 50,000,000 shares of common stock and 5,000,000 shares of preferred stock. All share and per share amounts and stock option data have been restated to retroactively give effect to the reincorporation. F-13 - ------------------------------------------- ------------------------------------------- - ------------------------------------------- ------------------------------------------- NO PERSON HAS BEEN AUTHORIZED IN CONNECTION WITH THE OFFERING MADE HEREBY TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATION NOT CONTAINED IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY, ANY SELLING STOCKHOLDER OR ANY UNDERWRITER. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF ANY OFFER TO BUY ANY OF THE SECURITIES OFFERED HEREBY TO ANY PERSON OR BY ANYONE IN ANY JURISDICTION IN WHICH IT IS UNLAWFUL TO MAKE SUCH OFFER OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL, UNDER ANY CIRCUMSTANCES, CREATE ANY IMPLICATION THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY DATE SUBSEQUENT TO THE DATE HEREOF. -------------- TABLE OF CONTENTS
PAGE ----- Prospectus Summary............................. 3 Risk Factors................................... 5 The Company.................................... 11 Use of Proceeds................................ 11 Dividend Policy................................ 11 Capitalization................................. 12 Dilution....................................... 13 Selected Financial Data........................ 14 Management's Discussion and Analysis of Financial Condition and Results of Operations................................... 15 Business....................................... 20 Management..................................... 28 Certain Transactions........................... 33 Principal and Selling Stockholders............. 35 Description of Capital Stock................... 37 Shares Eligible for Future Sale................ 39 Underwriting................................... 41 Legal Matters.................................. 42 Experts........................................ 42 Additional Information......................... 42 Index to Financial Statements.................. F-1
-------------- UNTIL , 1997 (25 DAYS AFTER THE DATE OF THIS PROSPECTUS), ALL DEALERS EFFECTING TRANSACTIONS IN THE COMMON STOCK OFFERED HEREBY, WHETHER OR NOT PARTICIPATING IN THIS DISTRIBUTION, MAY BE REQUIRED TO DELIVER A PROSPECTUS. THIS IS IN ADDITION TO THE OBLIGATIONS OF DEALERS TO DELIVER A PROSPECTUS WHEN ACTING AS UNDERWRITERS AND WITH RESPECT TO THEIR UNSOLD ALLOTMENTS OR SUBSCRIPTIONS. 3,850,000 SHARES [LOGO] COMMON STOCK ------------ PROSPECTUS ------------ ALEX. BROWN & SONS INCORPORATED COWEN & COMPANY HAMBRECHT & QUIST February , 1997 - ------------------------------------------- ------------------------------------------- - ------------------------------------------- ------------------------------------------- PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 24. INDEMNIFICATION OF DIRECTORS AND OFFICERS. Section 145 of the Delaware General Corporation Law permits a corporation to indemnify its directors, officers, employees and other agents in terms sufficiently broad to permit indemnification (including reimbursement for expenses) under certain circumstances for liabilities arising under the Securities Act of 1933, as amended (the "Securities Act"). The Registrant's Bylaws provide for the indemnification of directors and executive officers to the fullest extent not prohibited by the Delaware General Corporation Law and authorize the indemnification by the Registrant of other officers, employees and other agents as set forth in the Delaware General Corporation Law. The Registrant has entered into indemnification agreements with its directors and executive officers, in addition to the indemnification provided for in the Registrant's Bylaws. The Underwriting Agreement filed as Exhibit 1.1 to this Registration Statement provides for indemnification by the Underwriters of the Registrant and its officers and directors for certain liabilities arising under the Securities Act or otherwise. ITEM 25. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION. The following table sets forth the costs and expenses, other than underwriting discounts and commissions, in connection with the sale of Common Stock being registered. All amounts are estimated except the SEC registration fee, the NASD filing fee and the Nasdaq listing fee.
AMOUNT ------------- SEC Registration Fee........................................................... $ 18,784.00 NASD Filing Fee................................................................ 6,698.50 Nasdaq Listing Fee............................................................. 45,419.20 Printing and Engraving Expenses................................................ * Legal Fees and Expenses........................................................ * Blue Sky Fees and Expenses..................................................... * Accounting Fees and Expenses................................................... * Transfer Agent and Registrar Fees and Expenses................................. * Miscellaneous Expenses......................................................... * ------------- Total...................................................................... $ * ------------- -------------
- -------------- * To be completed by amendment ITEM 26. RECENT SALES OF UNREGISTERED SECURITIES. The Registrant has sold within the past three years (without payment of any selling commission to any person) the following unregistered securities: 1. During the period January 2, 1996 to December 12, 1996, the Registrant granted incentive and non-statutory stock options to employees, officers and directors of and consultants to the Registrant under its 1996 Stock Option Plan (the "1996 Stock Option Plan"), covering an aggregate of 829,173 shares of the Registrant's Common Stock. These options typically vest over a period of three to five years following their respective dates of grant. 2. In October 1995, the Registrant issued 1,603,430 shares of its Series A Preferred Stock to 12 investors (consisting of eight accredited investors, each of which were venture capital funds or related individuals or entities) for an aggregate purchase price of $7,999,999. II-1 3. In October 1995, the Registrant issued to Needham & Company, Inc. and Needham Capital S.B.I.C., L.P., which entities acted as finders with respect to the placement described in paragraph (2) above, warrants to purchase up to 130,393 and 2,892 shares of the Registrant's Series A Preferred Stock, respectively, at an exercise price of $4.99 per share. The sales and issuances of the securities in the transactions described in paragraph (1) above were deemed to be exempt from registration under the Securities Act by virtue of Rule 701 promulgated thereunder in that they were offered and sold either pursuant to written compensatory benefit plans or pursuant to a written contract relating to compensation, as provided by Rule 701. The sales and issuances of securities in the transactions described in paragraphs (2) and (3) above were deemed to be exempt from registration under the Securities Act by virtue of Section 4(2) and/or Regulation D promulgated thereunder. The recipients represented their intention to acquire the securities for investment only and not with a view to the distribution thereof. Appropriate legends are affixed to the stock certificates issued in such transactions. Similar legends were imposed in connection with any subsequent sales of such securities. All recipients either received adequate information about the Registrant or had access, through employment or other relationships, to such information. ITEM 27. EXHIBITS.
EXHIBIT NUMBER DESCRIPTION - --------- -------------------------------------------------------------------------------------------------- 1.1* -- Form of Underwriting Agreement. 2.1 -- Form of Agreement and Plan of Merger to be used in connection with the Registrant's reincorporation in Delaware. 3.1 -- Registrant's Articles of Incorporation. 3.2 -- Form of Registrant's Amended and Restated Certificate of Incorporation to be used in connection with the Registrant's reincorporation in Delaware. 3.3 -- Registrant's Bylaws. 3.4 -- Form of Registrant's Bylaws to be used in connection with the Registrant's reincorporation in Delaware. 4.1 -- Reference is made to Exhibits 3.1, 3.2, 3.3 and 3.4. 4.2* -- Specimen stock certificate. 4.3 -- Investors' Rights Agreement, dated October 26, 1995, between the Registrant and the parties named therein. 4.4 -- Series A Preferred Stock Purchase Warrant No. 1, dated October 26, 1995, between the Registrant and Needham & Company, Inc. 4.5 -- Series A Preferred Stock Purchase Warrant No. 2, dated October 26, 1995, between the Registrant and Needham Capital S.B.I.C., L.P. 5.1* -- Opinion of Baker & McKenzie. 10.1 -- Form of Indemnification Agreement. 10.2* -- 1996 Stock Option Plan. 10.3* -- Form of Incentive Stock Option Agreement under the 1996 Stock Option Plan. 10.4* -- Form of Nonstatutory Stock Option Agreement under the 1996 Stock Option Plan.
II-2
EXHIBIT NUMBER DESCRIPTION - --------- -------------------------------------------------------------------------------------------------- 10.5 -- Sublease Agreement, dated March 1, 1996, between the Registrant and Adobe Systems Incorporated. 10.6+ -- Information Management Agreement, dated April 1, 1996, between the Registrant and Candler Health System. 10.7+ -- Principle Agreement, dated June 18, 1996, between the Registrant and Catholic Medical Center of Brooklyn & Queens, Inc. 10.8+ -- Principal Agreement, dated June 29, 1995, between the Registrant and Mercy Health Services. 10.9+ -- Master Agreement, dated June 4, 1996, between the Registrant and Atlantic Health System. 10.10 -- Form of Master Services Agreement. 10.11* -- Employment Agreement, dated as of November 22, 1996, between Robert C. McNeill and the Registrant. 10.12 -- Promissory Note, dated October 26, 1995, from Georges J. Daou to the Registrant in the principal amount of $70,642. 10.13 -- Promissory Note, dated October 26, 1995, from Daniel J. Daou to the Registrant in the principal amount of $69,897. 10.14 -- Promissory Note, dated October 26, 1995, from Joseph H. Daou to the Registrant in the principal amount of $66,103. 10.15 -- Lease Agreement, dated October 1, 1995, between the Registrant and Daniel J. Daou. 11.1 -- Statement of Compution of Earnings Per Share. 23.1 -- Consent of Ernst & Young LLP, independent auditors. 23.2* -- Consent of Baker & McKenzie -- Included in Exhibit 5.1. 24.1 -- Power of Attorney -- Reference is made to page II-5. 27.1 -- Financial Data Schedule.
- -------------- * To be filed by amendment. + The Registrant is applying for confidential treatment of portions of this exhibit. ITEM 28. UNDERTAKINGS. The undersigned Registrant will provide to the Underwriters at the closing specified in the Underwriting Agreement filed as Exhibit 1.1 to this Registration Statement certificates in such denominations and registered in such names as required by the Underwriters to permit prompt delivery to each purchaser. Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers and controlling persons of the Registrant pursuant to the foregoing provisions, or otherwise, the Registrant has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Registrant of expenses incurred or paid by a director, officer or controlling person of the Registrant in the successful defense of any action, suit, or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered, the Registrant will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate II-3 jurisdiction the question whether such indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of such issue. The undersigned Registrant undertakes that: (1) for the purpose of determining any liability under the Securities Act, the information omitted from the form of prospectus filed as part of this Registration Statement in reliance upon Rule 430A and contained in the form of prospectus filed by the Registrant under Rule 424(b)(1), or (4) or 497(h) under the Securities Act shall be deemed to be part of this Registration Statement as of the time it was declared effective, and (2) for the purpose of determining any liability under the Securities Act, each post-effective amendment that contains a form of prospectus shall be deemed to be a new registration statement for the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. II-4 SIGNATURES In accordance with the requirements of the Securities Act of 1933, the registrant certifies that it has reasonable grounds to believe that it meets all of the requirements for filing on Form SB-2 and authorizes this Registration Statement to be signed on its behalf by the undersigned in the City of San Diego, State of California on the 18th of December, 1996.
DAOU SYSTEMS, INC. By: /s/ DANIEL J. DAOU ----------------------------------------- Daniel Daou, PRESIDENT
POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below under the heading "Signature" constitutes and appoints Daniel J. Daou and Fred C. McGee, his true and lawful attorneys-in-fact and agents with full power of substitution and resubstitution, for him and in his name, place and stead, in any and all capacities to sign any or all amendments to this Registration Statement, and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, each acting alone, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully for all intents and purposes as he might or could do in person, hereby ratifying and confirming all that said attorneys-in-fact and agents, each acting alone, or his substitute or substitutes, may lawfully do or cause to be done by virtue hereof. In accordance with the requirements of the Securities Act of 1933, this Registration Statement has been signed by the following persons in the capacities and on the dates stated.
SIGNATURE TITLE DATE - ------------------------------ -------------------------- ------------------- Chief Executive Officer /s/ GEORGES J. DAOU and Chairman of the - ------------------------------ Board of Directors December 18, 1996 Georges J. Daou (Principal Executive Officer) /s/ DANIEL J. DAOU - ------------------------------ President and Director December 18, 1996 Daniel J. Daou Senior Vice President, /s/ FRED C. MCGEE Chief Financial Officer - ------------------------------ and Secretary (Principal December 18, 1996 Fred C. McGee Financial and Accounting Officer) /s/ DAVID W. JAHNS - ------------------------------ Director December 18, 1996 David W. Jahns /s/ BERNARD P. MCDONAGH - ------------------------------ Director December 18, 1996 Bernard P. McDonagh /s/ JOHN H. MORAGNE - ------------------------------ Director December 18, 1996 John H. Moragne
II-5 EXHIBIT INDEX
EXHIBIT SEQUENTIALLY NUMBER EXHIBIT NUMBERED PAGES - --------- ------------------------------------------------------------------------------------ ----------------- 1.1* -- Form of Underwriting Agreement. 2.1 -- Form of Agreement and Plan of Merger to be used in connection with the Registrant's reincorporation in Delaware. 3.1 -- Registrant's Articles of Incorporation. 3.2 -- Form of Registrant's Amended and Restated Certificate of Incorporation to be used in connection with the Registrant's reincorporation in Delaware. 3.3 -- Registrant's Bylaws. 3.4 -- Form of Registrant's Bylaws to be used in connection with the Registrant's reincorporation in Delaware. 4.1 -- Reference is made to Exhibits 3.1, 3.2, 3.3 and 3.4. 4.2* -- Specimen stock certificate. 4.3 -- Investors' Rights Agreement, dated October 26, 1995, between the Registrant and the parties named therein. 4.4 -- Series A Preferred Stock Purchase Warrant No. 1, dated October 26, 1995, between the Registrant and Needham & Company, Inc. 4.5 -- Series A Preferred Stock Purchase Warrant No. 2, dated October 26, 1995, between the Registrant and Needham Capital S.B.I.C., L.P. 5.1* -- Opinion of Baker & McKenzie. 10.1 -- Form of Indemnification Agreement. 10.2* -- 1996 Stock Option Plan. 10.3* -- Form of Incentive Stock Option Agreement under the 1996 Stock Option Plan. 10.4* -- Form of Nonstatutory Stock Option Agreement under the 1996 Stock Option Plan. 10.5 -- Sublease Agreement, dated March 1, 1996, between the Registrant and Adobe Systems Incorporated. 10.6+ -- Information Management Agreement, dated April 1, 1996, between the Registrant and Candler Health System. 10.7+ -- Principle Agreement, dated June 18, 1996, between the Registrant and Catholic Medical Center of Brooklyn & Queens, Inc. 10.8+ -- Principal Agreement, dated June 29, 1995, between the Registrant and Mercy Health Services. 10.9+ -- Master Agreement, dated June 4, 1996, between the Registrant and Atlantic Health System. 10.10 -- Form of Master Services Agreement. 10.11* -- Employment Agreement, dated as of November 22, 1996, between Robert C. McNeill and the Registrant. 10.12 -- Promissory Note, dated October 26, 1995, from Georges J. Daou to the Registrant in the principal amount of $70,642.
EXHIBIT SEQUENTIALLY NUMBER EXHIBIT NUMBERED PAGES - --------- ------------------------------------------------------------------------------------ ----------------- 10.13 -- Promissory Note, dated October 26, 1995, from Daniel J. Daou to the Registrant in the principal amount of $69,897. 10.14 -- Promissory Note, dated October 26, 1995, from Joseph H. Daou to the Registrant in the principal amount of $66,103. 10.15 -- Lease Agreement, dated October 1, 1995, between the Registrant and Daniel J. Daou. 11.1 -- Statement of Computation of Earnings Per Share. 23.1 -- Consent of Ernst & Young LLP, independent auditors. 23.2* -- Consent of Baker & McKenzie -- Included in Exhibit 5.1. 24.1 -- Power of Attorney -- Reference is made to page II-5 of the Registration Statement. 27.1 -- Financial Data Schedule.
- -------------- * To be filed by amendment. + The Registrant is applying for confidential treatment of portions of this exhibit. EX-2.1 2 EXHIBIT 2.1: AGMT. & PLAN OF MERGER FORM OF AGREEMENT AND PLAN OF MERGER THIS AGREEMENT AND PLAN OF MERGER (this "Agreement") is made and entered into as of this __day of December, 1996, by and between DAOU Systems, Inc., a California corporation ("DAOU California"), and DAOU Systems, Inc., a Delaware corporation ("DAOU Delaware"). RECITALS A. DAOU California is a corporation duly organized and existing under the laws of the State of California. B. DAOU Delaware is a corporation duly organized and existing under the laws of the State of Delaware. C. On the date of this Agreement, DAOU Delaware has authority to issue 56,603,430 shares, 50,000,000 of which are of Common Stock with a par value of $0.001 per share (the "DAOU Delaware Common Stock"), and 6,603,430 of which are Preferred Stock with a par value of $0.001 per share (the "DAOU Delaware Preferred Stock"), of which one hundred (100) shares of Common Stock are issued and outstanding and owned by DAOU California. D. On the date of this Agreement, DAOU California has authority to issue 25,000,000 shares, 15,000,000 of which are of Common Stock (the "DAOU California Common Stock"), and 10,000,000 of which are of Preferred Stock, including 1,821,191 shares of Series A Preferred Stock, (the "DAOU California Preferred Stock"), of which 4,750,000 shares of Common Stock and 1,142,857 shares of Series A Preferred Stock are issued and outstanding. E. Each of the respective Boards of Directors of DAOU Delaware and DAOU California has determined that, for the purpose of effecting the reincorporation of DAOU California in the State of Delaware, it is advisable and to the advantage of said two corporations and their shareholders that DAOU California merge with and into DAOU Delaware upon the terms and conditions herein provided. F. The respective Boards of Directors of DAOU Delaware and DAOU California, the shareholders of DAOU California and the sole stockholder of DAOU Delaware have adopted and approved this Agreement. NOW, THEREFORE, in consideration of the mutual agreements and covenants set forth herein, DAOU California and DAOU Delaware hereby agree to merge as follows: ARTICLE I. MERGER 1.1 THE MERGER. In accordance with the provisions of this Agreement, the General Corporation Law of the State of Delaware (the "Delaware Law") and the Corporations Code of the State of California (the "California Code"), DAOU California shall be merged with and into DAOU Delaware (the "Merger"), the separate existence of DAOU California shall cease, and DAOU Delaware shall be, and is herein sometimes referred to as, the "Surviving Corporation." 1.2 EFFECTIVE TIME OF THE MERGER. Subject to the provisions herein, this Agreement, together with required related certificates, if any, shall be duly executed and filed in accordance with the Delaware Law and the California Code. The Merger shall become effective at the time of the filing of an executed counterpart of this Agreement and any other required certificates with the Delaware Secretary of State (the "Effective Time of the Merger"). 1.3 EFFECTS OF THE MERGER. At the Effective Time of the Merger, the separate existence of DAOU California shall cease and DAOU Delaware, as the Surviving Corporation, shall: (a) continue its corporate existence under the name of DAOU Systems, Inc.; (b) succeed, without other transfer, to all rights, titles, assets, powers and properties of DAOU California in the manner more fully set forth in Section 259 of the Delaware Law; (c) continue to be subject to all of the debts, liabilities and obligations of DAOU Delaware as constituted immediately prior to the Effective Time of the Merger; and (d) succeed, without other transfer, to all of the debts, liabilities and obligations of DAOU California, including any obligations of DAOU California under employee benefit plans in effect as of said date or with respect to which employee rights or accrued benefits are outstanding as of said date, in the same manner as if DAOU Delaware had itself incurred them, all as more fully provided under the applicable provisions of the Delaware Law and the California Code. ARTICLE II. CHARTER DOCUMENTS, DIRECTORS AND OFFICERS 2.1 CERTIFICATE OF INCORPORATION. At the Effective Time of the Merger, the Certificate of Incorporation of DAOU Delaware shall continue in full force and effect as the Certificate of Incorporation of the Surviving Corporation without change or amendment until further amended in accordance with the provisions thereof and applicable laws. 2.2 BYLAWS. The Bylaws of DAOU Delaware as in effect immediately prior to the Effective Time of the Merger shall continue in full force and effect as the Bylaws of the Surviving Corporation without change or amendment until further amended in accordance with the provisions thereof and applicable laws. -2- 2.3 DIRECTORS AND OFFICERS. At the Effective Time of the Merger, the directors and officers of DAOU California shall become the directors and officers of DAOU Delaware and the members of each committee of the Board of Directors of DAOU California shall become the members of such committees of DAOU Delaware. ARTICLE III. EFFECT ON CAPITAL STOCK 3.1 CONVERSION OF DAOU CALIFORNIA CAPITAL STOCK. At the Effective Time of the Merger, by virtue of the Merger and without any action on the part of the holder thereof: (a) each share of DAOU California Common Stock outstanding immediately prior thereto shall be changed and converted into 1.403 fully paid and nonassessable shares of DAOU Delaware Common Stock; and (b) each share of DAOU California's Series A Preferred Stock shall be changed and converted into 1.403 fully paid and nonassessable shares of DAOU Delaware Preferred Stock. 3.2 CONVERSION OF DAOU CALIFORNIA STOCK OPTIONS. At the Effective Time of the Merger, by virtue of the Merger and without any action on the part of the holder thereof, each outstanding option, warrant or other right to purchase shares of DAOU California Common Stock, including, but not limited to those options granted under the 1996 Stock Option Plan (the "Option Plan"), shall be converted into and become an option, warrant or right to purchase 1.403 shares of DAOU Delaware Common Stock at the exercise price of the DAOU California option, warrant or right divided by 1.403. A number of shares of DAOU Delaware Common Stock shall be reserved for purposes of such options, warrants and rights that is equal to the number of shares of DAOU California Common Stock so reserved immediately prior to the Effective Time of the Merger and multiplied by 1.403, and DAOU Delaware shall assume all obligations of DAOU California under agreements pertaining to such options, warrants and rights, including the Option Plan. 3.3 CONVERSION OF DAOU DELAWARE COMMON STOCK. Forthwith upon the Effective Time of the Merger, the one hundred (100) shares of DAOU Delaware Common Stock presently issued and outstanding in the name of DAOU California shall be canceled and retired and shall resume the status of authorized and unissued shares of DAOU Delaware Common Stock, and no shares of DAOU Delaware Common Stock or other securities of DAOU Delaware shall be issued in respect thereof. 3.4 FRACTIONAL SHARES. No fractional share which a DAOU Delaware stockholder would otherwise be entitled to receive by reason of the exchange of DAOU California stock for DAOU Delaware stock shall be issued. In the event of any fractional share to which a holder otherwise is entitled (determined on a certificate by certificate basis), DAOU Delaware shall round such fractional share to the closest whole integer and deliver to such holder one (1) whole share of DAOU Delaware Common Stock or Preferred Stock, as the case may be. No cash shall be paid in lieu of any fractional share. 3.5 STOCK CERTIFICATES. On and after the Effective Time of the Merger, all of the outstanding certificates which prior to that time represented shares of DAOU California stock shall -3- be deemed for all purposes to evidence ownership of and to represent the shares of DAOU Delaware stock into which the shares of DAOU California stock have been converted as herein provided. In addition, on or after the Effective Time of the Merger, the records and books of DAOU California shall be deemed for all purposes to be the records and books of DAOU Delaware. The registered owner on the books and records of DAOU Delaware or its transfer agent of any such outstanding stock certificate shall, until such certificate shall have been surrendered for transfer or otherwise accounted for to DAOU Delaware or its transfer agent, have and be entitled to exercise any voting and other rights with respect to and to receive any dividend and other distributions upon the shares of DAOU Delaware stock evidenced by such outstanding certificate as above provided. ARTICLE IV. ADDITIONAL COVENANTS 4.1 COVENANTS OF DAOU DELAWARE. DAOU Delaware covenants and agrees that it shall, on or before the Effective Time of the Merger: (a) qualify to do business as a foreign corporation in the State of California and in all other states in which DAOU California is so qualified and in which the failure to so qualify would have a material adverse impact on the business or financial condition of the Surviving Corporation; (b) irrevocably appoint an agent for service of process as required under the provisions of Section 2105 of the California Corporations Code and under applicable provisions of state law in other states in which qualification is required hereunder; and (c) file any and all documents with the California Franchise Tax Board necessary to the assumption by DAOU Delaware of all of the franchise tax liabilities of DAOU California. 4.2 FURTHER ASSURANCES. From time to time, as and when required by DAOU Delaware or by its successors and assigns, there shall be executed and delivered on behalf of DAOU California such deeds and other instruments, and there shall be taken or caused to be taken by it such further and other action, as shall be appropriate or necessary in order to vest, perfect or confirm, of record or otherwise, in DAOU Delaware the title to and possession of all the property, interests, assets, rights, privileges, immunities, powers, franchises and authority of DAOU California, and otherwise to carry out the purposes of this Agreement and the officers and directors of DAOU Delaware are fully authorized in the name and on behalf of DAOU California or otherwise to take any and all such action and to execute and deliver any and all such deeds and other instruments. -4- ARTICLE V. MISCELLANEOUS PROVISIONS 5.1 AMENDMENT. Except for the terms of Article III of this Agreement, at any time before or after approval and adoption by the shareholders of DAOU California, this Agreement may be amended in any manner as may be determined in the judgment of the respective Boards of Directors of DAOU Delaware and DAOU California to be necessary, desirable or expedient in order to clarify the intention of the parties hereto or to effect or facilitate the purposes and intent of this Agreement. 5.2 ABANDONMENT. At any time before the Effective Time of the Merger, this Agreement may be terminated and the Merger may be abandoned by the Board of Directors of either DAOU California or DAOU Delaware or both, notwithstanding the prior approval of this Agreement by the sole stockholder of DAOU Delaware and by the shareholders of DAOU California. 5.3 GOVERNING LAW. This Agreement shall in all respects be construed, interpreted and enforced in accordance with Delaware Law, so far as applicable, the merger provisions of the California Code. 5.4 COUNTERPARTS. In order to facilitate the filing and recording of this Agreement, the same may be executed in any number of counterparts, each of which shall be deemed to be an original. IN WITNESS WHEREOF, this Agreement, having first been duly approved by resolution of the Boards of Directors of DAOU California and DAOU Delaware, is hereby executed on behalf of each of said corporations by their respective officers thereunto duly authorized. DAOU Systems, Inc., DAOU Systems, Inc., a California Corporation a Delaware Corporation By: By: ------------------------------- ------------------------------- Daniel J. Daou, President Daniel J. Daou, President -5- CERTIFICATE OF SECRETARY OF DAOU SYSTEMS, INC., A DELAWARE CORPORATION The undersigned, Fred McGee, the Secretary of DAOU Systems, Inc., a Delaware corporation (the "Corporation"), hereby certifies that the Agreement and Plan of Merger to which this Certificate is attached was duly signed on behalf of the Corporation by its President under the corporate seal of the Corporation and was duly approved and adopted by written consent of the sole stockholder of the Corporation dated December __ 1996. Dated: December __, 1996. -------------------------------------------- Fred McGee, Secretary EX-3.1 3 EXHIBIT 3.1: ARTICLES OF INCORPORATION RESTATED ARTICLES OF INCORPORATION OF DAOU SYSTEMS, INC. A CALIFORNIA CORPORATION The undersigned Georges J. Daou and Daniel J. Daou hereby certify that: ONE: They are the duly elected and acting Chief Executive Officer and Secretary, respectively, of said corporation. TWO: The Articles of Incorporation of said corporation shall be amended and restated to read in full as follows: ARTICLE I. The name of this corporation is Daou Systems, Inc. ARTICLE II. The purpose of this corporation is to engage in any lawful act or activity for which a corporation may be organized under the General Corporation Law of California other than the banking business, the trust company business or the practice of a profession permitted to be incorporated by the California Corporations Code. ARTICLE III. A. CLASSES OF STOCK. This corporation is authorized to issue two classes of stock to be designated, respectively, "COMMON STOCK" and "PREFERRED STOCK." The total number of shares which the corporation is authorized to issue is Twenty Five Million (25,000,000) shares. Fifteen Million (15,000,000) shares shall be Common Stock and Ten Million (10,000,000 ) shares shall be Preferred Stock. Upon the amendment of these Articles, each outstanding share of Common Stock is divided into Four Hundred and Seventy-Five (475) shares of Common Stock. B. RIGHTS, PREFERENCES AND RESTRICTIONS OF PREFERRED STOCK. The Preferred Stock authorized by these Restated Articles of Incorporation may be issued from time to time in series. The rights, preferences, privileges, and restrictions granted to and imposed on the Series A Preferred Stock, which series shall consist of 1,821,191 shares, are as set forth below in this ARTICLE III(B). Subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the Board of Directors is hereby authorized to fix or alter the rights, preferences, privileges and restrictions granted to or imposed upon additional series of Preferred Stock, and the number of shares constituting any such series and the designation thereof, or of any of them. Subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the Board of Directors is also authorized to increase or decrease the number of shares of any series (other than the Series A Preferred Stock), prior or subsequent to the issue of that series, but not below the number of shares of such series then outstanding. In case the number of shares of any series shall be so decreased, the shares constituting such decrease shall resume the status which they had prior to the adoption of the resolution originally fixing the number of shares of such series. 1. DIVIDEND PROVISIONS. Subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the holders of shares of Series A Preferred Stock shall be entitled to receive dividends out of any assets legally available therefor, prior and in preference to any declaration or payment of any dividend (other than a dividend payable solely in Common Stock or other securities and rights convertible into or entitling the holder thereof to receive, directly or indirectly, additional shares of Common Stock of this corporation) on the Common Stock of this corporation, at the rate of six percent (6%) per annum based on the Original Series A Issue Price per share of Series A Preferred Stock (appropriately adjusted for any stock split, dividend, combination or other recapitalization) when, as and if declared by the Board of Directors. Such dividends shall not be cumulative and, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, shall be paid to the extent assets are legally available therefor and any amounts for which assets are not legally available shall be paid promptly as assets become legally available therefor; any partial payment will be made pro rata among the holders of such shares. Unless full dividends on the Series A Preferred Stock for the then current dividend period shall have been paid or declared and a sum sufficient for the payment thereof set apart, no dividend whatsoever (other than a dividend payable solely in Common Stock or other securities and rights convertible into or entitling the holder thereof to receive, directly or indirectly, additional shares of Common Stock) shall be paid or declared, and no distribution shall be made, on any Common Stock. After full dividends on the Series A Preferred Stock for the then current dividend period have been paid, the holders of shares of Series A Preferred Stock and the holders of shares of Common Stock shall participate in any further dividends on a pro rata basis determined by the number of shares of Common Stock held by each (assuming conversion of all such Series A Preferred Stock). 2. LIQUIDATION PREFERENCE. a. In the event of any liquidation, dissolution or winding up of this corporation, either voluntary or involuntary, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the holders of Series A Preferred Stock shall be entitled to receive, prior and in preference to any distribution of any of the assets of this corporation to the holders of Common Stock by reason of their ownership thereof, an amount per share equal to the sum of (i) Seven Dollars ($7.00) for each outstanding share of Series A Preferred Stock (the "ORIGINAL SERIES A ISSUE PRICE") and (ii) an amount equal to six percent (6%) of the Original Series A Issue Price (compounded annually and computed on the basis of a 360-day year of 30-day months and, for any period less than a month, the actual number of days elapsed in such month for the period of time that has passed since the original issuance of the Series A Preferred Stock) less any dividends actually paid on the Series A Preferred Stock (such amount being referred to herein as the "PREMIUM"). If upon the occurrence of such event, the assets and - 2 - funds thus distributed among the holders of the Series A Preferred Stock shall be insufficient to permit the payment to such holders of the full aforesaid preferential amounts, then, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the entire assets and funds of the corporation legally available for distribution shall be distributed ratably among the holders of the Series A Preferred Stock in proportion to the amount of such stock owned by each such holder. b. Upon the completion of the distribution required by SUBSECTION (a) of this SECTION 2 and any other distribution which may be required with respect to series of Preferred Stock which may from time to time come into existence in compliance with the provision of SECTION 7, if assets remain in this corporation, the holders of the Common Stock of this corporation, shall receive an aggregate amount equal to the total amount received by the holders of the Series A Preferred Stock pursuant to SUBSECTION (a). c. After the distributions described in SUBSECTION (a) and (b) above have been paid, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the remaining assets of the corporation available for distribution to shareholders shall be distributed among the holders of Series A Preferred Stock and Common Stock pro rata based on the number of shares of Common Stock held by each (assuming conversion of all such Series A Preferred Stock). d. A consolidation or merger of this corporation with or into any other corporation or corporations, or a sale, conveyance or disposition of all or substantially all of the assets of this corporation or the effectuation by the corporation of a transaction or series of related transactions in which more than fifty percent (50%) of the voting power of the corporation is disposed of, shall not be deemed to be a liquidation, dissolution or winding up within the meaning of this SECTION 2, but shall instead be treated pursuant to SECTION 5. e. The liquidation preference of the Series A Preferred Stock set forth in this SECTION 2 shall not be applicable to any transaction in which the holders of Series A Preferred Stock receive not less than two times the Original Series A Issue Price (appropriately adjusted for any stock split, dividend, combination or other recapitalization) before August 31, 1997 and not less than three times the Original Series A Issue Price (appropriately adjusted for any stock split, dividend, combination or other recapitalization) thereafter; provided, however, that in any such transaction the holders of shares of Series A Preferred Stock and the holders of shares of Common Stock will share in the consideration received on a pro rata basis determined by the number of shares of Common Stock held by each (assuming conversion of all such Series A Preferred Stock). 3. REDEMPTION. a. On or after August 31, 2000, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, within thirty (30) days after the receipt by this corporation of a written request from the holders of a majority of the then outstanding Series A Preferred Stock, but not less then one third of the - 3 - originally issued shares of Series A Preferred Stock (the "ORIGINAL SERIES A PREFERRED STOCK"), that all or some of such holders' shares be redeemed, and concurrently with surrender by such holders of the certificate representing such shares, this corporation shall, to the extent it may lawfully do so, redeem the shares specified in such request by paying in cash therefor a sum per share equal to the Original Series A Issue Price plus an amount equal to six percent (6%) of the Original Series A Issue Price compounded annually and computed for the period of time that has passed since the original issuance of the Series A Preferred Stock on the basis of a 360-day year of 30-day months and, for any period less than a month, the actual number of days elapsed in such month, less any dividends actually paid on the Series A Preferred Stock (the "SERIES A REDEMPTION PRICE"). This corporation shall give each holder of Series A Preferred Stock at least ten (10) days written notice of the date ("REDEMPTION DATE") and place of redemption and the dollar amount of the Series A Redemption Price, which notice shall be effective upon delivery or deposit in the U.S. mails in the manner specified in SUBSECTION 3(c)(ii). Payment of the Series A Redemption Price shall be made as follows: (A) one-third of such price shall be paid in cash on the Redemption Date; and (B) one-third of such price (plus interest on unpaid balance of six percent (6%) compounded annually) shall be paid in cash on each of the first and second anniversary dates of such Redemption Date, respectively. If the certificate surrendered represents a greater number of shares than the number redeemed, this corporation shall issue to such holder a new certificate representing the shares which remain outstanding. b. From and after the Redemption Date, unless there shall have been a default in payment of the Series A Redemption Price, all dividends on the Series A Preferred Stock designated for redemption in the Redemption Notice shall cease to accrue, all rights of the holders of such shares as holders of Series A Preferred Stock (except the right to receive the Redemption Price without interest upon surrender of their certificate or certificates) shall cease with respect to such shares, and such shares shall not thereafter be transferred on the books of this corporation or be deemed to be outstanding for any purpose whatsoever. Subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, if the funds of the corporation legally available for redemption of shares of Series A Preferred Stock on any Redemption Date, or any subsequent date as provided in SUBSECTION 3(a), are insufficient to redeem the total number of shares of Series A Preferred Stock to be redeemed on such date, those funds which are legally available will be used to redeem the maximum possible number of such shares ratably among the holders of such shares to be redeemed. The shares of Series A Preferred Stock not redeemed shall remain outstanding and entitled to all the rights and preferences provided herein. Subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, at any time thereafter when additional funds of the Company are legally available for the redemption of shares of Series A Preferred Stock, such funds will immediately be used to redeem the balance of the shares which the Company has become obligated to redeem on any Redemption Date but which it has not redeemed. c. If at any time less than 25% of the Original Series A Preferred Stock remains outstanding, the corporation may, upon a vote of its Board of Directors, redeem the remaining outstanding Series A Preferred Stock by payment in cash of the Series A Redemption Price in accordance with the notice and other terms and conditions set forth above in this SECTION 3. - 4 - 4. CONVERSION. The holders of the Series A Preferred Stock shall have conversion rights as follows (the "CONVERSION RIGHTS"): a. RIGHT TO CONVERT. i) Subject to SUBSECTION (c), each share of Series A Preferred Stock shall be convertible, at the option of the holder thereof, at any time after the date of issuance of such share and prior to the close of business on any Redemption Date as may have been fixed in any Redemption Notice with respect to such share, at the office of this corporation or any transfer agent for the Series A Preferred Stock, into such number of fully paid and nonassessable shares of Common Stock as is determined by dividing the Original Series A Issue Price by the Conversion Price at the time in effect for such share. The initial "CONVERSION PRICE" per share for shares of Series A Preferred Stock shall be the Original Series A Issue Price; provided, however, that the Conversion Price for the Series A Preferred Stock shall be subject to adjustment as set forth in SUBSECTION 4(c). ii) In the event of a call for redemption of any shares of Series A Preferred Stock pursuant to SECTION 3, unless there shall have been a default in payment of the Series A Redemption Price, the Conversion Rights shall terminate as to the shares designated for redemption at the close of business on the Redemption Date. iii) Each share of Series A Preferred Stock shall automatically be converted into shares of Common Stock at the Conversion Price at the time in effect for such Series A Preferred Stock immediately upon the consummation of the corporation's sale of its Common Stock in a public offering pursuant to a registration statement under the Securities Act of 1933, as amended, the public offering price of which was not less than two (2) times the Original Series A Issue Price (appropriately adjusted for any stock split, dividend, combination or other recapitalization) prior to August 31, 1997 and not less than three (3) times such amount thereafter and $15,000,000 in the aggregate. b. MECHANICS OF CONVERSION. Before any holder of Series A Preferred Stock shall be entitled to convert the same into shares of Common Stock, he shall surrender the certificate or certificates therefor, duly endorsed, at the office of this corporation or of any transfer agent for the Series A Preferred Stock, and shall give written notice by mail, postage prepaid, to this corporation at its principal corporate office, of the election to convert the same and shall state therein the name or names in which the certificate or certificates for shares of Common Stock are to be issued. This corporation shall, as soon as practicable thereafter, issue and deliver at such office to such holder of Series A Preferred Stock, or to the nominee or nominees of such holder, a certificate or certificates for the number of shares of Common Stock to which such holder shall be entitled as aforesaid. Such conversion shall be deemed to have been made immediately prior to the close of business on the date of such surrender of the shares of Series A Preferred Stock to be converted, and the person or persons entitled to receive the shares of Common Stock issuable upon such conversion shall be treated for all purposes as the record holder or holders of such shares of Common Stock as - 5 - of such date. If the conversion is in connection with an underwritten offer of securities registered pursuant to the Securities Act of 1933, the conversion may, at the option of any holder tendering Series A Preferred Stock for conversion, be conditioned upon the closing with the underwriter of the sale of securities pursuant to such offering, in which event the person(s) entitled to receive the Common Stock issuable upon such conversion of the Series A Preferred Stock shall not be deemed to have converted such Series A Preferred Stock until immediately prior to the closing of such sale of securities. c. CONVERSION PRICE ADJUSTMENTS OF PREFERRED STOCK. The Conversion Price of the Series A Preferred Stock shall be subject to adjustment from time to time as follows: i) A. Upon each issuance by the corporation of any Additional Stock (as defined below), after the date upon which any shares of the Series A Preferred Stock were first issued (the "PURCHASE DATE" with respect to such series), without consideration or for a consideration per share less than the Conversion Price for such series in effect immediately prior to the issuance of such Additional Stock, the Conversion Price for such series in effect immediately prior to each such issuance shall forthwith (except as otherwise provided in this CLAUSE (i)) be adjusted to a price determined by multiplying such Conversion Price by a fraction, the numerator of which shall be the number of shares of Common Stock outstanding immediately prior to such issuance (not including shares excluded from the definition of Additional Stock by SECTION 4(c)(ii)(B)) plus the number of shares of Common Stock which the aggregate consideration received by the corporation for such issuance of Additional Stock would purchase at such Conversion Price; and the denominator of which shall be the number of shares of Common Stock outstanding immediately prior to such issuance (not including shares excluded from the definition of Additional Stock by SUBSECTION 4(c)(ii)(B)) plus the number of shares of such Additional Stock. However, the foregoing calculation shall not take into account shares deemed issued pursuant to SECTION 4(c)(i)(E) on account of options, rights or convertible or exchangeable securities (or the actual or deemed consideration therefor), except to the extent (i) such options, rights or convertible or exchangeable securities have been exercised, converted or exchanged or (ii) the consideration to be paid upon such exercise, conversion or exchange per share of underlying Common Stock is less than or equal to the per share consideration for the Additional Stock which has given rise to the Conversion Price adjustment being calculated. B. Except to the limited extent provided for in SUBSECTIONS (E)(3) and (E)(4), no adjustment of such Conversion Price pursuant to this SUBSECTION 4(c)(i) shall have the effect of increasing the Conversion Price above the Conversion Price in effect immediately prior to such adjustment, and (for purposes of clarification only) in no event will such adjustment have the effect of increasing the Conversion Price above the Original Series A Issue Price. C. In the case of the issuance of Common Stock for cash, the consideration shall be deemed to be the amount of cash paid therefor before deducting any reasonable discounts, commissions or other expenses allowed, paid or incurred by this corporation for any underwriting or otherwise in connection with the issuance and sale thereof. - 6 - D. In the case of the issuance of the Common Stock for a consideration in whole or in part other than cash, the consideration other than cash shall be deemed to be the fair value thereof as determined by the Board of Directors irrespective of any accounting treatment. E. In the case of the issuance (whether before, on or after the applicable Purchase Date) of options to purchase or rights to subscribe for Common Stock, securities by their terms convertible into or exchangeable for Common Stock or options to purchase or rights to subscribe for such convertible or exchangeable securities, the following provisions shall apply for all purposes of this SUBSECTION 4(c)(i) and SUBSECTION 4(c)(ii): 1. The aggregate maximum number of shares of Common Stock deliverable upon exercise (assuming the satisfaction of any conditions to exercisability, including without limitation, the passage of time, but without taking into account potential antidilution adjustments) of such options to purchase or rights to subscribe for Common Stock shall be deemed to have been issued at the time such options or rights were issued and for a consideration equal to the consideration (determined in the manner provided in SUBSECTIONS 4(c)(i)(C) and (c)(i)(D)), if any, received by the corporation upon the issuance of such options or rights plus the exercise price provided in such options or rights for the Common Stock covered thereby. 2. The aggregate maximum number of shares of Common Stock deliverable upon conversion of or in exchange (assuming the satisfaction of any conditions to convertibility or exchangeability, including, without limitation, the passage of time, but without taking into account potential antidilution adjustments) for any such convertible or exchangeable securities or upon the exercise of options to purchase or rights to subscribe for such convertible or exchangeable securities and subsequent conversion or exchange thereof shall be deemed to have been issued at the time such securities were issued or such options or rights were issued and for a consideration equal to the consideration, if any, received by the corporation for any such securities and related options or rights (excluding any cash received on account of accrued interest or accrued dividends), plus the additional consideration, if any, to be received by the corporation upon the conversion or exchange of such securities or the exercise of any related options or rights (the consideration in each case to be determined in the manner provided in SUBSECTIONS 4(c)(i)(C) and (c)(i)(D)). 3. In the event of any change in the number of shares of Common Stock deliverable or in the consideration payable to this corporation upon exercise of such options or rights or upon conversion of or in exchange for such convertible or exchangeable securities, including, but not limited to, a change resulting from the antidilution provisions thereof, the Conversion Price of the Series A Preferred Stock, to the extent in any way affected by or computed using such options, rights or securities, shall be recomputed to reflect such change, but no further adjustment shall be made for the actual - 7 - issuance of Common Stock or any payment of such consideration upon the exercise of any such options or rights or the conversion or exchange of such securities. 4. Upon the expiration of any such options or rights, the termination of any such rights to convert or exchange or the expiration of any options or rights related to such convertible or exchangeable securities, the Conversion Price of the Series A Preferred Stock, to the extent in any way affected by or computed using such options, rights or securities or options or rights related to such securities, shall be recomputed to reflect the issuance of only the number of shares of Common Stock (and convertible or exchangeable securities which remain in effect) actually issued upon the exercise of such options or rights, upon the conversion or exchange of such securities or upon the exercise of the options or rights related to such securities. 5. The number of shares of Common Stock deemed issued and the consideration deemed paid therefor pursuant to SUBSECTIONS 4(c)(i)(E)(1) and (2) shall be appropriately adjusted to reflect any change, termination or expiration of the type described in either SUBSECTION 4(c)(i)(E)(3) or (4). ii) "ADDITIONAL STOCK" shall mean any shares of Common Stock issued (or deemed to have been issued pursuant to SUBSECTION 4(c)(i)(E)) by this corporation after the Purchase Date other than: A. Common Stock issued pursuant to a transaction described in SUBSECTION 4(c)(iii), B. shares of Common Stock issuable or issued to employees consultants or directors of this corporation directly or pursuant to a stock option plan or restricted stock plan approved by the Board of Directors of this corporation, or in connection with lease lines, bank financings or other similar transactions or C. shares of Common Stock issued or issuable (I) in a public offering in connection with which all outstanding shares of Series A Preferred Stock will be converted to Common Stock pursuant to SUBSECTION 4(a)(iii) or (II) upon exercise of warrants or rights granted to underwriters in connection with such a public offering. iii) In the event the corporation should at any time or from time to time after the Purchase Date fix a record date for the effectuation of a split or subdivision of the outstanding shares of Common Stock or the determination of holders of Common Stock entitled to receive a dividend or other distribution payable in additional shares of Common Stock or other securities or rights convertible into, or entitling the holder thereof to receive directly or indirectly, additional shares of Common Stock (hereinafter referred to as "COMMON STOCK EQUIVALENTS") without payment of any consideration by such holder for the additional shares of Common Stock or the Common Stock Equivalents (including the additional shares of Common Stock issuable upon conversion or exercise thereof), then, as of such record date (or the date of such dividend - 8 - distribution, split or subdivision if no record date is fixed), the Conversion Price of the Series A Preferred Stock shall be appropriately decreased so that the number of shares of Common Stock issuable on conversion of each share of such series shall be increased in proportion to such increase of the aggregate of shares of Common Stock outstanding and those issuable with respect to such Common Stock Equivalents with the number of shares issuable with respect to Common Stock Equivalents determined from time to time in the manner provided for deemed issuances in SUBSECTION 4(c)(i)(E). iv) If the number of shares of Common Stock outstanding at any time after the Purchase Date is decreased by a combination of the outstanding shares of Common Stock, then, following the record date of such combination, the Conversion Price for the Series A Preferred Stock shall be appropriately increased so that the number of shares of Common Stock issuable on conversion of each share of such series shall be decreased in proportion to such decrease in outstanding shares. d. OTHER DISTRIBUTIONS. In the event this corporation shall declare a distribution payable in securities of other persons, evidences of indebtedness issued by this corporation or other persons, assets (excluding cash dividends) or options or rights not referred to in SUBSECTION 4(c)(iii), then, in each such case for the purpose of this SUBSECTION 4(d), the holders of the Series A Preferred Stock shall be entitled to a proportionate share of any such distribution as though they were the holders of the number of shares of Common Stock of the corporation into which their shares of Series A Preferred Stock are convertible as of the record date fixed for the determination of the holders of Common Stock of the corporation entitled to receive such distribution. e. RECAPITALIZATIONS. If at any time or from time to time there shall be a recapitalization of the Common Stock (other than a subdivision, combination or merger or sale of assets transaction provided for elsewhere in this SECTION 4 or SECTION 5) provision shall be made so that the holders of the Series A Preferred Stock shall thereafter be entitled to receive upon conversion of the Series A Preferred Stock the number of shares of stock or other securities or property of the Company or otherwise, to which a holder of Common Stock deliverable upon conversion would have been entitled on such recapitalization. In any such case, appropriate adjustment shall be made in the application of the provisions of this SECTION 4 with respect to the rights of the holders of the Series A Preferred Stock after the recapitalization to the end that the provisions of this SECTION 4 (including adjustment of the Conversion Price then in effect and the number of shares purchasable upon conversion of the Series A Preferred Stock) shall be applicable after that event as nearly equivalent as may be practicable. f. NO IMPAIRMENT. This corporation will not, by amendment of its Articles of Incorporation or through any reorganization, recapitalization, transfer of assets, consolidation, merger, dissolution, issue or sale of securities or any other voluntary action, avoid or seek to avoid the observance or performance of any of the terms to be observed or performed hereunder by this corporation, but will at all times in good faith assist in the carrying out of all the provisions of this SECTION 4 and in the taking of all such action as may be necessary or appropriate in order to protect the Conversion Rights of the holders of the Series A Preferred Stock against impairment. - 9 - g. NO FRACTIONAL SHARES AND CERTIFICATE AS TO ADJUSTMENTS. i) No fractional shares shall be issued upon conversion of the Series A Preferred Stock, and the number of shares of Common Stock to be issued shall be rounded to the nearest whole share. Whether or not fractional shares are issuable upon such conversion shall be determined on the basis of the total number of shares of Series A Preferred Stock the holder is at the time converting into Common Stock and the number of shares of Common Stock issuable upon such aggregate conversion. ii) Upon the occurrence of each adjustment or readjustment of the Conversion Price of Series A Preferred Stock pursuant to this SECTION 4, this corporation, at its expense, shall promptly compute such adjustment or readjustment in accordance with the terms hereof and prepare and furnish to each holder of Series A Preferred Stock a certificate setting forth such adjustment or readjustment and showing in detail the facts upon which such adjustment or readjustment is based. This corporation shall, upon the written request at any time of any holder of Series A Preferred Stock, furnish or cause to be furnished to such holder a like certificate setting forth (A) such adjustment and readjustment, (B) the Conversion Price at the time in effect, and (C) the number of shares of Common Stock and the amount, if any, of other property which at the time would be received upon the conversion of a share of Series A Preferred Stock. h. NOTICES OF RECORD DATE. In the event of any taking by this corporation of a record of the holders of any class of securities for the purpose of determining the holders thereof who are entitled to receive any dividend (other than a cash dividend) or other distribution, any right to subscribe for, purchase or otherwise acquire any shares of stock of any class or any other securities or property, or to receive any other right, this corporation shall mail to each holder of Series A Preferred Stock, at least twenty (20) days prior to the date specified therein, a notice specifying the date on which any such record is to be taken for the purpose of such dividend, distribution or right, and the amount and character of such dividend, distribution or right. i. RESERVATION OF STOCK ISSUABLE UPON CONVERSION. This corporation shall at all times reserve and keep available out of its authorized but unissued shares of Common Stock solely for the purpose of effecting the conversion of the shares of the Series A Preferred Stock such number of its shares of Common Stock as shall from time to time be sufficient to effect the conversion of all outstanding shares of the Series A Preferred Stock; and if at any time the number of authorized but unissued shares of Common Stock shall not be sufficient to effect the conversion of all then outstanding shares of the Series A Preferred Stock, in addition to such other remedies as shall be available to the holder of such Preferred Stock, this corporation will take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number of shares as shall be sufficient for such purposes. j. NOTICES. Any notice required by the provisions of this SECTION 4 to be given to the holders of shares of Series A Preferred Stock shall be deemed given if deposited in the United States mail, postage prepaid, and addressed to each holder of record at his address appearing on the books of this corporation. - 10 - 5. MERGER, CONSOLIDATION. a. At any time, in the event of: i) any transaction or series of related transactions (including, without limitation, any reorganization, merger or consolidation) which will result in the corporation's shareholders immediately prior to such transaction not holding (by virtue of such shares or securities issued solely with respect thereto) at least Fifty Percent (50%) of the voting power of the surviving or continuing entity, ii) a sale of all or substantially all of the assets of the corporation, unless the corporation's shareholders immediately prior to such sale will, as a result of such sale, hold (by virtue of securities issued as consideration for the corporation's sale) at least 50% of the voting power of the purchasing entity, then, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, holders of the Series A Preferred Stock shall receive for each share of such stock in cash or in securities received from the acquiring corporation, or in a combination thereof, at the closing of any such transaction, an amount equal to the greater of (A) the Original Series A Issue Price, plus an amount equal to the Premium as of the date of closing of such transaction or (B) that share of the total consideration to be paid by the acquiring entity in such transaction as equals the proportion that the number of shares of Common Stock and Common Stock issuable upon conversion of the outstanding Series A Preferred Stock then held by each of them bears to the total number of shares of outstanding Common Stock and shares of Common Stock issuable upon conversion of the outstanding Series A Preferred Stock. Such payments shall be made with respect to the Series A Preferred Stock (A) by redemption of such shares in one installment pursuant to SUBSECTION 3(b) (provided that in such event the moment immediately prior to the closing of such transaction shall, for purposes of this subparagraph, be deemed to be the "REDEMPTION DATE", only twenty (20) days' prior notice of the date fixed for redemption need be given and the consent of the holders of the Series A Preferred Stock shall be deemed to have been given) or (B) by purchase of such shares of Series A Preferred Stock by the surviving corporation, entity or person or by this corporation. In the event the proceeds of the transaction are not sufficient to make full payment of the aforesaid preferential amounts to the holders of the Series A Preferred Stock in accordance herewith, then, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the entire amount payable in respect of the proposed transaction shall be distributed among the holders of the Series A Preferred Stock in proportion to the amount of such stock owned by each such holder. b. Any securities to be delivered to the holders of the Series A Preferred Stock pursuant to SUBSECTION 5(a) above shall be valued as follows: - 11 - i) Securities not subject to investment letter or other similar restrictions on free marketability (covered by (ii) below): A. If traded on a securities exchange, the value shall be deemed to be the average of the closing prices of the securities on such exchange over the 15-day period ending three (3) days prior to the closing; B. If actively traded over-the-counter, the value shall be deemed to be the average of the closing bid or sale prices (whichever are applicable) over the 15-day period ending three (3) days prior to the closing; and C. If there is no active public market, the value shall be the fair market value thereof, as mutually determined by the corporation and the holders of Preferred Stock which would be entitled to receive such securities or the same type of securities and which Preferred Stock represents at least a majority of the voting power of all then outstanding shares of such Preferred Stock. ii) The method of valuation of securities subject to investment letter or other restrictions on free marketability shall be to make an appropriate discount from the market value determined as above in (i) (A), (B) or (C) to reflect the approximate fair market value thereof, as mutually determined by the corporation and the holders of Preferred Stock which would be entitled to receive such securities or the same type of securities and which represent at least a majority of the voting power of all then outstanding shares of such Preferred Stock. c. In the event the requirements of SUBSECTION 5(a) are not complied with, the corporation shall forthwith either: i) cause such closing to be postponed until such time as the requirements of this SECTION 5 have been complied with, or ii) cancel such transaction, in which event the rights, preferences and privileges of the holders of the Series A Preferred Stock shall revert to and be the same as such rights, preferences and privileges existing immediately prior to the date of the first notice referred to in SUBSECTION 5. d. The corporation shall give each holder of record of Series A Preferred Stock written notice of such impending transaction not later than twenty (20) days prior to the shareholders' meeting called to approve such transaction, or twenty (20) days prior to the closing of such transaction, whichever is earlier, and shall also notify such holders in writing of the final approval of such transaction. The first of such notices shall describe the material terms and conditions of the impending transaction and the provisions of this SECTION 5, and the corporation shall thereafter give such holders prompt notice of any material changes. The transaction shall in no event take place sooner than twenty (20) days after the corporation has given the first notice provided for herein or sooner than ten (10) days after the corporation has given notice of any - 12 - material changes provided for herein; provided, however, that such periods may be shortened upon the written consent of the holders of Preferred Stock which is entitled to such notice rights or similar notice rights and which represents at least a majority of the voting power of all then outstanding shares of such Preferred Stock. e. The provisions of this SECTION 5 are in addition to the protective provisions of SECTION 7. 6. VOTING RIGHTS. The holder of each share of Series A Preferred Stock shall have the right to one vote for each share of Common Stock into which such Series A Preferred Stock could then be converted (with any fractional share determined on an aggregate conversion basis being rounded to the nearest whole share), and with respect to such vote, such holder shall have full voting rights and powers equal to the voting rights and powers of the holders of Common Stock, and shall be entitled, notwithstanding any provision hereof, to notice of any shareholders' meeting in accordance with the by-laws of this corporation, and shall be entitled to vote, together with holders of Common Stock, with respect to any question upon which holders of Common Stock have the right to vote. 7. PROTECTIVE PROVISIONS. So long as a majority of the Original Series A Preferred Stock are outstanding, this corporation shall not without first obtaining the approval (by vote or written consent, as provided by law) of the holders of at least a majority of the then outstanding shares of Series A Preferred Stock, voting as a separate class: a. sell, convey, or otherwise dispose of or encumber all or substantially all of its property or business or merge into or consolidate with any other corporation (other than a wholly owned subsidiary corporation) or effect any transaction or series of related transactions in which more than 50% of the voting power of the corporation is disposed of (provided, however that the holders of Series A Preferred Stock will not be entitled to vote as a class on mergers, consolidations, sale of assets, business combinations or similar transactions in which the holders of Series A Preferred Stock receive per share not less than two (2) times the Original Series A Issue Price (appropriately adjusted for any stock split, dividend, combination or other recapitalization) prior to August 31, 1997 and not less than three (3) times such amount thereafter; or b. alter or change the rights, preferences or privileges of the shares of Series A Preferred Stock so as to affect adversely such shares; or c. increase the authorized number of shares of Series A Preferred Stock; or d. create any new class or reclassify any series of stock or any other securities convertible into equity securities of the corporation having a preference over, or being on a parity with, the Series A Preferred Stock with respect to voting, redemption, dividends or upon liquidation; or - 13 - e. repurchase or redeem any shares of the corporation's capital stock other than shares repurchased at cost from employees or officers. 8. STATUS OF CONVERTED OR REDEEMED STOCK. In the event any shares of Series A Preferred Stock shall be redeemed or converted pursuant to SECTION 3 or SECTION 4, the shares so converted or redeemed shall be canceled and shall not be issuable by the corporation. The Articles of Incorporation of this corporation shall be appropriately amended to effect the corresponding reduction in the corporation's authorized capital stock. ARTICLE IV. Section 1. The liability of the directors of this corporation for monetary damages shall be eliminated to the fullest extent permissible under California law. Section 2. This corporation is authorized to indemnify the directors and officers and agents of this corporation to the fullest extent permissible under California law. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] - 14 - THREE: The foregoing restated articles of incorporation have been approved by the Board of Directors of said corporation. FOUR: The foregoing restated articles of incorporation were approved by the holders of the requisite number of shares of said corporation in accordance with Sections 158, 902 and 903 of the California General Corporation Law; the total number of outstanding shares of each class entitled to vote with respect to the foregoing amendment was 10,000 shares of Common Stock. The number of shares voting in favor of the foregoing amendments equaled 10,000 shares. The percentage vote equaled 100% of the outstanding shares of the corporation. IN WITNESS WHEREOF, the undersigned have executed this certificate on October 20, 1995. /s/ Georges J. Daou ------------------------------------------- Georges J. Daou, Chief Executive Officer /s/ Daniel J. Daou ------------------------------------------- Daniel J. Daou, Secretary The undersigned certify under penalty of perjury that they have read the foregoing Restated Articles of Incorporation and know the contents thereof, and that the statements therein are true. Executed at San Diego, California, on Oct. 20, 1995. /s/ Georges J. Daou ------------------------------------------- Georges J. Daou, Chief Executive Officer /s/ Daniel J. Daou ------------------------------------------- Daniel J. Daou, Secretary [SIGNATURE PAGE TO DAOU SYSTEMS, INC. RESTATED ARTICLES OF INCORPORATION] - 15 - EX-3.2 4 EXHIBIT 3.2: CERT. OF INCORPORATION FORM OF AMENDED AND RESTATED CERTIFICATE OF INCORPORATION OF DAOU SYSTEMS, INC. I, Lynn M. Morris, the incorporator of DAOU Systems, Inc., a corporation duly organized under the laws of the State of Delaware (the "CORPORATION"), do hereby certify as follows: 1. The name of the Corporation is DAOU Systems, Inc. and the original Certificate of Incorporation of the Corporation was filed with the Secretary of State of the State of Delaware on November 15, 1996 (the "ORIGINAL CERTIFICATE OF INCORPORATION"). 2. The Corporation has not received any payment for any of its stock. 3. No directors were named in the Original Certificate of Incorporation and none have been elected. 4. Pursuant to Sections 241 and 245 of the General Corporation Law of the State of Delaware, the following resolution restating, integrating and further amending the Certificate of Incorporation of the Corporation was approved by Written Consent by the Sole Incorporator dated as of November 21, 1996: NOW, THEREFORE, BE IT RESOLVED, that the Certificate of Incorporation of the Corporation be, and hereby is, restated and further amended to read in its entirety as follows: ARTICLE I The name of the corporation is DAOU Systems, Inc., (hereinafter referred to as (the "CORPORATION"). ARTICLE II The address of the Corporation's registered office in the State of Delaware is 1013 Centre Road, City of Wilmington, County of New Castle, Delaware. The name of its registered agent at such address is Corporation Services Company. ARTICLE III The purpose of the Corporation is to engage in any lawful act or activity for which corporations may be organized under the General Corporation Law of the State of Delaware. ARTICLE IV A. The Corporation is authorized to issue two classes of stock to be designated, respectively, "Common Stock" and "Preferred Stock." The total number of shares which the Corporation is authorized to issue is 56,603,430 shares, 50,000,000 shares of which shall be Common Stock with a par value of $0.001 each, and 6,603,430 shares of which shall be Preferred Stock with a par value of $0.001. B. The Preferred Stock of the Corporation may be issued as a class, without series or, if so determined from time to time by the Board of Directors of the Corporation, in one or more series, each series to be expressly designated by a distinguishing number, letter or title. The Preferred Stock, and each series thereof, shall have such voting powers and other rights, privileges, preferences and restrictions as shall be set forth in the resolutions of the Board of Directors providing for the issuance of such preferred stock. There is hereby expressly granted to the Board of Directors of the Corporation the authority to determine, fix, alter or revoke any and all of the rights, preferences, privileges and restrictions and other terms of the Preferred Stock and any series thereof, and the number of shares constituting any series and the designation thereof, and to increase or decrease the number of shares of any series subsequent to the issuance of shares of that series, but not below the number of shares of such series then outstanding, or to eliminate entirely any series if there no longer are any outstanding shares of such series (and, thereupon, the shares previously designated for such series shall become authorized but undesignated shares). In case the number of shares of any series shall be so decreased, the shares constituting such shall resume the status they had prior to the adoption of the resolution originally setting forth the number of shares of such series. 1,603,430 of the authorized shares of Preferred Stock are hereby designated the "Series A Preferred Stock." C. The rights, preferences, privileges, restrictions and other matters relating to the Series A Preferred Stock are as follows: 1. DIVIDEND PROVISIONS. Subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the holders of shares of the Series A Preferred Stock shall be entitled to receive dividends out of any assets legally available therefor, prior and in preference to any declaration or payment of any dividend (other than a dividend payable solely in Common Stock or other securities and rights convertible into or entitling the holder thereof to receive, directly or indirectly, additional shares of Common Stock) on the Common Stock, at the rate of six percent (6%) per annum based on the 2 Series A Issue Price (as hereinafter defined in SUBSECTION 2(a)) per share of the Series A Preferred Stock (appropriately adjusted for any stock split, dividend, combination or other recapitalization) when, as and if declared by the Board of Directors. Such dividends shall not be cumulative and, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, shall be paid to the extent assets are legally available therefor and any amounts for which assets are not legally available shall be paid promptly as assets become legally available therefor; any partial payment will be made pro rata among the holders of such shares. Unless full dividends on the Series A Preferred Stock for the then current dividend period shall have been paid or declared and a sum sufficient for the payment thereof set apart, no dividend whatsoever (other than a dividend payable solely in Common Stock or other securities and rights convertible into or entitling the holder thereof to receive, directly or indirectly, additional shares of Common Stock) shall be paid or declared, and no distribution shall be made, on any Common Stock. After full dividends on the Series A Preferred Stock for the then current dividend period have been paid, the holders of shares of Series A Preferred Stock and the holders of shares of Common Stock shall participate in any further dividends on a pro rata basis determined by the number of shares of Common Stock held by each (assuming conversion of all such Series A Preferred Stock). 2. LIQUIDATION PREFERENCE. a. In the event of any liquidation, dissolution or winding up of the Corporation, either voluntary or involuntary, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the holders of Series A Preferred Stock shall be entitled to receive, prior and in preference to any distribution of any of the assets of the Corporation to the holders of Common Stock by reason of their ownership thereof, an amount per share equal to the sum of (i) Four Dollars and Ninety-Nine Cents ($4.99) for each outstanding share of Series A Preferred Stock (the "SERIES A ISSUE PRICE") and (ii) an amount equal to six percent (6%) of the Series A Issue Price (compounded annually and computed on the basis of a 360-day year of 30-day months and, for any period less than a month, the actual number of days elapsed in such month for the period of time that has passed since the original issuance of the Series A Preferred Stock) less any dividends actually paid on the Series A Preferred Stock (such amount being referred to herein as the "PREMIUM"). If upon the occurrence of such event, the assets and funds thus distributed among the holders of the Series A Preferred Stock shall be insufficient to permit the payment to such holders of the full aforesaid preferential amounts, then, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the entire assets and funds of the Corporation legally available for distribution shall be distributed ratably among the holders of the Series A Preferred Stock in proportion to the amount of such stock owned by each such holder. b. Upon the completion of the distribution required by SUBSECTION (a) of this SECTION 2 and any other distribution which may be required with respect to series of Preferred Stock which may from time to time come into existence in compliance with the provision of SECTION 7, if assets remain in the Corporation, the holders of the Common Stock of the Corporation shall 3 receive an aggregate amount equal to the total amount received by the holders of the Series A Preferred Stock pursuant to SUBSECTION (a). c. After the distributions described in SUBSECTION (a) and (b) above have been paid, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the remaining assets of the Corporation available for distribution to stockholders shall be distributed among the holders of Series A Preferred Stock and Common Stock pro rata based on the number of shares of Common Stock held by each (assuming conversion of all such Series A Preferred Stock). d. A consolidation or merger of the Corporation with or into any other corporation or corporations, or a sale, conveyance or disposition of all or substantially all of the assets of the Corporation or the effectuation by the Corporation of a transaction or series of related transactions in which more than fifty percent (50%) of the voting power of the Corporation is disposed of, shall not be deemed to be a liquidation, dissolution or winding up within the meaning of this SECTION 2, but shall instead be treated pursuant to SECTION 5. e. The liquidation preference of the Series A Preferred Stock set forth in this SECTION 2 shall not be applicable to any transaction in which the holders of Series A Preferred Stock receive not less than two times the Series A Issue Price (appropriately adjusted for any stock split, dividend, combination or other recapitalization) before August 31, 1997 and not less than three times the Series A Issue Price (appropriately adjusted for any stock split, dividend, combination or other recapitalization) thereafter; provided, however, that in any such transaction the holders of shares of Series A Preferred Stock and the holders of shares of Common Stock will share in the consideration received on a pro rata basis determined by the number of shares of Common Stock held by each (assuming conversion of all such Series A Preferred Stock). 3. REDEMPTION. a. On or after August 31, 2000, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, within thirty (30) days after the receipt by the Corporation of a written request from the holders of a majority of the then outstanding Series A Preferred Stock, but not less then one third of the originally issued shares of Series A Preferred Stock (the "ORIGINAL SERIES A PREFERRED STOCK"), that all or some of such holders' shares be redeemed, and concurrently with surrender by such holders of the certificates representing such shares, the Corporation shall, to the extent it may lawfully do so, redeem the shares specified in such request by paying in cash therefor a sum per share equal to the Series A Issue Price plus an amount equal to six percent (6%) of the Series A Issue Price compounded annually and computed for the period of time that has passed since the original issuance of the Series A Preferred Stock on the basis of a 360-day year of 30-day months and, for any period less than a month, the actual number of days elapsed in such month, less any dividends actually paid on the Series A Preferred Stock (the "SERIES A REDEMPTION PRICE"). The Corporation shall give each holder of Series A Preferred Stock at least ten (10) days written notice of the date (the "REDEMPTION DATE") and place of redemption and the dollar amount of the Series A 4 Redemption Price, which notice shall be effective upon delivery or deposit in the United States mail, postage prepaid and addressed to each holder of record at his address appearing on the books of the Corporation. Payment of the Series A Redemption Price shall be made as follows: (A) one-third of such price shall be paid in cash on the Redemption Date; and (B) one-third of such price (plus interest on unpaid balance of six percent (6%) compounded annually) shall be paid in cash on each of the first and second anniversary dates of such Redemption Date, respectively. If the certificate surrendered represents a greater number of shares than the number redeemed, the Corporation shall issue to such holder a new certificate representing the shares which remain outstanding. b. From and after the Redemption Date, unless there shall have been a default in payment of the Series A Redemption Price, all dividends on the Series A Preferred Stock designated for redemption in the Redemption Notice shall cease to accrue, all rights of the holders of such shares as holders of Series A Preferred Stock (except the right to receive the Redemption Price without interest upon surrender of their certificate or certificates) shall cease with respect to such shares, and such shares shall not thereafter be transferred on the books of the Corporation or be deemed to be outstanding for any purpose whatsoever. Subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, if the funds of the Corporation legally available for redemption of shares of Series A Preferred Stock on any Redemption Date, or any subsequent date as provided in SUBSECTION 3(a), are insufficient to redeem the total number of shares of Series A Preferred Stock to be redeemed on such date, those funds which are legally available will be used to redeem the maximum possible number of such shares ratably among the holders of such shares to be redeemed. The shares of Series A Preferred Stock not redeemed shall remain outstanding and entitled to all the rights and preferences provided herein. Subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, at any time thereafter when additional funds of the Company are legally available for the redemption of shares of Series A Preferred Stock, such funds will immediately be used to redeem the balance of the shares which the Company has become obligated to redeem on any Redemption Date but which it has not redeemed. c. If at any time less than twenty-five percent (25%) of the Series A Preferred Stock remains outstanding, the Corporation may, upon a vote of its Board of Directors, redeem the remaining outstanding Series A Preferred Stock by payment in cash of the Series A Redemption Price in accordance with the notice and other terms and conditions set forth above in this SECTION 3. 4. CONVERSION. The holders of the Series A Preferred Stock shall have conversion rights as follows (the "CONVERSION RIGHTS"): a. RIGHT TO CONVERT. i. Subject to SUBSECTION (c), each share of Series A Preferred Stock shall be convertible, at the option of the holder thereof, at any time after the date of issuance of such share and prior to the close of business on any Redemption Date as may have been fixed in any Redemption Notice with respect to such share, at the office of the Corporation or any transfer 5 agent for the Series A Preferred Stock, into such number of fully paid and nonassessable shares of Common Stock as is determined by dividing the Series A Issue Price by the Conversion Price at the time in effect for such share. The initial "CONVERSION PRICE" per share for shares of Series A Preferred Stock shall be the Series A Issue Price; provided, however, that the Conversion Price for the Series A Preferred Stock shall be subject to adjustment as set forth in SUBSECTION 4(c). ii. In the event of a call for redemption of any shares of Series A Preferred Stock pursuant to SECTION 3, unless there shall have been a default in payment of the Series A Redemption Price, the Conversion Rights shall terminate as to the shares designated for redemption at the close of business on the Redemption Date. iii. Each share of Series A Preferred Stock shall automatically be converted into shares of Common Stock at the Conversion Price at the time in effect for such Series A Preferred Stock immediately upon the consummation of the Corporation's sale of its Common Stock in a public offering pursuant to a registration statement under the Securities Act of 1933, as amended, the public offering price of which was not less than two (2) times the Series A Issue Price (appropriately adjusted for any stock split, dividend, combination or other recapitalization) prior to August 31, 1997 and not less than three (3) times such amount thereafter and $15,000,000 in the aggregate. b. MECHANICS OF CONVERSION. Before any holder of Series A Preferred Stock shall be entitled to convert the same into shares of Common Stock, he shall surrender the certificate or certificates therefor, duly endorsed, at the office of the Corporation or of any transfer agent for the Series A Preferred Stock, and shall give written notice by mail, postage prepaid, to the Corporation at its principal corporate office, of the election to convert the same and shall state therein the name or names in which the certificate or certificates for shares of Common Stock are to be issued. The Corporation shall, as soon as practicable thereafter, issue and deliver at such office to such holder of Series A Preferred Stock, or to the nominee or nominees of such holder, a certificate or certificates for the number of shares of Common Stock to which such holder shall be entitled as aforesaid. Such conversion shall be deemed to have been made immediately prior to the close of business on the date of such surrender of the shares of Series A Preferred Stock to be converted, and the person or persons entitled to receive the shares of Common Stock issuable upon such conversion shall be treated for all purposes as the record holder or holders of such shares of Common Stock as of such date. If the conversion is in connection with an underwritten offer of securities registered pursuant to the Securities Act of 1933, the conversion may, at the option of any holder tendering Series A Preferred Stock for conversion, be conditioned upon the closing with the underwriter of the sale of securities pursuant to such offering, in which event the person(s) entitled to receive the Common Stock issuable upon such conversion of the Series A Preferred Stock shall not be deemed to have converted such Series A Preferred Stock until immediately prior to the closing of such sale of securities. c. CONVERSION PRICE ADJUSTMENTS OF PREFERRED STOCK. The Conversion Price of the Series A Preferred Stock shall be subject to adjustment from time to time as follows: 6 i. A. Upon each issuance by the Corporation of any Additional Stock (as defined below), after the date upon which any shares of the Series A Preferred Stock were first issued (the "PURCHASE DATE" with respect to such series), without consideration or for a consideration per share less than the Conversion Price for such series in effect immediately prior to the issuance of such Additional Stock, the Conversion Price for such series in effect immediately prior to each such issuance shall forthwith (except as otherwise provided in this CLAUSE (i)) be adjusted to a price determined by multiplying such Conversion Price by a fraction, the numerator of which shall be the number of shares of Common Stock outstanding immediately prior to such issuance (not including shares excluded from the definition of Additional Stock by SUBSECTION 4(c)(ii)(B)) plus the number of shares of Common Stock which the aggregate consideration received by the Corporation for such issuance of Additional Stock would purchase at such Conversion Price; and the denominator of which shall be the number of shares of Common Stock outstanding immediately prior to such issuance (not including shares excluded from the definition of Additional Stock by SUBSECTION 4(c)(ii)(B)) plus the number of shares of such Additional Stock. However, the foregoing calculation shall not take into account shares deemed issued pursuant to SUBSECTION 4(c)(i)(E) on account of options, rights or convertible or exchangeable securities (or the actual or deemed consideration therefor), except to the extent (i) such options, rights or convertible or exchangeable securities have been exercised, converted or exchanged or (ii) the consideration to be paid upon such exercise, conversion or exchange per share of underlying Common Stock is less than or equal to the per share consideration for the Additional Stock which has given rise to the Conversion Price adjustment being calculated. B. Except to the limited extent provided for in SUBSECTIONS (E)(3) and (E)(4), no adjustment of such Conversion Price pursuant to this SUBSECTION 4(c)(i) shall have the effect of increasing the Conversion Price above the Conversion Price in effect immediately prior to such adjustment, and (for purposes of clarification only) in no event will such adjustment have the effect of increasing the Conversion Price above the Series A Issue Price. C. In the case of the issuance of Common Stock for cash, the consideration shall be deemed to be the amount of cash paid therefor before deducting any reasonable discounts, commissions or other expenses allowed, paid or incurred by the Corporation for any underwriting or otherwise in connection with the issuance and sale thereof. D. In the case of the issuance of the Common Stock for a consideration in whole or in part other than cash, the consideration other than cash shall be deemed to be the fair value thereof as determined by the Board of Directors irrespective of any accounting treatment. E. In the case of the issuance (whether before, on or after the applicable Purchase Date) of options to purchase or rights to subscribe for Common Stock, securities by their terms convertible into or exchangeable for Common Stock or options to purchase 7 or rights to subscribe for such convertible or exchangeable securities, the following provisions shall apply for all purposes of this SUBSECTION 4(c)(i) and SUBSECTION 4(c)(ii): 1. The aggregate maximum number of shares of Common Stock deliverable upon exercise (assuming the satisfaction of any conditions to exercisability, including without limitation, the passage of time, but without taking into account potential antidilution adjustments) of such options to purchase or rights to subscribe for Common Stock shall be deemed to have been issued at the time such options or rights were issued and for a consideration equal to the consideration (determined in the manner provided in SUBSECTIONS 4(c)(i)(C) and (c)(i)(D)), if any, received by the Corporation upon the issuance of such options or rights plus the exercise price provided in such options or rights for the Common Stock covered thereby. 2. The aggregate maximum number of shares of Common Stock deliverable upon conversion of or in exchange (assuming the satisfaction of any conditions to convertibility or exchangeability, including, without limitation, the passage of time, but without taking into account potential antidilution adjustments) for any such convertible or exchangeable securities or upon the exercise of options to purchase or rights to subscribe for such convertible or exchangeable securities and subsequent conversion or exchange thereof shall be deemed to have been issued at the time such securities were issued or such options or rights were issued and for a consideration equal to the consideration, if any, received by the Corporation for any such securities and related options or rights (excluding any cash received on account of accrued interest or accrued dividends), plus the additional consideration, if any, to be received by the Corporation upon the conversion or exchange of such securities or the exercise of any related options or rights (the consideration in each case to be determined in the manner provided in SUBSECTIONS 4(c)(i)(C) and (c)(i)(D)). 3. In the event of any change in the number of shares of Common Stock deliverable or in the consideration payable to the Corporation upon exercise of such options or rights or upon conversion of or in exchange for such convertible or exchangeable securities, including, but not limited to, a change resulting from the antidilution provisions thereof, the Conversion Price of the Series A Preferred Stock, to the extent in any way affected by or computed using such options, rights or securities, shall be recomputed to reflect such change, but no further adjustment shall be made for the actual issuance of Common Stock or any payment of such consideration upon the exercise of any such options or rights or the conversion or exchange of such securities. 4. Upon the expiration of any such options or rights, the termination of any such rights to convert or exchange or the expiration of any options or rights related to such convertible or exchangeable securities, the Conversion Price of the Series A Preferred Stock, to the extent in any way affected by or computed using such options, rights or securities or options or rights related to such securities, shall be recomputed to reflect the issuance of only the number of shares of Common Stock (and convertible or exchangeable securities which 8 remain in effect) actually issued upon the exercise of such options or rights, upon the conversion or exchange of such securities or upon the exercise of the options or rights related to such securities. 5. The number of shares of Common Stock deemed issued and the consideration deemed paid therefor pursuant to SUBSECTIONS 4(c)(i)(E)(1) and (2) shall be appropriately adjusted to reflect any change, termination or expiration of the type described in either SUBSECTION 4(c)(i)(E)(3) or (4). ii. "ADDITIONAL STOCK" shall mean any shares of Common Stock issued (or deemed to have been issued pursuant to SUBSECTION 4(c)(i)(E)) by the Corporation after the Purchase Date other than: A. Common Stock issued pursuant to a transaction described in SUBSECTION 4(c)(iii), B. shares of Common Stock issuable or issued to employees consultants or directors of the Corporation directly or pursuant to a stock option plan or restricted stock plan approved by the Board of Directors of the Corporation, or in connection with lease lines, bank financings or other similar transactions or C. shares of Common Stock issued or issuable (I) in a public offering in connection with which all outstanding shares of Series A Preferred Stock will be converted to Common Stock pursuant to SUBSECTION 4(a)(iii) or (II) upon exercise of warrants or rights granted to underwriters in connection with such a public offering. iii. In the event the Corporation should at any time or from time to time after the Purchase Date fix a record date for the effectuation of a split or subdivision of the outstanding shares of Common Stock or the determination of holders of Common Stock entitled to receive a dividend or other distribution payable in additional shares of Common Stock or other securities or rights convertible into, or entitling the holder thereof to receive directly or indirectly, additional shares of Common Stock (hereinafter referred to as "COMMON STOCK EQUIVALENTS") without payment of any consideration by such holder for the additional shares of Common Stock or the Common Stock Equivalents (including the additional shares of Common Stock issuable upon conversion or exercise thereof), then, as of such record date (or the date of such dividend distribution, split or subdivision if no record date is fixed), the Conversion Price of the Series A Preferred Stock shall be appropriately decreased so that the number of shares of Common Stock issuable on conversion of each share of such series shall be increased in proportion to such increase of the aggregate of shares of Common Stock outstanding and those issuable with respect to such Common Stock Equivalents with the number of shares issuable with respect to Common Stock Equivalents determined from time to time in the manner provided for deemed issuances in SUBSECTION 4(c)(i)(E). iv. If the number of shares of Common Stock outstanding at any time after the Purchase Date is decreased by a combination of the outstanding shares of Common 9 Stock, then, following the record date of such combination, the Conversion Price for the Series A Preferred Stock shall be appropriately increased so that the number of shares of Common Stock issuable on conversion of each share of such series shall be decreased in proportion to such decrease in outstanding shares. d. OTHER DISTRIBUTIONS. In the event the Corporation shall declare a distribution payable in securities of other persons, evidences of indebtedness issued by the Corporation or other persons, assets (excluding cash dividends) or options or rights not referred to in SUBSECTION 4(c)(iii), then, in each such case for the purpose of this SUBSECTION 4(d), the holders of the Series A Preferred Stock shall be entitled to a proportionate share of any such distribution as though they were the holders of the number of shares of Common Stock of the Corporation into which their shares of Series A Preferred Stock are convertible as of the record date fixed for the determination of the holders of Common Stock of the Corporation entitled to receive such distribution. e. RECAPITALIZATIONS. If at any time or from time to time there shall be a recapitalization of the Common Stock (other than a subdivision, combination or merger or sale of assets transaction provided for elsewhere in this SECTION 4 or SECTION 5), provision shall be made so that the holders of the Series A Preferred Stock shall thereafter be entitled to receive upon conversion of the Series A Preferred Stock the number of shares of stock or other securities or property of the Company or otherwise, to which a holder of Common Stock deliverable upon conversion would have been entitled on such recapitalization. In any such case, appropriate adjustment shall be made in the application of the provisions of this SECTION 4 with respect to the rights of the holders of the Series A Preferred Stock after the recapitalization to the end that the provisions of this SECTION 4 (including adjustment of the Conversion Price then in effect and the number of shares purchasable upon conversion of the Series A Preferred Stock) shall be applicable after that event as nearly equivalent as may be practicable. f. NO IMPAIRMENT. The Corporation will not, by amendment of its Certificate of Incorporation or through any reorganization, recapitalization, transfer of assets, consolidation, merger, dissolution, issue or sale of securities or any other voluntary action, avoid or seek to avoid the observance or performance of any of the terms to be observed or performed hereunder by the Corporation, but will at all times in good faith assist in the carrying out of all the provisions of this SECTION 4 and in the taking of all such action as may be necessary or appropriate in order to protect the Conversion Rights of the holders of the Series A Preferred Stock against impairment. g. NO FRACTIONAL SHARES AND CERTIFICATE AS TO ADJUSTMENTS. i. No fractional shares shall be issued upon conversion of the Series A Preferred Stock, and the number of shares of Common Stock to be issued shall be rounded up to the nearest whole share. ii. Upon the occurrence of each adjustment or readjustment of the Conversion Price of Series A Preferred Stock pursuant to this SECTION 4, the Corporation, at its 10 expense, shall promptly compute such adjustment or readjustment in accordance with the terms hereof and prepare and furnish to each holder of Series A Preferred Stock a certificate setting forth such adjustment or readjustment and showing in detail the facts upon which such adjustment or readjustment is based. The Corporation shall, upon the written request at any time of any holder of Series A Preferred Stock, furnish or cause to be furnished to such holder a like certificate setting forth (A) such adjustment and readjustment, (B) the Conversion Price at the time in effect, and (C) the number of shares of Common Stock and the amount, if any, of other property which at the time would be received upon the conversion of a share of Series A Preferred Stock. h. NOTICES OF RECORD DATE. In the event of any taking by the Corporation of a record of the holders of any class of securities for the purpose of determining the holders thereof who are entitled to receive any dividend (other than a cash dividend) or other distribution, any right to subscribe for, purchase or otherwise acquire any shares of stock of any class or any other securities or property, or to receive any other right, the Corporation shall mail to each holder of Series A Preferred Stock, at least twenty (20) days prior to the date specified therein, a notice specifying the date on which any such record is to be taken for the purpose of such dividend, distribution or right, and the amount and character of such dividend, distribution or right. i. RESERVATION OF STOCK ISSUABLE UPON CONVERSION. The Corporation shall at all times reserve and keep available out of its authorized but unissued shares of Common Stock solely for the purpose of effecting the conversion of the shares of the Series A Preferred Stock such number of its shares of Common Stock as shall from time to time be sufficient to effect the conversion of all outstanding shares of the Series A Preferred Stock; and if at any time the number of authorized but unissued shares of Common Stock shall not be sufficient to effect the conversion of all then outstanding shares of the Series A Preferred Stock, in addition to such other remedies as shall be available to the holder of such Preferred Stock, the Corporation will take such corporate action as may, in the opinion of its counsel, be necessary to increase its authorized but unissued shares of Common Stock to such number of shares as shall be sufficient for such purposes. j. NOTICES. Any notice required by the provisions of this SECTION 4 to be given to the holders of shares of Series A Preferred Stock shall be deemed given if deposited in the United States mail, postage prepaid, and addressed to each holder of record at his address appearing on the books of the Corporation. 5. MERGER, CONSOLIDATION. a. At any time, in the event of: i. any transaction or series of related transactions (including, without limitation, any reorganization, merger or consolidation) which will result in the Corporation's stockholders immediately prior to such transaction not holding (by virtue of such shares or securities issued solely 11 with respect thereto) at least fifty percent (50%) of the voting power of the surviving or continuing entity, ii. a sale of all or substantially all of the assets of the Corporation, unless the Corporation's stockholders immediately prior to such sale will, as a result of such sale, hold (by virtue of securities issued as consideration for the Corporation's sale) at least fifty percent (50%) of the voting power of the purchasing entity, then, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, holders of the Series A Preferred Stock shall receive for each share of such stock in cash or in securities received from the acquiring corporation, or in a combination thereof, at the closing of any such transaction, an amount equal to the greater of (A) the Series A Issue Price, plus an amount equal to the Premium as of the date of closing of such transaction or (B) that share of the total consideration to be paid by the acquiring entity in such transaction as equals the proportion that the number of shares of Common Stock and Common Stock issuable upon conversion of the outstanding Series A Preferred Stock then held by each of them bears to the total number of shares of outstanding Common Stock and shares of Common Stock issuable upon conversion of the outstanding Series A Preferred Stock. Such payments shall be made with respect to the Series A Preferred Stock (A) by redemption of such shares in one installment pursuant to SUBSECTION 3(b) (provided that in such event the moment immediately prior to the closing of such transaction shall, for purposes of this subparagraph, be deemed to be the "REDEMPTION DATE", only twenty (20) days' prior notice of the date fixed for redemption need be given and the consent of the holders of the Series A Preferred Stock shall be deemed to have been given) or (B) by purchase of such shares of Series A Preferred Stock by the surviving corporation, entity or person or by the Corporation. In the event the proceeds of the transaction are not sufficient to make full payment of the aforesaid preferential amounts to the holders of the Series A Preferred Stock in accordance herewith, then, subject to the rights of series of Preferred Stock which may from time to time come into existence in compliance with the provisions of SECTION 7, the entire amount payable in respect of the proposed transaction shall be distributed among the holders of the Series A Preferred Stock in proportion to the amount of such stock owned by each such holder. b. Any securities to be delivered to the holders of the Series A Preferred Stock pursuant to SUBSECTION 5(a) above shall be valued as follows: i. Securities not subject to investment letter or other similar restrictions on free marketability (covered by (ii) below): A. If traded on a securities exchange, the value shall be deemed to be the average of the closing prices of the securities on such exchange over the 15-day period ending three (3) days prior to the closing; 12 B. If actively traded over-the-counter, the value shall be deemed to be the average of the closing bid or sale prices (whichever are applicable) over the 15-day period ending three (3) days prior to the closing; and C. If there is no active public market, the value shall be the fair market value thereof, as mutually determined by the Corporation and the holders of Preferred Stock which would be entitled to receive such securities or the same type of securities and which Preferred Stock represents at least a majority of the voting power of all then outstanding shares of such Preferred Stock. ii. The method of valuation of securities subject to investment letter or other restrictions on free marketability shall be to make an appropriate discount from the market value determined as above in (i) (A), (B) or (C) to reflect the approximate fair market value thereof, as mutually determined by the Corporation and the holders of Preferred Stock which would be entitled to receive such securities or the same type of securities and which represent at least a majority of the voting power of all then outstanding shares of such Preferred Stock. c. In the event the requirements of SUBSECTION 5(a) are not complied with, the Corporation shall forthwith either: i. cause such closing to be postponed until such time as the requirements of this SECTION 5 have been complied with, or ii. cancel such transaction, in which event the rights, preferences and privileges of the holders of the Series A Preferred Stock shall revert to and be the same as such rights, preferences and privileges existing immediately prior to the date of the first notice referred to in SECTION 5. d. The Corporation shall give each holder of record of Series A Preferred Stock written notice of such impending transaction not later than twenty (20) days prior to the stockholders' meeting called to approve such transaction, or twenty (20) days prior to the closing of such transaction, whichever is earlier, and shall also notify such holders in writing of the final approval of such transaction. The first of such notices shall describe the material terms and conditions of the impending transaction and the provisions of this SECTION 5, and the Corporation shall thereafter give such holders prompt notice of any material changes. The transaction shall in no event take place sooner than twenty (20) days after the Corporation has given the first notice provided for herein or sooner than ten (10) days after the Corporation has given notice of any material changes provided for herein; provided, however, that such periods may be shortened upon the written consent of the holders of Preferred Stock which is entitled to such notice rights or similar notice rights and which represents at least a majority of the voting power of all then outstanding shares of such Preferred Stock. e. The provisions of this SECTION 5 are in addition to the protective provisions of SECTION 7. 13 6. VOTING RIGHTS. The holder of each share of Series A Preferred Stock shall have the right to one vote for each share of Common Stock into which such Series A Preferred Stock could then be converted (with any fractional share determined on an aggregate conversion basis being rounded up to the nearest whole share), and with respect to such vote, such holder shall have full voting rights and powers equal to the voting rights and powers of the holders of Common Stock, and shall be entitled, notwithstanding any provision hereof, to notice of any stockholders' meeting in accordance with the Bylaws of the Corporation, and shall be entitled to vote, together with holders of Common Stock, with respect to any question upon which holders of Common Stock have the right to vote. 7. PROTECTIVE PROVISIONS. So long as a majority of the Series A Preferred Stock are outstanding, the Corporation shall not without first obtaining the approval (by vote or written consent, as provided by law) of the holders of at least a majority of the then outstanding shares of Series A Preferred Stock, voting as a separate class: a. sell, convey, or otherwise dispose of or encumber all or substantially all of its property or business or merge into or consolidate with any other corporation (other than a wholly owned subsidiary corporation) or effect any transaction or series of related transactions in which more than fifty percent (50%) of the voting power of the Corporation is disposed of (provided, however that the holders of Series A Preferred Stock will not be entitled to vote as a class on mergers, consolidations, sale of assets, business combinations or similar transactions in which the holders of Series A Preferred Stock receive per share not less than two (2) times the Series A Issue Price (appropriately adjusted for any stock split, dividend, combination or other recapitalization) prior to August 31, 1997 and not less than three (3) times such amount thereafter; or b. alter or change the rights, preferences or privileges of the shares of Series A Preferred Stock so as to affect adversely such shares; or c. increase the authorized number of shares of Series A Preferred Stock; or d. create any new class or reclassify any series of stock or any other securities convertible into equity securities of the Corporation having a preference over, or being on a parity with, the Series A Preferred Stock with respect to voting, redemption, dividends or upon liquidation; or e. repurchase or redeem any shares of the Corporation's capital stock other than shares repurchased at cost from employees or officers. 8. STATUS OF CONVERTED OR REDEEMED STOCK. In the event any shares of Series A Preferred Stock shall be redeemed or converted pursuant to SECTION 3 or SECTION 4, the shares so converted or redeemed shall be canceled and shall not be issuable by the Corporation. The 14 Certificate of Incorporation of the Corporation shall be appropriately amended to effect the corresponding reduction in the Corporation's authorized capital stock. ARTICLE V The Board of Directors shall have the power to adopt, amend and repeal the Bylaws of the Corporation (except so far as the Bylaws of the Corporation adopted by the stockholders shall otherwise provide). Any bylaws adopted by the directors under the powers conferred hereby may be amended or repealed by the directors or by the stockholders. Notwithstanding the foregoing and anything contained in this Certificate of Incorporation to the contrary, Article II, Sections 1(c), 5 and 7; Article III, Section 2; and Article VII of the Bylaws of the Corporation as originally adopted by the sole incorporator shall not be amended or repealed and no provision inconsistent therewith shall be adopted without the affirmative vote of the holders of at least sixty-six and two-thirds percent (66-2/3%) of the voting power of all the shares of the Corporation entitled to vote generally in the election of directors, voting together as a single class. ARTICLE VI A. The Corporation shall indemnify to the fullest extent permitted by the General Corporation Law of Delaware any person who has been made, or is threatened to be made, a party to an action, suit or proceeding, whether civil, criminal, administrative, investigative, or otherwise (including an action, suit or proceeding by or in the right of the Corporation), by reason of the fact that the person is or was a director or officer of the Corporation, or a fiduciary within the meaning of the Employee Retirement Income Security Act of 1974 with respect to an employee benefit plan of the Corporation, or serves or served at the request of the Corporation as a director, or as an officer, or as a fiduciary of an employee benefit plan, of another corporation, partnership, joint venture, trust or other enterprise. In addition, the Corporation shall pay for or reimburse any expenses incurred by such persons who are parties to such proceedings, in advance of the final disposition of such proceedings, to the full extent permitted by the General Corporation Law of Delaware. B. Neither any amendment nor repeal of this ARTICLE VI, nor the adoption of any provisions of this Certificate of Incorporation inconsistent with this ARTICLE VI, shall eliminate or reduce the effect of this ARTICLE VI in respect of any matter occurring or arising or that, but for this ARTICLE VI, would accrue or arise, prior to such amendment, repeal or adoption of an inconsistent provision. ARTICLE VII A. The business and affairs of the Corporation shall be managed by the Board of Directors of the Corporation. 15 B. Except as otherwise provided for or fixed by or pursuant to the provisions of ARTICLE IV hereof relating to the rights of the holders of Preferred Stock to elect directors under specified circumstances, the number of the directors of Corporation shall be fixed from time to time by or pursuant to the Bylaws of the Corporation. From and after the annual meeting of stockholders held in 1997, the directors, other than those who may be elected by the holders of Preferred Stock, shall be classified, with respect to the time for which they severally hold office, into three classes, as nearly equal in number as possible, as shall be provided in the manner specified in the Bylaws of the Corporation, one class to be originally elected for a term expiring at the annual meeting of stockholders to be held in 1998, another class to be originally elected for a term expiring at the annual meeting of stockholders to be held in 1999, and another class to be originally elected for a term expiring at the annual meeting of stockholders to be held in 2000, with each class to hold office until its successor is elected and qualified. At each annual meeting of the stockholders, the successors of the class of directors whose term expires at that meeting shall be elected to hold office for a term expiring at the annual meeting of stockholders held in the third year following the year of their elections. C. Advance notice of stockholder nominations for the election of directors shall be given in the manner provided in the Bylaws of the Corporation. Election of directors need not be by written ballot unless the Bylaws of the Corporation shall so provide. D. Except as otherwise provided for or fixed by or pursuant to the provisions of ARTICLE IV hereof in relation to the rights of the holders of Preferred Stock to elect directors under specified circumstances, newly-created directorships resulting from any increase in the number of directors and any vacancies on the Board of Directors resulting from death, resignation, disqualification, removal or other cause shall be filled by the affirmative vote of a majority of the remaining directors then in office, even though less than a quorum of the Board of Directors. Any director elected in accordance with the preceding sentence shall hold office for the remainder of the full term of the class of directors in which the new directorship was created or the vacancy occurred and until such director's successor shall have been elected and qualified. No decrease in the number of directors constituting the Board of Directors shall shorten the term of any incumbent director. E. Subject to the rights of any Preferred Stock to elect directors under specified circumstances, any director may be removed from office only with cause and only by the affirmative vote of the holders of at least sixty-six and two- thirds percent (66-2/3%) of the voting power of all shares of the Corporation entitled to vote generally in the election of directors, voting together as a single class. F. To the fullest extent permitted by the General Corporation Law of the State of Delaware, a director of the Corporation shall not be personally liable to the Corporation or its stockholders for monetary damages for breach of fiduciary duty as a director. Any repeal or modification of this paragraph shall be prospective only and shall not adversely affect any limitation on the personal liability of a director of the Corporation with respect to any act or omission occurring prior to the time of such repeal or modification. 16 G. Notwithstanding anything contained in this Certificate of Incorporation to the contrary, the affirmative vote of the holders of at least sixty-six and two-thirds percent (66-2/3%) of the voting power of all outstanding shares of the Corporation entitled to vote generally in the election of directors, voting together as a single class, shall be required to alter, amend, adopt any provision inconsistent with or repeal this ARTICLE VII. ARTICLE VIII Any action required or permitted to be taken by the stockholders of the Corporation must be effected at a duly called annual or special meeting of such holders and may not be effected by any consent in writing of such holders. Except as otherwise required by law and subject to the rights of the holders of the Preferred Stock, special meetings of stockholders of the Corporation may be called only by the Chairman of the Board, the President or the Board of Directors pursuant to a resolution approved by a majority of the entire Board of Directors. Notwithstanding anything contained in this Certificate of Incorporation to the contrary, the affirmative vote of the holders of at least sixty-six and two-thirds percent (66-2/3%) of the voting power of all shares of the Corporation entitled to vote generally in the election of directors, voting together as a single class, shall be required to alter, amend, or adopt any provision inconsistent with or repeal this ARTICLE VIII. ARTICLE IX Subject to the other terms of this Certificate of Incorporation, the Corporation reserves the right to amend, alter, change or repeal any provision contained in this Certificate of Incorporation, in the manner now or hereafter prescribed by statute and this Certificate of Incorporation, and all rights conferred on stockholders herein are granted subject to this reservation. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] 17 ARTICLE X The undersigned Incorporator hereby acknowledges that the foregoing Certificate of Incorporation is her act and deed and that the facts stated therein are true. Dated: November __, 1996 ---------------------------------- Lynn M. Morris, Incorporator [SIGNATURE PAGE TO DAOU SYSTEMS, INC. RESTATED CERTIFICATE OF INCORPORATION] 18 EX-3.3 5 EXHIBIT 3.3: BYLAWS AMENDED AND RESTATED BYLAWS OF DAOU SYSTEMS, INC. AMENDED AND RESTATED BYLAWS OF DAOU SYSTEMS, INC. TABLE OF CONTENTS PAGE ---- ARTICLE I OFFICES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 Section 1. PRINCIPAL OFFICES . . . . . . . . . . . . . . . . . . . . . . 1 Section 2. OTHER OFFICES . . . . . . . . . . . . . . . . . . . . . . . . 1 ARTICLE II MEETINGS OF SHAREHOLDERS. . . . . . . . . . . . . . . . . . . . . . 1 Section 1. ANNUAL MEETINGS OF SHAREHOLDERS . . . . . . . . . . . . . . . 1 Section 2. SPECIAL MEETINGS. . . . . . . . . . . . . . . . . . . . . . . 1 Section 3. PLACE OF MEETINGS . . . . . . . . . . . . . . . . . . . . . . 2 Section 4. NOTICE OF SHAREHOLDERS' MEETINGS. . . . . . . . . . . . . . . 2 Section 5. MANNER OF GIVING NOTICE; AFFIDAVIT OF NOTICE. . . . . . . . . 2 Section 6. ADJOURNED MEETING AND NOTICE THEREOF. . . . . . . . . . . . . 3 Section 7. QUORUM. . . . . . . . . . . . . . . . . . . . . . . . . . . . 3 Section 8. VOTING. . . . . . . . . . . . . . . . . . . . . . . . . . . . 4 Section 9. WAIVER OF NOTICE OR CONSENT BY ABSENT SHAREHOLDERS. . . . . . 4 Section 10. SHAREHOLDER ACTION BY WRITTEN CONSENT WITHOUT A MEETING. . . 5 Section 11. RECORD DATE FOR SHAREHOLDER NOTICE, VOTING, AND GIVING CONSENTS. . . . . . . . . . . . . . . . . . . . . . . . . . 5 Section 12. PROXIES. . . . . . . . . . . . . . . . . . . . . . . . . . . 6 Section 13. INSPECTORS OF ELECTION . . . . . . . . . . . . . . . . . . . 6 ARTICLE III DIRECTORS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Section 1. POWERS. . . . . . . . . . . . . . . . . . . . . . . . . . . . 7 Section 2. NUMBER AND QUALIFICATION OF DIRECTORS . . . . . . . . . . . . 8 Section 3. ELECTION AND TERM OF OFFICE OF DIRECTORS. . . . . . . . . . . 9 Section 4. VACANCIES . . . . . . . . . . . . . . . . . . . . . . . . . . 9 Section 5. PLACE OF MEETINGS AND TELEPHONIC MEETINGS . . . . . . . . . .10 Section 6. ANNUAL MEETINGS . . . . . . . . . . . . . . . . . . . . . . .10 Section 7. OTHER REGULAR MEETINGS. . . . . . . . . . . . . . . . . . . .10 Section 8. SPECIAL MEETINGS. . . . . . . . . . . . . . . . . . . . . . .10 Section 9. WAIVER OF NOTICE. . . . . . . . . . . . . . . . . . . . . . .10 Section 10. QUORUM . . . . . . . . . . . . . . . . . . . . . . . . . . .11 Section 11. ADJOURNMENT. . . . . . . . . . . . . . . . . . . . . . . . .11 Section 12. NOTICE OF ADJOURNMENT. . . . . . . . . . . . . . . . . . . .11 Section 13. ACTION WITHOUT MEETING . . . . . . . . . . . . . . . . . . .11 Section 14. FEES AND COMPENSATION OF DIRECTORS . . . . . . . . . . . . .11 -i- PAGE ---- ARTICLE IV COMMITTEES. . . . . . . . . . . . . . . . . . . . . . . . . . . . .12 Section 1. COMMITTEES OF DIRECTORS . . . . . . . . . . . . . . . . . . .12 Section 2. MEETINGS AND ACTION OF COMMITTEES . . . . . . . . . . . . . .12 ARTICLE V OFFICERS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .13 Section 1. OFFICERS. . . . . . . . . . . . . . . . . . . . . . . . . . .13 Section 2. ELECTION OF OFFICERS. . . . . . . . . . . . . . . . . . . . .13 Section 3. SUBORDINATE OFFICERS, ETC.. . . . . . . . . . . . . . . . . .13 Section 4. REMOVAL AND RESIGNATION OF OFFICERS . . . . . . . . . . . . .13 Section 5. INABILITY TO ACT. . . . . . . . . . . . . . . . . . . . . . .14 Section 6. VACANCIES IN OFFICES. . . . . . . . . . . . . . . . . . . . .14 Section 7. CHAIRMAN OF THE BOARD . . . . . . . . . . . . . . . . . . . .14 Section 8. PRESIDENT . . . . . . . . . . . . . . . . . . . . . . . . . .14 Section 9. VICE PRESIDENTS . . . . . . . . . . . . . . . . . . . . . . .14 Section 10. SECRETARY. . . . . . . . . . . . . . . . . . . . . . . . . .14 Section 11. CHIEF FINANCIAL OFFICER. . . . . . . . . . . . . . . . . . .15 Section 12. SALARIES . . . . . . . . . . . . . . . . . . . . . . . . . .15 ARTICLE VI INDEMNIFICATION OF DIRECTORS, OFFICERS, EMPLOYEES AND OTHER AGENTS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .16 ARTICLE VII RECORDS AND REPORTS. . . . . . . . . . . . . . . . . . . . . . . .16 Section 1. MAINTENANCE AND INSPECTION OF SHARE REGISTER. . . . . . . . .16 Section 2. MAINTENANCE AND INSPECTION OF BYLAWS. . . . . . . . . . . . .17 Section 3. MAINTENANCE AND INSPECTION OF OTHER CORPORATE RECORDS . . . .17 Section 4. INSPECTION BY DIRECTORS . . . . . . . . . . . . . . . . . . .17 Section 5. ANNUAL REPORT TO SHAREHOLDERS . . . . . . . . . . . . . . . .17 Section 6. FINANCIAL STATEMENTS. . . . . . . . . . . . . . . . . . . . .17 Section 7. ANNUAL STATEMENT OF GENERAL INFORMATION . . . . . . . . . . .18 ARTICLE VIII GENERAL CORPORATE MATTERS . . . . . . . . . . . . . . . . . . . .19 Section 1. RECORD DATE FOR PURPOSES OTHER THAN NOTICE AND VOTING . . . .19 Section 2. CHECK, DRAFTS, EVIDENCES OF INDEBTEDNESS. . . . . . . . . . .19 Section 3. CORPORATE CONTRACTS AND INSTRUMENTS; HOW EXECUTED . . . . . .19 Section 4. CERTIFICATES FOR SHARES . . . . . . . . . . . . . . . . . . .19 Section 5. LOST CERTIFICATES . . . . . . . . . . . . . . . . . . . . . .20 Section 6. REPRESENTATION OF SHARES OF OTHER CORPORATIONS. . . . . . . .20 -ii- PAGE ---- ARTICLE IX AMENDMENTS. . . . . . . . . . . . . . . . . . . . . . . . . . . . .20 Section 1. AMENDMENT BY SHAREHOLDERS . . . . . . . . . . . . . . . . . .20 Section 2. AMENDMENT BY DIRECTORS. . . . . . . . . . . . . . . . . . . .21 ARTICLE X GENERAL. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .21 Section 1. GOVERNING LAW . . . . . . . . . . . . . . . . . . . . . . . .21 Section 2. CONSTRUCTION AND DEFINITIONS. . . . . . . . . . . . . . . . .21 -iii- AMENDED AND RESTATED BYLAWS OF DAOU SYSTEMS, INC. ARTICLE I OFFICES Section 1. PRINCIPAL OFFICES. The principal executive office of Daou Systems, Inc. ("CORPORATION"), will be at such place inside or outside the State of California as the Board of Directors may determine from time to time. Section 2. OTHER OFFICES. The Corporation may also have offices at such other places as the Board of Directors may from time to time designate, or as the business of the Corporation may require. ARTICLE II MEETINGS OF SHAREHOLDERS Section 1. ANNUAL MEETINGS OF SHAREHOLDERS. The annual meeting of shareholders of the Corporation for the election of directors to succeed those whose terms expire and for transaction of such other business as may properly come before the meeting will be held between 30 and 120 days following the end of the fiscal year of the Corporation and at such place as may be determined by the Board of Directors. If the annual meeting of the shareholders be not held as herein prescribed, the election of directors may be held at any meeting thereafter called pursuant to these Bylaws. Section 2. SPECIAL MEETINGS. A special meeting of the shareholders, for any purpose whatsoever, unless otherwise prescribed by statute may be called at any time by the Board of Directors, the Chairman of the Board, the President, or by one or more shareholders of the Corporation holding not less than ten percent (10%) of the voting power of the Corporation. If a special meeting is called by any person or persons other than the Board of Directors, the request will be in writing, specifying the time of such meeting and the general nature of the business proposed to be transacted, and will be delivered personally or sent by registered mail -1- or by telegraphic or other facsimile transmission to the Chairman of the Board, the President, any Vice President or the Secretary of the Corporation. The officer receiving such request forthwith will cause notice to be given to the shareholders entitled to vote, in accordance with the provisions of SECTIONS 4 AND 5 of this ARTICLE II, that a meeting will be held at the time requested by the person or persons calling the meeting, not less than thirty-five (35) nor more than sixty (60) days after the receipt of the request. If the notice is not given within twenty (20) days after receipt of the request, the person or persons requesting the meeting may give the notice. Nothing contained in this paragraph of this SECTION 3 will be construed as limiting, fixing or affecting the time when a meeting of shareholders called by action of the Board of Directors may be held. Section 3. PLACE OF MEETINGS. All meetings of the shareholders will be at any place within or outside the State of California designated by either the Board of Directors or by written consent of the holders of a majority of the shares entitled to vote thereat, given either before or after the meeting. In the absence of any such designation, shareholders' meetings will be held at the principal executive office of the Corporation. Section 4. NOTICE OF SHAREHOLDERS' MEETINGS. All notices of meetings of shareholders of the Corporation will be sent or otherwise given in accordance with SECTION 5 of this ARTICLE II not less than ten (10) days (or if sent by third-class mail, 30 days) nor more than sixty (60) days before the date of the meeting being noticed. The notice will specify the place, date and hour of the meeting and (i) in the case of a special meeting, the general nature of the business to be transacted, and no other business may be transacted or (ii) in the case of the annual meetings, those matters which the Board of Directors, at the time of giving the notice, intends to present for action by the shareholders, but subject to Section 601(f) of the California Corporations Code any proper matter may be presented at the meeting for shareholder action, and (iii) in the case of any meeting at which directors are to be elected, the names of the nominees intended at the time of giving of the notice to be presented by management for election. If action is proposed to be taken at any meeting for approval of (i) a contract or transaction in which a director has a direct or indirect financial interest, pursuant to Section 310 of the Corporations Code of California, (ii) an amendment of the Restated Articles of Incorporation, pursuant to Section 902 of such Code, (iii) a reorganization of the Corporation, pursuant to Section 1201 of such Code, (iv) a voluntary dissolution of the Corporation, pursuant to Section 1900 of such Code, or (v) a distribution in dissolution other than in accordance with the rights of outstanding preferred shares pursuant to Section 2007 of such Code, the notice will also state the general nature of such proposal. Section 5. MANNER OF GIVING NOTICE; AFFIDAVIT OF NOTICE. Notice of any meeting of shareholders of the Corporation will be given in writing to each shareholder entitled to vote, either personally or by first-class mail (unless the Corporation has 500 or more shareholders determined as provided by the California Corporations Code on the record date of the meeting in which case notice may be sent by third-class mail) or telegraphic or other written communication, charges -2- prepaid, addressed to the shareholder at the address of such shareholder appearing on the books of the Corporation or given by the shareholder to the Corporation for the purpose of notice. If no such address appears on the Corporation's books or has been so given, notice will be deemed to have been given if sent by first-class mail or telegraphic or other written communication to the Corporation's principal executive office, or if published at least once in a newspaper of general circulation in the county where such office is located. Notice will be deemed to have been given at the time when delivered personally or deposited in the mail or sent by telegram or other means of written communication. If any notice addressed to a shareholder at the address of such shareholder appearing on the books of the Corporation is returned to the Corporation by the United States Postal Service marked to indicate that the United States Postal Service is unable to deliver the notice to the shareholder at such address, all future notices or reports will be deemed to have been duly given without further mailing if the same will be available to the shareholder upon written demand of the shareholder at the principal executive office of the Corporation for a period of one year from the date of the giving of such notice. An affidavit of the mailing or other means of giving any notice of any shareholders' meeting will be executed by the Secretary, Assistant Secretary or any transfer agent of the Corporation giving such notice, and will be filed and maintained in the minute book of the Corporation. Section 6. ADJOURNED MEETING AND NOTICE THEREOF. Any shareholders' meeting, annual or special, whether or not a quorum is present, may be adjourned from time to time by the vote of the holders of a majority of the voting shares represented at such meeting, either in person or by proxy, but in the absence of a quorum, no other business may be transacted at such meeting, except as provided in SECTION 6 of this ARTICLE II. When any meeting of shareholders, either annual or special, is adjourned to another time or place, notice need not be given of the adjourned meeting if the time and place thereof are announced at a meeting at which the adjournment is taken, unless a new record date for the adjourned meeting is fixed, or unless the adjournment is for more than forty-five (45) days from the date set for the original meeting, in which case the Board of Directors will set a new record date. Notice of any such adjourned meeting, if required, will be given to each shareholder of record entitled to vote at the adjourned meeting in accordance with the provisions of SECTIONS 4 AND 5 of this ARTICLE II. At any adjourned meeting the Corporation may transact any business which might have been transacted at the original meeting. Section 7. QUORUM. The presence in person or by proxy of the persons entitled to vote a majority of the shares entitled to vote at any meeting of shareholders will constitute a quorum for the transaction of business. The shareholders present at a duly called or held meeting at which a quorum is present may continue to do business until adjournment, notwithstanding the withdrawal -3- of enough shareholders to leave less than a quorum, if any action taken (other than adjournment) is approved by at least a majority of the shares required to constitute a quorum. Section 8. VOTING. The shareholders entitled to vote at any meeting of shareholders will be determined in accordance with the provisions of SECTION 11 of this ARTICLE II, subject to the provisions of Sections 702 to 704, inclusive, of the Corporations Code of California (relating to voting shares held by a fiduciary, in the name of a Corporation or in joint ownership). Such vote may be by voice vote or by ballot; provided, however, that all elections for directors must be by ballot upon demand by a shareholder at any election and before the voting begins. Any shareholder entitled to vote on any matter (other than the election of directors) may vote part of the shares in favor of the proposal and refrain from voting the remaining shares or vote them against the proposal, but, if the shareholder fails to specify the number of shares such shareholder is voting affirmatively, it will be conclusively presumed that the shareholder's approving vote is with respect to all shares such shareholder is entitled to vote. If a quorum is present, the affirmative vote of the majority of the shares represented at the meeting and voting on any matter (other than the election of directors), provided that the shares voting affirmatively must also constitute at least a majority of the required quorum, will be the act of the shareholders, unless the vote of a greater number or voting by classes is required by the California General Corporation Law or the Restated Articles of Incorporation. At a shareholders' meeting involving the election of directors, no shareholder will be entitled to cumulate votes (i.e., cast for any candidate a number of votes greater than the number of the shareholder's shares) unless such candidate or candidates' names have been placed in nomination prior to commencement of the voting and a shareholder has given notice prior to commencement of the voting of the shareholder's intention to cumulate votes. If any shareholder has given such notice, then every shareholder entitled to vote may cumulate such shareholder's votes for candidates in nomination and give one candidate a number of votes equal to the number of directors to be elected multiplied by the number of votes to which such shareholder's shares are entitled, or distribute the shareholder's votes on the same principle among as many candidates as the shareholder will think fit. The candidates receiving the highest number of votes of the shares entitled to be voted for them, up to the number of directors to be elected by such shares are elected. Section 9. WAIVER OF NOTICE OR CONSENT BY ABSENT SHAREHOLDERS. The transactions of any meeting of shareholders, either annual or special, however called and noticed, and wherever held, will be as valid as though had at a meeting duly held after regular call and notice, if a quorum be present either in person or by proxy, and if, either before or after the meeting, each of the persons entitled to vote, not present in person or by proxy, signs a written waiver of notice, or a consent to the holding of the meeting, or an approval of the minutes thereof. The waiver of notice or consent need not specify either the business to be transacted or the purpose of any annual or special meeting of shareholders, except that if action is taken or proposed to be taken for approval of any of those matters specified in the second paragraph of SECTION 4 of this ARTICLE II, the waiver of notice or consent will state the general nature of such proposal. All such waivers, consents or approvals will be filed with the corporate records or made a part of the minutes of the meeting. -4- Attendance of a person at a meeting will also constitute a waiver of notice of such meeting, except when the person objects, at the beginning of the meeting, to the transaction of any business because the meeting is not lawfully called or convened, and except that attendance at a meeting is not a waiver of any right to object to the consideration of matters not included in the notice of the meeting if such objection is expressly made at the meeting. Section 10. SHAREHOLDER ACTION BY WRITTEN CONSENT WITHOUT A MEETING. Any action which may be taken at any annual or special meeting of shareholders may be taken without a meeting and without prior notice, if a consent in writing, setting forth the action so taken, will be signed by the holders of outstanding shares having not less than the minimum number of votes that would be necessary to authorize or take such action at a meeting at which all shares entitled to vote thereon were present and voted. In the case of election of directors, such consent will be effective only if signed by the holders of all outstanding shares entitled to vote for the election of directors; provided, however, that a director may be elected at any time to fill a vacancy not filled by the directors by the written consent of the holders of a majority of the outstanding shares entitled to vote for the election of directors. All such consents will be filed with the Secretary of the Corporation and will be maintained in the corporate records. Any shareholder giving a written consent, or the shareholder's proxy holders, or a transferee of the shares or a personal representative of the shareholder or their respective proxy holder, may revoke the consent by a writing received by the Secretary of the Corporation prior to the time that written consents of the number of shares required to authorize the proposed action have been filed with the Secretary. If the consents of all shareholders entitled to vote have not been solicited in writing, and if the unanimous written consent of all such shareholders will not have been received, the Secretary will give prompt notice of the corporate action approved by the shareholders without a meeting. Such notice will be given in the manner specified in SECTION 5 of this ARTICLE II. In the case of approval of (i) contracts or transactions in which a director has a direct or indirect financial interest, pursuant to Section 310 of the Corporations Code of California, (ii) indemnification of agents of the Corporation, pursuant to Section 317 of such Code, (iii) a reorganization of the Corporation, pursuant to Section 1201 of such Code, or (iv) a distribution in dissolution other than in accordance with the rights of outstanding preferred shares pursuant to Section 2007 of such Code, such notice will be given at least ten (10) days before the consummation of any such action authorized by any such approval. Section 11. RECORD DATE FOR SHAREHOLDER NOTICE, VOTING, AND GIVING CONSENTS. For purposes of determining the shareholders entitled to notice of any meeting or to vote or entitled to give consent to corporate action without a meeting, the Board of Directors may fix, in advance, a record date, which will not be more than sixty (60) days nor less than ten (10) days prior to the date of any such meeting nor more than sixty (60) days prior to such action without a meeting, and in such case only shareholders of the Corporation of record at the close of business on the date so fixed -5- are entitled to notice and to vote or to give consents, as the case may be, notwithstanding any transfer of any shares on the books of the Corporation after the record date fixed as aforesaid, except as otherwise provided in California General Corporation Law. If the Board of Directors does not so fix a record date: (a) The record date for determining shareholders entitled to notice of or to vote at a meeting of shareholders will be at the close of business on the business day next preceding the day on which notice is given or, if notice is waived, at the close of business on the business day next preceding the day on which the meeting is held. (b) The record date for determining shareholders entitled to give consent to corporate action in writing without a meeting, (i) when no prior action by the Board has been taken, will be the day on which the first written consent is given, or (ii) when prior action of the Board of Directors has been taken, will be at the close of business on the day on which the Board of Directors adopts the resolution relating thereto, or the sixtieth (60th) day prior to the date of such other action, whichever is later. Section 12. PROXIES. Every person entitled to vote for directors or on any other matter will have the right to do so either in person or by one or more agents authorized by a written proxy signed by the person and filed with the Secretary of the Corporation. A proxy will be deemed signed if the shareholder's name is placed on the proxy (whether if by manual signature, typewriting, telegraphic transmission or otherwise) by the shareholder or the shareholder's attorney in fact. A validly executed proxy which does not state that it is irrevocable will continue in full force and effect unless (i) revoked by the person executing it, prior to the vote pursuant thereto, by a writing delivered to the Corporation stating that the proxy is revoked or by a subsequent proxy presented to the meeting and executed by, or attendance at the meeting and voting in person by, the person executing the proxy; or (ii) written notice of the death or incapacity of the maker of such proxy is received by the Corporation before the vote pursuant thereto is counted; provided, however, that no such proxy will be valid after the expiration of eleven (11) months from the date of such proxy, unless otherwise provided in the proxy. The revocability of a proxy that states on its face that it is irrevocable will be governed by the provisions of Section 705(e) and (f) of the Corporations Code of California. Section 13. INSPECTORS OF ELECTION. Before any meeting of shareholders, the Board of Directors may appoint any persons other than nominees for office to act as inspectors of election at the meeting or its adjournment. If no inspectors of election are so appointed, the chairman of the meeting may, and on the request of any shareholder or a shareholders proxy will, appoint inspectors of election at the meeting. The number of inspectors will be either one (1) or three (3). If inspectors are appointed at a meeting at the request of one or more shareholders or proxies, the holders of a -6- majority of shares or their proxies present at the meeting will determine whether one (1) or three (3) inspectors are to be appointed. If any person appointed as inspector fails to appear or fails or refuses to act, the chairman of the meeting may, and upon the request of any shareholder or a shareholder's proxy will, appoint a person to fill such vacancy. The duties of these inspectors will be as follows: (a) Determine the number of shares outstanding and the voting power of each, the shares represented at the meeting, the existence of a quorum, and the authenticity, validity and effect of proxies; (b) Receive votes, ballots or consents; (c) Hear and determine all challenges and questions in any way arising in connection with the right to vote; (d) Count and tabulate all votes or consents; (e) Determine when the polls will close; (f) Determine the result; and (g) Do any other acts that may be proper to conduct the election or vote with fairness to all shareholders. ARTICLE III DIRECTORS Section 1. POWERS. Subject to the provisions of the California General Corporation Law and any limitations in the Restated Articles of Incorporation or these Bylaws relating to action required to be approved by the shareholders or by the outstanding shares, the business and affairs of the Corporation will be managed and all corporate powers will be exercised by or under the direction of the Board of Directors. Without prejudice to such general powers, but subject to the same limitations, it is hereby expressly declared that the directors will have the power and authority to: (a) Select and remove all officers, agents, and employees of the Corporation, prescribe such powers and duties for them as may not be inconsistent -7- with law, the Restated Articles of Incorporation or these Bylaws, fix their compensation, and require from them security for faithful service. (b) Change the principal executive office or the principal business office in the State of California from one location to another; cause the Corporation to be qualified to do business in any other state, territory, dependency, or foreign country and conduct business within or outside the State of California; designate any place within or without the State for the holding of any shareholders' meeting or meetings, including annual meetings; adopt, make and use a corporate seal, and prescribe the forms of certificates of stock, and alter the form of such seal and of such certificates from time to time as in their judgment they may deem best, provided that such forms will at all times comply with the provisions of law. (c) Authorize the issuance of shares of stock of the Corporation from time to time, upon such terms as may be lawful, in consideration of money paid, labor done or services actually rendered, debts or securities canceled or tangible or intangible property actually received. (d) Borrow money and incur indebtedness for the purposes of the Corporation, and cause to be executed and delivered therefor, in the corporate name, promissory notes, bonds, debentures, deeds of trust, mortgages, pledges, hypothecations, or other evidences of debt and securities therefor. Section 2. NUMBER AND QUALIFICATION OF DIRECTORS. The authorized number of directors of the Corporation will be fixed at seven (7). Until either (i) the Original Investors (as defined below) in the aggregate are no longer the record and beneficial owners of at least 500,000 shares of the Corporation's Common Stock and/or Series A Preferred Stock or (ii) until the Corporation will have completed an initial public offering pursuant to an effective registration statement under the Securities Act of 1933 covering the offer and sale to the public of capital stock of the Company, at least three (3) of the directors will be "INDEPENDENT" directors. For this purpose a director will be deemed to be "INDEPENDENT" if he or she is not an affiliate of the Corporation (but for his or her status as a director) or an officer or employee of the Corporation or any of its subsidiaries and has no familial relationship (by blood or marriage) with the record or, to the knowledge of the Corporation, beneficial owner of five percent (5%) or more of the outstanding shares of any class of capital stock of the corporation or any relationship with the Corporation or any of its officers or directors or any such 5% stockholder which is material to such director. Any determination by a majority of the whole Board that any director meets the foregoing qualifications will be deemed final and binding for all purposes. An "AFFILIATE" of the Corporation is a person or entity controlling, controlled by or under common control with, the Corporation, directly or indirectly through one or more intermediaries. "ORIGINAL INVESTORS" is defined as Galen Partners II, L.P., Galen Partners International II, L.P., Galen Employee Fund, L.P. and (Trident). -8- The number of shares of Common Stock and Series A Preferred Stock referred to above (500,000) will be appropriately and proportionately adjusted (as determined by the Board) in the event (A) the Corporation will issue additional shares of Series A Preferred Stock or Common Stock in a stock dividend, stock distribution or subdivision, or (B) the outstanding shares of Series A Preferred Stock or Common Stock will be combined or consolidated, by reclassification or otherwise, into a lesser number of shares of such stock, or (C) the outstanding shares of Series A Preferred Stock or Common Stock are converted into a different number or class of shares of the Corporation as a result of a consolidation or merger of the Corporation with or into another corporation. Section 3. ELECTION AND TERM OF OFFICE OF DIRECTORS. Directors will be elected at each annual meeting of the shareholders to hold office until the next annual meeting. Each director, including a director elected to fill a vacancy, will hold office until the expiration of the term for which elected and until a successor has been elected and qualified. Directors need not be Shareholders. Section 4. VACANCIES. Vacancies in the Board of Directors may be filled by a majority of the remaining directors, though less than a quorum, or by a sole remaining director, except that a vacancy created by the removal of a director by the vote or written consent of the shareholders or by court order may be filled only by the vote of a majority of the shares represented and voting at a duly held meeting at which a quorum is present, or by the written consent of holders of all outstanding shares entitled to vote. Each director so elected will hold office until the next annual meeting of the shareholders and until a successor has been elected and qualified. A vacancy or vacancies in the Board of Directors will be deemed to exist in the case of the death, resignation or removal of any director, or if the Board of Directors by resolution declares vacant the office of a director who has been declared of unsound mind by an order of court or convicted of a felony, or if the authorized number of directors be increased, or if the shareholders fail, at any meeting of shareholders at which any director or directors are elected, to elect the full authorized number of directors to be voted for at that meeting. The shareholders may elect a director or directors at any time to fill any vacancy or vacancies not filled by the directors, but any such election by written consent will require the consent of a majority of the outstanding shares entitled to vote. Any director may resign upon giving written notice to the Chairman of the Board, the President, the Secretary or the Board of Directors. A resignation will be effective upon the giving of the notice, unless the notice specifies a later time for its effectiveness. If the resignation of a director is effective at a future time, the Board of Directors may elect a successor to take office when the resignation becomes effective. -9- No reduction of the authorized number of directors will have the effect of removing any director prior to the expiration of his term of office. Section 5. PLACE OF MEETINGS AND TELEPHONIC MEETINGS. Regular meetings of the Board of Directors may be held at any place within or without the State that has been designated from time to time by resolution of the Board of Directors. In the absence of such designation, regular meetings will be held at the principal executive office of the Corporation. Special meetings of the board will be held at any place within or without the State that has been designated in the notice of the meeting or, if not stated in the notice or there is no notice, at the principal executive office of the Corporation. Any meeting, regular or special, may be held by conference telephone or similar communication equipment, so long as all directors participating in such meeting can hear one another, and all such directors will be deemed to be present in person at such meeting. Section 6. ANNUAL MEETINGS. Immediately following each annual meeting of shareholders, the Board of Directors will hold a regular meeting for the purpose of organization, any desired election of officers and the transaction of other business. Notice of this meeting will not be required. Section 7. OTHER REGULAR MEETINGS. Other regular meetings of the Board of Directors will be held without call at such time as will from time to time be fixed by the Board of Directors. Such regular meetings may be held without notice. Section 8. SPECIAL MEETINGS. Special meetings of the Board of Directors for any purpose or purposes may be called at any time by the Chairman of the Board, President, any Vice President, Secretary or any two (2) directors. Written notice of the time and place of special meeting will be delivered personally or by telephone to each director or sent by first-class mail or telegram, charges prepaid, addressed to each director at his or her address as it is shown upon the records of the Corporation. In case such notice is mailed, it will be deposited in the United States mail at least four (4) days prior to the time of the holding of the meeting. In case such notice is delivered personally, or by telephone or telegram, it will be delivered personally or by telephone or to the telegraph company at least forty-eight (48) hours prior to the time of the holding of the meeting. Any oral notice given personally or by telephone may be communicated to either the director or to a person at the office of the director who the person giving the notice has reason to believe will promptly communicate it to the director. The notice need not specify the purpose of the meeting nor the place if the meeting is to be held at the principal executive office of the Corporation. Section 9. WAIVER OF NOTICE. The transactions of any meeting of the Board of Directors, however called and noticed or wherever held, will be as valid as though had at a meeting duly held after regular call and notice if a quorum is present and if, either before or after the meeting, each of the directors not present signs a written waiver of notice, a consent to holding the meeting, -10- or an approval of the minutes thereof. The waiver of notice or consent need not specify the purpose of the meeting. All such waivers, consents and approvals will be filed with the corporate records or made a part of the minutes of the meeting. Notice of a meeting need not be given to any director who attends the meeting without protesting, prior thereto or at its commencement, the lack of notice to such director. Section 10. QUORUM. A one-third of the authorized number of directors will constitute a quorum for the transaction of business, except to adjourn as hereinafter provided. Every act or decision done or made by a majority of the directors present at a meeting duly held at which a quorum is present will be regarded as the act of the Board of Directors, subject to the provisions of Section 310 of the Corporations Code of California (approval of contracts or transactions in which a director has a direct or indirect material financial interest), Section 311 (appointment of committees), and Section 317(e) (indemnification of directors). A meeting at which a quorum is initially present may continue to transact business notwithstanding the withdrawal of directors, if any action taken is approved by at least a majority of the required quorum for such meeting. Section 11. ADJOURNMENT. A majority of the directors present, whether or not constituting a quorum, may adjourn any meeting to another time and place. Section 12. NOTICE OF ADJOURNMENT. Notice of the time and place of holding an adjourned meeting need not be given, unless the meeting is adjourned for more than twenty-four (24) hours, in which case notice of such time and place will be given prior to the time of the adjourned meeting, in the manner specified in SECTION 8 of this ARTICLE III, to the directors who were not present at the time of the adjournment. Section 13. ACTION WITHOUT MEETING. Any action required or permitted to be taken by the Board of Directors may be taken without a meeting, if all members of the Board of Directors will individually or collectively consent in writing to such action. Such action by written consent will have the same force and effect as a unanimous vote by the Board of Directors. Such written consent or consents will be filed with the minutes of the proceedings of the Board. Section 14. FEES AND COMPENSATION OF DIRECTORS. Directors and members of committees may receive such compensation, if any, for their services, and such reimbursement of expenses, as may be fixed or determined by resolution of the Board of Directors. Nothing herein contained will be construed to preclude any director from serving the Corporation in any other capacity as an officer, agent, employee, or otherwise, and receiving compensation for such services. -11- ARTICLE IV COMMITTEES Section 1. COMMITTEES OF DIRECTORS. The Board of Directors may, by resolution adopted by a majority of the authorized number of directors, designate one or more committees, each consisting of two (2) or more directors, to serve at the pleasure of the Board of Directors. The Board of Directors may designate one or more directors as alternate members of any committee, who may replace any absent member at any meeting of the committee. Any such committee, to the extent provided in the resolution of the Board of Directors, will have all the authority of the Board of Directors, except with respect to: (a) The approval of any action which, under the General Corporation Law of California, also requires shareholders' approval or approval of the outstanding shares; (b) The filling of vacancies on the Board of Directors or in any committee; (c) The fixing of compensation of the directors for serving on the Board or on any committee; (d) The adoption, amendment or repeal of Bylaws; (e) The amendment or repeal of any resolution of the Board of Directors which by its express terms is not so amendable or repealable; (f) A distribution to the shareholders of the Corporation, except at a rate or in a period amount or within a price range determined by the Board of Directors; or (g) The appointment of any other committees of the Board of Directors or the members thereof. Section 2. MEETINGS AND ACTION OF COMMITTEES. Meetings and action of committees will be governed by, and held and taken in accordance with, the provisions of ARTICLE III of these Bylaws, SECTIONS 5 (place of meetings), 7 (regular meetings), 8 (special meetings and notice), 9 (dispensing with notice), 10 (quorum), 11 (adjournment), 12 (notice of adjournment) and 13 (action without meeting), with such changes in the context of those Bylaws as are necessary to substitute the committee and its members for the Board of Directors and its members, except that the time of -12- regular meetings of committees may be determined by resolution of the Board of Directors as well as the committee, special meetings of committees may also be called by resolution of the Board of Directors and notice of special meetings of committees will also be given to all alternate members, who will have the right to attend all meetings of the committee. The Board of Directors may adopt rules for the government of any committee not inconsistent with the provisions of these Bylaws. ARTICLE V OFFICERS Section 1. OFFICERS. The officers of the Corporation will be a President, a Secretary and a Chief Financial Officer all of which will be chosen by the Board of Directors. The Corporation may also have, at the discretion of the Board of Directors, a Chairman of the Board, one or more Vice Presidents, one or more Assistant Secretaries, one or more Assistant Treasurers, and such other officers as may be appointed in accordance with the provisions of SECTION 3 of this ARTICLE V. Any number of offices may be held by the same person. Section 2. ELECTION OF OFFICERS. The officers of the Corporation, except such officers as may be appointed in accordance with the provisions of SECTION 3 of this ARTICLE V, will be chosen by the Board of Directors, and each will serve at the pleasure of the Board, subject to the rights, if any, of an officer under any contract of employment. Section 3. SUBORDINATE OFFICERS, ETC. The Board of Directors may appoint, and may empower the President to appoint, such other officers as the business of the Corporation may require, each of whom will hold office for such period, have such authority and perform such duties as are provided in the Bylaws or as the Board of Directors may from time to time determine. Section 4. REMOVAL AND RESIGNATION OF OFFICERS. Subject to the rights, if any, of an officer under any contract of employment, any officer may be removed at any time, with or without cause, by the affirmative vote of a majority of all of the members of the Board of Directors, at any regular or special meeting thereof, or, except in case of an officer chosen by the Board of Directors, by any officer upon whom such power of removal may be conferred by the Board of Directors. Any officer may resign at any time by giving written notice of said resignation to the Corporation. Any such resignation will take effect at the date of the receipt of such notice or at any later time specified therein; and, unless otherwise specified therein, the acceptance of such resignation will not be necessary to make it effective. Any such resignation is without prejudice to the rights, if any, of the Corporation under any contract to which the officer is a party. -13- Section 5. INABILITY TO ACT. In the case of absence or inability to act of any officer of the Corporation and of any person herein authorized to act in his place, the Board of Directors may from time to time delegate the powers or duties of such officer to any other officer or any director or other person whom it may select. Section 6. VACANCIES IN OFFICES. A vacancy in any office because of death, resignation, removal, disqualification or any other cause will be filled in the manner prescribed in these Bylaws for regular appointments to such office. Section 7. CHAIRMAN OF THE BOARD. The Chairman of the Board, if such an officer be elected, will, if present, preside at all meetings of the Board of Directors and exercise and perform such other powers and duties as may be from time to time assigned to him by the Board of Directors or prescribed by the Bylaws. If there is no President, the Chairman of the Board will in addition be the Chief Executive Officer of the Corporation and will have the powers and duties prescribed in SECTION 8 of this ARTICLE V. Section 8. PRESIDENT. Subject to such supervisory powers, if any, as may be given by the Board of Directors to the Chairman of the Board, if there be such an officer, the President will be the Chief Executive Officer of the Corporation and will, subject to the control of the Board of Directors, have general supervision, direction and control of the business and the officers of the Corporation. He will preside at all meetings of the shareholders and, in the absence of the Chairman of the Board, or if there be none, at all meetings of the Board of Directors. He will have the general powers and duties of management usually vested in the office of President of a Corporation, and will have such other powers and duties as may be prescribed by the Board of Directors or the Bylaws. Section 9. VICE PRESIDENTS. In the absence or disability of the President, the Vice Presidents, if any, in order of their rank as fixed by the Board of Directors or, if not ranked, a Vice President designated by the Board of Directors, will perform all the duties of the President, and when so acting will have all the powers of, and be subject to all the restrictions upon, the President. The Vice Presidents will have such other powers and perform such other duties as from time to time may be prescribed for them respectively by the Board of Directors, will perform all the duties of the President, and when so acting will have all the powers of, and be subject to all the restrictions upon, the President. The Vice Presidents will have such other powers and perform such other duties as from time to time may be prescribed for them respectively by the Board of Directors or the Bylaws, the President or the Chairman of the Board if there is no President. Section 10. SECRETARY. The Secretary will keep or cause to be kept, at the principal executive office or such other place as the Board of Directors may order, a book of minutes of all meetings and actions of directors, committees of directors and shareholders, with the time and place of holding, whether or regular or special, and, if special, how authorized, the notice thereof given, the names of those present at directors' and committee meetings, the number of share present or represented at shareholders' meetings, and the proceedings thereof. -14- The Secretary will keep, or cause to be kept, at the principal executive office or at the office of the Corporation's transfer agent or registrar, as determined by resolution of the Board of Directors, a share register, or a duplicate share register, showing the names of all shareholders and their addresses, the number and classes of shares held by each, the number and date of certificates issued for the same, and the number and date of cancellation of every certificate surrendered for cancellation. The Secretary will give, or cause to be given, notice of all meetings of the shareholders and of the Board of Directors required by the Bylaws or by law to be given, and he will keep the seal of the Corporation, if one be adopted, in safe custody, and will have such other powers and perform such other duties as may be prescribed by the Board of Directors or by the Bylaws. The Assistant Secretary or the Assistant Secretaries, in the order of their seniority, will, in the absence of disability of the Secretary, or in the event of such officer's refusal to act, perform the duties and exercise the powers and discharge such duties as may be assigned from time to time by the President or by the Board of Directors. Section 11. CHIEF FINANCIAL OFFICER. The Chief Financial Officer will keep and maintain, or cause to be kept and maintained, adequate and correct books and records of accounts of the properties and business transactions of the Corporation, including accounts of its assets, liabilities, receipts, disbursements, gains, losses, capital, retained earnings and shares. The books of account will be open at all reasonable times to inspection by any director. The Chief Financial Officer will deposit all moneys and other valuables in the name and to the credit of the Corporation with such depositaries as may be designated by the Board of Directors. He will disburse the funds of the Corporation as may be ordered by the Board of Directors, will render to the President and directors, whenever they request it, an account of all of his transactions as Chief Financial Officer and of the financial condition of the Corporation, and will have other powers and perform such other duties as may be prescribed by the Board of Directors or the Bylaws. The Assistant Chief Financial Officer or the Assistant Chief Financial Officers, in the order of their seniority, will, in the absence or disability of the Chief Financial Officer, or in the event of such officer's refusal to act, perform the duties and exercise the powers of the Chief Financial Officer, and will have such powers and discharge such duties as may be assigned from time to time by the President or by the Board of Directors. Section 12. SALARIES. The salaries of the officers will be fixed from time to time by the Board of Directors and no officer will be prevented from receiving such salary by reason of the fact that such officer is also a director of the Corporation. -15- ARTICLE VI INDEMNIFICATION OF DIRECTORS, OFFICERS, EMPLOYEES AND OTHER AGENTS The Corporation will, to the maximum extent permitted by the General Corporation Law of California, indemnify each of its directors and officers against expenses, judgments, fines, settlements and other amounts actually and reasonably incurred in connection with any proceedings arising by reason of the fact any such person is or was a director or officer of the Corporation and will advance to such director or officer expenses incurred in defending any such proceeding to the maximum extent permitted by such law. For purposes of this ARTICLE VI, a "DIRECTOR" or "OFFICER" of the Corporation includes any person who is or was a director or officer of the Corporation, or is or was serving at the request of the Corporation as a director or officer of another corporation, or other enterprise, or was a director or officer of a corporation which was a predecessor corporation of the Corporation or of another enterprise at the request of such predecessor corporation. The Board of Directors may in its discretion provide by resolution for such indemnification of, or advance of expenses to, other agents of the Corporation, and likewise may refuse to provide for such indemnification or advance of expenses except to the extent such indemnification is mandatory under the California General Corporation law. ARTICLE VII RECORDS AND REPORTS Section 1. MAINTENANCE AND INSPECTION OF SHARE REGISTER. The Corporation will keep at its principal executive office, or at the office of its transfer agent or registrar, if either be appointed and as determined by resolution of the Board of Directors, a record of its shareholders, giving the names and addresses of all shareholders and the number and class of shares held by each shareholder. A shareholder or shareholders of the Corporation holding at least five percent (5%) in the aggregate of the outstanding Voting shares of the Corporation may (i) inspect and copy the records of shareholders' names and addresses and shareholdings during usual business hours upon five days' prior written demand upon the Corporation, and/or (ii) obtain from the transfer agent of the Corporation, upon written demand and upon the tender of such transfer agent's usual charges for such list, a list of the shareholders' names and addresses, who are entitled to vote for the election of directors, and their shareholdings, as of the most recent record date for which such list has been compiled or as of a date specified by the shareholder subsequent to the date of demand. Such list will be made available to such shareholder or shareholders by the transfer agent on or before the -16- later of five (5) days after the demand is received or the date specified therein as the date as of which the list is to be compiled. The record of shareholders will also be open to inspection upon the written demand of any shareholder or holder of a voting trust certificate, at any time during usual business hours, for a purpose reasonably related to such holder's interests as a shareholder or as the holder of a voting trust certificate. Any inspection and copying under this SECTION 1 may be made in person or by an agent or attorney of the shareholder or holder of a voting trust certificate making such demand. Section 2. MAINTENANCE AND INSPECTION OF BYLAWS. The Corporation will keep at its principal executive office, or if its principal executive office is not in the State of California at its principal business office in this state, the original or a copy of the Bylaws as amended to date, which will be open to inspection by the shareholders at all reasonable times during office hours. If the principal executive office of the Corporation is outside this state and the Corporation has no principal business office in this state, the Secretary will, upon the written request of any shareholder, furnish to such shareholder a copy of the Bylaws as amended to date. Section 3. MAINTENANCE AND INSPECTION OF OTHER CORPORATE RECORDS. The accounting books and records and minutes of proceedings of the shareholders and the Board of Directors and any committee or committees of the Board of Directors will be kept at such place or places designated by the Board of Directors, or, in the absence of such designation, at the principal executive office of the Corporation. The minutes will be kept in written form and the accounting books and records will be kept either in written form or in any other form capable of being converted into written form. Such minutes and accounting books and records will be open to inspection upon the written demand of any shareholder or holder of a voting trust certificate, at any reasonable time during usual business hours, for a purpose reasonably related to such holder's interests as a shareholder or as the holder of a voting trust certificate. Such inspection may he made in person or by an agent or attorney, and will include the right to copy and make extracts. The foregoing rights of inspection will extend to the records of each subsidiary Corporation of the Corporation. Section 4. INSPECTION BY DIRECTORS. Every director will have the absolute right at any reasonable time to inspect all books, records and documents of every kind and the physical properties of the Corporation and each of its subsidiary Corporations. Such inspection by a director may be made in person or by agent or attorney and the right of inspection includes the right to copy and make extracts. Section 5. ANNUAL REPORT TO SHAREHOLDERS. The annual report to shareholders referred to in Section 1501 of the General Corporation Law is expressly dispensed with, but nothing herein will be interpreted as prohibiting the Board of Directors from issuing annual or other periodic reports to the shareholders of the Corporation as they deem appropriate. Section 6. FINANCIAL STATEMENTS. A copy of any annual financial statement and any income statement of the Corporation for each quarterly period of each fiscal year, and any -17- accompanying balance sheet of the Corporation as of the end of each such period, that has been prepared by the Corporation will be kept on file in the principal executive office of the Corporation for twelve (12) months and each such statement will be exhibited at all reasonable times to any shareholder demanding an examination of any such statement or a copy will be mailed to any such shareholder. If a shareholder or shareholders holding at least five percent (5%) of the outstanding shares of any class of stock of the Corporation make a written request to the Corporation for an income statement of the Corporation for the three-month, six-month or nine-month period of the current fiscal year ended more than thirty (30) days prior to the date of the request, and a balance sheet of the Corporation as of the end of such period, the Chief Financial Officer will cause such statement to be prepared, if not already prepared, and will deliver personally or mail such statement or statements to the person making the request within thirty (30) days after the receipt of such request. If the Corporation has not sent to the shareholders its annual report for the last fiscal year, this report will likewise be delivered or mailed to such shareholder or shareholders within thirty (30) days after such request. The Corporation also will, upon the written request of any shareholder, mail to the shareholder a copy of the last annual, semi-annual or quarterly income statement which it has prepared and a balance sheet as of the end of such period. The quarterly income statements and balance sheets referred to in this section will be accompanied by the report thereon, if any, of any independent accountants engaged by the Corporation or the certificate of an authorized officer of the Corporation that such financial statements were prepared without audit from the books and records of the Corporation. Section 7. ANNUAL STATEMENT OF GENERAL INFORMATION. The Corporation will each year during the calendar month in which its Restated Articles of Incorporation were originally filed with the California Secretary of State, or at any time during the immediately preceding five (5) calendar months, file with the Secretary of State of the State of California, on the prescribed form, a statement setting forth the authorized number of directors, the names and complete business or residence addresses of all incumbent directors, the names and complete business or residence addresses of the Chief Executive Officer, Secretary and Chief Financial Officer, the street address of its principal executive office or principal business office in this state and the general type of business constituting the principal business activity of the Corporation, together with a designation of the agent of the Corporation for the purpose of service of process, all in compliance with Section 1502 of the Corporations Code of California. -18- ARTICLE VIII GENERAL CORPORATE MATTERS Section 1. RECORD DATE FOR PURPOSES OTHER THAN NOTICE AND VOTING. For purposes of determining the shareholders entitled to receive payment of any dividend or other distribution or allotment of any rights or entitled to exercise any rights in respect of any other lawful action, (other than action by shareholders by written consent without a meeting) the Board of Directors may fix, in advance, a record date, which will not be more than sixty (60) nor less than ten (10) days prior to any such action, and in such case only shareholders of record on the date so fixed are entitled to receive the dividend, distribution or allotment of rights or to exercise the rights, as the case may be, notwithstanding any transfer of any shares on the books of the Corporation after the record date fixed as aforesaid, except as otherwise provided in the California General Corporation Law. If the Board of Directors does not fix a record date, the record date for determining shareholders for any such purpose will be at the close of business on the day on which the Board of Directors adopts the resolution relating thereto, or the sixtieth (60th) day prior to the date of such action, whichever is later. Section 2. CHECK, DRAFTS, EVIDENCES OF INDEBTEDNESS. All checks, drafts or other orders for payment of money, notes or other evidences of indebtedness, issued in the name of or payable to the Corporation, will be signed or endorsed by such person or persons and in such manner as, from time to time, will be determined by resolution of the Board of Directors. Section 3. CORPORATE CONTRACTS AND INSTRUMENTS; HOW EXECUTED. The Board of Directors, except as otherwise provided in these Bylaws, may authorize any officer or officers, agent or agents, to enter into any contract or execute any instrument in the name of and on behalf of the Corporation, and such authority may be general or confined to specific instances; and, unless so authorized or ratified by the Board of Directors or within the agency power of an officer, no officer, agent or employee will have any power or authority to bind the Corporation by any contract or engagement or to pledge its credit or to render it liable for any purpose or to any amount. Section 4. CERTIFICATES FOR SHARES. A certificate or certificates for shares of the capital stock of the Corporation will be issued to each shareholder when any such shares are fully paid, and the Board of Directors may authorize the issuance of certificates or shares as partly paid provided that such certificates will state the amount of the consideration to be paid therefor and the amount paid thereon. All certificates will be signed in the name of the Corporation by the Chairman of the Board or the President or Vice President and by the Chief Financial Officer or an Assistant Treasurer or the Secretary or any Assistant Secretary, certifying the number of shares and the class or series of shares owned by the shareholder. Any or all of the signatures on the certificate may be facsimile. In case any officer, transfer agent or registrar who has signed or whose facsimile -19- signature has been placed upon a certificate will have ceased to be such officer, transfer agent or registrar before such certificate is issued, it may be issued by the Corporation with the same effect as if such person were an officer, transfer agent or registrar at the date of issue. Section 5. LOST CERTIFICATES. Except as hereinafter in this SECTION 5 provided, no new certificates for shares will be issued in lieu of an old certificate unless the matter is surrendered to the Corporation and canceled at the same time. The Board of Directors may in case any share certificate or certificate for any other security is lost, stolen or destroyed, authorize the issuance of a new certificate in lieu thereof, upon such terms and conditions as the Board may require, including provision for indemnification of the Corporation secured by a bond or other adequate security sufficient to protect the Corporation against any claim that may be made against it, including any expense or liability, on account of the alleged loss, theft or destruction of such certificate or the issuance of such new certificate. Section 6. REPRESENTATION OF SHARES OF OTHER CORPORATIONS. The Chairman of the Board, the President, or any Vice President, or any other person authorized by resolution of the Board of Directors or by any of the foregoing designated officers, is authorized to vote on behalf of the Corporation any and all shares of any other Corporation or Corporations, foreign or domestic, standing in the name of the Corporation. The authority herein granted to said officers to vote or represent on behalf of the Corporation any and all shares held by the Corporation in any other Corporation or Corporations may be exercised by any such officer in person or by any person authorized to do so by proxy duly executed by said officer. ARTICLE IX AMENDMENTS Section 1. AMENDMENT BY SHAREHOLDERS. New By-laws may be adopted or these By-laws may be amended or repealed by the vote or written consent of holders of a majority of the outstanding shares entitled to vote; provided, however, that if the Restated Articles of Incorporation of the Corporation set forth the number of authorized directors of the Corporation, the authorized number of directors may be changed only by an amendment of the Restated Articles of Incorporation, and; provided, further that until either (x) the Original Investors (as defined in ARTICLE III, SECTION 2) in the aggregate are no longer the record and beneficial owners of at least 500,000 shares (adjusted as provided in ARTICLE III, SECTION 2) of the Corporation's Common Stock and/or Series A Preferred Stock or (y) until the Corporation will have completed an initial public offering pursuant to an effective registration statement under the Securities Act of 1933 covering the offer and sale of capital stock to the public, any amendment to ARTICLE III, SECTION 2 or this ARTICLE IX, SECTION 1 will require the approval of the holders of a majority of the outstanding shares of Series A Preferred Stock voting as a class. -20- Section 2. AMENDMENT BY DIRECTORS. Subject to the rights of the shareholders as provided in SECTION 1 of this ARTICLE IX, By-laws may be adopted, amended or repealed by the Board of Directors; provided, however that until either (A) the Original Investors (as defined in ARTICLE III, SECTION 2) in the aggregate are no longer the record and beneficial owners of at least 500,000 shares (adjusted as provided in ARTICLE III, SECTION 2) of the Corporation's Common Stock and/or Series A Preferred Stock or (B) until the Corporation will have completed an initial public offering pursuant to an effective registration statement under the Securities Act of 1933 covering the offer and sale to the public of capital stock of the corporation, any amendment to ARTICLE III, SECTION 2, or this ARTICLE IX, SECTION 2 will require the vote of a number of directors equal to at least a majority of the whole Board including, as a part of any such majority, at least one of the directors representing such Original Investors. ARTICLE X GENERAL Section 1. GOVERNING LAW. This Corporation is organized under the provisions of the California General Corporation Law (Corporation Code Sections 100-2319) as in effect on the date of filing of its Restated Articles of Incorporation, namely OCTOBER, 1995 . Upon such filing the California Secretary of State assigned the following Corporation number to this Corporation; 1412812. The corporate affairs of this Corporation will be governed by and conducted in accordance with the provisions of the California General Corporation Law, as the same presently exist and are from time to time hereafter amended or superseded, except in those instances where the Restated Articles of Incorporation or Bylaws of this Corporation, now or through amendment hereafter, may adopt alternative rules which are permissible under the California General Corporation Law. Any provision (or portion thereof) in these Bylaws which is not permissible under the California General Corporation Law or is inconsistent with the Restated Articles of Incorporation of this Corporation (as they may from time to time be amended and supplemented) is void, but the balance of these Bylaws will nevertheless be valid and effective. Section 2. CONSTRUCTION AND DEFINITIONS. Unless the context requires otherwise, the general provisions, rules of construction, and definitions in the California General Corporation Law will govern the construction of these Bylaws. Without limiting the generality of the foregoing, the singular number includes the plural, the plural number includes the singular, and the term "PERSON" includes both a Corporation and a natural person. -21- CERTIFICATE OF SECRETARY I, Daniel J. Daou, Secretary of Daou Systems, Inc., a California corporation, do hereby certify that the foregoing Amended and Restated Bylaws of Daou Systems, Inc. are the duly adopted Amended and Restated Bylaws of said Corporation as they are in effect on the date hereof. IN WITNESS WHEREOF, I have subscribed my name this 19th day of October, 1995. /s/ Daniel J. Daou ------------------------------------------------- Daniel J. Daou, Secretary -22- EX-3.4 6 EXHIBIT 3.4: BYLAWS (DELAWARE) FORM OF BYLAWS OF DAOU SYSTEMS, INC. TABLE OF CONTENTS PAGE ---- ARTICLE I OFFICES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 Section 1. Registered Office. . . . . . . . . . . . . . . . . . . . 1 Section 2. Other Offices. . . . . . . . . . . . . . . . . . . . . . 1 ARTICLE II STOCKHOLDERS. . . . . . . . . . . . . . . . . . . . . . . . . . . 1 Section 1. Meetings . . . . . . . . . . . . . . . . . . . . . . . . 1 Section 2. Notice of Meetings . . . . . . . . . . . . . . . . . . . 2 Section 3. Manner of Giving Notice; Affidavit of Notice . . . . . . 2 Section 4. Stockholder List . . . . . . . . . . . . . . . . . . . . 2 Section 5. Stockholder Action . . . . . . . . . . . . . . . . . . . 3 Section 6. Quorum . . . . . . . . . . . . . . . . . . . . . . . . . 3 Section 7. Notice of Agenda Matters . . . . . . . . . . . . . . . . 3 Section 8. Proxies. . . . . . . . . . . . . . . . . . . . . . . . . 4 Section 9. Voting . . . . . . . . . . . . . . . . . . . . . . . . . 4 Section 10. Voting of Certain Shares. . . . . . . . . . . . . . . . 4 Section 11. Treasury Stock. . . . . . . . . . . . . . . . . . . . . 5 ARTICLE III DIRECTORS . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 Section 1. Powers . . . . . . . . . . . . . . . . . . . . . . . . . 5 Section 2. Election of Directors. . . . . . . . . . . . . . . . . . 5 Section 3. Dividends and Reserves . . . . . . . . . . . . . . . . . 6 Section 4. Regular Meetings . . . . . . . . . . . . . . . . . . . . 6 Section 5. Special Meetings . . . . . . . . . . . . . . . . . . . . 7 Section 6. Quorum . . . . . . . . . . . . . . . . . . . . . . . . . 7 Section 7. Written Action . . . . . . . . . . . . . . . . . . . . . 7 Section 8. Waiver of Notice . . . . . . . . . . . . . . . . . . . . 7 Section 9. Participation in Meetings by Conference Telephone. . . . 7 Section 10. Committees. . . . . . . . . . . . . . . . . . . . . . . 7 Section 11. Fees and Compensation of Directors. . . . . . . . . . . 8 Section 12. Rules . . . . . . . . . . . . . . . . . . . . . . . . . 8 Section 13. Interested Directors. . . . . . . . . . . . . . . . . . 8 ARTICLE IV OFFICERS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9 Section 1. Offices and Official Positions . . . . . . . . . . . . . 9 Section 2. Compensation . . . . . . . . . . . . . . . . . . . . . . 9 Section 3. Succession . . . . . . . . . . . . . . . . . . . . . . . 9 i TABLE OF CONTENTS (CONTINUED) PAGE ---- Section 4. Resignations . . . . . . . . . . . . . . . . . . . . . . 9 Section 5. Authority and Duties . . . . . . . . . . . . . . . . . . 9 Section 6. Approval of Loans to Officers. . . . . . . . . . . . . . 9 ARTICLE V CONTRACTS, LOANS, CHECKS AND DEPOSITS . . . . . . . . . . . . . .10 Section 1. Contracts and Other Instruments. . . . . . . . . . . . .10 Section 2. Loans. . . . . . . . . . . . . . . . . . . . . . . . . .10 Section 3. Checks, Drafts, etc. . . . . . . . . . . . . . . . . . .10 Section 4. Deposits . . . . . . . . . . . . . . . . . . . . . . . .10 ARTICLE VI STOCKS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .10 Section 1. Certificates . . . . . . . . . . . . . . . . . . . . . .10 Section 2. Transfer . . . . . . . . . . . . . . . . . . . . . . . .11 Section 3. Lost, Stolen or Destroyed Certificates . . . . . . . . .11 Section 4. Record Date. . . . . . . . . . . . . . . . . . . . . . .11 Section 5. Registered Owners. . . . . . . . . . . . . . . . . . . .12 ARTICLE VII INDEMNIFICATION AND INSURANCE . . . . . . . . . . . . . . . . . .12 Section 1. Indemnification. . . . . . . . . . . . . . . . . . . . .12 Section 2. Contract . . . . . . . . . . . . . . . . . . . . . . . .13 Section 3. Non-exclusivity. . . . . . . . . . . . . . . . . . . . .13 Section 4. Indemnification of Employees and Agents. . . . . . . . .13 Section 5. Insurance. . . . . . . . . . . . . . . . . . . . . . . .14 ARTICLE VIII GENERAL PROVISIONS. . . . . . . . . . . . . . . . . . . . . . . .14 Section 1. Fiscal Year. . . . . . . . . . . . . . . . . . . . . . .14 Section 2. Corporate Seal . . . . . . . . . . . . . . . . . . . . .14 Section 3. Reliance upon Books, Reports and Records . . . . . . . .14 Section 4. Time Periods . . . . . . . . . . . . . . . . . . . . . .14 Section 5. Dividends. . . . . . . . . . . . . . . . . . . . . . . .14 Section 6. Construction and Definitions . . . . . . . . . . . . . .15 ARTICLE IX AMENDMENTS. . . . . . . . . . . . . . . . . . . . . . . . . . . .15 Section 1. Amendments . . . . . . . . . . . . . . . . . . . . . . .15 ii BYLAWS OF DAOU SYSTEMS, INC. ARTICLE I OFFICES Section 1. REGISTERED OFFICE. The registered office of Daou Systems, Inc., a Delaware corporation (the "Corporation"), in the State of Delaware shall be located in the City of Wilmington, County of New Castle, State of Delaware, and the name of its registered agent is Corporation Services Company. Section 2. OTHER OFFICES. The Corporation may also have offices at such other places both within and without the State of Delaware as the Board of Directors may from time to time determine or the business of the Corporation may require. ARTICLE II STOCKHOLDERS Section 1. MEETINGS. (a) TIME AND PLACE OF MEETINGS. All meetings of the stockholders for the election of directors or for any other purpose shall be held at any place within or without the State of Delaware, as may be authorized by the Board of Directors and stated in the notice of the meeting or in a duly executed waiver of notice thereof. (b) ANNUAL MEETING. Annual meetings of stockholders shall be held on a date and time as shall be designated from time to time by the Board of Directors, at which meeting the stockholders shall elect by plurality vote the directors to succeed those whose terms expire and shall transact such other business as may properly be brought before the meeting. (c) SPECIAL MEETINGS. Special meetings of the stockholders, for any purpose or purposes, unless otherwise prescribed by statute or by Certificate of Incorporation, may be called by the Chairman of the Board of Directors, the President or the Board of Directors pursuant to a resolution approved by a majority of the entire Board of Directors. Business transacted at any special meeting of the stockholders shall be limited to the purposes stated in the notice of such meeting. Section 2. NOTICE OF MEETINGS. Written notice of every meeting of the stockholders, stating the place, date and hour of the meeting and, in the case of a special meeting, the purpose or purposes for which the meeting is called, shall be given not less than ten (10) nor more than sixty (60) days before the date of the meeting to each stockholder entitled to vote at such meeting, except as otherwise provided herein or by law. When a meeting is adjourned to another place, date or time, written notice need not be given of the adjourned meeting if the place, date and time thereof are announced at the meeting at which the adjournment is taken; provided, however, that if the adjournment is for more than thirty days, or if after the adjournment a new record date is fixed for the adjourned meeting, written notice of the place, date and time of the adjourned meeting shall be given in conformity herewith. At any adjourned meeting, any business may be transacted which might have been transacted at the original meeting. Notice of the time, place and purpose of any meeting of the stockholders may be waived in writing either before or after such meeting and will be waived by any stockholder by such stockholder's attendance at the meeting in person or by proxy. Any stockholder so waiving notice of such a meeting shall be bound by the proceedings of any such meeting in all respects as if due notice thereof had been given. At a special meeting, notice of which has been given in accordance with this Section 2, action may not be taken with respect to business, the general nature of which has not been stated in such notice. At an annual meeting, action may be taken with respect to business stated in the notice of such meeting, given in accordance with this Section 2 and with respect to any other business as may properly come before the meeting. Section 3. MANNER OF GIVING NOTICE; AFFIDAVIT OF NOTICE. Written notice of any meeting of stockholders, if mailed, is given when deposited in the United States mail, postage prepaid, directed to the stockholder at his address as it appears on the records of the Corporation. An affidavit of the Secretary or an assistant secretary or of the transfer agent of the Corporation that the notice has been given shall, in the absence of fraud, be prima facie evidence of the facts stated therein. Section 4. STOCKHOLDER LIST. The officer who has charge of the stock ledger of the Corporation shall prepare and make, at least ten (10) days before every meeting of stockholders, a complete list of the stockholders entitled to vote at such meeting, arranged in alphabetical order, and showing the address of each such stockholder and the number of shares registered in the name of each such stockholder. Such list shall be open to examination of any stockholder of the Corporation during ordinary business hours, for any purpose germane to the meeting, for a period of at least ten (10) days prior to the meeting, either at a place within the city where the meeting is to be held, which place shall be specified in the notice of the meeting, or, if not so specified, at the place where the meeting is to be held. The list shall also be produced and kept at the time and place of meeting during the entire time thereof, and subject to the inspection for any purpose germane to the meeting of any stockholder who may be present. 2 Section 5. STOCKHOLDER ACTION. After the Corporation first has a class of securities registered pursuant to Section 12(b) or 12(g) of the Securities Exchange Act of 1934, as amended, any action required or permitted to be taken by the stockholders of the Corporation must be effected at a duly called annual or special meeting of such holders and may not be effected by any consent in writing by such holders. Section 6. QUORUM. The holders of a majority of the stock issued and outstanding and entitled to vote thereat, present in person or represented by proxy, shall constitute a quorum at all meetings of the stockholders for the transaction of business except as otherwise provided by law or by the Certificate of Incorporation. If, however, such quorum shall not be present or represented at any meeting of the stockholders, the stockholders entitled to vote thereat, present in person or represented by proxy, shall have power to adjourn the meeting from time to time, without notice other than announcement at the meeting, until a quorum shall be present or represented. At such adjourned meeting at which a quorum is present or represented, any business may be transacted that might have been transacted at the meeting as originally noticed. The affirmative vote of the majority of shares present in person or represented by proxy at the meeting and entitled to vote on the subject matter shall be the act of the stockholders. Where a separate vote by class is required, the affirmative vote of the majority of shares of such class present in person or represented by proxy at the meeting shall be the act of such class. Section 7. NOTICE OF AGENDA MATTERS. At any annual or special meeting of stockholders, only such business shall be conducted as shall have been brought before the meeting by or at the direction of the Board of Directors or by any stockholder who complies with the procedures set forth in this Section 7. For business properly to be brought before the annual meeting by a stockholder, the stockholder must have given timely notice thereof in proper written form to the Secretary of the Corporation. To be timely, a stockholder's notice must be delivered to or mailed and received by the Secretary of the Corporation not less than ninety (90) days prior to the anniversary date of the Corporation's notice of annual meeting provided with respect to the previous year's annual meeting; provided, however, that in the event that less than forty (40) days' notice or prior public disclosure of the date of the meeting is given or made to stockholders, notice by the stockholder to be timely must be received not later than the close of business on the 10th day following the day on which such notice of the date of the annual meeting was mailed or such public disclosure was made. To be in properly written form, a stockholder's notice to the Secretary shall set forth in writing as to each matter the stockholder proposes to bring before the annual meeting: (i) a brief description of the business desired to be brought before the annual meeting and the reasons for conducting such business at the annual meeting; (ii) the name and address, as they appear on the Corporation's books, of the stockholder proposing such business; (iii) the class and number of shares of the Corporation which are beneficially owned by the stockholder; and (iv) any material interest of the stockholder in such business. Notwithstanding anything in the Bylaws to the contrary, no 3 business shall be conducted at an annual meeting except in accordance with the procedures set forth in this Section 7. The chairman of an annual meeting shall, if the facts warrant, determine and declare to the meeting that business was not properly brought before the meeting in accordance with the provisions of this Section 7, and if he should so determine, he shall so declare to the meeting, and any such business not properly brought before the meeting shall not be transacted. Section 8. PROXIES. At every meeting of the stockholders, each stockholder having the right to vote thereat shall be entitled to vote in person or by proxy. Such proxy shall be appointed by an instrument in writing subscribed by such stockholder and bearing a date not more than three (3) years prior to such meeting, unless such proxy provides for a longer period; and it shall be filed with the Secretary of the Corporation before, or at the time of, the meeting. Section 9. VOTING. The stockholders entitled to vote at any meeting of stockholders shall be determined in accordance with the provisions of Article V, Section 4 of these Bylaws, subject to the provisions of Sections 217 and 218 of the General Corporation Law of Delaware (relating to voting rights of fiduciaries, pledgors and joint owners of stock and to voting trusts and other voting agreements). Except as otherwise provided by statute or by the Certificate of Incorporation, each stockholder shall be entitled at every meeting of the stockholders to one vote for each share of stock having voting power standing in the name of such stockholder on the books of the Corporation on the record date for the meeting and such votes may be cast either in person or by written proxy. Every proxy must be executed in writing by the stockholder or his or her duly authorized attorney. Such proxy shall be filed with the Secretary of the Corporation before or at the time of the meeting. All elections of directors shall be by written ballot, unless otherwise provided in the Certificate of Incorporation. When a quorum is present at any meeting, the vote of the holders of a majority of the stock which has voting power present in person or represented by proxy and which has actually voted shall decide any question properly brought before such meeting, unless the question is one upon which by express provision of law, the Certificate of Incorporation or these Bylaws, a different vote is required, in which case such express provision shall govern and control the decision of such question. Section 10. VOTING OF CERTAIN SHARES. Shares standing in the name of another corporation, domestic or foreign, and entitled to vote may be voted by such officer, agent, or proxy as the bylaws of such corporation may prescribe or, in the absence of such provision, as the Board of Directors of such corporation may determine. Shares standing in the name of a deceased person, a minor or an incompetent and entitled to vote may be voted by his administrator, executor, guardian or conservator, as the case may be, either in person or by proxy. Shares standing in the name of a trustee, receiver or pledgee and entitled to vote maybe voted by such trustee, receiver or pledgee either in person or by proxy as provided by Delaware law. 4 Section 11. TREASURY STOCK. Shares of its own stock belonging to the Corporation or to another corporation, if a majority of the shares entitled to vote in the election of directors of such other corporation is held by the Corporation, shall not be voted at any meeting and shall not be counted in determining the total number of outstanding shares for the purpose of determining whether a quorum is present. Nothing in this section shall be construed to limit the right of the Corporation to vote shares of its own stock held by it in a fiduciary capacity. ARTICLE III DIRECTORS Section 1. POWERS. The business and affairs of the Corporation shall be managed by or under the direction of its Board of Directors, which may exercise all such powers of the Corporation and do all such lawful acts and things as are not by statute or by the Certificate of Incorporation or by these Bylaws directed or required to be exercised or done by the stockholders. Section 2. ELECTION OF DIRECTORS. (a) NUMBER AND TERM OF OFFICE. The Board of Directors shall consist of at least one (1) and not more than eleven (11) directors. The authorized number of directors of the Corporation shall be set initially at five (5), and shall be subject to change as set from time to time pursuant to a resolution approved by a majority of the Board of Directors then in office. The directors shall be classified, with respect to the time for which they severally hold office, into three (3) classes, as nearly equal in number as possible: the term of office of those of the first class to expire at the annual meeting next ensuing; of the second class, one (1) year thereafter; of the third class, two (2) years thereafter; and at each annual election held after such classification and election, directors shall be chosen for a full term to succeed those whose terms expire. Any decrease in the authorized number of directors shall not be effective until the expiration of the term of the directors then in office, unless, at the time of such decrease there shall be vacancies on the Board of Directors which are being eliminated by such decrease. (b) RESIGNATIONS AND VACANCIES. Any director may resign at any time by giving written notice to the Chairman of the Board of Directors, the Chief Executive Officer, the President or the Board of Directors. Any such resignation shall take effect at the date of the receipt of such notice or at any later time specified therein; and, unless otherwise specified therein, the acceptance of such resignation shall not be necessary to make it effective. If, at any other time than the annual meeting of the stockholders, any vacancy occurs in the Board of Directors caused by resignation, death, retirement, disqualification or removal from office of any director or otherwise, or any new directorship is created by an increase in the authorized number of directors by amendment of Section 2 of Article III of these Bylaws, a majority of the directors then in office, although less than a quorum, may choose a successor, or fill the newly created directorship, and the 5 director so chosen shall hold office until the next annual election of directors by the stockholders and until his successor shall be duly elected and qualified, unless sooner displaced. (c) NOTIFICATION OF NOMINATIONS. Subject to the rights of holders of any class or series of stock having a preference over the Common Stock as to dividends or upon liquidation, nominations for the election of directors may be made by the Board of Directors or a proxy committee appointed by the Board of Directors or by any stockholder entitled to vote in the election of directors generally. However, any such stockholder may nominate one or more persons for election as directors at a meeting only if such stockholder has given timely notice in proper written form of his intent to make such nomination or nominations. To be timely, a stockholder's notice must be delivered to or mailed and received by the Secretary of the Corporation not later than ninety (90) days prior to such meeting; provided, however, that in the event that less than forty (40) days' notice or prior public disclosure of the date of the meeting is given or made to stockholders, notice by the stockholder to be timely must be received not later than the close of business on the 10th day following the date on which such notice of the date of such meeting was mailed or such public disclosure was made. To be in proper written form, a stockholder's notice to the Secretary shall set forth: (i) the name and address of the stockholder who intends to make the nomination and of the person or persons to be nominated; (ii) a representation that the stockholder is a holder of record of stock of the Corporation entitled to vote at such meeting and intends to appear in person or by proxy at the meeting to nominate the person or persons specified in the notice; (iii) a description of all arrangements or understandings between the stockholder and each nominee and any other person or persons (naming such person or persons) pursuant to which the nomination or nominations are to be made by the stockholder; (iv) such other information regarding each nominee proposed by such stockholder as would be required to be included in a proxy statement filed pursuant to the proxy rules of the Securities and Exchange Commission had the nominee been nominated, or intended to be nominated, by the Board of Directors; and (v) the consent of each nominee to serve as a director of the Corporation if so elected. The chairman of the meeting may refuse to acknowledge the nomination of any person not made in compliance with the foregoing procedure. Section 3. DIVIDENDS AND RESERVES. Dividends upon stock of the Corporation may be declared by the Board of Directors at any regular or special meeting, pursuant to law. Dividends may be paid in cash, in property, in shares of stock or otherwise in the form, and to the extent, permitted by law. The Board of Directors may set apart, out of any funds of the Corporation available for dividends, a reserve or reserves for working capital or for any other lawful purpose, and also may abolish any such reserve in the manner in which it was created. Section 4. REGULAR MEETINGS. Regular meetings of the Board of Directors may be held without notice immediately after the annual meeting of the stockholders and at such other time and place as shall from time to time be determined by the Board of Directors. 6 Section 5. SPECIAL MEETINGS. Special meetings of the Board of Directors may be called by the Chairman of the Board of Directors, the Chief Executive Officer, the President, the Secretary of the Corporation, or any two (2) directors. Section 6. QUORUM. At all meetings of the Board of Directors, a majority of the total number of directors then in office shall constitute a quorum for the transaction of business, and the act of a majority of the directors present at any meeting at which there is a quorum shall be the act of the Board of Directors, except as may be otherwise specifically provided by statute or by the Certificate of Incorporation. If a quorum shall not be present at any meeting of the Board of Directors, the directors present thereat may adjourn the meeting from time to time to another place, time or date, without notice other than announcement at the meeting, until a quorum shall be present. Section 7. WRITTEN ACTION. Any action required or permitted to be taken at any meeting of the Board of Directors or of any committee thereof may be taken without a meeting if all members of the Board of Directors or committee, as the case may be, consent thereto in writing, and the writing or writings are filed with the minutes or proceedings of the Board of Directors or Committee. Section 8. WAIVER OF NOTICE. The transactions of any meeting of the Board of Directors or any committee, however called and noticed or wherever held, shall be valid as though had at a meeting duly held after regular call and notice, if a quorum be present and if, either before or after the meeting, each of the directors not present signs a written waiver of notice, or a consent to hold such meeting, or an approval of the minutes thereof. All such waivers, consents or approvals shall be filed with the Corporate records or made a part of the minutes of the meeting. Section 9. PARTICIPATION IN MEETINGS BY CONFERENCE TELEPHONE. Members of the Board of Directors, or any committee designated by the Board of Directors, may participate in a meeting of the Board of Directors, or any such committee, by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other, and such participation in a meeting shall constitute presence in person at the meeting. Section 10. COMMITTEES. The Board of Directors may, by resolution passed by a majority of the entire Board of Directors, designate one or more committees, each committee to consist of one or more of the directors of the Corporation and each to have such lawfully delegable powers and duties as the Board of Directors may confer. Each such committee shall serve at the pleasure of the Board of Directors. The Board of Directors may designate one or more directors as alternate members of any committee, who may replace any absent or disqualified member at any meeting of the committee. Except as otherwise provided by law, any such committee, to the extent provided in the resolution of the Board of Directors, shall have and may exercise all the powers and authority of the Board of Directors in the management of the business and affairs of the Corporation, and may authorize the seal of the Corporation to be affixed to all papers which may require it; but 7 no such committee shall have the power or authority in reference to approving, adopting or recommending to the stockholders any action or matter expressly required by law to be submitted to stockholders for approval, or adopting, amending or repealing the Bylaws of the Corporation. Any committee or committees so designated by the Board of Directors shall have such name or names as may be determined from time to time by resolution adopted by the Board of Directors. Unless otherwise prescribed by the Board of Directors, a majority of the members of the committee shall constitute a quorum for the transaction of business, and the act of a majority of the members present at a meeting at which there is a quorum shall be the act of such committee. Each committee shall prescribe its own rules for calling and holding meetings and its method of procedure, subject to any rules prescribed by the Board of Directors, and shall keep a written record of all actions taken by it. Section 11. FEES AND COMPENSATION OF DIRECTORS. Each director may receive such fees and other compensation, along with reimbursement of expenses incurred on behalf of the Corporation or in connection with attendance at meetings, as the Board of Directors may from time to time determine. No such payment of fees or other compensation shall be construed to preclude any director from serving the Corporation in any other capacity and receiving fees and compensation for such services. Section 12. RULES. The Board of Directors may adopt such special rules and regulations for the conduct of their meetings and the management of the affairs of the Corporation as they may deem proper, not inconsistent with law or these Bylaws. Section 13. INTERESTED DIRECTORS. No contract or transaction between the Corporation and one or more of its directors or officers, or between the Corporation and any other corporation, partnership, association, or other organization in which one or more of its directors or officers are directors or officers, or have a financial interest, shall be void or voidable solely for this reason, or solely because the directors or officers are present at or participate in the meeting of the Board of Directors or the committee thereof which authorizes the contract or transaction, or solely because his or their votes are counted for such purpose if: (i) the material facts as to his or their relationship or interest and as to the contract or transaction are disclosed or are known to the Board of Directors or the committee, and the Board of Directors or committee in good faith authorizes the contract or transaction by the affirmative vote of a majority of the disinterested directors, even though the disinterested directors be less than a quorum; or (ii) the material facts as to his or their relationship or interest and as to the contract or transaction is specifically approved in good faith by vote of the shareholders; or (iii) the contract or transaction is fair as to the Corporation as of the time it is authorized, approved or ratified by the Board of Directors, a committee thereof, or the stockholders. Common or interested directors may be counted in determining the presence of a quorum at a meeting of the Board of Directors or of a committee which authorizes the contract or transaction. 8 ARTICLE IV OFFICERS Section 1. OFFICES AND OFFICIAL POSITIONS. The officers of the Corporation shall be chosen by the Board of Directors and may include a Chairman of the Board of Directors (who must be a director as chosen by the Board of Directors) and shall include a Chief Executive Officer, a President, one or more Vice Presidents (if so elected by the Board of Directors), a Secretary and a Chief Financial Officer. The Board of Directors also may appoint a Treasurer and such Assistant Vice Presidents, Assistant Secretaries, Assistant Treasurers, and other officers as the Board of Directors shall determine. Any two or more offices may be held by the same person. With the exception of the Chairman of the Board of Directors, none of the officers need be a director, a stockholder of the Corporation or a resident of the State of Delaware. Section 2. COMPENSATION. The compensation of all officers and agents of the Corporation who are also directors of the Corporation shall be fixed by the Board of Directors. The Board of Directors may delegate the power to fix the compensation of other officers and agents of the Corporation to an officer of the Corporation. Section 3. SUCCESSION. The officers of the Corporation shall hold office until their successors are elected and qualified. Any officer elected or appointed by the Board of Directors may be removed at any time by the affirmative vote of a majority of the Board of Directors. Any vacancy occurring in any office of the Corporation may be filled by the Board of Directors. Section 4. RESIGNATIONS. Any officer may resign at any time by giving written notice to the Board of Directors (or to a principal officer if the Board of Directors has delegated to such principal officer the power to appoint and to remove such officer). The resignation of any officer shall take effect upon receipt of notice thereof or at such later time as shall be specified in such notice; unless otherwise specified therein, the acceptance of such resignation shall not be necessary to make it effective. Section 5. AUTHORITY AND DUTIES. Each of the officers of the Corporation shall have such authority and shall perform such duties incident to each of their respective offices and such other duties as may be specified from time to time by the Board of Directors in a resolution which is not inconsistent with these Bylaws. Section 6. APPROVAL OF LOANS TO OFFICERS. The Corporation may lend money to, or guarantee any obligation of, or otherwise assist any officer or any other employee of the Corporation or of its subsidiary, including any officer or employee who is a director of the Corporation or its subsidiary, whenever, in the judgment of the directors, such loan, guaranty or assistance may 9 reasonably be expected to benefit the Corporation. The loan, guaranty or other assistance may be with or without interest and may be unsecured, or secured in such manner as the Board of Directors shall approve, including, without limitation, a pledge of shares of stock of the Corporation. Nothing contained in this section shall be deemed to deny, limit or restrict the powers of guaranty or warranty of the Corporation at common law or under any statute. ARTICLE V CONTRACTS, LOANS, CHECKS AND DEPOSITS Section 1. CONTRACTS AND OTHER INSTRUMENTS. The Board of Directors may authorize any officer or officers, agent or agents, to enter into any contract or execute and deliver any instrument in the name of and on behalf of the Corporation, or of any division thereof, and such authority may be general or confirmed to specific instances. Section 2. LOANS. No loans shall be contracted on behalf of the Corporation, or any division thereof, and no evidence of indebtedness shall be issued in the name of the Corporation or any division thereof, unless authorized by a resolution of the Board of Directors. Such authority may be general or confined to specific instances. Section 3. CHECKS, DRAFTS, ETC. All checks, demands, drafts or other orders for the payment of money, notes or other evidences of indebtedness issued in the name of the Corporation, or any division thereof, shall be signed by such officer or officers, agent or agents of the Corporation, and in such manner, as shall from time to time be authorized by the Board of Directors. Section 4. DEPOSITS. All funds of the Corporation, or any division thereof, not otherwise employed shall be deposited from time to time to the credit of the Corporation in such banks, trust companies or other depositories as the Board of Directors may select. ARTICLE VI STOCKS Section 1. CERTIFICATES. Certificates representing shares of stock of the Corporation shall be in such form as shall be determined by the Board of Directors, subject to applicable legal requirements. Such certificates shall be numbered and their issuance recorded in the books of the Corporation, and such certificate shall exhibit the holder's name and the number of shares and shall be signed by, or in the name of the Corporation by, the Chairman of the Board of Directors or the President and the Secretary or an Assistant Secretary or the Treasurer or an Assistant Treasurer of the Corporation and shall bear the corporate seal. Where any such certificate is countersigned by 10 a transfer agent or a registrar other than the Corporation or its employee, the signatures of any such officers of the Corporation and the seal of the Corporation, if any, upon such certificates may be facsimiles, engraved or printed. Section 2. TRANSFER. Upon surrender to the Corporation or the transfer agent of the Corporation of a certificate for shares duly endorsed or accompanied by proper evidence of succession, assignment or authority to transfer, it shall be the duty of the Corporation to issue, or to cause its transfer agent to issue, a new certificate to the person entitled thereto, cancel the old certificate and record the transaction upon its books. Section 3. LOST, STOLEN OR DESTROYED CERTIFICATES. The President or the Board of Directors may direct a new certificate or certificates to be issued in place of any certificate or certificates theretofore issued by the Corporation alleged to have been lost, stolen or destroyed, upon the making of an affidavit of that fact, satisfactory to the President, by the person claiming the certificate of stock to be lost, stolen or destroyed. As a condition precedent to the issuance of a new certificate or certificates the President requires the owner of such lost, stolen or destroyed certificate or certificates to give the Corporation a bond in such sum and with such surety or sureties as the President may direct as indemnity against any claims that may be made against the Corporation with respect to the certificate alleged to have been lost, stolen or destroyed or the issuance of the new certificate. Section 4. RECORD DATE. In order that the Corporation may determine the stockholders entitled to notice of or to vote at any meeting of stockholders or any adjournment thereof, the Board of Directors may fix a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted by the Board of Directors, and which record date shall not be more than sixty (60) nor less than ten (10) days before the date of such meeting. If no record date is fixed by the Board of Directors, the record date for determining stockholders entitled to notice of or to vote at a meeting of stockholders shall be at the close of business on the day next preceding the day on which notice is given, or, if notice is waived, at the close of business on the day next preceding the day on which the meeting is held. A determination of stockholders of record entitled to notice of or to vote at a meeting of stockholders shall apply to any adjournment of the meeting; provided, however, that the Board of Directors may fix a new record date for the adjourned meeting. In order that the Corporation may determine the stockholders entitled to consent to corporate action in writing without a meeting, the Board of Directors may fix a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted by the Board of Directors, and which date shall not be more than ten (10) days after the date upon which the resolution fixing the record date is adopted by the Board of Directors. If no record date has been fixed by the Board of Directors, the record date for determining stockholders entitled to consent to corporate action in writing without a meeting, when no prior action by the Board of Directors is required by this chapter, shall be the first date on which a signed written consent setting 11 forth the action taken or proposed to be taken is delivered to the Corporation by delivery to its registered office in Delaware, its principal place of business, or an officer or agent of the Corporation having custody of the book in which proceedings of meetings of stockholders are recorded. Delivery made to a Corporation's registered office shall be by hand or by certified or registered mail, return receipt requested. If no record date has been fixed by the Board of Directors and prior action by the Board of Directors is required by law, the record date for determining stockholders entitled to consent to corporate action in writing without a meeting shall be at the close of business on the day on which the Board of Directors adopts the resolution taking such prior action. In order that the Corporation may determine the stockholders entitled to receive payment of any dividend or other distribution or allotment of any rights or the stockholders entitled to exercise any rights in respect of any change, conversion or exchange of stock, or for the purpose of any other lawful action, the Board of Directors may fix a record date, which record date shall not precede the date upon which the resolution fixing the record date is adopted, and which record date shall be not more than sixty (60) days prior to such action. If no record date is fixed, the record date for determining stockholders for any such purpose shall be at the close of business on the day on which the Board of Directors adopts the resolution relating thereto. Section 5. REGISTERED OWNERS. The Corporation shall be entitled to recognize the exclusive right of a person registered on its books as the owner of shares to receive dividends, and to vote as such owner, and to hold liable for calls and assessments a person registered on its books as the owner of shares, and shall not be bound to recognize any equitable or other claim to or interest in such share or shares on the part of any other person, whether or not it shall have express or other notice thereof, except as otherwise required by law. ARTICLE VII INDEMNIFICATION AND INSURANCE Section 1. INDEMNIFICATION. The Corporation, to the maximum extent permitted by the General Corporation Law of the State of Delaware, including, without limitation, to the fullest extent permitted by Section 145 of the General Corporation Law of the State of Delaware (as that Section may be amended and supplemented from time to time), indemnify any director, officer or trustee which it shall have power to indemnify under Section 145 against any expenses, liabilities or other matters referred to in or covered by that Section. The indemnification provided for in this Article (i) shall not be deemed exclusive of any other rights to which those indemnified may be entitled under any Bylaw, agreement or vote of stockholders or disinterested directors or otherwise, both as to action in their official capacities and as to action in another capacity while holding such office, (ii) shall continue as to a person who has ceased to be a director, officer or trustee and (iii) shall inure to the benefit of the heirs, executors and administrators of such a person. The 12 Corporation's obligation to provide indemnification under this Article shall be offset to the extent of any other source of indemnification or any otherwise applicable insurance coverage under a policy maintained by the Corporation or any other person. Expenses incurred by a director of the Corporation in defending a civil or criminal action, suit or proceeding by reason of the fact that he is or was a director of the Corporation (or was serving at the Corporation's request as a director or officer of another corporation) shall be paid by the Corporation in advance of the final disposition of such action, suit or proceeding upon receipt of an undertaking by or on behalf of such director to repay such amount if it shall ultimately be determined that he is not entitled to be indemnified by the Corporation as authorized by relevant sections of the General Corporation Law of the State of Delaware. To assure indemnification under this Article of all such persons who are determined by the Corporation or otherwise to be or to have been "fiduciaries" of any employee benefit plan of the Corporation which may exist from time to time, such Section 145 shall, for the purposes of this Article, be interpreted as follows: an "other enterprise" shall be deemed to include such an employee benefit plan, including, without limitation, any plan of the Corporation which is governed by the Act of Congress entitled "Employee Retirement Income Security Act of 1974," as amended from time to time; the Corporation shall be deemed to have requested a person to serve an employee benefit plan where the performance by such person of his duties to the Corporation also imposes duties on, or otherwise involves services by, such person to the plan or participants or beneficiaries of the plan; excise taxes assessed on a person with respect to an employee benefit plan pursuant to such Act of Congress shall be deemed "fines"; and action taken or omitted by a person with respect to an employee benefit plan in the performance of such person's duties for a purpose reasonably believed by such person to be in the interest of the participants and beneficiaries of the plan shall be deemed to be for a purpose which is not opposed to the best interests of the Corporation. Section 2. CONTRACT. The provisions of Section 1 of this Article VII shall be deemed to be a contract between the Corporation and each director and officer who serves in such capacity at any time while such Bylaw is in effect, and any repeal or modification thereof shall not affect any rights or obligations then existing with respect to any state of facts then or theretofore existing or any action, suit or proceeding theretofore or thereafter based in whole or in part upon any such state of facts. Section 3. NON-EXCLUSIVITY. The rights of indemnification provided by this Article VII shall not be deemed exclusive of any other rights to which any director or officer of the Corporation may be entitled apart from the provisions of this Article VII. Section 4. INDEMNIFICATION OF EMPLOYEES AND AGENTS. The Board of Directors in its discretion shall have the power on behalf of the Corporation to indemnify any person, other than a director or officer, made a party to any action, suit or proceeding by reason of the fact that such person or such person's testator or intestate, is or was an employee or agent of the Corporation. 13 Section 5. INSURANCE. The Corporation may purchase and maintain insurance on behalf of any person who is or was a director, officer, employee or agent of the Corporation or is or was serving at the request of the Corporation as a director, officer, employee or agent of another corporation, partnership, joint venture, trust or other enterprise against any liability asserted against him and incurred by him in any such capacity, or arising out of his status as such, whether or not the Corporation would have the power to indemnify him against such liability under the provisions of the General Corporation Law of Delaware. ARTICLE VIII GENERAL PROVISIONS Section 1. FISCAL YEAR. The fiscal year of the Corporation shall be fixed from time to time by resolution of the Board of Directors. Section 2. CORPORATE SEAL. The Board of Directors may adopt a corporate seal and use the same by causing it or a facsimile thereof to be impressed or affixed or reproduced or otherwise. Section 3. RELIANCE UPON BOOKS, REPORTS AND RECORDS. Each director, each member of a committee designated by the Board of Directors, and each officer of the Corporation shall, in the performance of his or her duties, be fully protected in relying in good faith upon the records of the Corporation and upon such information, opinions, reports or statements presented to the Corporation by any of the Corporation's officers or employees, or committees of the Board of Directors, or by any other person as to matters the director, committee member or officer believes are within such other person's professional or expert competence and who has been selected with reasonable care by or on behalf of the Corporation. Section 4. TIME PERIODS. In applying any provision of these Bylaws which requires that an act be done or not be done a specified number of days prior to an event or that an act be done during a period of a specified number of days prior to an event, calendar days shall be used, the day of the doing of the act shall be excluded and the day of the event shall be included. Section 5. DIVIDENDS. Dividends upon the capital stock of the Corporation, subject to the provisions of the Certificate of Incorporation, if any, may be declared by the Board of Directors at any regular or special meeting, pursuant to statute. Dividends may be paid in cash, in property, or in shares of the capital stock, subject to the provisions of the Certificate of Incorporation. 14 Before payment of any dividend, there may be set aside out of any funds of the Corporation available for dividends such sum or sums as the directors from time to time, in their absolute discretion, think proper as a reserve or reserves to meet contingencies, or for equalizing dividends, or for repairing or maintaining any property of the Corporation, or for such other purposes as the directors shall think conducive to the interest of the Corporation, and the directors may modify or abolish any such reserve in the manner in which it was created. Section 6. CONSTRUCTION AND DEFINITIONS. Unless the context requires otherwise, the general provisions, rules of construction and definitions in the General Corporation Law of the State of Delaware shall govern the construction of these Bylaws. ARTICLE IX AMENDMENTS Section 1. AMENDMENTS. Subject to the provisions of the Certificate of Incorporation, these Bylaws may be altered, amended or repealed or new Bylaws may be adopted by the stockholders or by the Board of Directors, when such power is conferred upon the Board of Directors by the Certificate of Incorporation, at any regular meeting of the stockholders or of the Board of Directors or at any special meeting thereof duly called for that purpose if notice of such alteration, amendment, repeal or adoption of new Bylaws be contained in the notice of such special meeting. Subject to the laws of the State of Delaware, the Certificate of Incorporation and these Bylaws, the Board of Directors may, by majority vote of those present at any meeting at which a quorum is present amend the Bylaws, or enact such other bylaws as in their judgment may be advisable for the regulation of the conduct of the affairs of the Corporation. 15 CERTIFICATE OF SECRETARY I, Fred McGee, Secretary of Daou Systems, Inc., a Delaware corporation, do hereby certify that the foregoing Bylaws of Daou Systems, Inc. are the duly adopted Bylaws of said Corporation as they are in effect on the date hereof. Executed at San Diego, California effective as of December 3, 1996. /s/ Fred McGee ----------------------------- Fred McGee, Secretary 16 EX-4.3 7 EXHIBIT 4.3: INVESTORS' RIGHTS AGMT. DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT -------------- OCTOBER 26, 1995 TABLE OF CONTENTS PAGE ---- ARTICLE I REGISTRATION RIGHTS . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 1.1 DEFINITIONS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 1.2 REQUEST FOR REGISTRATION . . . . . . . . . . . . . . . . . . . . . . 2 1.3 COMPANY REGISTRATION . . . . . . . . . . . . . . . . . . . . . . . . 3 1.4 OBLIGATIONS OF THE COMPANY . . . . . . . . . . . . . . . . . . . . . 3 1.5 FURNISH INFORMATION. . . . . . . . . . . . . . . . . . . . . . . . . 4 1.6 EXPENSES OF DEMAND REGISTRATION. . . . . . . . . . . . . . . . . . . 4 1.7 EXPENSES OF COMPANY REGISTRATION . . . . . . . . . . . . . . . . . . 5 1.8 UNDERWRITING REQUIREMENTS. . . . . . . . . . . . . . . . . . . . . . 5 1.9 [Reserved.]. . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5 1.10 INDEMNIFICATION. . . . . . . . . . . . . . . . . . . . . . . . . . . 6 1.11 REPORTS UNDER 1934 ACT . . . . . . . . . . . . . . . . . . . . . . . 7 1.12 FORM S-3 REGISTRATION. . . . . . . . . . . . . . . . . . . . . . . . 8 1.13 ASSIGNMENT OF REGISTRATION RIGHTS. . . . . . . . . . . . . . . . . . 9 1.14 "MARKET STAND-OFF" AGREEMENT . . . . . . . . . . . . . . . . . . . . 9 1.15 TERMINATION OF REGISTRATION RIGHTS . . . . . . . . . . . . . . . . .10 1.16 RULE 144 AVAILABILITY. . . . . . . . . . . . . . . . . . . . . . . .10 ARTICLE II COVENANTS OF THE COMPANY. . . . . . . . . . . . . . . . . . . . . . . . .10 2.1 DELIVERY OF FINANCIAL STATEMENTS . . . . . . . . . . . . . . . . . .10 2.2 INSPECTION . . . . . . . . . . . . . . . . . . . . . . . . . . . . .11 2.3 TERMINATION OF INFORMATION AND INSPECTION COVENANTS. . . . . . . . .11 2.4 RIGHT OF FIRST OFFER . . . . . . . . . . . . . . . . . . . . . . . .11 2.5 INSURANCE. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .13 2.6 BOARD REPRESENTATION . . . . . . . . . . . . . . . . . . . . . . . .13 2.7 INDEPENDENT ACCOUNTANTS. . . . . . . . . . . . . . . . . . . . . . .13 2.8 ADDITIONAL COVENANTS . . . . . . . . . . . . . . . . . . . . . . . .13 2.9 NEGATIVE COVENANTS . . . . . . . . . . . . . . . . . . . . . . . . .14 2.10 TERMINATION OF CERTAIN COVENANTS . . . . . . . . . . . . . . . . . .14 2.11 USE OF PROCEEDS. . . . . . . . . . . . . . . . . . . . . . . . . . .15 2.12 COMMON STOCK LEGENDS.. . . . . . . . . . . . . . . . . . . . . . . .15 ARTICLE III MISCELLANEOUS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .15 3.1 SUCCESSORS AND ASSIGNS . . . . . . . . . . . . . . . . . . . . . . .15 3.2 GOVERNING LAW. . . . . . . . . . . . . . . . . . . . . . . . . . . .15 3.3 COUNTERPARTS . . . . . . . . . . . . . . . . . . . . . . . . . . . .15 3.4 TITLES AND SUBTITLES . . . . . . . . . . . . . . . . . . . . . . . .15 3.5 NOTICES. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .15 3.6 EXPENSES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .16 -i- 3.7 AMENDMENTS AND WAIVERS . . . . . . . . . . . . . . . . . . . . . . .16 3.8 SEVERABILITY . . . . . . . . . . . . . . . . . . . . . . . . . . . .16 3.9 AGGREGATION OF STOCK . . . . . . . . . . . . . . . . . . . . . . . .16 3.10 ENTIRE AGREEMENT; AMENDMENT; WAIVER. . . . . . . . . . . . . . . . .16 3.11 ADJUSTMENTS FOR STOCK SPLITS . . . . . . . . . . . . . . . . . . . .16 -ii- INVESTORS' RIGHTS AGREEMENT THIS INVESTORS' RIGHTS AGREEMENT, dated as of October 26, 1995, is among DAOU SYSTEMS, INC., a California corporation (the "COMPANY"), and the investors listed on SCHEDULE 1 to this Agreement, each of which is referred to in this Agreement as an "INVESTOR." RECITALS WHEREAS, the Company and the Investors are parties to the Series A Preferred Stock Purchase Agreement of even date herewith (the "SERIES A AGREEMENT") and Joseph H. Daou, Georges J. Daou and Daniel J. Daou (each individually or "FOUNDER" and collectively the "FOUNDERS") and the Investors are parties to the Common Stock Purchase Agreement of even date herewith (the "COMMON STOCK AGREEMENT"); and WHEREAS, in order to induce the Company to enter into the Series A Agreement and Common Stock Agreement and to induce the Investors to invest funds in the Company pursuant to the Series A Agreement and Common Stock Agreement, the Investors and the Company hereby agree that this Agreement will govern the rights of the Investor to cause the Company to register shares of the Company's common stock (the "COMMON STOCK") issued or issuable to the Investors and certain other matters as set forth in this Agreement; NOW, THEREFORE, THE PARTIES HEREBY AGREE AS FOLLOWS: ARTICLE I REGISTRATION RIGHTS 1.1 DEFINITIONS. For purposes of this Agreement: (a) the term "REGISTER", "REGISTERED," and "REGISTRATION" refer to a registration effected by preparing and filing a registration statement or similar document in compliance with the Securities Act of 1933, as amended (the "ACT"), and the declaration or ordering of effectiveness of such registration statement or document; (b) the term "REGISTRABLE SECURITIES" means (i) the Common Stock issuable or issued upon conversion of the Series A Preferred Stock (whether sold pursuant to the Series A Agreement or issuable upon exercise of those certain Series A Preferred Stock Purchase Warrants, dated October 26, 1995, expiring October 26, 2000 and issued to Needham & Company and Needham Capital, S.B.I.C. L.P.) and the Common Stock sold to the Investors pursuant to the Common Stock Agreement, and (ii) any Common Stock issued as (or issuable upon the conversion or exercise of any warrant, right or other security which is issued as) a dividend or other distribution with respect to, or in exchange for or in replacement of, such Series A Preferred Stock or Common Stock, excluding in all cases, however, any Registrable Securities sold by a person in a transaction in which such person's rights under this ARTICLE I are not assigned; -1- (c) the number of shares of "REGISTRABLE SECURITIES THEN OUTSTANDING" will be determined by the number of shares of Common Stock outstanding which are, and the number of shares of Common Stock issuable pursuant to then exercisable or convertible securities which are, Registrable Securities; (d) the term "HOLDER" means any person owning or having the right to acquire Registrable Securities or any assignee thereof in accordance with SECTION 1.13; and (e) the term "FORM S-3" means such form under the Act as in effect on the date of this Agreement or any registration form under the Act subsequently adopted by the Securities and Exchange Commission ("SEC") which permits inclusion or incorporation of substantial information by reference to other documents filed by the Company with the SEC. 1.2 REQUEST FOR REGISTRATION. (a) If the Company receives at any time after the earlier of (i) August 31, 1997, or (ii) three (3) months after the effective date of the first registration statement for a public offering of securities of the Company (other than a registration statement relating either to the sale of securities to employees of the Company pursuant to a stock option, stock purchase or similar plan or a SEC Rule 145 transaction), a written request from the Holders of a majority of the Registrable Securities (but not less than 33 1/3% of the originally issued Series A Preferred Stock) that the Company file a registration statement under the Act covering the registration of the Company's Common Stock where the offering price per share is at least $7.00 per share (appropriately adjusted for any stock split, dividend, combination or other recapitalization) and anticipated aggregate offering price, net of underwriting discounts and commissions, exceeds $15,000,000, then the Company will, within ten days of the receipt thereof, give written notice of such request to all Holders and will, subject to the limitations of SUBSECTION 1.2(b), as soon as practicable, and in any event will use its best efforts to (1) file within 60 days of the receipt of such request, a registration statement under the Act of all Registrable Securities which the Holders request to be registered within 20 days of the mailing of such notice by the Company in accordance with SECTION 3.5 and (2) cause such registration statement to be effective as soon as reasonably practicable thereafter. (b) If the Holders initiating the registration request pursuant to this Agreement ("INITIATING HOLDERS") intend to distribute the Registrable Securities covered by their request by means of an underwriting, they will so advise the Company as a part of their request made pursuant to this SECTION 1.2 and the Company will include such information in the written notice referred to in SUBSECTION 1.2(a). The underwriter will be selected by the Company subject to the acceptance by a majority in interest of the Initiating Holders, which acceptance will not be unreasonably withheld. In such event, the right of any Holder to include such Holder's Registrable Securities in such registration will be conditioned upon such Holder's participation in such underwriting and the inclusion of such Holder's Registrable Securities in the underwriting (unless otherwise mutually agreed by a majority in interest of the Initiating Holders and such Holder) to the extent provided in this Agreement. All Holders proposing to distribute their securities through such underwriting will (together with the Company as provided in SUBSECTION 1.4(e)) enter into an underwriting agreement in customary form with the underwriter or underwriters selected for such underwriting by a majority -2- in interest of the Initiating Holders. Notwithstanding any other provision of this SECTION 1.2, if the underwriter advises the Initiating Holders in writing that marketing factors require a limitation of the number of shares to be underwritten, then the Initiating Holders will so advise all Holders of Registrable Securities which would otherwise be underwritten pursuant to this Agreement, and the number of shares of Registrable Securities that may be included in the underwriting will be allocated among all Holders thereof, including the Initiating Holders, in proportion (as nearly as practicable) to the amount of Registrable Securities of the Company owned by each Holder; provided, however, that the number of shares of Registrable Securities to be included in such underwriting will not be reduced unless all other securities are first entirely excluded from the underwriting. (c) The Company is obligated to effect only one such registration pursuant to this SECTION 1.2. (d) Notwithstanding the foregoing, if the Company furnishes to Holders requesting a registration statement pursuant to this SECTION 1.2, a certificate signed by the President of the Company stating that in the good faith judgment of the Board of Directors of the Company, it would be seriously detrimental to the Company and its shareholders for such registration statement to be filed and it is therefore essential to defer the filing of such registration statement, the Company will have the right to defer such filing one time for a period of not more than 60 days after receipt of the request of the Initiating Holders. 1.3 COMPANY REGISTRATION. If (but without any obligation to do so) the Company proposes to register (including for this purpose a registration effected by the Company for shareholders other than the Holders) any of its stock or other securities under the Act in connection with the public offering of such securities solely for cash (other than a registration relating solely to the sale of securities to participants in a Company stock plan, or a registration on any form which does not include substantially the same information as would be required to be included in a registration statement covering the sale of the Registrable Securities), the Company will, at such time, promptly give each Holder written notice of such registration. Upon the written request of each Holder given within 20 days after mailing of such notice by the Company in accordance with SECTION 3.5, the Company will, subject to the provisions of SECTION 1.8, cause to be registered under the Act all of the Registrable Securities that each such Holder has requested to be registered; provided, however, that the Company will not be obligated to effect more than two such registrations of Holders' Registrable Securities. 1.4 OBLIGATIONS OF THE COMPANY. Except as otherwise expressly specified in this Agreement, whenever required under this ARTICLE I to effect the registration of any Registrable Securities, the Company will, as expeditiously as reasonably possible: (a) Prepare and file with the SEC a registration statement with respect to such Registrable Securities and use its best efforts to cause such registration statement to become effective, and, upon the request of the Holders of a majority of the Registrable Securities registered thereunder, keep such registration statement effective for up to 120 days. -3- (b) Prepare and file with the SEC such amendments and supplements to such registration statement and the prospectus used in connection with such registration statement as may be necessary to comply with the provisions of the Act with respect to the disposition of all securities covered by such registration statement. (c) Furnish to the Holders such numbers of copies of a prospectus, including a preliminary prospectus, in conformity with the requirements of the Act, and such other documents as they may reasonably request in order to facilitate the disposition of Registrable Securities owned by them. (d) Use its best efforts to register and qualify the securities covered by such registration statement under such other securities or Blue Sky laws of such jurisdictions as will be reasonably requested by the Holders, provided that the Company will not be required in connection therewith or as a condition thereto to qualify to do business or to file a general consent to service of process in any such states or jurisdictions. (e) In the event of any underwritten public offering, enter into and perform its obligations under an underwriting agreement, in usual and customary form, with the managing underwriter of such offering. Each Holder participating in such underwriting will also enter into and perform its obligations under such an agreement. (f) Notify each Holder of Registrable Securities covered by such registration statement at any time when a prospectus relating thereto is required to be delivered under the Act of the happening of any event as a result of which the prospectus included in such registration statement, as then in effect, includes an untrue statement of a material fact or omits to state a material fact required to be stated therein or necessary to make the statements therein not misleading in the light of the circumstances then existing. 1.5 FURNISH INFORMATION. (a) It will be a condition precedent to the obligations of the Company to take any action pursuant to this ARTICLE I with respect to the Registrable Securities of any selling Holder that such Holder will furnish to the Company such information regarding itself, the Registrable Securities held by it, and the intended method of disposition of such securities as will be required to effect the registration of such Holder's Registrable Securities. (b) The Company will have no obligation with respect to any registration requested pursuant to SECTION 1.2 or SECTION 1.12 if, due to the operation of SUBSECTION 1.5(a), the anticipated aggregate offering price of the Registrable Securities to be included in the registration does not equal or exceed the anticipated aggregate offering price required to originally trigger the Company's obligation to initiate such registration as specified in SUBSECTION 1.2(a) or SUBSECTION 1.12(b)(ii), whichever is applicable. 1.6 EXPENSES OF DEMAND REGISTRATION. Subject to restrictions under applicable state securities laws, all expenses other than underwriting discounts and commissions incurred in -4- connection with registrations, filings or qualifications pursuant to SECTION 1.2, including (without limitation) all registration, filing and qualification fees, printers' and accounting fees, and fees and disbursements of counsel for the Company will be borne by the Company; PROVIDED, HOWEVER, that the Company will not be required to pay for any expenses of any registration proceeding begun pursuant to SECTION 1.2 if the registration request is subsequently withdrawn at the request of the Holders of a majority of the Registrable Securities to be registered (in which case all Participating Holders will bear such expenses), unless (i) the Holders of a majority of the originally issued Series A Preferred Stock agree to forfeit their right to one demand registration pursuant to SECTION 1.2 or (ii) such withdrawal was caused by a material adverse change in the Company that has arisen subsequent to the time of the request. 1.7 EXPENSES OF COMPANY REGISTRATION. Subject to restrictions under applicable state securities laws, the Company will bear and pay all expenses incurred in connection with any registration, filing or qualification of Registrable Securities with respect to the registrations pursuant to SECTION 1.3 for each Holder (which right may be assigned as provided in SECTION 1.13), including (without limitation) all registration, filing, and qualification fees, printers and accounting fees relating or apportionable thereto, but excluding underwriting discounts and commissions relating to Registrable Securities. 1.8 UNDERWRITING REQUIREMENTS. In connection with any offering involving an underwriting of shares of the Company's capital stock, the Company will not be required under SECTION 1.3 to include any of the Holders' securities in such underwriting unless they accept the terms of the underwriting as agreed upon between the Company and the underwriters selected by it (or by other persons entitled to select the underwriters), and then the Company will have a right to limit the number of shares to such number as it will determine in good faith will not jeopardize the success of the offering by the Company. If the total amount of securities, including Registrable Securities, requested by shareholders to be included in such offering exceeds the amount of securities sold other than by the Company that the Company determines in good faith is compatible with the success of the offering, then the Company will be required to include in the offering only that number of such securities, including Registrable Securities, which the Company determines in good faith will not jeopardize the success of the offering (the securities so included to be apportioned pro rata among the selling shareholders according to the total amount of securities entitled to be included therein owned by each selling shareholder or in such other proportions as will mutually be agreed to by such selling shareholder; provided that any Registrable Securities held by officers and directors of the Company will be excluded from such registration to the extent required by such limitations). For purposes of the preceding parenthetical concerning apportionment, for any selling shareholder which is a Holder of Registrable Securities and which is a partnership or corporation, the partners, retired partners and shareholders of such Holder, or the estates and family members of any such partners and retired partners and any trusts for the benefit of any of the foregoing persons will be deemed to be a single "SELLING SHAREHOLDER," and any pro-rata reduction with respect to such "selling shareholder" will be based upon the aggregate amount of shares carrying registration rights owned by all entities and individuals included in such "selling shareholder," as defined in this sentence. 1.9 [RESERVED.] -5- 1.10 INDEMNIFICATION. If any Registrable Securities are included in a registration statement under this ARTICLE I: (a) To the extent permitted by law, the Company will indemnify and hold harmless each Holder, each of its directors and each of its officers, any underwriter (as defined in the Act) for such Holder and each person, if any, who controls such Holder or underwriter within the meaning of the Act or the Securities Exchange Act of 1934, as amended (the "EXCHANGE ACT"), against any losses, claims, damages, or liabilities (joint or several) to which they may become subject under the Act, or the Exchange Act, insofar as such losses, claims, damages, or liabilities (or actions in respect thereof) arise out of or are based upon any of the following statements, omissions or violations (collectively a "VIOLATION"): (i) any untrue statement or alleged untrue statement of a material fact contained in such registration statement, including any preliminary prospectus or final prospectus contained therein or any amendments or supplements thereto, (ii) the omission or alleged omission to state therein a material fact required to be stated therein, or necessary to make the statements therein not misleading, or (iii) any violation or alleged violation by the Company of the Act, the Exchange Act, or any rule or regulation promulgated under the Act, or the Exchange Act; and the Company will pay to each such Holder, director, officer, underwriter or controlling person, any legal or other expenses reasonably incurred by them in connection with investigating or defending any such loss, claim, damage, liability, or action; provided, however, that the indemnity agreement contained in this SUBSECTION 1.10(a) will not apply to amounts paid in settlement of any such loss, claim, damage, liability, or action if such settlement is effected without the consent of the Company (which consent will not be unreasonably withheld), nor will the Company be liable in any such case for any such loss, claim, damage, liability, or action to the extent that it arises out of or is based upon a Violation which occurs in reliance upon and in conformity with written information furnished expressly for use in connection with such registration by any such Holder, director, officer, underwriter or controlling person. (b) To the extent permitted by law, each selling Holder will indemnify and hold harmless the Company, each of its directors, each of its officers who has signed the registration statement, each person, if any, who controls the Company within the meaning of the Act, any underwriter, any other Holder selling securities in such registration statement and any controlling person of any such underwriter or other Holder, against any losses, claims, damages, or liabilities (joint or several) to which any of the foregoing persons may become subject, under the Act or the Exchange Act insofar as such losses, claims, damages, or liabilities (or actions in respect thereto) arise out of or are based upon any Violation, in each case to the extent (and only to the extent) that such Violation occurs in reliance upon and in conformity with written information furnished by such Holder expressly for use in connection with such registration; and each such Holder will pay any legal or other expenses reasonably incurred by any person intended to be indemnified pursuant to this SUBSECTION 1.10(b), in connection with investigating or defending any such loss, claim, damage, liability, or action; provided, however, that the indemnity agreement contained in this SUBSECTION 1.10(b) will not apply to amounts paid in settlement of any such loss, claim, damage, liability or action if such settlement is effected without the consent of the Holder, which consent will not be unreasonably withheld; provided, that, in no event will any indemnity under this SUBSECTION 1.10(b) exceed the proceeds from the offering net of sales commission, if any, received by such Holder. -6- (c) Promptly after receipt by an indemnified party under this SECTION 1.10 of notice of the commencement of any action (including any governmental action), such indemnified party will, if a claim in respect thereof is to be made against any indemnifying party under this SECTION 1.10, deliver to the indemnifying party a written notice of the commencement thereof and the indemnifying party will have the right to participate in, and, to the extent the indemnifying party so desires, jointly with any other indemnifying party similarly noticed, to assume the defense thereof with counsel mutually satisfactory to the parties; provided, however, that an indemnified party (together with all other indemnified parties which may be represented without conflict by one counsel) will have the right to retain one separate counsel, with the fees and expenses to be paid by the indemnifying party, if representation of such indemnified party by the counsel retained by the indemnifying party is inappropriate due to actual or potential differing interests between such indemnified party and any other party represented by such counsel in such proceeding. The failure to deliver written notice to the indemnifying party within a reasonable time of the commencement of any such action, if prejudicial to its ability to defend such action, will relieve such indemnifying party of any liability to the indemnified party under this SECTION 1.10, but the omission so to deliver written notice to the indemnifying party will not relieve it of any liability that it may have to any indemnified party otherwise than under this SECTION 1.10. (d) If the indemnification provided for in this SECTION 1.10 is held by a court of competent jurisdiction to be unavailable to an indemnified party with respect to any loss, liability, claim, damage, or expense referred to therein, then the indemnifying party, in lieu of indemnifying such indemnified party to this Agreement, will contribute to the amount paid or payable by such indemnified party as a result of such loss, liability, claim, damage, or expense in such proportion as is appropriate to reflect the relative fault of the indemnifying party on the one hand and of the indemnified party on the other in connection with the statements or omissions that resulted in such loss, liability, claim, damage, or expense as well as any other relevant equitable considerations. The relative fault of the indemnifying party and of the indemnified party will be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission to state a material fact relates to information supplied by the indemnifying party or by the indemnified party and the parties' relative intent, knowledge, access to information, and opportunity to correct or prevent such statement or omission. (e) Notwithstanding the foregoing, to the extent that the provisions on indemnification and contribution contained in the underwriting agreement entered into in connection with the underwritten public offering are in conflict with the foregoing provisions, the provisions in the underwriting agreement will control. (f) The obligations of the Company and Holders under this SECTION 1.10 will survive the completion of any offering of Registrable Securities in a registration statement under this ARTICLE I, and otherwise. 1.11 REPORTS UNDER 1934 ACT. With a view to making available to the Holders the benefits of Rule 144 promulgated under the Act and any other rule or regulation of the SEC that may at any time permit a Holder to sell securities of the Company to the public without registration or pursuant to a registration on Form S-3, the Company will: -7- (a) make and keep public information available, as those terms are understood and defined in SEC Rule 144, at all times after 90 days after the effective date of the first registration statement filed by the Company for the offering of its securities to the general public; (b) take such action, including the voluntary registration of its Common Stock under Section 12 of the Exchange Act, as is necessary to enable the Holders to utilize Form S-3 for the sale of their Registrable Securities, such action to be taken as soon as practicable after the end of the fiscal year in which the first registration statement filed by the Company for the offering of its securities to the general public is declared effective; (c) file with the SEC in a timely manner all reports and other documents required of the Company under the Act and the Exchange Act; and (d) furnish to any Holder, so long as the Holder owns any Registrable Securities, forthwith upon request (i) a written statement by the Company that it has complied with the reporting requirements of SEC Rule 144 (at any time after 90 days after the effective date of the first registration statement filed by the Company), the Act and the Exchange Act (at any time after it has become subject to such reporting requirements), or that it qualifies as a registrant whose securities may be resold pursuant to Form S-3 (at any time after it so qualifies), (ii) a copy of the most recent annual or quarterly report of the Company and such other reports and documents so filed by the Company, and (iii) such other information as may be reasonably requested in availing any Holder of any rule or regulation of the SEC which permits the selling of any such securities without registration or pursuant to such form. 1.12 FORM S-3 REGISTRATION. In case the Company will receive from any Holder or Holders of at least 10% of the originally issued Series A Preferred Stock or such lesser percentage provided the proposed sale of Registrable Securities equals or exceeds the aggregate price threshold specified in SUBSECTION 1.12(b)(ii) below) a written request or requests that the Company effect a registration on Form S-3 and any related qualification or compliance with respect to all or a part of the Registrable Securities owned by such Holder or Holders, the Company will: (a) promptly give written notice of the proposed registration, and any related qualification or compliance, to all other Holders; and (b) as soon as practicable, effect such registration and all such qualifications and compliances as may be so requested and as would permit or facilitate the sale and distribution of all or such portion of such Holder's or Holders' Registrable Securities as are specified in such request, together with all or such portion of the Registrable Securities of any other Holder or Holders joining in such request as are specified in a written request given within 15 days after receipt of such written notice from the Company; provided, however, that the Company will not be obligated to effect any such registration, qualification or compliance, pursuant to this SECTION 1.12: (i) if Form S-3 (or any successor short-form registration) is not available for such offering by the Holders; (ii) if the Holders, together with the holders of any other securities of the Company entitled to inclusion in such registration, propose to sell Registrable Securities and such other securities (if any) at an aggregate price to the public (net of any underwriters' discounts or commissions) of less than -8- $5,000,000; (iii) if the Company furnishes to the Holders a certificate signed by the President of the Company stating that in the good faith judgment of the Board of Directors of the Company, it would be seriously detrimental to the Company and its shareholders for such Form S-3 Registration to be effected at such time, in which event the Company will have the right to defer the filing of the Form S-3 registration statement for a period of not more than 60 days after receipt of the request of the Holder or Holders under this SECTION 1.12; provided, however, that the Company will not utilize this right more than once in any twelve-month period; (iv) if the Company has, already effected two registrations on Form S-3 for the Holders pursuant to this SECTION 1.12; or (v) in any particular jurisdiction in which the Company would be required to qualify to do business or to execute a general consent to service of process in effecting such registration, qualification or compliance. (c) Subject to the foregoing, the Company will file a registration statement covering the Registrable Securities and other securities so requested to be registered as soon as practicable after receipt of the request or requests of the Holders; provided, however, that the Company will not be obligated to effect more than two registrations pursuant to this SECTION 1.12. All expenses incurred in connection with a registration requested pursuant to SECTION 1.12, including (without limitation) all registration, filing, qualification, printer's and accounting fees and the reasonable fees and disbursements of counsel for the Company, but excluding any underwriters' discounts or commissions associated with Registrable Securities, will be borne by the Company. Registrations effected pursuant to this SECTION 1.12 will not be counted as demands for registration or registrations effected pursuant to SECTIONS 1.2 or 1.3, respectively. 1.13 ASSIGNMENT OF REGISTRATION RIGHTS. The rights to cause the Company to register Registrable Securities pursuant to this ARTICLE I may be assigned (but only with all related obligations) by a Holder to a transferee or assignee of such securities who, after such assignment or transfer, holds at least 250,000 shares (as may be determined by reference to SECTION 3.9) of Registrable Securities (subject to appropriate adjustment for stock splits, stock dividends, combinations and other recapitalizations), PROVIDED the Company is, within a reasonable time after such transfer, furnished with written notice of the name and address of such transferee or assignee and the securities with respect to which such registration rights are being assigned; and PROVIDED, FURTHER, that such assignment will be effective only if immediately following such transfer the further disposition of such securities by the transferee or assignee is restricted under the Act and PROVIDED, FURTHER, that such assignment will be effective only in connection with a transfer or assignment of such securities effected prior to the effective date of a public offering with an aggregate net offering price in the amount referenced in SECTION 1.2 of this Agreement. 1.14 "MARKET STAND-OFF" AGREEMENT. Notwithstanding the rights granted pursuant to SECTION 1.2(a), each Investor hereby agrees that, during the period of duration (not to exceed 180 days) specified by the Company and an underwriter of Common Stock or other securities of the Company, following the effective date of a registration statement of the Company filed under the Act, it will not, to the extent requested by the Company and such underwriter, directly or indirectly sell, offer to sell, contract to sell (including, without limitation, any short sale), grant any option to purchase or otherwise transfer or dispose of (other than to donees who agree to be similarly bound) any securities of the Company held by it at any time during such period except Common Stock included in such registration; provided, however, that: -9- (a) such agreement will be applicable only to the first such registration statement of the Company which covers Common Stock (or other securities) to be sold on its behalf to the public in an underwritten offering; and (b) all officers and directors of the Company and all other persons with registration rights (whether or not pursuant to this Agreement) enter into similar agreements. In order to enforce the foregoing covenant, the Company may impose stop-transfer instructions with respect to the Registrable Securities of each Investor (and the shares or securities of every other person subject to the foregoing restriction) until the end of such period. 1.15 TERMINATION OF REGISTRATION RIGHTS. No Holder will be entitled to exercise any right provided for in this ARTICLE I after seven years following the consummation of the sale of securities pursuant to a registration statement filed by the Company under the Act in connection with the initial firm commitment underwritten offering of its securities to the general public. 1.16 RULE 144 AVAILABILITY. Notwithstanding anything to the contrary above in this ARTICLE I, prior to exercising any right provided for in this ARTICLE I each Holder will (i) evaluate in good faith whether such Holder is otherwise permitted to sell the entire amount of Registrable Securities it is then seeking to register within the time period it desires to sell pursuant to Rule 144 of the Exchange Act, or any successor regulation thereto and (ii) exercise such rights only in the case that it determines in good faith that such rights are necessary to sell such Registerable Securities in a timely manner. ARTICLE II COVENANTS OF THE COMPANY 2.1 DELIVERY OF FINANCIAL STATEMENTS. So long as any Investor holds in the aggregate, a minimum of 100,000 shares of Common Stock and Series A Preferred Stock (and/or any Common Stock issued upon conversion thereof) (each such Investor being a "MAJOR INVESTOR"), the Company will deliver to each such Major Investor (subject to such Major Investor's agreement to maintain it in strict confidence): (a) as soon as practicable, but in any event within 90 days after the end of each fiscal year of the Company, an income statement for such fiscal year, a balance sheet of the Company and statement of shareholder's equity as of the end of such year, and a schedule as to the sources and applications of funds for such year, such year-end financial reports to be in reasonable detail, prepared in accordance with generally accepted accounting principles ("GAAP"), and audited and certified by independent public accountants of nationally recognized standing selected by the Company; (b) as soon as practicable, but in any event within 45 days after the end of each of the first three quarters of each fiscal year of the Company, an unaudited profit or loss statement, schedule as to the sources and application of funds for such fiscal quarter and an unaudited balance sheet as of the end of such fiscal quarter. -10- (c) within 30 days of the end of each month, an unaudited income statement and schedule as to the sources and application of funds and balance sheet for and as of the end of such month, in reasonable detail; (d) as soon as practicable, but in any event, prior to the end of each fiscal year, a budget for the next fiscal year; (e) with respect to the financial statements called for in SUBSECTIONS (b) and (c) of this SECTION 2.1, an instrument executed by the Chief Financial Officer or President of the Company and certifying that such financial statements were prepared in accordance with GAAP consistently applied with prior practice for earlier periods (with the exception of footnotes that may be required by GAAP) and fairly present the financial condition of the Company and its results of operation for the period specified, subject to year-end audit adjustment; and (f) such other information relating to the financial condition, business, prospects or corporate affairs of the Company as the Major Investor or any assignee of the Major Investor may from time to time reasonably request, provided, however, that the Company will not be obligated under this SUBSECTION 2.1(f) or any other subsection of SECTION 2.1 to provide information which it deems in good faith to be a trade secret or similar confidential information. 2.2 INSPECTION. The Company will permit each Major Investor, at such Major Investor's expense, to visit and inspect the Company's properties, to examine its books of account and records and to discuss the Company's affairs, finances and accounts with its officers, employees and independent accountants all at such reasonable times as may be requested by the Major Investor; provided, however, that the Company will not be obligated pursuant to this SECTION 2.2 to provide access to any information which it reasonably considers to be a trade secret or similar confidential information. 2.3 TERMINATION OF INFORMATION AND INSPECTION COVENANTS. The covenants set forth in SUBSECTIONS 2.1 and SECTION 2.2 will terminate as to Investors and be of no further force or effect when the sale of securities pursuant to a registration statement filed by the Company under the Act in connection with the firm commitment underwritten offering of its securities to the general public is consummated or when the Company first becomes subject to the periodic reporting requirements of Sections 12(g) or 15(d) of the Exchange Act, whichever event first occurs. 2.4 RIGHT OF FIRST OFFER. Subject to the terms and conditions specified in this SECTION 2.4, the Company hereby grants to each Investor a right of first offer with respect to future sales by the Company of its Shares (as defined below). For purposes of this SECTION 2.4, Investor includes any general partners and affiliates of an Investor. An Investor will be entitled to apportion the right of first offer hereby granted it among itself and its partners and affiliates in such proportions as it deems appropriate. Each time the Company proposes to offer any shares of, or securities convertible into or exercisable for any shares of, any class of its capital stock ("OFFERED SHARES"), the Company will -11- first make an offering of such Offered Shares to each Investor in accordance with the following provisions: (a) NOTICE. The Company will deliver a notice by certified mail ("NOTICE") to the Investors stating (i) its bona fide intention to offer such Offered Shares, (ii) the number of such Offered Shares to be offered, and (iii) the price and terms, if any, upon which it proposes to offer such Offered Shares. (b) MECHANICS. (i) Within 20 calendar days after receipt of the Notice, the Investor may elect to purchase or obtain, at the price and on the terms specified in the Notice, up to that portion of such Offered Shares which equals the proportion that the number of shares of Common Stock issued and held, or issuable upon conversion of the Series A Preferred Stock then held, by such Investor bears to the total number of shares of Common Stock outstanding (assuming full conversion and exercise of all convertible or exercisable securities) (that number of shares of Common Stock being the Investor's "PRO RATA PORTION"). (ii) The Company will promptly, in writing, inform each Investor which purchases all of its Pro Rata Portion (a "FULLY-EXERCISING INVESTOR") of any other Investor's failure to do likewise (a "NON-FULLY EXERCISING INVESTOR"). (iii) During the ten-day period commencing after receipt of such information, each Fully-Exercising Investor will be entitled to obtain that portion of the Offered Shares not subscribed for by the Investors which is equal to the proportion that the number of shares of Common Stock issued and held, or issuable upon conversion of Series A Preferred Stock then held, by such Fully-Exercising Investor bears to the total number of shares of Common Stock issued and held, or issuable upon conversion of the Series A Preferred Stock then held, by all Fully-Exercising Investors who wish to purchase some of the unsubscribed shares. (c) If all Offered Shares referred to in the Notice are not elected to be obtained as provided in SUBSECTION 2.4(b) the Company may, during the 30-day period following the expiration of the period provided in SUBSECTION 2.4(b) offer the remaining unsubscribed portion of such Offered Shares to any person or persons at a price not less than, and upon terms no more favorable to the offeree than those specified in the Notice. If the Company does not enter into an agreement for the sale of the Offered Shares within such period, or if such agreement is not consummated within 30 days of the execution thereof, the right provided pursuant to this Agreement will be deemed to be revived and such Offered Shares will not be offered unless first reoffered to the Investors in accordance with this Agreement. (d) EXCLUDED OFFERS. The right of first offer in this SECTION 2.4 will not be applicable (i) to the issuance or sale of Common Stock (or options therefor) under any stock incentive or option plan otherwise approved by the Board of Directors to employees for the primary purpose of soliciting or retaining their employment, (ii) to or after consummation of a bona fide, firmly underwritten public offering of shares of Common Stock, registered under the Act pursuant to a registration statement on Form S-1, at an offering price of at least $7.00 per share (appropriately adjusted for any stock split, dividend, combination or other recapitalization) and $15,000,000 in the aggregate, (iii) to the issuance of securities pursuant to the conversion or exercise of convertible or exercisable securities, (iv) to the issuance of securities in connection with a bona fide business acquisition of or by the Company, whether by merger, consolidation, sale of assets, sale or exchange -12- of stock or otherwise or (v) to the issuance of stock, warrants or other securities or rights to consultants, directors or other persons or entities with which the Company has strategic business relationships provided that the terms of such issuance have been approved by the Board of Directors. 2.5 INSURANCE. The Company will obtain and maintain in full force and effect for a period of at least five years from the date of this Agreement (unless such key employee is terminated or resigns) term life insurance in the amount of $2 million on the lives of Georges and Daniel Daou, with proceeds payable to the Company. Furthermore, the Company will use its best efforts to obtain, as soon as is commercially reasonable subsequent to the Closing, general liability insurance, with policy limits of $3,000,000 per occurrence and $5,000,000 in the aggregate. 2.6 BOARD REPRESENTATION. So long as each of (a) Galen Partners II, L.P., Galen Partners International II, L.P., and Galen Employee Fund, L.P. (collectively, "Galen") or (b) Information Associates, L.P. and Information Associates, C.V. (collectively "Information Associates") owns not less than 181,818 shares of the Series A Preferred Stock it is purchasing under this Agreement, (or an equivalent amount of Common Stock issued upon conversion thereof), the Company will use its best efforts to cause the election to the Board of Directors and thereafter maintain a Director nominated by Galen and a Director nominated by Trident. Furthermore, as soon as all vacancies on the Board of Directors have been filled, the Company will use its best efforts to amend the Company's Restated Bylaws to change the minimum quorum required for meetings of the Board of Directors from one-third to a majority of the authorized number of Directors. 2.7 INDEPENDENT ACCOUNTANTS. The Company will retain independent public accountants of recognized national standing. For the purposes of SECTION 2.7, the independent public accountants of national standing will consist of these firms comprising the "Big Six" as they are recognized currently, and their respective successors. 2.8 ADDITIONAL COVENANTS. So long as not less than 50% of the originally issued Series A Preferred Stock is still outstanding, the Company agrees as follows: (a) the Company will promptly pay and discharge, or cause to be paid and discharged, when due and payable, (i) all lawful taxes, assessments, and governmental charges or levies imposed upon the income, profits, property, or business of the Company or any subsidiary; provided, however, that any such tax, assessment, charge, or levy need not be paid if the validity thereof will currently be contested in good faith by appropriate proceedings and if the Company will have set aside on its books adequate reserves with respect thereof, and provided further, that the Company will pay all such taxes, assessments, charges, or levies forthwith upon the commencement of proceedings to foreclose any lien that may have attached as security therefor and (ii) in conformance with customary trade terms, all other indebtedness incident to the operations of the Company; (b) the Company will keep its properties and those of its subsidiaries in good repair, working order, and condition, reasonable wear and tear excepted, and from time to time make all needful and proper repairs, renewals, replacements, additions, and improvements thereto; and the Company and its subsidiaries will at all times comply with the provisions of all material leases to -13- which any of them is a party or under which any of them occupies property so as to prevent any loss or forfeiture thereof or thereunder; (c) the Company will keep its assets and those of its subsidiaries that are of an insurable character insured by financially sound and reputable insurers against loss or damage by fire, extended coverage, and explosion insurance in amounts customary for companies in similar businesses similarly situated; and the Company will maintain, with financially sound and reputable insurers, insurance against other hazards, risks, and liabilities to persons and property to the extent and in the manner customary for companies in similar businesses similarly situated; (d) the Company will keep true records and books of account in which full, true, and correct entries will be made of all dealings or transactions in relation to its business and affairs in accordance with GAAP applied on a consistent basis; (e) the Company and all its subsidiaries will duly observe and conform to all valid requirements of governmental authorities relating to the conduct of their businesses or to their property or assets; (f) the Company will maintain in full force and effect its corporate existence, rights, and franchises and all licenses and other rights to use patents, processes, licenses, trademarks, trade names, or copyrights owned or possessed by it or any subsidiary and deemed by the Company to be necessary to the conduct of its business; (g) the Company will indemnify fully all directors of the Company to the maximum extent permitted by applicable law, except that directors' and officers' liability insurance will only be obtained with the express approval of the Company's Board of Directors. 2.9 NEGATIVE COVENANTS. So long as not less than 50% of the originally issued Series A Preferred Stock is still outstanding, the Company will not, without the prior written consent of the holders of not less than 50% of outstanding Series A Preferred Stock: (a) grant any increase in compensation, options or other extraordinary renumeration to any member of management in connection with the sale of the Company, or any of its subsidiaries, or the termination of employment or otherwise, unless such plan or action has been approved by a majority of the then disinterested members of the Board of Directors; (b) declare any dividend on the Common Stock of the Company without the affirmative vote of at least one of the members of the Board of Directors nominated by the holders of the Series A Preferred Stock; (c) grant any person registration rights which will be exercisable prior to August 31, 1997 or otherwise on terms more favorable than the registration rights granted to the Investors pursuant to this Agreement. -14- 2.10 TERMINATION OF CERTAIN COVENANTS. The covenants set forth in SECTIONS 2.6, 2.7, 2.8 and 2.9 will terminate and be of no further force or effect upon the consummation of the sale of securities pursuant to a registration statement filed by the Company under the Act in connection with the firm commitment underwritten offering of its securities to the general public. 2.11 USE OF PROCEEDS. The proceeds of the sale of the Series A Preferred Stock pursuant to the Series A Agreement will be used for general working capital purposes with a portion intended to be used for the expansion of regional offices and systems integration business across the United States. 2.12 COMMON STOCK LEGENDS. The Company will, as soon as reasonably practicable, make an application to the California Department of Corporations for approval to remove the legends restricting transfer set forth on the Company's shares of Common Stock pursuant to Section 25102(h) of the California Corporations Code (the "25102(h) legend"). In the event that, on or before the 9th month anniversary of the date of this Agreement, such 25102(h) legends have not been removed from such share certificates, the Company will issue to the holders of such shares of the Company's Common Stock, at such holders' option, one share of the Company's Series A Preferred Stock in consideration for the delivery for the exchange of each share of the Company's Common Stock and one dollar ($1.00). The holder of such shares of Common Stock will exercise such option by providing the Company with written notice of the holders intention to exercise such option no later than 10 days after such 9th month anniversary, together with delivery of the shares of Common Stock to be exchanged, along with one dollar ($1.00) per each such share subject to adjustment upward or downward, if applicable, for stock splits, dividends, etc. ARTICLE III MISCELLANEOUS 3.1 SUCCESSORS AND ASSIGNS. Except as otherwise provided in this Agreement, the terms and conditions of this Agreement will inure to the benefit of and be binding upon the respective successors and assigns of the parties (including transferees of any shares of Registrable Securities). Nothing in this Agreement, express or implied, is intended to confer upon any party other than the parties to this Agreement or their respective successors and assigns any rights, remedies, obligations, or liabilities under or by reason of this Agreement, except as expressly provided in this Agreement. 3.2 GOVERNING LAW. This Agreement will be governed by and construed under the laws of the State of California as applied to agreements among California residents entered into and to be performed entirely within California. 3.3 COUNTERPARTS. This Agreement may be executed in two or more counterparts, each of which will be deemed an original, but all of which together will constitute one and the same instrument. 3.4 TITLES AND SUBTITLES. The titles and subtitles used in this Agreement are used for convenience only and are not to be considered in construing or interpreting this Agreement. -15- 3.5 NOTICES. Unless otherwise provided, any notice required or permitted under this Agreement will be given in writing and will be deemed effectively given upon personal delivery to the party to be notified, by telecopy upon the appropriate answer-back, or upon deposit with the United States Post Office, by registered or certified mail, postage prepaid and addressed to the party to be notified at the address indicated for such party on the signature page of this Agreement, or at such other address as such party may designate by ten days' advance written notice to the other parties. 3.6 EXPENSES. If any action at law or in equity is necessary to enforce or interpret the terms of this Agreement, the prevailing party will be entitled to reasonable attorneys' fees, costs and necessary disbursements in addition to any other relief to which such party may be entitled. 3.7 AMENDMENTS AND WAIVERS. Any term of this Agreement may be amended and the observance of any term of this Agreement may be waived (either generally or in a particular instance and either retroactively or prospectively), only with the written consent of the Company and the Holders of a majority of the Registrable Securities then outstanding. Any amendment or waiver effected in accordance with this paragraph will be binding upon each Holder of any Registrable Securities then outstanding, each future Holder of all such Registrable Securities, and the Company. 3.8 SEVERABILITY. If one or more provisions of this Agreement are held to be unenforceable under applicable law, such provision will be excluded from this Agreement and the balance of the Agreement will be interpreted as if such provision were so excluded and will be enforceable in accordance with its terms. 3.9 AGGREGATION OF STOCK. All shares of Registrable Securities held or acquired by affiliated entities or persons will be aggregated together for the purpose of determining the availability of any rights under this Agreement. 3.10 ENTIRE AGREEMENT; AMENDMENT; WAIVER. This Agreement (including the Exhibits to this Agreement, if any) constitutes the full and entire understanding and agreement between the parties with regard to the subjects of this Agreement and thereof. 3.11 ADJUSTMENTS FOR STOCK SPLITS. Wherever in this Agreement there is a reference to a specific number of shares of Common Stock or Preferred Stock of the Company of any class or series, or a reference to any amount of dollars per any such share, then, upon the occurrence of any subdivision, combination or stock dividend of such class or series of stock, the specific number of shares or the specific dollar amount so referenced in this Agreement will automatically be proportionately adjusted to reflect the effect on the outstanding shares of such class of series of stock by such subdivision, combination or stock dividend. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] -16- IN WITNESS WHEREOF, the parties have executed this Agreement as of the date first above written. THE COMPANY: DAOU SYSTEMS, INC. By: /s/ Georges J. Daou ------------------------------------ Name: Georges J. Daou Title: Chief Executive Officer THE INVESTORS: GALEN PARTNERS II, L.P., a Delaware Limited Partnership By: GWW Partners, L.P., a Delaware Limited Partnership By: /s/ ------------------------------------ General Partner 666 Third Avenue Suite 1400 New York, NY 10017 Fax: (212) 818-0355 GALEN PARTNERS INTERNATIONAL II, L.P., a Delaware Limited Partnership By: GWW Partners, L.P., a Delaware Limited Partnership By: /s/ ------------------------------------ General Partner 666 Third Avenue Suite 1400 New York, NY 10017 Fax: (212) 818-0355 [SIGNATURE PAGE TO DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT] -17- THE INVESTORS: GALEN EMPLOYEE FUND, L.P., a Delaware Limited Partnership By: /s/ Bruce F. Wesson ------------------------------------ Bruce F. Wesson General Partner 666 Third Ave. Suite 1400 New York, NY 10017 Fax: (212) 818-0355 [SIGNATURE PAGE TO DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT] -18- THE INVESTORS: PYXIS CORPORATION, a Delaware corporation By: /s/ Victor C. Streufert ------------------------------------- Victor C. Streufert Vice President Chief Financial Officer 9380 Carrol Park Drive San Diego, CA 92121 Fax: (619) 625-6684 [SIGNATURE PAGE TO DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT] -19- THE INVESTORS: INFORMATION ASSOCIATES, L.P, a Delaware Limited Partnership By: Trident Capital Management, LLC, a Delaware Limited Liability Company By: /s/ -------------------------------------- Managing Director 2480 Sand Hill Road Suite 201 Menlo Park, CA 94025 Fax: (415) 233-4333 [SIGNATURE PAGE TO DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT] -20- THE INVESTORS: HLM PARTNERS, VII L.P., a Delaware Limited Partnership By: /s/ Judith P. Lawrie ------------------------------------ Judith P. Lawrie, a general partner 222 Berkeley Street Boston, MA 02116 Fax: (617) 266-3619 NEEDHAM CAPITAL, S.B.I.C. L.P., a Delaware Limited Partnership By: /s/ John C. Michaelson ------------------------------------ John C. Michaelson, a general partner 455 Park Avenue Third Floor New York, NY 10022 Fax: (212) 371-8418 NEEDHAM EMERGING GROWTH PARTNERS, L.P., a Delaware Limited Partnership By: /s/ Raj Rajaratnam ------------------------------------ Raj Rajaratnam, a general partner 455 Park Avenue Third Floor New York, NY 10022 Fax: (212) 371-8418 [SIGNATURE PAGE TO DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT] -21- THE INVESTORS: THE CHASE MANHATTAN BANK NA CUST. FBO BERNARD H. LIROLA, IRA ROLLOVER, TAX ID NO. 13-3228741 By: /s/ Brenda Jackson ------------------------------------- Brenda Jackson, Custodian Second Vice President [SIGNATURE PAGE TO DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT] -22- THE INVESTORS: /s/ Raj Rajaratnam ----------------------------------------- Raj Rajaratnam 60 Sutton Place South Apartment 18-BN New York, New York 10022 Fax: (212) 371-8418 /s/ Krishen Sud ---------------------------------------- Krishen Sud 30 West 61st Street Apartment 26D New York, New York 10023 Fax: (212) 371-8418 [SIGNATURE PAGE TO DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT] -23- THE INVESTORS: INFORMATION ASSOCIATES, C.V., a Netherlands Antilles Limited Partnership By: Trident Capital Management, LLC, a Delaware Limited Liability Company By: /s/ ------------------------------------ Managing Director 2480 Sand Hill Road Suite 201 Menlo Park, CA 94025 Fax: (415) 233-4333 [SIGNATURE PAGE TO DAOU SYSTEMS, INC. INVESTORS' RIGHTS AGREEMENT] -24- SCHEDULE 1 INVESTORS - -------------------------------------------------------------------------------- NAME AND ADDRESS - -------------------------------------------------------------------------------- Galen Partners II, L.P. 666 Third Avenue Suite 1400 New York, NY 10017 - -------------------------------------------------------------------------------- Galen Partners International II, L.P. 666 Third Avenue Suite 1400 New York, NY 10017 - -------------------------------------------------------------------------------- Galen Employee Fund, L.P. 666 Third Avenue Suite 1400 New York, NY 10017 - -------------------------------------------------------------------------------- Information Associates, L.P. 2480 Sand Hill Road, Suite 201 Menlo Park, CA 94025 - -------------------------------------------------------------------------------- Information Associates, C.V. 2480 Sand Hill Road, Suite 201 Menlo Park, CA 94025 - -------------------------------------------------------------------------------- Pyxis Corporation 9380 Carroll Park Drive San Diego, CA 92121 - -------------------------------------------------------------------------------- HLM Partners, VII L.P. 222 Berkeley Street Boston, MA 02116 - -------------------------------------------------------------------------------- Needham Capital S.B.I.C., L.P. 445 Park Avenue Third Floor New York, NY 10022 - -------------------------------------------------------------------------------- Needham Emerging Growth Partners, L.P. 445 Park Avenue Third Floor New York, NY 10022 - -------------------------------------------------------------------------------- -1- SCHEDULE 1 INVESTORS - -------------------------------------------------------------------------------- NAME AND ADDRESS - -------------------------------------------------------------------------------- BERNARD H. LIROLA, IRA Rollover 239 Central Park West Apartment 10A New York, New York 10024 - -------------------------------------------------------------------------------- Raj Rajaratnam 60 Sutton Place South Apartment 18-BN New York, New York 10022 - -------------------------------------------------------------------------------- Krishen Sud 30 West 61st Street Apartment 26D New York, New York 10023 - -------------------------------------------------------------------------------- -2- EX-4.4 8 EXHIBIT 4.4: SERIES A WARRANT NO. 1 THE TRANSFER OF THIS WARRANT IS SUBJECT TO RESTRICTIONS CONTAINED HEREIN. THIS WARRANT HAS BEEN ISSUED IN RELIANCE UPON THE REPRESENTATION OF THE HOLDER THAT IT HAS BEEN ACQUIRED FOR INVESTMENT PURPOSES AND NOT WITH A VIEW TOWARDS THE RESALE OR OTHER DISTRIBUTION THEREOF. NEITHER THIS WARRANT NOR THE SHARES ISSUABLE UPON THE EXERCISE OF THIS WARRANT, HAVE BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933 OR ANY STATE SECURITIES LAWS. DAOU SYSTEMS, INC. SERIES A PREFERRED STOCK PURCHASE WARRANT NO. 1 To Subscribe for and Purchase October 26, 1995 Shares of Series A Preferred Stock of DAOU SYSTEMS, INC. VOID AFTER 5:00 P.M., PACIFIC TIME OCTOBER 26, 2000 THIS CERTIFIES that, for value received, Needham & Company, Inc., or its registered assigns (the "HOLDER"), is entitled to subscribe for and purchase from DAOU SYSTEMS, INC., a California corporation (hereinafter called the "CORPORATION"), up to Ninety-Two Thousand and Nine Hundred and Thirty-Nine (92,939) shares (subject to adjustment as hereinafter provided) of fully paid and non-assessable Series A Preferred Stock of the Corporation, (the "SERIES A PREFERRED STOCK"), at the price per share equal to Seven Dollars ($7.00) per share (such price as from time to time to be adjusted as hereinafter provided being hereinafter called the "WARRANT PRICE"), at any time from the date hereof but at or prior to 5:00 p.m. Pacific time on October 26, 2000, subject, however, to the provisions and upon the terms and conditions hereinafter set forth. This Warrant and any Warrant or Warrants subsequently issued upon exchange or transfer hereof are hereinafter collectively called the "WARRANT." Section 1. EXERCISE OF WARRANT. The rights represented by this Warrant may be exercised by the Holder, in whole or in part (but not as to fractional shares) at any time or from time to time in part, but not as to a fractional share of Series A Preferred Stock, by the completion of the purchase form attached hereto and by the surrender of this Warrant (properly endorsed) at the office of the Corporation as it may designate by notice in writing to the Holder hereof at the address of the Holder appearing on the books of the Corporation, and by payment to the Corporation of the Warrant Price in cash or by certified or official bank check, for each share being purchased. At the option of Holder, the Warrant Price will be payable by surrendering shares of Series A Preferred Stock in good form for transfer owned by the Holder and having a fair market value on the date of exercise equal to the Price. In the event of any exercise of the rights represented by this Warrant, a certificate or certificates for the shares of Series A Preferred Stock so purchased, registered in the name of the Holder, or its nominee or other party designated in the purchase form by the Holder hereof, will be delivered to the Holder within 30 business days after the date in which the rights represented by this Warrant will have been so exercised; and, unless this Warrant has expired or has been exercised in full, a new Warrant representing the number of shares (except a remaining fractional share), if any, with respect to which this Warrant will not then have been exercised will also be issued to the Holder within such time. The person in whose name any certificate for shares of Series A Preferred Stock is issued upon exercise of this Warrant will for all purposes be deemed to have become the Holder of record of such shares on the date on which this Warrant was surrendered and payment of the Warrant Price, except that, if the date of such surrender and payment is a date on which the stock transfer books of the Corporation are closed, such person will be deemed to have become the Holder of such shares at the close of business on the next succeeding date on which the stock transfer books are open. No fractional shares will be issued upon exercise of this Warrant and no payment or adjustment will be made upon any exercise on account of any cash dividends on the Series A Preferred Stock issued upon such exercise. If any fractional interest in a share of Series A Preferred Stock would, except for the provision of this SECTION 1, be delivered upon such exercise, the Corporation, in lieu of delivery of a fractional share thereof, will pay to the Holder an amount in cash equal to the current market price of such fractional share as determined in good faith by the Board of Directors of the Corporation (the "BOARD"). Section 2. STOCK SPLITS, CONSOLIDATION, MERGER AND SALE. In the event that after the issuance of the shares of Series A Preferred Stock into which this Warrant may be exercised the outstanding shares of Series A Preferred Stock will be split, combined or consolidated, by dividend, reclassification or otherwise, into a greater or lesser number of shares of Series A Preferred Stock, the Warrant Price in effect immediately prior to such combination or consolidation and the number of shares purchasable under this Warrant will, concurrently with the effectiveness of such combination or consolidation, be proportionately adjusted. If there will be effected any consolidation or merger of the Corporation with another corporation, or a sale of all or substantially all of the Corporation's assets to another corporation, then (1) the Holder will receive no less than 10 days advance notice of the closing of such transaction, (2) this Warrant will become exercisable in full at or on the closing of such transaction and (3) this Warrant will terminate immediately after the closing of such transaction. -2- (1) STOCK TO BE RESERVED. (a) The Corporation will at all times reserve and keep available out of its authorized Series A Preferred Stock, solely for the purpose of issue upon the exercise of this Warrant as herein provided, such number of shares of Series A Preferred Stock as will then be issuable upon the exercise of this Warrant. The Corporation will from time to time in accordance with applicable law increase the authorized amount of its Series A Preferred Stock if at any time the number of shares of Series A Preferred Stock remaining unissued and available for issuance will not be sufficient to permit exercise of this Warrant. The Corporation covenants that all shares of Series A Preferred Stock which will be so issued will be duly and validly issued and fully paid and nonassessable and free from all taxes, liens and charges with respect to the issue thereof, and, without limiting the generality of the foregoing, the Corporation will take all such action as may be necessary to assure that all such shares of Series A Preferred Stock may be so issued without violation of any applicable law or regulation, or of any requirements of any national securities exchange upon which shares of capital stock of the Corporation may be listed. (b) The Corporation will at all times reserve and keep available out of its authorized Common Stock, solely for the purpose of issue upon the conversion of the Series A Preferred Stock issuable upon exercise of this Warrant as herein provided, such number of shares of Common Stock as will then be issuable upon conversion of the Series A Preferred Stock issuable upon exercise of this Warrant. The Corporation will from time to time in accordance with applicable law increase the authorized amount of its Common Stock if at any time the number of shares of Common Stock remaining unissued and available for issuance will not be sufficient to permit conversion of the shares of Series A Preferred Stock issuable upon exercise of this Warrant. The Corporation covenants that all shares of Common Stock which will be so issued will be duly and validly issued and fully paid and non-assessable and free from all taxes, liens and charges with respect to the issue thereof, and, without limiting the generality of the foregoing, the Corporation will take all such action as may be reasonably necessary to assure that all such shares of Common Stock may be so issued without violation of any applicable law or regulation, or of any requirements of any national securities exchange upon which shares of capital stock of the Corporation may be listed. (2) ISSUE TAX. The issuance of certificates for shares of Series A Preferred Stock upon exercise of this Warrant will be made without charge to the Holders of this Warrant for any issuance tax in respect thereof provided that the Corporation will not be required to pay any tax which may be payable in respect of any transfer involved in the issuance and delivery of any certificate in a name other than that of Holder of this Warrant. Section 3. CONVERSION OF SERIES A PREFERRED STOCK INTO COMMON STOCK. Upon conversion of all of the issued and outstanding shares of the Corporation's Series A Preferred Stock into Common Stock, this Warrant will automatically be exercisable only into Common Stock in an amount equal to such number of shares of Common Stock of the Corporation as the Holder hereof would have received had this Warrant been exercised in full for Series A Preferred Stock and then -3- converted into Common Stock on the date all issued and outstanding shares of Series A Preferred Stock converted into Common Stock. The Warrant Price in effect immediately prior to such conversion will, concurrently with the effectiveness of such conversion, be proportionally adjusted. Upon such conversion of Series A Preferred Stock into Common Stock, all references under this Warrant to Series A Preferred Stock will be deemed to be references to Common Stock. Section 4. NOTICES OF RECORD DATES. In the event of (1) any taking by the Corporation of a record of the Holders of any class of securities for the purpose of determining the Holders thereof who are entitled to receive any dividend or other distribution (other than cash dividends out of earned surplus), or any right to subscribe for, purchase or otherwise acquire any shares of stock of any class or any other securities or property, or to receive any other right, or (2) any capital reorganization of the Corporation, any reclassification or recapitalization of the capital stock of the Corporation or any transfer of all or substantially all the assets of the Corporation to or consolidation or merger of the Corporation with or into any other corporation, or (3) any voluntary or involuntary dissolution, liquidation or winding-up of the Corporation, then and in each such event the Corporation will give notice to the Holder of this Warrant specifying (i) the date on which any such record is to be taken for the purpose of such dividend, distribution or right and stating the amount and character of such dividend, distribution or right, and (ii) the date on which any such reorganization, reclassification, recapitalization, transfer, consolidation, merger, dissolution, liquidation or winding-up is to take place, and the time, if any is to be fixed, as of which the Holders of record of Series A Preferred Stock will be entitled to exchange their shares of Series A Preferred Stock for securities or other property deliverable upon such reorganization, reclassification, recapitalization, transfer, consolidation, merger, dissolution, liquidation or winding-up. Such notice will be given at least 10 days prior to the date therein specified. Section 5. NO SHAREHOLDER RIGHTS OR LIABILITIES. This Warrant will not entitle the Holder hereof to any voting rights or other rights as a shareholder of the Corporation. No provision hereof, in the absence of affirmative action by the Holder hereof to purchase shares of Series A Preferred Stock, and no mere enumeration hereon of the rights or privileges of the Holder hereof, will give rise to any liability of such Holder for the Warrant Price or as a shareholder of the Corporation, whether such liability is asserted by the Corporation or by creditors of the Corporation. Section 6. REGISTRATION RIGHTS. The holder(s) of the Common Stock issued or issuable upon conversion of the Series A Preferred Stock issued or issuable upon exercise of this Warrant will have the registration rights set forth in the Investors' Rights Agreement, dated October 26, 1995, as amended to date (the "INVESTORS RIGHTS AGREEMENT"), a copy of which has been provided to the -4- Holder, and the Corporation agrees to use its best efforts to obtain the necessary approvals and authorizations to make the Common Stock issuable upon exercise of this Warrant "Registrable Securities" as defined in the Investors Rights Agreement. Section 7. REPRESENTATIONS OF HOLDER. The Holder hereby represents and acknowledges to the Corporation that: (1) this Warrant, the Series A Preferred Stock issuable upon exercise of this Warrant, and the Common Stock issuable upon conversion of the Series A Preferred Stock, and any securities issued with respect to any of them by way of a stock dividend or stock split or in connection with a recapitalization, merger, consolidation or other reorganization will be "restricted securities" as such term is used in the rules and regulations under the Securities Act and that such securities have not been and will not be registered under the Securities Act of 1933 (the "SECURITIES ACT") or any state securities law, and that such securities must be held indefinitely unless registration is effected or transfer can be made pursuant to appropriate exemptions; (2) the Holder has read, and fully understands, the terms of this Warrant set forth on its face and the attachments hereto, including the restrictions on transfer contained herein; (3) the Holder has either a pre-existing personal or business relationship with the Corporation or one of its officers, directors or controlling persons; (4) the Holder is purchasing for investment for its own account and not with a view to or for sale in connection with any distribution of this Warrant, the Series A Preferred Stock of the Corporation issuable upon exercise of this Warrant or the Common Stock of the Corporation issuable upon conversion of the Series A Preferred Stock and it has no intention of selling such securities in a public distribution in violation of the federal securities laws or any applicable state securities laws; provided that nothing contained herein will prevent Holder from transferring such securities in compliance with the terms of this Warrant and the applicable federal and state securities laws; (5) the Holder is an "accredited investor" within the meaning of paragraph (a) of Rule 501 of Regulation D promulgated by the Securities and Exchange Commission (the "COMMISSION") and an "excluded purchaser" within the meaning of Section 25102(f) of the California Corporate Securities Law of 1968; and (6) the Corporation may affix the following legend (in addition to any other legend(s), if any, required by applicable state corporate and/or securities laws) to certificates for shares of Series A Preferred Stock (or other securities) issued upon exercise of this Warrant and the shares of Common Stock issued upon conversion of the Series A Preferred Stock ("WARRANT SHARES"): -5- "These securities have not been registered under the Securities Act of 1933. They may not be sold, offered for sale, pledged or hypothecated in the absence of a registration statement in effect with respect to the securities under such Act or an opinion of counsel satisfactory to the Company that such registration is not required or unless sold pursuant to Rule 144 of such Act." Section 8. NOTICE OF PROPOSED TRANSFERS. The Holder of this Warrant, by acceptance hereof, agrees to comply in all respects with the provisions of this SECTION 8. Prior to any proposed transfer of this Warrant or any Warrant Shares, unless there is in effect a registration statement under the Securities Act covering the proposed transfer, the Holder of such securities will give written notice to the Corporation of such Holder's intention to effect such transfer. Each such notice will describe the manner and circumstances of the proposed transfer in sufficient detail, and will be accompanied (except in transactions in compliance with Rule 144) by either (i) a written opinion of legal counsel who will be reasonably satisfactory to the Corporation addressed to the Corporation and reasonably satisfactory in form and substance to the Corporation's counsel, to the effect that the proposed transfer of the Warrant and/or Warrant Shares may be effected without registration under the Securities Act, or (ii) a "no action" letter from the Commission to the effect that the transfer of such securities without registration will not result in a recommendation by the staff of the Commission that enforcement action be taken with respect thereto, whereupon the Holder of such securities will be entitled to transfer such securities in accordance with the terms of the notice delivered by the Holder to the Corporation. Each new certificate evidencing the Warrant and/or Warrant Shares so transferred will bear the appropriate restrictive legends set forth in SECTION 7, except that such certificate will not bear such restrictive legend if, in the opinion of counsel for the Corporation, such legend is not required in order to establish or assist in compliance with any provisions of the Securities Act or any applicable state securities laws. Section 9. LOST, STOLEN, MUTILATED OR DESTROYED WARRANT. If this Warrant is lost, stolen, mutilated or destroyed, the Corporation may, on such terms as to indemnity or otherwise as it may in its discretion reasonably impose (which will, in the case of a mutilated Warrant, include the surrender thereof), issue a new Warrant of like denomination and tenor as the Warrant so lost, stolen, mutilated or destroyed. Any such new Warrant will constitute an original contractual obligation of the Corporation, whether or not the allegedly lost, stolen, mutilated or destroyed Warrant will be at any time enforceable by anyone. Section 10. PRESENTMENT. Prior to due presentment of this Warrant together with a completed assignment form attached hereto for registration of transfer, the Corporation may deem and treat the Holder as the absolute owner of the Warrant, notwithstanding any notation of ownership or other writing thereon, for the purpose of any exercise thereof and for all other purposes, and the Corporation will not be affected by any notice to the contrary. Section 11. NOTICE. Notice or demand pursuant to this Warrant will be sufficiently given or made, if sent by first-class mail, postage prepaid, addressed, if to the Holder of this Warrant, to -6- the Holder at its last known address as it will appear in the records of the Corporation, and if to the Corporation, at 10360 Sorrento Valley Road, San Diego, California 92121, Attention: Secretary. The Corporation may alter the address to which communications are to be sent by giving notice of such change of address in conformity with the provisions of this SECTION 11 for the giving of notice. Section 12. GOVERNING LAW. The validity, interpretation and performance of this Warrant will be governed by the laws of the State of California without regard to principles of conflicts of laws. Section 13. SUCCESSORS, ASSIGNS. Subject to the restrictions on transfer by Holder set forth in SECTION 8, all the terms and provisions of the Warrant will be binding upon and inure to the benefit of and be enforceable by the respective successors and assigns of the parties hereto. Section 14. AMENDMENT; MAJORITY IN INTEREST. This Warrant may be modified, amended or terminated by a writing signed by the Corporation and Holder hereof (or if Warrants have been issued upon exchange or transfer hereof, the holders of the majority in interest ("MAJORITY IN INTEREST'S") thereof). Any action relating to the Warrants approved by a Majority in Interest will be binding upon all of the holders of the Warrants irrespective of whether any holder individually acted to approve or disapprove such action. Section 15. SEVERABILITY. Should any part but not the whole of this Warrant for any reason be declared invalid, such decision will not affect the validity of any remaining portion, which remaining portion will remain in force and effect as if this Warrant had been executed with the invalid portion thereof eliminated, and it is hereby declared the intention of the parties hereto that they would have executed the remaining portion of this Warrant without including therein any such part which may, for any reason, be hereafter declared invalid. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] -7- IN WITNESS WHEREOF, the Corporation has caused this Warrant to be duly executed and delivered on and as of the day and year first above written by one of its officers thereunto duly authorized. DAOU SYSTEMS, INC., a California corporation Dated: October 26, 1995 By: /s/ Georges Daou --------------------------------------- Georges Daou Chief Executive Officer The undersigned Holder agrees and accepts this Warrant and acknowledges that it has read and confirms each of the representations contained in SECTION 7. NEEDHAM & COMPANY, INC. By: /s/ Bernard Lirola --------------------------------------- Bernard Lirola, Managing Director [SIGNATURE PAGE TO DAOU SYSTEMS SERIES A PREFERRED STOCK PURCHASE WARRANT] -8- DAOU SYSTEMS, INC. SERIES A PREFERRED STOCK PURCHASE FORM (To be executed by the Warrant Holder if he desires to exercise the Warrant in whole or in part) To: Daou Systems, Inc. The undersigned, whose Social Security or other identifying number is ___________________, hereby irrevocably elects the right of purchase represented by the within Warrant for, and to purchase thereunder,_________________________ _____________________________________ shares of securities provided for therein and tenders payment herewith to the order of Daou Systems, Inc. in the amount of $_______________ The undersigned requests that certificates for such shares be issued as follows: Name: ------------------------------------------- Address: ---------------------------------------- Deliver to: ------------------------------------- Address: ---------------------------------------- and, if said number of shares will not be all the shares purchasable hereunder, that a new Warrant for the balance remaining of the shares purchasable under the within Warrant be registered in the name of, and delivered to, the undersigned at the address stated below Address: ----------------------------------------- Dated: , 19 ----------------- -- Signature____________________ (Signature must conform in all respects to the name of the Warrant Holder as specified on the face of the Warrant, without alteration, enlargement or any change whatsoever) -9- ASSIGNMENT (To be executed by the Warrant Holder if he desires to effect a transfer of the Warrant) FOR VALUE RECEIVED, the undersigned hereby sells, assigns and transfers unto ______________________________________________________________ whose Social Security or other identification number is _____________________ [residing/located] at ___________________________________________________ the attached Warrant, and appoints _____________________________________ residing at __________________________________________________________________________ the undersigned's attorney-in-fact to transfer said Warrant on the books of the Corporation, with full power of substitution in the premises. Dated: , 19 . ---------------- -- In the presence of: - ------------------------- ----------------- (Signature must conform in all respects to the name of the Warrant Holder as specified on the face of the Warrant, without alteration, enlargement or any change whatsoever). -10- EX-4.5 9 EXHIBIT 4.5: SERIES A WARRANT NO. 2 THE TRANSFER OF THIS WARRANT IS SUBJECT TO RESTRICTIONS CONTAINED HEREIN. THIS WARRANT HAS BEEN ISSUED IN RELIANCE UPON THE REPRESENTATION OF THE HOLDER THAT IT HAS BEEN ACQUIRED FOR INVESTMENT PURPOSES AND NOT WITH A VIEW TOWARDS THE RESALE OR OTHER DISTRIBUTION THEREOF. NEITHER THIS WARRANT NOR THE SHARES ISSUABLE UPON THE EXERCISE OF THIS WARRANT, HAVE BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933 OR ANY STATE SECURITIES LAWS. DAOU SYSTEMS, INC. SERIES A PREFERRED STOCK PURCHASE WARRANT NO. 2 To Subscribe for and Purchase October 26, 1995 Shares of Series A Preferred Stock of DAOU SYSTEMS, INC. VOID AFTER 5:00 P.M., PACIFIC TIME OCTOBER 26, 2000 THIS CERTIFIES that, for value received, Needham Capital S.B.I.C., L.P., or its registered assigns (the "HOLDER"), is entitled to subscribe for and purchase from DAOU SYSTEMS, INC., a California corporation (hereinafter called the "CORPORATION"), up to Two Thousand and Sixty-One (2,061) shares (subject to adjustment as hereinafter provided) of fully paid and non-assessable Series A Preferred Stock of the Corporation, (the "SERIES A PREFERRED STOCK"), at the price per share equal to Seven Dollars ($7.00) per share (such price as from time to time to be adjusted as hereinafter provided being hereinafter called the "WARRANT PRICE"), at any time from the date hereof but at or prior to 5:00 p.m. Pacific time on October 26, 2000, subject, however, to the provisions and upon the terms and conditions hereinafter set forth. This Warrant and any Warrant or Warrants subsequently issued upon exchange or transfer hereof are hereinafter collectively called the "WARRANT." Section 1. EXERCISE OF WARRANT. The rights represented by this Warrant may be exercised by the Holder, in whole or in part (but not as to fractional shares) at any time or from time to time in part, but not as to a fractional share of Series A Preferred Stock, by the completion of the purchase form attached hereto and by the surrender of this Warrant (properly endorsed) at the office of the Corporation as it may designate by notice in writing to the Holder hereof at the address of the Holder appearing on the books of the Corporation, and by payment to the Corporation of the Warrant Price in cash or by certified or official bank check, for each share being purchased. At the option of Holder, the Warrant Price will be payable by surrendering shares of Series A Preferred Stock in good form for transfer owned by the Holder and having a fair market value on the date of exercise equal to the Price. In the event of any exercise of the rights represented by this Warrant, a certificate or certificates for the shares of Series A Preferred Stock so purchased, registered in the name of the Holder, or its nominee or other party designated in the purchase form by the Holder hereof, will be delivered to the Holder within 30 business days after the date in which the rights represented by this Warrant will have been so exercised; and, unless this Warrant has expired or has been exercised in full, a new Warrant representing the number of shares (except a remaining fractional share), if any, with respect to which this Warrant will not then have been exercised will also be issued to the Holder within such time. The person in whose name any certificate for shares of Series A Preferred Stock is issued upon exercise of this Warrant will for all purposes be deemed to have become the Holder of record of such shares on the date on which this Warrant was surrendered and payment of the Warrant Price, except that, if the date of such surrender and payment is a date on which the stock transfer books of the Corporation are closed, such person will be deemed to have become the Holder of such shares at the close of business on the next succeeding date on which the stock transfer books are open. No fractional shares will be issued upon exercise of this Warrant and no payment or adjustment will be made upon any exercise on account of any cash dividends on the Series A Preferred Stock issued upon such exercise. If any fractional interest in a share of Series A Preferred Stock would, except for the provision of this SECTION 1, be delivered upon such exercise, the Corporation, in lieu of delivery of a fractional share thereof, will pay to the Holder an amount in cash equal to the current market price of such fractional share as determined in good faith by the Board of Directors of the Corporation (the "BOARD"). Section 2. STOCK SPLITS, CONSOLIDATION, MERGER AND SALE. In the event that after the issuance of the shares of Series A Preferred Stock into which this Warrant may be exercised the outstanding shares of Series A Preferred Stock will be split, combined or consolidated, by dividend, reclassification or otherwise, into a greater or lesser number of shares of Series A Preferred Stock, the Warrant Price in effect immediately prior to such combination or consolidation and the number of shares purchasable under this Warrant will, concurrently with the effectiveness of such combination or consolidation, be proportionately adjusted. If there will be effected any consolidation or merger of the Corporation with another corporation, or a sale of all or substantially all of the Corporation's assets to another corporation, then (1) the Holder will receive no less than 10 days advance notice of the closing of such transaction, (2) this Warrant will become exercisable in full at or on the closing of such transaction and (3) this Warrant will terminate immediately after the closing of such transaction. -2- (1) STOCK TO BE RESERVED. (a) The Corporation will at all times reserve and keep available out of its authorized Series A Preferred Stock, solely for the purpose of issue upon the exercise of this Warrant as herein provided, such number of shares of Series A Preferred Stock as will then be issuable upon the exercise of this Warrant. The Corporation will from time to time in accordance with applicable law increase the authorized amount of its Series A Preferred Stock if at any time the number of shares of Series A Preferred Stock remaining unissued and available for issuance will not be sufficient to permit exercise of this Warrant. The Corporation covenants that all shares of Series A Preferred Stock which will be so issued will be duly and validly issued and fully paid and nonassessable and free from all taxes, liens and charges with respect to the issue thereof, and, without limiting the generality of the foregoing, the Corporation will take all such action as may be necessary to assure that all such shares of Series A Preferred Stock may be so issued without violation of any applicable law or regulation, or of any requirements of any national securities exchange upon which shares of capital stock of the Corporation may be listed. (b) The Corporation will at all times reserve and keep available out of its authorized Common Stock, solely for the purpose of issue upon the conversion of the Series A Preferred Stock issuable upon exercise of this Warrant as herein provided, such number of shares of Common Stock as will then be issuable upon conversion of the Series A Preferred Stock issuable upon exercise of this Warrant. The Corporation will from time to time in accordance with applicable law increase the authorized amount of its Common Stock if at any time the number of shares of Common Stock remaining unissued and available for issuance will not be sufficient to permit conversion of the shares of Series A Preferred Stock issuable upon exercise of this Warrant. The Corporation covenants that all shares of Common Stock which will be so issued will be duly and validly issued and fully paid and non-assessable and free from all taxes, liens and charges with respect to the issue thereof, and, without limiting the generality of the foregoing, the Corporation will take all such action as may be reasonably necessary to assure that all such shares of Common Stock may be so issued without violation of any applicable law or regulation, or of any requirements of any national securities exchange upon which shares of capital stock of the Corporation may be listed. (2) ISSUE TAX. The issuance of certificates for shares of Series A Preferred Stock upon exercise of this Warrant will be made without charge to the Holders of this Warrant for any issuance tax in respect thereof provided that the Corporation will not be required to pay any tax which may be payable in respect of any transfer involved in the issuance and delivery of any certificate in a name other than that of Holder of this Warrant. Section 3. CONVERSION OF SERIES A PREFERRED STOCK INTO COMMON STOCK. Upon conversion of all of the issued and outstanding shares of the Corporation's Series A Preferred Stock into Common Stock, this Warrant will automatically be exercisable only into Common Stock in an amount equal to such number of shares of Common Stock of the Corporation as the Holder hereof would have received had this Warrant been exercised in full for Series A Preferred Stock and then -3- converted into Common Stock on the date all issued and outstanding shares of Series A Preferred Stock converted into Common Stock. The Warrant Price in effect immediately prior to such conversion will, concurrently with the effectiveness of such conversion, be proportionally adjusted. Upon such conversion of Series A Preferred Stock into Common Stock, all references under this Warrant to Series A Preferred Stock will be deemed to be references to Common Stock. Section 4. NOTICES OF RECORD DATES. In the event of (1) any taking by the Corporation of a record of the Holders of any class of securities for the purpose of determining the Holders thereof who are entitled to receive any dividend or other distribution (other than cash dividends out of earned surplus), or any right to subscribe for, purchase or otherwise acquire any shares of stock of any class or any other securities or property, or to receive any other right, or (2) any capital reorganization of the Corporation, any reclassification or recapitalization of the capital stock of the Corporation or any transfer of all or substantially all the assets of the Corporation to or consolidation or merger of the Corporation with or into any other corporation, or (3) any voluntary or involuntary dissolution, liquidation or winding-up of the Corporation, then and in each such event the Corporation will give notice to the Holder of this Warrant specifying (i) the date on which any such record is to be taken for the purpose of such dividend, distribution or right and stating the amount and character of such dividend, distribution or right, and (ii) the date on which any such reorganization, reclassification, recapitalization, transfer, consolidation, merger, dissolution, liquidation or winding-up is to take place, and the time, if any is to be fixed, as of which the Holders of record of Series A Preferred Stock will be entitled to exchange their shares of Series A Preferred Stock for securities or other property deliverable upon such reorganization, reclassification, recapitalization, transfer, consolidation, merger, dissolution, liquidation or winding-up. Such notice will be given at least 10 days prior to the date therein specified. Section 5. NO SHAREHOLDER RIGHTS OR LIABILITIES. This Warrant will not entitle the Holder hereof to any voting rights or other rights as a shareholder of the Corporation. No provision hereof, in the absence of affirmative action by the Holder hereof to purchase shares of Series A Preferred Stock, and no mere enumeration hereon of the rights or privileges of the Holder hereof, will give rise to any liability of such Holder for the Warrant Price or as a shareholder of the Corporation, whether such liability is asserted by the Corporation or by creditors of the Corporation. Section 6. REGISTRATION RIGHTS. The holder(s) of the Common Stock issued or issuable upon conversion of the Series A Preferred Stock issued or issuable upon exercise of this Warrant will have the registration rights set forth in the Investors' Rights Agreement, dated October 26, 1995, as amended to date (the "INVESTORS RIGHTS AGREEMENT"), a copy of which has been provided to the -4- Holder, and the Corporation agrees to use its best efforts to obtain the necessary approvals and authorizations to make the Common Stock issuable upon exercise of this Warrant "Registrable Securities" as defined in the Investors Rights Agreement. Section 7. REPRESENTATIONS OF HOLDER. The Holder hereby represents and acknowledges to the Corporation that: (1) this Warrant, the Series A Preferred Stock issuable upon exercise of this Warrant, and the Common Stock issuable upon conversion of the Series A Preferred Stock, and any securities issued with respect to any of them by way of a stock dividend or stock split or in connection with a recapitalization, merger, consolidation or other reorganization will be "restricted securities" as such term is used in the rules and regulations under the Securities Act and that such securities have not been and will not be registered under the Securities Act of 1933 (the "SECURITIES ACT") or any state securities law, and that such securities must be held indefinitely unless registration is effected or transfer can be made pursuant to appropriate exemptions; (2) the Holder has read, and fully understands, the terms of this Warrant set forth on its face and the attachments hereto, including the restrictions on transfer contained herein; (3) the Holder has either a pre-existing personal or business relationship with the Corporation or one of its officers, directors or controlling persons; (4) the Holder is purchasing for investment for its own account and not with a view to or for sale in connection with any distribution of this Warrant, the Series A Preferred Stock of the Corporation issuable upon exercise of this Warrant or the Common Stock of the Corporation issuable upon conversion of the Series A Preferred Stock and it has no intention of selling such securities in a public distribution in violation of the federal securities laws or any applicable state securities laws; provided that nothing contained herein will prevent Holder from transferring such securities in compliance with the terms of this Warrant and the applicable federal and state securities laws; (5) the Holder is an "accredited investor" within the meaning of paragraph (a) of Rule 501 of Regulation D promulgated by the Securities and Exchange Commission (the "COMMISSION") and an "excluded purchaser" within the meaning of Section 25102(f) of the California Corporate Securities Law of 1968; and (6) the Corporation may affix the following legend (in addition to any other legend(s), if any, required by applicable state corporate and/or securities laws) to certificates for shares of Series A Preferred Stock (or other securities) issued upon exercise of this Warrant and the shares of Common Stock issued upon conversion of the Series A Preferred Stock ("WARRANT SHARES"): -5- "These securities have not been registered under the Securities Act of 1933. They may not be sold, offered for sale, pledged or hypothecated in the absence of a registration statement in effect with respect to the securities under such Act or an opinion of counsel satisfactory to the Company that such registration is not required or unless sold pursuant to Rule 144 of such Act." Section 8. NOTICE OF PROPOSED TRANSFERS. The Holder of this Warrant, by acceptance hereof, agrees to comply in all respects with the provisions of this SECTION 8. Prior to any proposed transfer of this Warrant or any Warrant Shares, unless there is in effect a registration statement under the Securities Act covering the proposed transfer, the Holder of such securities will give written notice to the Corporation of such Holder's intention to effect such transfer. Each such notice will describe the manner and circumstances of the proposed transfer in sufficient detail, and will be accompanied (except in transactions in compliance with Rule 144) by either (i) a written opinion of legal counsel who will be reasonably satisfactory to the Corporation addressed to the Corporation and reasonably satisfactory in form and substance to the Corporation's counsel, to the effect that the proposed transfer of the Warrant and/or Warrant Shares may be effected without registration under the Securities Act, or (ii) a "no action" letter from the Commission to the effect that the transfer of such securities without registration will not result in a recommendation by the staff of the Commission that enforcement action be taken with respect thereto, whereupon the Holder of such securities will be entitled to transfer such securities in accordance with the terms of the notice delivered by the Holder to the Corporation. Each new certificate evidencing the Warrant and/or Warrant Shares so transferred will bear the appropriate restrictive legends set forth in SECTION 7, except that such certificate will not bear such restrictive legend if, in the opinion of counsel for the Corporation, such legend is not required in order to establish or assist in compliance with any provisions of the Securities Act or any applicable state securities laws. Section 9. LOST, STOLEN, MUTILATED OR DESTROYED WARRANT. If this Warrant is lost, stolen, mutilated or destroyed, the Corporation may, on such terms as to indemnity or otherwise as it may in its discretion reasonably impose (which will, in the case of a mutilated Warrant, include the surrender thereof), issue a new Warrant of like denomination and tenor as the Warrant so lost, stolen, mutilated or destroyed. Any such new Warrant will constitute an original contractual obligation of the Corporation, whether or not the allegedly lost, stolen, mutilated or destroyed Warrant will be at any time enforceable by anyone. Section 10. PRESENTMENT. Prior to due presentment of this Warrant together with a completed assignment form attached hereto for registration of transfer, the Corporation may deem and treat the Holder as the absolute owner of the Warrant, notwithstanding any notation of ownership or other writing thereon, for the purpose of any exercise thereof and for all other purposes, and the Corporation will not be affected by any notice to the contrary. Section 11. NOTICE. Notice or demand pursuant to this Warrant will be sufficiently given or made, if sent by first-class mail, postage prepaid, addressed, if to the Holder of this Warrant, to -6- the Holder at its last known address as it will appear in the records of the Corporation, and if to the Corporation, at 10360 Sorrento Valley Road, San Diego, California 92121, Attention: Secretary. The Corporation may alter the address to which communications are to be sent by giving notice of such change of address in conformity with the provisions of this SECTION 11 for the giving of notice. Section 12. GOVERNING LAW. The validity, interpretation and performance of this Warrant will be governed by the laws of the State of California without regard to principles of conflicts of laws. Section 13. SUCCESSORS, ASSIGNS. Subject to the restrictions on transfer by Holder set forth in SECTION 8, all the terms and provisions of the Warrant will be binding upon and inure to the benefit of and be enforceable by the respective successors and assigns of the parties hereto. Section 14. AMENDMENT; MAJORITY IN INTEREST. This Warrant may be modified, amended or terminated by a writing signed by the Corporation and Holder hereof (or if Warrants have been issued upon exchange or transfer hereof, the holders of the majority in interest ("MAJORITY IN INTEREST'S") thereof). Any action relating to the Warrants approved by a Majority in Interest will be binding upon all of the holders of the Warrants irrespective of whether any holder individually acted to approve or disapprove such action. Section 15. SEVERABILITY. Should any part but not the whole of this Warrant for any reason be declared invalid, such decision will not affect the validity of any remaining portion, which remaining portion will remain in force and effect as if this Warrant had been executed with the invalid portion thereof eliminated, and it is hereby declared the intention of the parties hereto that they would have executed the remaining portion of this Warrant without including therein any such part which may, for any reason, be hereafter declared invalid. [REMAINDER OF PAGE INTENTIONALLY LEFT BLANK] -7- IN WITNESS WHEREOF, the Corporation has caused this Warrant to be duly executed and delivered on and as of the day and year first above written by one of its officers thereunto duly authorized. DAOU SYSTEMS, INC., a California corporation Dated: October 26, 1995 By: /s/ Georges Daou ---------------------------------------- Georges Daou Chief Executive Officer The undersigned Holder agrees and accepts this Warrant and acknowledges that it has read and confirms each of the representations contained in SECTION 7. NEEDHAM CAPITAL S.B.I.C., L.P. By: /s/ John C. Michaelson ---------------------------------------- John C. Michaelson, a general partner [SIGNATURE PAGE TO DAOU SYSTEMS SERIES A PREFERRED STOCK PURCHASE WARRANT] -8- DAOU SYSTEMS, INC. SERIES A PREFERRED STOCK PURCHASE FORM (To be executed by the Warrant Holder if he desires to exercise the Warrant in whole or in part) To: Daou Systems, Inc. The undersigned, whose Social Security or other identifying number is ____________________, hereby irrevocably elects the right of purchase represented by the within Warrant for, and to purchase thereunder, ________________________ shares of securities provided for therein and tenders payment herewith to the order of Daou Systems, Inc. in the amount of $_______________ The undersigned requests that certificates for such shares be issued as follows: Name: ------------------------------------------- Address: ---------------------------------------- Deliver to: ------------------------------------- Address: ---------------------------------------- and, if said number of shares will not be all the shares purchasable hereunder, that a new Warrant for the balance remaining of the shares purchasable under the within Warrant be registered in the name of, and delivered to, the undersigned at the address stated below Address: _________________________________________ Dated: , 19 ----------------- -- Signature___________________ (Signature must conform in all respects to the name of the Warrant Holder as specified on the face of the Warrant, without alteration, enlargement or any change whatsoever) -9- ASSIGNMENT (To be executed by the Warrant Holder if he desires to effect a transfer of the Warrant) FOR VALUE RECEIVED, the undersigned hereby sells, assigns and transfers unto ________________________________________________________________ whose Social Security or other identification number is_______________________ [residing/located] at ______________________________________________________ the attached Warrant, and appoints _____________________________________ residing at ______________________________________________________________ the undersigned's attorney-in-fact to transfer said Warrant on the books of the Corporation, with full power of substitution in the premises. Dated: , 19 . ---------------- -- In the presence of: - ----------------------- ---------------- (Signature must conform in all respects to the name of the Warrant Holder as specified on the face of the Warrant, without alteration, enlargement or any change whatsoever). -10- EX-10.1 10 EXHIBIT 10.1: INDEMNIFICATION AGMT. FORM OF INDEMNIFICATION AGREEMENT This Agreement, made and entered into this ____ day of December, 1996 ("Agreement"), by and between DAOU Systems, Inc., a Delaware corporation ("Company"), and _________________________ ("Indemnitee"): WHEREAS, highly competent persons have become more reluctant to serve publicly-held corporations as directors or in other capacities unless they are provided with adequate protection through insurance or adequate indemnification against inordinate risks of claims and actions against them arising out of their service to and activities on behalf of the corporation; and WHEREAS, the Board of Directors of the Company (the "Board") has determined that, in order to attract and retain qualified individuals, the Company will attempt to maintain on an ongoing basis, at its sole expense, liability insurance to protect persons serving the Company and its subsidiaries from certain liabilities. Although the furnishing of such insurance has been a customary and widespread practice among United States-based corporations and other business enterprises, the Company believes that, given current market conditions and trends, such insurance may be available to it in the future only at higher premiums and with more exclusions. At the same time, directors, officers, and other persons in service to corporations or business enterprises are being increasingly subjected to expensive and time-consuming litigation relating to, among other things, matters that traditionally would have been brought only against the Company or business enterprise itself; and WHEREAS, the uncertainties relating to such insurance and to indemnification have increased the difficulty of attracting and retaining such persons; and WHEREAS, the Board has determined that the increased difficulty in attracting and retaining such persons is detrimental to the best interests of the Company's stockholders and that the Company should act to assure such persons that there will be increased certainty of such protection in the future; and WHEREAS, it is reasonable, prudent and necessary for the Company contractually to obligate itself to indemnify such persons to the fullest extent permitted by applicable law so that they will serve or continue to serve the Company free from undue concern that they will not be so indemnified; and WHEREAS, Indemnitee is willing to serve, continue to serve and to take on additional service for or on behalf of the Company on the condition that he be so indemnified; NOW, THEREFORE, in consideration of the premises and the covenants contained herein, the Company and Indemnitee do hereby covenant and agree as follows: Section 1. SERVICES BY INDEMNITEE. Indemnitee agrees to serve as a director and/or officer of the Company. Indemnitee may at any time and for any reason resign from such position (subject to any other contractual obligation or any obligation imposed by operation of law), in which event the Company shall have no obligation under this Agreement to continue Indemnitee in such position. This Agreement shall not be deemed an employment contract between the Company (or any of its subsidiaries) and Indemnitee. Indemnitee specifically acknowledges that Indemnitee's employment with the Company (or any of its subsidiaries), if any, is at will, and the Indemnitee may be discharged at any time for any reason, with or without cause, except as may be otherwise provided in any written employment contract between Indemnitee and the Company (or any of its subsidiaries), other applicable formal severance policies duly adopted by the Board, or, with respect to service as a director of the Company, by the Company's Certificate of Incorporation, Bylaws, and the General Corporation Law of the State of Delaware. The foregoing notwithstanding, this Agreement shall continue in force after Indemnitee has ceased to serve as an officer, director, agent or employee of the Company. Section 2. INDEMNIFICATION - GENERAL. The Company shall indemnify, and advance Expenses (as hereinafter defined) to, Indemnitee (a) as provided in this Agreement and (b) (subject to the provisions of this Agreement) to the fullest extent permitted by applicable law in effect on the date hereof and as amended from time to time. The rights of Indemnitee provided under the proceeding sentence shall include, but shall not be limited to, the rights set forth in the other Sections of this Agreement. Section 3. PROCEEDINGS OTHER THAN PROCEEDINGS BY OR IN THE RIGHT OF THE COMPANY. Indemnitee shall be entitled to the rights of indemnification provided in this Section 3 if, by reason of his Corporate Status (as hereinafter defined), he is, or is threatened to be made, a party to or a participant in any threatened, pending, or completed Proceeding (as hereinafter defined), other than a proceeding by or in the right of the Company. Pursuant to this Section 3, Indemnitee shall be indemnified against all Expenses, judgments, penalties, fines and amounts paid in settlement actually and reasonably incurred by him or on his behalf in connection with such Proceeding or any claim, issue or matter therein, if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the Company and, with respect to any criminal Proceeding, had no reasonable cause to believe his conduct was unlawful. Section 4. PROCEEDINGS BY OR IN THE RIGHT OF THE COMPANY. Indemnitee shall be entitled to the rights of indemnification provided in this Section 4 if, by reason of his Corporate Status, he is, or is threatened to be made, a party to or a participant in any threatened, pending or completed Proceeding brought by or in the right of the Company to procure a judgment in its favor. Pursuant to this Section, Indemnitee shall be indemnified against all Expenses actually and reasonably incurred by him or on his behalf in connection with such Proceeding if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interests of the Company, PROVIDED, HOWEVER, that, if applicable law so provides, no indemnification against such Expenses shall be made in respect of any claim, issue or matter in such Proceeding as to which Indemnitee shall have been adjudged to be liable to the Company unless and to the extent that the Court of Chancery of the State of Delaware, or the court in which such Proceeding shall have been brought or is pending, shall determine that such indemnification may be made. Section 5. INDEMNIFICATION FOR EXPENSES OF A PARTY WHO IS WHOLLY OR PARTLY SUCCESSFUL. Notwithstanding any other provision of this Agreement, to the extent that Indemnitee is, by reason of his Corporate Status, a party to (or a participant in) and is successful, on the merits or otherwise, in defense of any Proceeding, he shall be indemnified against all Expenses actually and reasonably incurred by him or on his behalf in connection therewith. If Indemnitee is not wholly successful in 2 defense of such Proceeding but is successful, on the merits or otherwise, as to one or more but less than all claims, issues or matters in such proceeding, the Company shall indemnify Indemnitee against all Expenses actually and reasonably incurred by him or on his behalf in connection with each successfully resolved claim, issue or matter. For purposes of this Section and without limitation, the termination of any claim, issue or matter in such a Proceeding by dismissal, with or without prejudice, shall be deemed to be a successful result as to such claim, issue or matter. Section 6. INDEMNIFICATION FOR EXPENSES OF A WITNESS. Notwithstanding any other provision of this Agreement, to the extent that Indemnitee is, by reason of his Corporate Status, a witness in any Proceeding to which Indemnitee is not a party, he shall be indemnified against all Expenses actually and reasonably incurred by him or on his behalf in connection therewith. Section 7. ADVANCEMENT OF EXPENSES. The Company shall advance all reasonable Expenses incurred by or on behalf of Indemnitee in connection with any Proceeding within ten days after the receipt by the Company of a statement or statements from Indemnitee requesting such advance or advances from time to time, whether prior to or after final disposition of such Proceeding. Such statement or statements shall reasonably evidence the Expenses incurred by Indemnitee and shall include or be preceded or accompanied by an undertaking by or on behalf of Indemnitee to repay any Expenses advanced if it shall ultimately be determined that Indemnitee is not entitled to be indemnified against such Expenses. Section 8. PROCEDURE FOR DETERMINATION OF ENTITLEMENT TO INDEMNIFICATION. (a) To obtain indemnification under this Agreement, Indemnitee shall submit to the Company a written request, including therein or therewith such documentation and information as is reasonably available to Indemnitee and is reasonably necessary to determine whether and to what extent Indemnitee is entitled to indemnification. The Secretary of the Company shall, promptly upon receipt of such a request for indemnification, advise the Board in writing that Indemnitee has requested indemnification. (b) Upon written request by Indemnitee for indemnification pursuant to the first sentence of Section 8(a) hereof, a determination, if required by applicable law, with respect to Indemnitee's entitlement thereto shall be made in the specific case: (i) if a Change in Control (as hereinafter defined) shall have occurred, by Independent Counsel (as hereinafter defined) in a written opinion to the Board of Directors, a copy of which shall be delivered to Indemnitee; or (ii) if a Change of Control shall not have occurred, (A) by a majority vote of the Disinterested Directors (as hereinafter defined), even though less than a quorum of the Board, or (B) if there are no such Disinterested Directors or, if such Disinterested Directors so direct, by Independent Counsel in a written opinion to the Board, a copy of which shall be delivered to Indemnitee or (C) if so directed by the Board, by the stockholders of the Company; and, if it is so determined that Indemnitee is entitled to indemnification, payment to Indemnitee shall be made within ten (10) days after such determination. Indemnitee shall cooperate with the person, persons or entity making such determination with respect to Indemnitee's entitlement to indemnification, including providing to such person, persons or entity upon reasonable advance request any documentation or information which is not privileged or otherwise protected from disclosure and which is reasonably available to Indemnitee and reasonably necessary to such determination. Any costs or expenses (including attorneys' fees and disbursements) incurred by Indemnitee in so cooperating with the person, persons 3 or entity making such determination shall be borne by the Company (irrespective of the determination as to Indemnitee's entitlement to indemnification) and the Company hereby indemnifies and agrees to hold Indemnitee harmless therefrom. (c) In the event the determination of entitlement to indemnification is to be made by Independent Counsel pursuant to Section 8(b) hereof, the Independent Counsel shall be selected as provided in this Section 8(c). If a Change of Control shall not have occurred, the Independent Counsel shall be selected by the Board of Directors, and the Company shall give written notice to Indemnitee advising him of the identity of the Independent Counsel so selected. If a Change of Control shall have occurred, the Independent Counsel shall be selected by Indemnitee (unless Indemnitee shall request that such selection be made by the Board of Directors, in which event the proceeding sentence shall apply), and Indemnitee shall give written notice to the Company advising it of the identity of the Independent Counsel so selected. In the event, Indemnitee or the Company, as the case may be, may, within 10 days after such written notice of selection shall have been given, deliver to the Company or to Indemnitee, as the case may be, a written objection to such selection; PROVIDED, HOWEVER, that such objection may be asserted only on the ground that the Independent Counsel so selected does not meet the requirements of "Independent Counsel" as defined in Section 17 of this Agreement, and the objection shall set forth with particularity the factual basis of such assertion. If such written objection is so made and substantiated, the Independent Counsel so selected may not serve as Independent Counsel unless and until such objection is withdrawn or a court has determined that such objection is without merit. If, within 20 days after submission by Indemnitee of a written request for indemnification pursuant to Section 8(a) hereof, no Independent Counsel shall have been selected and not objected to, either the Company to Indemnitee may petition the Court of Chancery of the State of Delaware or other court of competent jurisdiction for resolution of any objection which shall have been made by the Company or Indemnitee to the other's selection of Independent Counsel and/or for the appointment as Independent Counsel of a person selected by the Court or by such other person as the Court shall designate, and the person with respect to whom all objections are so resolved or the person so appointed shall act as Independent Counsel under Section 8(b) hereof. The Company shall pay any and all reasonable fees and expenses of Independent Counsel incurred by such Independent Counsel in connection with acting pursuant to Section 8(b) hereof, and the Company shall pay all reasonable fees and expenses incident to the procedures of this Section 8(c), regardless of the manner in which such Independent Counsel was selected or appointed. Upon the due commencement of any judicial proceeding or arbitration pursuant to Section 10(a)(iii) of this Agreement, Independent Counsel shall be discharged and relieved of any further responsibility in such capacity (subject to the applicable standards of professional conduct then prevailing). Section 9. PRESUMPTIONS AND EFFECT OF CERTAIN PROCEEDINGS. (a) If a Change of Control shall have occurred, in making a determination with respect to entitlement to indemnification hereunder, the person or persons or entity making such determination shall presume that Indemnitee is entitled to indemnification under this Agreement if Indemnitee has submitted a request for indemnification in accordance with Section 8(a) of this Agreement, and the Company shall have the burden of proof to overcome that presumption in connection with the making by any person, persons or entity of any determination contrary to that presumption. 4 (b) The termination of any Proceeding or of any claim, issue or matter therein, by judgment, order, settlement or conviction, or upon a plea of NOLO CONTENDERE or its equivalent, shall not (except as otherwise expressly provided in this Agreement) of itself adversely affect the right of Indemnitee to indemnification or create a presumption that Indemnitee did not act in good faith and in a manner which he reasonably believed to be in or not opposed to the best interests of the Company or, with respect to any criminal proceeding, that Indemnitee had reasonable cause to believe that his conduct was unlawful. Section 10. REMEDIES OF INDEMNITEE. (a) In the event that (i) a determination is made pursuant to Section 8 of this Agreement that Indemnitee is not entitled to indemnification under this Agreement, (ii) advancement of Expenses is not timely made pursuant to Section 7 of this Agreement, (iii) no determination of entitlement to indemnification shall have been made pursuant to Section 8(b) of this Agreement within 90 days after receipt of the Company of the request for indemnification, (iv) payment of indemnification is not made pursuant to Section 5 or 6 of this Agreement within ten (10) days after receipt by the Company of a written request therefor, or (v) payment of indemnification is not made within ten (10) days after a determination has been made that Indemnitee is entitled to indemnification, Indemnitee shall be entitled to an adjudication the Court of Chancery of the State of Delaware of his entitlement to such indemnification or advancement of Expenses. Alternatively, Indemnitee, at his option, may seek an award in arbitration to be conducted by a single arbitrator pursuant to the Commercial Arbitration Rules of the American Arbitration Association. Indemnitee shall commence such proceeding seeking an adjudication or an award in arbitration within 180 days following the date on which Indemnitee first has the right to commence such proceeding pursuant to this Section 10(a); PROVIDED, HOWEVER, that the foregoing clause shall not apply in respect of a proceeding brought by Indemnitee to enforce his rights under Section 5 of this Agreement. (b) In the event that a determination shall have been made pursuant to Section 8(b) of this Agreement that Indemnitee is not entitled to indemnification, any judicial proceeding or arbitration commenced pursuant to this Section 10 shall be conducted in all respects as a DE NOVO trial, or arbitration, on the merits and the Indemnitee shall not be prejudiced by reason of that adverse determination. If a Change of Control shall have occurred, in any judicial proceeding or arbitration commenced pursuant to this Section 10 the Company shall have the burden or proving that indemnitee is not entitled to indemnification or advancement of Expenses, as the case may be. (c) If a determination shall have been made pursuant to Section 8(b) of this Agreement that Indemnitee is entitled to indemnification, the Company shall be bound by such determination in any judicial proceeding or arbitration commenced pursuant to this Section 10, absent (i) a misstatement by Indemnitee of a material fact, or an omission of a material fact necessary to make Indemnitee's statement not materially misleading, in connection with the request for indemnification, or (ii) a prohibition of such indemnification under applicable law. (d) In the event that Indemnitee, pursuant to this Section 10, seeks a judicial adjudication of or an award in arbitration to enforce his rights under, or to recover damages for breach of, this Agreement, Indemnitee shall be entitled to recover from the Company, and shall be indemnified by the Company against, any and all expenses (of the types described in the definition of Expenses in Section 17 of this Agreement) actually and reasonably incurred by him in such 5 judicial adjudication or arbitration, but only if he prevails therein. If it shall be determined in said judicial adjudication or arbitration that Indemnitee is entitled to receive part but not all of the indemnification or advancement of expenses sought, the expenses incurred by Indemnitee in connection with such judicial adjudication or arbitration shall be appropriately prorated. Section 11. NON-EXCLUSIVITY; SURVIVAL OF RIGHTS; INSURANCE; SUBROGATION. (a) The rights of indemnification and to receive advancement of Expenses as provided by this Agreement shall not be deemed exclusive of any other rights to which Indemnitee may at any time be entitled under applicable law, the Certificate of Incorporation, the Bylaws, any agreement, a vote of stockholders or a resolution of directors, or otherwise. No amendment, alteration or repeal of this Agreement or of any provision hereof shall limit or restrict any right of Indemnitee under this Agreement or of any provision hereof shall limit or restrict any right of Indemnitee under this Agreement in respect of any action taken or omitted by such Indemnitee in his Corporate Status prior to such amendment, alteration or repeal. (b) To the extent that the Company maintains an insurance policy or policies providing liability insurance for directors, officers, employees, or agents of the Company or of any other corporation, partnership, joint venture, trust, employee benefit plan or other enterprise which such person serves at the request of the Company, Indemnitee shall be covered by such policy or policies in accordance with its or their terms to the maximum extent of the coverage available for any such director, officer, employee or agent under such policy or policies. (c) In the event of any payment under this Agreement, the Company shall be subrogated to the extent of such payment to all of the rights of recovery of Indemnitee, who shall execute all papers required and take all action necessary to secure such rights, including execution of such documents as are necessary to enable the Company to bring suit to enforce such rights. (d) The Company shall not be liable under this Agreement to make any payment of amounts otherwise indemnifiable hereunder if and to the extent that Indemnitee has otherwise actually received such payment under any insurance policy, contract, agreement or otherwise. (e) The Company's obligation to indemnify or advance expenses hereunder to indemnitee who is or was serving at the request of the Company as a director, officer, employee or agent of any other corporation, partnership, joint venture, trust, employee benefit plan or other enterprise shall be reduced by any amount Indemnitee has actually received as indemnification or advancement of expenses from such other corporation, partnership, joint venture, trust, employee benefit plan or other enterprise. Section 12. DURATION OF AGREEMENT. This Agreement shall continue until and terminate upon the later of: (a) 10 years after the date that Indemnitee shall have ceased to serve as a director, officer, employee or agent of the Company or of any other corporation, partnership, joint venture, trust, employee benefit plan or other enterprise which Indemnitee served at the request of the Company]; or (b) the final termination of any Proceeding then pending in respect of which Indemnitee is granted rights of indemnification or advancement of expenses hereunder and of any proceeding commenced by Indemnitee pursuant to Section 10 of this Agreement relating thereto. 6 This Agreement shall be binding upon the Company and its successors and assigns and shall inure to the benefit of Indemnitee and his heirs, executors and administrators. Section 13. SEVERABILITY. If any provision or provisions of this Agreement shall be held to be invalid, illegal or unenforceable for any reason whatsoever: (a) the validity, legality and enforceability of the remaining provisions of this Agreement (including without limitation, each portion of any Section of this Agreement containing any such provision held to be invalid, illegal or unenforceable, that is not itself invalid, illegal or unenforceable) shall not in any way be affected or impaired thereby; (b) such provision or provisions shall be deemed reformed to the extent necessary to conform to applicable law and to give the maximum effect to the intent of the parties hereto; and (c) to the fullest extent possible, the provisions of this Agreement (including, without limitation, each portion of any Section of this Agreement containing any such provision held to be invalid, illegal or unenforceable, that is not itself invalid, illegal or unenforceable) shall be construed so as to give effect to the intent manifested thereby. Section 14. EXCEPTION TO RIGHT OF INDEMNIFICATION OR ADVANCEMENT OF EXPENSES. Notwithstanding any other provision of this Agreement, Indemnitee shall not be entitled to indemnification or advancement of Expenses under this Agreement with respect to any Proceeding brought by Indemnitee, or any claim therein prior to a Change in Control, unless the bringing of such Proceeding or making of such claim shall have been approved by the Board of Directors. Section 15. IDENTICAL COUNTERPARTS. This Agreement may be executed in one or more counterparts, each of which shall for all purposes be deemed to be an original but all of which together shall constitute one and the same Agreement. Only one such counterpart signed by he party against whom enforceability is sought needs to be produced to evidence the existence of this Agreement. Section 16. HEADINGS. The headings of the paragraphs of this Agreement are inserted for convenience only and shall not be deemed to constitute part of this Agreement or to affect the construction thereof. Section 17. DEFINITIONS. For purposes of this Agreement: (a) "Change in Control" means a change in control of the Company occurring after the Effective Date of a nature that would be required to be reported in response to Item 6(e) of Schedule 14A of Regulation 14A (or in response to any similar item on any similar schedule or form) promulgated under the Securities Exchange Act of 1934 (the "Act"), whether or not the Company is then subject to such reporting requirement; provided, however, that, without limitation, such a Change in Control shall be deemed to have occurred if after the Effective Date (i) any "person" (as such term is used in Section 13(d) and 14(d) of the Act) is or becomes the "beneficial owner" (as defined in Rule 13d-3 under the Act), directly or indirectly, of securities of the Company representing _____% or more of the combined voting power of the Company's then outstanding securities without the prior approval of at least two-thirds of the members of the Board in office immediately prior to such person attaining such percentage interest; (ii) there occurs a proxy contest, or the Company is a party to a merger, consolidation, sale of assets, plan of liquidation or other reorganization not approved by at least two-thirds of the members of the Board then in office, as a consequence of which members of the Board in office immediately prior to such transaction or event 7 constitute less than a majority of the Board thereafter; (iii) during any period of two consecutive years, other than as a result of an event described in clause (a)(ii) of this Section 17, individuals who at the beginning of such period constituted the Board (including for this purpose any new director whose election or nomination for election by the Company's stockholders was approved by a vote of at least two-thirds of the directors then still in office who were directors at the beginning of such period) cease for any reason to constitute at least a majority of the Board. (b) "Corporate Status" describes the status of a person who is or was a director, officer, employee or agent of the Company or of any other corporation, partnership, joint venture, trust, employee benefit plan or other enterprise which such person is or was serving at the request of the Company. (c) "Disinterested Director" means a director of the Company who is not and was not a party to the Proceeding in respect of which indemnification is sought by Indemnitee.. (d) "Effective Date" means December __, 1996. (e) "Expenses" shall include all reasonable attorneys' fees, retainers, court costs, transcript costs, fees of experts, witness fees, travel expenses, duplicating costs, printing and binding costs, telephone charges, postage, delivery service fees, and all other disbursements or expenses of the types customarily incurred in connection with prosecuting, defending, preparing to prosecute or defend, investigating, being or preparing to be a witness in, or otherwise participating in, a Proceeding. (f) "Independent Counsel" means a law firm, or a member of a law firm, that is experienced in matters of corporation law and neither presently is, nor in the past five years has been, retained to represent; (i) the Company or Indemnitee in any matter material to either such party, or (ii) any other party to the Proceeding giving rise to a claim for indemnification hereunder. Notwithstanding the foregoing, the term "Independent Counsel" shall not include any person, who, under the applicable standards of professional conduct then prevailing, would have a conflict of interest in representing either the Company or Indemnitee in an action to determine Indemnitee's rights under this Agreement. (g) "Proceeding" includes any action, suit, arbitration, alternate dispute resolution mechanism, investigation, administrative hearing or any other proceeding, whether civil, criminal, administrative or investigative, except one (i) initiated by an Indemnitee pursuant to Section 10 of this Agreement to enforce his rights under this Agreement or (ii) pending on or before the Effective Date. Section 18. MODIFICATION AND WAIVER. No supplement, modification or amendment of this Agreement shall be binding unless executed in writing by both of the parties hereto. No waiver of any of the provisions of this Agreement shall be deemed or shall constitute a waiver of any other provisions hereof (whether or not similar) nor shall such waiver constitute a continuing waiver. Section 19. NOTICE BY INDEMNITEE. Indemnitee agrees promptly to notify the Company in writing upon being served with any summons, citation, subpoena, complaint, indictment, 8 information or other document relating to any Proceeding or matter which may be subject to indemnification or advancement of Expenses covered hereunder. Section 20. NOTICES. All notices, request, demands and other communications hereunder shall be in writing and shall be deemed to have been duly given if (i) delivered by hand and receipted for by the party to whom said notice or other communication shall have been directed, or (ii) mailed by certified or registered mail with postage prepaid, on the third business day after the date on which it is so mailed: (a) If to Indemnitee, to: (b) If to the Company, to: Fred C. McGee, Secretary DAOU Systems, Inc. 5120 Shoreham Place San Diego, CA 92122 or to such other address as may have been furnished to Indemnitee by the Company or to the Company by Indemnitee, as the case may be. Section 21. CONTRIBUTION. To the fullest extent permissible under the applicable law, if the indemnification provided for in this Agreement is unavailable to Indemnitee for any reason whatsoever, the Company, in lieu of indemnifying Indemnitee, shall contribute to the amount incurred by Indemnitee, whether for judgments, fines, penalties, excise taxes, amounts paid or to be paid in settlement and/or for Expenses, in connection with any claim relating to an indemnifiable event under this Agreement, in such proportion as is deemed fair and reasonable in light of all of the circumstances of such Proceeding in order to reflect (i) the relative benefits received by the Company and Indemnitee as a result of the event(s) and/or transaction(s) giving cause to such Proceeding; and /or (ii) the relative fault of the Company (and its directors, officers, employees and agents) and Indemnitee in connection with such event(s) and/or transaction(s). Section 22. GOVERNING LAW. This Agreement and the legal relations among the parties shall be governed by, and construed and enforced in accordance with, the laws of the State of Delaware, without regard to its conflict of laws rules. Section 23. MISCELLANEOUS. Use the masculine pronoun shall be deemed to include usage of the feminine pronoun where appropriate. IN WITNESS WHEREOF, the parties hereto have executed this Agreement on the day and year first above written. 9 ATTEST: DAOU SYSTEMS, INC. By: By: -------------------------------- -------------------------------- INDEMNITEE ------------------------------------- Address: ------------------------------------- 10 EX-10.5 11 EXHIBIT 10.5: SUBLEASE AGMT. SUBLEASE AGREEMENT BETWEEN ADOBE SYSTEMS INCORPORATED, AS SUBLANDLORD AND DAOU SYSTEMS, INC., AS SUBTENANT MARCH 1, 1996 SUBLEASE AGREEMENT THIS SUBLEASE AGREEMENT ("Sublease") is entered into as of February ___, 1996, by and between ADOBE SYSTEMS INCORPORATED, a California corporation, (herein called "Sublandlord") and DAOU SYSTEMS, INC., a ________ corporation, (herein called "Subtenant") with reference to the following facts: A. Ahlstrom Pyropower, Inc. ("Landlord"), as landlord, and Aldus Corporation ("Aldus"), as tenant entered into that certain Lease dated October 22, 1992 ("Master Lease"), pursuant to the terms of which Landlord leased to Subtenant certain space in the building located at 5120 Shoreham Place, San Diego, California (the "Building"). B. Pursuant to that certain Assignment of Lease (the "Assignment") by and between Aldus, as assignor, and Sublandlord, as assignee, Aldus assigned to Sublandlord all of Aldus's right, title and interest as the tenant under the Master Lease. C. The premise in the Building leased by Sublandlord pursuant to the Master Lease consists of approximately 31,907 rentable square feet of space located on first and second floors of the Building (the "Master Lease Premises"). D. Sublandlord wishes to sublease to Subtenant, and Subtenant wishes to sublease from Sublandlord, a portion of the Master Lease Premises consisting of approximately 31,907 rentable square feet of floor space consisting of 18,554 rentable square feet of space on the first floor of the Building and 13,353 rentable square feet of space on the second floor of the Building, as more particularly described in EXHIBITS A-1 AND A-2 attached hereto (the "Subleased Premises"). NOW, THEREFORE, in consideration of the foregoing, Sublandlord and Subtenant hereby agree as follows (capitalized terms used but not defined herein shall have the meaning given them in the Lease): 1. SUBLEASE. 1.1 SUBLEASED PREMISES. Sublandlord hereby subleases to Subtenant and Subtenant hereby subleases from Sublandlord the Subleased Premises for the term, at the rental, and upon all of the conditions set forth in this Sublease. Subtenant is leasing the Subleased Premises "as is," without any obligation on the part of Sublandlord to make any improvements, alterations, or refurbishments whatsoever to the Subleased Premises or the Building; provided, however, Sublandlord shall provide Sublandlord with a tenant improvement allowance of $31,907, of which $22,155 shall be paid upon receipt of construction invoices and of which $9,752 shall be paid upon commencement of the thirteenth month following the Commencement Date (defined below). Subtenant shall be granted access to the Subleased Premises upon mutual execution of this Sublease for purposes of commencing construction of its tenant improvements. The Subleased Premises shall be cleared of all personal property now contained therein by either March 1, 1996 or the date of mutual Sublease execution, whichever is later.] In making and executing this Sublease, Subtenant has relied solely on such investigations, examinations and inspections as Subtenant has chosen to make or has made and has not relied on any representation or warranty, express or implied, concerning the Subleased Premises or the Building. 2. TERM. 2.1 TERM. The term of this Sublease (the "Term") shall commence on March 1, 1996 (the "Commencement Date") and end on September 30, 1998 (the "Expiration Date"), unless sooner terminated pursuant to any provision hereof. 3. RENT. 3.1 RENT PAYMENTS. From and after the Commencement Date, Subtenant shall pay to Sublandlord as Annual Rent for the Subleased Premises during the Term the following sums: March 1, 1996 - August 31, 1996: $22,155 per month September 1, 1996 - February 28, 1997: $27,226.04 per month March 1, 1997 - September 30, 1998: $32,864.21 per month All Rental (hereinafter defined) shall be payable in equal monthly installments (except where otherwise specified herein) in advance in lawful money of the United States on the first day of each month, by regular bank check of Subtenant, to Sublandlord at the address stated herein or to such other persons or at such other places as Sublandlord may designate in writing. Notwithstanding the foregoing, Subtenant shall pay the rent due for the month of March 1996 at the time of execution of the Sublease. 3.2 LATE CHARGES. If payment of any Annual Rent or Additional Rental or other Rental payable by Subtenant hereunder shall not have been paid by the 10th day after the date on which such amount was due and payable then, in addition to, and without waiving or releasing any other remedies of Sublandlord, a late charge of four percent (4%) of the overdue sum shall be payable on demand by Subtenant to Sublandlord as both an administrative fee and damages for Subtenant's failure to make prompt payment. The late charges for amounts due in any month shall be payable on the first day of the following month, and in default of payment of any late charges, Sublandlord shall have (in addition to all other remedies) the same rights as provided in this Sublease (including, without limitation, the provisions of the Master Lease incorporated herein by reference) for nonpayment of Rental. Nothing in this Section 3.3 contained and no acceptance of late charges by 2 Sublandlord shall be deemed to extend or change the time for payment of Rental. 3.3 DEPOSIT. Upon execution of this Sublease, Subtenant shall deposit with Landlord the sum of $31,907 (the "Deposit"). The Deposit shall be held by Sublandlord as security for the faithful performance by Subtenant of all the provisions of this Sublease to be performed or observed by Subtenant. If Subtenant fails to pay rent or other sums due hereunder, or otherwise defaults with respect to any provisions of this Sublease, Sublandlord may use, apply or retain all or any portion of the Deposit for the payment of any rent or other sum in default or for the payment of any other sum to which Sublandlord may become obligated by reason of Subtenant's default, or to compensate Sublandlord for any loss or damage which Sublandlord may suffer thereby. If Sublandlord so uses or applies all or any portion of the Deposit, Subtenant shall within ten (10) days after demand therefor deposit cash with Sublandlord in an amount sufficient to restore the Deposit to the full amount thereof and Subtenant's failure to do so shall be a material breach of this Lease. Sublandlord shall not be required to keep the Deposit separate from its general accounts. If Subtenant performs all of Subtenant's obligations hereunder, the Deposit, or so much thereof as has not theretofore been applied by Sublandlord, shall be returned, without interest, to Subtenant following the expiration of the term hereof, and after Subtenant has vacated the Premises. No trust relationship is created herein between Sublandlord and Subtenant with respect to the Deposit. 4. USE AND OCCUPANCY. 4.1 USE. The Subleased Premises shall be used and occupied only for the purposes expressly permitted under the Master Lease, and for no other use or purpose. 4.2 COMPLIANCE WITH MASTER LEASE. (a) Subtenant agrees that it will occupy the Subleased Premises in accordance with the terms of the Master Lease and will not suffer to be done or omit to do any act which may result in a violation of or a default under any of the terms and conditions of the Master Lease, or render Sublandlord liable for any damage, charge or expense thereunder. Subtenant further covenants and agrees to indemnify Sublandlord against and hold Sublandlord harmless from any claim, demand, action, proceeding, suit, liability, loss, judgment, expense (including attorneys' fees) and damages of any kind or nature whatsoever arising out of, by reason of, or resulting from, Subtenant's failure to perform or observe any of the terms and conditions of the Master Lease or this Sublease. Any other provision in this Sublease to the contrary notwithstanding, Subtenant shall pay to Sublandlord as Rental hereunder any and all sums which Sublandlord may be required to pay 3 to Landlord arising out of a request by Subtenant for additional Building services from Landlord (e.g. charges associated with after-hour HVAC usage). (b) Subtenant agrees that Sublandlord shall not be required to perform any of the covenants, agreements and/or obligations of Landlord under the Master Lease and any obligation of Sublandlord which is contained in this Sublease by the incorporation by reference of the provisions of the Master Lease may be observed or performed by Sublandlord using reasonable efforts to cause Landlord to observe and/or perform the same (provided, such efforts are at no cost to Sublandlord), and Sublandlord shall have a reasonable time to enforce its rights to cause such observance or performance. Sublandlord shall not be required to furnish, supply or install anything under any article of the Master Lease incorporated herein by reference which is to be furnished, supplied or installed by Landlord. If Sublandlord fails, after using reasonable efforts, to cause Landlord to observe and/or perform any of its obligations under the Master Lease with respect to the Subleased Premises, Subtenant shall have the right, upon notice to Sublandlord, and at Subtenant's sole cost and expense, to bring an action in Sublandlord's name, to accomplish such purpose. Sublandlord shall not be responsible for any failure or interruption, for any reason whatsoever, of the services or facilities that may be appurtenant to or supplied at the Building by the Landlord or otherwise, including, without limitation, heat, air conditioning, ventilation, life-safety, water, electricity, elevator service and cleaning service, if any; and no failure to furnish, or interruption of, any such services or facilities shall give rise to any (i) abatement, diminution or reduction of Subtenant's obligations under this Sublease, or (ii) liability on the part of Sublandlord; provided, however, that if Subtenant brings an action in Sublandlord's name against Landlord as provided above, then, to the extent any judgment in such action requires Landlord to pay any costs, expenses or damages, or grant any abatement, diminution or reduction of obligations, in respect of the Subleased Premises, the same shall accrue to the benefit of Subtenant if and when any such payment is made by Landlord or any such abatement, diminution or reduction goes into effect. 4.3 UTILITIES. Subtenant shall pay its share of all utilities, including, electrical service. Subtenant shall be responsible for paying the cost of those utilities directly to the supplier. 5. MASTER LEASE AND SUBLEASE TERMS. 5.1 MASTER LEASE. Subtenant acknowledges that Subtenant has reviewed and is familiar with all of the terms, agreements, covenants and conditions of the Master Lease. This Sublease is and shall be at all times subject and subordinate to the Master Lease. This Sublease is also subject and subordinate to any further 4 amendments to the Master Lease. Additionally, Subtenant's rights under this Sublease shall be subject to the terms of the Consent to Sublease attached hereto as EXHIBIT B and incorporated herein by reference. 5.2 INCORPORATION BY REFERENCE. Except as otherwise provided in EXHIBIT C attached hereto, the terms, convenants and conditions of the Master Lease are incorporated herein by reference so that each and every term, covenant and condition of the Master Lease which are binding or inuring to the benefit of the landlord thereunder shall, in respect of this Sublease, bind or inure to the benefit of Sublandlord, and each and every term, covenant and condition of the Master Lease which are binding or inuring to the benefit of the tenant thereunder shall, in respect of this Sublease, bind or inure to the benefit of Subtenant, with the same force and effect as if such terms, covenants and conditions were completely set forth in this Sublease, and as if the words "Landlord" and "Tenant," or words of similar import, wherever the same appear in the Master Lease, were construed to mean, respectively, "Sublandlord" and "Subtenant" in this Sublease, as if the word "Premises", or words of similar import, wherever the same appear in the Master Lease, were construed to mean "Subleased Premises" in this Sublease, as if the words "subtenant" and "sublease" or words of similar import, wherever the same appear in the Master Lease, were construed to mean "sub-subtenant" or sub-sublease", respectively, and as if the word "Lease," or words of similar import, wherever the same appear in the Master Lease, were construed to mean this Sublease. The time limits contained in the Master Lease for the giving of notices, making of demands or performing of any act, condition or covenant on the part of the tenant thereunder, or for the exercise by the tenant thereunder of any right, remedy or option, are changed for the purposes of incorporation herein by reference by shortening the same in each instance by three days, so that in each instance Subtenant shall have three days less time to observe or perform hereunder than Sublandlord has as the tenant under the Master Lease. The time limits contained in the Master Lease for the giving of notices, making of demands or performing of any act, condition or covenant on the part of Landlord, or for the exercise by Landlord of any right, remedy or option, are changed for the purposes of incorporation herein by reference by doubling the same in each instance, so that in each instance Sublandlord shall have twice as much time to observe or perform hereunder than Landlord has under the Master Lease. Any non-liability, release, indemnity or hold harmless provision in the Master Lease for the benefit of the landlord under the Master Lease that is incorporated herein by reference, shall be deemed to inure to the benefit of Sublandlord, the landlord under the Master Lease, and any other person intended to be benefitted by said provision, for the purpose of incorporation by reference in this Sublease. 5 5.3 EXCEPTIONS TO SECTION 5.2. Notwithstanding the terms of Section 5.2 above, Subtenant shall have no rights or obligations under the parts, Sections and Exhibits of the Master Lease described in EXHIBIT C. 5.4 COMPLIANCE WITH MASTER LEASE. During the Term and for all periods subsequent thereto with respect to obligations which have arisen prior to the termination of this Sublease, Subtenant agrees to perform and comply with, for the benefit of Sublandlord and Landlord, the obligations of Sublandlord under the Master Lease which pertain to the Subleased Premises and/or this Sublease, except for those provisions of the Master Lease which are directly contradicted by this Sublease, in which event the terms of this Sublease document shall control over the Master Lease. 6. INDEMNITY. Subtenant shall indemnify, defend and hold harmless Sublandlord from and against all losses, costs, damages, expenses and liabilities, including, without limitation, reasonable attorneys' fees and disbursements, which Sublandlord may incur or pay out (including, without limitation, to Landlord under the Master Lease) by reason of (i) any accidents, damages or injuries to persons or property occurring in, on or about the Subleased Premises (unless the same shall have been caused by Sublandlord's gross negligence or willful misconduct), (ii) any breach or default hereunder on Subtenant's part, (iii) the successful enforcement of Sublandlord's rights under this Sublease, (iv) any work done after the date hereof in or to the Subleased Premises, except for Sublandlord's negligence or willful misconduct in performing the work specified in Section 1.1 above, or (v) any act, omission or negligence on the part of Subtenant and/or its officers, partners, employees, agents, customers and/or invitees, or any person claiming through or under Subtenant. 7. DEFAULT. In the event any default by Subtenant continues, in the case of the payment of Annual Rental, Additional Rental or any other Rental or other sums due hereunder, for more than five (5) days after written notice thereof to Subtenant from Sublandlord or in the event any other default of Subtenant continues for more than twenty (20) days after written notice thereof to Subtenant from Sublandlord (unless Subtenant has, within said twenty (20) day period, commenced to cure such default and thereafter prosecutes the curing of such default to completion with due diligence), or if Subtenant makes any assignment for the benefit of creditors, except for such assignments secured by Subtenant's stock in trade, such as lines of credit, which are made in the normal course of business, commits any act of bankruptcy or files a petition under any bankruptcy or insolvency law, or if such a petition filed against Subtenant is not dismissed within sixty (60) days, or if a receiver or similar officer becomes entitled to the Sublease hold and it is not returned to Subtenant within sixty (60) days, or if Subtenant's interest in this Sublease is taken on execution or any other process of law in any action against 6 Subtenant, then, in any such instance, Sublandlord shall have the following remedies, which shall not be exclusive but shall be cumulative and shall be in addition to any other remedies now or hereafter allowed by law: 7.1 TERMINATION. Sublandlord shall have the right to terminate Subtenant's right to possession of the Subleased Premises at any time by giving a written termination notice to Tenant and, on the date specified in such notice, Tenant's right to possession shall terminate and this Sublease shall terminate. Upon such termination, Sublandlord shall have the right to recover from Subtenant: (a) The worth at the time of award of all unpaid rent which had been earned at the time of termination; (b) The worth at the time of award of the amount by which all unpaid rent which would have been earned after termination until the time of award exceeds the amount of such rental loss that Subtenant proves could have been reasonably avoided; (c) The worth at the time of award of the amount by which all unpaid rent for the balance of the term of this Sublease after the time of award exceeds the amount of such rental loss that Subtenant proves could be reasonably avoided; and (d) All other amounts necessary to compensate Sublandlord for all the detriment proximately caused by Subtenant's failure to perform all of Subtenant's obligations under this Sublease or which in the ordinary course of things would be likely to result therefrom. The "worth at the time of award" of the amounts referred to in clauses (a) and (b) above shall be computed by allowing interest at the maximum annual interest rate allowed by law for business loans (not primarily for personal, family or household purposes ) not exempt from the usury law at the time of termination or, if there is no such maximum annual interest rate, at the rate of eighteen percent (18%) per annum. The "worth at the time of award" of the amount referred to in clause (c) above shall be computed by discounting such amount at the discount rate of the Federal Reserve Bank of San Francisco at the time of award plus one percent (1%). For the purpose of determining unpaid rent under clauses (a), (b) and (c) above, the rent reserved in this Sublease shall be deemed to be the total Rental payable by Subtenant hereunder. 7.2 CONTINUE SUBLEASE IN EFFECT. Pursuant to California Civil Code Section 1954.1, or any successor statute thereof, Sublandlord shall have the right to continue this Sublease in effect for so long as Sublandlord does not terminate Subtenant's right to possession, and Sublandlord shall have the right to enforce all its rights and remedies under this Sublease, including the right to 7 recover all rent as it becomes due under this Sublease. Acts of maintenance or preservation or efforts to relet the Subleased Premises or the appointment of a receiver upon initiative of Sublandlord to protect Sublandlord's interest under this Sublease shall not constitute a termination of Subtenant's right to possession unless written notice of termination is given by Sublandlord to Subtenant. 7.3 SURRENDER. If Sublandlord elects to terminate this Sublease or Subtenant's right to possession hereunder, Sublease shall surrender the Subleased Premises in broom-clean condition, and Sublandlord may re-enter and take possession of the Subleased Premises and may eject all parties in possession. Any personal property remaining on the Subleased Premises at the time of such re-entry may be treated by Sublandlord as abandoned. 8. CONSENT OF LANDLORD. Under the Master Lease, Sublandlord must obtain the consent of Landlord to any subletting. 9. ALTERATIONS AND IMPROVEMENTS. Tenant shall not make any alterations, improvements, replacements and other changes to the Subleased Premises or the Building Service Systems serving the Subleased Premises without obtaining the prior consent of Landlord pursuant to the terms of the Master Lease and Sublandlord, which consent of Sublandlord may not be unreasonably withheld. 10. CASUALTY AND CONDEMNATION. If, in the event of eminent domain or partial or complete destruction of the Subleased Premises, by operation of its terms, the Master Lease is not terminated and continues in full force and effect, this Sublease shall not be terminated but shall also continue in full force and effect, except that until the Master Premises are restored in accordance with the terms of the Master Lease, there shall be a proportionate abatement of Annual rental and additional rent payable hereunder to the extent of damage to the Subleased Premises; provided, however, that such abatement shall in no event exceed the pro rata abatement granted to Sublandlord under the Master Lease for the Master Premises and, provided further, that no compensation or claim or reduction will be allowed or paid by Sublandlord by reason of inconvenience, annoyance or injury to Subtenant's business arising from the necessity of effecting repairs to the Master Premises or any portion of the Building, whether such repairs are required by operation of the terms of the Master Lease. 11. ATTORNEYS' FEES. If Sublandlord, Subtenant or Landlord brings an action to enforce the terms hereof or to declare rights hereunder, the prevailing party who recovers substantially all of the damages, equitable relief or other remedy sought in any such action on trial and appeal shall be entitled to his reasonable attorney's fees to be paid by the losing party as fixed by the Court. 8 12. TERMINATION OF MASTER LEASE. If for any reason the term of the Master Lease shall terminate prior to the scheduled expiration of the Term, Sublandlord shall not be liable to Subtenant by reason thereof unless (i) Subtenant shall not then be in default hereunder beyond any applicable notice and cure period and (ii) such termination shall have been effected because of the breach or default of Sublandlord under the Master Lease or by reason of the voluntary termination or surrender of the Master Lease by Sublandlord. 13. PARKING. During the Term hereof, and, subject to Sublandlord's receipt of parking spaces for use pursuant to the provisions of Paragraph 5 of Amendment to Lease dated October 22, 1992, Subtenant and its employees shall be permitted to use 105 parking spaces allocated to Sublandlord in the Master Lease. 14. SIGNAGE AND BUILDING DIRECTORY BOARD. Subject to all the requirements set forth in the Master Lease, Subtenant shall have the sole right to install at its cost a monument sign with its name in the location of Sublandlord's current sign. Sublandlord shall use its reasonable efforts to cause Landlord to provide Subtenant with identity strips in the main Building lobby directory boards; provided, however that if there is any cost associated with such signage, Subtenant shall be responsible for such cost. 15. SURRENDER AND HOLDING OVER. 15.1 SURRENDER. At the end of the Term, Subtenant shall surrender to Sublandlord the Subleased Premises and all alterations, additions and improvements thereto in the same condition as the Subleased Premises where in as of the Commencement Date, ordinary wear and tear excepted. 15.2 HOLDING OVER. If Subtenant holds possession of the Subleased Premises after expiration of the Term, Subtenant shall become a tenant from month to month upon the terms herein specified, except the Annual Rental shall equal three times the Annual Rental payable by Subtenant at the expiration of the Term. 16. NOTICES: Any notice by either party to the other required, permitted or provided for herein shall be valid only if in writing and shall be deemed to be duly given only if (a) delivered personally, or (b) sent by means of Federal Express, UPS Next Day Air or another reputable express mail delivery service guaranteeing next day delivery, or (c) sent by United States Certified or registered mail, return receipt requested, addressed (i) if to Sublandlord, at the following addresses: Adobe Systems Incorporated Post Office Box 7900 Mountain View, CA 94039-7900 Attn: Director of Corporate Facilities 9 With a copy to: Adobe Systems Incorporated Post Office Box 7900 Mountain View, CA 94039-7900 Attn: General Counsel and (ii) if the Subtenant, delivered at the following address: DAOU Systems, Inc. 5120 Shoreham Place, Suite 100 San Diego, California 92122 Attention: Dan Porter, Vice President or at such other address for either party as that party may designate by notice to the other. A notice shall be deemed given and effective, if delivered personally, upon hand delivery thereof, if sent via express mail, upon hand delivery, and if mailed by United States certified or registered mail, five (5) days following such mailing in accordance with this Section 15. 17. NO WAIVER. The failure of Sublandlord to insist in any one or more cases upon the strict performance or observance of any obligation of Subtenant hereunder or to exercise any right or option contained herein shall not be construed as a waiver or relinquishment for the future of any such obligation of Subtenant or any right or option of Sublandlord. Sublandlord's receipt and acceptance of, or Sublandlord's acceptance of performance of any other obligation by Subtenant, with knowledge of Subtenant's breach of any provision of this Sublease, shall not be deemed a waiver of such breach. No waiver by Sublandlord of any term, convenant or condition of this Sublease shall be deemed to have been made unless expressed in writing and signed by Sublandlord. 18. SUCCESSORS AND ASSIGNS. The provisions of this Sublease, except as herein otherwise specifically provided, shall extend to, bind and inure to the benefit of the parties hereto and their respective personal representatives, heirs, successors and permitted assigns. Upon any assignment or transfer of Sublandlord's interest in the leasehold estate under the Master Lease, the transferor or assignor, as the case may be, shall be and hereby is entirely relieved and freed of all obligations under this Sublease. 19. INTERPRETATION. Irrespective of the place of execution or performance, this Sublease shall be governed by and construed in accordance with the laws of the State of California. If any provision of this Sublease or the application thereof to any person or circumstance shall, for any reason and to any extent, be invalid or unenforceable, the remainder of this Sublease and the application of that provision to other persons or circumstances shall not be affected but rather shall be enforced to the extent 10 permitted by law. The captions, headings and titles, if any, in this Sublease are solely for convenience of reference and shall not affect its interpretation. This Sublease shall be construed without regard to any presumption or other rule requiring construction against the party causing this Sublease or any part thereof to be drafted. If any words or phrases in this Sublease shall have been stricken out or otherwise eliminated, whether or not any other words or phrases have been added, this Sublease shall be construed as if the words or phrases so stricken out or otherwise eliminated were never included in this Sublease and no implication or inference shall be drawn from the fact that said words or phrases were so stricken out or otherwise eliminated. Each covenant, agreement, obligation or other provisions of this Sublease shall be deemed and construed as a separate and independent covenant of the party bound by, undertaking or making same, not dependent on any other provision of this Sublease unless otherwise expressly provided. All terms and words used in this Sublease, regardless of the number or gender in which they are used, shall be deemed to include any other number and any other gender as the context may require. The word "person" as used in this Sublease shall mean a natural person or persons, a partnership, a corporation or any other form of business or legal association or entity. 20. COUNTERPARTS. This Sublease may be executed in separate counterparts, each of which shall constitute an original and all of which together shall constitute one and the same instrument. This Sublease shall be fully executed when each party whose signature is required has signed and delivered to each of the parties at least one counterpart, even though no single counterpart contains the signatures of all parties hereto. IN WITNESS WHEREOF, the parties hereto hereby execute this Sublease as of the day and year first above written. SUBLANDLORD: ADOBE SYSTEMS INCORPORATED By:/s/ ------------------------------------------ Print Name: ------------------------------------- Title: ------------------------------------------ SUBTENANT: DAOU SYSTEMS, INC. By:/s/ ------------------------------------------ Print Name: ------------------------------------- Title: ------------------------------------------ 11 EXHIBIT A-1 Subleased Premises - Floor 1 [to be attached] 12 EXHIBIT A-2 Subleased Premises - Floor 2 [to be attached] 13 EXHIBIT B Landlord's Consent [to be attached] 14 EXHIBIT C The following provisions of the Master Lease are not incorporated by reference into the Master Lease: Section 5.3; Section 11(a); Section 11(b)(1); Sections 2,3,4,5,6, and 10 of Addendum 1; The entire terms of Addendums 2-6; Section 40 (as set forth in Rider #1). 15 EX-10.6 12 EXHIBIT 10.6: INFORMATION MGMT. AGMT. INFORMATION MANAGEMENT AGREEMENT THIS AGREEMENT is entered into as of this first day of April, 1996, by and between Candler Health System located at PO Box 9787, Savannah, Georgia ("Client") and DAOU Systems, Inc., a California corporation ("DAOU"). RECITALS (A) DAOU is in the business of furnishing Information Management Services in order to better align Client's organization leadership vision with their operating practices through the applications of technology, and is capable of providing trained personnel to perform management services, consultation engagements, operational management functions and to staff technical information processing activities of clients and has agreed to do so in accordance with the terms of this Agreement; (B) The Client desires to contract with DAOU to plan, manage, improve, and operate the Management Information Services functions through the application of DAOU's trained employees (C) The Client has specific need for information management services including management, operations, system administration, application support, programming support, network management, and software acquisition and development support, and currently identified in Exhibit A, Scope of Service and Exhibit B, Level of Services, to this Agreement; (D) DAOU and the Client are entering into this Agreement on the understanding that the price for DAOU's services under this Agreement has been set to reflect the fact that the legal and equitable remedies available to each party under this Agreement are strictly limited to those remedies set forth in this Agreement and neither party has undertaken and neither party can undertake any liability for indirect, incidental, consequential or punitive damages including but not limited to any loss of revenues, loss of income, loss of profits or other financial remedies not expressly set forth in this Agreement; and (E) DAOU and the Client desire to avoid litigation and to fully and finally resolve any disputes and all other disagreements pursuant to the mediation and arbitration provisions of this Agreement. In consideration of the foregoing and mutual promises contained herein, the Client and DAOU agree as follows: IT IS AGREED THAT: SECTION 1. DEFINITIONS The following definitions shall apply to the terms used in this Agreement: 1.1 AGREEMENT The term "Agreement" means this Agreement and any Addendum, supplement or other written amendment hereto signed by the parties to this Agreement. 1.2 CONFIDENTIAL INFORMATION The term "Confidential Information" means all business, financial, statistical, medical, personnel and technical data in tangible and/or intangible form which is clearly and conspicuously marked "CONFIDENTIAL" or as defined as confidential by law, or provided or disclosed, by one party to the other, with notice of its confidential nature. * CONFIDENTIAL TREATMENT REQUESTED 1.3 CONTRACT ADMINISTRATOR The term "Contract Administrator" means that person. or his or her replacement, designated by Client under Paragraph 3.2 of this Agreement. 1.4 EXCLUSIVE REMEDIES The term "Exclusive Remedies" shall mean those remedies which are the sole and exclusive remedies of each party under this Agreement as set forth in Paragraph 9. 1.5 EXISTING SYSTEMS The term "Existing Systems" shall mean those computer hardware and software configurations set forth on Exhibit A hereto. 1.6 INFORMATION MANAGEMENT SERVICES The term "Information Management Services" means the Services to be provided to Client by DAOU as described in Exhibit A. 1.7 CHIEF INFORMATION OFFICER The term " Chief Information Officer" means the individual designated by DAOU to be responsible for the Services to be provided to the Client under the terms of this Agreement. 1.8 LEVEL OF SERVICE The term "Level of Service" means the level of services and during the hours described in Exhibit B for which DAOU shall provide Client with Information Management Services in accordance with the terms hereof. 1.9 PERFORMANCE STANDARDS The term "Performance Standards" shall mean the standards to be developed in Exhibit C for those services described in Exhibit A herein, at the Level of Service described in Exhibit B. 1.10 SERVICE FEE The term "Service Fee" shall mean the fees set forth in Exhibit B for those services described in Exhibit A herein, at the Level of Service described in Exhibit B. 1.11 SERVICES The term "Services" means collectively the services described in Exhibit A of this Agreement and the Level of Service described in Exhibit B of this Agreement to be provided by DAOU to the Client 1.12 SUPPLEMENTAL SERVICES The term "Supplemental Services" means those additional and separately billable Information Management Services, software development or other services which are beyond the Level of Service defined by this Agreement or which are in addition to the items set forth in Exhibits A and B. * CONFIDENTIAL TREATMENT REQUESTED 1.13 SYSTEM The term "System" shall mean the Existing Systems, including but not be limited to all replacements thereof and additions thereto, and the software, operating together as a system. 1.14 TRANSITION SERVICES The term "Transition Services" means the services described in Exhibit D provided by DAOU at the termination of this Agreement. SECTION 2. SERVICE 2.1 SCOPE OF SERVICE DAOU agrees to furnish Client Information Management Services, Level of Service, Performance Standards, and Transition Services as specifically described in Exhibits A, B, C and D respectively. DAOU and Client may only expand Services provided by DAOU by execution of amended exhibits signed by both parties. 2.2 LEVEL OF SERVICE The Level of Service, as described in Exhibit 8, is the basis for the monthly fees provided for in Section 6. If, during the term of this Agreement, or any renewals, the Level of Service to Client shall change, the total monthly fee shall change as described in Exhibit B. 2.3 SUPPLEMENTAL SERVICES Upon the written consent of Client and DAOU, DAOU shall provide Supplemental Services, in addition to that listed in the attached exhibits, at either the DAOU current published or negotiated rates between the parties. Any such Supplemental Services shall be in accordance with all terms and conditions of this Agreement. Nothing in this Agreement shall require that either Client or DAOU agree to any Supplemental Services. 2.4 THIRD PARTY VENDORS Client represents that the Existing System includes software of third party vendors, which software is property owned by or property subject to licensing or similar agreements between the Client and such vendors and includes the rights of the Client for maintenance, upgrades and enhancements. The Client shall, as soon as is practicable after the execution hereof, deliver copies of all such agreements to DAOU. DAOU shall use reasonable efforts to act on the Client's behalf with respect to such third party agreements. SECTION 3. PERSONNEL 3.1 CHIEF INFORMATION OFFICER DAOU will designate , after consultation with client, a Chief Information Officer who shall be responsible for coordinating DAOU's efforts thereunder and for communicating with Client's Contract Administrator with regard to the proper execution of this Agreement and the obligations and duties thereunder. 3.2 CONTRACT ADMINISTRATOR * CONFIDENTIAL TREATMENT REQUESTED Client shall designate the CFO or his or her designee as its Contract Administrator. The Contract Administrator shall be responsible for communicating with DAOU's Information Services Manager with regard to the proper execution of this Agreement and the obligations and duties thereunder. The Contract Administrator shall have complete authority to make decisions on behalf of Client with regard to all matters relating to this Agreement. 3.3 DAOU/CLIENT REPORTING RELATIONSHIP (a) DAOU shall provide written status reports to the Contract Administrator on a monthly basis Such status reports shall provide the information reasonably necessary to evaluate DAOU's performance. (b) DAOU shall report to Client regarding an event or circumstance which has occurred which shall materially impair DAOU's performance under this Agreement and DAOU's proposed response to such event or circumstance. 3.4 CONTINGENCY SERVICES DAOU personnel may occasionally perform services for the Client at other locations or for others using the resources located on Client's premises for which DAOU is responsible and DAOU may do so as long as the DAOU Services under this Agreement shall not be adversely affected. 3.5 [*] SECTION 4. TERM The initial term of this Agreement shall be for a period of [*] Both parties agree that the fees outlined in Exhibit B are in consideration of the entire initial term and that any adjustments to those fees within the Term of this Agreement, other than those identified in Paragraph 6.3 below, must be mutually agreed to and incorporated as an addendum. 4.1 CHANGE OF CONTROL In the event that Client merges with St. Joseph's Hospital (Savannah, GA) or otherwise becomes controlled by or in common control with any entity which also controls St. Joseph's Hospital, [*] [*] Client shall pay the sum of six hundred thousand dollars ($600,000) upon early termination due to the Change in control as provided herein. [*] * CONFIDENTIAL TREATMENT REQUESTED SECTION 5. TERMINATION 5.1 EVENTS OF TERMINATION This Agreement may be terminated: (a) By either party, to the extent permitted under applicable law, if the other ceases to function as a going concern becomes insolvent, makes an assignment for the benefit of creditors, files a petition in bankruptcy, permits a petition in bankruptcy to be filed against it (which is not dismissed within sixty (60) days) or admits in writing its inability to pay its debts as they mature; or if a receiver is appointed over a substantial part of its assets (which is not dismissed within sixty (60) days); (b) By DAOU for the non-payment of any monthly fees or charges to Client and which nonpayment continues for a period of thirty (30) days from the date of invoice; provided, however, that if Client has a bona fide dispute regarding a specific invoice, then such non-payment shall not be grounds for a termination hereof if Client pays to DAOU the entire invoiced amount whether or not disputed and continues to pay fully in accordance with Paragraph 9.3 while submitting the dispute to the dispute resolution procedures as set forth in Paragraph 9.2; (c) By either party in event of a material breach or nonperformance by the other of any provision of this Agreement, provided however, that written notice of the alleged breach shall have been given to the allegedly breaching party who shall not have remedied or cured the alleged breach within thirty (30) days after delivery of such notice; or if remedy or cure requires more than thirty (30) days, who shall not have actively commenced and diligently continued efforts to remedy or cure the alleged breach, provided further, that this Agreement shall not be terminated by such alleged breach if such alleged breach is submitted to the dispute resolution procedures set forth herein; or (d) [*] 5.2 TRANSITION PLAN Upon a proper notice of termination given by Client in accordance with Paragraph 5.1, at the request of Client, DAOU shall make available to Client, the personnel necessary to carry out a mutually agreed to transition plan to be executed within the remaining term of the Agreement. The topics to be included in the transition plan include, but are not limited, to those outlined in attached and incorporated Exhibit D. Each party will cooperate fully with the other and/or its designees, so that the transition of Services rendered under this Agreement shall be timely and efficient and implemented in a manner so as to least interfere with the orderly conduct of Client's business and so as not to unduly interfere with DAOU's other operations. 5.3 PERSONNEL TRAINING Upon a proper notice of termination given by Client in accordance with Paragraph 5.1 for any reason other than breach by Client for non-payment by Client, Client, after notice and preceding termination date, shall have the right to assign a reasonable number of Client's employees to participate with the employees of DAOU in the performance of their remaining services. DAOU shall cause its employees to acquaint and instruct the employees of Client regarding the work, to facilitate a smooth transition according to the Transition Plan, and to continuously operate all data processing functions 5.4 EQUIPMENT Upon expiration or termination of this Agreement, or any extension or renewals thereof, all office furniture, equipment, documents, records, books, tapes, disks and files provided by Client or DAOU shall be returned to Client * CONFIDENTIAL TREATMENT REQUESTED or DAOU in substantially the same condition as received, ordinary wear and tear expected. Neither Client nor DAOU shall dispose of the other party's property without the prior consent of the other party. SECTION 6. FEES FOR SERVICES AND TERMS OF PAYMENT 6.1 FEES FOR SERVICE The monthly fees for Services provided thereunder are described in Exhibit B. 6.2 PAYMENT Monthly fees shall be due and payable the first day of each month. Fractional months shall be prorated. Payment for Supplemental "Services shall be invoiced monthly and due ten (10) days from the receipt of invoice. Balances past due in excess of thirty (30) days from receipt of invoice shall bear overdue service charges at one and one-half (1-1/2) percent per month or the highest rate permitted by law, whichever is less. 6.3 ANNUAL ADJUSTMENT OF MONTHLY FEES Annually, on the anniversary date of this Agreement, the Fees for Services set forth in Exhibit B shall be adjusted, equal to the adjustment provided by Client to Client employees during the most recent 12 month period.. This adjustment shall apply only to the personnel portion of this Agreement. SECTION 7. INSURANCE AND TAXES 7.1 INSURANCE DAOU shall procure and maintain public liability insurance in the amount of [*] errors and omissions insurance in the amount of [*] per occurrence on a claims made basis with a total of [*] aggregate on an annual claims made basis, and workers' compensation insurance on its own employees. DAOU shall provide Client with at least thirty (30) days' advance written notice prior to any cancellation or reduction in coverage. 7.2 TAX AND LICENSES Taxes, other than income taxes, applicable business taxes and license fees, imposed by any taxing authority based upon any Services furnished under this Agreement shall be the responsibility of Client and shall be payable in addition to other fees or charges. Each party may provide the other, in lieu of paying any such tax, with a certificate of exemption in form reasonably satisfactory to the other party. SECTION 8. PERFORMANCE UNDER THIS AGREEMENT 8.1 IN GENERAL The parties acknowledge and agree that performance under this Agreement will require the availability of their respective representatives for the continued definition and setting of priorities, the balancing of competing tasks and schedules, and the adjustment of priorities over different tasks and different schedules so as to address, on a daily basis, the needs of the Client within the scope of this Agreement. * CONFIDENTIAL TREATMENT REQUESTED 8.2. COOPERATION DAOU and the Client agree that they will each use good faith and reasonable efforts to define, plan and coordinate the different priorities and schedules agreed to by the parties within the scope of this Agreement. 8.3 FULL DISCLAIMER OF WARRANTIES DAOU HEREBY DISCLAIMS ALL WARRANTIES OF ANY KIND, INCLUDING BUT NOT LIMITED TO, ANY EXPRESS WARRANTIES NOT INCORPORATED INTO THIS AGREEMENT OR ANY IMPLIED WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE IMPOSED BY LAW OR WHICH COULD OTHERWISE ARISE IN CONNECTION WITH DAOU'S OBLIGATIONS UNDER THIS AGREEMENT. DAOU'S SOLE AND EXCLUSIVE OBLIGATION THEREUNDER IS TO USE REASONABLE EFFORTS AND ITS BEST BUSINESS JUDGMENT IN PERFORMING THE TASKS SET FORTH IN THIS AGREEMENT, IN ACCORDANCE WITH THE RESOURCE ASSUMPTIONS AND PARAMETERS SET FORTH HEREIN. 8.4 PROBLEMS IN PERFORMANCE In the event of any failure of the parties mutually to agree on any matters under this Agreement or in the event that either party believes that the other has failed to satisfactorily perform or otherwise is in breach of the Agreement and if the parties are unable to resolve such matter through their respective representatives then the parties shall submit the matter to resolution in accordance with the procedures set forth in Section 9 below. SECTION 9. REMEDIES 9.1 LIMITATION OF LIABILITY; INDEMNIFICATION BY CLIENT Except for the Service Fees and other amounts expressly due and payable to DAOU, in no event shall either party be liable to the other for any damages arising in any manner under this Agreement including but not limited to indirect, incidental, consequential, special, exemplary or other damages or loss of revenues, loss of income, loss of profits, other financial remedies except those remedies for direct damages set forth as follows. To the extent any claim is made and fully covered by insurance provided in Paragraph 7.1 of this Agreement, the limitations of liability of this Paragraph 9.1 shall not apply, but, if a claim by one party to this Agreement against the other is not covered or is only partly covered by insurance provided in Paragraph 7.1, then in no event shall either party's liability to the other if there be any for any claims whatsoever or for any reason whatsoever) exceed [*] 9.2 Dispute Resolution Procedure In the event that the parties have any disagreement, dispute, breach or claim of breach, or nonperformance or repudiation arising from, in relation to or in connection with this Agreement or any of the terms or conditions hereof, or any transaction thereunder including but not limited to either party's failure or alleged failure to comply with any of the provisions of this Agreement (hereinafter collectively the "Dispute"), the parties shall first promptly provide in writing to the other a general written statement of their respective claims. This statement need not be complete and will not limit the claims of either party in any further procedure with respect to this Agreement. The statement shall indicate that it is the first statement of a formal dispute resolution process under this Agreement. If the parties are unable to resolve the dispute within ten (10) business days of receipt of such written statement, the claimant may proceed as otherwise contemplated by this Agreement. (a) INTERNAL RESOLUTION PROCEDURES * CONFIDENTIAL TREATMENT REQUESTED (i) Within ten (10) working days of the time that one party informs the other of a Dispute, the Client's Contract Administrator and DAOU's Chief Information Officer shall conduct a meeting to reach an agreement to use their best efforts to either (a) resolve the matter and set forth such resolution in writing or (b) define the Dispute in writing including a description of the position of each party and the other projects and tasks which would be affected by the proposed resolution submitted by the Client's Contract Administrator and by the proposed resolution submitted by DAOU's Chief Information Officer, ii) If the Client's Contract Administrator and DAOU's Chief Information Officer are unable to reach an agreement pursuant to Subparagraph (i), then within ten (10) working days of such failure to agree, at least one knowledgeable representative of DAOU management and at least one knowledgeable representative of the Client shall meet in Savannah, GA, to attempt to reach a resolution of the matter in light of the description of the Dispute submitted by the parties and further discussion among and between the parties and their respective representatives. (b) MEDIATION RESOLUTION PROCEDURE If the procedure set forth in Subparagraph (a) is unsuccessful in resolving the Dispute, the parties shall, within fifteen (15) working days, commence a mediation session by notice of selection of a third party, neutral mediator and a proposed time and date for the mediation. If the other party does not propose an alternative mediator then the mediation shall occur before the first person proposed. If the other party does propose an alternative mediator, then the two proposed shall promptly jointly select a third party, neutral to act as the sole mediator. The mediation shall take place in Savannah, Georgia, and all mediator fees shall be equally shared by the parties. If the parties are able to reach a resolution of the Dispute, the resolution so reached shall be memorialized in writing and shall, upon the mutual written consent of both parties, become part of this Agreement. If the parties are unable to resolve the Dispute through mediation, either party has the option to terminate mediation and upon doing so, the parties shall continue under this Agreement in accordance with Section 9.3 and the parties shall submit any disputes to binding arbitration under subsection (c) below. (c) BINDING ARBITRATION If the parties are unable to reach an agreement pursuant to subparagraphs (a) and (b) above, the Dispute shall be resolved by mandatory, binding expedited arbitration in Savannah, Georgia in accordance with the following terms and conditions: (i) AAA Rules Apply. Any dispute relating to or arising out of the interpretation or performance of this Agreement (other than claims for which injunctive relief is sought) and which have not been resolved pursuant to the procedures set forth in Section 9.2 (a) shall be resolved at the request of either party through binding arbitration pursuant to and under the then existing commercial arbitration rules of the American Arbitration Association. The decision of the arbitrators(s) shall be limited by those Exclusive Remedies set forth herein, including but not limited to the Limitation on Liability set forth in Section 9.1 herein. (ii) Discovery. The parties shall be permitted to obtain discovery from each other of documents and other tangible evidence at a time reasonably prior to the arbitration hearing. No depositions shall be allowed. (iii) Hearing. The arbitration hearing shall be conducted in Savannah, Georgia The parties shall agree on a single arbitrator with computer industry or data processing expertise or if they cannot so agree, they shall each name one arbitrator and the two arbitrators shall jointly name a third neutral arbitrator who has expertise in information management and/or data processing services, and a decision of any two of the three arbitrators shall bind the parties in all matters thereunder, * CONFIDENTIAL TREATMENT REQUESTED (iv) Award. The arbitrators award shall be final and judgment upon any award by the arbitrator may be entered by the state or federal district courts in Savannah, Georgia (v) Binding Obligation. Failure to meet any of the timelines in this Section shall not be considered default in performance, nor shall it affect the enforceability of the resolution procedures under this Section. 9.3 PERFORMANCE DURING DISPUTES DAOU shall be under the obligation to continue to provide Services to the Client while the parties are seeking to resolve any Dispute so long as the Client shall continue to pay DAOU all Service Fees, both past due and as they come due, with or without Client's reservation of rights. SECTION 10. CONFIDENTIALITY 10.1 CONFIDENTIAL INFORMATION Subject to Paragraph 10.2 below, both parties agree that: (a) Each party shall not disclose any Confidential Information of the other party to any third party without first obtaining written consent; (b) Each party shall limit dissemination of the other party's Confidential Information only to those employees, contractors and agents who require access thereto to perform their functions under this Agreement; (c) Each party agrees to return the Confidential Information to the disclosing party upon receipt of written request therefor, (d) Each party agrees that the standard of care to be applied in the performance of the obligations set forth above shall be the standard of care applied by the receiving party in treating its own Confidential Information, but at least reasonable care to prevent unauthorized copying, use, publication or disclosure; and (e) The term of the provisions of this Section shall survive termination of the Services or any determination that this Agreement or any portion hereof or Exhibit hereto is void or voidable. 10.2 EXCEPTIONS TO CONFIDENTIALITY The obligation of confidentiality set forth in Paragraph 10.1 shall not apply to any data or information that the receiving party proves: (a) Was already rightfully in the possession of the receiving party or any of its related companies prior to disclosure; (b) Was independently developed by employees having no access to Confidential Information; (c) Was publicly disclosed by a person other than the receiving party or its employees or agents without restrictions; (d) Was rightfully received from a third party without restrictions on disclosure or use; (e) Was approved for unrestricted release or unrestricted disclosure by the disclosing party; * CONFIDENTIAL TREATMENT REQUESTED (f) Was available by inspection of products or services marketed without restrictions, offered for sale or leased in the ordinary course of business by either party hereto or others; or (g) Was required to be produced or disclosed pursuant to applicable laws, regulations or court order, provided the receiving party has given the disclosing party the opportunity to defend, limit or protect such production or disclosure. 10.3 [*] SECTION 11. GENERAL 11.1 NOTICES Any notice required or permitted by this Agreement shall be in writing and accomplished by registered or certified mail. Such notice shall be deemed to have been delivered five (5) days after it has been mailed If to DAOU: President DAOU Systems, Inc. 5120 Shoreham Place San Diego, CA 92121 If to Client: Chief Financial Officer Candler Health System P. O. Box 9787 Savannah, GA 31405 * CONFIDENTIAL TREATMENT REQUESTED 11.2 WAIVER Waiver of breach or failure to perform any provision of this Agreement shall not be deemed a waiver of future performance nor shall it prejudice the waiving party's right to require strict performance of the same provision or any other provision in the future. No term or condition of this Agreement shall be waived, modified or deleted except by an instrument, in writing, signed by the parties hereto. 11.3 ASSIGNMENT Neither this Agreement, nor any of either party's obligations under this Agreement, shall be assignable by operation of law or otherwise, without the prior written consent of both parties. 11.4 NO AUTHORITY The parties are and shall remain independent contractors. Neither party shall have any authority, and neither party shall represent that it has any authority, to assume or create any obligation, express or implied, on behalf of the other party, except as provided in this Agreement. This Agreement shall not be construed as creating a partnership, joint venture, franchise, agency or employment relationship between the parties or as creating any other form of legal association that would impose liability on one party for the act or failure to act of the other party. 11.5 EXHIBITS All exhibits referred to in this Agreement are hereby incorporated by reference as though fully set forth in the text of this Agreement; in the event of any conflict between the body of this Agreement and any Exhibit to this Agreement, the body of this Agreement shall control over any conflicting provision in any Exhibit to this Agreement. 11.6 GOVERNING LAW This Agreement shall be interpreted by the laws of the State of Georgia. 11.7 ATTORNEY'S FEES Subject to Paragraphs 11.10 and 11.11 below, in the event any action is instituted to enforce any right granted herein, neither party shall be entitled to recover attorneys' fees or other costs incurred except for such costs, if any, (excluding attorneys' fees) awarded by arbitration. 11.8 TIME TO SUE All actions by either party arising out of this Agreement shall be commenced within twelve (1 2) months after the party has knowledge of the claim or within six (6) months of the expiration or earlier termination of this Agreement, whichever first occurs. No action may be brought by either party more than one (1) year after the cause of action has arisen. 11.9 SEVERABILITY If any part of this Agreement found to be invalid by a court of competent jurisdiction, all other provisions shall remain in full force and effect and the provisions found invalid shall be enforced by the court to the maximum enforceable by law. 11.10 INDEMNITY BY DAOU. * CONFIDENTIAL TREATMENT REQUESTED DAOU will defend Client against a claim that the licensed programs or licensed materials furnished by by DAOU and used within the scope of this Agreement by DAOU infringe a U.S. patent or copyright or another proprietary right of a third party. DAOU will pay resulting costs, damages and attorney fees finally awarded provided that: a) Client promptly notifies DAOU in writing of the claim, and b) DAOU has sole control of the defense and of all related settlement negotiations. If such claim has occurred or in DAOU's opinion is likely to occur, Client agrees to permit DAOU, at its option and expense, either to procure for Client the right to continue using the licensed programs or licensed materials or to replace or modify the same with functionally equivalent programs so that they become non-infringing. 11.11 INDEMNITY BY CLIENT Client will defend DAOU against a claim that the licensed programs or licensed materials fumished by Client and used within the scope of this Agreement by Client infringe a U.S. patent or copyright or another proprietary right of a third party. Client will pay resulting costs, damages and attorney fees finally awarded provided that: a) DAOU promptly notifies Client in writing of the claim, and b) Client has sole control of the defense and of all related settlement negotiations. If such claim has occurred or in Client's opinion is likely to occur, DAOU agrees to permit Client, at its option and expense, either to procure for DAOU the right to continue using the licensed programs or licensed materials or to replace or modify the same with functionally equivalent programs so they become non-infringing. 11.12 FORCE MAJEURE Neither party shall be liable for any delay or failure to perform its obligations thereunder to the extent that such delay or failure is caused by a force or event beyond the control of such party, including without limitation, war, embargoes, strikes, governmental restrictions, riots, fires, floods, earthquakes, or other Acts of God (the "Force Majeure") provided that DAOU shall use its best efforts to assist Client in establishing necessary Services elsewhere, in the event of the occurrences of a Force Majeure which: (a) Materially prevents DAOU from providing any of the Services for more than ten (10) business days, and DAOU has not successfully transferred Client's data processing to a backup facility under terms and conditions reasonably acceptable to the Client, or (b) Causes the normal operations of the site to be interrupted for more than forty-five (45) days, and in Client's reasonable business judgment it is necessary to pursue alternative means of meeting Client's data processing needs. DAOU shall use its best efforts to assist Client in establishing necessary Services elsewhere. 11.13 AFFIRMATIVE ACTION DAOU certifies that it is in compliance with the Equal Employment Opportunity Requirement of Executive Order 11246 as amended by Executive Order 11375, Section 503 of the Rehabilitation Act of 1973 as amended and 38 U.S.C. 4212 (the Vietnam Era Veterans Readjustment Assistance Act of 1974 as amended), Title VIl of the Civil Rights Restoration Act of 1987, the California Fair Employment Practices Act, and any other federal or state laws pertaining to equal employment opportunity, and that it will not discriminate against any employee or applicant for employment on the basis of race, color, religion, handicap, age, sex, national origin or ancestry in matters pertaining to recruitment, hiring, training, upgrading, transfer, compensation or termination. 11.14 MEDICARE ACCESS TO BOOKS AND RECORDS Until four (4) years following the completion of this Agreement, DAOU shall make available to the Secretary of Health and Human Services, the Inspector General, or their designees, any and all such books and records as are necessary to substantiate the Services provided under this Agreement. Should DAOU fulfill any part of the Services * CONFIDENTIAL TREATMENT REQUESTED rendered under this Agreement via subcontract with fees of ten thousand dollars ($1 0,000) or more, DAOU shall require such access to subcontractors' books and records as a condition of entering subcontract. SECTION 12. ENTIRE AGREEMENT THIS AGREEMENT SIGNED BY BOTH PARTIES, AND SO INITIALED BY BOTH PARTIES IN THE MARGIN OPPOSITE THIS SECTION, CONSTITUTES A FINAL WRITTEN EXPRESSION OF ALL OF THE TERMS OF THIS AGREEMENT AND IS A COMPLETE AND EXCLUSIVE STATEMENT OF THOSE TERMS. CLIENT WAS NOT INDUCED TO ------------- ENTER THIS AGREEMENT BY ANY STATEMENTS OR Client REPRESENTATIONS NOT CONTAINED IN THIS AGREEMENT. ANY AND ALL REPRESENTATIONS, PROMISES, WARRANTIES OR STATEMENTS BY DAOU'S OFFICERS, EMPLOYEES, OR OTHER AGENTS THAT DIFFER IN ANY WAY FROM THE TERMS OF THIS WRITTEN AGREEMENT SHALL BE GIVEN NO FORCE OF AFFECT. ------------- THIS AGREEMENT SHALL BE CHANGED, AMENDED OR MODIFIED DAOU ONLY BY WRITTEN INSTRUMENT SIGNED BY BOTH CLIENT AND DAOU. This Agreement shall not be modified or altered by any course of performance by either party or usage of the trade or otherwise except through an instrument signed by both Client and DAOU. Candler Health System DAOU Systems, Inc. By: /s/Kenneth W. Wood By: --------------------------------- ------------------------------ Title: President Title: ------------------------------ --------------------------- Date: April 19, 1996 Date: ------------------------------ ---------------------------- * CONFIDENTIAL TREATMENT REQUESTED EXHIBIT A THROUGH EXHIBIT D [CONFIDENTIAL TREATMENT REQUESTED] EX-10.7 13 EXHIBIT 10.7: ENTERPRISE NETWORK CONTRACT Catholic Medical Center of Brooklyn & Queens, Inc. [insert graphics & logos] Enterprise Network Contract * CONFIDENTIAL TREATMENT REQUESTED DEFINITIONS 56Kb -- A transmission speed of fifty-six thousand bits per second. BMIS -- Burst Mode Implementation Services. These engineering man-days provided by DAOU at a discounted price when purchased as part of an overall service contract. CMC -- Catholic Medical Center of Brooklyn and Queens. CNE -- Certified Novell Engineer. An individual who has been through an industry certification process administered by Novell, Inc. The title indicates a level of understanding of the Netware operating system. Dial up remote access -- A method of accessing a remote computer network that makes use of telecommunication lines and modems allowing a remote user to connect to a network. Disk duplexing -- A hardware and software configuration that allows for data redundancy and therefore reduces the risk of data loss in the event of storage system failure. ECNE -- Enterprise Certified Novell Engineer. An individual who has been through an industry certification process administered by Novell, Inc. The title indicates a level of understanding of the Netware operating system and how it operates in a multi-server environment. E-mail -- Electronic Mail. An application that allows the addressing and sending of messages electronically from one end user to another. ESI -- Enterprise Systems, Inc. is a company located in Illinois who has developed materials management software which CMC has installed. Ethernet -- A network access scheme adhering to the IEEE 802.3 standard. FDDI -- Fiber Data Distributed Interface. A network access scheme adhering to the ANSI X3T9.5 standard. First productive use (FPU) Shall be the date on which Customer's operational data is first transmitted across the network and is utilized by Customer in it's day to day operation. Interconnectivity -- A quality of a network that allows for communication to occur between devices on the network. Internetworked -- Devices connected by means of a computer network such that they can communicate between each other. IP -- Internet protocol. A layer three transport protocol developed by the Department of Defense and used by many vendors as a de facto standard. IP Ping Utility -- A network diagnostic application for testing connections. Ping sends an ICMP echo request to another host. A successful reply from the remote host confirms that network access to that host is available. Ping includes a time stamp for the elapsed time between the sending and receiving of the Ping. * CONFIDENTIAL TREATMENT REQUESTED 2 IPX -- Internet Packet Exchange. The native layer three transport protocol for Novell Netware. LAT -- Local Area Transport. The native layer three transport protocol for Digital Equipment Corporation (DEC). MACs -- Moves, Adds and Changes. Any regular reconfiguration of patch cores and coding documentation to facilitate users added to the network moved from one location to another in a network or requiring a change in network connectivity. Netware -- Any of several network operating system versions manufactured by Novell, Inc. NMS -- DAOU Systems, Inc. Network Management Services. Novell -- One of several network operating system vendors. NSE -- Network Systems Engineer. PC -- Personal Computer. One of any possible configurations of end user workstations that house an intelligent processor (e.g. Compaq Prolinea or Deskpro models). Products/Services -- Are those products and services as outlined in Schedule A and Schedule B. RAID -- Redundant Array of Independent Drives. A hardware and software configuration that allows for data redundance and therefore reduces the risk of data loss in the event of storage system failure. Remote Control -- A network access method that allows a user to take control of a processor that resides on the Local Area Network to which they are attaching and use that processor to run desired applications. Remote Node -- A network access method that allows a user to establish a connection to the network but still use their own remote processor for running accessed applications. SMS -- "Shared Medical Systems" hereinafter referred to as SMS. SMS provides to customer applications and services from their corporate headquarters in Malvern, Pa. SNA -- Systems Network Architecture. The native layer three transport protocol for many systems manufactured by International Business Machines (IBM). SNE -- Senior Network Engineer. SNMP -- Simple Network Management Protocol. A network communication protocol that facilitates management of and communication with network devices that support that protocol. T1 -- A telephone transmission medium with a transfer speed of 1.544 megabits per second (mbps). Normally configured as a dedicated telephone circuit between two facilities TCP -- Transmission Control Protocol. A layer four protocol developed by the Department of Defense and Telecom -- Telecommunications. Any of many mechanisms used to communication using digital or analog communication lines. * CONFIDENTIAL TREATMENT REQUESTED 3 Telemedicine -- The use of telecommunications facilities to provide healthcare services at a site other than the provider's physical location. UNIX -- A multi-tasking network operating system originally developed at University of California at Berkeley but modified by many hardware manufacturers for use with their systems. Videoconferencing -- The use of telecommunications services to send and receive audio and video signals in support of a meeting. Virtual LAN -- A concept that refers to the ability to group Local Area Network users logically according to things like department, location, or protocol, even though they are not physically connected to the same network segment. * CONFIDENTIAL TREATMENT REQUESTED 4 TABLE OF CONTENTS PAGE ---- EXECUTIVE SUMMARY. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 SCOPE OF PRINCIPLE AGREEMENT . . . . . . . . . . . . . . . . . . . . . . . . . 7 1. CONSIDERATION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . - 2. QUOTATION OF PRICES . . . . . . . . . . . . . . . . . . . . . . . . . . . - 3. CHARGES AND PAYMENT . . . . . . . . . . . . . . . . . . . . . . . . . . . - 4. OUT OF POCKET EXPENSES. . . . . . . . . . . . . . . . . . . . . . . . . . 8 5. TAXES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 6. TITLE AND SECURITY INTEREST . . . . . . . . . . . . . . . . . . . . . . . 8 7. RISK OF LOSS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 8. MODIFICATIONS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 9. CANCELLATION. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 10. TERMINATION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 11. RESTOCKING FEES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 12. CONTACT PERSON. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8 13. DELIVERY SHIPPING DISCREPANCIES . . . . . . . . . . . . . . . . . . . . . 8 14. IMPLEMENTATION/TRAINING SUPPORT . . . . . . . . . . . . . . . . . . . . . 9 15. NETWORK ACCEPTANCE/CABLING CERTIFICATION. . . . . . . . . . . . . . . . . 9 16. PERSONNEL PERFORMANCE GUARANTEE . . . . . . . . . . . . . . . . . . . . . 9 17. NETWORK PERFORMANCE GUARANTEE . . . . . . . . . . . . . . . . . . . . . . 9 18. PRODUCT WARRANTIES. . . . . . . . . . . . . . . . . . . . . . . . . . . . 9 19. SOFTWARE LICENSES . . . . . . . . . . . . . . . . . . . . . . . . . . . .10 20. CONFIDENTIALITY . . . . . . . . . . . . . . . . . . . . . . . . . . . . .10 21. DEFAULT/BREACH. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .10 22. DISPUTE RESOLUTION. . . . . . . . . . . . . . . . . . . . . . . . . . . .10 23. ARBITRATION . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .11 24. INSURANCE AND LIABILITY . . . . . . . . . . . . . . . . . . . . . . . . .11 25. PERFORMANCE WARRANTY. . . . . . . . . . . . . . . . . . . . . . . . . . .11 26. FORCE MAJEURE . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .11 27. THIRD PARTIES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .11 28. RELATIONSHIP OF PARTIES . . . . . . . . . . . . . . . . . . . . . . . . .11 29. SURVIVAL CLAUSE . . . . . . . . . . . . . . . . . . . . . . . . . . . . .12 30. ENTIRE PRINCIPLE AGREEMENT. . . . . . . . . . . . . . . . . . . . . . . .12 31. SUCCESSORS IN INTEREST. . . . . . . . . . . . . . . . . . . . . . . . . .12 32. WILLINGNESS TO WORK WITH ALL PARTIES. . . . . . . . . . . . . . . . . . .12 33. INTERPRETATION. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .12 34. SUBCONTRACTS. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .12 35. OCCUPATIONAL SAFETY AND HEALTH ACT: . . . . . . . . . . . . . . . . . . .12 36. BANKRUPTCY. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .12 37. LIENS . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .12 38. PATENTS AND COPYRIGHTS. . . . . . . . . . . . . . . . . . . . . . . . . .13 39. COMPLIANCE WITH OMNIBUS RECONCILIATION ACT OF 1980. . . . . . . . . . . .13 40. NOTICES FROM DAOU TO CUSTOMER . . . . . . . . . . . . . . . . . . . . . .13 41. NOTICES FROM CUSTOMER TO DAOU . . . . . . . . . . . . . . . . . . . . . .14 * CONFIDENTIAL TREATMENT REQUESTED i TABLE OF CONTENTS (CONTINUED) PAGE ---- ATTACHMENT A [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .16 ATTACHMENT B [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .33 ATTACHMENT C [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .36 ATTACHMENT D [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .65 ATTACHMENT E [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .70 ATTACHMENT F [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .73 ATTACHMENT G [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .75 ATTACHMENT G-1 [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .84 ATTACHMENT H [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .86 ATTACHMENT I [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .87 ATTACHMENT J [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .88 ATTACHMENT K [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .90 ATTACHMENT L [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .93 SCHEDULE A [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .94 SCHEDULE B [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 128 SCHEDULE C [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 129 SCHEDULE C-1 [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 130 SCHEDULE D [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 131 SCHEDULE E [*] . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 132 * CONFIDENTIAL TREATMENT REQUESTED ii - -------------------------------------------------------------------------------- DAOU SYSTEMS, INC. 5120 Shoreham Place San Diego, California 92122 (619) 452-2221 Principle Agreement Contract # - -------------------------------------------------------------------------------- CUSTOMER NAME : CATHOLIC MEDICAL CENTER OF BROOKLYN & QUEENS, INC. ADDRESS : 88-25 153 STREET CITY/STATE/ZIP : JAMAICA, NY 11432 CONTRACT # : - -------------------------------------------------------------------------------- This Principle Agreement, the term effective _________________, 1996, through _____________________, [*] by and between DAOU Systems, Inc., (hereinafter referred to as "DAOU"), and Catholic Medical Center of Brooklyn & Queens, Inc. and affiliates, with its principle place of business defined above, hereinafter referred to as ("CUSTOMER") sets forth the promises of the parties with respect to the products and services of DAOU which are described in this Principle Agreement. The parties hereto agree as follows: EXECUTIVE SUMMARY In accordance with this Agreement DAOU has designed and will manage an enterprise-wide communications infrastructure for CUSTOMER. The network consists of fiber optic and unshielded twisted paid cabling for each of the CUSTOMER Sites. As described in Attachment K, active network electronic components, network operating system software and related software for office automation related tasks. This network will provide CUSTOMER with the foundation to build and implement existing and new applications such as electronic mail, remote physician access and integrated voice, video and data for such applications as telemedicine, and video conferencing across the institution. This network structure will allow any assigned used at a personal computer station secure access to any information located on any host or server connected to the network. Any assigned user at a personal computer station will also be able to share files and schedules with, and send email to any other assigned user who is granted the same capabilities on the network. DAOU will supervise the installation of the cabling infrastructure; acquire, test, integrate and install the active network electronic components; network operating software and office automation software into an integrated enterprise wide communications infrastructure. DAOU will further coordinate all activities of third party vendors related to the acquisition of said products and services, including but not limited to, application software companies, suppliers of telecommunications services, hardware and software vendors, necessary to the success of the overall project. DAOU will further manage, support and otherwise assume complete responsiblity for the day to day ongoing operation of the enterprise wide communications infrastructure. This will result in an information delivery system capable of supporting CUSTOMER well into the next century. SCOPE OF PRINCIPLE AGREEMENT * CONFIDENTIAL TREATMENT REQUESTED 5 CUSTOMER and DAOU agree that CUSTOMER shall be entitled to procure the products and services made available under the Principle Agreement. Attachments & Schedules hereto of this Principle Agreement are made a part hereto of as if fully included in the text. Attachment A [*] Attachment B [*] Attachment C [*] Attachment D [*] Attachment E [*] Attachment F [*] Attachment G [*] Attachment G-1 [*] Attachment H [*] Attachment I [*] Attachment J [*] Attachment K [*] Attachment L [*] Schedule A [*] Schedule B [*] Schedule C [*] Schedule C-1 [*] Schedule D [*] Schedule E [*] - -------------------------------------------------------------------------------- 1. CONSIDERATION: For consideration of the Products and Services, as defined in Schedules A and C, CUSTOMER agrees to pay DAOU's fees as set forth in relevant Attachments A-L and Schedules A-E. Any modifications or additions must be approved in writing by both parties. 2. QUOTATION OF PRICES: All prices quoted shall remain valid only if CUSTOMER purchase order (including any change orders) is issued within ninety (90) days of the date on which the final quotation was submitted. In addition, DAOU agrees to generate a change order and pass savings on to CUSTOMER if prices quoted are reduced prior to DAOU's ordering of equipment at a rate which is ten percent (10%) or greater. Prior to products being ordered, an inventory of existing products will be completed and the product and prices in Schedule A will be adjusted accordingly. Network Implementation Services, are based on a fixed price, referenced in Schedule B and for the Scope of Work/Solution Document outlined in Attachment A. Should additional equipment/services be required, for the Scope of Work outlined in Attachment A, it shall be at no additional cost to CUSTOMER. * CONFIDENTIAL TREATMENT REQUESTED 6 Network Management Services pricing, as identified in Schedule C, and Network Support Staff Agreement, as identified in Schedule C-1, are [*] and [*] 3. CHARGES AND PAYMENT: CUSTOMER shall be invoiced for Products and Services as described in Schedules A-E. All fees to be paid by CUSTOMER, as identified in Payment Milestones in Attachment B, will be invoiced by DAOU to CUSTOMER with payment due net forty-five (45) days. 4. OUT OF POCKET EXPENSES: DAOU's Out of Pocket travel expenses as outlined in DAOU's Travel Policy as referenced in Attachment 1 are additional to the purchase price, as listed in Schedules A, B and D, and are to be paid by the CUSTOMER. This is based upon a 10-month implementation schedule, as outlined in Attachment D Work Plan. 5. TAXES: CUSTOMER represents that it is exempt from New York State and City Sales and USE taxes. At contract signing the CUSTOMER will provide DAOU with a certificate of exemption. 6. TITLE AND SECURITY INTEREST: DAOU reserves, and CUSTOMER grants, a security interest in the products which shall remain in effect for as long as the purchase price of the products remains unpaid. 7. RISK OF LOSS: Risk of loss of the Products shall pass to the CUSTOMER upon receipt of delivery of the Products by CUSTOMER at CUSTOMER site. 8. MODIFICATIONS: All modifications to this Agreement as well as any Attachments and/or Schedules must be approved in writing by both parties. CUSTOMER will issue a CUSTOMER's purchase order and payment in accordance with Payment Milestones as identified in Attachment B, for any additional Products or Services not identified in Schedules A-E. Should additional equipment/services be required, beyond the Scope of Work outlined in Attachment A, pricing of the equipment/services will be identified in a change order, which will require authorized signatures from both parties, prior to purchase by DAOU. The cost of any additional products required to complete installation pursuant to this Agreement shall be paid for by responsible party. 9. CANCELLATION: Either party may cancel this Principle Agreement, with cause, immediately upon written notice, after the Dispute Resolution process has been followed, as defined in Paragraph (22), of the Principle Agreement. If the Agreement is canceled the parties shall meet to determine the amount due for work performed prior to the cancellation and the CUSTOMER shall pay such amount, minus any payments already made or DAOU shall issue a refund to CUSTOMER for payments made in excess of the amounts due subject to Attachment B and Paragraph 23 of this Principal Agreement. * CONFIDENTIAL TREATMENT REQUESTED 7 10. TERMINATION: Each party may terminate this Principle Agreement without cause, within 10 business days after contract signing, by providing written notice to other party. 11. RESTOCKING FEES: Any Restocking Fees for Products charged by the manufacturer or distributor, which is returned at the request of CUSTOMER, without DAOU's fault or negligence, for any desired design changes will be the sole responsibility of the CUSTOMER. CUSTOMER may be denied credit or exchange on Products that are unacceptable for return by manufacturer or distributor. 12. CONTACT PERSON: CUSTOMER will appoint a Project Manager who will assist DAOU Project Manager in coordinating delivery and installation of Products and Services described in Schedules A through E. CUSTOMER Project Manager will be available to sign-off all necessary DAOU paperwork required to complete installation process. 13. DELIVERY SHIPPING DISCREPANCIES: DAOU will notify CUSTOMER in advance of all Product deliveries and installation dates. DAOU shall not be liable for losses or consequential damages resulting from delays in delivery due to causes beyond its control and without its fault or negligence. CUSTOMER agrees to verify bill of lading for the Products as soon as practical after delivery and to notify DAOU in writing within 7 days of delivery of any shipping discrepancies. 14. IMPLEMENTATION/TRAINING SUPPORT: Modifications to the mutually agreed upon Network Implementation and Cabling Project Dates, as defined in Attachment D, shall not be changed without written consent of both parties. Network training is provided as required through Network Management Services as described in Attachment G. Network training is provided through Network Management Services at no additional cost. Support is provided through Network Management Services as defined in Attachment G. Existing ESI and ADL Network Support and Maintenance Agreements will be superseded by this Principle Agreement effective, date of commencement of Network Management Services support services. 15. NETWORK ACCEPTANCE/CABLING CERTIFICATION: Network Acceptance is defined as when DAOU has demonstrated and documented that the network is functional according to the following criteria: A. Connectivity: 1) Any DAOU designed network connected workstation at a site will be able to log on to the local server at that site. 2) Any DAOU designed network connected workstation at that site will be able to connect to the SMS host at Malvern, Pa. * CONFIDENTIAL TREATMENT REQUESTED 8 3) Any DAOU designed network connected workstation will be able to connect to any new-network connected host or server and, B. First Productive Use (FPU): The date on which CUSTOMER's operational data is first transmitted across the network and is utilized by CUSTOMER in it's day to day operation. Cabling Certification is defined as when each cabling drop is tested, documented, labeled and is provided to CUSTOMER, which states that the cabling requirements meets the criteria as defined in Attachment C. 16. PERSONNEL PERFORMANCE GUARANTEE: DAOU guarantees the personnel assigned as Network Management Services personnel will meet the CUSTOMER's expectations of project management. The DAOU Project Manager will supervise all personnel and it's sub-contractors responsible for implementation and training at CUSTOMER site. CUSTOMER may request personnel changes in writing to which DAOU will respond in accordance with Paragraph E, Attachment G within 30 days. DAOU guarantees the same for any work and services provided to CUSTOMER by any sub-contractor contracted by DAOU to provide services to CUSTOMER. 17. NETWORK PERFORMANCE GUARANTEE: DAOU guarantees the network will support the maximum number of devices and hardware growth as outlined in Capacity Planning, Attachment E. Any DAOU designed network connected workstation will be able to "ping" the Malvern, PA host within 1 second. This Ping shall be performed at a time when there is no other network traffic. A ping is defined as using a standard 1P Ping utility which will record the time it takes to send and receive a packet from a workstation to the host and back. 18. PRODUCT WARRANTIES: A. WARRANTIES: DAOU warrants and represents that all goods under this agreement (i) are merchantable, (ii) are fit for their intended purpose, and (iii) do not infringe upon or violate any patent, copyright, trade secret, or other proprietary right of any third party. DAOU further warrants that it has all rights needed to enter into and ocmplete this Principle Agreement. DAOU will defend, at its own expense, any action or proceeding brought against CUSTOMER based upon a claim that the work performed or any Product supplied pursuant to this Principle Agreement, infringes or violates a patent, copyright, trade secret, trademark, trade name, right of privacy or any other proprietary, personal, of civil right of a third party. DAOU will pay all costs and damages awarded against CUSTOMER in any such action and any expense incurred by CUSTOMER, including reasonable attorneys fees, as a resolute of such action. CUSTOMER reserves the right to terminate this Principle Agreement, in the event of any such claim. B. MANUFACTURERS WARRANTIES: DAOU has included manufacturers warranties as identified as Cabling and Product Warranties in Attachment C. C. DISCLAIMER: * CONFIDENTIAL TREATMENT REQUESTED 9 CUSTOMER understands and agrees that, with the exception of the Warranties in Section 18a,. and 18b, his/her sole remedy, and only in the case of failure of Products to perform, shall be limited to repair, replacement or refund of purchase price of products sold. 19. SOFTWARE LICENSES: Any and all software purchased by CUSTOMER shall be licensed in accordance with the manufacturer's software licensing policies. CUSTOMER shall indemnify and hold DAOU harmless from any and all violation of software copyright laws and license infringements caused by CUSTOMER's use of such software. 20. CONFIDENTIALITY: DAOU and its subcontractors agree to protect the confidentiality of CUSTOMER's proprietary information including, but not limited to, financial information, patient information, clinical practice or management at CUSTOMER's facility. DAOU shall not divulge or disclose to any third parties any information concerning the affairs of the CUSTOMER which may be received by DAOU at any time, unless such information becomes publicly available through no cause of DAOU, unless requested in writing by CUSTOMER. CUSTOMER agrees to protect the confidentiality of DAOU's proprietary information including but not limited to all drawings, design techniques, contract prices, and improvements provided by DAOU. CUSTOMER will not divulge any portion of the Principle Agreement, or design, not already in the public domain that are deemed confidential shall not be revealed at any time unless such information becomes publicly available through no fault of the CUSTOMER. [*] DAOU shall not use the CUSTOMER's name in any publication, promotional or written material without the prior written approval of an officer of the CUSTOMER. 21. DEFAULT/BREACH: In the event of default by CUSTOMER on any payment which is not in dispute as described in Payment Milestones, Attachment B, CUSTOMER shall pay interest at the rate of eighteen percent (18%) per annum on each such obligation from the day it is due until it is received by DAOU, which is not in dispute. CUSTOMER payment will not be subject to interest if DAOU authorizes in writing a change in payment due date in the event of incomplete installation or delivery by DAOU. In the event of default by DAOU delivered or as otherwise defined herein, DAOU shall not invoice the CUSTOMER for any Product or Service not delivered or as defined in attached proposal. The occurrence of any of the following shall constitute a breach and material default of this Principle Agreement: a. The failure of CUSTOMER to pay or cause to be paid by the due date any monies or charges required by this Principle Agreement to be paid by CUSTOMER, when such failure continues for a period of forty-five (45) days after written notice thereof from DAOU to CUSTOMER b. DAOU's failure to adhere to this Principle Agreement, as defined in Attachments and Schedules, also constitutes a material default under this Principle Agreement. c. Any act of bankruptcy caused, suffered or permitted by CUSTOMER or DAOU. 22. DISPUTE RESOLUTION: * CONFIDENTIAL TREATMENT REQUESTED 10 In the event that a dispute arises between both parties which cannot be resolved in the normal course of doing business, the following dispute resolution shall be followed: a. If the dispute arises during the installation, then - (i) Within five (5) days of a written request by either party, CUSTOMER's Corporate Director of Information Systems and DAOU's Director of Technical Services shall meet and resolve the issue; if these parties cannot resolve the issue within five (5) days of the meeting, then - (ii) Within five (5) days of the Directors Meeting or upon DAOU's receipt of notification by CUSTOMER, the issue shall be submitted to DAOU's Sr. Vice President and CUSTOMER's Vice President of Information Systems and a meeting scheduled to resolve the issue. If these parties cannot resolve the issue within fifteen (15) days, then paragraph 23 will be invoked. If the dispute arises after the installation, the procedure set forth in 22(a)(2) shall be instituted upon fifteen (15) days written request of either party. 23. ARBITRATION: Both parties agree that in the event an amicable resolution of dispute is not attained pursuant to Paragraph 22, then both parties agree to submit to arbitration, and both parties are willing to abide by the rulings of the American Arbitration Association. Each party shall bear it's own costs. This paragraph shall survive termination of this Principal Agreement. 24. INSURANCE AND LIABILITY: INSURANCE. At all times while this Principle Agreement is in effect, DAOU shall maintain (or cause to be in effect), liability insurance covering negligence of itself and its' subcontractors, with limits of not less than [*] per incident and [*] aggregate. Such insurance shall be obtained from an insurance carrier admitted to do business in the State of New York or from a duly established and funded self-or pooled- insurance program. Any insurance carrier providing such coverage shall give CUSTOMER at least thirty (30) days advance notice of cancellation or material change in any such coverage. DAOU shall not commence performance under this Principle Agreement until it has obtained, at its own expense, all insurance required under this Principle Agreement. DAOU warrants that all required insurance shall be maintained until its work under this Principle Agreement is complete, provided that, if DAOU fulfills any of the insurance requirements set forth herein by the use of claims-made policies. DAOU warrants that these policies shall be kept in effect for at least three (3) years following completion of its work under this Principle Agreement and if its claims-made policies are canceled during the Term of the Principle Agreement, DAOU will purchase tail coverage for the remainder thereof. DAOU will furnish CUSTOMER with a certificate of insurance within ten (10) business days of the execution of the Principle Agreement. LIABILITY. DAOU will maintain public liability and property damage insurance in amounts not less than [*] for injury or death to any one person in any one accident or occurrence and not less than [*] per occurrence for damages to property. CUSTOMER shall maintain in force a policy or policies of extended coverage insurance with respect to any products delivered by DAOU but not paid for by CUSTOMER. 25. PERFORMANCE WARRANTY: * CONFIDENTIAL TREATMENT REQUESTED 11 DAOU warrants that all project milestones will be met as defined in Attachment D of this Principle Agreement. In the event a project milestone is not met, CUSTOMER shall be entitled to withhold payment for that project milestone as it relates to entire project. [*] 26. FORCE MAJEURE: Neither DAOU nor CUSTOMER shall be responsible for any delay or failure of performance resulting from causes beyond its control without its fault or negligence. If a force majeure event occurs the party being delayed or failing to perform shall promptly notify the other party of the nature of such cause and its reasonably anticipated duration and if either party declares a force majeure event, the parties shall meet as soon thereafter as possible to determine the nature and extent of the event, the expected impact of the event on CUSTOMER's processing capabilities, and a recommended course of action intended to enable CUSTOMER to process its data in the operation of the Facility. 27. THIRD PARTIES: This Principle Agreement is between DAOU and CUSTOMER and is not for the benefit of, nor does it vest any rights in, any third party. 28. RELATIONSHIP OF PARTIES: DAOU is performing its services and obligations hereunder as an independent contractor. Neither party shall have any rights or authority to create any obligation or responsibility, expressed or implied, on behalf of, or in the name of, the other party, or to bind the other party contractually in any manner whatsoever. Under no circumstances, as a result of this Principle Agreement, shall any employee, agent, or representative of one party be considered an employee, agent, or representative of the other party. 29. SURVIVAL CLAUSE: The provisions of this Principle Agreement pertaining to warranties, confidentiality, hold harmless, and proprietary rights shall continue in full force and effect notwithstanding the fact that the CUSTOMER has accepted and paid for any work, services provided or products purchased hereunder. Each party shall indemnify, defend and hold harmless the other party, its agents and employees from any and all losses, damage, injury, causes of action or liability of any kind whatsoever, including defense cost and reasonable legal fees that are caused by or arise out of any omission, fault, negligence or other misconduct by said party, its officers, employees or agents in connection with this Principle Agreement. 30. ENTIRE PRINCIPLE AGREEMENT: This Principle Agreement executed by CUSTOMER and DAOU contains the entire Principle Agreement of the parties relating to its subject matter. There are no promises, representations or undertakings other than as expressly provided herein, and no modification of this Principle Agreement will be binding unless in writing and signed by both parties. CUSTOMER's rights herein may not be assigned to a third party without the prior written consent of DAOU. Nothing contained in this Principle Agreement shall require CUSTOMER to provide any service or engage in any activity which is not consistent with the Ethical and Religious Directives for Catholic Health Care Services issued by the United States Catholic Conference as interpreted by the Bishop of the Diocese of Brooklyn. * CONFIDENTIAL TREATMENT REQUESTED 12 31. SUCCESSORS IN INTEREST: Assignment and Sublicenses. Neither Party has the power nor the right to (1) assign or transfer this Agreement or any rights granted thereunder, or (2) delegate any duty under this Agreement without the permission of the other, which permission shall not be unreasonably withheld. 32. WILLINGNESS TO WORK WITH ALL PARTIES: DAOU will be required to work with other vendors contracted with the CUSTOMER and may on occasion seek advice and/or support to work with those parties. CUSTOMER shall provide every means possible to promote a spirit of willingness and have the organizations work together and agrees to intervene if necessary. 33. INTERPRETATION: This agreement shall in all respects be governed by and construed in accordance with the State of New York. The parties hereto shall submit to the jurisdiction of the federal and state courts located in New York County, New York State for the resolution of disputes arising hereunder. 34. SUBCONTRACTS: DAOU reserves the right to subcontract any portion of the work to be performed under this Principal Agreement. DAOU acknowledges responsibility for the conduct and work performed by it's SUBCONTRACTORS. 35. OCCUPATIONAL SAFETY AND HEALTH ACT: DAOU agrees that for the purpose of compliance with the requirements of the Occupational Safety and Health Act of 1970, services performed for the CUSTOMER shall be deemed entirely within DAOU's responsibility. 36. BANKRUPTCY: Both parties have the right to terminate the Principle Agreement immediately if the other party formally files for Chapter 7 or Chapter 11 bankruptcy protection. 37. LIENS: DAOU shall pass Equipment title to the CUSTOMER free and clear of all liens and encumbrances. DAOU agrees to promptly pay and discharge any liens, or claims filed by or, on behalf of any employees, laborers, subcontractors, or Material Suppliers or, in the alternative, to indemnify and hold CUSTOMER harmless from said claims. 38. PATENTS AND COPYRIGHTS: If CUSTOMER uses a DAOU or DAOU provided product for purposes beyond those defined in the Scope of Work (Attachment A-E and Schedule A-1), DAOU shall not be liable for any claim based upon the combination, operation, or use of DAOU or DAOU provided products resulting from such usage. 39. COMPLIANCE WITH OMNIBUS RECONCILIATION ACT OF 1980: * CONFIDENTIAL TREATMENT REQUESTED 13 To the extent that Section 952 if the Omnibus Reconciliation Act of 1980, or regulations adopted pursuant thereto are applicable to this agreement, DAOU shall, until the expiration of four (4) years after furnishing of services under this agreement, make available upon the request of the Secretary of Health and Human Services or the Comptroller General or its representative, this agreement, invoices for services rendered hereunder, and the supporting documents and records as may be necessary to verify the nature and costs of this agreement. 40. NOTICES FROM DAOU TO CUSTOMER: All written notifications will be sent by DAOU to the CUSTOMER to the attention of the following at the address identified below: Catholic Medical Center of Brooklyn and Queens, Inc. Attention: Legal Department 88-25 153 Street Jamaica, NY 11432 Catholic Medical Center of Brooklyn and Queens, Inc. Attention: Director of Corporate Information Systems 88-15 Woodhaven Blvd. Woodhaven, NY 11421 NOTICES FROM CUSTOMER TO DAOU: DAOU Systems, Inc. Attention: Contract Administrator 5120 Shoreham Place San Diego, CA 92122 DAOU Systems, Inc. Attention: Vice President Sales, North East Region 5120 Shoreham Place San Diego, CA 92122 * CONFIDENTIAL TREATMENT REQUESTED 14 SIGNATURES - -------------------------------------------------------------------------------- I have read, understand, and agree to all the Terms and conditions of sale in this PRINCIPAL AGREEMENT. I also certify that I have the legal authorization to sign on behalf of the owners/principals of the business entity I am representing. DAOU SYSTEMS, INC. CATHOLIC MEDICAL CENTER OF 5120 Shoreham Place BROOKLYN & QUEENS, INC. San Diego, CA 92122 88-25 153 Street Jamaica, NY 11432 /s/ - ---------------------------------- ---------------------------------- Signature Signature Daniel J. Rinaldi - ---------------------------------- ---------------------------------- Name Name Treasurer - ---------------------------------- ---------------------------------- Title Title 6/18/96 - ---------------------------------- ---------------------------------- Date Date ST. MARY'S HOSPITAL BISHOP MUGAVERO CENTER FOR OF BROOKLYN GERIATRIC CARE 170 Buffalo Avenue 155 Dean Street Brooklyn, NY Brooklyn, NY /s/ /s/ - ---------------------------------- ---------------------------------- Signature Signature Daniel J. Rinaldi Daniel J. Rinaldi - ---------------------------------- ---------------------------------- Name Name Treasurer Treasurer - ---------------------------------- ---------------------------------- Title Title 6/18/96 6/18/96 - ---------------------------------- ---------------------------------- Date Date * CONFIDENTIAL TREATMENT REQUESTED 15 CMC OCCUPATIONAL HEALTH SERVICES, P.C. CMC PROFESSIONAL NURSE REGISTRY, INC. Building 198 95-25 Queens Boulevard JFK International Airport Suite 136, 10th Floor Jamaica, NY Rego Park, NY /s/ /s/ - ---------------------------------- ---------------------------------- Signature Signature Daniel J. Rinaldi Daniel J. Rinaldi - ---------------------------------- ---------------------------------- Name Name Treasurer Treasurer - ---------------------------------- ---------------------------------- Title Title 6/18/96 6/18/96 - ---------------------------------- ---------------------------------- Date Date CATHOLIC HEALTH SERVICES ST. JEROMES HEALTH SERVICES CORPORATION PLAN OF BROOKLYN & QUEENS 740 84th Street 26 Court Street, Suite 1701 Brooklyn, NY Brooklyn, NY /s/ /s/ - ---------------------------------- ---------------------------------- Signature Signature Daniel J. Rinaldi Daniel J. Rinaldi - ---------------------------------- ---------------------------------- Name Name Treasurer Treasurer - ---------------------------------- ---------------------------------- Title Title 6/18/96 6/18/96 - ---------------------------------- ---------------------------------- Date Date * CONFIDENTIAL TREATMENT REQUESTED 16 [Attachments A through L] [Schedules A through E] [CONFIDENTIAL TREATMENT REQUESTED] 17 EX-10.8 14 EXHIBIT 10.8: PRINCIPAL AGMT. - -------------------------------------------------------------------------------- DAOU SYSTEMS, INC. 10360 Sorrento Valley Road San Diego, California 92121 (619) 452-2221 Terms and Conditions of Turn-Key Implementation Contract #MM - -------------------------------------------------------------------------------- CUSTOMER NAME : Mercy Information Systems ADDRESS : 34605 Twelve Mile Road CITY/STATE/ZIP : Farmington Hills, MI 48331 CONTRACT # : MM - -------------------------------------------------------------------------------- This Principal Agreement, the term effective June 28, 1995, through [*], by and between DAOU Systems, Inc., (hereinafter referred to as "DAOU"), and MERCY INFORMATION SYSTEMS, an assumed name of Mercy Health Services (MHS), a Michigan non-profit corporation with its principal place of business, defined above, ("MIS") hereinafter referred to as ("CUSTOMER") sets forth the promises of the parties with respect to the products and services of DAOU which are described in the Principal Agreement. The parties hereto agree as follows: SCOPE OF PRINCIPAL AGREEMENT CUSTOMER and DAOU agree that CUSTOMER shall be entitled to procure the products and services made available under the Principal Agreement for the benefit of the Participating Clients and their respective Affiliates as defined below, which CUSTOMER may elect to submit to DAOU during the term of this Principal Agreement. Each such Participating Client Contract, in conjunction with this Principal Agreement, shall constitute the sole and exclusive agreement between DAOU and CUSTOMER with respect to the subject Participating Client and its Affiliates for whom the goods and/or services are being procured. "Affiliate", shall mean any healthcare provider associated with MHS. For purposes of this Agreement, associated is defined to mean having admitting privileges to a MHS facility or being involved in referral activities to a MHS facility or being involved in referral activities to a MHS facility or participating with a MHS sponsored managed care program or product. In the case of DAOU, the term "Affiliate" shall mean any entity in which DAOU has, directly or indirectly, a controlling interest. * CONFIDENTIAL TREATMENT REQUESTED Page 1 of 34 "Authorized Client" shall mean (1) any acute or non-acute health care provider division or subsidiary of Mercy Health Services, a Michigan non-profit corporation with its principal place of business located at 34605 Twelve Mile Road, Farmington Hills, Michigan 48331 ("MHS") existing on the effective date of this Principal Agreement; and (2) any non-acute health care provider division or subsidiary of MHS which is formed during the term of this Principal Agreement in any manner, including, but not limited to, merger, acquisition, consolidation, incorporation, joint venture and reorganization ("Formed"), and (3) any acute health care provider division or subsidiary of MHS which is Formed during the term of this Principal Agreement; and (4) any acute or non-acute health care organization in which MHS has any ownership interest; and (5) any entity existing or Formed to provide administrative support including, but not limited to physician practices, in which MHS has any ownership interest. "Participating Client" shall mean Authorized Client for whom a Participating Client Contract has been included as Attachment F hereto. "Participating Client Contract" shall mean each exhibit, along with the related schedules attached thereto, which has been added to Attachment F hereto by written agreement between CUSTOMER and DAOU. The Attachments & Schedules hereto of this Principal Agreement are made a part hereto of as if fully included in the text. The implementation dates are subject to change based on the request of either party and agreed to by both parties in writing. Attachment A [*] Attachment B [*] Attachment C [*] Attachment D [*] Attachment E [*] Attachment F [*] A Participating Client Contract may be executed at any time within the term of this Principal Agreement and shall contain the following schedules: DAOU and the CUSTOMER agree to finalize Schedule E within five (5) days of Participating Client Contract signing. Schedule A [*] Schedule B [*] Schedule C [*] Schedule D [*] Schedule E [*] Schedule F [*] Schedule G [*] Schedule H [*] - -------------------------------------------------------------------------------- 1. CONSIDERATION: In consideration of the Products and Services to be provided in writing by DAOU to CUSTOMER, as set forth in relevant Attachments A-F and Schedules A-H. CUSTOMER agrees to pay DAOU's charges. Any modifications or additions must be approved in writing by both parties. Time is of the essence in the performance of this Agreement by DAOU. 2. QUOTATION OF PRICES: All prices quoted shall remain valid only if CUSTOMER purchase order (including any change orders) is issued within sixty (60) days of the date on which the final quotation was submitted. In addition, DAOU agrees to generate a change order and pass savings on to CUSTOMER if prices quoted are reduced prior to DAOU's ordering of equipment at a rate * CONFIDENTIAL TREATMENT REQUESTED Page 2 of 34 which is ten (10%) percent or greater. [*]. 3. CHARGES AND PAYMENT: Upon execution of each Participating Client Contract, CUSTOMER shall be invoiced for products and services as described in Schedules A-D. All fees to be paid by CUSTOMER, as identified in payment milestones in Attachment A, and payments, will be invoiced by DAOU to CUSTOMER with payment due net forty-five (45) days. [*] provided to CUSTOMER will be for all professional services contracted for within a one year period from the execution date of this Principal Agreement. Level 1 PSS are considered Senior Engineers and Level 2 PSS are considered Network Systems Engineers. At the time additional Participating Client Contracts are executed within the same one (1) year, [*] identified in Principal Agreement. At the time additional Participating Client Contracts are executed, [*]. [*]. 4. OUT OF POCKET EXPENSE: [*]. 5. TAXES: CUSTOMER shall pay all sales, use and excise taxes, unless CUSTOMER furnishes DAOU with a certificate of exemption from payment of such taxes which is in a form reasonably acceptable to DAOU. 6. TITLE AND SECURITY INTEREST: Title to the Products shall pass to CUSTOMER upon payment in full of the purchase price of the products to DAOU. DAOU reserves, and CUSTOMER grants, a security interest in the Products which shall remain in effect for as long as the purchase price of the products remains unpaid. 7. RISK OF LOSS: Risk of loss of the Products shall pass to the CUSTOMER upon Product Acceptance by CUSTOMER as defined in paragraph twelve (12). 8. MODIFICATIONS: All modifications of Attachments A-F and Schedules A-H must be approved in writing by both parties for any additional products or services not part of the original attachments. Cost of any additional products required to complete installation will be paid for by Responsible party. Addendum to this Agreement will be initiated by DAOU and signed by CUSTOMER prior to ordering of additional products or providing additional services requested. 9. CANCELLATION: This agreement may be canceled up to five (5) days after contract signature without cause or penalty. After five (5) days, this contract cannot be canceled, unless both parties agree, after pursuing all other remedies as identified in dispute resolution. 10. RESTOCKING FEES: Hardware or Software products accepted by DAOU for credit or exchange after receipt of product by CUSTOMER may be subject to a restocking fee as charged to DAOU by the manufacturer or distributor. CUSTOMER may be denied credit or exchange on Hardware or Software products that are unacceptable for return by Manufacturer. 11. CONTACT PERSON: CUSTOMER will appoint a Project Manager who will assist DAOU Project Manager in coordinating delivery and installation of Products and Services described in Participating Client Contract. CUSTOMER will identify a key contact person for each site scheduled for implementation services. CUSTOMER Project Manager will be available to sign-off * CONFIDENTIAL TREATMENT REQUESTED Page 3 of 34 all necessary DAOU paperwork required to complete installation process. CUSTOMER will appoint a LAN Administrator to communicate engineering issues with DAOU. CUSTOMER shall notify DAOU Project Manager in writing of any change in the appointment of the LAN Administrator and agrees to purchase additional training day if necessary to provide new LAN Administrator with comprehensive knowledge of installed network at Participating Client Site. 12. DELIVERY/INSPECTION: DAOU will notify CUSTOMER in advance of all product deliveries and installation dates. DAOU shall not be liable for losses or consequential damages resulting from delays in delivery due to causes beyond its control. CUSTOMER agrees to verify bill of lading for the products as soon as practical after delivery and to notify DAOU in writing within 7 days of delivery any shipping discrepancies. DAOU will take responsibility for resolving discrepancies in shipping as reported by CUSTOMER. 13. INSTALLATION/TRAINING/SUPPORT: [*]. (See Schedule B and Schedule C and Schedule F). No guarantees are expressed or implied in response times listed here or in Schedule A except as included as Attachment B in contract. Scheduled installation or training dates shall not be modified without the written consent of both parties. 14. NETWORK ACCEPTANCE/PRODUCT DELIVERY/CABLING CERTIFICATION: Network Acceptance is defined as when the CUSTOMER agrees the network is accepted following live operation, and DAOU has demonstrated and documented, and that the network meets the criteria as identified in Schedule F. DAOU will provide to CUSTOMER written documentation which supports Network Acceptance. Product Delivery is defined as when the CUSTOMER has verified the bill of lading for the product after on-site delivery at the CUSTOMER site and has notified DAOU in writing within 7 days of any delivery discrepancies. If no such notice is provided by the CUSTOMER, DAOU and the CUSTOMER will consider Product Acceptance to be complete. Cabling Certification is defined as when each cabling drop is tested and documentation is provided to CUSTOMER, which states that the cabling requirements meets the criteria as defined in Attachment C. 15. PERSONNEL PERFORMANCE GUARANTEE: DAOU guarantees the personnel assigned as the Project Manager will meet the CUSTOMER's expectations of project management. The project manager will supervise all personnel responsible for implementation and training at CUSTOMER site. CUSTOMER may request personnel change in writing to which DAOU will accommodate within 30 days. DAOU guarantees the same for any work and services provided to CUSTOMER by any sub-contractor contracted by DAOU to provide services to CUSTOMER. 16. NETWORK PERFORMANCE GUARANTEE: DAOU guarantees the network will support the maximum number of users and hardware growth percent as outlined on Attachment B, Schedule F and Schedule H. 17. WARRANTIES: DAOU will repair or replace any defective products sold in Schedule A for a period of 30 days from Network Acceptance as identified in paragraph 14. DAOU gives no warranty, expressed or implied, other than manufacturer's warranty on any hardware or software products sold to CUSTOMER. Implied warranties of merchantability or fitness for a particular purpose are hereby disclaimed by DAOU and excluded by this agreement and shall not extend manufacturer's or supplier's warranty. Any alterations, additions, improvements or attachments on the products which are not authorized in writing by DAOU, or by the products' manufacturer, producer, or supplier, shall be solely at CUSTOMER's expense and risk. Every warranty provided by this agreement shall be void to the extend operation of the products are affected by any alteration, addition, improvement or attachment. * CONFIDENTIAL TREATMENT REQUESTED Page 4 of 34 18. DISCLAIMER: CUSTOMER understands and agrees that his/her sole remedy, and only in the case of failure of products to perform, shall be limited to repair or replacement of products sold, and DAOU shall not be liable for consequential damages whether foreseeable or otherwise. DAOU's maximum liability for any damages shall in no event exceed the charges on the contract except for response time guarantee. If the products purchased in Schedule A do not perform to specifications identified in Attachment B, Schedule F and Schedule H, because CUSTOMER fails to implement recommendations as identified in Schedule A and Schedule F, DAOU shall not be liable. 19. SOFTWARE LICENSES: Any and all software purchased by CUSTOMER shall be licensed in accordance with the manufacturer's software licensing policies. CUSTOMER shall indemnify and hold DAOU harmless from any and all violation of software copyright laws and license infringements by CUSTOMER. DAOU shall indemnify and hold CUSTOMER harmless from any and all violation of software copyright laws and license infringements by DAOU. 20. CONFIDENTIALITY: DAOU agrees to protect the confidentiality of CUSTOMER's proprietary information including but not limited to financial information, patient information, clinical practice or management at CUSTOMER's facility. DAOU shall not divulge or disclose to any third parties any information concerning the affairs of the CUSTOMER which may be received by DAOU at any time, unless such information becomes publicly available through no fault of DAOU. CUSTOMER agrees to protect the confidentiality of DAOU's proprietary information including but not limited to all drawings, design techniques, contract prices, and improvements provided by DAOU. CUSTOMER will not divulge any portion of the contract, agreement, or design, not already in the public domain that are deemed confidential shall not be revealed at any time unless such information becomes publicly available through no fault of the CUSTOMER. [*]. DAOU shall not use the CUSTOMER's name in any publication, promotional or written material without the prior written approval of an officer of the CUSTOMER. 21. DEFAULT/BREACH BY CUSTOMER: In the event of default by CUSTOMER on any payment described in the attached proposal, CUSTOMER shall pay interest at the rate of eighteen percent (18%) per annum on each such obligation from the day it is due until it is received by DAOU in addition to recovery of all costs of collection. The occurrence of any of the following shall constitute a breach and material default of this Agreement by CUSTOMER: after written notification from DAOU, CUSTOMER shall have 30 days to remedy such default: a. The failure of CUSTOMER to pay or cause to be paid by the due date any monies or charges required by this Agreement to be paid by CUSTOMER when such failure constitutes for a period of forty-five (45) days after written notice thereof from DAOU to CUSTOMER, unless under dispute; b. CUSTOMER causing or permitting without the prior written consent of DAOU, any act when this Agreement requires DAOU's prior written consent or prohibits such act; CUSTOMER payment will not be subject to interest if DAOU authorizes in writing a change in payment due date in the event of incomplete installation or delivery by DAOU. 22. DEFAULT/BREACH BY DAOU: In the event of default by DAOU delivered or as otherwise defined herein, DAOU shall not invoice or charge CUSTOMER for any product or service not delivered or as defined in attached proposal. 23. DISPUTE RESOLUTION * CONFIDENTIAL TREATMENT REQUESTED Page 5 of 34 For as long as this Principal Agreement is in effect, all disputes, claims and controversies between the parties arising out of or related to, this Principal Agreement and any Participating Client Contract including but not limited to, any claim of misrepresentation, of breach, or of nonperformance ("Disputes"), shall be determined in the following manner: Informal Procedure: 1. The following personnel of the parties shall make every reasonable mutual attempt to resolve the Dispute: (a) if relating to a Participating Client prior to Activation of the Network for such Participating Client, DAOU's Project Manager and CUSTOMER'S Project Manager; or (b) if relating to a Participating Client after Activation of the Network for such Participating Client, DAOU's Project Manager and CUSTOMER's Product Manager. 2. If such representative does not resolve the Dispute within ten (10 business days after the date upon which the breaching party receives notices of the breach, the Dispute shall be referred for resolution to the following personnel of the parties: (a) if relating to a Participating Client prior to Activation of the Network for such Participating Client, Director of Technical Services and CUSTOMER's Director; or (b) if relating to a Participating Client subsequent to Activation of the Software for such Participating Client, Director of Technical Services and CUSTOMER'S Director. 3. If the individuals to whom the matter is referred under subparagraph 2 immediately above do not resolve the Dispute within ten (10) business days after the date of referral, the Dispute shall be referred for resolution to the following personnel of the parties: (a) if relating to a Participating Client prior to Activation of the Network for such Participating Client, DAOU's Vice President and CUSTOMER's Vice President; or (b) if relating to a Participating Client after Activation of the Software for such Participating Client, DAOU's Vice President and CUSTOMER's Vice President. 4. If the individuals to whom the matter is referred under subparagraph 3 immediately above do not resolve the Dispute within ten (10) business days after the date of referral, the Dispute shall be referred for resolution to DAOU's Chief Executive Officer and CUSTOMER's Chief Executive Officer. 5. If the individuals designated in the subparagraph 4 immediately above do not resolve the Dispute within the longer of ten (10) business days after the date of referral or one hundred twenty (120) days after receipt of the initial written notice of the breach, the Dispute shall be settled in binding Arbitration. 6. If one of the individuals designated in subsections 1, 2, 3, or 4 immediately above is ill or unavailable to resolve the Dispute, his or her designated representative shall serve instead. 23.1 Referral of Dispute shall be made by the parties then handling the Dispute, in accordance with the procedures set forth above, to the next identified party within each party's organization. Such referrals shall be in written form, and shall set forth the nature of the Dispute, and the period specified in subsections 1, 2, 3, or 4 immediately above shall commence on receipt of such notice by the last party to be notified. * CONFIDENTIAL TREATMENT REQUESTED Page 6 of 34 23.2 Any dispute not remedied as set out in the above sections and subsections between and arising out of or in connection with this Principal Agreement as to the negotiation, existence, construction, validity, interpretation or meaning, performance, nonperformance, enforcement, pursuant to the then existing Commercial Arbitration Rules of the American Arbitration Association. 23.3 Either party may demand such arbitration in writing within one (1) year after the expiration of the cure period set out in the first section above this Principal Agreement, but not thereafter, which demand shall include a statement of the matter in controversy. 23.4 Each party shall select one disinterested arbitrator from a list submitted by the American Arbitration Association, and the two select a third arbitrator from the list. 23.5 Each party shall bear its own cost of arbitration. 23.6 The parties agree that the provisions hereof shall be a complete defense to any suit, action, or proceeding instituted in any federal state, or local court or before any administrative tribunal with respect to any controversy or dispute arising during the period of the Principal Agreement and which is arbitrateable as herein set forth. The arbitration provisions hereof shall, with respect to such controversy or dispute, survive the termination of this agreement for such period of time as is provided in paragraph 9.04 hereof. 23.7 The parties expressly agree that all trade secrets, proprietary or confidential information of either party shall be disclosed during arbitration only upon the issuance of appropriate protective orders limiting the disclosure or discoverability of such information outside of the arbitration of the Principal Agreement. 24. INSURANCE AND LIABILITY: DAOU will maintain public liability and property damage insurance in amounts not less than [*] for injury or death to any one person in any one accident or occurrence and not less than [*] per occurrence for damages to property. CUSTOMER shall maintain in force a policy or policies of extended coverage insurance with respect to any Products delivered by DAOU but not paid for by CUSTOMER. 25. PERFORMANCE WARRANTY: DAOU warrants that all milestones will be met as defined in Attachment A as per Schedule H of each Participating Client Contract. [*]. 26. FORCE MAJEURE: Neither DAOU nor CUSTOMER shall be responsible for any delay or failure of performance resulting from causes beyond its control without its fault or negligence. If a force majeure even occurs the party being delayed or failing to perform shall promptly notify the other party of the nature of such cause and its reasonably anticipated duration and if either party declares a force majeure event, the parties shall meet as soon, thereafter, as possible to determine the nature and extent of the event, the expected impact of the event on CUSTOMER's processing capabilities, and a recommended course of action intended to enable CUSTOMER to process its data in the operation of the Facility. 27. THIRD PARTIES: The Agreement is between DAOU and CUSTOMER and is not for the benefit of, nor does it vest any rights in, any third party. 28. RELATIONSHIP OF PARTIES: DAOU is performing its services and obligations hereunder as an independent contractor. Neither party shall have any rights or authority to create any obligation or responsibility, expressed or implied, on behalf of, or in the name of, the other party, or to bind the other party contractually in any manner whatsoever. Under no circumstances, as a result of this Agreement, shall any employee, agent, or representative of one party be considered an employee, agent, or * CONFIDENTIAL TREATMENT REQUESTED Page 7 of 34 representative of the other party. 29. SURVIVAL CLAUSE: The provisions of this Agreement pertaining to Warranties, Confidentiality, Hold Harmless, and Proprietary Rights shall continue in full force and effect, notwithstanding the fact that the CUSTOMER has accepted and paid for any work, services provided or products purchased hereunder. 30. ENTIRE AGREEMENT: This Principal Agreement executed by CUSTOMER contains the entire agreement of the parties relating to its subject matter. There are no promises, representations or undertakings other than as expressly provided herein, and no modification of this agreement will be binding unless in writing and signed by both parties. 31. SUCCESSORS IN INTEREST: DAOU shall not unreasonably withhold permission to allow to assign or transfer any rights granted in this agreement to CUSTOMER or organizations named in the attached participating client contract. Neither party may delegate any duty under this agreement without the permission of the other, which permission shall not be unreasonably withheld. 32. NOTICES FROM DAOU TO CUSTOMER: All written notifications will be sent by DAOU to the CUSTOMER to the attention of the following at the address identified below. Mercy Information Systems Attention: Contract Administrator 34605 Twelve Mile Rd. Farmington Hills, MI 48331 33. NOTICES FROM CUSTOMER TO DAOU: DAOU Systems, Inc. Attention: Ms. Gayle Consiglio 10360 Sorrento Valley Rd. San Diego, CA 92121 * CONFIDENTIAL TREATMENT REQUESTED Page 8 of 34 SIGNATURES - -------------------------------------------------------------------------------- I have read, understand, and agree to all the terms and conditions of sale in this Contract #MM. I also certify that I have the legal authorization to sign on behalf of the owners/principals of the business entity I am representing. DAOU SYSTEMS, INC. MERCY INFORMATION SYSTEMS /s/ Daniel Daou /s/ Robert Peterson - ---------------------------------- ---------------------------------- Signature Signature Daniel J. Daou Robert Peterson - ---------------------------------- ---------------------------------- Name Name President President and CEO - ---------------------------------- ---------------------------------- Title Title June 29, 1995 June 28, 1995 - ---------------------------------- ---------------------------------- Date Date * CONFIDENTIAL TREATMENT REQUESTED Page 9 of 34 ADDENDUM NO. 1 TO DAOU/MIS INFORMATION SYSTEM AGREEMENT CONTRACT #MM WHEREAS, the parties hereto desire to amend the Principal Agreement, Attachments and Schedules that comprise the Terms and Conditions of Contract #MM, entered into between them effective June 29, 1995; NOW THEREFORE, IT IS MUTUALLY AGREED between the parties as follows: 1. On Page 1 of the Principal Agreement, the following definition of "Customer" shall be added to the SCOPE OF PRINCIPAL AGREEMENT, after the definition of "Authorized Client" and before the definition of "Participating Client": "CUSTOMER" shall mean MIS/MHS and all Participating Clients 2. Section 7. of the Principal Agreement, entitled RISK OF LOSS, shall be corrected by deleting the number "twelve (12)" and inserting the number "fourteen (14)" on the second line of that Section. 3. Section 8. of the Principal Agreement, entitled MODIFICATIONS, shall be amended on line 3 by not capitalizing the work "Responsible". 4. Section 19. of the Principal Agreement, entitled SOFTWARE LICENSES, shall be amended by the addition of the following sentence at the end of that Section: "DAOU's obligation to indemnify and hold CUSTOMER harmless from any and all violations of software copyright laws and license infringements by DAOU shall be in addition to, and shall not be subject to, the maximum liability for damages set forth in the Disclaimer in Section 18. of this Principal Agreement." 5. Section 20. of the Principal Agreement, entitled CONFIDENTIALITY, shall be amended as follows: The second line of the second paragraph of Section 20. shall be amended by replacing the period after the term "DAOU" with a comma, followed by the insertion of the following clause: * CONFIDENTIAL TREATMENT REQUESTED 1 "except as disclosures may be necessary to consultants or other vendors who will complete the installation if DAOU fails to do so or who will furnish maintenance and support for the system, subject to the confidentiality requirements of this Agreement." Section 20. shall be further amended by the addition of the following new paragraph at the end of Section 20. "In the event of violation of the terms of this Section by DAOU, DAOU shall be liable for all damages and costs, and such liability shall be in addition to, and shall not be subject to, the maximum liability for damages set forth in the Disclaimer in Section 18. of this Principal Agreement." 6. Section 22. of the Principal Agreement, entitled DEFAULT/BREACH by DAOU, shall be amended by the addition of the following sentence at the end of the existing section: "DAOU agrees to use its best efforts to deliver and install the system in accordance with the scheduled installation dates set forth in Schedule E." 7. The incomplete sentence comprising Section 23.2. of the Principal Agreement shall be amended on line three by the insertion of the word "or" prior to the word "enforcement," and the insertion of the words "of this Agreement shall be submitted for resolution" shall be inserted before the word "pursuant". 8. Section 23.6. of the Principal Agreement shall be amended by deleting from line 5 the words "paragraph 9.04 hereof" and inserting "Section 23.3 hereof". 9. Section 29. of the Principal Agreement, entitled SURVIVAL CLAUSE, shall be amended by inserting on the first line after the word "Warranties," the words "Software Licenses,". 10. A new Section 34 shall be added to the Principal Agreement, entitled NON-WAIVER, which shall state as follows: "The failure of a party to insist on strict performance of any of the covenants or conditions of this Agreement, or to exercise any option herein conferred * CONFIDENTIAL TREATMENT REQUESTED 2 on any one or more instances, shall not be construed as a waiver or a relinquishment for the future of such covenants, conditions, rights or options, but the same shall remain in full force and effect. 11. In the event of text or specifications conflict in any part(s) of this Principal Agreement or any Participating Client Contract hereunder, the following documents shall govern in the order shown: a. The particular Participating Client Contract, including Schedules A through H relating to that particular Participating Client Contract. b. Principal Agreement dated June 29, 1995, including Attachments A through F and any and all amendments to the Principal Agreement. 12. All other terms and conditions of the original Principal Agreement, Attachments and Schedules shall remain in full force and effect except as required by the modifications herein. AGREED TO AND ACCEPTED BY: DAOU SYSTEMS, INC. MERCY INFORMATION SYSTEMS /s/ Daniel J. Daou /s/ Robert Peterson - ------------------------------------- ------------------------------------- Signature Signature Daniel J. Daou Robert Peterson - ------------------------------------- ------------------------------------- Name Name President President and CEO - ------------------------------------- ------------------------------------- Title Title 8/10/95 8/23/95 - ------------------------------------- ------------------------------------- Date Date * CONFIDENTIAL TREATMENT REQUESTED 4 [Attachments A-F] [Schedules A-I] [Addendum #1] Confidential Treatment Requested 5 EX-10.9 15 EXHIBIT 10.9: MASTER AGMT. ATLANTIC HEALTH SYSTEMS [DAOU logo] ATLANTIC HEALTH SYSTEM 325 COLUMBIA TURNPIKE FLORHAM PARK, NJ 5120 Shoreham Place San Diego, California 92122 619.452.1338 fax 619.452.2221 800.578.3268 * CONFIDENTIAL TREATMENT REQUESTED TABLE OF CONTENTS EXECUTIVE SUMMARY. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .2 SCOPE OF MASTER AGREEMENT. . . . . . . . . . . . . . . . . . . . . . . . . . .3 1. CONSIDERATION: . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3 2. QUOTATION OF PRICES: . . . . . . . . . . . . . . . . . . . . . . . . . .3 3. CHARGES AND PAYMENT: . . . . . . . . . . . . . . . . . . . . . . . . . .3 4. OUT OF POCKET EXPENSE: . . . . . . . . . . . . . . . . . . . . . . . . .3 5. TAXES: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3 6. TITLE AND SECURITY INTEREST: . . . . . . . . . . . . . . . . . . . . . .3 7. RISK OF LOSS:. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3 8. MODIFICATIONS: . . . . . . . . . . . . . . . . . . . . . . . . . . . . .3 9. CANCELLATION:. . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4 10. RESTOCKING FEES:. . . . . . . . . . . . . . . . . . . . . . . . . . . .4 11. CONTACT PERSON: . . . . . . . . . . . . . . . . . . . . . . . . . . . .4 12. DELIVERY/INSPECTION:. . . . . . . . . . . . . . . . . . . . . . . . . .4 13. INSTALLATION/TRAINING/SUPPORT:. . . . . . . . . . . . . . . . . . . . .4 14. NETWORK ACCEPTANCE/PRODUCT DELIVERY:. . . . . . . . . . . . . . . . . .4 15. PERSONNEL PERFORMANCE GUARANTEE:. . . . . . . . . . . . . . . . . . . .4 16. WARRANTIES: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .4 17. DISCLAIMER: . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .5 18. INDEMNIFICATION:. . . . . . . . . . . . . . . . . . . . . . . . . . . .5 19. CONFIDENTIALITY:. . . . . . . . . . . . . . . . . . . . . . . . . . . .5 20. DEFAULT/BREACH BY CUSTOMER: . . . . . . . . . . . . . . . . . . . . . .5 21. DEFAULT/BREACH BY DAOU: . . . . . . . . . . . . . . . . . . . . . . . .6 22. PROBLEMS IN PERFORMANCE:. . . . . . . . . . . . . . . . . . . . . . . .6 23. DISPUTE RESOLUTION. . . . . . . . . . . . . . . . . . . . . . . . . . .6 24. INSURANCE AND LIABILITY:. . . . . . . . . . . . . . . . . . . . . . . .7 25. FORCE MAJEURE:. . . . . . . . . . . . . . . . . . . . . . . . . . . . .7 26. THIRD PARTIES:. . . . . . . . . . . . . . . . . . . . . . . . . . . . .7 27. RELATIONSHIP OF PARTIES:. . . . . . . . . . . . . . . . . . . . . . . .7 28. SURVIVAL CLAUSE:. . . . . . . . . . . . . . . . . . . . . . . . . . . .7 29. WILLINGNESS TO WORK WITH ALL PARTIES. . . . . . . . . . . . . . . . . .7 30. INTERPRETATION: . . . . . . . . . . . . . . . . . . . . . . . . . . . .7 31. NOTICES FROM DAOU TO CUSTOMER:. . . . . . . . . . . . . . . . . . . . .8 32. NOTICES FROM CUSTOMER TO DAOU:. . . . . . . . . . . . . . . . . . . . .8 33. ENTIRE MASTER AGREEMENT:. . . . . . . . . . . . . . . . . . . . . . . .9 SIGNATURES . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .9 * CONFIDENTIAL TREATMENT REQUESTED 2 - -------------------------------------------------------------------------------- DAOU SYSTEMS, INC. 5120 Shoreham Place San Diego, California 92122 (619) 452-2221 Master Agreement - -------------------------------------------------------------------------------- CUSTOMER NAME :ATLANTIC HEALTH SYSTEM ADDRESS :325 COLUMBIA TURNPIKE CITY/STATE/ZIP :FLORHAM PARK, NJ - -------------------------------------------------------------------------------- This Master Agreement, the term effective 04 - JUN 1996, [*] by and between DAOU Systems, Inc., (hereinafter referred to as "DAOU"), and ATLANTIC HEALTH SYSTEM, with its principal place of business, defined above, hereinafter referred to as ("CUSTOMER") sets forth the promises of the parties with respect to the products and services of DAOU which are described in the Master Agreement. The parties hereto agree as follows: EXECUTIVE SUMMARY In accordance with this agreement DAOU has designed and will manage an enterprise wide communications infrastructure for CUSTOMER. The network consists of cabling for each of the CUSTOMER sites, active network electronic components, network operating system software and related software for office automation related tasks. This network will enable CUSTOMER to implement existing and new applications such as electronic mail, remote physician access and integrated voice video and data for such applications as telemedicine, across the institution. This network structure will allow any user at a personal computer station secure access to any information located on any host or server connected to the network. Any user at a personal computer station will also be able to share files and schedules with, and send email to any other user who is granted the same capabilities on the network. DAOU will supervise the installation of the cabling infrastructure; acquire, test, integrate and install the active network electronic components; network operating software and office automation software into an integrated enterprise wide communication infrastructure. DAOU will further coordinate all activities of third party vendors related to the acquisition of said products and services, including but not limited to, application software companies, suppliers of telecommunications * CONFIDENTIAL TREATMENT REQUESTED 3 services, hardware and software vendors, necessary to the success of the overall project. DAOU will further manage, support and otherwise assume complete responsibility for the day to day ongoing operation of the enterprise wide communications infrastructure. This partnership will result in an information system delivery system capable of supporting the Customer well into the next century. SCOPE OF MASTER AGREEMENT CUSTOMER and DAOU agree that CUSTOMER shall be entitled to procure the products and services made available under the Master Agreement. CUSTOMER and DAOU agree that they will each use good faith and reasonable efforts to define, plan and coordinate the different priorities and schedules agreed to by the parties within the scope of this Agreement. This Master Agreement will serve as the basis by which all projects will be agreed to and specifics to Scope. Deliverables. Milestones, Payment, etc. will be treated separately with Attachments & Schedules. This document supersedes all said Attachments & Schedules. - -------------------------------------------------------------------------------- 1. CONSIDERATION: In consideration of the Products and Services to be provided in writing by DAOU to CUSTOMER, as set forth in relevant Attachments and Schedules ,. CUSTOMER agrees to pay DAOU's charges. Any modifications or additions must be approved in writing by both parties. 2. QUOTATION OF PRICES: All prices quoted shall remain valid only if CUSTOMER purchase order (including any change orders) is issued within sixty (60) days of the date on which the final quotation was submitted. Network implementation services are based on a fixed price referenced in Attachments and Schedules, should additional equipment be required pricing of the equipment will be identified in an Attachment or Schedule change order and the equipment will be the responsibility of the CUSTOMER. 3. CHARGES AND PAYMENT: CUSTOMER shall be invoiced for products and services as described in Attachments and Schedules. All fees to be paid by CUSTOMER, as identified in payment milestones in Attachments and Schedules payments, will be invoiced by DAOU to CUSTOMER with payment due net thirty (30) days. 4. OUT OF POCKET EXPENSE: [*] 5. TAXES: CUSTOMER shall pay all sales, use and excise taxes, unless CUSTOMER furnishes DAOU with a certificate of exemption from payment of such taxes which is in a form reasonably acceptable to DAOU. 6. TITLE AND SECURITY INTEREST: DAOU reserves, and CUSTOMER grants, a security interest in the products which shall remain in effect for as long as the purchase price of the remains unpaid. 7. RISK OF LOSS: Risk of loss of the Products shall pass to the CUSTOMER upon Product Acceptance by CUSTOMER as defined in paragraph twelve (12). * CONFIDENTIAL TREATMENT REQUESTED 4 8. MODIFICATIONS: All modifications of Attachments and Schedules must be approved in writing by both parties for any additional products or services not part of the original attachments. Cost of any additional products required to complete installation will be paid for by responsible party. Attachments and Schedules to this Master Agreement will be initiated by DAOU and signed by CUSTOMER prior to ordering of additional products or providing additional services requested. 9. CANCELLATION: This Master Agreement may be canceled up to five (5) days after contract signature without cause or penalty. After five (5) days, this contract cannot be canceled, except by mutual agreement or upon the breach hereof by one of the parties hereto. 10. RESTOCKING FEES: Hardware or Software Products accepted by DAOU for credit or exchange may be subject to a restocking fee as charged to DAOU by the manufacturer or distributor. CUSTOMER may be denied credit or exchange on Hardware or Software products that are unacceptable for return by manufacturer. Opened software licenses are generally unacceptable for return by manufacturer. 11. CONTACT PERSON: CUSTOMER will appoint a Project Manager who will assist DAOU Project Manager in coordinating delivery and installation of products and services described in schedules and attachment of the Master Agreement. CUSTOMER will identify a key contact person for each site scheduled project. 12. DELIVERY/INSPECTION: DAOU will notify CUSTOMER in advance of all Product Deliveries and installation dates. DAOU shall not be liable for losses or consequential damages resulting from delays in delivery due to causes beyond its control. CUSTOMER agrees to verify bill of lading for the products as soon as practical after delivery and to notify DAOU in writing within 7 days of delivery any shipping discrepancies (wrong product, incorrect quantity, etc.). DAOU will take responsibility for resolving discrepancies in shipping as reported by CUSTOMER. 13. INSTALLATION/TRAINING/SUPPORT: [*] A detailed workplan is referenced in Attachments and Schedules for all projects, including initial installation and training plans. Scheduled installation or training dates shall not be modified without the written consent of both parties. 14. NETWORK ACCEPTANCE/PRODUCT DELIVERY: Network Acceptance is defined as when DAOU has demonstrated and documented to the CUSTOMER that the network is functional per the acceptance criteria defined and included in the Attachment for each project. Product Delivery is defined as when the CUSTOMER has verified the bill of lading for the product after on-site delivery at the CUSTOMER site and has notified DAOU in writing within 7 days of any delivery discrepancies. If no such notice is provided by the CUSTOMER, DAOU and the CUSTOMER will consider Product Delivery to be complete. 15. PERSONNEL PERFORMANCE GUARANTEE: DAOU guarantees the personnel assigned will meet the CUSTOMER's expectations of project management. The Project Manager will supervise all personnel responsible for implementation and training at CUSTOMER site. CUSTOMER may request personnel change in writing to which DAOU will accommodate within 30 days. DAOU guarantees the same for any work and services provided to CUSTOMER by any sub-contractor contracted by DAOU to provide services to CUSTOMER. 16. WARRANTIES: DAOU will repair or replace any defective Products sold in Attachments and Schedules for a period of 30 days from Network Acceptance as identified in paragraph 14. In the case of product only purchases, sold in Attachments and Schedules for a period of 30 days from product delivery. .DAOU gives no warranty, expressed or implied, other than manufacturer's warranty on any hardware or software products sold to CUSTOMER. Implied warranties of * CONFIDENTIAL TREATMENT REQUESTED 5 merchantability or fitness for a particular purpose are hereby disclaimed by DAOU and excluded by this Master Agreement and shall not extend manufacturer's or supplier's warranty. Any alterations, additions, improvements or attachments on the products which are not authorized in writing by DAOU, or by the products' manufacturer, producer, or supplier, shall be solely at CUSTOMER's expense and risk. Every warranty provided by this Master Agreement shall be void to the extent operation of the products are affected by any alteration, addition, improvement or attachment. 17. DISCLAIMER: CUSTOMER understands and agrees that, with the exception of the warranties in Section 16, his/her sole remedy, and only in the case of failure of products to perform, shall be limited to repair, replacement, or refund, of purchase price of products sold, and DAOU shall not be liable for consequential damages whether foreseeable or otherwise. DAOU maximum liability to CUSTOMER shall in no event exceed the contracted purchase price. CUSTOMER reserves the right to terminate this Agreement, in the event of any such claim. 18. INDEMNIFICATION: a. INDEMNITY BY DAOU. DAOU shall indemnify, defend and hold harmless CUSTOMER, its trustees, officers, employees, agents, and students from any loss, claim, damage or liability of whatsoever kind or nature, arising out of or in connection with the performance by DAOU, its agents or employees, of this Agreement. DAOU shall indemnify and hold CUSTOMER harmless form any and all violation of software copyright laws and license infringements by DAOU. b. INDEMNITY BY CUSTOMER. CUSTOMER shall indemnify, defend and hold harmless DAOU, its directors, officers, employees, agents, and students form any loss, claim,damage or liability of whatsoever kind or nature, arising out of or in connection with the performance by CUSTOMER, its agents or employees, of this Agreement. CUSTOMER shall indemnify and hold DAOU harmless from any and all violation of software copyright laws and license infringements by CUSTOMER. 19. CONFIDENTIALITY: DAOU agrees to protect the confidentiality of CUSTOMER's proprietary information including but not limited to financial information, patient information, clinical practice or management at CUSTOMER's facility. DAOU shall not divulge or disclose to any third parties any information concerning the affairs of the CUSTOMER which may be received by DAOU at any time, unless such information becomes publicly available through no cause of DAOU. CUSTOMER agrees to protect the confidentiality of DAOU's proprietary information including but not limited to all drawings, design techniques, contract prices, and improvements provided by DAOU. CUSTOMER will not divulge any portion of the contract, Master Agreement, or design, not already in the public domain that are deemed confidential at any time unless required by law or unless such information becomes publicly available through no fault of the CUSTOMER. CUSTOMER agrees that for a period of this agreement from the date of this Master Agreement and CUSTOMER will not directly solicit for employment any employee of DAOU with whom CUSTOMER has had contact or who became known to CUSTOMER in connection with CUSTOMER consideration of the Master Agreement. DAOU also agrees that for the period of this Agreement, from the date of this Master Agreement and DAOU will not directly solicit for employment any employee of CUSTOMER with whom DAOU has had contact or who became known to DAOU in connection with DAOU's consideration of the Master Agreement, or as otherwise outlined throughout this Master Agreement. CUSTOMER retains the right, at its sole discretion to hire the DAOU employees stationed at CUSTOMER provided that CUSTOMER remits to DAOU the sum of $100,000.00 per each DAOU employee that CUSTOMER successfully hires. Should either party terminate this Master Agreement with cause prior to the end of the Master Agreement's initial term, or any successive term thereafter, CUSTOMER shall remit to DAOU $100,000.00 for every DAOU employee CUSTOMER successfully hires. DAOU shall not use CUSTOMER name in any publication, promotional or written material without the prior written approval of an officer of CUSTOMER. * CONFIDENTIAL TREATMENT REQUESTED 6 20. DEFAULT/BREACH BY CUSTOMER: In the event of default by CUSTOMER on any payment described in the attached proposal, CUSTOMER shall pay interest at the rate of eighteen percent (18%) per annum on each such obligation from the day it is due until it is received by DAOU, which is not in dispute. CUSTOMER payment will not be subject to interest if DAOU authorizes in writing a change in payment due date in the event of incomplete installation or delivery by DAOU. The occurrence of any of the following shall constitute a breach and material default of this Master Agreement: a. The failure of CUSTOMER to pay or cause to be paid by the due date any moneys or charges required by this Master Agreement to be paid by CUSTOMER when such failure constitutes for a period of forty-five (45) days after written notice thereof from DAOU to CUSTOMER, unless under dispute; b. DAOU's failure to adhere to proposal, as defined in Attachments, also constitutes a material default under this Master Agreement, c. Any act of bankruptcy caused, suffered or permitted by CUSTOMER or DAOU. 21. DEFAULT/BREACH BY DAOU: In the event of default by DAOU delivered or as otherwise defined herein, DAOU shall not invoice or charge CUSTOMER for any product or service not delivered or as defined in attached proposal. CUSTOMER has a right to terminate the Agreement in the event of a breach by DAOU. 22. PROBLEMS IN PERFORMANCE: In the event of any failure of the parties mutually to agree on any matters under this Agreement or in the event that either party believes that the other has failed to satisfactorily perform or otherwise is in breach of the Agreement and if the parties are unable to resolve such matter through their respective representatives then the parties shall submit the matter to resolution in accordance with the procedures set forth in Section 23 below. 23. DISPUTE RESOLUTION For as long as this Master Agreement is in effect, all disputes, claims and controversies between the parties arising out of or related to this Master Agreement including but not limited to, any claim of misrepresentation, of breach, or of nonperformance (disputes), shall be determined in the following manner: Informal Procedure: The following personnel of the parties shall make every reasonable mutual attempt to resolve the Dispute: 1. If such representative do not resolve the dispute within ten (10) business days after the date upon which the breaching party receives notices of the breach, the dispute shall be referred for resolution to the following personnel of the parties: (a) if relating to a CUSTOMER prior to network acceptance of the network for such CUSTOMER, Director of Technical Services and CUSTOMER Director; or (b) if relating to a CUSTOMER subsequent to network acceptance of the software for such CUSTOMER, Director of Technical Services and CUSTOMER Director. 2. If the individuals to whom the matter is referred under subsection a or b, immediately above do not resolve the Dispute within (10) business days after the date of referral, the dispute shall be referred for resolution to the following personnel of the parties: (a) if relating to a CUSTOMER prior to network acceptance of the network for such CUSTOMER, DAOU's Sr. Vice President and CUSTOMER Vice President; or (b) if relating to a CUSTOMER after network acceptance of the software for such CUSTOMER DAOU's Sr. Vice President and CUSTOMER Vice President. * CONFIDENTIAL TREATMENT REQUESTED 7 23.1 Any dispute not remedied as set out in the above sections and subsections between and arising out of or in connection with this Master Agreement as to the negotiation, existence, construction, validity, interpretation or meaning, performance, nonperformance, enforcement, will then be pursuant to the then existing Commercial Arbitration Rules of the American Arbitration Association. 23.2 Either party may demand such arbitration in writing within one (1) year after the expiration of the cure period set out in the first section above this Master Agreement, but not thereafter, which demand shall include a statement of the matter in controversy. 23.3 Each party shall select one disinterested arbitrator from a list submitted by the American Arbitration Association, and the two select a third arbitrator from the list. 23.4 Each party shall bear its own cost of arbitration. 23.5 The parties expressly agree that all trade secrets, proprietary or confidential information of either party shall be disclosed during arbitration only upon the issuance of appropriate protective orders. 24. INSURANCE AND LIABILITY: At all times while this Master Agreement is in effect, DAOU shall maintain (or cause to be in effect), liability insurance covering itself, with limits of not less than [*] per incident and [*] aggregate. Such insurance shall be obtained from an insurance carrier admitted to do business in the state of New Jersey or from a duly established and funded self-or pooled- insurance program. Any insurance carrier providing such coverage shall give CUSTOMER at least thirty (30) days advance notice of cancellation or material change in any such coverage. DAOU shall not commence performance under this Master Agreement until it has obtained, at its own expense, all insurance required under this Master Agreement. DAOU warrants that all required insurance shall be maintained until its work under this Master Agreement is complete, provided that, if DAOU fulfills any of the insurance requirements set forth herein by the use of claims-made policies. DAOU warrants that these policies shall be kept in effect for at least [*] following completion of its work under this Master Agreement, and, if its claims-made policies are canceled during [*] DAOU will purchase tail coverage for the remainder thereof. 25. FORCE MAJEURE: Neither DAOU nor CUSTOMER shall be responsible for any delay or failure of performance resulting from causes beyond its control without its fault or negligence. If a force majeure even occurs the party being delayed or failing to perform shall promptly notify the other party of the nature of such cause and its reasonably anticipated duration and if either party declares a force majeure event, the parties shall meet as soon, thereafter, as possible to determine the nature and extent of the event, the expected impact of the event on CUSTOMER's processing capabilities, and a recommended course of action intended to enable CUSTOMER to process its data in the operation of the Facility. 26. THIRD PARTIES: This Master Agreement is between DAOU and CUSTOMER and is not for the benefit of, nor does it vest any rights in, any third party. Neither party may delegate any duty under this Master Agreement without the prior written consent of both parties, which shall not be unreasonably withheld. Id DAOu subcontracts out any of its duties, the subcontracted will perform under the supervision of DAOU and will meet DAOU's contracted level of performance. Neither this Master Agreement nor any of either party's obligations under this Master Agreement shall be assignable by operation of law or otherwise without prior written consent of both parties, which shall not be unreasonably withheld. 27. RELATIONSHIP OF PARTIES: DAOU is performing its services and obligations hereunder as an independent contractor. Neither party shall have any rights or authority to create any obligation or responsibility, expressed or implied, on behalf of, or in the name of, the other party, or to bind the other party contractually in any manner whatsoever. Under no circumstances, as a result of * CONFIDENTIAL TREATMENT REQUESTED 8 this Agreement, shall any employee, agent, or representative of one party be considered an employee, agent, or representative of the other party. 28. SURVIVAL CLAUSE: The provisions of this Master Agreement pertaining to warranties, disclaimer and confidentiality shall continue in full force and effect, notwithstanding the fact that the CUSTOMER has accepted and paid for any work, services provided or products purchased thereunder. 29. WILLINGNESS TO WORK WITH ALL PARTIES: DAOU will be required to work with other vendors contracted with the CUSTOMER and may on occasion seek advise and or support to work with those parties. Customer shall provide every means possible to promote a spirit of willingness have the organizations work together and agrees to intervene if necessary. 30. INTERPRETATION: This agreement shall in all respects be governed by and construed in accordance with the laws of the State of New Jersey. The parties hereto shall submit to the jurisdiction of the federal and state courts located in Morris County, New Jersey State, for the resolution of disputes arising thereunder. 31. NOTICES FROM DAOU TO CUSTOMER: All written notifications will be sent by DAOU to the CUSTOMER to the attention of the following at the address identified below. Customer Attention: Contract Administrator ATLANTIC HEALTH SYSTEM 325 Columbia Turnpike Florham Park, NJ 32. NOTICES FROM CUSTOMER TO DAOU: DAOU Systems, Inc. Attention: Contract Administrator 5120 Shoreham Place San Diego, CA 92122 33. ENTIRE MASTER AGREEMENT: This Master Agreement executed by CUSTOMER contains the entire Master Agreement of the parties relating to its subject matter. There are no promises, representations or undertakings other than as expressly provided herein, and no modification of this Master Agreement will be binding unless in writing and signed by both parties. * CONFIDENTIAL TREATMENT REQUESTED 9 SIGNATURES - -------------------------------------------------------------------------------- I have read, understand, and agree to all the terms and conditions of sale in this MASTER AGREEMENT. I also certify that I have the legal authorization to sign on behalf of the owners/Masters of the business entity I am representing. DAOU SYSTEMS, INC. ATLANTIC HEALTH SYSTEM 5120 SHOREHAM PLACE 325 COLUMBIA TURNPIKE SAN DIEGO, CA 92122 FLORHAM PARK, NJ /s/ Daniel J. Daou - ------------------------------------ ----------------------------------- Signature Signature /s/ Richard P. Oths - ------------------------------------ ----------------------------------- Daniel J. Daou Richard P. Oths DANIELS J. DAOU PRESIDENT - ------------------------------------ ----------------------------------- President Chief Executive Officer 6/7/96 6/4/96 - ------------------------------------ ----------------------------------- Date Date * CONFIDENTIAL TREATMENT REQUESTED 10 [Schedule A and B of the Master*] [Confidential Treatment Requested] EX-10.10 16 EXHIBIT 10.10: MASTER SERVICES AGMT. PROPRIETARY & CONFIDENTIAL DAOU SYSTEMS, INC. FORM OF MASTER SERVICES AGREEMENT This MASTER SERVICES AGREEMENT ("Agreement") between the below-named CUSTOMER and DAOU SYSTEMS, INC. ("DAOU" or the "Company") establishes the terms and conditions, which are part of this Agreement (See "Standard Terms and Conditions") under which DAOU will provide the services (the "Services") as set forth in the Schedules of Work ("Schedules") attached to and made part of this Agreement. - ------------------------------------------------------------------------------- Date: State of Incorporation: ------------------------ ----------------------- Customer: Address of principal place of business: -------------------- Contract Id No: -------------- ---------------------------------------------- If locations for the performance of services are different from the Customer's principal place of Business, an attachment setting forth such locations is attached. INITIALS: ---------------/----------------- Address for Notices: If to Customer: If to DAOU: - ------------------------------ DAOU Systems, Inc. 5120 Shoreham Place - ------------------------------ San Diego, California 92122 - ------------------------------ - ------------------------------ The Services to be performed by The Company pursuant to this Agreement, the payments required for such services are set forth on the attached Schedules which are subject to the terms & conditions of this Agreement, and all Schedules incorporate the terms set forth in this Agreement for the duration of the Services. Section 6 of this Agreement is the Company's standard terms and conditions, which, together with all attached Schedules will incorporate all the terms and conditions of this Agreement. The word "Agreement" will apply to all terms and conditions of the Parties, whether contained in the Master Agreement or the Schedules. Changes within the scope of services as reflected in the Schedules will be made in writing and executed by both parties. DAOU will have no obligation to commence work in connection with any change until the change has been agreed to by both parties in writing. 1. TERM AND TERMINATION. The Term of this Agreement will commence on __________, 19__ and will extend thereafter until terminated by either party upon no less than 90 days' prior written notice. However, the Company may terminate this Agreement or suspend Services pursuant to this Agreement at any time immediately upon: (a) any failure of Customer to pay any amounts as provided in this Agreement; (b) any breach by Customer of any material provision of this Agreement continuing for 30 days after receipt of notice thereof; (c) any insolvency, bankruptcy, assignment for the benefit of creditors, appointment of a trustee or receiver or similar event with respect to Customer; (d) any governmental prohibition or required alteration of Services or any violation of applicable law, rule or regulation or (e) any other reason set forth on any applicable Service Order or the attached Standard Terms and Conditions. Any termination will not relieve Customer of its obligation to pay any charges incurred pursuant to this Agreement prior to such termination. The parties' rights and obligations which by their nature would extend beyond the termination, cancellation, or expiration of this Agreement, will survive such termination, cancellation or expiration. 2. FEES. Customer will pay to the Company the charges and fees as set forth in any Schedule attached to this Agreement. 3. CUSTOMER'S RESPONSIBILITIES. 3.1 Customer will cooperate with the Company to establish priorities for the Services to be provided to Customer. Customer will cooperate with the Company in good faith in the performance of Customer's activities contemplated by this Agreement through, among other things, making available, as reasonably requested by the Company, such facilities, management decisions, personnel, information, approvals, authorizations and acceptances in order that the Services provided by the Company under this Agreement may be accomplished in a proper, timely and efficient manner. Customer expressly acknowledges that the obligations of the Company to perform its obligations in accordance with this Agreement are dependent upon, among other things, the performance by Customer of its obligations under this Agreement and the accuracy of the assumptions and Customer's representations and warranties set forth in this Agreement. 3.2 Customer will designate, and during the term of this Agreement will maintain, a senior manager of Customer (the "Customer Representative") who will act as the primary point of contact for the Company in dealing with Customer with respect to Services provided under this Agreement. The Customer Representative will be responsible for directing, insofar as the Company is concerned, all activities of Customer affecting the Services provided under this Agreement. The Customer Representative will also work with the Company to establish Customer's priorities for the Services to be provided under this Agreement. 3.3 Customer will supply on-site Company personnel with suitable office space, desks, storage, furniture, and other normal office equipment support, including adequate computer resources, telephone service, modems, postage, copying, typing, and supplies (e.g. preprinted and stock forms, labels, magnetic tapes, disks, printer ribbons or cartridges and computer-output-microfilm/fiche) which may be necessary in connection with the Company's performance of the Services. 3.4 Customer hereby grants to the Company the right to operate and to use, and during the term of this Agreement will provide to the Company exclusive access to, the Customer's hardware and software in connection with Services provided under this Agreement, all at no charge to the Company. Customer will take all actions necessary to obtain any consents, approvals and authorizations from third parties necessary for the Company to access, operate and use (at or from any location where Services are to tbe provided pursuant to this Agreement) such items, including, without limitation, the payment of all costs and expenses that are associated therewith. Customer hereby appoints DAOU as Customer's sole administrative agent for all matters pertaining to such items, and Customer will promptly notify in writing all appropriate third parties of such appointment. Customer will retain sole responsibility for all costs and expenses relating to the such items, including, without limitation, any costs and expenses relating to any lease or purchase payments, depreciation, insurance, taxes and maintenance. 4. RIGHT OF FIRST REFUSAL. 4.1 Customer hereby grants to the Company a right of first refusal to provide services related to Customer's information technology operations that are not expressly provided for by this Agreement before obtaining such services from a third party during the term of this Agreement. In connection with such right of first refusal, Customer will provide the Company with such information relating to such services and a complete and accurate description of all material terms relating to any offer of a third party (including, without limitation, information regarding the time period within which the third party offered to provide the services and the price at which such third party will provide services). Prior to advising Customer whether DAOU will exercise such right of first refusal, the Company will be permitted a reasonable amount of time to review such information and material. The Company may exercise such right of first refusal if (a) the Company reasonably determines that it has comparable or better experience and knowledge of the services requested and that the services offered by it are comparable to or better than those services offered by a third party, (b) the Company offers to provide such services within the same time period as that proposed by a third party, and (c) the Company offers such services at the same price as, or a better price than, that of a third party. If the Company exercises such right of first refusal, Customer will obtain such services from the Company, and if the Company does not exercise such right of first refusal, Customer may obtain such services from any third party. 5. PERFORMANCE CRITERIA. 5.1 The parties will negotiate in good faith to establish, within 45 days after the date of this Agreement (or such other date as mutually agreed upon by the parties), performance criteria that will serve as measurements of the Company's performance of its ongoing obligations under this Agreement. Such performance criteria will include methods used to measure the following operational performance matters: systems availability; internal systems response time; and routine problem resolution (including Help Desk response time); and the following application support functions: routine application software error correction (including the reporting, correction and tracking of routine application software errors) and the performance of maintenance and enhancement tasks within specified time periods. The Company will be entitled to be excused from meeting the performance criteria for any failure to the extent that such failure is related to any matter constituting force majeure, any failure by Customer to perform its respective obligations under this Agreement, the performance or nonperformance of any software, hardware or other equipment that is used or operated by Customer and that was not recommended by the Company, any significant or material change in the business or operations of Customer or in the manner in which Customer conducts its business. 6. Standard Terms and Conditions 6.1 PRICE QUOTATIONS: All prices quoted will remain valid only if a Customer's purchase order (including any change orders) is issued within 60 days of the date on which the final quotation was submitted to Customer. Prices do not include installation, set-up, training, technical support, or maintenance fees unless specifically stated in this Agreement. All prices are quoted FOB San Diego, as applicable, and are exclusive of all federal, state, provincial and local taxes imposed on the sale, delivery or use of any of the Services to be performed by DAOU under this Agreement and of any freight, insurance or other transportation related costs, all of which will be paid by Customer in addition to the contract price. The Company reserves the right to revise its prices in connection with its adoption of a new price schedule or modification of existing schedules that are generally applicable to the Services. Such revised prices will be applicable to all Services performed on and after the effective date of the price change. 6.2 OUT OF POCKET EXPENSES: The Company's out of pocket travel expenses are not included in the price quoted and are to be paid separately by the Customer on a monthly basis. The Company's reimbursable out of pocket Expenses include round-trip airfair on major airlines business class or similar available seating, local accommodations limited to market rate, meals at market rates, available economy or mid-size car rental rate plus insurance, gas and parking, shuttle/taxi transportation to and from airport, and fax and telephone charges. 6.3 PAYMENT TERMS: When the Company has extended credit to Customer, the terms of payments will be net 30 days from the date of invoice unless different terms are agreed to in writing. The amount of credit or terms of payment may be changed or credit withdrawn by DAOU at any time. Payment will be made without any deduction or offset by reason of any alleged counterclaim. The Company's last written invoice, change order or statement of account will constitute presumptive evidence of all services accepted by Customer and all amounts due and owing from Customer unless disputed by Customer in writing within ten business days the Company's mailing or transmittal to Customer of such invoice, change order or statement of account. 6.4 LATE PAYMENTS: Interest on all sums due and unpaid after a due date will run at the lesser of the rate of 1.5% per month (18% per annum) or at the maximum rate permitted by applicable law until payment is received. Without limiting the generality of the foregoing, Customer's failure to pay any invoice at its maturity date will make all subsequent invoices immediately due and payable irrespective of contrary dating set forth in such invoices. Upon such failure the Company may thereafter require Customer make payment before additional Services are performed or at such other time as it may specify, or the Company, at its option, may cancel the unfilled portion of any Services and withdraw all unaccepted quotations. If payment of the Company's invoice(s) for performance in part or in whole is not made promptly as provided in this Agreement the Company will have the right to withhold further performance and/or stop work and at its option, to require full or partial payment for the Services. Where payment for Services is to be made by installments the failure of Customer to pay any installments in due time will entitle the Company, at its option, to treat such failure as a repudiation of the whole contract by Customer and to recover damages for such breach of contract. If, at Customers's request or for any other reason for which Customer is responsible, Services are delayed, the Company will have the right to immediately invoice Customer for work done and costs and expenses incurred up to the time of the delay. PROPRIETARY & CONFIDENTIAL 6.5 SCHEDULE SERVICE DATES: All proposed delivery, implementation and performance dates are estimates only and such dates are not be deemed of the essence of this Agreement. The Company will not be liable for or deemed to be in default by reason of any delay in delivery or for non-delivery or for any other delay in performance pursuant to this Agreement, in whole or in part, caused by the occurrence of any contingency beyond the control of either the Company or its suppliers, If any such contingency occurs, the Company may allocate its performance of Services among Customer and the Company's other customers. 6.6 EXPRESS WARRANTIES. The Company will re-perform any defective Services or repair or replace any defective hardware or software supplied in connection with such Services for a period of 30 days from the date of Customer's acceptance of such Services. The Company gives no warranty, expressed or implied, other than a pass-through of any manufacturers' warranties, on any hardware or software products provided to Customer. Any alterations, additions, improvements or attachments on any third-party hardware or software supplied by the Company which are not authorized in writing by the Company, or by the applicable manufacturer, producer, or supplier, will be solely at Customer's expense and risk. Laws from time to time in force in the relevant market may imply warranties which cannot be excluded or which can only be excluded to a limited extent, in which case, the Company limits its liability to the extent permitted by law. The warranty in this Agreement may be asserted by Customer only and not by Customer's customers, end users or other third persons. CUSTOMER ACKNOWLEDGES AND AGREES THAT THE PROVISIONS OF THIS WARRANTY CONSTITUTE THE SOLE AND EXCLUSIVE REMEDY AVAILABLE TO IT WITH REGARD TO DETECTIVE SERVICES. NO OTHER WARRANTIES: TO THE MAXIMUM EXTENT ALLOWED BY APPLICABLE LAWS, ALL OTHER WARRANTIES BY DAOU, WHETHER IMPLIED OR STATUTORY, AND ALL OBLIGATIONS AND REPRESENTATIONS AS TO PERFORMANCE, QUALITY OR ABSENCE OF HIDDEN DEFECTS, INCLUDING ALL WARRANTIES WHICH MIGHT ARISE FROM COURSE OF DEALING OR CUSTOM OR USAGE OF TRADE AND INCLUDING ALL IMPLIED WARRANTIES OF MERCHANTABILITY OR FITNESS FOR A PARTICULAR PURPOSE, ARE HEREBY EXPRESSLY EXCLUDED AND DISCLAIMED. DAOU DOES NOT WARRANT THAT THE OPERATIONS OF THE CUSTOMER WILL BE UNINTERRUPTED OR ERROR FREE. 6.7 LIMITATIONS OF LIABILITY: UNDER NO CIRCUMSTANCES WILL THE COMPANY OR ITS REPRESENTATIVES, EMPLOYEES, AFFILIATES, OFFICERS, DIRECTORS OR AGENTS BE LIABLE FOR ANY CONSEQUENTIAL, INDIRECT, EXEMPLARY, SPECIAL, PUNITIVE OR INCIDENTAL DAMAGES OR LOST PROFITS, WHETHER FORESEEABLE OR UNFORESEEABLE, BASED ON CUSTOMER'S CLAIMS OR THOSE OF ITS CUSTOMERS (INCLUDING, BUT NOT LIMITED TO, CLAIMS FOR LOSS OF DATA, GOOD WILL, USE OF MONEY OR USE OF THE SERVICES, INTERRUPTIONS IN THE USE OR AVAILABILITY OF DATA, STOPPAGE OF OTHER WORK OR IMPAIRMENT OF OTHER ASSETS), ARISING OUT OF BREACH OR FAILURE OF EXPRESS OR IMPLIED WARRANTY, BREACH OF CONTRACT, MISREPRESENTATION, NEGLIGENCE, STRICT LIABILITY IN TORT OR OTHERWISE, EXCEPT ONLY IN THE CASE OF DEATH OR PERSONAL INJURY WHERE AND TO THE EXTENT THAT APPLICABLE LAW REQUIRES SUCH LIABILITY. IN NO EVENT WILL THE AGGREGATE LIABILITY THAT THE COMPANY OR REPRESENTATIVES MAY INCUR IN ANY ACTION OR PROCEEDING EXCEED THE TOTAL AMOUNT ACTUALLY PAID BY CUSTOMER, AS APPLICABLE, FOR THE SERVICES THAT DIRECTLY CAUSED THE DAMAGE. THE REMEDIES, AND LIMITATIONS CONTAINED IN THESE SALE TERMS AND CONDITIONS WILL BE THE SOLE AND EXCLUSIVE REMEDIES OF CUSTOMER. 6.8 NO OTHER REPRESENTATIONS. Customer acknowledges that there are no representations outside these terms which have induced Customer to enter into this Agreement. All proposals and presentations otherwise communicated to Customer are intended merely to present a general idea of the Services described therein, and nothing contained in any of them will form any part of this Agreement. 6.9 HARDWARE & SOFTWARE SUBSTITUTIONS. The Company will have the unilateral right to make substitutions and modifications in the specifications of Services, or in the hardware or software or other items to be utilized in connection therewith, provided such substitutions or modifications do not materially affect form, fit or function of the Services. 6.10 SOFTWARE LICENSES. Any and all software purchased by Customer will be licensed in accordance with the manufacturers's software licensing policies. Customer will indemnify and hold the Company harmless from any and all violation of copyright laws and infringements by Customer. The Company will indemnify and hold Customer harmless from any and all violation of copyright laws and infringements by DAOU. 6.11 RISK OF LOSS. Any shipments of goods provided in connection with the Services will be delivered F.O.B. the Company's factory and title and liability for loss or damage thereto will pass to Customer upon delivery of the goods to a carrier for shipment to Customer. 6.12 COMPLAINTS. Customer will, within 30 days from the completion of the Services performed by the Company pursuant to this Agreement, give notice to the Company of any matter or thing by reason whereof Customer may allege that the Services are not in accordance with this Agreement. If Customer will fail to give such notice, the Services will be deemed conclusively to be in all respect in accordance with this Agreement and Customer will be deemed conclusively to have accepted the Services accordingly as of such 30th day. 6.13 CUSTOMER'S BANKRUPTCY OR INSOLVENCY. If at any time prior to the date of initial production and/or shipment or at any subsequent time, there is filed by or against Customer in any court, a petition of bankruptcy or insolvency, or for reorganization, or for the appointment of a receiver or trustee of all or a portion of Customer's property or if Customer makes an assignment for the benefit of creditors, this Agreement will, at the sole option of the Company, be subject to cancellation. If the Company elects to reinstate the performance of Services it will be subject to all the terms and conditions contained in this Agreement. 6.14 ATTORNEYS FEES. If any suit is brought to collect any amounts owing by Customer, the Company will be entitled to recover its costs and attorneys' fees incurred in connection with collecting such amounts owed. 6.15 NO SINGLE REMEDY. All of the remedies set forth in this Agreement are in addition to any that may be available under applicable law and are cumulative and not alternative. 6.16 LAW AND VENUE: This Agreement will be governed by and under the laws of the State of California without regard to the application of the principles of conflict of laws. In the event that both parties fail to resolve any dispute relating to this Agreement, the dispute will be settled by arbitration in accordance with the commercial rules of the American Arbitration Association and such arbitration shall be held in San Diego, California. The prevailing party will be entitled to recover its attorneys' fees. The cost of arbitration will be shared equally by the parties. Customer and the Company agree that venue is proper in said courts and waive any objection to the above-referenced jurisdiction and venue. 6.17 ASSIGNMENT: Customer will not assign any benefit under this Agreement without the consent in writing of the Company, which may if given be on such terms as to guarantee or indemnity or otherwise as the Company deems to be appropriate. PROPRIETARY & CONFIDENTIAL 6.18 NOTICES: Any notice or communication provided for pursuant to this Agreement will be in writing and will be deemed given and received (a)upon delivery, if personally delivered or by facsimile transmission with receipt acknowledged, (b)one business day after having been deposited for overnight delivery with Federal Express or a comparable overnight courier or (c)three business days after deposit in U.S. mail when sent by registered or certified mail, postage prepaid, with proof of delivery to the address for such party set forth on the cover page of the Agreement, of which these terms and conditions are a part. 6.19 WAIVERS: No waiver of any provision of this Agreement will be binding unless and until set forth expressly in writing and signed by a duly authorized representative of the waiving party. The waiver by any party of any specific breach will not operate or be construed as a waiver of any preceding, contemporaneous or succeeding breach of as a continuing waiver. No failure or delay by a party in exercising any right, power, or privilege under this Agreement or other conduct by a party will operate as a waiver, and no single or partial exercise thereof will preclude the full exercise or further exercise of any right, power, or privilege. 6.20 CONSTRUCTION RULES: If any term or provision of this Agreement is held to be to any extent invalid or otherwise unenforceable by any court of competent jurisdiction, such provision will be construed as if it were written so as to effectuate to the greatest possible extent the parties' expressed intent, and in every case the remainder of this Agreement will not be affected thereby and will remain valid and enforceable. Typographical and clerical errors are subject to correction. 6.21 PROPRIETARY RIGHTS. The Company retains all right, title, and interest in and to any and all development tools, know-how, methodologies, processes, technologies or vendor lists used in providing Services under this Agreement and which are based upon trade secrets or proprietary information of the Company or otherwise owned or licensed by it. 6.22 CONFIDENTIALITY: The Company agrees to protect the confidentiality of Customers proprietary information including but not limited to financial information, patient information, clinical practice or management at Customer's facility. The Company will not divulge or disclose to any third parties any information concerning the affairs of the Customer which may be received by the Company at any time, unless such information becomes publicly available through no fault of the Company. Customer agrees to protect the confidentiality of the Company proprietary information including not limited to all drawings, design techniques, contract prices, and improvements provided by the Company. Customer will not divulge any portion of the contract, agreement, or design, not already in the public domain that are marked confidential will not be revealed at any time unless such information becomes publicly available through no fault of the Customer. 6.23 EMPLOYEES: For a period of two years from the date of this Agreement, Customer will not directly solicit for employment any employee of the Company with whom Customer has had contact or who became known to Customer in connection with Customer consideration of the Agreement. 6.24 ENTIRE AGREEMENT. These terms and conditions, together with the Master Services Agreement and Schedules of Work to which these terms and conditions are attached and form a part, constitutes the entire understanding between the parties and supersede any previous or contemporaneous negotiations, communications, representations or agreements by either party whether verbal or written. 6.25 AMENDMENTS. No change or modification of any terms or conditions will be valid or binding unless in writing and signed by an authorized representative of the Company. The signing by the Company of any of Customer's documentation will not imply any modification of these terms unless specific written reference by the Company is made thereto. Each person executing this Agreement on behalf of DAOU or Customer represents and warrants that he or she has been fully authorized to do so, and that all necessary corporate actions (if any) required for the execution of this Agreement have been taken. Accepted and agreed to: DAOU SYSTEMS, INC. [CUSTOMER] ---------------------------------------- By: By: -------------------------------- ------------------------------------- Name: Name: ------------------------------ ----------------------------------- Title: Title: ----------------------------- ---------------------------------- SIGNATURE PAGE TO DAOU SYSTEMS, INC. MASTER SERVICES AGREEMENT. 2 EX-10.12 17 EXHIBIT 10.12: PROMISSORY NOTE (GEORGES DAOU) PROMISSORY NOTE $70,642 San Diego, California October 26, 1995 For value received, the undersigned hereby promises to pay to DAOU SYSTEMS, INC., a California corporation, or order (the "Holder") at San Diego, California, the principal amount of Seventy thousand six hundred forty two dollars ($70,642), plus interest accrued thereon. This Promissory Note will bear six percent (6%) simple interest per annum, whether prior to or after maturity. All principal and accrued interest will be due and payable in one lump sum on the earlier to occur of (a) October 24, 2000, and (b) the business day next preceding the date of filing of the initial draft of a registration statement with respect to a firm commitment underwritten public offering under the Securities Act of 1933 covering the offer and sale of the Company's Common Stock. This promissory Note may be prepaid, in whole or part, at any time without premium or penalty. The provisions of this Promissory Note are intended by Maker to be severable and divisible and the invalidity or unenforceability of a provision or term in this Note will not invalidate or render unenforceable the remainder of this Promissory Note or any part thereof. This Promissory Note will be governed by and construed and interpreted in accordance with the internal laws of the State of California. /s/ Georges Daou ------------------------------------------------ Georges Daou WITNESS: /s/ Neil Cassidy - --------------------------------------- Name: Neil Cassidy [logo] RECEIPT DAOU SYSTEMS, INC., does hereby acknowledge receipt of ($70,642) as partial payment of those certain loans to Georges J. Daou as referenced in Attachment 2.10 (b(iii)1) to the Schedule of Exceptions. Dated: October 26, 1995 DAOU SYSTEMS, INC. By: /s/ Neil Cassidy --------------------------------- Neil Cassidy, Director of Finance 10360 Sorrento Valley Road - San Diego, California 92121 - TEL: (619) 452-221 FAX: (612) 452-1338 EX-10.13 18 EXHIBIT 10.13: PROMISSORY NOTE (DANIEL DAOU) PROMISSORY NOTE $69,897 San Diego, California October 26 , 1995 For value received, the undersigned hereby promises to pay to DAOU SYSTEMS, INC., a California corporation, or order (the "Holder") at San Diego, California, the principal amount of Sixty nine thousand eight hundred ninety seven dollars ($69,897), plus interest accrued thereon. This Promissory Note will bear six percent (6%) simple interest per annum, whether prior to or after maturity. All principal and accrued interest will be due and payable in one lump sum on the earlier to occur of (a) October 24, 2000, and (b) the business day next preceding the date of filing of the initial draft of a registration statement with respect to a firm commitment underwritten public offering under the Securities Act of 1933 covering the offer and sale of the Company's Common Stock. This promissory Note may be prepaid, in whole or part, at any time without premium or penalty. The provisions of this Promissory Note are intended by Maker to be severable and divisible and the invalidity or unenforceability of a provision or term in this Note will not invalidate or render unenforceable the remainder of this Promissory Note or any part thereof. This Promissory Note will be governed by and construed and interpreted in accordance with the internal laws of the State of California. /s/ Daniel Daou -------------------------------------------------- Daniel Daou WITNESS: /s/ Neil Cassidy - -------------------------------------- Name: Neil Cassidy [logo] RECEIPT DAOU SYSTEMS, INC., does hereby acknowledge receipt of ($69,896) as partial payment of those certain loans to Daniel J. Daou as referenced in Attachment 2.10 (b(iii)1) to the Schedule of Exceptions. Dated: October 26, 1995 DAOU SYSTEMS, INC. By: /s/ Neil Cassidy ------------------------------------- Neil Cassidy, Director of Finance 10360 Sorrento Valley Road - San Diego, California 92121 - TEL: (619) 452-221 FAX: (619) 452-1338 EX-10.14 19 EXHIBIT 10.14: PROMISSORY NOTE (JOSEPH DAOU) PROMISSORY NOTE $66,103 San Diego, California October 26, 1995 For value received, the undersigned hereby promises to pay to DAOU SYSTEMS, INC., a California corporation, or order (the "Holder") at San Diego, California, the principal amount of Sixty six thousand one hundred three dollars ($66,103), plus interest accrued thereon. This Promissory Note will bear six percent (6%) simple interest per annum, whether prior to or after maturity. All principal and accrued interest will be due and payable in one lump sum on the earlier to occur of (a) October 24, 2000, and (b) the business day next preceding the date of filing of the initial draft of a registration statement with respect to a firm commitment underwritten public offering under the Securities Act of 1933 covering the offer and sale of the Company's Common Stock. This promissory Note may be prepaid, in whole or part, at any time without premium or penalty. The provisions of this Promissory Note are intended by Maker to be severable and divisible and the invalidity or unenforceability of a provision or term in this Note will not invalidate or render unenforceable the remainder of this Promissory Note or any part thereof. This Promissory Note will be governed by and construed and interpreted in accordance with the internal laws of the State of California. /s/ Joseph Daou ----------------------------------------- Joseph Daou WITNESS: /s/ Neil Cassidy - -------------------------------------- Name: Neil Cassidy [logo] RECEIPT DAOU SYSTEMS, INC., does hereby acknowledge receipt of ($66,102) as partial payment of those certain loans to Joseph H. Daou as referenced in Attachment 2.10 (b(iii)1) to the Schedule of Exceptions. Dated: October 26, 1995 DAOU SYSTEMS, INC. By: /s/ Neil Cassidy ----------------------------------- Neil Cassidy, Director of Finance 10360 Sorrento Valley Road - San Diego, California 92121 - TEL: (619( 452-221 FAX: (619) 452-1338 EX-10.15 20 EXHIBIT 10.15: LEASE AGMT. AGREEMENT BETWEEN DANIEL DAOU AND DAOU SYSTEMS, INC. LEASE This Lease is made and entered into this 1ST DAY OF OCTOBER, 1995, by and between DANIEL DAOU (hereinafter referred to as "Landlord") whose address is 14226 BOUNTY WAY, POWAY, CA 92064 and DAOU SYSTEMS, INC. (hereinafter referred to as "Tenant"). Landlord hereby leases to Tenant and Tenant hereby leases from Landlord, on the terms and conditions hereinafter set forth, that certain real property and the building and other improvements located thereon situated in the City of SAN DIEGO, County of SAN DIEGO, State of CALIFORNIA, commonly known as: 13351 KIBBINGS ROAD, SAN DIEGO, CA 92130 and described as a 3 BEDROOM, 2.5 BATHROOM CONDOMINIUM (said real property is hereinafter called the "Premises"). The term of this Lease shall be for one year, commencing on OCTOBER 1, 1995, and ending on SEPTEMBER 30, 1996. Tenant shall pay to Landlord as rent for the Premises, the sum of ONE THOUSAND FIVE HUNDRED ($1500.00) dollars per month, in advance on the first day of each month during the term hereof. Rent shall be payable without notice or demand and without any deduction, off-set, or abatement in lawful money of the United States to the Landlord at the address stated herein for notices or to such other persons or such other places as the Landlord may designate to Tenant in writing. Tenant hereby covenants and agrees with the Landlord as follows: (1) To pay to the Landlord the rent as hereinabove provided as the same becomes due. (2) Not to sublet the whole or any part of the premises nor to assign this Lease, and not to make any alterations, additions, or improvements in or about the premises without the prior written consent of the Landlord. (3) That all alterations, additions, or improvements made in and to said premises shall, unless otherwise provided by written agreement between the parties hereto, be the property of Landlord and shall remain upon and be surrendered with the premises. (4) Tenant acknowledges that the premises are leased to him in their present condition unless otherwise provided by written agreement between the parties hereto, and Tenant agrees to keep the premises in good condition and repair at his own expense. (5) At the expiration of the term or any sooner termination of this Lease, Tenant agrees to surrender possession of the premises in good condition and repair, ordinary wear and tear and damage by fire and the elements excepted. (6) If Tenant shall hold over after the expiration of the term of this Lease with the consent, express or implied, of Landlord, such holding shall be construed to be a tenancy from month to month and Tenant shall comply with all of the other terms and covenants of this Lease applicable to a month-to-month tenancy for such time that Tenant holds over. (7) If either party hereto commences an action against the other party arising out of or in connection with this Lease, the prevailing party shall be entitled to have and recover from the losing party reasonable attorney's fees and costs of suit. (8) Landlord to receive security deposit equal to one month's rent. (9) No pets are allowed on the premises. In this Lease, whenever the context so requires, the singular number includes the plural and the masculine gender includes the feminine and/or neuter. The covenants and conditions of this Lease shall bind and benefit, respectively, Landlord and Tenant, their respective heirs, executors, administrators, successors, and assigns. IN WITNESS WHEREOF, Landlord and Tenant have executed this Lease on the day and year first above written. LANDLORD: TENANT: OWNER: Daniel Daou DAOU Systems, Inc. Joseph Daou /s/ Daniel Daou /s/ Joseph Daou - ------------------- ------------------- ------------------- EX-11.1 21 STATEMENT REGARDING CALCULATIONS EXHIBIT 11.1 STATEMENT OF COMPUTATION OF EARNINGS PER SHARE (AMOUNTS IN THOUSANDS, EXCEPT PER SHARE DATA)
YEARS ENDED DECEMBER 31, -------------------- 1994 1995 --------- --------- NINE MONTHS ENDED SEPTEMBER 30, -------------------------- 1995 1996 ------------ ------------ (UNAUDITED) (UNAUDITED) HISTORICAL EARNINGS PER SHARE Net income (loss)................................................ $ 26 $ 1,240 $ 533 $ (46) --------- --------- ------------ ------------ --------- --------- ------------ ------------ Weighted average common shares outstanding....................... 6,664 6,664 6,664 6,664 Net effect of dilutive common share equivalents (stock options) using the treasury stock method................................. -- -- -- -- Effect of assumed conversion of redeemable preferred stock....... -- 290 -- -- Adjustments to reflect requirements of the Securities and Exchange Commission (Effect of SAB 83).......................... 541 541 541 541 --------- --------- ------------ ------------ Adjusted shares outstanding...................................... 7,205 7,495 7,205 7,205 --------- --------- ------------ ------------ --------- --------- ------------ ------------ Historical net income (loss) per common share.................... $ 0.00 $ 0.17 $ 0.07 $ (0.01) --------- --------- ------------ ------------ --------- --------- ------------ ------------
YEAR ENDED DECEMBER 31, -------------- 1995 -------------- NINE MONTHS ENDED SEPTEMBER 30, -------------------- 1996 -------------------- (UNAUDITED) PRO FORMA EARNINGS PER SHARE Net income (loss)........................................................... $ 1,240 $ (46) ------- ------- Weighted average common shares outstanding.................................. 6,664 6,664 Net effect of dilutive common share equivalents (stock options) using the treasury stock method...................................................... -- -- Effect of assumed conversion of preferred shares............................ 290 1,603 Adjustments to reflect requirements of the Securities and Exchange Commission (Effect of SAB 83).............................................. 541 541 ------- ------- Adjusted shares outstanding................................................. 7,495 8,808 ------- ------- ------- ------- Pro Forma net income (loss) per common share................................ $ 0.17 $ (.01) ------- ------- ------- -------
EX-23.1 22 CONSENT OF ERNST & YOUNG EXHIBIT 23.1 CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS We consent to the reference to our firm under the caption "Experts" and "Selected Financial Data" and to the use of our report dated March 22, 1996, except for Note 9 as to which the date is December , 1996, in the Registration Statement (Form SB-2) and the related Prospectus of DAOU Systems, Inc. for the registration of shares of its common stock. San Diego, California - -------------------------------------------------------------------------------- The foregoing consent is in the form that will be signed upon completion of the reincorporation in Delaware disclosed in Note 9 of Notes to Financial Statements. ERNST & YOUNG LLP San Diego, California December 17, 1996 EX-27 23 FDS EXH.27
5 This schedule contains summary financial information extracted from the Registrant's Financial statements as of and for the year ended December 31, 1995 and as of and for the nine months ended September 30, 1996, and is qualified in its entirety by reference to such financial statements. 1,000 YEAR 9-MOS DEC-31-1995 DEC-31-1996 DEC-31-1995 SEP-30-1996 2,599 3,655 3,686 0 5,028 3,304 10 110 0 0 12,028 10,570 697 1,179 417 552 12,545 11,468 3,656 2,568 0 0 7,705 8,068 0 0 7 7 1,175 770 12,545 11,468 14,330 12,357 14,330 12,357 8,475 8,650 12,296 12,487 0 0 10 100 0 0 2,091 (67) 851 (21) 1,240 (46) 0 0 0 0 0 0 1,240 (46) .17 (.01) .17 (.01) Earnings per share is calculated based upon pro forma shares outstanding. See Note 1 of Notes to Financial statements.
-----END PRIVACY-ENHANCED MESSAGE-----