-----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, RIqVRhvZHNjIy/sCFVi4kLeE23R2cMAqeGT49kQmBnV/w/5r9Q6hxti4rvroQTMY srl6BVMrp7krhaoqxgIHJQ== 0001017062-97-001052.txt : 19970521 0001017062-97-001052.hdr.sgml : 19970521 ACCESSION NUMBER: 0001017062-97-001052 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 6 CONFORMED PERIOD OF REPORT: 19970331 FILED AS OF DATE: 19970520 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: GRAPHIX ZONE INC /DE/ CENTRAL INDEX KEY: 0001015446 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER PROCESSING & DATA PREPARATION [7374] IRS NUMBER: 330697932 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-28676 FILM NUMBER: 97612025 BUSINESS ADDRESS: STREET 1: 42 CORPORATE PARK STE 200 CITY: IRVINE STATE: CA ZIP: 92714 BUSINESS PHONE: 7148333838 MAIL ADDRESS: STREET 1: 42 CORPORATE PARK STREET 2: SUITE 200 CITY: IRVINE STATE: CA ZIP: 92714 10-Q 1 QUARTERLY REPORT / PERIOD ENDING 03/31/97 ================================================================================ U.S. SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ----------------------------- FORM 10-Q (MARK ONE) [X] QUARTERLY REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 1997 or [_] TRANSITION REPORT UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to ________ ________ Commission File Number: 0-28676 GRAPHIX ZONE, INC. (Exact name of registrant as specified in its charter) DELAWARE 33-0697932 ------------------------------ ------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 42 CORPORATE PARK, SUITE 200 IRVINE, CALIFORNIA 92606 - ---------------------------------------- ---------- (Address of principal executive offices) (Zip Code) (714) 833-3838 ---------------------------------------------------- (Registrant's telephone number, including area code) NOT APPLICABLE -------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant were required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ---- ---- APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. As of May 1, 1997, 12,268,069 shares of the registrant's only class of Common Stock, $.01 par value, were outstanding. =============================================================================== 1 GRAPHIX ZONE, INC. Table of Contents Form 10-Q for the Quarterly Period Ended March 31, 1997
PART I: FINANCIAL INFORMATION PAGE - ------- --------------------- ---- Item 1. Financial Statements Consolidated Balance Sheets as of March 31, 1997 (unaudited) and June 30, 1996 3 Consolidated Statements of Operations for the three months ended March 31, 1997 and 1996 (unaudited) 4 Consolidated Statements of Operations for the nine months ended March 31, 1997 and 1996 (unaudited) 5 Consolidated Statements of Cash Flows for the nine months ended March 31, 1997 and 1996 (unaudited) 6 Notes to Interim Consolidated Financial Statements 8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 13 PART II. OTHER INFORMATION - -------- ----------------- Item 1. Legal Proceedings 18 Item 2. Changes in Securities 18 Item 3. Defaults Upon Senior Securities 18 Item 4. Submission of Matters to a Vote of Security Holders 19 Item 5. Other Information 19 Item 6. Exhibits and Reports on Form 8-K 19 Signatures 21
2 PART 1. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS GRAPHIX ZONE, INC. CONSOLIDATED BALANCE SHEETS (Unaudited)
March 31, June 30, 1997 1996 ------------ ------------ Assets ------ Cash and cash equivalents $ 901,336 $ 1,288,196 Accounts receivable, net 3,018,929 3,867,268 Inventories 581,844 833,700 Prepaid expenses and other current 418,090 281,883 assets ------------ ------------ Total current assets 4,920,199 6,271,047 Property and equipment, net 1,080,603 653,833 Intangibles, net 678,990 850,186 Other assets, net 128,076 753,619 ------------ ------------ $ 6,807,868 $ 8,528,685 ============ ============ Liabilities and Stockholders' Equity (Deficiency) ------------------------------------------------- Notes payable $ 3,861,909 $ 750,000 Accounts payable 2,762,774 2,542,806 Accrued royalties 1,170,065 977,764 Accrued liabilities 1,216,164 1,159,946 Accrued restructuring charge 3,633 573,461 Deferred revenue 44,626 286,701 ------------ ------------ Total current liabilities 9,059,171 6,290,678 Other liabilities 59,414 189,278 ------------ ------------ Total liabilities 9,118,585 6,479,956 Mandatory Redeemable Series C Convertible Preferred Stock 2,741,333 - Stockholders' equity (deficiency) Series B Convertible Preferred Stock, $.01 par value, 3,500 shares authorized, 2,355,948 - 3,025 issued and outstanding at March 31, 1997 Common stock, $.01 par value, 100,000,000 shares authorized, 10,698,449 and 10,608,748 issued and outstanding at March 31, 1997 40,319,124 40,189,771 and June 30, 1996, respectively Accumulated deficit (47,727,122) (38,141,042) ------------ ------------ Net stockholders' equity (deficiency) (5,052,050) 2,048,729 ------------ ------------ $ 6,807,868 $ 8,528,685 ============ ============
See accompanying Notes to Interim Consolidated Financial Statements 3 GRAPHIX ZONE, INC. CONSOLIDATED STATEMENTS OF OPERATIONS THREE MONTHS ENDED MARCH 31, 1997 AND 1996 (Unaudited)
March 31, March 31, 1997 1996 ------------ ------------ Net revenues $ 2,092,549 $ 1,951,895 Cost of revenues 2,387,574 671,204 ------------ ------------ Gross margin (295,025) 1,280,691 ------------ ------------ Operating expenses: Research and development 933,096 355,338 Sales and marketing 990,288 1,012,662 General and administrative 3,026,640 834,327 Acquired in-process technology 1,628,000 - ------------ ------------ Total operating expenses 6,578,024 2,202,327 ------------ ------------ Operating loss (6,873,049) (921,636) Interest expense, net (138,438) (29,642) Other expense (18,952) (8,746) ------------ ------------ Net loss $(7,030,439) $ (960,024) ============ ============ Loss per share of common stock $ (0.67) $(0.21) ============ ============ Weighted average common shares 10,698,446 4,659,434 ============ ============
See accompanying Notes to Interim Consolidated Financial Statements 4 GRAPHIX ZONE, INC. CONSOLIDATED STATEMENTS OF OPERATIONS NINE MONTHS ENDED MARCH 31, 1997 AND 1996 (Unaudited)
March 31, March 31, 1997 1996 ------------ ------------ Net revenues $ 7,140,119 $ 3,927,296 Cost of revenues 4,433,598 2,181,647 ------------ ------------ Gross margin 2,706,521 1,745,649 ------------ ------------ Operating expenses: Research and development 2,519,879 2,077,265 Sales and marketing 3,104,344 2,129,072 General and administrative 5,056,422 2,516,529 Restructuring charge (benefit) (263,831) 1,950,000 Acquired in-process technology 1,628,000 - ------------ ------------ Total operating expenses 12,044,814 8,672,866 ------------ ------------ Operating loss (9,338,293) (6,927,217) Interest expense, net (228,835) (71,094) Other income (expense), net (18,952) 3,096 ------------ ------------ Net loss $(9,586,080) $(6,995,215) ============ ============ Loss per share of common stock $ (0.91) $ (1.54) ============ ============ Weighted average common shares 10,649,631 4,532,310 ============ ============
See accompanying Notes to Interim Consolidated Financial Statements 5 GRAPHIX ZONE, INC. CONSOLIDATED STATEMENTS OF CASH FLOWS NINE MONTHS ENDED MARCH 31, 1997 AND 1996 (Unaudited)
MARCH 31, MARCH 31, 1997 1996 ------------ ------------ Cash flows from operating activities: Net loss $(9,586,080) $(6,995,215) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 775,250 108,103 Acquired in-process technology 1,628,000 - Impairment of intangible and other long-term assets 1,101,000 708,776 Write-down of excess furniture and equipment 252,000 545,438 Provision for sales returns and doubtful accounts 1,176,673 - Provision for excess and obsolete inventory 1,076,632 - Amortization of discount on convertible debentures - 9,595 Stock option and warrant compensation expense - 215,471 Issuance of common stock as compensation and for services 200,625 - Change in operating assets and liabilities: Increase in accounts receivable (328,334) (1,695,103) Decrease (increase) in inventories (824,776) 337,792 Decrease in prepaid expenses and other current assets 143,793 29,509 Decrease in other assets 71,028 - Increase (decrease) in accounts payable 219,968 (192,872) Increase in accrued royalties 192,301 - Increase in accrued liabilities (85,713) - Increase (decrease) in accrued restructuring charge (569,828) 761,785 Increase (decrease) in deferred revenue (242,075) 377,730 Decrease in other liabilities (129,864) - ------------ ------------ Net cash used in operating activities (4,929,400) (5,788,991) ------------ ------------ Cash flows from investing activities: Purchase of property and equipment (660,635) (29,605) Proceeds from sale of property and equipment - 137,281 ------------ ------------ Net cash provided by (used in) investing activities (660,635) 107,676 ------------ ------------ Cash flows from financing activities: Proceeds from bank loan and notes payable to related parties 3,660,000 1,150,000 Payments for redemption of stock (75,062) - Payments on bank loan and notes payable to related parties - (400,000) Payments of notes payable (750,000) (561,781) Proceeds from Graphix Zone, Inc.(GZ-CA) - 3,504,216 Proceeds from exercise of stock options and warrants 12,289 85,485 Proceeds from preferred stock issuances 2,355,948 - ------------ ------------ Net cash provided by financing activities 5,203,175 3,777,920 ------------ ------------ Net decrease in cash (386,860) (1,903,395) Cash and cash equivalents at beginning of period 1,288,196 1,919,102 ------------ ------------ Cash and cash equivalents at end of period $ 901,336 $ 15,707 ============ ============
6
MARCH 31, MARCH 31, 1997 1996 ------------ ------------ Supplemental disclosure of cash flow information Cash paid during the period for interest $ 101,921 $ - Cash paid during the period for taxes $ 18,952 $ - Supplemental disclosure of non-cash investing and financing activities: Convertible Preferred Stock issued in connection with asset acquisitions $ 2,714,333 $ - See Note 6 related to recording of original issue discount $ 93,709 $ -
See accompanying Notes to Interim Consolidated Financial Statements 7 GRAPHIX ZONE, INC. Notes to Interim Consolidated Financial Statements (Unaudited) (1) BACKGROUND AND ORGANIZATION --------------------------- Graphix Zone, Inc., a Delaware corporation (the "Company"), was incorporated on January 17, 1996 for the purpose of acquiring GZ Multimedia, Inc. (formerly Graphix Zone, Inc.), a California corporation ("GZ-CA"), and StarPress, Inc., a Colorado corporation ("StarPress"). The Company is engaged in the development, production and marketing of pc-game and branded game software products for the personal computer industry. On January 3, 1996, GZ-CA and StarPress entered into an Agreement and Plan of Reorganization pursuant to which both companies would become wholly- owned subsidiaries of the Company. On June 28, 1996, the shareholders of both GZ-CA and StarPress approved the merger (the "Reorganization") which was consummated on that date. Based upon the capitalization of both GZ-CA and StarPress at the consummation of the Reorganization, the former shareholder interests of StarPress comprised a larger percentage of the outstanding shares of the Company than the former shareholder interests of GZ-CA; accordingly, StarPress was deemed the acquiring entity for financial accounting purposes. The historical financial statements presented herein, prior to the effective date of the Reorganization are the financial statements of StarPress. The historical shares of StarPress presented therein have been adjusted to reflect a .14666 for 1 stock exchange in connection with the Reorganization. All references to the "Company" prior to June 28, 1996 relate to StarPress. During the third quarter of the fiscal year ending June 30, 1997 ("fiscal 1997"), the Company retained a new executive management team to re-focus the Company's business strategy and operations and began doing business as Ignite, Inc. As part of the re-focusing, the Company has redefined its core product line to focus on traditional pc-games and branded game software products for the personal computer industry. In addition, the Company has begun the process of divesting or eliminating non-core business units and products such as its Internet site, WILMA, and the music and Internet retail product lines. (2) BASIS OF PRESENTATION --------------------- The interim unaudited financial statements included herein have been prepared by the Company in conformity with generally accepted accounting principles for interim financial information and pursuant to the rules and regulations of the U.S. Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. In the opinion of management, the interim unaudited financial statements reflect all adjustments, consisting only of normal recurring adjustments, which are, in the opinion of management, necessary for a fair statement of the results for the interim periods presented. Results for the three and nine month periods ended March 31, 1997 are not necessarily indicative of results which may be expected for the full year. The interim financial statements should be read in conjunction with the Company's Annual Report on Form 10-K for the fiscal year ended June 30, 1996. (3) INVENTORIES -----------
Inventories consisted of the following: Mar. 31, 1997 June 30, 1996 ------------- ------------- Finished goods $ 1,209,729 $ 479,747 Components 628,747 533,953 ------------- ------------- 1,838,476 1,013,700 Reserve for excess and obsolete inventories (1,256,632) (180,000) ------------- ------------- $ 581,844 $ 833,700 ------------- -------------
8 (4) IMPAIRMENT OF ASSETS -------------------- As discussed above, in the third quarter of fiscal 1997, the Company retained a new management team which began to re-focus the Company's business strategy and operations. In accordance with Statement of Financial Accounting Standards No. 121, the Company evaluated all assets and liabilities to determine impairment, if any, based upon the changes to the Company's business strategy and operations. As a result, the Company recorded a charge of approximately $1,353,000 related to property and equipment, intangible assets and other long term assets being impaired. In addition, the Company recorded charges to cost of revenues of approximately $1,000,000 and $189,000 related to the net realizable value of inventory and prepaid royalties, respectively. (5) ACQUISITIONS ------------ On February 24, 1997, the Company entered into an agreement with Inscape, a Delaware general partnership among Home Box Office and corporations owned by Warner Music Group, Inc. ("WMG") and Nash New Media, Inc., and WMG (collectively, "Inscape"), to purchase certain assets and assume certain liabilities. The assets consisted of all rights, title and interest in twelve existing pc-game products and seven pc-game products under development, all rights, title and interest in the Inscape name, furniture and equipment, and certain leases and other agreements. The liabilities consisted of accrued compensation costs associated with those Inscape employees offered employment with the Company. The purchase price for the Inscape assets consisted of 948,148 shares of the Company's Series C Convertible Preferred Stock ("Series C Preferred"). The Series C Preferred is convertible into the Company's Common Stock, at the option of the holder, and must be redeemed by the Company by February 28, 2000 at $3.375 per share. Although the stated liquidation value is $3,200,000, the Company determined the fair market value of the Series C Preferred to be $2,193,066 based upon the fair market value of the Company's Common Stock on the date of the agreement, discounted to take into account the restricted nature of the securities. The holder of the Series C Preferred is entitled to receive dividends of $0.10125 per share per annum which are fully cumulative from date of issuance. An allocation of the purchase price is as follows:
Allocation of Amortization Purchase Price (Useful Life) -------------- ------------- Description - ----------- In-process technology charged to operations $1,153,000 N/A Assembled workforce 476,000 5 years Goodwill 129,723 5 years Furniture and equipment 474,066 2-5 years Assumed liabilities (39,723) N/A -------------- Purchase price $2,193,066 ==============
On February 26, 1997, the Company entered into an agreement with Trimark Holdings, Inc. and its subsidiary, Trimark Interactive, Inc. ("Trimark"), to purchase certain assets. The assets consisted of all rights, title and interest in seven existing pc-game products and three pc-game products under development, inventories and certain other agreements. The purchase price for the Trimark assets consisted of 237,037 shares of the Series C Preferred (described above). Although the stated liquidation value is $800,000, the Company determined the fair market value of the Series C Preferred to be $548,267 based upon the fair market value of the Company's Common Stock on the date of the agreement, discounted to take into account the restricted nature of the securities. The holder of the Series C Preferred is entitled to receive dividends of $0.10125 per share per annum which are fully cumulative from date of issuance. 9 An allocation of the purchase price is as follows:
Purchase Price (Useful Life) -------------- ------------ Description - ----------- In-process technology charged to operations $475,000 N/A Assembled workforce 36,000 5 years Goodwill 37,267 5 years -------------- Purchase price $548,267 ==============
(6) NOTES PAYABLE ------------- On January 31, 1997, the Company entered into a loan agreement with Madeleine L.L.C. ("Madeleine") in the principal amount of $3,740,000 with an initial interest rate equal to the prime rate, as announced by Citibank, N.A., plus 4.25 percent and, commencing on July 31, 1997, increasing to a rate equal to such prime rate plus 6.25 percent (the "Madeleine Loan Agreement"). The Madeleine Loan Agreement is secured by all of the Company's assets and matures on January 30, 1998. The initial loan proceeds, net of $280,000 of fees to Madeleine were $3,460,000. The Madeleine Loan Agreement has numerous negative covenants which restricts the ability of the Company to effect certain transactions without Madeleine's written consent. Among these covenants is a prohibition on declaring or paying any cash dividends. At March 31, 1997, The Company was in default on certain financial covenants and certain other covenants of the Madeleine Loan Agreement. Among the consequences of such defaults Madeleine may foreclose on all of the assets of the Company. The Company is in negotiations to have the defaults waived and to increase the principal amount of the loan by $1,500,000. Unless a waiver is obtained, Madeleine retains the right to foreclose on the Company's assets. In connection with the Madeleine Loan Agreement, the Company issued a warrant to Madeleine to purchase 300,000 shares of the Company's Common Stock at an exercise price equal to the lower of $2.68 per share or the per share fair market value of the Common Stock of the Company at the time of exercise of the warrant. The warrant expires on January 31, 2000. The Company recorded an original issue discount of $93,709 which represents the fair value of the warrants at the time of issuance. The fair value of the warrants are reflected as a reduction to the face value of the loan amount. On June 28, 1996, the Company entered into a loan agreement with Silicon Valley Bank in the principal amount of $750,000 bearing interest at such bank's prime rate plus 3 percent. As of December 31, 1996, the Company had repaid $350,000 of the loan and was in default on the balance. Since that date, the Company has repaid the outstanding principal balance of; and all accrued and unpaid interest under, such loan using proceeds from the private equity placements described in Note 7 below. (7) STOCKHOLDERS' EQUITY -------------------- On September 25, 1996, the Company sold 1,000 shares of Series A Convertible Preferred Stock ("Series A Preferred") at $1,000 per share to one accredited investor in a private placement. In addition, the Company granted the investor a warrant to purchase 69,717 shares of the Company's Common Stock at an exercise price of $5.00 per share. The Series A Preferred is convertible into the Company's Common Stock, at the option of the holder, based on a per share conversion price equal to the lower of (a) $3.375 (subject to certain adjustments) or (b) 80% of the average closing bid price of the Company's Common Stock on the five days immediately prior to the conversion date. The holder of the Series A Preferred is entitled to receive dividends of $80 per share per annum which are fully cumulative from the date of issuance. The cash proceeds, net of offering expenses, were $939,950. On November 1, 1996, the Company sold 1,525 shares of Series A Preferred at $1,000 per share to five accredited investors in a private placement. In addition, the Company granted the investors warrants to purchase 99,674 shares of the Company's Common Stock at an exercise price of $5.00 per share. The cash proceeds, net of offering expenses, were $996,048. On February 7, 1997, the Company sold 500 shares of Series A Preferred at $1,000 per share to one accredited investor in a private placement. In addition, the Company granted the investor a warrant to purchase 51,813 shares of the Company's Common Stock at an exercise price of $5.00 per share. The cash proceeds, net of offering expenses, were $419,950. 10 On February 24, 1997, the Company issued 3,025 shares of Series B Convertible Preferred Stock with a stated value of $1,000 per share (the "Series B Preferred") and warrants (the "Series B Warrants") to purchase 221,204 shares of the Company's Common Stock at an exercise price of $5.00 per share to six accredited investors in exchange for the shares of the Series A Preferred and Common Stock warrants issued to the Series A Preferred investors in the aforementioned private placements. Such exchange was effected pursuant to Exchange Agreements entered into between the Company and each of the investors. The Series B Preferred and Series B Warrants were not registered under the Securities Act of 1933, as amended (the "Securities Act") in reliance upon the exemption from registration provided for in Regulation S promulgated under the Securities Act. The Series B Preferred is convertible into the Company's Common Stock, at the option of the holder, based on a per share conversion price equal to the lower of (a)$3.375 (subject to certain adjustments) or (b) 80% of the average closing bid price of the Company's Common Stock on the five days immediately prior to the conversion date. On March 5, 1997, the Company issued 1,185,185 shares of Series C Convertible Preferred Stock ("Series C Preferred") to two accredited investors in connection with two separate asset purchase agreements (see Note 5). Although the total stated liquidation value of the Series C Preferred is $4,000,000, the Company determined the fair market value to be $2,741,333 based upon the current fair market value of the Company's Common Stock, discounted to take into account the restricted nature of the securities. The shares of Series C Preferred are convertible into shares of Common Stock, at the option of the holders, at a conversion price of $3.375 per share (subject to certain adjustments) and are subject to mandatory redemption by the Company on February 28, 2000 at $3.375 per share. The holders of the Series C Preferred are entitled to receive dividends of $0.10125 per share per annum which are fully cumulative from date of issuance. (8) NET INCOME PER SHARE -------------------- In February 1997, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings per Share" which, when adopted, will replace the current methodology for calculating and presenting earning per share. Under SFAS No. 128, primary earnings per share will be replaced with a presentation of basic earnings per share and fully diluted earnings per share will be replaced with diluted earnings per share. Basic earnings per share excludes dilution and is computed by dividing income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted earnings per share is computed similarly to fully diluted earnings per share. The statement will be effective beginning in the Company's second quarter of the fiscal year ending June 30, 1998, and accordingly, the financial statements for such quarter will include a restatement of historical earnings per share to conform to the requirements of SFAS No. 128. The Company believes implementation of SFAS No 128 will not materially change earnings per share. (9) LIQUIDITY --------- As of March 31, 1997, the Company had a net working capital deficiency of $4,138,972. In addition, the Company has incurred significant losses from operations during fiscal 1997. In order to continue operations through June 30, 1997, the Company must collect a significant amount of its accounts receivables and will require additional financing which the Company is seeking through an amendment to the Madeleine Loan Agreement with Madeleine and/or equity financing. The Company's ability to continue as a going concern is dependent upon it successfully raising capital through debt and/or equity financing and, ultimately, upon it achieving profitable operations. No assurance can be made that the Company will be able to meet any or all of the above-referenced goals stated in the two immediately preceeding sentence. (10) SUBSEQUENT EVENTS ----------------- On May 2, 1997, the Company received notice from The Nasdaq Stock Market that it was not in compliance with the requirements for listing on the Nasdaq SmallCap Market. Specifically, the Company's closing bid price for the appropriate measurement period was below $1.00 and the Company did not meet the alternative listing requirement. To be eligible for continued listing, all securities, except warrants and rights, must maintain a minimum bid price of $1.00 or, as an alternative if the bid price is less than $1.00, maintain capital and surplus of $2,000,000 and a market value of the public float of $1,000,000. The Company was granted ninety days to regain compliance with the minimum bid or the alternative requirement. The Company may be delisted during the ninety day period for failure to maintain compliance with any other listing requirement which occurs during the period. In 11 addition, Nasdaq stated in its letter that the alternative requirement referenced above may be discontinued. As of May 20, 1997, the Company believes that it is in compliance with the other listing requirements. The Company expects to regain compliance prior to expiration of the ninety days; however, no assurances can be made that the Company will regain compliance with such Nasdaq requirements or that the Nasdaq Stock Market will not take steps to delist the Company's Common Stock. 12 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This report contains forward-looking statements in this Item 2 under the caption "Outlook" which involve risks and uncertainties. The Company's actual results may differ significantly from the forward-looking statements in such section. THREE AND NINE MONTHS ENDED MARCH 31, 1997 COMPARED TO THE THREE AND NINE MONTHS ENDED MARCH 31, 1996 General On January 3, 1996, GZ Multimedia, Inc. (formerly Graphix Zone, Inc.), a California corporation ("GZ-CA"), and StarPress, Inc. ("StarPress") entered into an Agreement and Plan of Reorganization pursuant to which both companies would become wholly-owned subsidiaries of Graphix Zone, Inc., a Delaware corporation (the "Company"). On June 28, 1996, the shareholders of both GZ-CA and StarPress approved the merger (the "Reorganization") which was consummated on that date. Based upon the capitalization of both GZ-CA and StarPress, at the consummation of the Reorganization, the former shareholder interests of StarPress comprised a larger percentage of the outstanding shares of the Company than the former shareholder interests of GZ-CA; accordingly, StarPress was deemed the acquiring entity for financial accounting purposes. The historical financial statements presented herein, prior to the effective date of the Reorganization, are the financial statements of StarPress. All references to the "Company" prior to June 28, 1996 relate to StarPress. During the third quarter of the fiscal year ending June 30, 1997 ("fiscal 1997"), the Company retained a new executive management team to re-focus the Company's business strategy and operations and began doing business as Ignite, Inc. As part of the re-focusing, the Company has redefined its core product line to focus on traditional pc-games and branded game software products for the personal computer industry. In addition, the Company has begun the process of divesting or eliminating non-core business units and products such as its Internet site, WILMA, and the music and Internet retail product lines. Results of Operations The following table sets forth items from the Company's Consolidated Statements of Operations as a percentage of net revenues.
Three Months Three Months Nine Months Nine Months Ended Ended Ended Ended Mar. 31, 1997 Mar. 31, 1996 Mar. 31, 1997 Mar. 31, 1996 ------------- ------------- ------------- ------------- Net revenues 100% 100% 100% 100% Cost of revenues 114% 34% 62% 56% ------------- ------------- ------------- ------------- Gross margin (14)% 66% 38% 44% Research and development expenses 44% 18% 35% 53% Sales and marketing expenses 47% 52% 43% 54% General and administrative expenses 145% 43% 71% 64% Restructuring charge (benefit) - - (3)% 49% Acquired in-process technology 78% - 23% - ------------- ------------- ------------- ------------- Operating loss (328)% (47)% (131)% (176)% Interest expense, net 7% 2% 3% 2% Other income (expense), net 1% - - - ------------- ------------- ------------- ------------- Net income (loss) (336)% (49)% (134)% (178)% ============= ============= ============= =============
13 NET REVENUES Net revenues for the three and nine months ended March 31, 1997 increased by $140,654 and $3,212,823 to $2,092,549 and $7,140,119 as compared to $1,951,895 and $3,927,296 for the three and nine months ended March 31, 1996, respectively. The increase in net revenues of 7% and 82% for the three and nine months ended March 31, 1997, respectively, compared to the same prior year periods is a result of the Reorganization, the acquisition of certain products from Sony Interactive Entertainment, Inc. ("Sony") in November 1995 and the release of seven new titles in the first quarter of fiscal 1997 as well as the distribution of certain affiliate label titles during the second and third quarters of fiscal 1997. All of the aforementioned transactions increased the Company's catalog of products and corresponding revenues, particularly the Sony products, which accounted for approximately $1,820,000 and $4,598,000 of revenues for the three and nine months ended March 31, 1997, respectively. In addition, the increase in sales for the nine months ended March 31, 1997 was offset by the Company recording approximately $590,000 for unanticipated returns and markdowns primarily related to several of the new titles released in the first quarter of fiscal 1997. The Company grants certain distributors and retailers certain rights to return unsold inventory. Consequently, although the Company records revenue upon shipment, it accrues a reserve for returns based on the Company's historical experience and retail sell-through information as well as distributor inventory levels. There can be no assurance that actual levels of returns will not significantly exceed amounts anticipated by the Company. GROSS MARGIN Gross margin as a percentage of net revenues was (14)% and 38% for the three and nine months ended March 31, 1997, respectively, compared to 66% and 44% for the three and nine months ended March 31, 1996, respectively. The decrease in gross margin as a percentage of net revenues for the three months ended March 31, 1997 as compared to the same prior year period is primarily a result of the Company recording several charges related to the net realizable value of assets resulting from the Company's re-focus of its business strategy and operations in the third quarter of fiscal 1997. Among these charges were approximately $1,000,000 for excess and obsolete inventory as well as approximately $321,000 related to prepaid royalties and acquired capitalized software development costs. Gross margin as a percentage of net revenues for the nine months ended March 31, 1997 decreased compared to the nine months ended March 31, 1996 primarily as a result of the aforementioned charges recorded in the third quarter of fiscal 1997 offset by decreased per unit costs, as compared to the same prior year period, derived from the Company's greater experience in the procurement of product components and improved pricing from vendors based upon increased production volumes associated with the Company's expanded catalog of products. RESEARCH AND DEVELOPMENT EXPENSES Research and development expenses for the three and nine months ended March 31, 1997 increased by $577,758 and $442,614 to $933,096 and $2,519,879, respectively, as compared to $355,338 and $2,077,265 for the three and nine months ended March 31, 1996, respectively. The increase in research and development expenses for the three and nine months ended March 31, 1997 compared to the same prior year period is primarily a result of StarPress having transferred most research and development expenditures to GZ-CA during the third quarter of fiscal 1996 in anticipation of the merger with GZ-CA. These expenditures were incurred by GZ-CA prior to the consummation of the Reorganization and are not included in the results of operations of the Company in accordance with the accounting treatment of the Reorganization as discussed above. In addition, during the latter part of the third quarter of fiscal 1997, the Company began to incur costs related to the development of in-process titles acquired from Inscape and Trimark Interactive. SALES AND MARKETING EXPENSES Selling and marketing expenses for the three and nine months ended March 31, 1997 were $990,288 and $3,104,344 representing 47% and 43% of net revenues, respectively, as compared to $1,012,662 and $2,129,072 representing 52% and 54% for the three and nine months ended March 31, 1996, respectively. Selling and marketing expenses remained relatively stable in amount for the third quarter of fiscal 1997 compared to third quarter of fiscal 1996. The lack of increase compared to the prior year, as may have been anticipated, was a result of fewer new product launches during the third quarter of fiscal 1997 compared to the same prior year period. The increase in selling and marketing expenses of $975,272 during the nine months ended March 31, 1997 compared to the same prior year period is primarily a result of increases in personnel as well as increased participation in cooperative advertising and marketing programs in relation to increased sales during the first half of fiscal 1997. The decrease in sales and marketing expenses 14 as a percentage of net revenues for the three and nine months ended March 31, 1997 as compared to the same prior year periods is a result of the Company having established the core infrastructure and personnel in the sales and marketing departments during the latter part of fiscal 1996 and reaping certain economies of scale as net revenues increased. GENERAL AND ADMINISTRATIVE EXPENSES General and administrative expenses for the three and nine months ended March 31, 1997 increased by $2,192,313 and $2,539,893 to $3,026,640 and $5,056,422 representing 145% and 71% of net revenues, respectively, compared to $834,327 and $2,516,529 representing 43% and 64% of net revenues for the three and nine months ended March 31, 1996, respectively. The increase in general and administrative expenses for both the three and nine months ended March 31, 1997 as compared to the same prior year periods is due in part to the Company recording a charge to general and administrative expenses of approximately $1,253,000 related to property and equipment, intangibles assets and other long term assets being impaired as a result of the Company re-focusing its business strategy and operations in the third quarter of fiscal 1997. In addition, during the third quarter of fiscal 1997, the Company recorded a charge of approximately $203,000 for additional bad debt reserves. As a percentage of net revenues, general and administrative expenses remained relatively consistent for the nine months ended March 31, 1997 as compared to the same prior year period primarily due to the increase in net revenues during the nine months ended March 31, 1997 compared to the same prior year period. RESTRUCTURING CHARGE During the second quarter of the fiscal year ended June 30, 1996 ("fiscal 1996"), in anticipation of the Reorganization, the Company adopted a restructuring plan to enhance overall competitiveness, productivity and efficiency through the reduction of overhead costs. The total estimated cost of the restructuring charged to operations during the second quarter of fiscal 1996 was $1,950,000. During the first quarter of fiscal 1997, the Company reversed $263,831 of the remaining reserve for restructuring related to facility and equipment leases for its San Francisco facility, which the Company has subsequently subleased. ACQUIRED IN-PROCESS TECHNOLOGY As a result of the Company's asset acquisitions from Inscape and Trimark Interactive in February 1997, the Company wrote-off $1,153,000 and $475,000 of acquired in-process technology, respectively. These costs are considered non- recurring expenses. OUTLOOK The statements contained in this outlook are "forward-looking statements" for purposes of Section 21E of the Securities Exchange Act of 1934. They are based on the Company's current plans, strategies, hopes and expectations. Actual results may differ materially. The new management team retained during the third quarter of fiscal 1997 has redefined the Company's core product line to focus on traditional pc-games and branded game software products for the personal computer industry. The Company is in the process of divesting or eliminating non-core business units and products such as its Internet site, WILMA, and the interactive music and Internet retail products lines. Management recognizes that it will be entering a highly competitive pc-games market competing against other companies with greater resources. However, the Company views the pc-games market as a proven market, unlike the interactive music and non-game entertainment markets. The Company's revenues and income may fluctuate periodically as a result of the timing and success of new title releases, and external factors such as seasonal buying patterns. The Company is aggressively pursuing new opportunities to distribute titles developed by other entities and is attempting to expand its international business. The Company does not anticipate any significant increases in revenues through the balance of fiscal 1997 as it implements its new business strategy and restructured operations. Gross margin may fluctuate depending upon the component costs and royalty structure of the specific product mix for any given period. If the percentage of revenues represented by OEM/bundling deals and the distribution of products developed by other entities increases, the Company expects gross margin as a percentage of net revenues to decrease. However, in consideration of approximately $1,321,000 of charges recorded against cost of revenues during the third quarter of fiscal 1997 related to the re-focusing of the Company's business strategy, the Company anticipates gross margin to increase in amount and improve as a percentage of net revenues during the balance of fiscal 1997. 15 Research and development costs may fluctuate depending upon the number of projects in process in a particular period and the degree of internally developed versus externally developed or acquired content in the related projects. In the near term, and particularly as a result of the in-process development projects acquired from Inscape and Trimark, the Company expects research and development costs to increase in amount and as a percentage of net revenues over the balance of fiscal 1997. In order to generate increased sales and enter the pc-games market, the Company will need to increase sales and marketing expenditures. A portion of these expenditures will be incurred prior to the generation of offsetting revenues. Accordingly, in the near term, the Company anticipates sales and marketing expenditures to increase both in amount and as a percentage of net revenues. Given the $1,253,000 charge recorded against general and administrative expenses related to the impairment of assets in the third quarter of fiscal 1997, the Company expects a comparative decrease in general and administrative expenses during the balance of fiscal 1997. The Company is in the process of reducing the number of its employees and the number of facilities it operates. As a result, the Company anticipates a noticeable decrease in general and administrative expenses going forward. As a result of the Company entering into a loan agreement with Madeleine L.L.C. ("Madeleine") in January 1997 (see the discussion below under the caption "Liquidity and Capital Resources" for a further discussion of the loan), the Company expects a significant increase in interest expense in the near term. Liquidity and Capital Resources The Company's principal source of liquidity is cash. At March 31, 1997, cash and cash equivalents were $901,336, net working capital deficit was $(4,138,972) and net stockholders' deficiency was $(5,052,050). At June 30, 1996, cash and cash equivalents were $1,288,196, net working capital deficiency was $(19,631) and net stockholders' equity was $2,048,729. Although the Company raised $2,355,948 through private equity placements and obtained net proceeds of $3,460,000 from a loan agreement with Madeleine (described below), as discussed below, the vast majority of these funds were used to satisfy approximately $808,000 of secured debt and interest, payment of $790,000 of specific royalties, purchase of $661,000 of property and equipment, and, in part, the funding of the net loss of $9,586,080 for the nine months ended March 31, 1997. Cash used in operations for the nine months ended March 31, 1997 was $4,929,400. Due to substantial up-front costs associated with the development of Internet web sites (which have since been terminated) and CD-ROM titles, the Company has continually needed to locate outside sources of liquidity. On September 25, 1996, the Company raised $939,950, net of offering expenses, through a private placement of 1,000 shares of Series A Preferred Stock and a warrant to purchase 69,717 shares of the Company's Common Stock to one accredited investor. On November 1, 1996, the Company raised $996,048, net of offering expenses, through a private placement of 1,525 shares of Series A Preferred Stock and warrants to purchase 99,674 shares of the Company's Common Stock to five accredited investors. Additionally, on February 7, 1997, the Company raised $419,950, net of offering expenses, through a private placement of 500 shares of Series A Preferred Stock and a warrant to purchase 51,813 shares of the Company's Common Stock to one accredited investor. The proceeds from the Company's private placements have been used as working capital to fund the development of future products, and other costs associated with the growth of the Company. On January 31, 1997, the Company entered into a loan agreement with Madeleine in the principal amount of $3,740,000 with an initial interest rate equal to the prime rate, as announced by Citibank, N.A., plus 4.25 percent and, commencing on July 31, 1997, increasing to a rate equal to such prime rate plus 6.25 percent (the "Madeleine Loan Agreement"). The Madeleine Loan Agreement is secured by all of the Company's assets and matures on January 30, 1998. The initial loan proceeds, net of $280,000 of fees to Madeleine, were $3,460,000 and were used to satisfy existing trade debt and royalties and to provide working capital to fund development of future projects as well as other costs associated with the growth of the Company. At March 31, 1997, the Company was in default on certain financial covenants and certain other covenants of the Madeleine Loan Agreement. The Madeleine Loan Agreement has numerous negative covenants which restricts the ability of the Company to effect certain transactions without Madeleine's written consent. Among those negative covenants is a prohibition on declaring or paying dividends. Among the consequences of such defaults, Madeleine may foreclose on all of the assets of the Company. The Company is in negotiations to have the defaults waived and to increase the principal amount of the loan by $1,500,000. Unless a waiver is obtained, Madeleine retains the right to foreclose on the Company's assets. On June 28, 1996, the Company entered into a loan agreement with Silicon Valley Bank in the principal amount of $750,000 bearing interest at such bank's prime rate plus three percent. As of December 31, 1996, the Company had repaid $350,000 16 of the loan and was in default on the balance. Since that date, the Company has repaid the outstanding principal balance of and all accrued and unpaid interest under such loan using proceeds from the private placements and described above. The Company's long-term liquidity is principally contingent on its ability to raise funds through private and public debt and equity offerings. Additionally, the Company must improve the collection period and related aging of its accounts receivables. The Company's anticipated liquidity needs are based upon a number of factors, including the size of the business and related working capital needs, the extent of development costs and funding requirements, and the level of corporate operating costs. In order to continue operations through June 30, 1997, the Company must collect a significant amount of its accounts receivables and will require additional financing which the Company is seeking through an amendment to the Madeleine Loan Agreement and/or an equity financing. The Company's ability to continue as a going concern is dependent upon it successfully raising capital through debt and/or equity financing and, ultimately, upon it achieving profitable operations. No assurance can be made that the Company will be able to meet any or all of the above-referenced goals stated in the two immediately preceeding sentences. 17 PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS. None. ITEM 2. CHANGES IN SECURITIES. On February 7, 1997, the Company sold 500 shares of Series A Convertible Preferred Stock ("Series A Preferred") for $1,000 per share to one accredited investor in a private placement pursuant to Sections 4(2) and 4(6) of the Securities Act of 1933, as amended (the "Securities Act") and Regulation D promulgated thereunder. In addition, the Company granted the investor a warrant to purchase up to 51,813 shares of common stock for $2.50 per share. The holder of Series A Preferred is entitled to receive dividends of $80 per share per annum, fully cumulative from the date of issuance. The aggregate offering price was $500,000, the aggregate underwriting discounts and commissions were $60,050 and the net cash proceeds were $419,950. Tanner Unman Securities acted as placement agent and was paid a commission of 10% of the gross proceeds, and was reimbursed for certain expenses. The Series A Preferred is convertible into shares of Common Stock, at the option of the holder based on a per share conversion price equal to the lower of (a) $3.375 (subject to certain adjustments) or (b) 80% of the average closing bid price of the Company's common stock on the five days immediately prior to the conversion date. On February 24, 1997, the Company issued 3,025 shares of Series B Convertible Preferred Stock with a stated value of $1,000 per share (the "Series B Preferred") and warrants (the "Series B Warrants") to purchase 221,204 shares of Common Stock at an exercise price of $5.00 per share to six accredited investors in exchange for the 3,025 shares of the Series A Preferred and Common Stock warrants issued to the Series A Preferred investors. Such exchange was effected pursuant to Exchange Agreements entered into between the Company and each of the investors. The Series B Preferred and Series B Warrants were not registered under the Securities Act in reliance upon the exemption from registration provided for in Regulation S promulgated under the Securities Act. The Series B Preferred is convertible into the Company's Common Stock, at the option of the holders, based on a per share conversion price equal to the lower of (a) $3.375 (subject to certain adjustments) or (b) 80% of the average closing bid price of the Company's Common Stock on the five days immediately prior to the conversion date. On March 5, 1997, the Company issued 1,185,185 shares of Series C Convertible Preferred Stock ("Series C Preferred") to two accredited investors, in connection with two separate asset purchase agreements, pursuant to Sections 4(2) and 4(6) of the Securities Act and Regulation D. In exchange for the issuance of the shares of the Series C Preferred, the Company acquired assets consisting of rights in existing pc-game products, pc-game products in development, furniture and equipment and leases. Although the total stated liquidation value of the Series C Preferred is $4,000,000, the Company determined the fair market value to be $2,741,333 based upon the current fair market value of the Company's Common Stock, discounted to take into account the restricted nature of the securities. The shares of Series C Preferred are convertible into shares of Common Stock, at the option of the holders, at a conversion price of $3.375 per share (subject to certain adjustments) and are subject to mandatory redemption by the Company on February 28, 2000 at $3.375 per share (subject to certain adjustments). The holders of the Series C Preferred are entitled to receive dividends of $0.10125 per share per annum which are fully cumulative from date of issuance. ITEM 3. DEFAULTS UPON SENIOR SECURITIES. On January 31, 1997, the Company entered into a loan agreement with Madeleine L.L.C. ("Madeleine") in the principal amount of $3,740,000 with an initial interest rate equal to the prime rate, as announced by Citibank, N.A., plus 4.25 percent and, commencing on July 31, 1997, increasing to a rate equal to such prime rate plus 6.25 percent (the "Madeleine Loan Agreement"). The Madeleine Loan Agreement is secured by all of the Company's assets and matures on January 30, 1998. In connection with the Madeleine Loan Agreement, the Company issued a warrant to Madeline to purchase 300,000 shares of the Company's Common Stock at an exercise price equal to the lower of $2.68 per share or the per share fair market value of the Common Stock of the Company at the time of exercise of the warrant. The warrant expires on January 31, 2000. The initial loan proceeds, net of $280,000 of fees to Madeleine, were $3,460,000. At March 31, 1997 the Company was in default on certain financial covenants and certain other covenants of the loan agreement. Among the consequences of such defaults, 18 and Madeleine may foreclose on all of the assets of the Company. The Company is in negotiations to have the defaults waived and to increase the principal amount of the loan by $1,500,000. Unless a waiver is obtained, Madeleine retains the right to foreclose on the Company's assets. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS. None. ITEM 5. OTHER INFORMATION. On May 2, 1997, the Company received notice from The Nasdaq Stock Market that it was not in compliance with the requirements for listing on the Nasdaq SmallCap Market. Specifically, the Company's closing bid price for the appropriate measurement period was below $1.00 and the Company did not meet the alternative listing requirement. To be eligible for continued listing, all securities, except warrants and rights, must maintain a minimum bid price of $1.00 or, as an alternative if the bid price is less than $1.00, maintain capital and surplus of $2,000,000 and a market value of the public float of $1,000,000. The Company was granted ninety days to regain compliance with the minimum bid or the alternative requirement. The Company may be delisted during the ninety day period for failure to maintain compliance with any other listing requirement which occurs during the period. In addition, Nasdaq stated in its letter that the alternative requirement referenced above may be discontinued. As of May 16, 1997, the Company believes that it is in compliance with the other listing requirements. The Company expects to regain compliance prior to expiration of the ninety days however, no assurances can be made that the Company will regain compliance with such Nasdaq requirements or that the Nasdaq Stock Market will not take steps to delist the Company's Common Stock. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (a) Exhibits. The exhibits listed below are hereby filed with the U.S. Securities and Exchange Commission ("the "Commission") as part of this quarterly report on Form 10-Q.
3.1 Certificate of Designations of Series B Convertible Preferred Stock of the Registrant, filed as Exhibit 3.1 to the Registrant's Current Report on Form 8-K dated February 18, 1997, and filed with the Commission on March 5, 1997 (File No. 0-28676) ("March 5th Current Report") which is hereby incorporated herein by reference. 3.2 Certificate of Designations of Series C Convertible Preferred Stock of the Registrant, filed as Exhibit 10.34 to the Registrant's Current Report on Form 8-K dated March 5, 1997 and filed with the Commission on March 20, 1997 (File No. 0-28676) ("March 20th Current Report") which is hereby incorporated herein by reference. 10.1 Loan and Security Agreement dated January 31, 1997 between the Registrant and Madeleine L.L.C. 10.2 Form of Common Stock Purchase Warrant for shares of the Registrant's Company's Common Stock between the Registrant and Madeleine L.L.C. 10.3 Amendment No.1 to Loan and Security Agreement between the Registrant and Madeleine L.L.C. dated March 5, 1997. 10.4 Asset Purchase Agreement dated February 24, 1997 by and among the Registrant, Inscape and Warner Music Group Inc., filed as Exhibit 10.32 to the Registrant's March 20th Current Report,
19
which is hereby incorporated herein by reference. 10.5 Asset Purchase Agreement dated February 26, 1997 by and among the Registrant, Trimark Holdings, Inc. and its subsidiary Trimark Interactive, filed as Exhibit 10.33 to the Registrant's March 20th Current Report which is hereby incorporated herein by reference. 10.6 Employment letter between the Registrant and Robert D. Shishino dated February 26, 1997 27 Financial Data Schedule
(b) Reports on Form 8-K. On March 5, 1997, the Company filed a current report on Form 8-K dated March 5, 1997, under Item 9 - Sales of Equity Securities Pursuant to Regulation S, reporting the issuance of shares of Series B Convertible Preferred Stock and related warrants to purchase shares of Common Stock in exchange for shares of Series A Convertible Preferred Stock and related warrants to purchase common stock in a transaction effected in reliance on the exemption set forth in Regulation S promulgated under the Securities Act of 1933, as amended. On March 20, 1997, the Company filed a current report on Form 8-K dated March 20, 1997, under Item 2 - Acquisition or Disposition of Assets, describing two separate asset acquisitions of pc-game products, and "in development" pc-game products and other assets and certain liabilities, one from Inscape, a Delaware general partnership, and the other from Trimark Interactive, Inc. 20 SIGNATURES Pursuant to the requirements of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. GRAPHIX ZONE, INC. Date: May 20, 1997 By: /s/ ROBERT D. SHISHINO ------------------------------------- Robert D. Shishino, Vice President of Finance and Chief Financial Officer (Principal Financial and Accounting Officer) 21
Exhibit Index ------------- Item No. Description - -------- ----------- 3.1 Certificate of Designations of Series B Convertible Preferred Stock of the Registrant, filed as Exhibit 3.1 to the Registrant's Current Report on Form 8-K dated February 18, 1997, and filed with the Commission on March 5, 1997 (File No. 0-28676) ("March 5th Current Report") which is hereby incorporated herein by reference. 3.2 Certificate of Designations of Series C Convertible Preferred Stock of the Registrant, filed as Exhibit 10.34 to the Registrant's Current Report on Form 8-K dated March 5, 1997 and filed with the Commission on March 20, 1997 (File No. 0-28676) ("March 20th Current Report") which is hereby incorporated herein by reference. 10.1 Loan and Security Agreement dated January 31, 1997 between the Registrant and Madeleine L.L.C. 10.2 Form of Common Stock Purchase Warrant for shares of the Registrant's Company's Common Stock between the Registrant and Madeleine L.L.C. 10.3 Amendment No.1 to Loan and Security Agreement between the Registrant and Madeleine L.L.C. dated March 5, 1997. 10.4 Asset Purchase Agreement dated February 24, 1997 by and among the Registrant, Inscape and Warner Music Group Inc., filed as Exhibit 10.32 to the Registrant's March 20th Current Report, which is hereby incorporated herein by reference. 10.5 Asset Purchase Agreement dated February 26, 1997 by and among the Registrant, Trimark Holdings, Inc. and its subsidiary Trimark Interactive, filed as Exhibit 10.33 to the Registrant's March 20th Current Report which is hereby incorporated herein by reference. 10.6 Employment letter between the Registrant and Robert D. Shishino dated February 26, 1997 27 Financial Data Schedule
22 EX-10.1 2 LOAN AND SECURITY AGMT. DATED 01/31/97 EXHIBIT 10.1 ================================================================================ LOAN AND SECURITY AGREEMENT by and between GRAPHIX ZONE, INC. and MADELEINE L.L.C. Dated as of January 31, 1997 ================================================================================ TABLE OF CONTENTS -----------------
Page(s) ------- 1. DEFINITIONS AND CONSTRUCTION....................................... 1 1.1 Definitions.................................................. 1 1.2 Accounting Terms............................................. 12 1.3 Code......................................................... 13 1.4 Construction................................................. 13 1.5 Schedules and Exhibits....................................... 13 2. LOAN AND TERMS OF PAYMENT.......................................... 13 2.1 Term Loan.................................................... 13 2.2 Mandatory Prepayments........................................ 13 2.3 Interest: Rates, Payments, and Calculations................. 14 2.4 Collections.................................................. 15 2.5 Crediting Payments; Application of Collections............... 15 2.6 Designated Account........................................... 16 2.7 Maintenance of Loan Account; Statements of Obligations....... 16 2.8 Fees......................................................... 16 3. CONDITIONS; TERM OF AGREEMENT...................................... 16 3.1 Conditions Precedent to the Term Loan........................ 17 3.2 Term......................................................... 19 3.3 Effect of Termination........................................ 19 3.4 Early Termination by Borrower................................ 19 4. CREATION OF SECURITY INTEREST...................................... 19 4.1 Grant of Security Interest................................... 19 4.2 Negotiable Collateral........................................ 19 4.3 Collection of Accounts, General Intangibles, and Negotiable Collateral................................................... 19 4.4 Delivery of Additional Documentation Required................ 20 4.5 Power of Attorney............................................ 20 4.6 Right to Inspect............................................. 20 5. REPRESENTATIONS AND WARRANTIES..................................... 21 5.1 No Encumbrances.............................................. 21 5.2 Accounts..................................................... 21 5.3 Inventory.................................................... 21 5.4 Equipment.................................................... 21 5.5 Location of Inventory and Equipment.......................... 21 5.6 Inventory Records............................................ 21 5.7 Location of Chief Executive Office; FEIN..................... 21 5.8 Due Organization and Qualification; Subsidiaries............. 21
-i- 5.9 Due Authorization; No Conflict............................... 22 5.10 Litigation................................................... 24 5.11 No Material Adverse Change................................... 24 5.12 Solvency..................................................... 24 5.13 Employee Benefits............................................ 24 5.14 Environmental Condition...................................... 25 5.15 Intellectual Property........................................ 25 6. AFFIRMATIVE COVENANTS.............................................. 25 6.1 Accounting System............................................ 25 6.2 Collateral Reporting......................................... 25 6.3 Financial Statements, Reports, Certificates.................. 26 6.4 Tax Returns.................................................. 27 6.5 Guarantor Reports............................................ 27 6.6 Returns...................................................... 27 6.7 Title to Equipment........................................... 27 6.8 Maintenance of Equipment..................................... 27 6.9 Taxes........................................................ 27 6.10 Insurance.................................................... 28 6.11 No Setoffs or Counterclaims.................................. 29 6.12 Location of Inventory and Equipment.......................... 29 6.13 Compliance with Laws......................................... 29 6.14 Employee Benefits............................................ 29 6.15 Leases....................................................... 30 7. NEGATIVE COVENANTS................................................. 30 7.1 Indebtedness................................................. 30 7.2 Liens........................................................ 31 7.3 Restrictions on Fundamental Changes.......................... 31 7.4 Disposal of Assets........................................... 31 7.5 Change Name.................................................. 31 7.6 Guarantee.................................................... 31 7.7 Nature of Business........................................... 31 7.8 Prepayments and Amendments................................... 31 7.9 Change of Control............................................ 32 7.10 Consignments................................................. 32 7.11 Distributions................................................ 32 7.12 Accounting Methods........................................... 32 7.13 Investments.................................................. 32 7.14 Transactions with Affiliates................................. 32 7.15 Suspension................................................... 32 7.16 Compensation................................................. 32 7.17 Use of Proceeds.............................................. 33 7.18 Change in Location of Chief Executive Office; Inventory and Equipment with Bailees....................................... 33 7.19 No Prohibited Transactions Under ERISA....................... 33
-ii- 7.20 Financial Covenants.......................................... 34 7.21 Capital Expenditures......................................... 34 8. EVENTS OF DEFAULT.................................................. 34 9. LENDER'S RIGHTS AND REMEDIES....................................... 36 9.1 Rights and Remedies.......................................... 36 9.2 Remedies Cumulative.......................................... 38 10. TAXES AND EXPENSES........................................... 38 11. WAIVERS; INDEMNIFICATION..................................... 39 11.1 Demand; Protest; etc......................................... 39 11.2 Lender's Liability for Collateral............................ 39 11.3 Indemnification.............................................. 39 12. NOTICES...................................................... 39 13. CHOICE OF LAW AND VENUE; JURY TRIAL WAIVER................... 40 14. DESTRUCTION OF BORROWER'S DOCUMENTS.......................... 41 15. GENERAL PROVISIONS........................................... 41 15.1 Effectiveness................................................ 41 15.2 Successors and Assigns....................................... 41 15.3 Section Headings............................................. 42 15.4 Interpretation............................................... 42 15.5 Severability of Provisions................................... 42 15.6 Amendments in Writing........................................ 42 15.7 Counterparts; Telefacsimile Execution........................ 42 15.8 Revival and Reinstatement of Obligations..................... 42 15.9 Integration.................................................. 42
SCHEDULES AND EXHIBITS ---------------------- Schedule P-1 Permitted Liens Schedule 5.8 Borrower's Subsidiaries/Capitalization Schedule 5.10 Litigation Schedule 5.13 ERISA Benefit Plans Schedule 6.12 Location of Inventory and Equipment Exhibit C-1 Form of Compliance Certificate -iii- LOAN AND SECURITY AGREEMENT --------------------------- THIS LOAN AND SECURITY AGREEMENT (this "Agreement"), is entered into as of January 31, 1997, between MADELEINE L.L.C., a New York limited liability company ("Lender"), with a place of business located at 950 Third Avenue, 20th Floor, New York, New York 10022 and GRAPHIX ZONE, INC., a Delaware corporation ("Borrower"), with its chief executive office located at 42 Corporate Park, Suite 200, Irvine, California 92606. The parties agree as follows: 1. DEFINITIONS AND CONSTRUCTION. 1.1 Definitions. As used in this Agreement, the following terms shall have the following definitions: "Account Debtor" means any Person who is or who may become obligated -------------- under, with respect to, or on account of, an Account. "Accounts" means all currently existing and hereafter arising -------- accounts, contract rights, and all other forms of obligations owing to Borrower arising out of the sale or lease of goods or the rendition of services by Borrower, irrespective of whether earned by performance, and any and all credit insurance, guaranties, or security therefor. "Additive Amount" has the meaning set forth in Section 7.16. --------------- ------------ "Affiliate" means, as applied to any Person, any other Person who --------- directly or indirectly controls, is controlled by, is under common control with or is a director or officer of such Person. For purposes of this definition, "control" means the possession, directly or indirectly, of the power to vote 5% or more of the securities having ordinary voting power for the election of directors or the direct or indirect power to direct the management and policies of a Person. "Agreement" has the meaning set forth in the preamble hereto. --------- "Applicable Rate" means (a) for the period commencing on the Closing --------------- Date and continuing up to and including July 30, 1997, the Reference Rate, and (b) for the period commencing on July 31, 1997 and continuing up to and including the Maturity Date, a rate equal to the Reference Rate plus 2.0 ---- percentage points. "Asset Disposition" means any sale, exchange, or other disposition, ----------------- directly or indirectly (including any loss, destruction, or condemnation), of any of the properties or assets of one or more of the Obligors. "Authorized Person" means any officer or other employee of Borrower. ----------------- "Bankruptcy Code" means the United States Bankruptcy Code (11 U.S.C. --------------- (S) 101 et seq.), as amended, and any successor statute. ------ "Benefit Plan" means a "defined benefit plan" (as defined in Section ------------ 3(35) of ERISA) for which Borrower, any Subsidiary of Borrower, or any ERISA Affiliate has been an "employer" (as defined in Section 3(5) of ERISA) within the past six years. "Borrower" has the meaning set forth in the preamble to this -------- Agreement. "Borrower's Books" means all of Borrower's books and records ---------------- including: ledgers; records indicating, summarizing, or evidencing Borrower's properties or assets (including the Collateral) or liabilities; all information relating to Borrower's business operations or financial condition; and all computer programs, disk or tape files, printouts, runs, or other computer prepared information. "Business Day" means any day that is not a Saturday, Sunday, or other ------------ day on which national banks are authorized or required to close. "Change of Control" shall be deemed to have occurred at such time as a ----------------- "person" or "group" (within the meaning of Sections 13(d) and 14(d)(2) of the Securities Exchange Act of 1934) becomes the "beneficial owner" (as defined in Rule 13d-3 under the Securities Exchange Act of 1934), directly or indirectly, of more than 20% of the total voting power of all classes of Stock then outstanding of Borrower entitled to vote in the election of directors. "Closing Date" means the date of the funding of the Term Loan. ------------ "Closing Fee" has the meaning set forth in Section 2.8(a). ----------- -------------- "Code" means the New York Uniform Commercial Code. ---- "Collateral" means each of the following: ---------- (a) the Accounts, (b) Borrower's Books, (c) the Equipment, (d) the General Intangibles, (e) the Inventory, (f) the Negotiable Collateral, -2- (g) any money, or other assets of Borrower that now or hereafter come into the possession, custody, or control of Lender, and (h) the proceeds and products, whether tangible or intangible, of any of the foregoing, including proceeds of insurance covering any or all of the Collateral, and any and all Accounts, Borrower's Books, Equipment, General Intangibles, Inventory, Negotiable Collateral, real property, money, deposit accounts, or other tangible or intangible property resulting from the sale, exchange, collection, or other disposition of any of the foregoing, or any portion thereof or interest therein, and the proceeds thereof. "Collateral Access Agreement" means a landlord waiver, mortgagee --------------------------- waiver, bailee letter, or acknowledgement agreement of any warehouseman, processor, lessor, consignee, or other Person in possession of, having a Lien upon, or having rights or interests in the Equipment or Inventory, in each case, in form and substance satisfactory to Lender. "Collections" means all cash, checks, notes, instruments, and other ----------- items of payment (including, insurance proceeds, proceeds of cash sales, rental proceeds, and tax refunds). "Compliance Certificate" means a certificate substantially in the ---------------------- form of Exhibit C-1 and delivered by the chief accounting officer of Borrower to ----------- Lender. "Concentration Account" means account number 04727663 of Borrower --------------------- maintained with the Concentration Account Bank. "Concentration Account Agreement" means that certain Concentration ------------------------------- Account Agreement, in form and substance satisfactory to Lender, among Borrower, Lender, and the Concentration Account Bank. "Concentration Account Bank" means (a) National Bank of Southern -------------------------- California, whose office is located at 4100 Newport Place Drive, Newport Beach, California 92660, and whose ABA number is 1222/39801, or (b) any other domestic commercial bank that is reasonably acceptable to Lender and is designated in writing from time to time by Borrower to Lender upon at least 30 days prior written notice. "Consolidated Current Assets" means, as of any date of determination, --------------------------- the aggregate amount of all current assets of Borrower that would, in accordance with GAAP, be classified on a balance sheet as current assets. "Consolidated Current Liabilities" means, as of any date of -------------------------------- determination, the aggregate amount of all current liabilities of Borrower that would, in accordance with GAAP, be classified on a balance sheet as current liabilities. For purposes of this definition, all Obligations outstanding under this Agreement shall be deemed to be current liabilities without regard to whether they would be deemed to be so under GAAP. -3- "Copyright Security Agreement" means a Copyright Security Agreement ---------------------------- executed and delivered by GZM in form and substance satisfactory to Lender. "deems itself insecure" means that the Person deems itself insecure in --------------------- accordance with the provisions of Section 1-208 of the Code. "Default" means an event, condition, or default that, with the giving ------- of notice, the passage of time, or both, would be an Event of Default. "Designated Account" means account number 04727663 of Borrower ------------------ maintained with Borrower's Designated Account Bank, or such other deposit account of Borrower (located within the United States) which has been designated, in writing and from time to time, by Borrower to Lender. "Designated Account Bank" means National Bank of Southern California, ----------------------- whose office is located at 4100 Newport Place Drive, Newport Beach, California 92660, and whose ABA number is 1222/39801. "Disbursement Letter" means an instructional letter executed and ------------------- delivered by Borrower to Lender regarding the extensions of credit to be made on the Closing Date, the form and substance of which shall be satisfactory to Lender. "Dollars or $" means United States dollars. ------------ "Equipment" means all of Borrower's present and hereafter acquired --------- machinery, machine tools, motors, equipment, furniture, furnishings, fixtures, vehicles (including motor vehicles and trailers), tools, parts, goods (other than consumer goods, farm products, or Inventory), wherever located, including, (a) any interest of Borrower in any of the foregoing, and (b) all attachments, accessories, accessions, replacements, substitutions, additions, and improvements to any of the foregoing. "ERISA" means the Employee Retirement Income Security Act of 1974, 29 ----- U.S.C. (S)(S) 1000 et seq., amendments thereto, successor statutes, and regulations or guidance promulgated thereunder. "ERISA Affiliate" means (a) any corporation subject to ERISA whose --------------- employees are treated as employed by the same employer as the employees of Borrower under IRC Section 414(b), (b) any trade or business subject to ERISA whose employees are treated as employed by the same employer as the employees of Borrower under IRC Section 414(c), (c) solely for purposes of Section 302 of ERISA and Section 412 of the IRC, any organization subject to ERISA that is a member of an affiliated service group of which Borrower is a member under IRC Section 414(m), or (d) solely for purposes of Section 302 of ERISA and Section 412 of the IRC, any party subject to ERISA that is a party to an arrangement with Borrower and whose employees are aggregated with the employees of Borrower under IRC Section 414(o). -4- "ERISA Event" means (a) a Reportable Event with respect to any Benefit ----------- Plan or Multiemployer Plan, (b) the withdrawal of Borrower, any of its Subsidiaries or ERISA Affiliates from a Benefit Plan during a plan year in which it was a "substantial employer" (as defined in Section 4001(a)(2) of ERISA), (c) the providing of notice of intent to terminate a Benefit Plan in a distress termination (as described in Section 4041(c) of ERISA), (d) the institution by the PBGC of proceedings to terminate a Benefit Plan or Multiemployer Plan, (e) any event or condition (i) that provides a basis under Section 4042(a)(1), (2), or (3) of ERISA for the termination of, or the appointment of a trustee to administer, any Benefit Plan or Multiemployer Plan, or (ii) that may result in termination of a Multiemployer Plan pursuant to Section 4041A of ERISA, (f) the partial or complete withdrawal within the meaning of Sections 4203 and 4205 of ERISA, of Borrower, any of its Subsidiaries or ERISA Affiliates from a Multiemployer Plan, or (g) providing any security to any Plan under Section 401(a)(29) of the IRC by Borrower or its Subsidiaries or any of their ERISA Affiliates. "Event of Default" has the meaning set forth in Section 8. ---------------- --------- "Existing Lender" means Silicon Valley Bank. --------------- "FEIN" means Federal Employer Identification Number. ---- "GAAP" means generally accepted accounting principles as in effect ---- from time to time in the United States, consistently applied. "General Intangibles" means all of Borrower's present and future ------------------- general intangibles and other personal property (including contract rights, rights arising under common law, statutes, or regulations, choses or things in action, goodwill, patents, trade names, trademarks, servicemarks, copyrights, blueprints, drawings, purchase orders, customer lists, monies due or recoverable from pension funds, route lists, rights to payment and other rights under any royalty or licensing agreements, infringement claims, computer programs, information contained on computer disks or tapes, literature, reports, catalogs, deposit accounts, insurance premium rebates, tax refunds, and tax refund claims), other than goods, Accounts, and Negotiable Collateral. "Governing Documents" means the certificate or articles of ------------------- incorporation, by-laws, or other organizational or governing documents of any Person. "Guarantor Collateral" means the properties and assets of the -------------------- Guarantors that are hypothecated by them in favor of Lender pursuant to the Loan Documents. "Guarantors" means GZM and StarPress. ---------- "Guarantor Security Agreement" means that certain Security Agreement ---------------------------- to be executed and delivered by each of the Guarantors in form and substance satisfactory to Lender. -5- "Guaranty" means that certain General Continuing Guaranty to be -------- executed by each of the Guarantors in form and substance satisfactory to Lender. "GZM" means GZ Multimedia, Inc., a California corporation. --- "Hazardous Materials" means (a) substances that are defined or listed ------------------- in, or otherwise classified pursuant to, any applicable laws or regulations as "hazardous substances," "hazardous materials," "hazardous wastes," "toxic substances," or any other formulation intended to define, list, or classify substances by reason of deleterious properties such as ignitability, corrosivity, reactivity, carcinogenicity, reproductive toxicity, or "EP toxicity," (b) oil, petroleum, or petroleum derived substances, natural gas, natural gas liquids, synthetic gas, drilling fluids, produced waters, and other wastes associated with the exploration, development, or production of crude oil, natural gas, or geothermal resources, (c) any flammable substances or explosives or any radioactive materials, and (d) asbestos in any form or electrical equipment that contains any oil or dielectric fluid containing levels of polychlorinated biphenyls in excess of 50 parts per million. "Hire Year" has the meaning set forth in Section 7.16. --------- ------------ "Inactive Subsidiaries" means Great Bear Technology, Inc., a --------------------- California corporation, HealthSoft, Inc., a California corporation, MicroBase, Inc., an Arizona corporation, StarPress Multimedia, Inc., a Delaware corporation, and iTravel International, Ltd., a Washington corporation. "Indebtedness" means, with respect to any Person: (a) all obligations ------------ of such Person for borrowed money, (b) all monetary obligations of such Person evidenced by bonds, debentures, notes, or other similar instruments and all reimbursement or other monetary obligations of such Person in respect of letters of credit, bankers acceptances, interest rate swaps, or other financial products, (c) all monetary obligations of such Person under capital leases, (d) all obligations of others secured by a Lien on any property or asset of such Person, irrespective of whether such obligation is assumed, and (e) any obligation of such Person guaranteeing or intended to guarantee (whether guaranteed, endorsed, co-made, discounted, or sold with recourse to such Person) any indebtedness, lease, dividend, letter of credit, or other obligation of any other Person. "Insolvency Proceeding" means any proceeding commenced by or against --------------------- any Person under any provision of the Bankruptcy Code or under any other bankruptcy or insolvency law, assignments for the benefit of creditors, formal or informal moratoria, compositions, extensions generally with creditors, or proceedings seeking reorganization, arrangement, or other similar relief. "Intangible Assets" means, with respect to any Person, that portion of ----------------- the book value of all of such Person's assets that would be treated as intangibles under GAAP. "Inventory" means all present and future inventory in which Borrower --------- has any interest, including goods held for sale or lease or to be furnished under a contract of -6- service and all of Borrower's present and future raw materials, work in process, finished goods, and packing and shipping materials, wherever located. "IRC" means the Internal Revenue Code of 1986, as amended, and --- the regulations thereunder. "Lender" has the meaning set forth in the preamble to this ------ Agreement. "Lender Account" has the meaning set forth in Section 2.4. -------------- ----------- "Lender Expenses" means all: costs or expenses (including taxes, and --------------- insurance premiums) required to be paid by Borrower or the Guarantors under any of the Loan Documents that are paid or incurred by Lender; fees or charges paid or incurred by Lender in connection with Lender's transactions with Borrower or the Guarantors, including, fees or charges for photocopying, notarization, couriers and messengers, telecommunication, public record searches (including tax lien, litigation, and UCC searches and including searches with the patent and trademark office, the copyright office, or the department of motor vehicles), filing, recording, publication, appraisal (including periodic Collateral or Guarantor Collateral appraisals), real estate surveys, real estate title policies and endorsements, and environmental audits; costs and expenses incurred by Lender in the disbursement of funds to Borrower (by wire transfer or otherwise); charges paid or incurred by Lender resulting from the dishonor of checks; costs and expenses paid or incurred by Lender to correct any default or enforce any provision of the Loan Documents, or in gaining possession of, maintaining, handling, preserving, storing, shipping, selling, preparing for sale, or advertising to sell the Collateral or the Guarantor Collateral, or any portion thereof, irrespective of whether a sale is consummated; costs and expenses paid or incurred by Lender in examining Borrower's Books or the books and records of the Guarantors; costs and expenses of third party claims or any other suit paid or incurred by Lender in enforcing or defending the Loan Documents or in connection with the transactions contemplated by the Loan Documents or Lender's relationship with Borrower or any Guarantor; and Lender's reasonable attorneys fees and expenses incurred in advising, structuring, drafting, reviewing, administering, amending, terminating, enforcing (including attorneys fees and expenses incurred in connection with a "workout," a "restructuring," or an Insolvency Proceeding concerning Borrower or any Guarantor), defending, or concerning the Loan Documents, irrespective of whether suit is brought. "Lien" means any interest in property securing an obligation owed to, ---- or a claim by, any Person other than the owner of the property, whether such interest shall be based on the common law, statute, or contract, whether such interest shall be recorded or perfected, and whether such interest shall be contingent upon the occurrence of some future event or events or the existence of some future circumstance or circumstances, including the lien or security interest arising from a mortgage, deed of trust, encumbrance, pledge, hypothecation, assignment, deposit arrangement, security agreement, adverse claim or charge, conditional sale or trust receipt, or from a lease, consignment, or bailment for security purposes and also including reservations, exceptions, encroachments, easements, rights-of-way, covenants, conditions, restrictions, leases, and other title exceptions and encumbrances affecting real property. -7- "Loan Account" has the meaning set forth in Section 2.7. ------------ ----------- "Loan Documents" means this Agreement, the Guaranty, the Guarantor -------------- Security Agreement, the Disbursement Letter, the Concentration Account Agreement, the Pay-Off Letter, the Warrants, the Copyright Security Agreement, the Trademark Security Agreements, the Subordination Agreement, any note or notes executed by Borrower and payable to Lender, and any other agreement entered into, now or in the future, in connection with this Agreement. "Material Adverse Change" means (a) a material adverse change in the ----------------------- business, prospects, operations, results of operations, assets, liabilities or condition (financial or otherwise) of Borrower and the Guarantors, taken as a whole, (b) the material impairment of Borrower's and the Guarantors' ability to perform their respective obligations under the Loan Documents, taken as a whole, or of Lender to enforce the Obligations or realize upon the Collateral and the Guarantor Collateral, taken as a whole, (c) a material adverse effect on the value of the Collateral or the Guarantor Collateral or the amount that Lender would be likely to receive (after giving consideration to delays in payment and costs of enforcement) in the liquidation of such Collateral and the Guarantor Collateral, taken as a whole, or (d) a material impairment of the priority of Lender's Liens with respect to the Collateral and the Guarantor Collateral, taken as a whole. "Maturity Date" has the meaning set forth in Section 3.2. ------------- ----------- "Multiemployer Plan" means a "multiemployer plan" (as defined in ------------------ Section 4001(a)(3) of ERISA) to which Borrower, any of its Subsidiaries, or any ERISA Affiliate has contributed, or was obligated to contribute, within the past six years. "Negotiable Collateral" means all of Borrower's present and future --------------------- letters of credit, notes, drafts, instruments, investment property, security entitlements, securities (including the shares of Stock of Subsidiaries of Borrower), documents, personal property leases (wherein Borrower is the lessor), chattel paper, and Borrower's Books relating to any of the foregoing. "Net Proceeds" means (a) the gross cash proceeds (including insurance ------------ proceeds, condemnation awards, and payments received from time to time in respect of installment obligations and other non-cash proceeds, if applicable) received by or on behalf of Borrower or any Guarantor in respect of an Asset Disposition, less (b) the sum of (i) the amount, if any, of all taxes (other ---- than income taxes) payable by Borrower or such Guarantor in connection with such Asset Disposition plus Borrower's or such Guarantor's good faith best estimate ---- of the amount of all income taxes payable in connection with such Asset Disposition, (ii) the amount of any reasonable reserve established in accordance with GAAP against any liabilities associated with the properties or assets that were the subject of such Asset Disposition, provided that the amount of any -------- subsequent reduction of such reserve (other than in connection with a payment in respect of any such liability) shall be deemed to be "Net Proceeds" of an Asset Disposition occurring on the date of such reduction, (iii) the amount applied to repay any Indebtedness secured by a Lien upon the properties or assets that were the -8- subject of the Asset Disposition, to the extent such Indebtedness is required by its terms to be repaid as a result of such Asset Disposition, and (iv) reasonable and customary fees, commissions, and expenses and other costs paid by Borrower or such Guarantor in connection with such Asset Disposition (other than those payable to any Affiliate of Borrower), in each case only to the extent not already deducted in arriving at the amount referred to in clause (a). "Obligations" means all loans, advances, debts, principal, interest ----------- (including any interest that, but for the provisions of the Bankruptcy Code, would have accrued), premiums, liabilities (including all amounts charged to Borrower's Loan Account pursuant hereto), obligations, fees, charges, costs, or Lender Expenses (including any fees or expenses that, but for the provisions of the Bankruptcy Code, would have accrued), lease payments, guaranties, covenants, and duties owing by Borrower to Lender of any kind and description (whether pursuant to or evidenced by the Loan Documents (including the Warrants) or pursuant to any other agreement between Lender and Borrower, and irrespective of whether for the payment of money), whether direct or indirect, absolute or contingent, due or to become due, now existing or hereafter arising, and including any debt, liability, or obligation owing from Borrower to others that Lender may have obtained by assignment or otherwise, and further including all interest not paid when due and all Lender Expenses that Borrower is required to pay or reimburse by the Loan Documents, by law, or otherwise. "Obligors" means Borrower or any Guarantor. -------- "Ordinary Course Dispositions" means Asset Dispositions of (a) ---------------------------- Inventory in the ordinary course of business, (b) Equipment that is substantially worn, damaged, or obsolete in the ordinary course of business, (c) Equipment or Inventory between Borrower and the Guarantors for reasonable and legitimate business purposes, and (d) cash and cash equilavents consistent with the provisions hereof. "Participant" means any Person to which Lender has sold a ----------- participation interest in its rights under the Loan Documents. "Pay-Off Letter" means a letter, in form and substance reasonably -------------- satisfactory to Lender, from Existing Lender respecting the amount necessary to repay in full all of the obligations of Borrower owing to Existing Lender and obtain a termination or release of all of the Liens existing in favor of Existing Lender in and to the properties or assets of Borrower and the Guarantors. "PBGC" means the Pension Benefit Guaranty Corporation as defined ---- in Title IV of ERISA, or any successor thereto. "Permitted Disposition" means, subject to the concurrent satisfaction --------------------- of the Release Conditions, Ordinary Course Dispositions. "Permitted Liens" means (a) Liens granted to Lender, (b) Liens for --------------- unpaid taxes that either (i) are not yet due and payable or (ii) are the subject of Permitted Protests, (c) Liens set forth on Schedule P-1, (d) the interests of ------------ lessors under operating leases and purchase -9- money Liens of lessors under capital leases to the extent that the acquisition or lease of the underlying asset is permitted under Section 7.21 and so long as ---- the Lien only attaches to the asset purchased or acquired and only secures the purchase price of the asset, (e) Liens arising by operation of law in favor of warehousemen, landlords, carriers, mechanics, materialmen, laborers, or suppliers, incurred in the ordinary course of business of Borrower and the Guarantors and not in connection with the borrowing of money, and which Liens either (i) are for sums not yet due and payable, or (ii) are the subject of Permitted Protests, (f) Liens arising from deposits made in connection with obtaining worker's compensation or other unemployment insurance, (g) Liens or deposits to secure performance of bids, tenders, or leases (to the extent permitted under this Agreement), incurred in the ordinary course of business of Borrower and the Guarantors and not in connection with the borrowing of money, (h) Liens arising by reason of security for surety or appeal bonds in the ordinary course of business of Borrower and the Guarantors, (i) Liens of or resulting from any judgment or award that would not have a Material Adverse Effect and as to which the time for the appeal or petition for rehearing of which has not yet expired, or in respect of which Borrower or the respective Guarantor is in good faith prosecuting an appeal or proceeding for a review, and in respect of which a stay of execution pending such appeal or proceeding for review has been secured, (j) Liens with respect to any real property, easements, rights of way, zoning and similar covenants and restrictions, and similar encumbrances that customarily exist on properties of Persons engaged in similar activities and similarly situated and that in any event do not materially interfere with or impair the use or operation of the Collateral by Borrower or the Guarantor Collateral by the Guarantors or the value of Lender's Lien thereon or therein, or materially interfere with the ordinary conduct of the business of Borrower and the Guarantors. "Permitted Protest" means the right of Borrower or any Guarantor to ----------------- protest any Lien other than any such Lien that secures the Obligations, tax (other than payroll taxes or taxes that are the subject of a United States federal tax lien), or rental payment, provided that (a) a reserve with respect to such obligation is established on the books of Borrower or such Guarantor, as applicable, in an amount that is reasonably satisfactory to Lender, (b) any such protest is instituted and diligently prosecuted by Borrower or such Guarantor, as applicable, in good faith, and (c) Lender is satisfied that, while any such protest is pending, there will be no impairment of the enforceability, validity, or priority of any of the Liens of Lender in and to the Collateral or the Guarantor Collateral. "Person" means and includes natural persons, corporations, limited ------ liability companies, limited partnerships, general partnerships, limited liability partnerships, joint ventures, trusts, land trusts, business trusts, or other organizations, irrespective of whether they are legal entities, and governments and agencies and political subdivisions thereof. "Plan" means any employee benefit plan, program, or arrangement ---- maintained or contributed to by Borrower or with respect to which it may incur liability. "Reference Rate" means the variable rate of interest, per annum, most -------------- recently announced by Citibank, N.A. or any successor thereto, as its "prime rate" or "reference rate," as the case may be, irrespective of whether such announced rate is the best rate available from such financial institution. -10- "Release Conditions" means that (a) no Default or Event of Default has ------------------ occurred and is continuing or would result therefrom, (b) Borrower or the Guarantor, as applicable, is receiving at least fair value for the property or assets that are the subject of the Asset Disposition, (c) following such Asset Disposition, the subject property or assets are not to be the subject of a lease by Borrower or any Guarantor, and (d) the subject property or assets are not being sold to, exchanged with, or disposed of to, any Affiliate of Borrower. "Reportable Event" means any of the events described in Section ---------------- 4043(c) of ERISA or the regulations thereunder other than a Reportable Event as to which the provision of 30 days notice to the PBGC is waived under applicable regulations. "Retiree Health Plan" means an "employee welfare benefit plan" within ------------------- the meaning of Section 3(1) of ERISA that provides benefits to individuals after termination of their employment, other than as required by Section 601 of ERISA. "Solvent" means, with respect to any Person on a particular date, that ------- on such date (a) at fair valuations, all of the properties and assets of such Person are greater than the sum of the debts, including contingent liabilities, of such Person, (b) the present fair salable value of the properties and assets of such Person is not less than the amount that will be required to pay the probable liability of such Person on its debts as they become absolute and matured, (c) such Person is able to realize upon its properties and assets and pay its debts and other liabilities, contingent obligations and other commitments as they mature in the normal course of business, (d) such Person does not intend to, and does not believe that it will, incur debts beyond such Person's ability to pay as such debts mature, and (e) such Person is not engaged in business or a transaction, and is not about to engage in business or a transaction, for which such Person's properties and assets would constitute unreasonably small capital after giving due consideration to the prevailing practices in the industry in which such Person is engaged. In computing the amount of contingent liabilities at any time, it is intended that such liabilities will be computed at the amount that, in light of all the facts and circumstances existing at such time, represents the amount that reasonably can be expected to become an actual or matured liability. "StarPress" means StarPress, Inc., a Colorado corporation. --------- "Stock" means all shares, options, warrants, interests, ----- participations, or other equivalents (regardless of how designated) of or in a corporation or equivalent entity, whether voting or nonvoting, including common stock, preferred stock, or any other "equity security" (as such term is defined in Rule 3a11-1 of the General Rules and Regulations promulgated by the Securities and Exchange Commission under the Exchange Act). "Subordination Agreement" means that certain Subordination Agreement ----------------------- executed and delivered by Borrower and the Guarantors in form and substance satisfactory to Lender. "Subsidiary" of a Person means a corporation, partnership, limited ---------- liability company, or other entity in which that Person directly or indirectly owns or controls the shares of Stock having ordinary voting power to elect a majority of the board of directors (or -11- appoint other comparable managers) of such corporation, partnership, limited liability company, or other entity. "Tangible Net Worth" means, as of any date of determination, the ------------------ difference of (a) Borrower's total stockholder's equity, minus (b) the sum of: ----- (i) all Intangible Assets of Borrower, (ii) all of Borrower's prepaid expenses, and (iii) all amounts due to Borrower from Affiliates. "Term Loan" has the meaning set forth in Section 2.1. --------- ----------- "Term Loan to Revenue Ratio" means, as of any date of determination, -------------------------- the ratio of (a) the outstanding principal balance of the Term Loan, to (b) Borrower's revenue from operations for the relevant period. "Trademark Security Agreement (Borrower)" means a Trademark Security --------------------------------------- Agreement executed and delivered by Borrower in form and substance satisfactory to Lender. "Trademark Security Agreement (GZM)" means a Trademark Security ---------------------------------- Agreement executed and delivered by GZM in form and substance satisfactory to Lender. "Trademark Security Agreement (StarPress)" means a Trademark Security ---------------------------------------- Agreement executed and delivered by StarPress in form and substance satisfactory to Lender. "Trademark Security Agreements" means the Trademark Security Agreement ----------------------------- (Borrower), the Trademark Security Agreement (GZM), and the Trademark Security Agreement (StarPress). "Voidable Transfer" has the meaning set forth in Section 15.8. ----------------- ------------ "Warrants" means those certain common Stock purchase warrants issued -------- and delivered to Lender by Borrower for the purchase of 300,000 shares of Borrower's common Stock, $0.01 par value, having the powers, preferences, and rights, and the qualifications, limitations, or restrictions set forth in Borrower's Governing Documents. 1.2 Accounting Terms. All accounting terms not specifically defined herein shall be construed in accordance with GAAP. When used herein, the term "financial statements" shall include the notes and schedules thereto. Whenever the term "Borrower" is used in respect of a financial covenant or a related definition, it shall be understood to mean Borrower on a consolidated basis unless the context clearly requires otherwise. 1.3 Code. Any terms used in this Agreement that are defined in the Code shall be construed and defined as set forth in the Code unless otherwise defined herein. -12- 1.4 Construction. Unless the context of this Agreement clearly requires otherwise, references to the plural include the singular, references to the singular include the plural, the term "including" is not limiting, and the term "or" has, except where otherwise indicated, the inclusive meaning represented by the phrase "and/or." The words "hereof," "herein," "hereby," "hereunder," and similar terms in this Agreement refer to this Agreement as a whole and not to any particular provision of this Agreement. An Event of Default shall "continue" or be "continuing" until such Event of Default has been waived in writing by Lender. Section, subsection, clause, schedule, and exhibit references are to this Agreement unless otherwise specified. Any reference in this Agreement or in the Loan Documents to this Agreement or any of the Loan Documents shall include all alterations, amendments, changes, extensions, modifications, renewals, replacements, substitutions, and supplements, thereto and thereof, as applicable. 1.5 Schedules and Exhibits. All of the schedules and exhibits attached to this Agreement shall be deemed incorporated herein by reference. 2. LOAN AND TERMS OF PAYMENT. 2.1 Term Loan. Lender has agreed to make a term loan (the "Term Loan") to Borrower in the original principal amount of (a) $3,500,000, plus (b) ---- the amount of the Closing Fee. The outstanding principal balance of the Term Loan and all accrued and unpaid interest under the Term Loan shall be due and payable upon the termination of this Agreement, whether by its terms, by prepayment, by acceleration, or otherwise. The unpaid principal balance of the Term Loan may be prepaid in whole or in part without penalty or premium at any time during the term of this Agreement upon 30 days prior written notice by Borrower to Lender. All amounts outstanding under the Term Loan shall constitute Obligations. 2.2 Mandatory Prepayments. (a) Prepayments from Asset Dispositions. Immediately upon receipt of the Net Proceeds of any Asset Disposition other than a Permitted Disposition, Borrower shall prepay the Obligations in an amount equal to the Net Proceeds of such Asset Disposition. The payments shall be applied in accordance with Section 2.2(e). Concurrently with the making of any such payment, Borrower - -------------- shall deliver to Lender a certificate of Borrower's chief executive officer or chief financial officer demonstrating its calculation of the amount required to be paid. (b) Prepayment from Extraordinary Transactions. In the event that Borrower or any Guarantor issues Stock or Indebtedness, or enters into any merger, recapitalization, combination, or joint venture transaction, then immediately upon receipt of the Net Proceeds therefrom by Borrower or such Guarantor (other than (a) proceeds of purchase money Indebtedness or capital leases, or (b) proceeds, if any, from the issuance of Stock of Borrower to members of the management of Borrower), Borrower shall prepay the Obligations in an amount equal to the Net Proceeds of such transactions. The payments shall be applied in accordance with Section 2.2(e). Concurrently with the making of any -------------- such payment, Borrower shall deliver to Lender a certificate of Borrower's chief executive officer or chief financial officer demonstrating its calculation of the amount required to be paid. -13- (c) Prepayment From Plan Reversions. In the event that Borrower or any Guarantor receives any surplus assets of any Plan, Borrower immediately shall prepay the Obligations in an amount equal to such returned surplus assets net of related transaction costs (including income, excise, or other taxes). The payments shall be applied in accordance with Section 2.2(e). Concurrently -------------- with the making of any such payment, Borrower shall deliver to Lender a certificate of Borrower's chief executive officer or chief financial officer demonstrating its calculation of the amount required to be paid. (d) Term Loan to Revenue Ratio. In the event that the Term Loan to Revenue Ratio exceeds 0.7:1.0, as of the end of any month, Borrower immediately shall prepay the outstanding principal balance of the Term Loan by an amount sufficient to cause the Term Loan to Revenue Ratio to be equal to or less than 0.7:1.0. (e) Application of Proceeds. With respect to mandatory prepayments described in subsections (a) through (d) above, such prepayments shall be --------------------------- applied (i) first, in payment of the installments due with respect to the Term Loan in the inverse order of their maturities until the Term Loan is paid in full, and (ii) then, in payment of any other Obligations owing by Borrower to Lender, such payments to be applied to such Obligations by Lender in its sole discretion. 2.3 Interest: Rates, Payments, and Calculations. (a) Interest Rate. Except as provided in clause (b) below, the Term Loan shall bear interest at a per annum rate of 4.25 percentage points above the Applicable Rate. (b) Default Rate. Upon the occurrence and during the continuation of an Event of Default, the Term Loan shall bear interest at a per annum rate equal to 8.25 percentage points above the Applicable Rate. (c) Minimum Interest. In no event shall the rate of interest chargeable hereunder for any day be less than 12.50% per annum. To the extent that interest accrued hereunder at the rate set forth herein would be less than the foregoing minimum daily rate, the interest rate chargeable hereunder for such day automatically shall be deemed increased to the minimum rate. (d) Payments. Interest payable hereunder shall be due and payable, in arrears, on the first day of each month during the term hereof. Any interest not paid when due shall be compounded and shall thereafter accrue interest at the rate then applicable to the Term Loan hereunder. (e) Computation. The Reference Rate as of the date of this Agreement is 8.25% per annum. In the event the Reference Rate is changed from time to time hereafter, the applicable rate of interest hereunder automatically and immediately shall be increased or decreased by an amount equal to such change in the Reference Rate. All interest and fees chargeable under the Loan Documents shall be computed on the basis of a 360 day year for the actual number of days elapsed. -14- (f) Intent to Limit Charges to Maximum Lawful Rate. In no event shall the interest rate or rates payable under this Agreement, plus any other amounts paid in connection herewith, exceed the highest rate permissible under any law that a court of competent jurisdiction shall, in a final determination, deem applicable. Borrower and Lender, in executing and delivering this Agreement, intend legally to agree upon the rate or rates of interest and manner of payment stated within it; provided, however, that, anything contained herein -------- ------- to the contrary notwithstanding, if said rate or rates of interest or manner of payment exceeds the maximum allowable under applicable law, then, ipso facto as ---- ----- of the date of this Agreement, Borrower is and shall be liable only for the payment of such maximum as allowed by law, and payment received from Borrower in excess of such legal maximum, whenever received, shall be applied to reduce the principal balance of the Obligations to the extent of such excess. 2.4 Collections. Borrower shall at all times maintain its Concentration Account and agrees that all Collections of Borrower and the Guarantors shall be deposited into such Concentration Account or into a deposit account the proceeds of which are remitted no less frequently than has been Borrower's or such Guarantor's past practice to its Concentration Account. Upon the occurrence and during the continuance of an Event of Default, Lender may elect to notify the Concentration Account Bank to remit all amounts received in the Concentration Account to an account of Lender (the "Lender Account") maintained by Lender at a depositary selected by Lender. 2.5 Crediting Payments; Application of Collections. The receipt of any Collections by Lender (whether from transfers to Lender by the Concentration Account Bank or otherwise) immediately shall be applied provisionally to reduce the Obligations outstanding under Section 2.1, but shall not be considered a ----------- payment on account unless such Collection item is a wire transfer of immediately available federal funds and is made to the Lender Account or unless and until such Collection item is honored when presented for payment. Should any Collection item not be honored when presented for payment, then Borrower shall be deemed not to have made such payment, and interest shall be recalculated accordingly. Anything to the contrary contained herein notwithstanding, any Collection item shall be deemed received by Lender only if it is received into the Lender Account on a Business Day on or before 11:00 a.m. New York time. If any Collection item is received into the Lender Account on a non-Business Day or after 11:00 a.m. New York time on a Business Day, it shall be deemed to have been received by Lender as of the opening of business on the immediately following Business Day. 2.6 Designated Account. Lender is authorized to make the Term Loan under this Agreement based upon telephonic or other instructions received from anyone purporting to be an Authorized Person, or without instructions if pursuant to Section 2.3(d). Borrower agrees to establish and maintain the -------------- Designated Account with the Designated Account Bank for the purpose of receiving the proceeds of the Term Loan requested by Borrower and made by Lender hereunder. Unless otherwise agreed by Lender and Borrower, any advance requested by Borrower and made by Lender hereunder shall be made to the Designated Account. 2.7 Maintenance of Loan Account; Statements of Obligations. Lender shall maintain an account on its books in the name of Borrower (the "Loan Account") on which -15- Borrower will be charged with the Term Loan made by Lender to Borrower or for Borrower's account, including, accrued interest, Lender Expenses, and any other payment Obligations of Borrower. The Loan Account will be credited with all payments received by Lender from Borrower or for Borrower's account, including all amounts received in the Lender Account from the Concentration Account Bank. Lender shall render statements regarding the Loan Account to Borrower, including principal, interest, fees, and including an itemization of all charges and expenses constituting Lender Expenses owing, and such statements shall be conclusively presumed to be correct and accurate and constitute an account stated between Borrower and Lender unless, within 30 days after receipt thereof by Borrower, Borrower shall deliver to Lender written objection thereto describing the error or errors contained in any such statements. 2.8 Fees. Borrower shall pay to Lender the following fees: (a) Closing Fee. On the Closing Date, a closing fee (the "Closing ----------- Fee") of $240,000, which fee is in addition to any fees previously paid by Borrower to Lender and shall be paid by adding the amount thereof to the balance of the Term Loan. (b) Financial Examination, Documentation, and Appraisal Fees. -------------------------------------------------------- Lender's customary fee of $650 per day per examiner, plus out-of-pocket expenses for each financial analysis and examination (i.e., audits) of Borrower performed by personnel employed by Lender; Lender's customary appraisal fee of $1,500 per day per appraiser, plus out-of-pocket expenses for each appraisal of the Collateral and the Guarantor Collateral performed by personnel employed by Lender; and, the actual charges paid or incurred by Lender if it elects to employ the services of one or more third Persons to perform such financial analyses and examinations (i.e., audits) of Borrower or to appraise the Collateral or the Guarantor Collateral; and (c) Servicing Fee. On the first day of each April, July, October, and ------------- January during the term of this Agreement, and thereafter so long as any Obligations are outstanding, a servicing fee in an amount equal to $25,000. 3. CONDITIONS; TERM OF AGREEMENT. 3.1 Conditions Precedent to the Term Loan. The obligation of Lender to make the Term Loan is subject to the fulfillment, to the satisfaction of Lender and its counsel, of each of the following conditions on or before the Closing Date: (a) the Closing Date shall occur on or before January 31, 1997; (b) Lender shall have received searches reflecting the filing of its financing statements and fixture filings; (c) Lender shall have received each of the following documents, duly executed, and each such document shall be in full force and effect: i. the Disbursement Letter; -16- ii. the Guaranty; iii. the Guarantor Security Agreement; iv. the Copyright Security Agreement; v. the Trademark Security Agreements; vi. the Warrants; vii. the Concentration Account Agreement; viii. the Subordination Agreement; and ix. the Pay-Off Letter, together with UCC termination statements and other documentation evidencing the termination by Existing Lender of its Liens in and to the properties and assets of Borrower and the Guarantors, as applicable; (d) Lender shall have received a certificate from the Secretary of each Obligor attesting to the resolutions of such Obligor's Board of Directors authorizing its execution, delivery, and performance of this Agreement and the other Loan Documents to which such Obligor is a party and authorizing specific officers of such Obligor to execute the same; (e) Lender shall have received copies of each Obligor's Governing Documents, as amended, modified, or supplemented to the Closing Date, certified by the Secretary of such Obligor; (f) Lender shall have received a certificate of status with respect to each Obligor, dated within 10 days of the Closing Date, such certificate to be issued by the appropriate officer of the jurisdiction of organization of such Obligor, which certificate shall indicate that such Obligor is in good standing in such jurisdiction; (g) Lender shall have received certificates of status with respect to each Obligor, each dated within 15 days of the Closing Date, such certificates to be issued by the appropriate officer of the jurisdictions in which its failure to be duly qualified or licensed would constitute a Material Adverse Change, which certificates shall indicate that such Obligor is in good standing in such jurisdictions; (h) Lender shall have received a certificate of insurance, together with the endorsements thereto, as are required by Section 6.10, the form and ------------ substance of which shall be satisfactory to Lender and its counsel; (i) Lender shall have received such Collateral Access Agreements from lessors as Lender may require; -17- (j) Lender shall have received an opinion of the Obligor's counsel in form and substance satisfactory to Lender in its sole discretion; (k) Lender shall have received satisfactory evidence that all tax returns required to be filed by Borrower have been timely filed and all taxes upon Borrower or its properties, assets, income, and franchises (including real property taxes and payroll taxes) have been paid prior to delinquency, except such taxes that are the subject of a Permitted Protest; (l) Lender shall have completed its due diligence in respect of Borrower, the results of which are satisfactory to Lender; (m) Lender shall have received the results of an appraisal of Borrower conducted by a "valuation firm" selected by Lender, such results to be satisfactory to Lender; (n) Lender shall have received the results of an audit of Borrower's financial records, dated June 30, 1996, conducted by KPMG Peat Marwick LLP, such results to be satisfactory to Lender; (o) the representations and warranties contained in this Agreement and the other Loan Documents shall be true and correct in all respects on and as of such date; (p) no Default or Event of Default shall have occurred and be continuing on such date, nor shall either result from the making thereof; (q) no injunction, writ, restraining order, or other order of any nature prohibiting, directly or indirectly, the extending of such credit shall have been issued and remain in force by any governmental authority against Borrower, Lender, or any of their Affiliates; (r) Lender shall have received evidence satisfactory to it that the holders of the preferred Stock of Borrower have approved of the execution, delivery, and performance by Borrower of the Warrants; and (s) all other documents and legal matters in connection with the transactions contemplated by this Agreement shall have been delivered, executed, or recorded and shall be in form and substance satisfactory to Lender and its counsel. 3.2 Term. This Agreement shall become effective upon the execution and delivery hereof by Borrower and Lender and shall continue in full force and effect for a term ending on January 30, 1998 (the "Maturity Date"). The foregoing notwithstanding, Lender shall have the right to terminate its obligations under this Agreement immediately and without notice upon the occurrence and during the continuation of an Event of Default. 3.3 Effect of Termination. On the date of termination of this Agreement, all Obligations immediately shall become due and payable without notice or demand. No termination of this Agreement, however, shall relieve or discharge Borrower of Borrower's -18- duties, Obligations, or covenants hereunder, and Lender's continuing security interests in the Collateral shall remain in effect until all Obligations have been fully and finally discharged and Lender's obligation to provide additional credit hereunder is terminated. 3.4 Early Termination by Borrower. The provisions of Section 3.3 ----------- notwithstanding, Borrower has the option, at any time upon 30 days prior written notice to Lender, to terminate this Agreement by paying to Lender, in cash, the Obligations, in full, without payment or premium. 4. CREATION OF SECURITY INTEREST. 4.1 Grant of Security Interest. Borrower hereby grants to Lender a continuing security interest in all currently existing and hereafter acquired or arising Collateral in order to secure prompt repayment of any and all Obligations and in order to secure prompt performance by Borrower of each of its covenants and duties under the Loan Documents. Lender's security interests in the Collateral shall attach to all Collateral without further act on the part of Lender or Borrower. Anything contained in this Agreement or any other Loan Document to the contrary notwithstanding, except for Ordinary Course Dispositions, Borrower has no authority, express or implied, to dispose of any item or portion of the Collateral. 4.2 Negotiable Collateral. In the event that any Collateral, including proceeds, is evidenced by or consists of Negotiable Collateral, Borrower, immediately upon the request of Lender, shall endorse and deliver physical possession of such Negotiable Collateral to Lender. 4.3 Collection of Accounts, General Intangibles, and Negotiable Collateral. At any time following the occurrence and during the continuance of an Event of Default or that Lender deems itself insecure, Lender or Lender's designee may (a) notify customers or Account Debtors of Borrower that the Accounts, General Intangibles, or Negotiable Collateral have been assigned to Lender or that Lender has a security interest therein, and (b) collect the Accounts, General Intangibles, and Negotiable Collateral directly and charge Borrower with the collection costs and expenses. Borrower agrees that it will hold in trust for Lender, as Lender's trustee, any Collections that it receives and immediately will deliver said Collections to Lender in their original form as received by Borrower. 4.4 Delivery of Additional Documentation Required. At any time upon the request of Lender, Borrower shall execute and deliver to Lender all financing statements, continuation financing statements, fixture filings, security agreements, pledges, assignments, endorsements of certificates of title, applications for title, affidavits, reports, notices, schedules of accounts, letters of authority, and all other documents that Lender reasonably may request, in form satisfactory to Lender, to perfect and continue perfected Lender's security interests in the Collateral, and in order to fully consummate all of the transactions contemplated hereby and under the other the Loan Documents. 4.5 Power of Attorney. Borrower hereby irrevocably makes, constitutes, and appoints Lender (and any of Lender's officers, employees, or agents designated by Lender) as -19- Borrower's true and lawful attorney, with power to (a) if Borrower refuses to, or fails timely to execute and deliver any of the documents described in Section 4.4, sign the name of Borrower on any of the documents described - ----------- in Section 4.4, (b) at any time that an Event of Default has occurred and is ----------- continuing or Lender deems itself insecure, sign Borrower's name on any invoice or bill of lading relating to any Account, drafts against Account Debtors, schedules and assignments of Accounts, verifications of Accounts, and notices to Account Debtors, (c) send requests for verification of Accounts, (d) endorse Borrower's name on any Collection item that may come into Lender's possession, (e) at any time that an Event of Default has occurred and is continuing or Lender deems itself insecure, notify the post office authorities to change the address for delivery of Borrower's mail to an address designated by Lender, to receive and open all mail addressed to Borrower, and to retain all mail relating to the Collateral and forward all other mail to Borrower, (f) at any time that an Event of Default has occurred and is continuing or Lender deems itself insecure, make, settle, and adjust all claims under Borrower's policies of insurance and make all determinations and decisions with respect to such policies of insurance, and (g) at any time that an Event of Default has occurred and is continuing or Lender deems itself insecure, settle and adjust disputes and claims respecting the Accounts directly with Account Debtors, for amounts and upon terms that Lender determines to be reasonable, and Lender may cause to be executed and delivered any documents and releases that Lender determines to be necessary. The appointment of Lender as Borrower's attorney, and each and every one of Lender's rights and powers, being coupled with an interest, is irrevocable until all of the Obligations have been fully and finally repaid and performed and Lender's obligation to extend credit hereunder is terminated. 4.6 Right to Inspect. Lender (through any of its officers, employees, or agents) shall have the right, from time to time hereafter during normal business hours to inspect Borrower's Books and to check, test, and appraise the Collateral in order to verify Borrower's financial condition or the amount, quality, value, condition of, or any other matter relating to, the Collateral. 5. REPRESENTATIONS AND WARRANTIES. In order to induce Lender to enter into this Agreement, Borrower makes the following representations and warranties which shall be true, correct, and complete in all respects as of the date hereof, and shall be true, correct, and complete in all respects as of the Closing Date, and such representations and warranties shall survive the execution and delivery of this Agreement: 5.1 No Encumbrances. Borrower has good and indefeasible title to the Collateral, free and clear of Liens except for Permitted Liens. Each Guarantor has good and indefeasible title to its portion of the Guarantor Collateral, free and clear of Liens except for Permitted Liens. 5.2 Accounts. The Accounts are bona fide existing obligations created by the sale and delivery of Inventory or the rendition of services to Account Debtors in the ordinary course of Borrower's business, unconditionally owed to Borrower without defenses, disputes, offsets, counterclaims, or rights of return or cancellation that are not generally granted within -20- Borrower's industry. The property giving rise to such Accounts has been delivered to the Account Debtor, or to the Account Debtor's agent for immediate shipment to and acceptance by the Account Debtor. Borrower has not received notice of actual or imminent bankruptcy, insolvency, or material impairment of the financial condition of any Account Debtor regarding any Account. 5.3 Inventory. All Inventory is of good and merchantable quality, free from defects. 5.4 Equipment. All of the Equipment is used or held for use in Borrower's business and is fit for such purposes. 5.5 Location of Inventory and Equipment. The Inventory and Equipment are not stored with a bailee, warehouseman, or similar party (without Lender's prior written consent) and are located only at the locations identified on Schedule 6.12 or otherwise permitted by Section 6.12. - ------------- ------------ 5.6 Inventory Records. Borrower keeps correct and accurate records itemizing and describing the kind, type, quality, and quantity of the Inventory, and Borrower's cost therefor. 5.7 Location of Chief Executive Office; FEIN. The chief executive office of Borrower is located at the address indicated in the preamble to this Agreement. Borrower's FEIN is 33-0697932. 5.8 Due Organization and Qualification; Subsidiaries. (a) Borrower is duly organized and existing and in good standing under the laws of the jurisdiction of its incorporation and qualified and licensed to do business in, and in good standing in, any state where the failure to be so licensed or qualified reasonably could be expected to have a Material Adverse Change. (b) Each Guarantor is duly organized and existing and in good standing under the laws of the jurisdiction of its incorporation and qualified and licensed to do business in, and in good standing in, any state where the failure to be so licensed or qualified reasonably could be expected to have a Material Adverse Change. Other than with respect to StarPress' internet business located in Venice, California, neither Guarantor currently engages in any business, nor intends in the future to engage in any business. (c) Set forth on Schedule 5.8, is a complete and accurate list of ------------ Borrower's direct and indirect Subsidiaries, showing: (i) the jurisdiction of their incorporation; (ii) the number of shares of each class of common and preferred Stock authorized for each of such Subsidiaries; and (iii) the number and the percentage of the outstanding shares of each such class owned directly or indirectly by Borrower. All of the outstanding capital Stock of each such Subsidiary has been validly issued and is fully paid and non-assessable. -21- (d) Except as set forth on Schedule 5.8, no capital Stock (or any ------------ securities, instruments, warrants, options, purchase rights, conversion or exchange rights, calls, commitments or claims of any character convertible into or exercisable for capital Stock) of any direct or indirect Subsidiary of Borrower is subject to the issuance of any security, instrument, warrant, option, purchase right, conversion or exchange right, call, commitment or claim of any right, title, or interest therein or thereto. (e) As to each Inactive Subsidiary: each such Subsidiary does not own any property or assets of any consequential value, does not currently engage in any business, and does not intend in the future to engage in any business. 5.9 Due Authorization; No Conflict. (a) Borrower: (i) The execution, delivery, and performance by Borrower of this Agreement and the Loan Documents to which it is a party have been duly authorized by all necessary corporate action. (ii) The execution, delivery, and performance by Borrower of this Agreement and the Loan Documents to which it is a party do not and will not (a) violate any provision of federal, state, or local law or regulation (including Regulations G, T, U, and X of the Federal Reserve Board) applicable to Borrower, the Governing Documents of Borrower, or any order, judgment, or decree of any court or other Governmental Authority binding on Borrower, (b) conflict with, result in a breach of, or constitute (with due notice or lapse of time or both) a default under any material contractual obligation or material lease of Borrower, (c) result in or require the creation or imposition of any Lien of any nature whatsoever upon any properties or assets of Borrower, other than Permitted Liens, or (d) other than the holders of the preferred Stock of Borrower, require any approval of stockholders or any approval or consent of any Person under any material contractual obligation of Borrower. (iii) Other than the filing of appropriate financing statements, fixture filings, and related documents in respect of the Collateral, the execution, delivery, and performance by Borrower of this Agreement and the Loan Documents to which Borrower is a party do not and will not require any registration with, consent, or approval of, or notice to, or other action with or by, any federal, state, foreign, or other Governmental Authority or other Person. (iv) This Agreement and the Loan Documents to which Borrower is a party, and all other documents contemplated hereby and thereby, when executed and delivered by Borrower will be the legally valid and binding obligations of Borrower, enforceable against Borrower in accordance with their respective terms, except as enforcement may be limited by equitable principles or by bankruptcy, insolvency, reorganization, moratorium, or similar laws relating to or limiting creditors' rights generally. -22- (v) The Liens granted by Borrower to Lender in and to its properties and assets pursuant to this Agreement and the other Loan Documents are validly created, perfected, and first priority Liens, subject only to Permitted Liens. (b) Guarantors: (i) The execution, delivery, and performance by each Guarantor of the Loan Documents to which it is a party have been duly authorized by all necessary corporate action. (ii) The execution, delivery, and performance by each Guarantor of the Loan Documents to which it is a party do not and will not (a) violate, in any material respect, any provision of federal, state, or local law or regulation (including Regulations G, T, U, and X of the Federal Reserve Board) applicable to such Guarantor, the Governing Documents of such Guarantor, or any order, judgment, or decree of any court or other Governmental Authority binding on such Guarantor, (b) conflict with, result in a material breach of, or constitute (with due notice or lapse of time or both) a material default under any material contractual obligation or material lease of such Guarantor, (c) result in or require the creation or imposition of any Lien of any nature whatsoever upon any properties or assets of such Guarantor, other than Permitted Liens, or (d) require any approval of stockholders or any approval or consent of any Person under any material contractual obligation of such Guarantor. (iii) Other than the filing of appropriate financing statements, fixture filings, and related documents in respect of the Guarantor Collateral, the execution, delivery, and performance by each Guarantor of the Loan Documents to which it is a party do not and will not require any registration with, consent, or approval of, or notice to, or other action with or by, any federal, state, foreign, or other Governmental Authority or other Person. (iv) The Loan Documents to which each Guarantor is a party, and all other documents contemplated hereby and thereby, when executed and delivered by such Guarantor will be the legally valid and binding obligations of such Guarantor, enforceable against it in accordance with their respective terms, except as enforcement may be limited by equitable principles or by bankruptcy, insolvency, reorganization, moratorium, or similar laws relating to or limiting creditors' rights generally. (v) The Liens granted by each Guarantor to Lender in and to its properties and assets are validly created, perfected, and first priority Liens, subject only to Permitted Liens. 5.10 Litigation. There are no actions or proceedings pending by or against Borrower or any Guarantor before any court or administrative agency and Borrower does not have knowledge or belief of any pending, threatened, or imminent litigation, governmental investigations, or claims, complaints, actions, or prosecutions involving Borrower or any Guarantor, except for: (a) ongoing collection matters in which Borrower or a Guarantor is the plaintiff; (b) matters disclosed on Schedule 5.10; and (c) matters arising after the date ------------- hereof -23- that, if decided adversely to Borrower or the Guarantor, would not have a Material Adverse Change. 5.11 No Material Adverse Change. All financial statements relating to Borrower or any Guarantor that have been delivered by Borrower to Lender have been prepared in accordance with GAAP (except, in the case of unaudited financial statements, for the lack of footnotes and being subject to year-end audit adjustments) and fairly present Borrower's (or such Guarantor's, as applicable) financial condition as of the date thereof and its results of operations for the period then ended. There has not been a Material Adverse Change with respect to Borrower (or such Guarantor, as applicable) since the date of the latest financial statements submitted to Lender after the Closing Date. 5.12 Solvency. Borrower and the Guarantors are Solvent. No transfer of property is being made by Borrower or a Guarantor and no obligation is being incurred by Borrower or any Guarantor in connection with the transactions contemplated by this Agreement or the other Loan Documents with the intent to hinder, delay, or defraud either present or future creditors of Borrower or any Guarantor. 5.13 Employee Benefits. None of Borrower, any of its Subsidiaries, or any of their ERISA Affiliates maintains or contributes to any Benefit Plan, other than those listed on Schedule 5.13. Borrower, each of its Subsidiaries ------------- and each ERISA Affiliate have satisfied the minimum funding standards of ERISA and the IRC with respect to each Benefit Plan to which it is obligated to contribute. No ERISA Event has occurred nor has any other event occurred that may result in an ERISA Event that reasonably could be expected to result in a Material Adverse Change. None of Borrower or its Subsidiaries, any ERISA Affiliate, or any fiduciary of any Plan is subject to any direct or indirect liability with respect to any Plan under any applicable law, treaty, rule, regulation, or agreement. None of Borrower or its Subsidiaries or any ERISA Affiliate is required to provide security to any Plan under Section 401(a)(29) of the IRC. 5.14 Environmental Condition. None of Borrower's or the Guarantors' properties or assets has ever been used by Borrower or the Guarantors or, to the best of Borrower's knowledge, by previous owners or operators in the disposal of, or to produce, store, handle, treat, release, or transport, any Hazardous Materials. None of Borrower's or the Guarantors' properties or assets has ever been designated or identified in any manner pursuant to any environmental protection statute as a Hazardous Materials disposal site, or a candidate for closure pursuant to any environmental protection statute. No Lien arising under any environmental protection statute has attached to any revenues or to any real or personal property owned or operated by Borrower or a Guarantor. Neither Borrower nor any Guarantor has received a summons, citation, notice, or directive from the Environmental Protection Agency or any other federal or state governmental agency concerning any action or omission by Borrower or such Guarantor resulting in the releasing or disposing of Hazardous Materials into the environment. 5.15 Intellectual Property. Neither Borrower nor StarPress owns, holds (whether pursuant to a license or otherwise), or uses in the conduct of its business, in whole or -24- in part, any copyrights, registrations in the United States Copyright Office, or applications for registrations in the United States Copyright Office. None of the Obligors owns, holds (whether pursuant to a license or otherwise), or uses in the conduct of its business, in whole or in part, any patents, registrations in the United States Patent and Trademark Office, or applications for registrations in the United States Patent and Trademark Office. 6. AFFIRMATIVE COVENANTS. Borrower covenants and agrees that, so long as any credit hereunder shall be available and until full and final payment of the Obligations, and unless Lender shall otherwise consent in writing, Borrower shall and shall cause each of the Guarantors to do all of the following (and each reference to Borrower also shall be deemed to include the Guarantors): 6.1 Accounting System. Maintain a standard and modern system of accounting that enables Borrower to produce financial statements in accordance with GAAP, and maintain records pertaining to the Collateral that contain information as from time to time may be requested by Lender. Borrower also shall keep a modern inventory reporting system that shows all additions, sales, claims, returns, and allowances with respect to the Inventory. 6.2 Collateral Reporting. Provide Lender with the following documents at the following times in form satisfactory to Lender: (a) every 2 weeks during the term of this Agreement, company prepared [Collateral reports], and such other reports as to the Collateral or the financial condition of Borrower as Lender may request from time to time. Original sales invoices evidencing daily sales shall be mailed by Borrower to each Account Debtor and, at Lender's direction, the invoices shall indicate on their face that the Account has been assigned to Lender and that all payments are to be made directly to Lender. 6.3 Financial Statements, Reports, Certificates. Deliver to Lender: (a) as soon as available, but in any event within 30 days after the end of each month during each of Borrower's fiscal years, a company prepared balance sheet, income statement, and statement of cash flow covering Borrower's operations during such period; and (b) as soon as available, but in any event within 90 days after the end of each of Borrower's fiscal years, financial statements of Borrower for each such fiscal year, audited by independent certified public accountants reasonably acceptable to Lender and certified, without any qualifications, by such accountants to have been prepared in accordance with GAAP. Such audited financial statements shall include a balance sheet, profit and loss statement, and statement of cash flow and, if prepared, such accountants' letter to management. In addition to the financial statements referred to above, Borrower agrees to deliver financial statements prepared on a consolidated basis. Together with the above, Borrower also shall deliver to Lender Borrower's Form 10-Q Quarterly Reports, Form 10-K Annual Reports, and Form 8-K Current Reports, and any other filings made by Borrower with the Securities and Exchange Commission, if any, as soon as the same are filed, or any other information that is provided by Borrower to its shareholders, and any other report reasonably requested by Lender relating to the financial condition of Borrower. -25- Each month, together with the financial statements provided pursuant to Section 6.3(a), Borrower shall deliver to Lender a certificate signed by its -------------- chief financial officer to the effect that: (i) all financial statements delivered or caused to be delivered to Lender hereunder have been prepared in accordance with GAAP (except, in the case of unaudited financial statements, for the lack of footnotes and being subject to year-end audit adjustments) and fairly present the financial condition of Borrower, (ii) the representations and warranties of Borrower contained in this Agreement and the other Loan Documents are true and correct in all material respects on and as of the date of such certificate, as though made on and as of such date (except to the extent that such representations and warranties relate solely to an earlier date), (iii) for each month that also is the date on which a financial covenant in Sections 7.20 ------------- and 7.21 is to be tested, a Compliance Certificate demonstrating in reasonable - -------- detail compliance at the end of such period with the applicable financial covenants contained in Sections 7.20 and 7.21, and (iv) on the date of delivery ---------------------- of such certificate to Lender there does not exist any condition or event that constitutes a Default or Event of Default (or, in the case of clauses (i), (ii), or (iii), to the extent of any non-compliance, describing such non-compliance as to which he or she may have knowledge and what action Borrower has taken, is taking, or proposes to take with respect thereto). Borrower shall have issued written instructions to its independent certified public accountants authorizing them to communicate with Lender and to release to Lender whatever financial information concerning Borrower that Lender may request. Borrower hereby irrevocably authorizes and directs all auditors, accountants, or other third parties to deliver to Lender, at Borrower's expense, copies of Borrower's financial statements, papers related thereto, and other accounting records of any nature in their possession, and to disclose to Lender any information they may have regarding Borrower's business affairs and financial conditions. 6.4 Tax Returns. Deliver to Lender copies of each of Borrower's future federal income tax returns, and any amendments thereto, within 30 days of the filing thereof with the Internal Revenue Service. 6.5 Guarantor Reports. Cause any Guarantor to deliver its annual financial statements at the time when Borrower provides its audited financial statements to Lender and copies of all federal income tax returns as soon as the same are available and in any event no later than 30 days after the same are required to be filed by law. 6.6 Returns. Cause returns and allowances, if any, as between Borrower and its Account Debtors to be on the same basis and in accordance with the usual customary practices of Borrower, as they exist at the time of the execution and delivery of this Agreement. If, at a time when no Event of Default has occurred and is continuing, any Account Debtor returns any Inventory to Borrower, Borrower promptly shall determine the reason for such return and, if Borrower accepts such return, issue a credit memorandum (with a copy to be sent to Lender) in the appropriate amount to such Account Debtor. If, at a time when an Event of Default has occurred and is continuing, any Account Debtor returns any Inventory to Borrower, Borrower promptly shall determine the reason for such return and, if Lender consents (which -26- consent shall not be unreasonably withheld), issue a credit memorandum (with a copy to be sent to Lender) in the appropriate amount to such Account Debtor. 6.7 Title to Equipment. Upon Lender's request, Borrower immediately shall deliver to Lender, properly endorsed, any and all evidences of ownership of, certificates of title, or applications for title to any items of Equipment. 6.8 Maintenance of Equipment. Maintain the Equipment in good operating condition and repair (ordinary wear and tear excepted), and make all necessary replacements thereto so that the value and operating efficiency thereof shall at all times be maintained and preserved. Other than those items of Equipment that constitute fixtures on the Closing Date, Borrower shall not permit any item of Equipment to become a fixture to real estate or an accession to other property, and such Equipment shall at all times remain personal property. 6.9 Taxes. Cause all assessments and taxes, whether real, personal, or otherwise, due or payable by, or imposed, levied, or assessed against Borrower or any of its property to be paid in full, before delinquency or before the expiration of any extension period, except to the extent that the validity of such assessment or tax shall be the subject of a Permitted Protest. Borrower shall make due and timely payment or deposit of all such federal, state, and local taxes, assessments, or contributions required of it by law, and will execute and deliver to Lender, on demand, appropriate certificates attesting to the payment thereof or deposit with respect thereto. Borrower will make timely payment or deposit of all tax payments and withholding taxes required of it by applicable laws, including those laws concerning F.I.C.A., F.U.T.A., state disability, and local, state, and federal income taxes, and will, upon request, furnish Lender with proof satisfactory to Lender indicating that Borrower has made such payments or deposits. 6.10 Insurance. (a) At its expense, keep the Collateral insured against loss or damage by fire, theft, explosion, sprinklers, and all other hazards and risks, and in such amounts, as are ordinarily insured against by other owners in similar businesses. Borrower also shall maintain business interruption, public liability, product liability, and property damage insurance relating to Borrower's ownership and use of the Collateral, as well as insurance against larceny, embezzlement, and criminal misappropriation. (b) All such policies of insurance shall be in such form, with such companies, and in such commercially reasonable amounts as may be reasonably satisfactory to Lender. All insurance required herein shall be written by companies which are authorized to do insurance business in the State of California. All hazard insurance and such other insurance as Lender shall specify, shall contain a California Form 438BFU (NS) mortgagee endorsement, or an equivalent endorsement satisfactory to Lender, showing Lender as sole loss payee thereof, and shall contain a waiver of warranties. Every policy of insurance referred to in this Section 6.10 shall contain an agreement by the ------------ insurer that it will not cancel such policy except after 30 days prior written notice to Lender and that any loss payable thereunder shall be payable notwithstanding any act or negligence of Borrower or Lender which might, absent such -27- agreement, result in a forfeiture of all or a part of such insurance payment. Borrower shall deliver to Lender certified copies of such policies of insurance and evidence of the payment of all premiums therefor. (c) Original policies or certificates thereof satisfactory to Lender evidencing such insurance shall be delivered to Lender at least 30 days prior to the expiration of the existing or preceding policies. Borrower shall give Lender prompt notice of any loss covered by such insurance, and Lender shall have the right to adjust any loss. Lender shall have the exclusive right to adjust all losses payable under any such insurance policies without any liability to Borrower whatsoever in respect of such adjustments. Any monies received as payment for any loss under any insurance policy including the insurance policies mentioned above, shall be paid over to Lender to be applied at the option of Lender either to the prepayment of the Obligations without premium, in such order or manner as Lender may elect, or shall be disbursed to Borrower under stage payment terms satisfactory to Lender for application to the cost of repairs, replacements, or restorations. All repairs, replacements, or restorations shall be effected with reasonable promptness and shall be of a value at least equal to the value of the items or property destroyed prior to such damage or destruction. Upon the occurrence of an Event of Default, Lender shall have the right to apply all prepaid premiums to the payment of the Obligations in such order or form as Lender shall determine. (d) Borrower shall not take out separate insurance concurrent in form or contributing in the event of loss with that required to be maintained under this Section 6.10, unless Lender is included thereon as named insured with the ------------ loss payable to Lender under a standard California 438BFU (NS) Mortgagee endorsement, or its local equivalent. Borrower immediately shall notify Lender whenever such separate insurance is taken out, specifying the insurer thereunder and full particulars as to the policies evidencing the same, and originals of such policies immediately shall be provided to Lender. 6.11 No Setoffs or Counterclaims. Make payments hereunder and under the other Loan Documents by or on behalf of Borrower without setoff or counterclaim and free and clear of, and without deduction or withholding for or on account of, any federal, state, or local taxes. 6.12 Location of Inventory and Equipment. Keep the Inventory and Equipment only at the locations identified on Schedule 6.12; provided, however, ------------- -------- ------- that Borrower may amend Schedule 6.12 so long as such amendment occurs by ------------- written notice to Lender not less than 30 days prior to the date on which the Inventory or Equipment is moved to such new location, so long as such new location is within the continental United States, and so long as, at the time of such written notification, Borrower provides any financing statements or fixture filings necessary to perfect and continue perfected Lender's security interests in such assets and also provides to Lender a Collateral Access Agreement. 6.13 Compliance with Laws. Comply with the requirements of all applicable laws, rules, regulations, and orders of any governmental authority, including the Fair Labor Standards Act and the Americans With Disabilities Act, other than laws, rules, regulations, and -28- orders the non-compliance with which, individually or in the aggregate, would not have and could not reasonably be expected to have a Material Adverse Change. 6.14 Employee Benefits. (a) Promptly, and in any event within 10 Business Days after Borrower or any of its Subsidiaries knows or has reason to know that an ERISA Event has occurred that reasonably could be expected to result in a Material Adverse Change, a written statement of the chief financial officer of Borrower describing such ERISA Event and any action that is being taking with respect thereto by Borrower, any such Subsidiary or ERISA Affiliate, and any action taken or threatened by the IRS, Department of Labor, or PBGC. Borrower or such Subsidiary, as applicable, shall be deemed to know all facts known by the administrator of any Benefit Plan of which it is the plan sponsor, (ii) promptly, and in any event within 3 Business Days after the filing thereof with the IRS, a copy of each funding waiver request filed with respect to any Benefit Plan and all communications received by Borrower, any of its Subsidiaries or, to the knowledge of Borrower, any ERISA Affiliate with respect to such request, and (iii) promptly, and in any event within 3 Business Days after receipt by Borrower, any of its Subsidiaries or, to the knowledge of Borrower, any ERISA Affiliate, of the PBGC's intention to terminate a Benefit Plan or to have a trustee appointed to administer a Benefit Plan, copies of each such notice. (b) Cause to be delivered to Lender, upon Lender's request, each of the following: (i) a copy of each Plan (or, where any such plan is not in writing, complete description thereof) (and if applicable, related trust agreements or other funding instruments) and all amendments thereto, all written interpretations thereof and written descriptions thereof that have been distributed to employees or former employees of Borrower or its Subsidiaries; (ii) the most recent determination letter issued by the IRS with respect to each Benefit Plan; (iii) for the three most recent plan years, annual reports on Form 5500 Series required to be filed with any governmental agency for each Benefit Plan; (iv) all actuarial reports prepared for the last three plan years for each Benefit Plan; (v) a listing of all Multiemployer Plans, with the aggregate amount of the most recent annual contributions required to be made by Borrower or any ERISA Affiliate to each such plan and copies of the collective bargaining agreements requiring such contributions; (vi) any information that has been provided to Borrower or any ERISA Affiliate regarding withdrawal liability under any Multiemployer Plan; and (vii) the aggregate amount of the most recent annual payments made to former employees of Borrower or its Subsidiaries under any Retiree Health Plan. 6.15 Leases. Pay when due all rents and other amounts payable under any leases to which Borrower is a party or by which Borrower's properties and assets are bound, unless such payments are the subject of a Permitted Protest. 7. NEGATIVE COVENANTS. Borrower covenants and agrees that, so long as any credit hereunder shall be available and until full and final payment of the Obligations, Borrower will not and will not -29- permit any Guarantor to do any of the following without Lender's prior written consent (and each reference to Borrower also shall be deemed to include the Guarantors): 7.1 Indebtedness. Create, incur, assume, permit, guarantee, or otherwise become or remain, directly or indirectly, liable with respect to any Indebtedness, except: (a) Indebtedness evidenced by this Agreement; (b) Indebtedness set forth in the latest financial statements of Borrower submitted to Lender on or prior to the Closing Date (other than the Indebtedness owed to Existing Lender); (c) Indebtedness owed by one Obligor to another Obligor, so long as such Indebtedness is unsecured and is the subject of the Subordination Agreement; (d) Indebtedness secured by Permitted Liens; (e) refinancings, renewals, or extensions of Indebtedness permitted under clauses (b) and (d) of this Section 7.1 (and continuance or renewal of any Permitted Liens associated therewith) so long as: (i) the terms and conditions of such refinancings, renewals, or extensions do not materially impair the prospects of repayment of the Obligations by Borrower, (ii) the net cash proceeds of such refinancings, renewals, or extensions do not result in an increase in the aggregate principal amount of the Indebtedness so refinanced, renewed, or extended, (iii) such refinancings, renewals, refundings, or extensions do not result in a shortening of the average weighted maturity of the Indebtedness so refinanced, renewed, or extended, and (iv) to the extent that Indebtedness that is refinanced was subordinated in right of payment to the Obligations, then the subordination terms and conditions of the refinancing Indebtedness must be at least as favorable to Lender as those applicable to the refinanced Indebtedness; and [(f) Indebtedness in an aggregate amount not to exceed $200,000 owed by Borrower to Intel Corporation for the purchase of certain Equipment from Intel Corporation.] 7.2 Liens. Create, incur, assume, or permit to exist, directly or indirectly, any Lien on or with respect to any of its property or assets, of any kind, whether now owned or hereafter acquired, or any income or profits therefrom, except for Permitted Liens (including Liens that are replacements of Permitted Liens to the extent that the original Indebtedness is refinanced under Section 7.1(d) and so long as the replacement Liens only encumber those assets - -------------- or property that secured the original Indebtedness). 7.3 Restrictions on Fundamental Changes. Enter into any merger, consolidation, reorganization, or recapitalization, or reclassify its capital Stock, or liquidate, wind up, or dissolve itself (or suffer any liquidation or dissolution), or convey, sell, assign, lease, transfer, or otherwise dispose of, in one transaction or a series of transactions, all or any substantial part of its property or assets. Without in any way limiting the generality of the -30- foregoing, no Inactive Subsidiary shall acquire any property or assets, and other than with respect to StarPress' internet business located in Venice, California, no Guarantor or Inactive Subsidiary shall engage in any business. 7.4 Disposal of Assets. Except for Permitted Dispositions, sell, lease, assign, transfer, or otherwise dispose of any of Borrower's properties or assets other than sales of Inventory to buyers in the ordinary course of Borrower's business as currently conducted. 7.5 Change Name. Change Borrower's name, FEIN, corporate structure (within the meaning of Section 9-402(7) of the Code), or identity, or add any new fictitious name. 7.6 Guarantee. Guarantee or otherwise become in any way liable with respect to the obligations of any third Person which is not Borrower or a Guarantor except by endorsement of instruments or items of payment for deposit to the account of Borrower or which are transmitted or turned over to Lender. 7.7 Nature of Business. Make any change in the principal nature of Borrower's business. 7.8 Prepayments and Amendments. (a) Except in connection with a refinancing permitted by Section ------- 7.1(d), prepay, redeem, retire, defease, purchase, or otherwise acquire any - ------ Indebtedness owing to any third Person, other than the Obligations in accordance with this Agreement, and (b) Directly or indirectly, amend, modify, alter, increase, or change any of the terms or conditions of any agreement, instrument, document, indenture, or other writing evidencing or concerning Indebtedness permitted under Sections 7.1(b), (c), or (d). ---------------------------- 7.9 Change of Control. Cause, permit, or suffer, directly or indirectly, any Change of Control. 7.10 Consignments. Consign any Inventory or sell any Inventory on bill and hold, sale or return, sale on approval, or other conditional terms of sale. 7.11 Distributions. Make any distribution or declare or pay any dividends (in cash or other property, other than capital Stock) on, or purchase, acquire, redeem, or retire any of Borrower's capital Stock, of any class, whether now or hereafter outstanding. 7.12 Accounting Methods. Modify or change its method of accounting or enter into, modify, or terminate any agreement currently existing, or at any time hereafter entered into with any third party accounting firm or service bureau for the preparation or storage of Borrower's accounting records without said accounting firm or service bureau agreeing to provide Lender information regarding the Collateral or Borrower's financial condition. Borrower waives the right to assert a confidential relationship, if any, it may have with any -31- accounting firm or service bureau in connection with any information requested by Lender pursuant to or in accordance with this Agreement, and agrees that Lender may contact directly any such accounting firm or service bureau in order to obtain such information. 7.13 Investments. Directly or indirectly make, acquire, or incur any liabilities (including contingent obligations) for or in connection with (a) the acquisition of the securities (whether debt or equity) of, or other interests in, a Person; provided, however, that, so long as no Default or Event of Default -------- ------- has occurred and is continuing, Borrower shall be entitled to make investments under this clause (a) during the term of this Agreement in an aggregate amount ---------- not to exceed $500,000, (b) loans, advances, capital contributions, or transfers of property to a Person, or (c) the acquisition of all or substantially all of the properties or assets of a Person. 7.14 Transactions with Affiliates. Directly or indirectly enter into or permit to exist any material transaction with any Affiliate of Borrower except for transactions that are in the ordinary course of Borrower's business, upon fair and reasonable terms, that are fully disclosed to Lender, and that are no less favorable to Borrower than would be obtained in an arm's length transaction with a non-Affiliate. 7.15 Suspension. Other than the suspension of StarPress' internet business located in Venice, California, suspend or go out of a substantial portion of its business. 7.16 Compensation. Increase the annual fee or per-meeting fees paid to directors during any year by more than 15% over the prior year; pay or accrue total cash compensation, during any year, to officers and senior management employees in an aggregate amount in excess of 115% of that paid or accrued in the prior year; provided, however, that if Borrower hires or appoints a chief -------- ------- financial officer (who is not a replacement for another officer), the total cash compensation paid or accrued by Borrower with respect to such individual (the "Additive Amount") during such year of hire or appointment (the "Hire Year") shall not be included in the aggregate amount of total cash compensation paid or accrued by Borrower for purposes of calculating whether Borrower exceeded the aggregate amount of total cash compensation allowable during such year; provided -------- further, however, that, in the year following the Hire Year, the Additive Amount - ------- ------- (annualized if the individual was hired or appointed for less than a full year) shall be included in the aggregate amount of total cash compensation paid or accrued by Borrower for the Hire Year solely for the purpose of calculating the total cash compensation paid or accrued by Borrower for the prior year. 7.17 Use of Proceeds. Use the proceeds of the Term Loan made hereunder for any purpose other than (a) on the Closing Date, (i) to repay (y) in full the outstanding principal, accrued interest, and accrued fees and expenses owing to Existing Lender and (z) trade payables; provided, however, -------- ------- that not more than $3,000,000 of the proceeds of the Term Loan may be used to complete the payments under this clause (i), and (ii) to pay transactional costs ---------- and expenses incurred in connection with this Agreement, and (b) thereafter, consistent with the terms and conditions hereof, for its lawful and permitted corporate purposes. -32- 7.18 Change in Location of Chief Executive Office; Inventory and Equipment with Bailees. Relocate its chief executive office to a new location without providing 30 days prior written notification thereof to Lender and so long as, at the time of such written notification, Borrower provides any financing statements or fixture filings necessary to perfect and continue perfected Lender's security interests and also provides to Lender a Collateral Access Agreement with respect to such new location. The Inventory and Equipment shall not at any time now or hereafter be stored with a bailee, warehouseman, or similar party without Lender's prior written consent. 7.19 No Prohibited Transactions Under ERISA. Directly or indirectly: (a) engage, or permit any Subsidiary of Borrower to engage, in any prohibited transaction which is reasonably likely to result in a civil penalty or excise tax described in Sections 406 of ERISA or 4975 of the IRC for which a statutory or class exemption is not available or a private exemption has not been previously obtained from the Department of Labor; (b) permit to exist with respect to any Benefit Plan any accumulated funding deficiency (as defined in Sections 302 of ERISA and 412 of the IRC), whether or not waived; (c) fail, or permit any Subsidiary of Borrower to fail, to pay timely required contributions or annual installments due with respect to any waived funding deficiency to any Benefit Plan; (d) terminate, or permit any Subsidiary of Borrower to terminate, any Benefit Plan where such event would result in any liability of Borrower, any of its Subsidiaries or any ERISA Affiliate under Title IV of ERISA; (e) fail, or permit any Subsidiary of Borrower to fail, to make any required contribution or payment to any Multiemployer Plan; (f) fail, or permit any Subsidiary of Borrower to fail, to pay any required installment or any other payment required under Section 412 of the IRC on or before the due date for such installment or other payment; (g) amend, or permit any Subsidiary of Borrower to amend, a Plan resulting in an increase in current liability for the plan year such that either of Borrower, any Subsidiary of Borrower or any ERISA Affiliate is required to provide security to such Plan under Section 401(a)(29) of the IRC; or (h) withdraw, or permit any Subsidiary of Borrower to withdraw, from any Multiemployer Plan where such withdrawal is reasonably likely to result in any liability of any such entity under Title IV of ERISA; -33- which, individually or in the aggregate, results in or reasonably would be expected to result in a claim against or liability of Borrower, any of its Subsidiaries or any ERISA Affiliate in excess of $100,000. 7.20 Financial Covenants. Fail to maintain: (a) Current Ratio. A ratio of Consolidated Current Assets divided by Consolidated Current Liabilities of at least 0.75: 1.0, measured on a fiscal quarter-end basis; (b) Total Liabilities to Tangible Net Worth Ratio. A ratio of Borrower's total liabilities divided by Tangible Net Worth of 30: 1.0, or less, measured on a fiscal quarter-end basis; (c) Tangible Net Worth. Tangible Net Worth of at least $300,000, measured on a fiscal quarter-end basis; and 7.21 Capital Expenditures. Make capital expenditures in any fiscal year in excess of $200,000. 8. EVENTS OF DEFAULT. Any one or more of the following events shall constitute an event of default (each, an "Event of Default") under this Agreement: 8.1 If any Obligor (a) fails to pay any installment of principal of the Term Loan when due, whether at stated maturity, by acceleration, by notice of required prepayment, or otherwise, or (b) fails to pay any interest (including any interest which, but for the provisions of the Bankruptcy Code, would have accrued on such amounts), Lender Expenses, or other amounts constituting Obligations (other than amounts covered by clause (a) above) when --------- due, if, in any such case under this clause (b), such payment is not made within ---------- 5 days after the date that such payment was first due; 8.2 If any Obligor (a) fails to perform, keep, or observe any term, provision, condition, covenant, or agreement contained in Section 6 of this --------- Agreement and such failure continues for a period of 14 days from the date of such failure, or (b) fails to perform, keep, or observe any other term, provision, condition, covenant, or agreement contained in this Agreement, in any of the Loan Documents, or in any other present or future agreement between one or more of the Obligors and Lender (other than any such term, provision, condition, covenant, or agreement that is the subject of another provision of this Section 8); --------- 8.3 If there is a Material Adverse Change; 8.4 If any portion of any Obligor's properties or assets is attached, seized, subjected to a writ or distress warrant, or is levied upon, or comes into the possession of any third Person and such attachment, seizure, writ, warrant, or levy involves a claim of $100,000 or more, and is not released, discharged, or bonded against before the earlier of 30 days from -34- the date it first arises or 5 days from the date when such property or asset is subjected to being forfeited by the respective Obligor; 8.5 If an Insolvency Proceeding is commenced by any Obligor; 8.6 If an Insolvency Proceeding is commenced against Borrower and any of the following events occur: (a) any Obligor consents to the institution of the Insolvency Proceeding against it; (b) the petition commencing the Insolvency Proceeding is not timely controverted; (c) the petition commencing the Insolvency Proceeding is not dismissed within 45 calendar days of the date of the filing thereof; provided, however, that, during the pendency of such period, -------- ------- Lender shall be relieved of its obligation to extend credit hereunder; (d) an interim trustee is appointed to take possession of all or a substantial portion of the properties or assets of, or to operate all or any substantial portion of the business of, Borrower; or (e) an order for relief shall have been issued or entered therein; 8.7 If any Obligor is enjoined, restrained, or in any way prevented by court order from continuing to conduct all or any material part of its business affairs; 8.8 If a notice of Lien, levy, or assessment is filed of record with respect to any of Borrower's or any Guarantor's properties or assets by the United States Government, or any department, agency, or instrumentality thereof, or by any state, county, municipal, or governmental agency, or if any taxes or debts owing at any time hereafter to any one or more of such entities becomes a Lien, whether choate or otherwise, upon any of Borrower's or any Guarantor's properties or assets and the same is not paid on the payment date thereof; 8.9 If a judgment or other claim becomes a Lien or encumbrance upon any material portion of any Obligor's properties or assets; 8.10 If there is a default after the expiration of any applicable cure periods in any material agreement to which an Obligor is a party with one or more third Persons and such default (a) occurs at the final maturity of the obligations thereunder, or (b) results in a right by such third Person(s), irrespective of whether exercised, to accelerate the maturity of such Obligor's obligations thereunder; 8.11 If any Obligor makes any payment on account of Indebtedness that has been contractually subordinated in right of payment to the payment of the Obligations, except to the extent such payment is permitted by the terms of the subordination provisions applicable to such Indebtedness; 8.12 If any misstatement or misrepresentation exists now or hereafter in any warranty, representation, statement, or report made to Lender by an Obligor or any officer, employee, agent, or director of such Obligor, or if any such warranty or representation is withdrawn; or 8.13 If the obligation of any Guarantor or other third Person under any Loan Document is limited or terminated by operation of law or by such Guarantor or other third -35- Person thereunder, or any such Guarantor or other third Person becomes the subject of an Insolvency Proceeding. 9. LENDER'S RIGHTS AND REMEDIES. 9.1 Rights and Remedies. Upon the occurrence, and during the continuation, of an Event of Default Lender may, at its election, without notice of its election and without demand, do any one or more of the following, all of which are authorized by Borrower: (a) Declare all Obligations, whether evidenced by this Agreement, by any of the other Loan Documents, or otherwise, immediately due and payable; (b) Cease advancing money or extending credit to or for the benefit of Borrower under this Agreement, under any of the Loan Documents, or under any other agreement between Borrower and Lender; (c) Terminate this Agreement and any of the other Loan Documents as to any future liability or obligation of Lender, but without affecting Lender's rights and security interests in the Collateral and without affecting the Obligations; (d) Settle or adjust disputes and claims directly with Account Debtors for amounts and upon terms which Lender considers advisable, and in such cases, Lender will credit Borrower's Loan Account with only the net amounts received by Lender in payment of such disputed Accounts after deducting all Lender Expenses incurred or expended in connection therewith; (e) Cause Borrower to hold all returned Inventory in trust for Lender, segregate all returned Inventory from all other property of Borrower or in Borrower's possession and conspicuously label said returned Inventory as the property of Lender; (f) Without notice to or demand upon Borrower or any Guarantor, make such payments and do such acts as Lender considers necessary or reasonable to protect its security interests in the Collateral. Borrower agrees to assemble the Collateral if Lender so requires, and to make the Collateral available to Lender as Lender may designate. Borrower authorizes Lender to enter the premises where the Collateral is located, to take and maintain possession of the Collateral, or any part of it, and to pay, purchase, contest, or compromise any encumbrance, charge, or Lien that in Lender's determination appears to conflict with its security interests and to pay all expenses incurred in connection therewith. With respect to any of Borrower's owned or leased premises, Borrower hereby grants Lender a license to enter into possession of such premises and to occupy the same, without charge, for up to 120 days in order to exercise any of Lender's rights or remedies provided herein, at law, in equity, or otherwise; (g) Without notice to Borrower (such notice being expressly waived), and without constituting a retention of any collateral in satisfaction of an obligation (within the meaning of Section 9-505 of the Code), set off and apply to the Obligations any and all (i) -36- balances and deposits of Borrower held by Lender, or (ii) indebtedness at any time owing to or for the credit or the account of Borrower held by Lender; (h) Hold, as cash collateral, any and all balances and deposits of Borrower held by Lender to secure the full and final repayment of all of the Obligations; (i) Ship, reclaim, recover, store, finish, maintain, repair, prepare for sale, advertise for sale, and sell (in the manner provided for herein) the Collateral. Lender is hereby granted a license or other right to use, without charge, Borrower's labels, patents, copyrights, rights of use of any name, trade secrets, trade names, trademarks, service marks, and advertising matter, or any property of a similar nature, as it pertains to the Collateral, in completing production of, advertising for sale, and selling any Collateral and Borrower's rights under all licenses and all franchise agreements shall inure to Lender's benefit; (j) Sell the Collateral at either a public or private sale, or both, by way of one or more contracts or transactions, for cash or on terms, in such manner and at such places (including Borrower's premises) as Lender determines is commercially reasonable. It is not necessary that the Collateral be present at any such sale; (k) Lender shall give notice of the disposition of the Collateral as follows: (1) Lender shall give Borrower and each holder of a security interest in the Collateral who has filed with Lender a written request for notice, a notice in writing of the time and place of public sale, or, if the sale is a private sale or some other disposition other than a public sale is to be made of the Collateral, then the time on or after which the private sale or other disposition is to be made; (2) The notice shall be personally delivered or mailed, postage prepaid, to Borrower as provided in Section 12, at least 5 days before the date ---------- fixed for the sale, or at least 5 days before the date on or after which the private sale or other disposition is to be made; no notice needs to be given prior to the disposition of any portion of the Collateral that is perishable or threatens to decline speedily in value or that is of a type customarily sold on a recognized market. Notice to Persons other than Borrower claiming an interest in the Collateral shall be sent to such addresses as they have furnished to Lender; (3) If the sale is to be a public sale, Lender also shall give notice of the time and place by publishing a notice one time at least 5 days before the date of the sale in a newspaper of general circulation in the county in which the sale is to be held; (l) Lender may credit bid and purchase at any public sale; and (m) Any deficiency that exists after disposition of the Collateral as provided above will be paid immediately by Borrower. Any excess will be returned, without interest and subject to the rights of third Persons, by Lender to Borrower. -37- 9.2 Remedies Cumulative. Lender's rights and remedies under this Agreement, the Loan Documents, and all other agreements shall be cumulative. Lender shall have all other rights and remedies not inconsistent herewith as provided under the Code, by law, or in equity. No exercise by Lender of one right or remedy shall be deemed an election, and no waiver by Lender of any Event of Default shall be deemed a continuing waiver. No delay by Lender shall constitute a waiver, election, or acquiescence by it. 10. TAXES AND EXPENSES. If Borrower or a Guarantor fails to pay any monies (whether taxes, assessments, insurance premiums, or, in the case of leased properties or assets, rents or other amounts payable under such leases) due to third Persons, or fails to make any deposits or furnish any required proof of payment or deposit, all as required under the terms of this Agreement, then, to the extent that Lender determines that such failure by Borrower could result in a Material Adverse Change, in its discretion and without prior notice to Borrower, Lender may do any or all of the following: (a) make payment of the same or any part thereof, or (b) obtain and maintain insurance policies of the type described in Section ------- 6.10, and take any action with respect to such policies as Lender deems prudent. - ---- Any such amounts paid by Lender shall constitute Lender Expenses. Any such payments made by Lender shall not constitute an agreement by Lender to make similar payments in the future or a waiver by Lender of any Event of Default under this Agreement. Lender need not inquire as to, or contest the validity of, any such expense, tax, or Lien and the receipt of the usual official notice for the payment thereof shall be conclusive evidence that the same was validly due and owing. 11. WAIVERS; INDEMNIFICATION. 11.1 Demand; Protest; etc. Borrower waives demand, protest, notice of protest, notice of default or dishonor, notice of payment and nonpayment, nonpayment at maturity, release, compromise, settlement, extension, or renewal of accounts, documents, instruments, chattel paper, and guarantees at any time held by Lender on which Borrower may in any way be liable. 11.2 Lender's Liability for Collateral. So long as Lender complies with its obligations, if any, under Section 9-207 of the Code, Lender shall not in any way or manner be liable or responsible for: (a) the safekeeping of the Collateral; (b) any loss or damage thereto occurring or arising in any manner or fashion from any cause; (c) any diminution in the value thereof; or (d) any act or default of any carrier, warehouseman, bailee, forwarding agency, or other Person. All risk of loss, damage, or destruction of the Collateral shall be borne by Borrower. 11.3 Indemnification. Borrower shall pay, indemnify, defend, and hold Lender, each Participant, and each of their respective officers, directors, employees, counsel, agents, and attorneys-in-fact (each, an "Indemnified Person") harmless (to the fullest extent permitted by law) from and against any and all claims, demands, suits, actions, investigations, proceedings, and damages, and all reasonable attorneys fees and disbursements and other costs and expenses actually incurred in connection therewith (as and when they are incurred and -38- irrespective of whether suit is brought), at any time asserted against, imposed upon, or incurred by any of them in connection with or as a result of or related to the execution, delivery, enforcement, performance, and administration of this Agreement and any other Loan Documents or the transactions contemplated herein, and with respect to any investigation, litigation, or proceeding related to this Agreement, any other Loan Document, or the use of the proceeds of the credit provided hereunder (irrespective of whether any Indemnified Person is a party thereto), or any act, omission, event or circumstance in any manner related thereto (all the foregoing, collectively, the "Indemnified Liabilities"). Borrower shall have no obligation to any Indemnified Person under this Section ------- 11.3 with respect to any Indemnified Liability that a court of competent - ---- jurisdiction finally determines to have resulted from the gross negligence or willful misconduct of such Indemnified Person. This provision shall survive the termination of this Agreement and the repayment of the Obligations. 12. NOTICES. Unless otherwise provided in this Agreement, all notices or demands by any party relating to this Agreement or any other Loan Document shall be in writing and (except for financial statements and other informational documents which may be sent by first-class mail, postage prepaid) shall be personally delivered or sent by registered or certified mail (postage prepaid, return receipt requested), overnight courier, or telefacsimile to Borrower or to Lender, as the case may be, at its address set forth below: If to Borrower: GRAPHIX ZONE, INC. 42 Corporate Park, Suite 200 Irvine, California 92606 Attn: Mr. Norman Block Fax No. 714.833.3990 with copies to: SNELL & WILMER L.L.P. 1920 Main Street, Suite 1200 Irvine, California 92614 Attn: Gregg A. Amber, Esq. Fax No. 714.955.2507 If to Lender: MADELEINE L.L.C. 450 Third Avenue 28th Floor New York, New York 10022 Attn: Mr. Kevin P. Genda Fax No. 212.758.5305 -39- with copies to: BROBECK, PHLEGER & HARRISON LLP 550 South Hope Street Los Angeles, California 90071 Attn: John Francis Hilson, Esq. Fax No. 213.745.3345 The parties hereto may change the address at which they are to receive notices hereunder, by notice in writing in the foregoing manner given to the other. All notices or demands sent in accordance with this Section 12, other ---------- than notices by Lender in connection with Sections 9-504 or 9-505 of the Code, shall be deemed received on the earlier of the date of actual receipt or 3 days after the deposit thereof in the mail. Borrower acknowledges and agrees that notices sent by Lender in connection with Sections 9-504 or 9-505 of the Code shall be deemed sent when deposited in the mail or personally delivered, or, where permitted by law, transmitted telefacsimile or other similar method set forth above. 13. CHOICE OF LAW AND VENUE; JURY TRIAL WAIVER. THE VALIDITY OF THIS AGREEMENT AND THE OTHER LOAN DOCUMENTS (UNLESS EXPRESSLY PROVIDED TO THE CONTRARY IN AN ANOTHER LOAN DOCUMENT), THE CONSTRUCTION, INTERPRETATION, AND ENFORCEMENT HEREOF AND THEREOF, AND THE RIGHTS OF THE PARTIES HERETO AND THERETO WITH RESPECT TO ALL MATTERS ARISING HEREUNDER OR THEREUNDER OR RELATED HERETO OR THERETO SHALL BE DETERMINED UNDER, GOVERNED BY, AND CONSTRUED IN ACCORDANCE WITH THE LAWS OF THE STATE OF NEW YORK. THE PARTIES AGREE THAT ALL ACTIONS OR PROCEEDINGS ARISING IN CONNECTION WITH THIS AGREEMENT AND THE OTHER LOAN DOCUMENTS SHALL BE TRIED AND LITIGATED ONLY IN THE STATE AND FEDERAL COURTS LOCATED IN THE COUNTY OF NEW YORK, STATE OF NEW YORK OR, AT THE SOLE OPTION OF LENDER, IN ANY OTHER COURT IN WHICH LENDER SHALL INITIATE LEGAL OR EQUITABLE PROCEEDINGS AND WHICH HAS SUBJECT MATTER JURISDICTION OVER THE MATTER IN CONTROVERSY. EACH OF BORROWER AND LENDER WAIVES, TO THE EXTENT PERMITTED UNDER APPLICABLE LAW, ANY RIGHT EACH MAY HAVE TO ASSERT THE DOCTRINE OF FORUM NON CONVENIENS OR TO OBJECT TO VENUE TO THE EXTENT ANY PROCEEDING IS BROUGHT IN ACCORDANCE WITH THIS SECTION 13. BORROWER AND ---------- LENDER HEREBY WAIVE THEIR RESPECTIVE RIGHTS TO A JURY TRIAL OF ANY CLAIM OR CAUSE OF ACTION BASED UPON OR ARISING OUT OF ANY OF THE LOAN DOCUMENTS OR ANY OF THE TRANSACTIONS CONTEMPLATED THEREIN, INCLUDING CONTRACT CLAIMS, TORT CLAIMS, BREACH OF DUTY CLAIMS, AND ALL OTHER COMMON LAW OR STATUTORY CLAIMS. EACH OF BORROWER AND LENDER REPRESENTS -40- THAT IT HAS REVIEWED THIS WAIVER AND EACH KNOWINGLY AND VOLUNTARILY WAIVES ITS JURY TRIAL RIGHTS FOLLOWING CONSULTATION WITH LEGAL COUNSEL. IN THE EVENT OF LITIGATION, A COPY OF THIS AGREEMENT MAY BE FILED AS A WRITTEN CONSENT TO A TRIAL BY THE COURT. 14. DESTRUCTION OF BORROWER'S DOCUMENTS. All documents, schedules, invoices, agings, or other papers delivered to Lender may be destroyed or otherwise disposed of by Lender 4 months after they are delivered to or received by Lender, unless Borrower requests, in writing, the return of said documents, schedules, or other papers and makes arrangements, at Borrower's expense, for their return. 15. GENERAL PROVISIONS. 15.1 Effectiveness. This Agreement shall be binding and deemed effective when executed by Borrower and Lender. 15.2 Successors and Assigns. This Agreement shall bind and inure to the benefit of the respective successors and assigns of each of the parties; provided, however, that Borrower may not assign this Agreement or any rights or - -------- ------- duties hereunder without Lender's prior written consent and any prohibited assignment shall be absolutely void. No consent to an assignment by Lender shall release Borrower from its Obligations. Lender may assign this Agreement and its rights and duties hereunder and no consent or approval by Borrower is required in connection with any such assignment. Lender reserves the right to sell, assign, transfer, negotiate, or grant participations in all or any part of, or any interest in Lender's rights and benefits hereunder. In connection with any such assignment or participation, Lender may disclose all documents and information which Lender now or hereafter may have relating to Borrower or Borrower's business. To the extent that Lender assigns its rights and obligations hereunder to a third Person, Lender thereafter shall be released from such assigned obligations to Borrower and such assignment shall effect a novation between Borrower and such third Person. 15.3 Section Headings. Headings and numbers have been set forth herein for convenience only. Unless the contrary is compelled by the context, everything contained in each section applies equally to this entire Agreement. 15.4 Interpretation. Neither this Agreement nor any uncertainty or ambiguity herein shall be construed or resolved against Lender or Borrower, whether under any rule of construction or otherwise. On the contrary, this Agreement has been reviewed by all parties and shall be construed and interpreted according to the ordinary meaning of the words used so as to fairly accomplish the purposes and intentions of all parties hereto. 15.5 Severability of Provisions. Each provision of this Agreement shall be severable from every other provision of this Agreement for the purpose of determining the legal enforceability of any specific provision. -41- 15.6 Amendments in Writing. This Agreement can only be amended by a writing signed by both Lender and Borrower. 15.7 Counterparts; Telefacsimile Execution. This Agreement may be executed in any number of counterparts and by different parties on separate counterparts, each of which, when executed and delivered, shall be deemed to be an original, and all of which, when taken together, shall constitute but one and the same Agreement. Delivery of an executed counterpart of this Agreement by telefacsimile shall be equally as effective as delivery of an original executed counterpart of this Agreement. Any party delivering an executed counterpart of this Agreement by telefacsimile also shall deliver an original executed counterpart of this Agreement but the failure to deliver an original executed counterpart shall not affect the validity, enforceability, and binding effect of this Agreement. 15.8 Revival and Reinstatement of Obligations. If the incurrence or payment of the Obligations by Borrower or any Guarantor of the Obligations or the transfer by either or both of such parties to Lender of any property of either or both of such parties should for any reason subsequently be declared to be void or voidable under any state or federal law relating to creditors' rights, including provisions of the Bankruptcy Code relating to fraudulent conveyances, preferences, and other voidable or recoverable payments of money or transfers of property (collectively, a "Voidable Transfer"), and if Lender is required to repay or restore, in whole or in part, any such Voidable Transfer, or elects to do so upon the reasonable advice of its counsel, then, as to any such Voidable Transfer, or the amount thereof that Lender is required or elects to repay or restore, and as to all reasonable costs, expenses, and attorneys fees of Lender related thereto, the liability of Borrower or such Guarantor automatically shall be revived, reinstated, and restored and shall exist as though such Voidable Transfer had never been made. 15.9 Integration. This Agreement, together with the other Loan Documents, reflects the entire understanding of the parties with respect to the transactions contemplated hereby and shall not be contradicted or qualified by any other agreement, oral or written, before the date hereof. [Remainder of page intentionally left blank.] -42- IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be executed in New York, New York. GRAPHIX ZONE, INC., a Delaware corporation By /s/ NORMAN H. BLOCK ---------------------------------------------------- Title: President ------------------------------------------------- MADELEINE L.L.C., a New York limited liability company By /s/ KEVIN P. GENDA --------------------------------------------------- Title: Kevin P. Genda Attorney-in-Fact S-1 EX-10.2 3 WARRANT TO PURCHASE 300,000 SHARES OF COMMON STOCK EXHIBIT 10.2 THIS WARRANT HAS NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED OR ANY STATE SECURITIES LAWS. NO SALE OR DISPOSITION MAY BE EFFECTED WITHOUT (i) AN EFFECTIVE REGISTRATION STATEMENT RELATED THERETO, (ii) AN OPINION OF COUNSEL FOR THE HOLDER, REASONABLY SATISFACTORY TO THE COMPANY, THAT SUCH REGISTRATION IS NOT REQUIRED, (iii) RECEIPT OF A NO- ACTION LETTER(S) FROM THE APPROPRIATE GOVERNMENTAL AUTHORITY(IES), OR (iv) OTHERWISE COMPLYING WITH THE PROVISIONS OF SECTION 7 OF THIS WARRANT. GRAPHIX ZONE, INC. ------------------ WARRANT TO PURCHASE 300,000 SHARES OF COMMON STOCK (this "Warrant") GRAPHIX ZONE, INC., a Delaware corporation (the "Company"), hereby certifies that, for value received, Madeleine L.L.C., a New York limited liability company, or registered assigns, is the registered holder of warrants (the "Warrants") to subscribe for and purchase Three Hundred Thousand (300,000) shares of the fully paid and nonassessable Common Stock (as adjusted pursuant to Section 4 hereof, the "Shares") of the Company, at the price of equal to the lower of (i) $2.67857 per share or (ii) the fair market value of the Common Stock as determined pursuant to Section 4 hereof as of the date the Warrants are exercised (or converted pursuant to Section 10.3(b) hereof) (such price and such other price as shall result, from time to time, from the adjustments specified in Section 4 hereof is herein referred to as the "Warrant Price"), subject to the provisions and upon the terms and conditions hereinafter set forth. As used herein, (a) the term "Common Stock" shall mean the Company's presently authorized Common Stock, $0.01 par value per share, and any stock into or for which such Common Stock may hereafter be converted or exchanged, (b) the term "Date of Grant" shall mean January 31, 1997, and (c) the term "Other Warrants" shall mean any warrant issued upon transfer or partial exercise of this Warrant. The term "Warrant" as used herein shall be deemed to include Other Warrants unless the context hereof or thereof clearly requires otherwise. 1. Term. The purchase right represented by this Warrant is ---- exercisable, in whole or in part, at any time and from time to time from the Date of Grant through and including the third anniversary thereof. 2. Method of Exercise; Payment; Issuance of New Warrant. Subject to ---------------------------------------------------- Section 1 hereof, the purchase right represented by this Warrant may be exercised by the holder hereof, in whole or in part and from time to time, by the surrender of this Warrant (with the notice of exercise form attached hereto as Exhibit A duly executed) at the principal office of the Company and by the payment to the Company of an amount equal to the then applicable Warrant Price multiplied by the number of Shares then being purchased. The person or persons in whose name(s) any certificate(s) representing shares of Common Stock shall be issuable upon exercise of this Warrant shall be deemed to have become the holder(s) of record of, and shall be treated for all purposes as the record holder(s) of, the shares represented thereby (and such shares shall be deemed to have been issued) immediately prior to the close of business on the date or dates upon which this Warrant is exercised. In the event of any exercise of the rights represented by this Warrant, certificates for the shares of stock so purchased shall be delivered to the holder hereof as soon as possible and in any event within thirty (30) days after such exercise and, unless this Warrant has been fully exercised or expired, a new Warrant representing the portion of the Shares, if any, with respect to which this Warrant shall not then have been exercised shall also be issued to the holder hereof as soon as possible and in any event within such thirty-day period. 3. Stock Fully Paid; Reservation of Shares. All Shares that may be --------------------------------------- issued upon the exercise of the rights represented by this Warrant will, upon issuance pursuant to the terms and conditions herein, be fully paid and nonassessable, and free from all taxes, liens, charges, and pre-emptive rights with respect to the issue thereof. The Company shall pay all transfer taxes, if any, attributable to the issuance of Shares upon the exercise of the Warrants. During the period within which the rights represented by this Warrant may be exercised, the Company will at all times have authorized, and reserved for the purpose of the issue upon exercise of the purchase rights evidenced by this Warrant, a sufficient number of shares of its Common Stock to provide for the exercise of the rights represented by this Warrant. 4. Adjustment of Warrant Price and Number of Shares. The number and ------------------------------------------------ kind of securities purchasable upon the exercise of this Warrant and the Warrant Price shall be subject to adjustment from time to time upon the occurrence of certain events, as follows: a. Reclassification or Merger. In case of any reclassification, -------------------------- change or conversion of securities of the class issuable upon exercise of this Warrant (other than a change in par value, or from par value to no par value, or from no par value to par value, or as a result of a subdivision or combination), or in case of any merger of the Company with or into another corporation (other than a merger with another corporation in which the Company is the acquiring and the surviving corporation and which does not result in any reclassification or change of outstanding securities issuable upon exercise of this Warrant), or in case of any sale of all or substantially all of the assets of the Company, the Company, or such successor or purchasing corporation, as the case may be, shall duly execute and deliver to the holder of this Warrant a new Warrant (in form and substance satisfactory to the holder of this Warrant), so that the holder of this Warrant shall have the right to receive, at a total purchase price not to exceed that payable or to be payable upon the exercise of the unexercised portion of this Warrant, and in lieu of the shares of Common Stock theretofore issuable upon exercise of this Warrant, the kind and amount of shares of stock, other securities, money and property receivable upon such reclassification, change or merger by a holder of the number of shares of Common Stock then purchasable under this Warrant. Such new Warrant shall provide for adjustments that shall be as nearly equivalent as may be practicable to the adjustments provided for in this Section 4. The provisions of this subparagraph (a) shall similarly apply to successive reclassifications, changes, mergers and transfers. b. Subdivision or Combination of Shares. If the Company at any ------------------------------------ time while this Warrant remains outstanding and unexpired shall subdivide or combine its outstanding 2 shares of Common Stock, the Warrant Price shall be proportionately decreased in the case of a subdivision or increased in the case of a combination, effective at the close of business on the date the subdivision or combination becomes effective. c. Stock Dividends and Other Distributions. If the Company at --------------------------------------- any time while this Warrant is outstanding and unexpired shall (i) pay a dividend with respect to Common Stock payable in Common Stock, or (ii) make any other distribution with respect to Common Stock (except any distribution specifically provided for in the foregoing sub paragraphs (a) and (b)) of Common Stock, then the Warrant Price shall be adjusted, from and after the date of determination of shareholders entitled to receive such dividend or distribution, to that price determined by multiplying the Warrant Price in effect immediately prior to such date of determination by a fraction (i) the numerator of which shall be the total number of shares of Common Stock outstanding immediately prior to such dividend or distribution, and (ii) the denominator of which shall be the total number of shares of Common Stock outstanding immediately after such dividend or distribution. d. Rights Offerings. In case the Company shall issue rights, ---------------- options or warrants to any person or persons who are at the time of such issuance the holders of equity securities of the Company, entitling them to subscribe for or purchase shares of Common Stock (or securities convertible or exchangeable into Common Stock) at a price per share of Common Stock (or having a conversion or exchange price per share of Common Stock if a security convertible or exchangeable into Common Stock) less than the fair market value per share of Common Stock on the record date for such issuance (or the date of issuance, if there is no record date), the Warrant Price to be in effect on and after such record date (or issuance date, as the case may be) shall be determined by multiplying the Warrant Price in effect immediately prior to such record date (or issuance date, as the case may be) by a fraction (i) the numerator of which shall be the number of shares of Common Stock outstanding on such record date (or issuance date, as the case may be) plus the number of shares of Common Stock which the aggregate offering price of the total number of shares of such Common Stock so to be offered (or the aggregate initial exchange or conversion price of the exchangeable or convertible securities so to be offered) would purchase at such fair market value on such record date (or issuance date, as the case may be) and (ii) the denominator of which shall be the number of shares of Common Stock outstanding on such record date (or issuance date, as the case may be) plus the number of additional shares of Common Stock to be offered for subscription or purchase (or into which the convertible securities to be offered are initially exchangeable or convertible). In case such subscription price may be paid in part or in whole in a form other than cash, the fair value of such consideration shall be determined by the Board of Directors of the Company in good faith as set forth in a duly adopted board resolution certified by the Company's Secretary or Assistant Secretary. Such adjustment shall be made successively whenever such an issuance occurs; and in the event that such rights, options, warrants, or convertible or exchangeable securities are not so issued or expire or cease to be convertible or exchangeable before they are exercised, converted, or exchanged (as the case may be), then the Warrant Price shall again be adjusted to be the Warrant Price that would then be in effect if such issuance had not occurred, but such subsequent adjustment shall not affect the number of Shares issued upon any exercise of Warrants prior to the date such subsequent adjustment is made. 3 e. Special Distributions. In case the Company shall fix a --------------------- record date for the making of a distribution to all holders of shares of Common Stock (including any such distribution made in connection with a consolidation or merger in which the Company is the surviving corporation) of evidences of indebtedness or assets (other than dividends and distributions referred to in subparagraphs (b) and (c) above and other than cash dividends) or of subscription rights, options, warrants, or exchangeable or convertible securities containing the right to subscribe for or purchase shares of any class of equity securities of the Company (excluding those referred to in subparagraph (d) above), the Warrant Price to be in effect on and after such record date shall be adjusted by multiplying the Warrant Price in effect immediately prior to such record date by a fraction (i) the numerator of which shall be the fair market value per share of Common Stock on such record date, less the fair value (as determined by the Board of Directors of the Company in good faith as set forth in a duly adopted board resolution certified by the Company's Secretary or Assistant Secretary) of the portion of the assets or evidences of indebtedness so to be distributed or of such subscription rights, options, warrants, or exchangeable or convertible securities applicable to one (1) share of the Common Stock outstanding as of such record date, and (ii) the denominator of which shall be such fair market value per share of Common Stock. Such adjustment shall be made successively whenever such a record date is fixed; and in the event that such distribution is not so made, the Warrant Price shall again be adjusted to be the Warrant Price which would then be in effect if such record date had not been fixed, but such subsequent adjustment shall not affect the number of Shares issued upon any exercise of Warrants prior to the date such subsequent adjustment was made. f. Other Issuances of Securities. In case the Company or any ----------------------------- subsidiary shall issue shares of Common Stock, or rights, options, warrants or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock (excluding (i) shares, rights, options, warrants, or convertible or exchangeable securities described in subparagraphs (f) or (g) of Section 11 hereof or issued in any of the transactions described in subparagraphs (b), (c), (d) or (e) above, (ii) shares issued upon the exercise of such rights, options or warrants or upon conversion or exchange of such convertible or exchangeable securities, and (iii) the Warrants and any shares issued upon exercise thereof), at a price per share of Common Stock (determined in the case of such rights, options, warrants, or convertible or exchangeable securities by dividing (x) the total amount receivable by the Company in consideration of the sale and issuance of such rights, options, warrants, or convertible or exchangeable securities, plus the total minimum consideration payable to the Company upon exercise, conversion, or exchange thereof by (y) the total maximum number of shares of Common Stock covered by such rights, options, warrants, or convertible or exchangeable securities) lower than the fair market value per share of Common Stock on the date the Company fixes the offering price of such shares, rights, options, warrants, or convertible or exchangeable securities, then the Warrant Price shall be adjusted so that it shall equal the price determined by multiplying the Warrant Price in effect immediately prior thereto by a fraction (i) the numerator of which shall be the sum of (A) the number of shares of Common Stock outstanding immediately prior to such sale and issuance plus (B) the number of shares of Common Stock which the aggregate consideration received (determined as provided below) for such sale or issuance would purchase at such fair market value per share, and (ii) the denominator of which shall be the total number of shares of Common Stock outstanding immediately after such sale and issuance. Such adjustment shall be made successively whenever such an issuance is made. For the 4 purposes of such adjustment, the maximum number of shares of Common Stock which the holder of any such rights, options, warrants or convertible or exchangeable securities shall be entitled to subscribe for or purchase shall be deemed to be issued and outstanding as of the date of such sale and issuance and the consideration received by the Company therefor shall be deemed to be the consideration received by the Company for such rights, options, warrants, or convertible or exchangeable securities, plus the minimum consideration or premium stated in such rights, options, warrants, or convertible or exchangeable securities to be paid for the shares of Common Stock covered thereby. In case the Company shall sell and issue shares of Common Stock, or rights, options, warrants, or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock for a consideration consisting, in whole or in part, of property other than cash or its equivalent, then in determining the price per share of Common Stock and the consideration received by the Company for purposes of the first sentence of this subparagraph (f), the Board of Directors of the Company shall determine, in good faith, the fair value of said property, and such determination shall be described in a duly adopted board resolution certified by the Company's Secretary or Assistant Secretary. In case the Company shall sell and issue rights, options, warrants, or convertible or exchangeable securities containing the right to subscribe for or purchase shares of Common Stock together with one or more other securities as a part of a unit at a price per unit, then in determining the price per share of Common Stock and the consideration received by the Company for purposes of the first sentence of this subparagraph (f), the Board of Directors of the Company shall determine, in good faith, which determination shall be described in a duly adopted board resolution certified by the Company's Secretary or Assistant Secretary, the fair value of the rights, options, warrants, or convertible or exchangeable securities then being sold as part of such unit. Such adjustment shall be made successively whenever such an issuance occurs, and in the event that such rights, options, warrants, or convertible or exchangeable securities expire or cease to be convertible or exchangeable before they are exercised, converted, or exchanged (as the case may be), then the Warrant Price shall again be adjusted to the Warrant Price that would then be in effect if such sale and issuance had not occurred, but such subsequent adjustment shall not affect the number of Shares issued upon any exercise of Warrants prior to the date such subsequent adjustment is made. g. Adjustment of Number of Shares; Exception to Warrant Price ---------------------------------------------------------- Adjustment. Upon each adjustment in the Warrant Price, the number of Shares of - ---------- Common Stock purchasable hereunder shall be adjusted, to the nearest whole share, to the product obtained by multiplying the number of Shares purchasable immediately prior to such adjustment in the Warrant Price by a fraction, the numerator of which shall be the Warrant Price immediately prior to such adjustment and the denominator of which shall be the Warrant Price immediately thereafter. For the purposes of this Section 4, the adjustments to the Warrant Price set forth herein shall only apply to and be made with respect to the first alternative basis (initially $2.67857 per share) for determining the Warrant Price, as set forth in the first paragraph of this Warrant, and such adjustments shall not apply to or be made with respect to the second alternative basis (the fair market value of the Common Stock as of the date the Warrants are exercised or converted) for determining the Warrant Price, as set forth in such paragraph; provided, however, that the number of Shares of Common Stock purchasable - -------- ------- hereunder shall be adjusted in accordance with this Section 4 notwithstanding the basis used in determining the Warrant Price. 5 h. Determination of Fair Market Value. For purposes of this ---------------------------------- Section 4 and for determining the Warrant Price of this Warrant, "fair market value" of a share of Common Stock as of a particular date (the "Determination Date") shall mean (i) if shares of Common Stock are traded as a national securities exchange (an "Exchange"), the average of the closing prices of a share of the Common Stock of the Company on the last seven (7) trading days prior to the Determination Date reported on such Exchange as reported in The Wall Street Journal, or (ii) if shares of Common Stock are not traded on an Exchange but trade in the over-the-counter market and such shares are quoted on the National Association of Securities Dealers Automated Quotations System ("NASDAQ"), (A) the average of the last sale prices reported on NASDAQ or (B) if such shares are an issue for which last sale prices are not reported on NASDAQ, the average of the closing bid and ask prices, in each case on the last seven (7) trading days (or if the relevant price or quotation did not exist on any of such days, the relevant price or quotation on the next preceding business day on which there was such a price or quotation) prior to the Determination Date as reported in The Wall Street Journal. 5. Notice of Adjustments. Whenever the Warrant Price (including a --------------------- basis for determining same) or the number of Shares purchasable hereunder shall be adjusted pursuant to Section 4 hereof, the Company shall make a certificate signed by its chief financial officer setting forth, in reasonable detail, the event requiring the adjustment, the amount of the adjustment, the method by which such adjustment was calculated, and the Warrant Price and the number of Shares purchasable hereunder after giving effect to such adjustment, which shall be mailed (without regard to Section 13 hereof, by first class mail, postage prepaid) to the holder of this Warrant. 6. Fractional Shares. No fractional shares of Common Stock will be ----------------- issued in connection with any exercise hereunder, but in lieu of such fractional shares the Company shall make a cash payment therefor based on the fair market value (as determined in accordance with Section 4(h) above) of a share of Common Stock on the date of exercise. 7. Compliance with Securities Act; Disposition of Warrant or Shares ---------------------------------------------------------------- of Common Stock. - --------------- a. Compliance with Securities Act. The holder of this Warrant, ------------------------------ by acceptance hereof, agrees that this Warrant, the shares of Common Stock to be issued upon exercise hereof are being acquired for investment and that such holder will not offer, sell or otherwise dispose of this Warrant, or any shares of Common Stock to be issued upon exercise hereof except under circumstances which will not result in a violation of the Securities Act of 1933, as amended (the "Act"). Upon exercise of this Warrant, the holder hereof shall confirm in writing, by executing the form attached as Schedule 1 to Exhibit A hereto, that the shares of Common Stock so purchased are being acquired for investment and not with a view toward distribution or resale. This Warrant and all shares of Common Stock issued upon exercise of this Warrant (unless registered under the Act) shall be stamped or imprinted with a legend in substantially the following form: "THE SECURITIES EVIDENCED HEREBY HAVE NOT BEEN REGISTERED UNDER THE SECURITIES ACT OF 1933, AS AMENDED, OR ANY STATE SECURITIES LAWS. NO SALE OR DISPOSITION MAY BE EFFECTED WITHOUT (i) AN 6 EFFECTIVE REGISTRATION STATEMENT RELATED THERETO, (ii) AN OPINION OF COUNSEL FOR THE HOLDER, REASONABLY SATISFACTORY TO THE COMPANY, THAT SUCH REGISTRATION IS NOT REQUIRED, (iii) RECEIPT OF A NO-ACTION LETTER(S) FROM THE APPROPRIATE GOVERNMENTAL AUTHORITY(IES), OR (iv) OTHERWISE COMPLYING WITH THE PROVISIONS OF SECTION 7 OF THE WARRANT UNDER WHICH THESE SECURITIES WERE ISSUED DIRECTLY OR INDIRECTLY." In addition, in connection with the issuance of this Warrant, the holder specifically represents to the Company by acceptance of this Warrant as follows: (1) The holder is aware of the Company's business affairs and financial condition, and has acquired information about the Company sufficient to reach an informed and knowledgeable decision to acquire this Warrant. The holder is acquiring this Warrant for its own account for investment purposes only and not with a view to, or for the resale in connection with, any "distribution" thereof for purposes of the Act. (2) The holder understands that this Warrant and the Shares have not been registered under the Act in reliance upon a specific exemption therefrom, which exemption depends upon, among other things, the bona fide nature of the holder's investment intent as expressed herein. In this connection, the holder understands that, in the view of the Securities and Exchange Commission (the "SEC"), the statutory basis for such exemption may be unavailable if the holder's representation was predicated solely upon a present intention to hold the Warrant and the Shares for the minimum capital gains period specified under applicable tax laws, for a deferred sale, for or until an increase or decrease in the market price of the Warrant and the Shares, or for a period of one (1) year or any other fixed period in the future. (3) The holder further understands that this Warrant and the Shares must be held indefinitely unless subsequently registered under the Act and any applicable state securities laws, or unless exemptions from registration are otherwise available. (4) The holder is aware of the provisions of Rule 144 and 144A, promulgated under the Act, which, in substance, permit limited public resale of "restricted securities" acquired, directly or indirectly, from the issuer thereof (or from an affiliate of such issuer), in a non-public offering subject to the satisfaction of certain conditions, if applicable, including, among other things: the availability of certain public information about the Company, the resale occurring not less than two (2) years after the party has purchased and paid for the securities to be sold; the sale being made through a broker in an unsolicited "broker's transaction" or in transactions directly with a market maker (as said term is defined under the Securities Exchange Act of 1934, as amended) and the amount of securities being sold during any three-month period not exceeding the specified limitations stated therein. (5) The holder further understands that at the time it wishes to sell this Warrant and the Shares there may be no public market upon which to make such a sale, and that, even if such a public market then exists, the Company may not be satisfying the current public 7 information requirements of Rule 144 and 144A, and that, in such event, the holder may be precluded from selling this Warrant and the Shares under Rule 144 and 144A even if the two-year minimum holding period had been satisfied. (6) The holder further understands that in the event all of the requirements of Rule 144 and 144A are not satisfied, registration under the Act, compliance with Regulation A, or some other registration exemption will be required; and that, notwithstanding the fact that Rule 144 and 144A is not exclusive, the Staff of the SEC has expressed its opinion that persons proposing to sell private placement securities other than in a registered offering and otherwise than pursuant to Rule 144 and 144A will have a substantial burden of proof in establishing that an exemption from registration is available for such offers or sales, and that such persons and their respective brokers who participate in such transactions do so at their own risk. b. Disposition of Warrant or Shares. With respect to any offer, sale -------------------------------- or other disposition of this Warrant, or any Shares acquired pursuant to the exercise of this Warrant prior to registration of such Warrant or Shares, the holder hereof and each subsequent holder of this Warrant agrees to give written notice to the Company prior thereto, describing briefly the manner thereof, together with a written opinion of such holder's counsel, if reasonably requested by the Company, to the effect that such offer, sale or other disposition may be effected without registration or qualification (under the Act as then in effect or any federal or state law then in effect) of this Warrant or such Shares and indicating whether or not under the Act certificates for this Warrant or such Shares to be sold or otherwise disposed of require any restrictive legend as to applicable restrictions on transferability in order to ensure compliance with applicable law. Promptly upon receiving such written notice and reasonably satisfactory opinion, if so requested, the Company, as promptly as practicable, shall notify such holder that such holder may sell or otherwise dispose of this Warrant or such Shares, all in accordance with the terms of the notice delivered to the Company. If a determination has been made pursuant to this subsection (b) that the opinion of counsel for the holder is not reasonably satisfactory to the Company, the Company shall so notify the holder promptly after such determination has been made. The foregoing notwithstanding, this Warrant or such Shares may, as to such federal laws, be offered, sold or otherwise disposed of in accordance with Rule 144 and 144A under the Act, provided that the Company shall have been furnished with such information as the Company may reasonably request to provide a reasonable assurance that the provisions of Rule 144 and 144A have been satisfied. Each certificate representing this Warrant or the Shares thus transferred (except a transfer pursuant to Rule 144) shall bear a legend as to the applicable restrictions on transferability in order to ensure compliance with such laws, unless in the aforesaid opinion of counsel for the holder, such legend is not required in order to ensure compliance with such laws. The Company may issue stop transfer instructions to its transfer agent or, if acting as its own transfer agent, the Company may stop transfer on its corporate books, in connection with such restrictions. 8. Rights as Shareholders; Information. No holder of this Warrant, as such, ----------------------------------- shall be entitled to vote or receive dividends or be deemed the holder of Common Stock or any other securities of the Company which may at any time be issuable on the exercise hereof for any purpose, nor shall anything contained herein be construed to confer upon the holder of this Warrant, as such, any of the rights of a shareholder of the Company or any right to vote for the election of the directors 8 or upon any matter submitted to shareholders at any meeting thereof, or to receive notice of meetings, or to receive dividends or subscription rights or otherwise until this Warrant shall have been exercised and the Shares purchasable upon the exercise hereof shall have become deliverable, as provided herein. The foregoing notwithstanding, the Company will transmit to the holder of this Warrant such information, documents and reports as are generally distributed to the holders of any class or series of the securities of the Company concurrently with the distribution thereof to the shareholders. 9. Registration Rights. ------------------- 9.1. Demand Registration. ------------------- a. The Company covenants and agrees that at any time after receipt of a written request (a "Demand Registration Request") from the holders of this Warrant and the Other Warrants and/or holders of Shares (this Warrant, the Other Warrants, and the Shares are referred to herein, collectively, as the "Securities") (hereinafter, the "Securityholders") constituting in the first instance, at least fifty percent (50%), and in the second instance, one hundred percent (100%), of the Securities outstanding on such date (determined on an as- converted basis) and then eligible for inclusion in a registration pursuant to this Section 9.1, stating that the Initiating Securityholders (as defined below) desire and intend to transfer all or a portion of the Securities held by them under such circumstances (constituting in the first instance, at least fifty percent (50%), and in the second instance, one hundred percent (100%) of the aggregate of all such outstanding and eligible Securities), the Company shall give notice (the "Registration Notice") to all of the Securityholders within fifteen (15) days of the Company's receipt of such registration request, and the Company shall cause to be included in such requested registration all Securities requested to be included therein by any such Securityholder within fifteen (15) days after such Registration Notice is effective (subject to the provisions of the final sentence of this Section 9.1(a)). After such 15-day period, the Company shall file as promptly as practicable a registration statement and use its reasonable best efforts to cause such registration statement to become effective under the Act and remain effective for one hundred and twenty (120) days or such shorter period as may be required if all such Securities covered by such registration statement are sold prior to the expiration of such 120-day period; provided that the Company shall not be obligated to effect any such registration pursuant to this Section 9.1 after the Company has effected two (2) such registrations pursuant to this Section 9.1. Each Securityholder making a demand for registration under this Section 9.1 is referred to herein as an "Initiating Securityholder." For purposes of this Section 9, a registration shall not be deemed to have been effected unless a registration statement with regard thereto has been declared effective and remained effective for a period of one hundred and twenty (120) days (or such shorter period as is permitted in the second sentence of this Section 9.1). The foregoing notwithstanding, in the event of an underwritten offering pursuant to this Section 9.1, if the managing underwriter of such offering shall advise the Securityholders in writing that, in its opinion, the distribution of a specified portion of the securities requested to be included in the registration would materially adversely affect the distribution of such securities by increasing the aggregate amount of the offering in excess of the maximum amount of securities which such managing underwriter believes can reasonably be sold in the contemplated distribution, then the securities to be included in the registration shall be included in the following order: (i) first, all of the Securities requested to be 9 included therein by the Initiating Securityholders, (ii) second, the Securities requested to be included therein by the other Securityholders, pro rata among such Securityholders according to the number of Securities requested to be included by each such Securityholder requesting inclusion therein, and (iii) third, the securities the Company proposes to include therein and (iv) fourth, such other securities requested to be included therein, pro rata among the holders of such other securities according to the number of securities requested to be included by each such holder requesting inclusion therein. b. For purposes of this Section 9.1, the Securityholders who have requested registration of Shares to be acquired upon the exercise of Warrants not theretofore exercised shall furnish the Company with an undertaking that they or the underwriters or other persons to whom such Warrants will be transferred have undertaken to exercise such Warrants and to sell, transfer or otherwise dispose of the Shares received upon exercise of such Warrants in such registration. c. In the event of an underwritten offering pursuant to this Section 9.1, the Initiating Securityholders requesting registration of the Securities being registered shall be entitled to select the underwriter; provided, that the underwriter so selected shall be subject to approval by the - -------- Company, which approval shall not be withheld unreasonably. d. Notwithstanding the terms of Section 9.1(a), the Company shall not be required to register the Securities of Securityholders pursuant to Section 9.1, if the Company elects, at its sole option and to the extent that it may legally do so, to purchase such Securities and completes such purchase pursuant to the provisions of this Section 9.1(d). Within fifteen (15) days after receipt of a Demand Registration Request, the Company may elect to purchase all and not less than all of the Securities that would otherwise be subject to registration pursuant to Section 9.1(a) by providing written notice (the "Purchase Notice") to all of the Securityholders setting forth (i) its election to purchase such Securities, (ii) the purchase price of the Securities, and (iii) the closing date for such purchase. The Company shall thereafter purchase all of the Securities requested to be included in such purchase by the Securityholders within fifteen (15) days after the Purchase Notice becomes effective. The purchase price for each Share shall be the fair market value (as defined in Section 4) of a share of Common Stock on the date of the Demand Registration Request; the purchase price for each Warrant shall be (x) the fair market value (as defined in Section 4) of a share of Common Stock on the date of the Demand Registration Request less (y) the Warrant Price as of such date. The closing of the purchase of the Securities shall take place on the date set forth in the Purchase Notice, which date shall be not less than fifteen (15) not more than forty-five (45) days after the date of the Purchase Notice. At the closing, the Company shall deliver to each Securityholder, in cash, the purchase price for the Securities surrendered by such Securityholder. 9.2. Piggy-Back Registration Rights. ------------------------------ a. The Company covenants and agrees with the Securityholders that in the event that the Company proposes to file a registration statement under the Act with respect to any of its equity securities (other than pursuant to registration statements on Form S-4 or Form S-8 or any successor or similar forms), whether or not for its own account, then the Company shall give 10 written notice of such proposed filing to all Securityholders promptly (and in any event at least twenty (20) days before the anticipated filing date). Such notice shall offer to such Securityholders, together with others who have similar rights, the opportunity to include in such registration statement such number of Securities as they may request. The Company shall cause the managing underwriter of a proposed underwritten offering (unless the offering is an underwritten offering of a class of the Company's equity securities other than Common Stock and the managing underwriter has advised the Company in writing that, in its opinion, the inclusion in such offering of Common Stock would materially adversely affect the distribution of such offering) to permit the holders of Securities requested to be included in the registration to include such Securities in the proposed offering and the Company shall use its reasonable best efforts to include such Securities in such proposed offering on the same terms and conditions as any similar securities of the Company included therein. If the offering of which the Company gives notice is a public offering involving an underwriter, the right of a Securityholder to registration pursuant to this Section 9.2 shall be conditioned upon such Securityholder's participation in such underwriting and the inclusion of the Securities to be sold by such Securityholder in the underwriting. All Securityholders proposing to distribute Securities through such underwriting shall enter into an underwriting agreement in customary form with the representative of the underwriter or underwriters. The foregoing notwithstanding, in the case of a firm commitment offering on underwriting terms appropriate for such a transaction, other than a registration requested by Securityholders pursuant to Section 9.1, if any such managing underwriter of recognized standing shall advise the Company and the Securityholders in writing that, in its opinion, the distribution of all or a specified portion of the Securities requested to be included in the registration concurrently with the securities being registered by the Company would materially adversely affect the distribution of such securities by increasing the aggregate amount of the offering in excess of the maximum amount of securities which such managing underwriter believes can reasonably be sold in the contemplated distribution, then the securities to be included in a registration which is a primary underwritten offering on behalf of the Company shall be included in the following order: (i) first, the securities the Company proposes to include therein and (ii) second, such other securities (including the Securities) requested to be included, pro rata among the holders (including the Securityholders) of such other securities according to the number of securities requested to be included by each such holder requesting inclusion therein. b. In the event that a holder or holders of the Company's securities (other than a Securityholder or Securityholders) requests, pursuant to rights granted to such holder or holders, that the Company file a registration statement for the public offering of securities and the Company and the other holders of the Company's securities (including the Securityholders) who have rights to be included in such registration, request to be included in such registration and the managing underwriter of such offering shall advise the Company and the holders requesting inclusion in the offering that, in its opinion, the distribution of a specified portion of the securities requested to be included in the registration would materially adversely affect the distribution of such securities by increasing the aggregate amount of the offering in excess of the maximum amount of securities which such managing underwriter believes can reasonably be sold in the contemplated distribution then, the securities to be included in the registration shall be included in the following order: (i) first, all of the securities requested to be included therein by the holder or holders making the initial request for the registration, and (ii) second, such other securities requested to be included therein by the Company and the holders of such other securities, pro rata among the Company and 11 the holders of such other securities according to the number of securities requested to be included by the Company and each such holder requesting inclusion therein. For purposes of this Section 9.2(b), the Company agrees to request for inclusion in the registration only that number of securities that the Company intends, in good faith, to sell, if all such securities so requested by the Company were permitted to be included by the managing underwriter in such registration and sold pursuant thereto. 9.3. Company Covenants; Registration Right Provisions. ------------------------------------------------ a. In connection with the registration of Securities on behalf of the holders thereof (such Securityholders being referred to herein as "Sellers") in accordance with Section 9.1 or Section 9.2 above, the Company agrees to: (i) enter into a cross-indemnity agreement, in customary form, with each underwriter, if any, and each Seller; (ii) subject to the provisions of Section 9.1(a) and Section 9.2(a) regarding reductions by the managing underwriter, include in the registration statement filed with the SEC, the Securities for which requests for registration have been made; provided, however, that promptly after filing a registration statement or prospectus or any amendments or supplements thereto, the Company shall furnish to each Seller copies of all such documents proposed to be filed including documents incorporated by reference in the registration statement; and notify each Seller of any stop order issued or threatened by the SEC and use its best efforts to prevent the entry of such stop order or to remove it if entered; (iii) prepare and file with the SEC such amendments of and supplements to such registration statement and the prospectus used in connection therewith as may be necessary to keep such registration statement effective (A) in the case of a registration pursuant to Section 9.1, for a period of one hundred and twenty (120) days, or, in the case of a registration pursuant to Section 9.2, for a period of ninety (90) days or (B) such shorter period as may be required if all such Securities covered by such registration statement are sold prior to the expiration of such periods, and comply with the provisions of the Act with respect to the disposition of all securities covered by such registration statement during such period in accordance with the intended methods of disposition by the Sellers set forth in such registration statement; (iv) furnish to each Seller and each underwriter, if any, without charge, such number of copies of the registration statement, each amendment and supplement thereto (in each case including all exhibits thereto), the prospectus included in such registration statement (including each preliminary prospectus) and such other documents as such Seller may reasonably request in order to facilitate the disposition of the Securities proposed to be sold by such Seller; (v) use its reasonable best efforts to register or qualify such Securities under such other securities or Blue Sky laws of such jurisdictions as any Seller or any such underwriter reasonably requests and keep such registrations or qualifications in effect for so long as 12 such registration statement remains in effect and do any and all acts and things which may be reasonably necessary or advisable to enable such Seller to consummate the disposition in such jurisdictions of the Securities owned by such Seller; provided, however, that the Company shall not be required to (i) qualify generally to do business in any jurisdiction where it would not otherwise be required to qualify but for this subsection (v), (ii) subject itself to taxation in any such jurisdiction, or (iii) consent to general service of process in any jurisdiction; (vi) notify each Seller, at any time when a prospectus relating to such Seller's Securities is required to be delivered under the Act, of the occurrence of any event as a result of which the prospectus included in such registration statement contains an untrue statement of a material fact or omits to state any material fact necessary to make the statements therein not misleading, and as soon as practicable prepare a supplement or amendment to such prospectus so that, as thereafter delivered to the purchasers of such Securities, such prospectus will not contain an untrue statement of a material fact or omit to state any material fact necessary to make the statements therein not misleading; (vii) cause all such Securities to be listed on any Exchange on which similar securities issued by the Company are then listed; (viii) provide a transfer agent, registrar and CUSIP number for all such Securities not later than the effective date of such registration statement; (ix) enter into such customary agreements (including an underwriting agreement in customary form) and take all such other actions that the Sellers or the underwriters, if any, reasonably request in order to expedite or facilitate the disposition of such Securities; (x) make available for inspection by the Sellers and their counsel, any underwriter participating in any disposition pursuant to such registration statement, and any counsel retained by any such underwriter, all pertinent financial and other information and corporate documents of the Company, and cause the Company's officers, directors and employees to supply all information reasonably requested by any such Seller, underwriter or counsel in connection with such registration statement; (xi) use its reasonable best efforts to obtain a "cold comfort" letter from the Company's independent public accountants in customary form and covering such matters of the type customarily covered by "cold comfort" letters as the Sellers or any underwriter may reasonably request; (xii) obtain an opinion of counsel to the Company, addressed to the Sellers and any underwriter, in customary form and including such matters as are customarily covered by such opinions in underwritten registered offerings of equity securities as the Sellers or any underwriter may reasonably request, such opinion to be reasonably satisfactory in form and substance to each Seller; and 13 (xiii) otherwise use its best efforts to comply with all applicable rules and regulations of the SEC, and make available to its securityholders, as soon as reasonably practicable, an earnings statement covering the period of at least twelve (12) months subsequent to the effective date of the registration statement, which earnings statement shall satisfy the provisions of Section 11(a) of the Act and Rule 158 thereunder. b. Any other provisions of this Section 9 notwithstanding, upon receipt by the Securityholders of a written notice signed by the chief executive officer, chief operating officer or chief financial officer of the Company to the effect set forth below, the Company shall not be obligated during a reasonable period of time thereafter to effect any registrations pursuant to this Section 9, and the Securityholders agree that they will immediately suspend sales of shares under any effective registration statement for a reasonable period of time, in either case not to exceed ninety (90) days, at any time at which, in the Company's reasonable judgment, (i) there is a development involving the Company or any of its affiliates which is material but which has not yet been publicly disclosed or (ii) sales pursuant to the registration statement would materially and adversely affect an underwritten public offering for the account of the Company or any other material financing project or a proposed or pending material merger or other material acquisition or material business combination or material disposition of the Company's assets, to which the Company or any of its affiliates is, or is expected to be, a party. In the event a registration is postponed or sales by the Securityholders pursuant to an effective registration statement are suspended in accordance with this Section 9.3(b), there shall be added to the period during which the Company is obligated to keep a registration effective the number of days for which the registration was postponed or sales were suspended pursuant to this Section 9.3(b). c. The Company may require each Seller to furnish to the Company such information regarding the distribution of the Securities proposed to be sold by such Seller as the Company may from time to time reasonably request in writing. d. Each Seller agrees that, upon receipt of any notice from the Company of the occurrence of any event of the kind described in subsection (vi) of Section 9.3(a) above, such Seller shall forthwith discontinue disposition of Securities pursuant to the registration statement covering such Securities until such Seller's receipt of copies of the supplemented or amended prospectus contemplated by Section 9.3(a)(vi) above and, if so directed by the Company, such Seller will deliver to the Company (at the Company's expense) all copies, other than permanent file copies in such Seller's possession, of the prospectus covering such Securities current at the time of receipt of such notice. In the event the Company shall give any such notice, the period mentioned in Section 9.3(a)(iii) above shall be extended by the number of days during the period from and including the date of giving of such notice to and including the date when each Seller shall have received the copies of the supplemented or amended prospectus contemplated by Section 9.3(a)(vi) above. e. The Company shall not file or permit the filing of any registration or comparable statement which refers to any Seller by name or otherwise as the Seller of any securities of the Company unless such reference to such Seller is specifically required by the Act or any similar federal statute then in force. 14 9.4 Expenses. All expenses incident to the Company's performance of or -------- compliance with this Warrant, including without limitation all registration and filing fees, fees and expenses relating to filings with any Exchange, fees and expenses of compliance with securities or Blue Sky laws in jurisdictions reasonably requested by any Seller or underwriter pursuant to Section 9.3(a)(v) (including reasonable fees and disbursements of counsel in connection with Blue Sky qualifications of the Securities), all word processing, duplicating and printing expenses, messenger and delivery expenses, fees and disbursements of counsel for the Company and one (1) counsel for the Sellers, independent public accountants (including the expenses of any special audit or "cold comfort" letters required by or incident to such performance) and underwriters (excluding discounts, commissions or fees of underwriters, selling brokers, dealer managers or similar securities industry professionals attributable to the securities being registered, or legal expenses of any person other than the Company and the Sellers, but including liability insurance if the Company so desires), all the Company's internal expenses (including, without limitation, all salaries and expenses of its officers and employees performing legal or accounting duties), the expense of any annual audit, the expense of any liability insurance (if the Company determines to obtain such insurance) and the fees and expenses incurred in connection with the listing of the securities to be registered on each Exchange on which such securities issued by the Company are then listed, the reasonable fees and expenses of any special experts (including attorneys) retained by the Company (if it so desires) in connection with such registration and fees and expenses of other persons retained by the Company (all such expenses being herein called "Registration Expenses"), shall be borne by the Company. 9.5 Registration Statement Preparation; Investigation. In ------------------------------------------------- connection with the preparation and filing of each registration statement under the Act pursuant to this Section 9, the Company shall give the Sellers under such registration statement, their underwriters, if any, and their respective counsel and accountants, the opportunity to participate in the preparation of such registration statement, each prospectus included therein or filed with the Commission, and each amendment thereof or supplement thereto, and will give each of them such access to its books and records and such opportunities to discuss the business of the Company with its officers and the independent public accountants who have certified its financial statements as shall be necessary, in the opinion of such Sellers' and such underwriters' respective counsel, to conduct a reasonable investigation within the meaning of the Act. 9.6. Indemnification. --------------- a. In the event of any registration of any securities of the Company under the Act, the Company shall, and hereby does, indemnify and hold harmless in the case of any registration statement filed pursuant to Section 9.1 or Section 9.2, the Seller of any Securities covered by such registration statement, its directors, officers and employees, each other person who participates as an underwriter in the offering or sale of such Securities and each other person, if any, who controls such Seller or any such underwriter within the meaning of the Act against any losses, claims, damages, or liabilities (or actions or proceedings whether commenced or threatened in respect thereof), joint or several, to which such Seller or any such director or officer or underwriter or controlling person may become subject under the Act or otherwise, insofar as such 15 losses, claims, damages, or liabilities (or actions or proceedings, whether commenced or threatened, in respect thereof) arise out of or are based upon any untrue statement or alleged untrue statement of any material fact contained in any registration statement under which such Securities were registered under the Act, any preliminary prospectus, final prospectus or summary prospectus contained therein, or any amendment or supplement thereto, or any omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, and the Company shall reimburse such Seller and each such director, officer, employee, underwriter and controlling person for any legal or any other expenses reasonably incurred by them in connection with investigating or defending any such loss, claim, liability, action, or proceeding; provided, however, that the Company shall not be liable in any such case to the extent that any such loss, claim, damage, liability (or action or proceeding, whether commenced or threatened in respect thereof), or expense arises out of or is based upon an untrue statement or alleged untrue statement or omission or alleged omission made in such registration statement, any such preliminary prospectus, final prospectus, summary prospectus, amendment, or supplement in reliance upon and in conformity with written information furnished to the Company through an instrument duly executed by such Seller specifically stating it is for use in the preparation thereof and, provided, further, that the Company shall not be liable in any such case to the extent that any such loss, claim, damage, liability (or action or proceeding, whether commenced or threatened, in respect thereof), or expense arises out of such person's failure to send or give a copy of the final prospectus, as the same may be then supplemented or amended, within the time required by the Act to the person asserting an untrue statement or alleged untrue statement or omission or alleged omission if such statement or omission was corrected in such final prospectus. Such indemnity shall remain in full force and effect regardless of any investigation made by or on behalf of such Seller or any such director, officer, underwriter or controlling person and shall survive the transfer of such Securities by such Seller. b. The Company may require, as a condition to including any Securities in any registration statement filed pursuant to Section 9.3, that the Company shall have received an undertaking satisfactory to it from the prospective Seller, to indemnify and hold harmless (in the same manner and to the same extent as set forth in Section 9.6(a)) the Company, each director, officer and employee of the Company, and each other person, if any, who controls the Company within the meaning of the Act, with respect to any statement or alleged statement in or omission or alleged omission from such registration statement, any preliminary prospectus, final prospectus, or summary prospectus contained therein, or any amendment or supplement thereto, if such statement or alleged statement or omission or alleged omission was made in reliance upon and in conformity with written information furnished to the Company through an instrument duly executed by such Seller specifically stating that it is for use in the preparation of such registration statement, preliminary prospectus, final prospectus, summary prospectus, amendment, or supplement. Such indemnity shall remain in full force and effect, regardless of any investigation made by or on behalf of the Company or any such director, officer, or controlling person and shall survive the transfer of such Securities by such Seller. In no event shall the liability of any selling Seller hereunder (including without limitation indemnification liability in connection with Section 9.6(d) hereof) be in the aggregate greater in amount than the dollar amount, if any, by which (1) the proceeds received by such Seller upon the sale of the Securities giving rise to such indemnification obligation exceed (2) the purchase or exercise price paid by such Seller for such Securities. The 16 Company shall be entitled to receive indemnities from underwriters, selling brokers, dealer managers, and similar securities industry professionals participating in the distribution to the same extent as provided above with respect to information so furnished in writing by such persons specifically for inclusion in any prospectus or registration statement. c. Promptly after receipt by an indemnified party of notice of the commencement of any action or proceeding involving a claim referred to in this Section 9.6, such indemnified party shall, if a claim in respect thereof is to be made against an indemnifying party, give written notice to the latter of the commencement of such action; provided, however, that the failure of any indemnified party to give notice as provided herein shall not relieve the indemnifying party of its obligations under the preceding subdivisions of this Section 9.6, except to the extent that the indemnifying party is actually prejudiced by such failure to give notice. In case any such action is brought against an indemnified party, unless in such indemnified party's reasonable judgment a conflict of interest between such indemnified and indemnifying parties may exist in respect of such claim, the indemnifying party shall be entitled to participate in and to assume the defense thereof, jointly with any other indemnifying party similarly notified, to the extent that the indemnifying party may wish, with counsel reasonably satisfactory to such indemnified party, and after notice from the indemnifying party to such indemnified party of its election so to assume the defense thereof, the indemnifying party shall not be liable to such indemnified party for any legal or other expenses subsequently incurred by the latter in connection with the defense thereof other than reasonable costs of investigation. If, in the indemnified party's reasonable judgment a conflict of interest between such indemnified and indemnifying parties may exist in respect of such claim, the indemnified party may assume the defense of such claim, jointly with any other indemnified party that reasonably determines such conflict of interest to exist, and the indemnifying party shall be liable to such indemnified parties for the reasonable legal fees and expenses of one counsel for all such indemnified parties and for other expenses reasonably incurred in connection with the defense thereof incurred by the indemnified party. No indemnifying party shall, without the consent of the indemnified party, consent to entry of any judgment or enter into any settlement of any such action which does not include as an unconditional term thereof the giving by the claimant or plaintiff to such indemnified party of a release from all liability, or a covenant not to sue, in respect of such claim or litigation. No indemnified party shall consent to entry of any judgment or enter into any settlement of any such action the defense of which has been assumed by an indemnifying party without the consent of such indemnifying party. d. Indemnification and contribution similar to that specified in this Section 9.6 (with appropriate modifications) shall be given by the Company and may be required of each Seller with respect to any required registration or other qualification of Securities under any Federal or state law or regulation of any governmental authority, other than the Act. e. The indemnification required by this Section 9.6 shall be made by periodic payments of the amount thereof during the course of the investigation or defense, as and when bills are received or expense, loss, damage or liability is incurred. f. If the indemnification provided for in this Section 9.6 from the indemnifying party is unavailable to an indemnified party hereunder in respect of any losses, claims, 17 damages, liabilities, or expenses referred to herein, then the indemnifying party, in lieu of indemnifying such indemnified party, shall contribute to the amount paid or payable by such indemnified party as a result of losses, claims, damages, liabilities, or expenses in such proportion as is appropriate to reflect the relative fault of the indemnifying party and indemnified party in connection with the actions which resulted in such losses, claims, damages, liabilities, or expenses, as well as any other relevant equitable considerations. The relative fault of such indemnifying party and indemnified party shall be determined by reference to, among other things, whether any action in question, including any untrue or alleged untrue statement of a material fact or omission or alleged omission to state a material fact, has been made by, or relates to information supplied by, such indemnifying party or indemnified party, and the parties' relative intent, knowledge, access to information, and opportunity to correct or prevent such action. The amount paid or payable by a party as a result of the losses, claims, damages, liabilities, and expenses referred to above shall be deemed to include any legal or other fees or expenses reasonably incurred by such party in connection with any investigation or proceeding. In no event shall the liability of any Seller hereunder (including without limitation contribution liability in connection with Section 9.6(d) hereof) be in the aggregate greater in amount than the dollar amount, if any, by which (1) the proceeds received by such Seller upon the sale of the Securities giving rise to such contribution obligation exceed (2) the purchase or exercise price paid by such Seller for such Securities. The parties hereto agree that it would not be just and equitable if contribution pursuant to this Section 9.6(f) were determined by pro rata allocation or by any other method of allocation which does not take into account the equitable considerations referred to in this Section 9.6(f). No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Act) shall be entitled to contribution from any person or entity who was not guilty of such fraudulent misrepresentation. 9.7 Conflicting Rights. The Company hereby represents and covenants ------------------ that, prior to and as of the Date of Grant the Company has not granted, and after the Date of Grant the Company shall not grant, any registration rights which conflict with the rights under this Section 9. 9.8 Lock-up Period. If requested by the managing underwriter of an -------------- offering for which Shares of such Securityholder have been registered, a Securityholder shall not sell or otherwise transfer or dispose of any Securities held by such Securityholder (other than those included in the registration) during such period following the effective date of such registration as is usual and customary at such time in similar public offerings of similar securities; provided, however, that the Company shall use its reasonable best efforts to cause each holder of a material number of shares of Common Stock to enter into similar "lock-up" agreements in respect of such offering. The obligations described in this Section 9.8 shall not apply to offerings pursuant to a registration statement on Form S-4 or Form S-8 or any successor or similar form. 10. Additional Rights. ----------------- 10.1 Secondary Sales. The Company agrees that it will cooperate --------------- with the holder of this Warrant in obtaining liquidity if opportunities to make secondary sales of the Company's securities become available. To this end, the Company will promptly provide the holder 18 of this Warrant with notice of any offer to acquire from the Company's security holders more than five percent (5%) of the total voting power of the Company and will cooperate with the holder in arranging the sale of this Warrant to the person or persons making such offer. 10.2 Mergers. In the event that the Company undertakes to (i) sell, ------- lease, exchange, convey or otherwise dispose of all or substantially all of its property or business, or (ii) merge into or consolidate with any other corporation (other than a wholly-owned subsidiary of the Company), or effect any transaction (including a merger or other reorganization) or series of related transactions, in which more than 50% of the voting power of the Company is disposed of, the Company will use its best efforts to provide at least thirty (30) days notice of the terms and conditions of the proposed transaction. The Company will cooperate with the holder in consummating the sale of this Warrant in connection with any such transaction. 10.3 Right to Convert Warrant into Common Stock; Net Issuance. -------------------------------------------------------- a. Right to Convert. In addition to and without limiting the ---------------- rights of the holder under the terms of this Warrant, the holder shall have the right to convert this Warrant or any portion thereof (the "Conversion Right") into shares of Common Stock as provided in this Section 10.3 at any time or from time to time during the term of this Warrant. Upon exercise of the Conversion Right with respect to a particular number of shares subject to this Warrant (the "Converted Warrant Shares"), the Company shall deliver to the holder (without payment by the holder of any exercise price or any cash or other consideration) that number of shares of fully paid and nonassessable Common Stock equal to the quotient obtained by dividing (i) the value of this Warrant (or the specified portion hereof) on the Conversion Date (as defined in subsection (b) hereof), which value shall be equal to (A) the aggregate fair market value of the Converted Warrant Shares issuable upon exercise of this Warrant (or the specified portion hereof) on the Conversion Date less (B) the aggregate Warrant Price of the Converted Warrant Shares immediately prior to the exercise of the Conversion Right by (ii) the fair market value of one share of Common Stock on the Conversion Date. Expressed as a formula, such conversion shall be computed as follows: X= A - B ----- Y Where: X = the number of shares of Common Stock that may be issued to holder Y = the fair market value (FMV) of one share of Common Stock A = the aggregate FMV (i.e., FMV x Converted Warrant Shares) 19 B = the aggregate Warrant Price (i.e., Converted Warrant Shares x Warrant Price) No fractional shares shall be issuable upon exercise of the Conversion Right, and, if the number of shares to be issued determined in accordance with the foregoing formula is other than a whole number, the Company shall pay to the holder an amount in cash equal to the fair market value of the resulting fractional share on the Conversion Date. For purposes of Section 9 of this Warrant, shares issued pursuant to the Conversion Right shall be treated as if they were issued upon the exercise of this Warrant. b. Method of Exercise. The Conversion Right may be exercised by the ------------------ holder by the surrender of this Warrant at the principal office of the Company together with a written statement specifying that the holder thereby intends to exercise the Conversion Right and indicating the number of shares subject to this Warrant which are being surrendered (referred to in subsection (a) hereof as the Converted Warrant Shares) in exercise of the Conversion Right. Such conversion shall be effective upon receipt by the Company of this Warrant together with the aforesaid written statement, or on such later date as is specified therein (the "Conversion Date"). Certificates for the shares issuable upon exercise of the Conversion Right and, if applicable, a new warrant evidencing the balance of the shares remaining subject to this Warrant, shall be issued as of the Conversion Date and shall be delivered to the holder within thirty (30) days following the Conversion Date. c. Determination of Fair Market Value. For purposes of this Section ---------------------------------- 10.3, "fair market value" of a share of Common Stock shall have the meaning set forth in Section 4(h) above. 11. Representations and Warranties. The Company represents and warrants to ------------------------------ the holder of this Warrant as follows: a. This Warrant has been duly authorized and executed by the Company and is a valid and binding obligation of the Company enforceable in accordance with its terms, subject to laws of general application relating to bankruptcy, insolvency and the relief of debtors and the rules of law or principles at equity governing specific performance, injunctive relief and other equitable remedies; b. The Shares have been duly authorized and reserved for issuance by the Company and, when issued in accordance with the terms hereof, will be validly issued, fully paid and nonassessable; c. The rights, preferences, privileges and restrictions granted to or imposed upon the Common Stock and the holders thereof are as set forth in the articles or certificate of incorporation of the Company, as amended to the Date of Grant (as so amended, the "Charter"), a true and complete copy of which has been delivered to the original holder of this Warrant; d. The execution and delivery of this Warrant are not, and the issuance of the Shares upon exercise of this Warrant in accordance with the terms hereof will not be, 20 inconsistent with the Charter or by-laws of the Company, do not and will not contravene, in any material respect, any governmental rule or regulation, judgment or order applicable to the Company, and do not and will not conflict with or contravene any provision of, or constitute a default under, any indenture, mortgage, contract or other instrument of which the Company is a party or by which it is bound or require the consent or approval of, the giving of notice to, the registration or filing with or the taking of any action in respect of or by, any Federal, state or local government authority or agency or other person, except for the filing of notices pursuant to federal and state securities laws, which filings will be effected by the time required thereby; e. There are no actions, suits, audits, investigations or proceedings pending or, to the knowledge of the Company, threatened against the Company in any court or before any governmental commission, board or authority which, if adversely determined, will have a material adverse effect on the ability of the Company to perform its obligations under this Warrant; f. The authorized capital stock of the Company consists of One Hundred Million (100,000,000) shares of Common Stock, $0.01 par value per share, of which approximately Ten Million Six Hundred Ninety-Eight Thousand Four Hundred Forty-Six (10,698,446) shares were issued and outstanding as of the close of business on January 28, 1997, and Twenty-Five Million (25,000,000) shares of Preferred Stock, $0.01 par value per share, of which Three Thousand (3,000) shares are authorized as Series A Convertible Preferred Stock, of which Two Thousand Nine Hundred Seventy-Five (2,975) shares were issued and outstanding as of the Date of Grant. All such outstanding shares have been validly issued and are fully paid, nonassessable shares free of preemptive rights; g. Other than the Warrants and except as disclosed in the Schedule of Outstanding Rights attached hereto as Exhibit B, there are no --------- subscriptions, rights, options, warrants, or calls relating to any shares of the Company's capital stock, including any right of conversion or exchange under any outstanding security or other instrument; and h. Except as disclosed in the Company's most recent Proxy Statement and Form 10-K, the Company is not subject to any obligation (contingent or otherwise) to repurchase or otherwise acquire or retire any shares of its capital stock or any security convertible into or exchangeable for any of its capital stock. 12. Modification and Waiver. This Warrant and any provision hereof ----------------------- may be changed, waived, discharged or terminated only by an instrument in writing signed by the party against which enforcement of the same is sought. 13. Notices. Any notice, request, communication or other document ------- required or permitted to be given or delivered to the holder hereof or the Company shall be delivered, or shall be sent by private courier or certified or registered mail, postage prepaid, to each such holder at its address as shown on the books of the Company or to the Company at the address indicated therefor on the signature page of this Warrant. 21 14. Binding Effect on Successors. This Warrant shall be binding upon ---------------------------- any corporation succeeding the Company by merger, consolidation or acquisition of all or substantially all of the Company's assets, and all of the obligations of the Company relating to the Common Stock issuable upon the exercise or conversion of this Warrant shall survive the exercise, conversion and termination of this Warrant and all of the covenants and agreements of the Company shall inure to the benefit of the successors and assigns of the holder hereof. The Company will, at the time of the exercise or conversion of this Warrant, in whole or in part, upon request of the holder hereof but at the Company's expense, acknowledge in writing its continuing obligation to the holder hereof in respect of any rights to which the holder hereof shall continue to be entitled after such exercise or conversion in accordance with this Warrant; provided, that the failure of the holder hereof to make any such request shall not affect the continuing obligation of the Company to the holder hereof in respect of such rights. 15. Lost Warrants or Stock Certificates. The Company covenants to ----------------------------------- the holder hereof that, upon receipt of evidence reasonably satisfactory to the Company of the loss, theft, destruction or mutilation of this Warrant or any stock certificate and, in the case of any loss, theft or destruction, upon receipt of an executed lost securities bond or indemnity reasonably satisfactory to the Company, or in the case of any such mutilation upon surrender and cancellation of such Warrant or stock certificate, the Company will make and deliver a new Warrant or stock certificate, of like tenor, in lieu of the lost, stolen, destroyed or mutilated Warrant or stock certificate. 16. Descriptive Headings. The descriptive headings of the several -------------------- paragraphs of this Warrant are inserted for convenience only and do not constitute a part of this Warrant. 17. Governing Law. This Warrant shall be construed and enforced in ------------- accordance with, and the rights of the parties shall be governed by, the laws of the State of Delaware. 18. Survival of Representations, Warranties and Agreements. All ------------------------------------------------------ representations and warranties of the Company and the holder hereof contained herein shall survive the Date of Grant, the exercise or conversion of this Warrant (or any part hereof) or the termination or expiration of rights hereunder. All agreements of the Company and the holder hereof contained herein shall survive indefinitely until, by their respective terms, they are no longer operative. 19. Remedies. In case any one or more of the covenants and -------- agreements contained in this Warrant shall have been breached, the holders hereof (in the case of a breach by the Company), or the Company (in the case of a breach by a holder), may proceed to protect and enforce their or its rights either by suit in equity and/or by action at law, including, but not limited to, an action for damages as a result of any such breach and/or an action for specific performance of any such covenant or agreement contained in this Warrant. 20. Acceptance. Receipt of this Warrant by the holder hereof shall ---------- constitute acceptance of and agreement to the foregoing terms and conditions. 21. No Impairment of Rights. The Company will not, by amendment of ----------------------- its Charter or through any other means, avoid or seek to avoid the observance or performance of any 22 of the terms of this Warrant, but will at all times in good faith assist in the carrying out of all such terms and in the taking of all such action as may be necessary or appropriate in order to protect the rights of the holder of this Warrant against impairment. [SIGNATURE PAGE FOLLOWS] 23 IN WITNESS WHEREOF, Graphix Zone, Inc. has caused this Warrant to be executed on its behalf by one of its officers thereunto duly authorized. GRAPHIX ZONE, INC. By: /s/ NORMAN H. BLOCK -------------------------------------- Name: Norman H. Block Title: President Address: 42 Corporate Park, Suite 200 Irvine, California 92606 Date: January 31, 1997 S-1 EXHIBIT A NOTICE OF EXERCISE To: GRAPHIX ZONE, INC. 1. The undersigned hereby elects to purchase _______ shares of Common Stock of GRAPHIX ZONE, INC. pursuant to the terms of the attached Warrant, and tenders herewith payment of the purchase price of such shares in full. 2. Please issue a certificate or certificates representing said shares in the name of the undersigned or in such other name or names as are specified below: -------------------------------------- (Name) -------------------------------------- -------------------------------------- (Address) 3. The undersigned represents that the aforesaid shares are being acquired for the account of the undersigned for investment and not with a view to, or for resale in connection with, the distribution thereof and that the undersigned has no present intention of distributing or reselling such shares. In support thereof, the undesigned has executed an Investment Representation Statement attached hereto as Schedule 1. ----------------------------------- (Signature) - ------------------ (Date) Schedule 1 ---------- INVESTMENT REPRESENTATION STATEMENT Purchaser: Company: GRAPHIX ZONE, INC. Security: Common Stock Amount: Date: In connection with the purchase of the above-listed securities (the "Securities"), the undersigned (the "Purchaser") represents to the Company as follows: (a) The Purchaser is aware of the Company's business affairs and financial condition, and has acquired sufficient information about the Company to reach an informed and knowledgeable decision to acquire the Securities. The Purchaser is purchasing the Securities for its own account for investment purposes only and not with a view to, or for the resale in connection with, any "distribution" thereof for purposes of the Securities Act of 1933, as amended (the "Act"). (b) The Purchaser understands that the Securities have not been registered under the Act in reliance upon a specific exemption therefrom, which exemption depends upon, among other things, the bona fide nature of the Purchaser's investment intent as expressed herein. In this connection, the Purchaser understands that, in the view of the Securities and Exchange Commission ("SEC"), the statutory basis for such exemption may be unavailable if the Purchaser's representation was predicated solely upon a present intention to hold these Securities for the minimum capital gains period specified under applicable tax laws, for a deferred sale, for or until an increase or decrease in the market price of the Securities, or for a period of one year or any other fixed period in the future. (c) The Purchaser further understands that the Securities must be held indefinitely unless subsequently registered under the Act or unless an exemption from registration is otherwise available. In addition, the Purchaser understands that the certificate evidencing the Securities will be imprinted with the legend referred to in the Warrant under which the Securities are being purchased. (d) The Purchaser is aware of the provisions of Rule 144 and 144A, promulgated under the Act, which, in substance, permit limited public resale of "restricted securities" acquired, directly or indirectly, from the issuer thereof (or from an affiliate of such issuer), in a non-public offering subject to the satisfaction of certain conditions, if applicable, including, among other things: The availability of certain public information about the Company, the resale occurring not less than two (2) years after the party has purchased and paid for the securities to be sold; the sale being made through a broker in an unsolicited "broker's transaction" or in transactions directly with a market maker (as said term is defined under the Securities Exchange Act of 1934, as amended) and the amount of securities being sold during any three-month period not exceeding the specified limitations stated therein. (e) The Purchaser further understands that at the time it wishes to sell the Securities there may be no public market upon which to make such a sale, and that, even if such a public market then exists, the Company may not be satisfying the current public information requirements of Rule 144 and 144A, and that, in such event, the Purchaser may be precluded from selling the Securities under Rule 144 and 144A even if the two-year minimum holding period had been satisfied. (f) The Purchaser further understands that in the event all of the requirements of Rule 144 and 144A are not satisfied, registration under the Act, compliance with Regulation A, or some other registration exemption will be required; and that, notwithstanding the fact that Rule 144 is not exclusive, the Staff of the SEC has expressed its opinion that persons proposing to sell private placement securities other than in a registered offering and otherwise than pursuant to Rule 144 will have a substantial burden or proof in establishing that an exemption from registration is available for such offers or sales, and that such persons and their respective brokers who participate in such transactions do so at their own risk. Purchaser: ______________________________ Date: ________________________ EXHIBIT B SCHEDULE OF OUTSTANDING RIGHTS EX-10.3 4 CONSENT TO INSCAPE AND TRIMARK ACQUISITIONS EXHIBIT 10.3 March 5, 1997 Graphix Zone, Inc. 42 Corporate Park, Suite 200 Irvine, California 92606 Re: Consent to Inscape and Trimark Acquisitions and Amendment Number ---------------------------------------------------------------- One to Loan and Security Agreement ---------------------------------- Ladies and Gentlemen: Reference hereby is made to that certain Loan and Security Agreement (the "Loan Agreement"), dated as of January 31, 1997, between Madeleine L.L.C., a New York limited liability company ("Lender"), and Graphix Zone, Inc., a Delaware corporation ("Borrower"). Capitalized terms used but not otherwise defined herein shall have the meanings ascribed to them in the Loan Agreement. Reference also hereby is made to (a) that certain Asset Purchase Agreement (the "Inscape Acquisition Agreement"), dated as of February 24, 1997, among Inscape, a Delaware general partnership ("Inscape"), Warner Music Group, Inc., a Delaware corporation, and Borrower, and (b) that certain Asset Purchase Agreement (the "Trimark Acquisition Agreement"), dated as of February 26, 1997, among Trimark Interactive, Inc., a California corporation ("Trimark"), Trimark Holdings, Inc., a Delaware corporation, and Borrower, copies of each of which are attached hereto as Exhibits A and B, respectively, and which Borrower hereby ---------------- represents and warrants to Lender to be true, correct, and complete (including all schedules and exhibits thereto). A. Anything in the Loan Agreement to the contrary notwithstanding and subject to the satisfaction of each of the conditions set forth in paragraph B below: 1. Lender hereby consents to the execution and delivery of the Inscape Acquisition Agreement and the Trimark Acquisition Agreement by Borrower and the performance of its obligations thereunder. Graphix Zone, Inc. March 5, 1997 Page 2 2. Section 1.1 of the Loan Agreement hereby is amended to include the following definitions in alphabetical order: "Copyright Security Agreement (Borrower)" means a Copyright --------------------------------------- Security Agreement executed and delivered by Borrower pursuant to the First Amendment, in form and substance satisfactory to Lender. "Copyright Security Agreements" means the Copyright Security ----------------------------- Agreement (GZM) and the Copyright Security Agreement (Borrower). "First Amendment" means that certain Consent to Inscape and --------------- Trimark Acquisitions and Amendment Number One to Loan and Security Agreement, dated as of March 5, 1997, between Borrower and Lender. "Trademark Security Agreement No. 2 (Borrower)" means a Trademark --------------------------------------------- Security Agreement executed and delivered by Borrower pursuant to the First Amendment, in form and substance satisfactory to Lender. 3. The defined term "Copyright Security Agreement" contained in Section 1.1 of the Loan Agreement hereby is amended to read "Copyright Security Agreement (GZM)." 4. The definition of "Loan Documents" contained in Section 1.1 hereby is deleted in its entirety and the following is substituted in lieu thereof: "Loan Documents" means this Agreement, the First Amendment, the -------------- Guaranty, the Guarantor Security Agreement, the Disbursement Letter, the Concentration Account Agreement, the Pay-Off Letter, the Warrants, the Copyright Security Agreements, the Trademark Security Agreements, the Subordination Agreement, any note or notes executed by Borrower and payable to Lender, and any other agreement entered into, now or in the future, in connection with this Agreement. 5. The definition of "Trademark Security Agreements" contained in Section 1.1 of the Loan Agreement hereby is deleted in its entirety and the following is substituted in lieu thereof: "Trademark Security Agreements" means the Trademark Security ----------------------------- Agreement (Borrower), the Trademark Security Agreement No. 2 (Borrower), the Trademark Security Agreement (GZM), the Trademark Security Agreement (StarPress). Graphix Zone, Inc. March 5, 1997 Page 3 6. Schedule 6.12 (Location of Inventory and Equipment) of the Loan Agreement hereby is amended to include the following locations thereto: (a) 1933 Pontius Avenue Los Angeles, California 90025; and (b) 1928 Cotner Avenue Los Angeles, California 90025. B. As conditions to the initial and continuing effectiveness of this letter agreement: 1. Lender shall have received a counterpart of this letter agreement, duly executed by Borrower; 2. Lender shall have received the Copyright Security Agreement (Borrower) and the Trademark Security Agreement No. 2 (Borrower), each in form and substance satisfactory to Lender and duly executed and in full force and effect; 3. No Event of Default has occurred and is continuing nor would result from the consummation of the transactions contemplated by the Inscape Acquisition Agreement or the Trimark Acquisition Agreement. All terms, conditions, and provisions of the Loan Agreement and the other Loan Documents are and shall remain in full force and effect and, except as set forth above, nothing herein shall operate as a consent to or waiver or amendment of any other or further matter or any other right, power, or remedy of Lender under the Loan Agreement and the other Loan Documents. Graphix Zone, Inc. March 5, 1997 Page 4 This letter agreement may be executed in two or more counterparts, each of which shall be deemed an original and all of which taken together shall constitute one and the same agreement. This letter agreement is a Loan Document. MADELEINE L.L.C. By: /s/ KEVIN P. GENDA ------------------------------------- Title: Kevin P. Genda, Attorney-in-Fact AGREED AND ACCEPTED as of the date first above written: GRAPHIX ZONE, INC. By: /s/ NORMAN H. BLOCK -------------------------------------- Title: President ----------------------------------- EX-10.6 5 EMPLOYMENT LETTER TO ROBERT SHISHINO EXHIBIT 10.6 GRAPHIX ZONE, INC. LETTER HEAD February 26, 1997 Robert Shishino 10636 Equestrian Drive Santa Ana, CA 92705 Dear Rob, Congratulations! Graphix Zone is pleased to offer you the position of Vice President Finance / Chief Financial Officer. In this capacity you will be responsible for all financial and administrative aspects of the Company. Our offer is to pay you $5,416.66 per pay period (24 pay periods per year), as a base salary. In the event we should relocate within the next 18 months, we will offer you a monthly moving allowance or a monthly auto allowance. Furthermore, we will recommend to our Board of Directors that you be granted stock options on 200,000 shares of common stock under our existing 1996 Stock Option Plan. Medical, dental and visual benefits will be provided for you effective March 1, 1997. Additionally, we will offer you a minimum of 3 months severance should you be terminated for any reason other than just cause. Rob, I look forward to having you be a member of the Graphix Zone team. Sincerely, By: /S/ NORMAN BLOCK - -------------------- Norman Block President Accepted: By: /s/ ROBERT SHISHINO February 26, 1997 - ----------------------- ----------------- Robert Shishino Date EX-27 6 FINANCIAL DATA SCHEDULE
5 3-MOS JUN-30-1997 JAN-01-1997 MAR-31-1997 901,336 0 3,018,929 0 581,844 4,920,199 1,080,603 0 6,807,868 9,059,171 0 2,741,333 2,355,948 40,319,124 (47,727,122) 6,807,868 0 2,092,549 2,387,574 0 6,578,024 0 138,438 (7,030,439) 0 (7,030,439) 0 0 0 (7,030,439) (0.67) 0
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