-----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, SPQ3eQH7td/1tO3/gb84n3vG+ZDt88T0MemYzgJzLGaQVAhq7qO0fVqLBSxp+M2o u4sIf7YpCIJlJ4gEA7x50Q== 0001019439-98-000004.txt : 19980331 0001019439-98-000004.hdr.sgml : 19980331 ACCESSION NUMBER: 0001019439-98-000004 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980330 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: BIG DOG HOLDINGS INC CENTRAL INDEX KEY: 0001019439 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-FAMILY CLOTHING STORES [5651] STATE OF INCORPORATION: DE FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 000-22963 FILM NUMBER: 98578580 BUSINESS ADDRESS: STREET 1: 121 GRAY AVENUE STREET 2: SUITE 300 CITY: SANTA BARBARA STATE: CA ZIP: 93101 BUSINESS PHONE: 8059638727 MAIL ADDRESS: STREET 1: 121 GRAY AVENUE STREET 2: SUITE 300 CITY: SANTA BARBARA STATE: CA ZIP: 93101 10-K 1 FORM 10-K FOR 1997 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON D.C. 20549 FORM 10-K (MARK ONE) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM __________ TO __________ COMMISSION FILE NUMBER: 0-22963 BIG DOG HOLDINGS, INC. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) ------------------------- CALIFORNIA 52-1868665 ---------- ---------- (STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 121 GRAY AVENUE, SANTA BARBARA, CALIFORNIA 93101 ------------------------------------------ ----- (ADDRESS OF PRINCIPAL EXECUTIVE OFFICE) (ZIP CODE) (805) 963-8727 -------------- (REGISTRANT'S TELEPHONE NUMBER INCLUDING AREA CODE) SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT: NONE SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: Common Stock, $0.01 par value Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No ___ Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] The aggregate market value of Common Stock held by non-affiliates of the registrant on March 23, 1998 was approximately $34,377,666 million. All outstanding shares of Common Stock, other than those held by executive officers, directors and 10% shareholders, are deemed to be held by non-affiliates. On March 23, 1998 the registrant had 13,159,550 shares of Common Stock outstanding. DOCUMENTS INCORPORATED BY REFERENCE Part III incorporates information by reference from the definitive Proxy Statement for the 1998 Annual Meeting of Shareholders, to be filed with the Commission no later than 120 days after the end of the registrant's fiscal year covered by this Form 10-K. PART I ITEM 1. BUSINESS GENERAL Big Dog Holdings, Inc. and its subsidiaries ("Big Dogs" or the "Company") develops, markets and retails a branded, lifestyle collection of unique, high-quality, popular-priced consumer products, including activewear, casual sportswear, accessories and gifts. BIG DOGS-Registered Trademark- is an All-American, family-oriented brand that the Company believes has established a unique niche in its dedication to providing quality, value and fun. Big Dogs products were first sold in 1983, and operations remained limited through 1992 when the current controlling stockholders acquired the BIG DOGS-Registered Trademark- brand and related assets. Following the acquisition, Big Dogs initiated a strategy of leveraging the brand through dramatic expansion of its product line and rapid growth in its retail stores. The number of the Company's stores has grown from 5 in 1993 to 150 as of December 31, 1997. The Company's collection is centered around its signature BIG DOGS-Registered Trademark- name, logo and "Big Dog" characters and is designed to appeal to a broad range of customers when they are in the "Big Dog state of mind." The BIG DOGS-Registered Trademark- brand conveys a sense of fun, humor and a "Big Dog attitude," whereby each customer can feel that he or she is a "Big Dog." The Big Dog attitude and sense of fun are brought to life through the Company's graphic capabilities that portray the Big Dog characters in a number of engaging, positive and inspiring situations and activities. The Big Dog attitude is further defined by a number of slogans such as "If You Can't Run with the Big Dogs Stay on the Porch"-Registered Trademark-, "Unless You're the Lead Dog, the Scenery Never Changes," and "Lead, Follow or Get Out of the Way." These graphics and slogans combine a bold, spirited attitude with wry, lighthearted humor. The appeal of the brand is further strengthened through a customer's personal identification with particular sports and other activities depicted in these graphics. In addition to its focus on fun, Big Dogs develops customer loyalty and enhances its brand image by providing a consistently high level of quality at moderate price points. Big Dogs accomplishes this primarily through (i) selling its own brand directly to the consumer, (ii) low-cost product development, and (iii) sourcing high-volume/low-cost basic apparel with limited fashion risk. The BIG DOGS-Registered Trademark- brand is designed to appeal to men, women and children of all ages, particularly baby boomers and their kids, when they are engaged in leisure or recreational activities. Furthermore, the Company believes that the millions of dog and other pet owners in the United States, as well as children, have a strong natural affinity toward the dog-related images and themes in Big Dogs graphics. In addition, the Company believes that the positive image the brand brings to being a "Big Dog" has a special appeal to large-size customers. The Company's apparel products, which include a wide variety of basic apparel and related products, are developed with an emphasis on being functional rather than fashion-forward or trendy. These apparel products include graphic T-shirts, shorts, knit and woven shirts, fleece items, loungewear and boxer shorts. In addition to its BIG DOGS-Registered Trademark- line of activewear and casual sportswear for men and women, the Company has successfully introduced and expanded its LITTLE BIG DOGS-TM- line of infants' and children's apparel and its BIG BIG DOGS-TM- line of Big and Tall apparel. The Company has also successfully expanded its non-apparel products, including plush animals, stationery and pet products, which feature Big Dog graphics and are developed to complement its apparel. The Company reinforces its brand image by distributing BIG DOGS-Registered Trademark- products primarily through its own retail stores. This distribution strategy enables the Company to present a complete selection of its merchandise in a creative and fun environment. In addition, this strategy enables it to more effectively reach its targeted customers by locating stores in tourist-oriented and other casual environments where it believes consumers are more likely to be in the "Big Dog state of mind." The Company operates its retail stores in both outlet and full-price formats, depending on the location. In addition to its retail stores, Big Dogs markets its products through other channels, including its catalog and better wholesale accounts. BUSINESS STRATEGY Big Dogs' mission is to build a brand that is recognized throughout the world for providing high quality, good value and fun and functional products. To achieve this goal, the Company has adopted the following operating strategies: PROMOTE THE BIG DOG SPIRIT OF FUN. A key and unique element in the Company's brand image is its focus on fun. This spirit of fun revolves around the Company's Big Dog character that has broad appeal to men, women and children of all ages. The Company fosters this spirit by creating positive, humorous, topical and inspiring graphics and slogans which it applies to its merchandise. More than just a logo, the Big Dog represents the leader, athlete, child, comedian, musician, boss, traveler, parent and dog lover in everyone. Big Dog products are fun, not only because of their graphics and slogans, but also because they are designed for recreational, sports and leisure activities and make ideal gifts. Big Dogs' focus on fun is further enhanced by the lively, enjoyable atmosphere in its retail stores and is also reflected in its catalog and marketing promotions and activities. DELIVER HIGH QUALITY AT A GOOD VALUE. Big Dogs' products are constructed using high-quality fabrics and other materials. Many of its products feature unique graphics characterized by advanced print techniques, as well as unique appliques and embroideries on many of its apparel products. The Company believes that this combination of quality fabrics and graphics in its apparel products provides the customer with a product that has an exceptional look and feel. Big Dogs is able to deliver this level of quality at reasonable prices primarily as a result of (i) selling its own brand direct to the consumer, (ii) low-cost product development, (iii) sourcing of basic apparel, and (iv) low marketing costs. The Company believes that delivering quality and value is instrumental in generating customer appeal and brand loyalty for its products, particularly those that do not prominently feature Big Dog graphics. ENHANCE FUNCTIONAL PRODUCTS WITH GRAPHICS. Big Dog develops functional rather than fashion-forward products. The Company believes it has a special competency in creating distinctive, popular graphics which it uses to differentiate its products from those of its competitors. Big Dogs has developed a broad assortment of classic, functional clothing ("basics") in traditional, less fashion-forward colors. The Company's focus on basics and its ability to leverage its graphics across multiple product categories have allowed the Company to eliminate the need for a traditional buyer or design staff, and thereby lower its product development costs compared to most fashion apparel companies. Furthermore, since its graphics are added in the last stage of production, the Company is able to be more responsive to customer preferences while also lowering its inventory risk. TARGET A BROAD, DIVERSE CUSTOMER BASE. Big Dogs believes it has established an All-American, family-oriented brand featuring products, graphic themes, slogans and promotions that appeal to a broad range of consumers. Although its marketing focus is on baby boomers and their kids, Big Dogs' customers include men, women and children of all ages, and span a wide range of geographic areas and income levels. Furthermore, the Company believes that the millions of dog and other pet owners in the United States, as well as children, have a strong natural affinity for the dog-related images and themes in Big Dogs graphics. In addition, the Company believes that the positive image the brand brings to being a "Big Dog" has a special appeal to large-size customers. MAINTAIN CONTROLLED DISTRIBUTION. Big Dogs' sells its products primarily through its own stores and, to a lesser extent, through its catalog. By selling direct to its customers, Big Dogs is able to present its complete line of merchandise in a creative and fun environment. This also allows it to target its customers more precisely by locating its stores in tourist-oriented and other high-traffic areas, where the Company believes consumers are more likely to be in the "Big Dog state of mind." Selling direct to the consumer also allows the Company (i) to enhance its margins while still providing customer value, (ii) to be more responsive to customer feedback, especially with regard to new product development, (iii) to reduce its need to build brand awareness through large-scale media advertising, and (iv) to collect customer names for its catalog through in-store sign-ups. CREATE AN ENTERTAINING SHOPPING EXPERIENCE. Big Dogs seeks to create a distinctive and fun shopping environment in its stores through an innovative display of its graphic art and humor, including in-store "T-shirt walls" and other displays that are designed to immediately put the customer in the "Big Dog state of mind." By showcasing the Company's complete product line, Big Dogs stores offer something for everyone in the family. Effective cross-merchandising in the stores is designed to add excitement and prompt add-on purchases. The Company believes the customer's shopping experience is further enhanced by the Company's knowledgeable and enthusiastic sales staff. EMPHASIZE GRASSROOTS MARKETING. The Company believes its most effective marketing is its products themselves and their presentation in the Company's retail stores and catalog. As a result, the Company has spent relatively little on advertising. Also important to Big Dogs' marketing strategy is its targeted "grassroots" marketing activities. These activities include local and charity sponsorships (such as high school sports teams), community-oriented promotional events (such as the Company's annual dog parade in Santa Barbara), and corporate cross-promotions with leading consumer product companies (such as Nabisco and IAMS). The Company's continued growth will depend to a significant degree on its ability to open and operate new stores, to increase net sales and profitability from the Company's existing stores, and to expand its other sources of revenue. Big Dogs' primary growth strategy is the continued expansion of its retail stores. The Company opened 29 net new stores in 1997. The Company opens stores in locations and venues that management believes best target its customers and can be obtained on terms that meet its unit profitability requirements. Depending on the location, the Company will open new stores in either an outlet or full-price format. Although Big Dogs' traditional emphasis has been on outlet malls, the Company has more recently increased its focus on opening full-price, stand-alone stores in tourist and leisure locations. Accordingly, the Company anticipates that the stores it opens in the near future will be located in a variety of venues, including outlet malls, stand-alone stores in tourist areas, tourist-oriented malls, regional malls and metropolitan locations. These new markets and venues have in the past presented, and will continue to present, competitive and merchandising challenges that are different from those faced by the Company in its existing markets and venues. MERCHANDISING Big Dogs' product line features a branded, lifestyle collection of unique, high-quality, popular-priced consumer products, including activewear, casual sportswear, accessories and gifts. Big Dogs' apparel lines include full collections of classic unisex casual sportswear and activewear for adults, as well as more recently introduced collections for infants and children and the Big and Tall market. Big Dogs has also in recent years further expanded its product lines to include not only a wide variety of apparel accessories, but also a collection of gift and consumer products. The Company continuously explores opportunities to further leverage its brand and graphics into new product lines. The Company's apparel products are manufactured from premium cotton, or, in some instances, cotton/ synthetic blends. Big Dogs' apparel is characterized by quality fabrics, construction and embellishments, and is distinguished from other apparel lines by the BIG DOGS-Registered Trademark- name, dog logo, graphics and slogans. In addition to its distinctive graphics, the Company believes it has achieved recognition for the quality and performance of its products. For example, the Company's solid nylon volley shorts and madras plaid shorts were selected by the Atlanta Committee for the Olympic Games to be officially licensed shorts for the 1996 Atlanta Olympics. Prices for most of the Company's products range from between $5 and $30. The following table sets forth the approximate contribution that each of the Company's product categories made to total net sales in the Company's retail stores for the year ended December 31, 1997: RETAIL STORE NET SALES % OF TOTAL ------------ Adult Apparel and Accessories ...................................59.0% Infants' and Children's Apparel and Accessories .................19.7 Big and Tall Apparel ............................................11.8 Non-Apparel Products .............................................9.5 ------ Total .....................................100.0% ADULT APPAREL AND ACCESSORIES. Big Dogs sells a complete line of adult unisex activewear and casual sportswear. The Company offers screen-printed and embroidered T-shirts and sweatshirts, in a variety of styles and colors, that generally prominently display the Big Dogs graphics and slogans. In addition, the Company offers shorts, knit and woven casual shirts, fleece tops and bottoms, loungewear, boxer shorts, swimwear and sleepwear, all of which feature print designs or simply the BIG DOGS-Registered Trademark- name and/or dog logo. The Company's adult apparel line primarily focuses on basic items that recur with relatively minor variation from season-to-season and year-to-year. Although the Company introduces new apparel and other products throughout the year, certain classic, popular items and graphics have been in the Big Dogs line with very little change for over ten years. Big Dogs leverages its trademarks, characters and more popular graphics by carefully translating them to a wide variety of apparel accessories, including caps, ties, socks, sunglasses, bags, watches and wallets. These products are developed and introduced based on their consistency with Big Dog's brand image and whether they complement the Company's other products. The Company's introduction of accessories not only provides an opportunity to create add-on purchases, but also minimizes product development costs and inventory risk by utilizing graphics and slogans that have first proven popular on the Company's graphic T-shirts. INFANTS' AND CHILDREN'S APPAREL AND ACCESSORIES. The LITTLE BIG DOGS-Registered Trademark- line includes infants, toddlers, kids and youth sizes. Products in this line include graphic T-shirts, shirts, fleece items, infant and toddler one-pieces, boxer shorts, dresses and shorts, virtually all of which feature distinctive graphics. The graphics and fabrics of this line are designed to mirror many of the more popular graphics and fabrics in the BIG DOGS adult line in order to encourage family purchases and leverage overall product development costs. The Company sells its LITTLE BIG DOGS-Registered Trademark-line primarily through its retail stores and catalog, and wholesales it to certain specialty and better department stores. BIG AND TALL APPAREL. The Company believes that the BIG DOGS-Registered Trademark-image and the positive emphasis the brand gives to being a "Big Dog" have a unique appeal to consumers who wear large sizes. In the spring of 1996, the Company significantly expanded its BIG BIG DOGS-Registered Trademark-category targeting Big and Tall customers. The Company's BIG BIG DOGS-TM-category offers a line of unisex activewear and casual sportswear. As with the regular adult sizes, this category features screen-printed and embroidered T-shirts and sweatshirts, in a variety of styles and colors, that generally prominently display the Big Dogs graphic themes and slogans. In addition, the Company offers shorts, knit and woven casual and sports shirts, fleece tops and bottoms, loungewear, boxer shorts, swimwear and sleepwear, which may feature print designs or simply the BIG DOGS-Registered Trademark-name and/or dog logo. The Company sells its BIG BIG DOGS-TM-line primarily through its retail stores and catalog and also through selected wholesale accounts. NON-APPAREL PRODUCTS. Big Dogs further leverages its trademarks, characters and more popular graphics by applying them to a wide variety of adult's and children's non-apparel items, including pet products, plush animals and other toys, sporting goods, stationery, calendars, mousepads and screen savers. As with apparel accessories, new non-apparel products are developed and introduced based on whether they are consistent with Big Dogs' brand image and complement the Company's other products. As with apparel accessories, the graphics applied to these products have first proven popular on the Company's T-shirts, resulting in lower product development costs and inventory risk. In general, non-apparel items have higher gross margins than many of the Company's other products. MARKETING The Company strives to maintain a consistent brand image through the coordination of its merchandising, marketing and sales efforts. The goal of the Company's marketing efforts is to present a distinctive image of quality, value and fun that consumers will associate with the Company's products and thereby enhance the BIG DOGS-Registered Trademark- brand image. The BIG DOGS brand image has been developed with relatively little advertising, as the Company believes its most effective marketing is its products themselves and their presentation in the Company's retail stores and catalog. The Company's catalog serves not only as a means of product distribution, but also as the key marketing piece for the Company's retail stores. Also important to the Company's marketing strategy is its targeted "grassroots" marketing activities. These activities include local and charity sponsorships (such as high school sports teams), community-oriented promotional events (such as the Company's annual dog parade in Santa Barbara), and corporate cross-promotions with leading consumer product companies (such as Nabisco and IAMS). The Company trains and incentivizes its store managers to actively involve their stores in local, grassroots activities. In addition, the Company utilizes billboard advertising designed to direct customers to local Big Dogs retail stores. RETAIL STORES Big Dogs seeks to create a distinctive and fun shopping environment in its stores through the innovative display of its graphic art and humor, including in-store "T-shirt walls" and other displays designed to immediately put the customer in the "Big Dog state of mind." In addition, the Company's cross-merchandising and colorful signage are designed to add excitement in the stores and prompt add-on purchases. While maintaining a consistent Big Dog "look" throughout the chain, many stores incorporate graphics and props which are consistent with the store's local environment (for example, a car racing theme in Indianapolis and an Old Spanish Days theme in Santa Barbara). By showcasing the Company's complete product line and broad assortment, Big Dogs stores offer something for everyone in the family and are particularly appealing to the dedicated Big Dogs customer. In 1997, the Company's retail stores contributed approximately 91% of total net sales. As of December 31, 1997, the Company operated 150 stores in 41 states and one store in England. Big Dogs stores are typically located in tourist and recreation-oriented shopping locations and other casual environments where the Company believes consumers are more likely to be in the "Big Dog state of mind." In making site selections, the Company also considers a variety of other factors, including proximity to large population centers, area income, the prestige and potential customer-draw of the other tenants in the center or area, projected profitability, store location and visibility within the center, and the accessibility and visibility of the center from nearby thoroughfares. The table below sets forth the number of stores located in each state or country as of the end of 1997: State No. of Stores State No. of Stores ----- ------------- ----- ------------- Alabama 1 Minnesota 2 Alaska 1 Mississippi 2 Arizona 6 Missouri 3 California 30 Nevada 2 Colorado 3 New Hampshire 1 Connecticut 2 New Jersey 2 Delaware 2 New Mexico 1 Florida 9 New York 8 Georgia 4 North Carolina 5 Hawaii 2 Ohio 3 Idaho 2 Oregon 5 Illinois 3 Pennsylvania 6 Indiana 4 South Carolina 3 Iowa 1 Tennessee 5 Kansas 3 Texas 5 Louisiana 1 Utah 2 Maine 2 Vermont 1 Maryland 2 Virginia 3 Massachusetts 3 Washington 4 Michigan 3 West Virginia 1 Wisconsin 1 Country No. of Stores ------- ------------- United Kingdom 1 The Company operates its retail stores in both outlet and full-price formats, depending on the location. Big Dogs' traditional emphasis has been on outlet malls because those malls are often located in tourist areas and attract significant numbers of Big Dogs' targeted customers. More recently, the Company has increased its focus on opening full-price, stand-alone stores in tourist and leisure locations. The Company anticipates that the stores it opens in the near future will be in a variety of venues, including outlet malls, stand-alone stores in tourist areas, tourist-oriented malls, regional malls and metropolitan locations. The Company's outlet mall stores average approximately 3,000 square feet. The Company's outlet stores offer a complete and current line of the Company's products priced approximately 25% less than the same items are sold for in the Company's catalog and the Company's full-price stores and by other retailers. In addition, the Company has tested a smaller format store which it intends to open in certain circumstances. This smaller format will carry substantially all of the Company's product categories, but will be more densely merchandised to accommodate the smaller square footage. The Company opened 29 net new stores during 1997. The Company's average cost to open a store in 1997, including leasehold improvements and furniture and fixtures, was approximately $70,000 (net of tenant improvement allowances). The average per store initial inventory (partially financed by trade payables) for the new 1997 stores was approximately $69,000 and pre-opening expenses averaged approximately $15,000 per store. The average total cost to build new stores will vary in the future, depending on various factors, including local construction costs, changes in store format and design and tenant improvement allowances. Big Dogs store operations are managed by a Senior Vice President--Retail, three regional managers and approximately 24 district and area managers. Each of the stores is managed and operated by a store manager, an assistant manager and full-time and part-time sales associates. The Company seeks to further enhance its customers' shopping experience by developing a knowledgeable and enthusiastic sales staff to distinguish Big Dogs from its competition. In this regard, the Company has implemented employee training and incentive programs and encourages its sales associates to be friendly and courteous and to guide customers to graphics and products that tie into their individual interests. The Company believes its commitment to customer service enhances its ability to generate repeat business and to attract new customers. The Company also believes that the fun nature of its products and the growth of the Company create employee enthusiasm and positive morale that in turn enhance customer service and contribute to the fun shopping experience. NON-RETAIL DISTRIBUTION Non-retail channels of distribution, including catalog, wholesale and, to a lesser extent, corporate sales, premium programs, international and internet sales, contributed approximately 9% of the Company's total net sales in 1997. CATALOG. Introduced in late 1992, the Company's catalog is a key marketing piece for its products and stores, and enables it to reach customers who are not located near a Big Dogs store. The Company's proprietary mailing list has been developed largely through sign-ups by customers in its retail stores rather than through active prospecting. Big Dogs' proprietary mailing list has over 700,000 active customer names. The Company's catalog sales in 1997 were approximately $4.9 million, or approximately 6% of total net sales. WHOLESALE. During 1997, the Company sold to over 600 wholesale accounts throughout the United States. The Company's wholesale sales in 1997 were approximately $2.5 million, or approximately 3% of total net sales. INTERNATIONAL. Big Dogs products are not currently sold outside of the United States, with the exception of one store in England and incidental other sales. The Company plans to expand the sale of its products internationally through efficient, profitable and brand-enhancing means, which may vary by country and may include retail stores, exporting to resellers, licensing and catalog sales. OTHER BRAND LEVERAGING. Big Dogs intends to carefully evaluate and pursue opportunities to leverage the power of the BIG DOGS-Registered Trademark-brand through various activities that are consistent with the brand image, which may include selective product licensing, co-branding (such as a current co-branding program for ski jackets with Columbia Sportswear) and entertainment and media activities. SOURCING DOMESTIC AND INTERNATIONAL SOURCING. The Company does not own or operate any manufacturing facilities and sources its products through third-party contractors with manufacturing facilities that are primarily overseas. The Company believes that outsourcing allows it to enhance production flexibility and capacity, while substantially reducing capital expenditures and avoiding the costs of managing a large production workforce. In addition, outsourcing allows the Company to leverage working capital, transfer risk and focus its energy and resources on merchandising, marketing and sales. Big Dogs' domestic sourcing is primarily limited to graphic T-shirts. In 1997, as in prior years, the Company purchased substantially all of its graphic T-shirts from a commonly controlled company, Fortune Fashions, Inc. based near Los Angeles, California. Fortune Fashions purchases blank T-shirts and other products and provides screen -printing and embroidery services to the Company for these products. However, during the first quarter of 1998, the Company moved in-house the bulk of its graphic T-shirt business, including the management of screen-printing and blanks that had previously been provided by Fortune Fashions, and the Company expects its future business with Fortune Fashions to be minimal. The majority of Big Dogs' other products are manufactured overseas, primarily in Asia. In order to reduce the Company's exposure to production risks and delays arising from trade disputes, political disruption or other factors relating to any one vendor or country, the Company utilizes a diverse group of vendors. Big Dogs sources product from over 100 unaffiliated vendors, including over 35 foreign vendors in a number of countries, with a significant portion being produced by contractors with manufacturing facilities in China. In order to enhance its sourcing flexibility, the Company uses purchasing agents rather than operate its own foreign sourcing office. These agents assist the Company in selecting and overseeing third-party vendors, sourcing fabric and monitoring quotas and other trade regulations. The Company does not have supply contracts with any of its suppliers. Although the loss of major suppliers could have a significant effect on the Company's immediate operating results, the Company believes alternate sources of merchandise for most product categories are available at comparable prices and that it could replace these suppliers without any long-term adverse effect on the Company. The Company forecasts production requirements to secure necessary manufacturing capacity and quota. Since the Company's foreign manufacturers are located at greater geographic distances from the Company than its domestic manufacturers, the Company generally allows greater lead-times for foreign orders. However, due to the Company's focus on widely available basics rather than fashion items, the Company believes these lead times do not present significant risks. QUALITY CONTROL. The Company's quality control program is designed to ensure that all goods bearing BIG DOGS-Registered Trademark-trademarks meet the Company's standards. With respect to its products, the Company, through its employees and sourcing agents, develops and inspects prototypes of each product prior to manufacture. For apparel products, the Company, through its employees and sourcing agents, inspects the prototypes and fabrics prior to cutting by the contractors, establishes fittings based on the prototype and inspects samples. The Company or its sourcing agents inspect the final product prior to shipment to the Company's warehouse or at the warehouse prior to payment. MANAGEMENT INFORMATION SYSTEMS The Company is committed to utilizing technology to enhance its competitive position. The Company has put in place computer hardware, systems applications and networks that are the same as those used by a number of large retailers. These systems support the sales and distribution of products to its stores and customers and improve the integration and efficiency of its domestic and foreign sourcing operations. Big Dogs' MIS system provides integration of store, merchandising, distribution and financial systems. These systems include stock keeping unit ("SKU") and classification inventory tracking, purchase order management, open-to-buy, merchandise distribution, automated ticket making, general ledger, sales audit, accounts payable, fixed asset management, payroll and integrated financials. These systems operate on an IBM AS 400 platform, and a Novell server network and utilize Island Pacific software. The Company's point-of-sale ("POS") system consists of registers providing price look-up, e-mail and credit card and check authorization. Through automated two-way communication with each store, sales information and e-mail are uploaded to the host system, and receiving, price changes and systems maintenance are down-loaded through the POS devices. Sales are updated daily in the merchandising report systems by polling sales from each store's POS terminals. The Company evaluates information obtained through daily polling, including a daily tracking of gross margin, to implement merchandising decisions regarding reorders, markdowns and allocation of merchandise. Wholesale and catalog operations are also supported by MIS applications from established vendors, designed specifically to meet the unique requirements of these segments of the business. These applications include customer service phone center, order processing and mailing list maintenance. ALLOCATION AND DISTRIBUTION OF MERCHANDISE Allocation and distribution of the Company's inventory is performed centrally at the store, merchandise classification and SKU levels using integrated third-party software. Utilizing its MIS capabilities, the Company's planning and allocation group works closely with the merchandising and retail departments to monitor and respond to customer purchasing trends and meet the seasonal and locale-specific merchandising requirements of the Company's retail stores. The Company is currently implementing fuller utilization of its merchandising information systems to capitalize on regional and seasonal trends and on individual store characteristics. During 1997, Big Dogs maintained two distribution facilities: a main facility of approximately 67,000 square feet located in Commerce, California and a mail order warehouse and fulfillment facility of approximately 21,000 square feet in Ventura, California. In early 1998, the Company consolidated these operations into a new 136,000 square-foot distribution facility in Santa Fe Springs, California. All merchandise is delivered by vendors to this new facility, where it is inspected, entered into the Company's allocation software system, picked and boxed for shipment to the stores or customers. The Company ships merchandise to its stores at least weekly, to provide a steady flow of merchandise. TRADEMARKS The Company utilizes a variety of trademarks which it owns, including the U.S. registered trademarks BIG DOGS-Registered Trademark-, BIG DOG SPORTSWEAR-Registered Trademark-and dog logo and the trademarks BIG DOG-TM-, LITTLE BIG DOGS-TM- and BIG BIG DOGS-TM-. In addition, the Company has registered certain of its trademarks or has registration applications pending in over 14 other countries. The Company regards its trademarks and other proprietary rights as valuable assets and believes that they have significant value in the marketing of its products. From time to time the Company discovers products in the marketplace that the Company believes infringe upon its trademark rights. The Company vigorously protects its trademarks against infringement, including through the use of cease and desist letters, administrative proceedings and lawsuits. COMPETITION Although the level and nature of competition differ among the Company's product categories, the Company competes primarily on the basis of its brand image, offering a unique combination of quality, value and fun, and on other factors including product assortment, price, store location and layout, and customer service. The markets for each of the Company's products are highly competitive. The Company believes that its long-term competitive position will depend upon its ability to anticipate and respond effectively to changing consumer demands and to offer customers a wide variety of high-quality, fun products at competitive prices. Although the Company believes it does not compete directly with any single company with respect to its entire range of merchandise, within each merchandise category the Company competes with well-known apparel and specialty retail companies such as The GAP, Eddie Bauer, Warner Brothers Stores and The Disney Stores, as well as a large number of national and regional department stores, specialty retailers and apparel designers and manufacturers. In addition, in recent years, the amount of casual sportswear and activewear manufactured specifically for department stores and sold under their own labels has significantly increased. Many of Big Dogs' competitors are significantly larger and more diversified and have substantially greater financial, distribution, marketing and other resources and have achieved greater recognition for their brand names than the Company. EMPLOYEES At March 10, 1997, the Company had approximately 500 full-time and 550 part-time employees. The number of part-time employees fluctuates significantly based on seasonal needs. None of the Company's employees are covered by collective bargaining agreements and the Company considers its relations with its employees to be good. EXECUTIVE OFFICERS OF THE REGISTRANT Set forth below are the names, ages, titles and present and past positions of persons serving as executive officers of the Company as of March 23, 1998: NAME AGE POSITION - ------------------ --- ----------------------------------------------- Andrew D. Feshbach 37 President, Chief Executive Officer and Director Douglas N. Nilsen 49 Executive Vice President - Merchandising Anthony J. Wall 42 Executive Vice President - Business Affairs, General Counsel and Secretary Roberta J. Morris 38 Chief Financial Officer, Treasurer and Assistant Secretary Andrew W. Wadhams 37 Senior Vice President - Retail ANDREW D. FESHBACH co-founded the Company in May 1992 and has served as President, Chief Executive Officer and as a director since that time. From June 1992 until May 1997, Mr. Feshbach also served as Chief Financial Officer of the Company. Mr. Feshbach co-founded Fortune Fashions Inc. ("Fortune Fashions"), a custom manufacturer of embellished apparel (See Item 1. "Business - Sourcing") in 1991 and has served as a director since that time, and, from 1991 until June 1992, served as its Chief Financial Officer. From 1990 until the present, he has served as a Vice President of Fortune Financial, a private merchant banking firm owned by the Company's Chairman and majority stockholder, Fred Kayne. Mr. Feshbach serves as a director of The Right Start, Inc., an infant products retailer and catalog company. Mr. Feshbach has an M.B.A. from Harvard University. DOUGLAS N. NILSEN joined the Company in October 1995 and has served as Executive Vice President--Merchandising since December 1995. From October 1995 until December 1995, he served as Senior Vice President of the Company. From 1990 to September 1995, he served as Director of Merchandise at Walt Disney Attractions, Inc. for its U.S. theme parks and resorts, and in such capacity was responsible for merchandising all apparel and accessories. From 1976 to 1990, Mr. Nilsen was employed by Macy's California in various capacities, most recently as Vice President of Merchandising in both the Accessories and Men's Divisions. Mr. Nilsen has an M.B.A. from New York University. ANTHONY J. WALL joined the Company in September 1994 and has served as Executive Vice President since March 1996. He has also served as General Counsel and Secretary of the Company since September 1994. He served as a director of the Company from November 1995 until September 1997 and also as Senior Vice President from September 1994 until March 1996. From 1981 until 1994, Mr. Wall practiced as an attorney with Gibson, Dunn & Crutcher and, from 1990 until 1994, was a partner in the corporate department of that firm. Mr. Wall also serves as Vice President and General Counsel of Fortune Fashions and Vice President of Fortune Financial. Mr. Wall has a J.D. from the University of Southern California. ROBERTA J. MORRIS joined the Company in August 1993 and has served as Chief Financial Officer since March 1, 1998, having previously served as Senior Vice President--Finance since January 1995 and as Vice President--Finance of the Company from August 1993 to January 1995. From 1988 to August 1993, Ms. Morris was employed by Deloitte & Touche LLP, a national accounting firm, serving as a Senior Manager from August 1992 until August 1993. Ms. Morris is a certified public accountant. ANDREW W. WADHAMS joined the Company in August 1996 as Senior Vice President--Retail. From January 1994 to June 1996, Mr. Wadhams served as Vice President of Retail Operations of Imaginarium, Inc., a retailer of children's games and educational items. From 1986 to November 1993, Mr. Wadhams was employed in various capacities by The Gap Inc. in its Gap, GapKids, Gap International and Banana Republic divisions, most recently as Regional Manager--Retail Operations of Banana Republic from 1991 to 1994. ITEM 2. PROPERTIES The Company's corporate headquarters are located in Santa Barbara, California in two leased buildings comprising approximately 28,000 square feet under leases that expire in July 1999. The Company has two five-year options to extend the lease on one of these buildings. The Company's distribution facility is located in Santa Fe Springs, California in a leased building comprising approximately 136,000 square feet under a lease that expires in January 2008. The Company has an option to extend this lease for five years The Company leases all of its store locations. Store leases are typically for a term of 5 years with a 5-year option and provide for base rent plus contingent rent based upon a percentage of sales in excess of agreed-upon sales levels. ITEM 3. LEGAL PROCEEDINGS The Company is involved from time to time in litigation incidental to its business. Management believes that the outcome of the current litigation will not have a material adverse effect upon the financial statements of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF THE SECURITY HOLDERS Not applicable. PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED SHAREHOLDER MATTERS The common stock of the Company is traded on the NASDAQ National Market under the symbol BDOG. The Company effected its initial public offering in September 1997 at a price of $14.00 per share. The following table sets forth, for the periods indicated, the high and low "sales" price of the shares of Common Stock of the Company, as reported on the NASDAQ National Market. 1997 HIGH LOW - ---- ---- --- Third Quarter (commencing September 24, 1997) $15-3/4 $14 Fourth Quarter $14-3/8 $ 5 On March 25, 1998, the last sales price of the Common Stock as reported on the NASDAQ National Market was $6.625 per share. As of March 25, 1998 there were approximately 121 shareholders of record of the Company's Common Stock. The Company has not paid any cash dividends since inceptions and does not anticipate paying any cash dividends in the foreseeable future. 1997 Sales of Unregistered Securities In 1997, the Company sold an aggregate of 199,000 shares of common stock upon exercise of outstanding warrants and options at purchase prices ranging from $2.59 to $4.00 per share for total consideration of $723,000 in cash. The sales of the securities in such transactions were exempt from registration under the Securities Act of 1933 by virtue of Section 4(2) and/or Regulation D promulgated thereunder. ITEM 6. SELECTED FINANCIAL DATA The selected consolidated financial data set forth below should be read in conjunction with the Consolidated Financial Statements and the Notes thereto and with "Management's Discussion and Analysis of Financial Condition and Results of Operations" appearing elsewhere in this Form 10-K.
YEARS ENDED DECEMBER 31, ---------------------------------------------------- 1993 1994 1995 1996 1997 ---- ---- ---- ---- ---- (in thousands, except per share and operating data) STATEMENT OF OPERATIONS DATA: Net sales ............................................ $ 11,413 $ 28,404 $ 51,541 $ 68,683 $ 86,181 Cost of goods sold ................................... 5,946 12,857 21,571 29,720 36,328 ----- ------ ------ ------ ------ Gross profit ......................................... 5,467 15,547 29,970 38,963 49,853 ----- ------ ------ ------ ------ Selling, marketing and distribution expenses ......... 3,873 12,993 24,814 32,309 39,549 General and administrative expenses .................. 1,341 1,746 3,167 3,937 4,738 ----- ----- ----- ----- ----- Total operating expenses ............................. 5,214 14,739 27,981 36,246 44,287 ----- ------ ------ ------ ------ Operating income (loss) .............................. 253 808 1,989 2,717 5,566 Interest expense ..................................... 306 397 1,189 1,647 1,268 Income (loss) before provision (benefit) for income taxes ......................................... (53) 411 800 1,070 4,298 Provision (benefit) for income taxes ................. 1 19 162 435 1,633 --------- --------- --------- --------- --------- Net income (loss)..................................... $ (54) $ 392 $ 638 $ 635 $ 2,665 ========= ========= ========= ========= ========= Net income (loss) per share Basic and diluted ............................... $ (0.01) $ 0.04 $ 0.07 $ 0.06 $ 0.24 Weighted average common shares Basic ........................................... 9,000 9,000 9,503 9,978 10,965 Diluted.......................................... 9,000 9,000 9,503 10,049 11,187 OPERATING DATA: Number of stores: (1) Open at beginning of period ........................ 5 16 51 91 121 Stores added (net of closures)...................... 11 35 40 30 29 -- -- -- -- -- Open at end of period .............................. 16 51 91 121 150 Comparable store sales increase (decrease)(2) ........ 31.8% (1.5)% 9.0% 3.2% 6.5%
DECEMBER 31 1992 1993 1994 1995 1996 1997 ---- ---- ---- ---- ---- ---- BALANCE SHEET DATA: Working capital ...... $ 1,141 $ 1,506 $ 3,072 $ 8,030 $13,742 $35,468 Total assets ......... 3,623 5,756 13,647 19,011 25,773 52,584 Total indebtedness (3) 1,530 2,272 6,141 10,732 15,697 0 Stockholders' equity . 556 2,502 3,094 4,737 6,142 45,541
(1) Excludes two temporary stores open for a portion of 1995 and four temporary stores open for a portion of 1996. (2) Comparable store sales represent net sales of stores open at least one full year. Stores are considered comparable beginning on the first day of the first month following the one-year anniversary of their opening. Stores that are relocated but remain in the same shopping area remain in the comparable store base. (3) Includes subordinated debt, obligations under the bank line of credit and obligations under capital leases. All indebtedness was paid off with a portion of the proceeds from the Company's initial public offering in September 1997. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS This Annual Report on Form 10-K contains forward-looking statements that involve risks and uncertainties. The statements contained in this Form 10-K that are not purely historical are forward-looking statements, including without limitation statements regarding the Company's expectations, beliefs, intentions or strategies regarding the future. Such forward-looking statements include the discussions in this Management's Discussion and Analysis of Financial Condition and Results of Operations regarding the seasonality of business, use of proceeds from the Company's initial public offering, expected new store openings and costs, the impact of year 2000 compliance and inflation risks. Uncertainties to which the foregoing and other aspects of the Company's business may be subject include those discussed below in regard to factors that may affect quarterly results discussed below, the factors affecting the costs of building new stores, and other risks and uncertainties, some of which are discussed in greater detail in the Company's Prospectus dated September 25, 1997 filed with the SEC. All forward-looking statements in this document are based upon information available to the Company on the date hereof, and the Company assumes no obligation to update any such forward-looking statements. Notwithstanding the Company's growth in sales and profitability during recent periods, the Company faces significant risks and, as a result, there can be no assurance that the Company's historical growth will be indicative of future performance. The following discussion and analysis should be read in conjunction with the Consolidated Financial Statements and Notes thereto of the Company contained elsewhere in this Form 10-K. GENERAL Big Dogs develops, markets and retails a branded, lifestyle collection of unique, high-quality, popular-priced consumer products, including activewear, casual sportswear, accessories and gifts. The number of Company stores has grown from 5 in 1993 to 150 as of December 31, 1997. RESULTS OF OPERATIONS The following table sets forth, for the periods indicated, certain selected statement of operations data expressed as a percentage of net sales: YEARS ENDED DECEMBER 31, ------------------------ 1997 1996 1995 ---- ---- ---- Net sales ........................................ 100.0% 100.0% 100.0% Cost of goods sold ............................... 42.2 43.3 41.9 ---- ---- ---- Gross profit ..................................... 57.8 56.7 58.1 Selling, marketing and distribution expenses ..... 45.9 47.0 48.1 General and administrative expenses .............. 5.5 5.7 6.1 --- --- --- Total operating expenses ......................... 51.4 52.8 54.3 ---- ---- ---- Income from operations ........................... 6.5% 4.0% 3.9% YEARS ENDED DECEMBER 31, 1997 AND 1996 NET SALES. Net sales consist of sales from the Company's stores, catalog, and wholesale accounts, all net of returns and allowances. Net sales increased to $86.2 million in 1997 from $68.7 million for 1996, an increase of $17.5 million, or 25.5%. Of the $17.5 million increase, $13.4 million was attributable to stores not yet qualifying as comparable stores and $3.8 million came from the 6.5% comparable store sales increase for the period. Additionally, non-retail sales increased by $0.3 million for the year. The increase in net sales in 1997 was primarily attributable to continued improvements in store operations and the Company's merchandise assortments and in-stock positions as a result of better utilization of the merchandise planning and allocation systems. In particular, continued strong growth in the Company's recently introduced categories of children's, Big and Tall and non-apparel products increased to 41% of total retail net sales from 34% of net sales in 1996. GROSS PROFIT. Gross profit increased to $49.9 million in 1997 from $39.0 million for 1996, an increase of $10.9 million, or 27.9%. As a percentage of net sales, gross profit increased to 57.8% in 1997 from 56.7% in 1996. This increase as a percentage of net sales was primarily attributable to better sourcing of certain key products. Also contributing to the percentage increase were continued improvements in merchandising, planning and allocation which led to better product sell-throughs and less markdowns in the fourth quarter 1997 as compared to the same period in 1996. SELLING, MARKETING AND DISTRIBUTION EXPENSES. Selling, marketing and distribution expenses consist of expenses associated with creating, distributing, and selling products through all channels of distribution, including occupancy, payroll and catalog costs. Selling, marketing and distribution expenses increased to $39.5 million in 1997 from $32.3 million in 1996, an increase of $7.2 million, or 22.3%. As a percentage of net sales, these expenses decreased to 45.9% in 1997 from 47.0% in 1996, primarily as a result of operational efficiencies gained from previous infrastructure investments and spreading them over a larger revenue base. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses consist of administrative salaries, corporate occupancy costs and other corporate expenses. General and administrative expenses increased to $4.7 million in 1997 from $3.9 million in 1996. As a percentage of net sales, these expenses decreased to 5.5% in 1997 from 5.7% in 1996, reflecting the leverage of spreading them over a larger revenue base. INTEREST EXPENSE, NET. Interest expense, net of $0.2 million of interest income in 1997, decreased to $1.3 million in 1997 from $1.6 million in 1996, a decrease of $0.3 million. The decrease is due to the payoff of indebtedness from a portion of the proceeds from the Company's initial public offering in September 1997. YEARS ENDED DECEMBER 31, 1996 AND 1995 NET SALES. Net sales increased to $68.7 million in 1996 from $51.5 million in 1995, an increase of $17.1 million, or 33.3%. Of the $17.1 million increase, $19.6 million was attributable to stores not yet qualifying as comparable stores and $1.2 million was attributable to the 3.2% comparable store sales increase for the period. These increases were partially offset by a decline of $3.7 million in non-retail sales as a result of the Company's streamlining of its catalog and wholesale operations which it initiated with the objectives of improving their profitability and positioning them for future growth. Comparable store sales increased in the fall and holiday periods, which management believes was primarily a result of fundamental improvements in store operations. These improvements include integration of newly recruited executive management in merchandising, store operations and distribution, utilization of the new computer system to improve merchandising decisions and product allocation and improvements in warehouse operations. Comparable store sales also increased as a result of the continued growth of the three relatively new product lines (children's, Big and Tall and non-apparel products) and new promotional techniques. GROSS PROFIT. Gross profit increased to $39.0 million in 1996 from $30.0 million in 1995, an increase of $9.0 million, or 30.0%. However, as a percentage of net sales, gross profit decreased to 56.7% in 1996 from 58.1% in 1995. This decline in gross profit as a percentage of net sales is primarily attributable to certain inefficiencies throughout the year related to the integration of the new merchandising information system. In addition, the Company experienced lower than expected retail gross profit margins in the fourth quarter of 1996 due to product mix and out-of-stock issues in December related to better than expected sell-throughs in October and November. SELLING, MARKETING AND DISTRIBUTION EXPENSES. Selling, marketing and distribution expenses increased to $32.3 million in 1996 from $24.8 million in 1995, an increase of $7.5 million, or 30.2%. As a percentage of net sales, these expenses decreased to 47.0% in 1996 from 48.1% in 1995. This decrease in operating expenses as a percentage of net sales was primarily attributable to the Company's decision to streamline its catalog operations. This decrease was offset in part by higher occupancy costs and payroll costs as a percentage of net sales related primarily to the timing of new store openings. GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses increased to $3.9 million in 1996 from $3.2 million in 1995, an increase of $0.8 million or 24.3%. As a percentage of net sales, these expenses decreased to 5.7% in 1996 from 6.1% in 1995, reflecting the leverage of spreading these expenses over a larger revenue base. INTEREST EXPENSE, NET. Interest expense increased to $1.6 million in 1996 from $1.2 million in 1995, an increase of $0.4 million, as a result of a $6.1 million increase in the amount of subordinated notes outstanding during the year and increased borrowings under the Company's revolving credit facility. PROVISION FOR INCOME TAXES. The effective tax rate in 1996 was 40.7% as compared to 20.3% in 1995. The lower effective tax rate in 1995 was primarily attributable to the utilization of alternative minimum tax credit carry-forwards. As of December 31, 1995, the Company had fully utilized its net operating loss carryforwards. SEASONALITY AND QUARTERLY RESULTS The Company believes its seasonality is somewhat different than many apparel retailers since a significant number of the Company's stores are located in tourist areas and outdoor malls that have different visitation patterns than urban and suburban retail centers. The third and fourth quarters (consisting of the summer vacation, back-to-school and Christmas seasons) have historically accounted for the largest percentage of the Company's annual net sales and profits. In 1997, excluding sales generated by stores not open for all of 1997, substantially all the Company's operating income and approximately 28% and 36% of the Company's net sales were generated during the third and fourth quarters, respectively. In addition, the Company has historically incurred operating losses in its first quarter and anticipates that it will continue to do so during the first quarter of each year for the foreseeable future. The Company's quarterly results of operations may also fluctuate as a result of a variety of factors, including the timing of store openings, the amount of revenue contributed by new stores, changes in comparable store sales, changes in the mix of products sold, customer acceptance of new products, the timing and level of markdowns, competitive factors and general economic conditions. The following table sets forth certain data for each of the Company's last eight fiscal quarters. The quarterly data set forth below were derived from unaudited consolidated financial statements of the Company, which in the opinion of management of the Company contain all adjustments (consisting only of normal adjustments) necessary for a fair presentation of such data.
1996 1997 --------------------------------------------- ---------------------------------------------- FIRST SECOND THIRD FOURTH FIRST SECOND THIRD FOURTH QTR. QTR. QTR. QTR. QTR. QTR. QTR. QTR. ---- ---- ---- ---- ---- ---- ---- ---- (in thousands, except per share and operating data) STATEMENT OF OPERATIONS DATA: Net sales ......................... $ 9,131 $ 15,220 $ 19,652 $ 24,680 $ 12,265 $ 18,878 $ 24,129 $ 30,909 Gross profit ...................... 4,812 8,922 11,311 13,918 6,670 11,265 14,107 17,811 Selling, marketing and distribution 6,091 7,594 8,631 9,993 8,454 9,310 9,879 11,906 expenses General and administrative expenses 979 997 976 985 1,035 1,076 1,118 1,509 Total operating expenses .......... 7,070 8,591 9,607 10,978 9,489 10,386 10,997 13,415 Income (loss) from operations ..... (2,258) 331 1,704 2,940 (2,819) 879 3,110 4,396 Net income (loss) ................. (1,522) (18) 755 1,420 (2,031) 228 1,607 2,861 Net income (loss) per share Basic and Diluted ............ $ (0.16) $ (0.00) $ 0.07 $ 0.14 $ (0.20) $ 0.02 $ 0.14 $ 0.22 Weighted average shares outstanding Basic ........................ 9,734 9,863 10,101 10,211 10,161 10,161 10,355 13,157 Diluted ...................... 9,734 9,863 10,138 10,420 10,161 10,421 10,652 13,271 AS A PERCENTAGE OF NET SALES: Gross profit ...................... 52.7% 58.6% 57.6% 56.4% 54.4% 59.7% 58.5% 57.6% Sellings, marketing and ........... 66.7 49.9 43.9 40.5 68.9 49.3 40.9 38.5 distribution expenses General and administrative expenses 10.7 6.6 5.0 4.0 8.4 5.7 4.6 4.9 Total operating expenses .......... 77.4 56.4 48.9 44.5 77.4 55.0 45.6 43.4 Income (loss) from operations ..... (24.7) 2.2 8.7 11.9 (23.0) 4.7 12.9 14.2 Net income (loss) ................. (16.7) (0.1) 3.8 5.8 (16.6) 1.2 6.7 9.3 OPERATING DATA: Comparable store sales (decrease) . (6.2)% (3.8%) (2.8%) 16.1% 16.4% 5.5% 5.2% 4.9% increase Stores open at end of period ...... 95 105 113 121 121 132 139 150
LIQUIDITY AND CAPITAL RESOURCES During the last three years, the Company's primary uses of cash have been to finance store openings and purchase merchandise inventories. The Company has satisfied its cash requirements principally from proceeds from the sale of debt and equity securities, including its initial public offering in September 1997, a revolving line of credit with its bank and in 1997 cash flow from operations. The Company completed its initial public offering of shares in September 1997, and received net proceeds of approximately $35.6 million. Approximately $21.5 million of the net proceeds were used to repay subordinated debt, short-term borrowings and capital lease obligations. Remaining proceeds were used for general corporate purposes and to increase working capital, and the Company expects to use certain of the proceeds to finance store openings and remodeling in 1998. Also, in the first quarter of 1998 the Company Board of Directors authorized to the Company to repurchase up to $10 million of its common stock. The shares repurchased will be used by the Company in its employee stock option programs covering future option grants and for general corporate purposes. Cash flows (used in) provided by operating activities were ($1.8) million and $7.3 million in 1996 and 1997, respectively. Inventories at December 31, 1997 were $16.7 million compared to $15.4 million at December 31, 1996, an increase of $1.3 million. The Company's average inventories vary throughout the year and increase in advance of its peak selling periods during the summer, back-to-school and Christmas seasons. The increase in inventories is attributable to opening 29 net new stores in 1997. The increase in accounts payable is directly attributable to the increase in inventories. In addition, the Company believes that it has generally negotiated favorable terms with its overseas vendors, who in many instances allow the Company to pay for goods when received rather than post letters of credit in advance. Cash used in investment activities in 1997 and 1996 was $5.3 million and $3.5 million, respectively. Cash flows used in investing activities relate primarily to new store openings, retrofitting of existing stores, new fixtures and the acquisition and implementation of a new computer system in 1996. Cash provided by financing activities in 1997 and 1996 was $20.8 million and $5.2 million, respectively. In February 1996, the Company received net proceeds of $2.5 million from the sale of 10% subordinated notes and Common Stock. In November 1996, the Company received net proceeds of $4.2 million from the sale of 10% subordinated notes and warrants to purchase Common Stock. In September 1997, the Company received approximately $35.6 million from its initial public offering and net proceeds of $723,000 from the exercise of stock options and warrants. The Company has a revolving credit facility with a bank that expires in May 1998, which the Company expects to extend on comparable terms. The revolving credit facility provides for a $3.0 million revolving line of credit that can be used for cash advances and letters of credit. Interest on advances under the revolving credit facility is payable monthly at the bank's prime rate (8.5% at December 31, 1997). As of December 31, 1997, the Company had no advances and $0.6 million of letters of credit outstanding. This facility is collateralized by substantially all the assets of the Company and subjects it to various restrictive covenants, including maintenance of minimum working capital and tangible net worth levels, limitations on indebtedness and a prohibition on the payment of dividends. The Company plans to open approximately 35 net new stores in 1998. The Company's average cost to open a store in 1997, including leasehold improvements and furniture and fixtures, was approximately $70,000 (net of tenant improvement allowances). The average per store initial inventory (partially financed by trade payables) for the new 1997 stores was approximately $69,000 and pre-opening expenses averaged approximately $15,000 per store. The average total cost to build new stores will vary in the future, depending on various factors, including local construction expenses, changes in store format and design and tenant improvement allowances. In addition to new store openings, the Company retrofitted 61 stores in 1997 at an average cost of $17,000 per store. The Company believes that its existing cash balances and cash generated from operations will be sufficient to fund its operations and planned expansion through 1998. YEAR 2000 The Company has conducted a review of its computer systems to address the implications of the Year 2000 compliance. The Company is currently developing an implementation plan to accomplish these objectives. Year 2000 compliance refers to the inability of certain computer systems to recognize dates commencing on January 1, 2000. Such inability has the potential to materially adversely affect the operation of computer systems. The Company currently believes that by upgrading existing software and converting to new software for certain tasks, Year 2000 compliance will not pose significant operations problems and is not anticipated to be material to its financial position or results of operations in any given year. However, there can be no assurance that the systems of other companies on which the Company may rely will be timely converted or that the failure to convert by another company would not have an adverse effect on the Company. At the present time, the Company estimates that the incremental cash requirements related to system upgrades and Year 2000 compliance will not be material. Such expenditures will be expensed or capitalized as appropriate. INFLATION The Company does not believe that inflation has had a material effect on operations in the past year. However, there can be no assurance that the Company's business will not be affected by inflation in the future. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA See "Index to Consolidated Financial Statements" at Item 14(a) for a listing of the consolidated financial statements filed as part of this report. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT See the section entitled "Executive Officers" in Part I, Item 1 hereof for information regarding the executive officers. Other information with respect to this item is incorporated by reference from the registrant's definitive proxy statement to be filed with the Commission not later than 120 days after the end of the registrant's fiscal year. ITEM 11. EXECUTIVE COMPENSATION Information with respect to this item is incorporated by reference from the registrant's definitive proxy statement to be filed with the Commission not later than 120 days after the end of the registrant's fiscal year. ITEM 12 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT Information with respect to this item is incorporated by reference from the registrant's definitive proxy statement to be filed with the Commission not later than 120 days after the end of the registrant's fiscal year. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS Information with respect to this item is incorporated by reference from the registrant's definitive proxy statement to be filed with the Commission not later than 120 days after the end of the registrant's fiscal year. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8K (a) 1. The financial statements listed in the "Index to Consolidated Financial Statements" at page F-1 are filed as a part of this report. 2. Financial statement schedules are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto. 3. Exhibits included or incorporated herein: See "Index to Exhibits". (b) Reports on Form 8-K. There were no reports on Form 8-K filed during the last quarter of the fiscal year covered by this report. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on March 25, 1998 on its behalf by the undersigned, thereunto duly authorized. BIG DOG HOLDINGS, INC. By /s/ ANDREW D. FESHBACH Andrew D. Feshbach Chief Executive Officer and President Each person whose signature appears below hereby authorizes Andrew D. Feshbach and Anthony J. Wall or either of them, as attorneys-in-fact to sign on his behalf, individually, and in each capacity stated below and to file all amendments and/or supplements to the Annual Report on Form 10-K. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated. SIGNATURE TITLE DATE - --------- ----- ---- /s/ ANDREW D. FESHBACH Chief Executive Officer, President and Director March 25, 1998 - ---------------------- (Principal Executive Officer) Andrew D. Feshbach /s/ ROBERTA J. MORRIS Chief Financial Officer, Treasurer and Assistant March 25, 1998 - --------------------- Secretary (Principal Financial and Accounting Roberta J. Morris Officer) /s/ FRED KAYNE Chairman of the Board March 25, 1998 - -------------- Fred Kayne /s/ STEVEN C. GOOD Director March 25, 1998 - ------------------ Steven C. Good /s/ ROBERT H. SCHNELL Director March 25, 1998 - --------------------- Robert H. Schnell /s/ KENNETH A. SOLOMON Director March 25, 1998 - ---------------------- Kenneth A. Solomon /s/ DAVID J. WALSH Director March 25, 1998 - ------------------ David J. Walsh
BIG DOG HOLDINGS, INC. AND SUBSIDIARY INDEX TO FINANCIAL STATEMENTS YEARS ENDED DECEMBER 31, 1997, 1996 AND 1995 PAGE -------- Independent Auditors' Report .................................................... F-2 Consolidated Balance Sheets as of December 31, 1997 and 1996 .................... F-3 Consolidated Statements of Operations for the years ended December 31, 1997, 1996 and 1995 ................................................................... F-4 Consolidated Statements of Stockholders' Equity for the years ended December 31, 1997, 1996 and 1995 ........................................................ F-5 Consolidated Statements of Cash Flows for the years ended December 31, 1997, 1996 and 1995 .............................................................. F-6 Notes to the Consolidated Financial Statements .................................. F-7
F-1 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of Big Dog Holdings, Inc.: We have audited the accompanying consolidated balance sheets of Big Dog Holdings, Inc. and subsidiary (the "Company") as of December 31, 1997 and 1996, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1997. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of December 31, 1997 and 1996, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 1997 in conformity with generally accepted accounting principles. DELOITTE & TOUCHE LLP Los Angeles, California February 20, 1998 F-2 BIG DOG HOLDINGS, INC. AND SUBSIDIARY CONSOLIDATED BALANCE SHEETS DECEMBER 31, ------------ 1997 1996 ---- ---- ASSETS (NOTE 3) CURRENT ASSETS: Cash and cash equivalents ........................................ $ 23,508,000 $ 723,000 Receivables: Trade, net ..................................................... 457,000 353,000 Other .......................................................... 294,000 617,000 Inventories (Note 9) ............................................. 16,714,000 15,403,000 Prepaid expenses and other current assets ........................ 744,000 478,000 Deferred income taxes (Note 6) ................................... 144,000 144,000 ------- ------- Total current assets ............................................... 41,861,000 17,718,000 PROPERTY AND EQUIPMENT, Net (Notes 2 and 5) ........................ 10,232,000 7,445,000 INTANGIBLE ASSETS, Net (Note 1) .................................... 131,000 266,000 OTHER ASSETS (Note 1) .............................................. 360,000 344,000 ------------- ----------- TOTAL .............................................................. $ 52,584,000$ 25,773,000 ============= =========== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Current portion of obligations under capital leases (Note 5) ..... $ -- $ 530,000 Accounts payable (Note 9) ........................................ 2,767,000 1,235,000 Income taxes payable (Note 6) .................................... 1,395,000 400,000 Accrued expenses and other current liabilities (Note 4) .......... 2,231,000 1,811,000 --------- --------- Total current liabilities .......................................... 6,393,000 3,976,000 DEFERRED RENT (Note 7) ............................................. 650,000 488,000 OBLIGATIONS UNDER CAPITAL LEASES, Net of current portion (Note 5) .. -- 767,000 SUBORDINATED DEBT (Note 4) ......................................... -- 14,400,000 ---------- ---------- Total liabilities ............................................ 7,043,000 19,631,000 --------- ---------- COMMITMENTS AND CONTINGENCIES (Note 7) STOCKHOLDERS' EQUITY (Notes 4 and 8): Preferred stock, $.01 par value, 3,000,000 shares authorized, none issued and outstanding .................................... $ -- $ -- Common stock $.01 par value, 30,000,000 shares authorized, 13,159,550 and 10,160,550 shares issued and outstanding at December 31, 1997 and 1996, respectively ....................... 132,000 102,000 Additional paid-in capital ....................................... 42,224,000 5,705,000 Retained earnings ................................................ 3,732,000 1,067,000 Notes receivable from common stockholders ........................ (547,000) (732,000) ---------- --------- Total stockholders' equity ................................... 45,541,000 6,142,000 ---------- --------- TOTAL .............................................................. $52,584,000 $25,773,000 =========== =========== See notes to consolidated financial statements.
F-3 BIG DOG HOLDINGS, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF OPERATIONS YEARS ENDED DECEMBER 31, ------------------------------------------------- 1997 1996 1995 -------------- -------------- -------------- NET SALES (Note 9) ................................... $86,181,000 $68,683,000 $51,541,000 COST OF GOODS SOLD (Note 9) .......................... 36,328,000 29,720,000 21,571,000 -------------- -------------- -------------- GROSS PROFIT ......................................... 49,853,000 38,963,000 29,970,000 -------------- -------------- -------------- OPERATING EXPENSES: Selling, marketing and distribution (Note 1) 39,549,000 32,309,000 24,814,000 General and administrative (Note 9) ................ 4,738,000 3,937,000 3,167,000 ------------- ------------- ------------- Total operating expenses ......................... 44,287,000 36,246,000 27,981,000 ------------- ------------- ------------- INCOME FROM OPERATIONS ............................... 5,566,000 2,717,000 1,989,000 INTEREST EXPENSE, NET (Notes 3, 4, and 5) ............................................. 1,268,000 1,647,000 1,189,000 ------------- ------------- ------------- INCOME BEFORE PROVISION FOR INCOME TAXES .............................................. 4,298,000 1,070,000 800,000 PROVISION FOR INCOME TAXES (Note 6) 1,633,000 435,000 162,000 ----------- ----------- ----------- NET INCOME ........................................... $ 2,665,000 $ 635,000 $ 638,000 =========== =========== =========== NET INCOME PER SHARE (Note 1) BASIC AND DILUTED .................................. $ 0.24 $ 0.06 $ 0.07 =========== =========== ===========
See notes to consolidated financial statements. F-4 BIG DOG HOLDINGS, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY NOTES COMMON STOCK ADDITIONAL RETAINED RECEIVABLE PAID-IN EARNINGS FROM COMMON SHARES AMOUNT CAPITAL (DEFICIT) STOCKHOLDERS TOTAL --------- --------- ----------- ------------ ------------ ----------- BALANCE, JANUARY 1, 1995............ 9,000,000 $ 90,000 $ 3,210,000 $ (206,000) -- $ 3,094,000 Common stock issued (Note 4) 670,000 7,000 998,000 -- -- 1,005,000 Net income ....................... -- -- -- 638,000 -- 638,000 ----------- ---------- ------------ ------------ ------------ ------------ BALANCE, DECEMBER 31, 1995 9,670,000 97,000 4,208,000 432,000 -- 4,737,000 Common stock issued (Notes 4 and 8) ................ 540,550 5,000 1,395,000 -- $ (855,000) 545,000 Warrants issued (Note 4) ......... -- -- 240,000 -- -- 240,000 Repurchased common stock (Note 8) ....................... (50,000) -- (138,000) -- 123,000 (15,000) Net income ....................... -- -- -- 635,000 -- 635,000 ----------- ---------- ------------ ------------ ------------ ------------ BALANCE, DECEMBER 31, 1996 10,160,550 102,000 5,705,000 1,067,000 (732,000) 6,142,000 Common stock issued .............. 2,800,000 28,000 35,548,000 -- -- 35,576,000 Options exercised ................ 55,000 1,000 170,000 -- -- 171,000 Warrants exercised ............... 144,000 1,000 551,000 -- -- 552,000 Collections of notes receivable .. -- -- -- -- 185,000 185,000 Tax benefits related to exercise of stock options (Note 8) ...... -- -- 250,000 -- -- 250,000 Net Income ....................... -- -- -- 2,665,000 -- 2,665,000 ----------- --------- ----------- ----------- ------------ ------------ BALANCE, DECEMBER 31, 1997 13,159,550 $ 132,000 $42,224,000 $ 3,732,000 $ (547,000) $45,541,000 =========== ========= =========== =========== ============ ============
See notes to consolidated financial statements. F-5 BIG DOG HOLDINGS, INC. AND SUBSIDIARY CONSOLIDATED STATEMENTS OF CASH FLOWS YEARS ENDED DECEMBER 31 ------------------------------------ 1997 1996 1995 ----------- ----------- ------------ CASH FLOWS FROM OPERATING ACTIVITIES: Net income ................................................ $2,665,000 $ 635,000 $ 638,000 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Depreciation and amortization ........................... 2,620,000 1,931,000 1,059,000 Provision for losses on receivables ..................... 25,000 174,000 57,000 Loss on disposition of property and equipment ........... 37,000 35,000 -- Deferred income taxes ................................... -- 80,000 (224,000) Changes in operating assets and liabilities: Receivables ........................................... 194,000 (387,000) 327,000 Inventories ........................................... (1,311,000) (4,577,000) (2,980,000) Prepaid expenses and other assets ..................... (266,000) (45,000) (225,000) Accounts payable ...................................... 1,532,000 (641,000) (1,463,000) Income taxes payable .................................. 1,245,000 35,000 360,000 Accrued expenses and other current liabilities ........ 420,000 740,000 2,000 Deferred rent ......................................... 162,000 258,000 230,000 ------------ ------------ ------------ Net cash provided by (used in) operating activities.. 7,323,000 (1,762,000) (2,219,000) ------------ ------------ ------------ CASH FLOWS FROM INVESTING ACTIVITIES: Capital expenditures ...................................... (5,285,000) (3,377,000) (2,346,000) Other ..................................................... (23,000) (108,000) (18,000) ------------ ------------ ------------ Net cash used in investing activities ............... (5,308,000) (3,485,000) (2,364,000) ------------ ------------ ------------ CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from issuance of common stock .................... 35,576,000 545,000 1,005,000 Repurchase of common stock ................................ -- (15,000) -- Proceeds from issuance of warrants ........................ -- 114,000 Proceeds from exercise of options ......................... 171,000 -- -- Proceeds from exercise of warrants ........................ 552,000 -- -- Collection of notes receivable ............................ 185,000 Proceeds from subordinated debt ........................... -- 7,900,000 8,270,000 Principal repayments of subordinated debt ................. (14,400,000) (1,774,000) (3,500,000) Principal repayments under capital lease obligations ...... (1,314,000) (344,000) -- Short-term borrowings, net ................................ -- (1,225,000) (1,286,000) ------------ ------------ ------------ Net cash provided by financing activities ........... 20,770,000 5,201,000 4,489,000 ------------ ------------ ------------ NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 22,785,000 (46,000) (94,000) CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR ................ 723,000 769,000 863,000 ------------ ------------ ------------ CASH AND CASH EQUIVALENTS, END OF YEAR.... .................. $23,508,000 $ 723,000 $ 769,000 ============ ============ ============ SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid for: Interest ................................................ $ 1,659,000 $1,521,000 $1,225,000 Income taxes ........................................... $ 388,000 $ 367,000 $ 42,000
SUPPLEMENTAL DISCLOSURES OF NONCASH INVESTING AND FINANCING ACTIVITIES: The Company entered into capital lease obligations of $18,000, $533,000, and $1,108,000 for equipment for the years ended 1997, 1996, and 1995, respectively (see Note 5). In 1997 the Company recorded an increase to additional paid-in-capital of $250,000 related to tax benefits associated with the exercise of non-qualified stock options (see Note 8). In 1996, the Company refinanced $138,000 of capital lease obligations (see Note 5). In 1996, a stockholder converted $2,226,000 of short-term subordinated debt to $2,100,000 of long-term subordinated debt and warrants valued at $126,000. In July 1996, certain key employees and other individuals issued $855,000 of long-term notes receivable to the Company as payment for common stock (see Note 8). In December 1996, the Company repurchased 50,000 shares of common stock for $138,000, $123,000 of which was by the retirement of a related long-term note receivable (see Note 8). See notes to consolidated financial statements. F-6 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES ORGANIZATION AND BUSINESS The consolidated financial statements include the accounts of Big Dog Holdings, Inc. and its wholly owned subsidiary, Big Dog USA, Inc. (the "Company"). All significant intercompany accounts and transactions have been eliminated. The Company principally develops and markets apparel and other consumer products through Company-operated retail stores, wholesale accounts and a catalog. On September 25, 1997, the Company's $56,000,000 initial public offering of 4,000,000 shares of common stock at $14.00 per share was declared effective (the "Offering"). Of the 4,000,000 shares, the Company sold 2,800,000 shares and certain stockholders sold 1,200,000 shares. The Company's net proceeds, after underwriting discounts and expenses associated with the offering were approximately $35,600,000. USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. CONCENTRATION OF CREDIT RISK The Company has cash on deposit with a high credit quality financial institution which is in excess of the Federal Deposit Insurance Corporation limit. FAIR VALUE OF FINANCIAL INSTRUMENTS The estimated fair values of receivables and accounts payable approximate their carrying values because of the short-term maturity of these instruments or the stated interest rates are indicative of market interest rates. A reasonable estimate of fair value is not practicable for subordinated debt due to the limited availability of similar financing. CASH & CASH EQUIVALENTS The Company considers all highly liquid investments with a maturity of less than three months when purchased to be cash equivalents. INVENTORIES Inventories, consisting substantially of finished goods, are stated at the lower of cost (first-in, first-out method) or market. F-7 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) PROPERTY AND EQUIPMENT Property and equipment are stated at cost and depreciated using the straight-line method over their estimated useful lives, ranging from two to ten years. Amortization of leasehold improvements is computed using the straight-line method based upon the life of the improvement or the term of the lease, whichever is shorter. INTANGIBLE ASSETS Intangible assets are stated at cost and amortized using the straight-line method over five years. Accumulated amortization was $534,000 and $393,000, at December 31, 1997 and 1996, respectively. OTHER ASSETS Other assets include long-term deposits of $353,000 and $293,000 at December 31, 1997 and 1996, respectively, which relate primarily to leased facilities, including retail stores. IMPAIRMENT OF LONG-LIVED ASSETS The Company evaluates the carrying value of long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of such assets may not be recoverable. If the estimated future cash flows (undiscounted and without interest charges) from the use of an asset are less than the carrying value, a write-down would be recorded to reduce the related asset to its estimated fair value. SELLING, MARKETING AND DISTRIBUTION EXPENSES Included in this classification are approximately $547,000, $439,000, $640,000 in 1997, 1996 and 1995, respectively, of store preopening expenses, which are expensed as incurred. INCOME TAXES Deferred income taxes reflect the income tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, (b) net operating loss and tax credit carryforwards, and (c) valuation allowances, when necessary, to reduce deferred income tax assets to the amount expected to be realized (see Note 6). F-8 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) EARNINGS PER SHARE The Company adopted Statement of Financial Accounting Standards ("SFAS") No. 128, "Earnings Per Share", for the year ended December 31, 1997. SFAS No. 128 requires the Company to present basic and diluted earnings per share on the face of the income statement. Basic earnings per share is calculated based on the weighted average number of shares outstanding. Diluted earnings per share is calculated based on the same number of shares plus additional shares representing stock distributable under stock-based plans computed using the treasury stock method. The weighted average number of shares outstanding used to compute basic earnings per share were 10,965,000, 9,978,000 and 9,503,000 for the years ended December 31, 1997, 1996 and 1995, respectively, and for computing diluted earnings per share were 11,187,000, 10,049,000 and 9,503,000 for the same respective years. The following reconciles the numerator and denominator of the basic and diluted per-share computations for net income: YEAR ENDED DECEMBER 31, ----------------------- 1997 1996 1995 ------------ ------------ ------------ Net income ...................................................... $2,665,000 $ 635,000 $ 638,000 Basic Weighted Average Shares: ============ ============ ============ Weighted average number of shares outstanding ................. 10,965,000 9,978,000 9,503,000 Effect of Dilutive Securities: Options and warrants ......................................... 222,000 71,000 -- ------------ ------------ ------------ Diluted Weighted Average Shares: Weighted average number of shares outstanding and common share equivalents ............................................ 11,187,000 10,049,000 9,503,000 ============ ============ ============
RECENTLY ISSUED ACCOUNTING STANDARDS In June 1997, the FASB issued SFAS No. 131, "Disclosures about Segments of an Enterprise and Related Information," which redefines how operating segments are determined and requires disclosure of certain financial and descriptive information about a company's operating segments. SFAS No. 131 is effective for financial statements issued for periods beginning after December 15, 1997. The Company has determined the adoption of SFAS No. 131 will not have a material impact on the financial statements. 2. PROPERTY AND EQUIPMENT Property and equipment consist of the following: DECEMBER 31, ------------ 1997 1996 ------------ ----------- Leasehold improvements ............................ $ 5,866,000 $ 3,926,000 Equipment and fixtures (Note 5) ................. 9,792,000 6,548,000 ------------ ----------- 15,658,000 10,474,000 Less accumulated depreciation and amortization .................................. (5,426,000) (3,029,000) ------------ ------------ Property and equipment, net ..................... $10,232,000 $ 7,445,000 ============ =========== F-9 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 2. PROPERTY AND EQUIPMENT (CONTINUED) Depreciation and amortization expense on property and equipment totaled $2,479,000, $1,794,000, $932,000 in 1997, 1996 and 1995, respectively. 3. SHORT-TERM BORROWINGS The Company has a line of credit arrangement with a bank whereby the Company may borrow up to $3,000,000 as cash advances and letters of credit. There were no outstanding balances on the line of credit as of December 31, 1997 and 1996, respectively. The line of credit currently bears interest at the bank's prime lending rate, expires on May 2, 1998, and is collateralized by substantially all assets of the Company. The short-term borrowings bore interest at the rate of 8.5% and 8.75% at December 31, 1997 and 1996, respectively. This credit arrangement contains various restrictive covenants, including maintenance of minimum working capital and tangible net worth levels and limitations on indebtedness. The credit arrangement also prohibits the payment of dividends by the Company. The Company was in compliance with all debt covenants as of December 31, 1997. The Company has commitments under letters of credit totaling $551,000, at December 31, 1997. The letters of credit expire through May 1, 1998. 4. SUBORDINATED DEBT In April 1995, the Company completed a private placement of 67 units to new investors, each unit consisting of a $60,000 promissory note, which bore interest at 10%, and 10,000 shares of common stock of Big Dog Holdings, Inc. at $1.50 per share. Proceeds from the offering, totaling $5,025,000, consisted of $1,005,000 from the issuance of 670,000 shares of common stock and $4,020,000 from the issuance of subordinated notes. Of the proceeds received, $3,500,000 was used to repay certain stockholder notes outstanding at December 31, 1994. The notes were due at the earlier of April 3, 2002 or the consummation of an initial public offering. Upon completion of the Offering, the $4,020,000 of subordinated debt was repaid by the Company. During 1995, the Company also issued additional subordinated debt to an existing stockholder totaling $4,250,000 which was due in 1998 and bore interest at the rate of 10% per annum. Upon completion of the Offering, all of the above discussed subordinated debt was repaid by the Company. In February 1996, the Company completed a private placement of 50 units to investors, each unit consisting of a $40,000 promissory note which bore interest at 10%, and 3,861 shares of common stock of Big Dog Holdings, Inc. at $2.59 per share. Proceeds from the offering, totaling $2,500,000, consisted of $500,000 from the issuance of 193,050 shares of common stock and $2,000,000 from the issuance of subordinated notes. The notes were due the earlier of November 4, 2003 or the consummation of an initial public offering. Upon completion of the Offering, the $2,000,000 of subordinated debt was repaid by the Company. F-10 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) SUBORDINATED DEBT (CONTINUED) In November 1996, the Company completed a private placement of 10 "A" units and 10 "B" units to investors. Each "A" unit consisted of a $200,000 promissory note, which bore interest at 10%, and 12,000 redeemable "A" warrants. Each "B" unit consisted of a $200,000 promissory note, which bore interest at 10%, and 12,000 redeemable "B" warrants. Each "A" warrant is exercisable at any time for the purchase of one share of the Company's common stock at $3.00 per share. Each "B" warrant is exercisable at any time for the purchase of one share of the Company's common stock at $4.00 per share. All warrants expire in five years from the date of grant. Proceeds from this offering, totaling $4,240,000, consisted of $240,000 from the issuance of 120,000 "A" warrants and 120,000 "B" warrants and $4,000,000 from the issuance of subordinated debt. During 1997, 24,000 "A" warrants and 120,000 "B" warrants were exercised. Upon completion of the Offering, the $4,000,000 of subordinated debt was repaid by the Company. The Company may redeem all or part of any unexercised warrants at a price of $2.50 per warrant if the stock trades at a price equal to or greater than $21.00 per share for a period of 20 out of 30 consecutive trading days. At December 31, 1996, accrued interest on the notes discussed above totaled $174,000. Interest expense on these notes for the years ended December 31, 1997, 1996 and 1995 amounted to $1,077,000, $1,535,000 and $766,000, respectively. 5. OBLIGATIONS UNDER CAPITAL LEASES Upon completion of the Offering, the Company paid off all existing capital leases. At December 31, 1996, capital lease assets and related accumulated amortization included in property and equipment in the consolidated balance sheets amounted to $1,988,000 and $415,000, respectively. 6. INCOME TAXES Significant components of the Company's net deferred income tax assets are as follows: DECEMBER 31, ------------------------ 1997 1996 ---------- --------- Deferred income tax assets: Allowance for doubtful receivables and sales returns ........ $ 40,000 $ 36,000 Accrued vacation ............................................ 30,000 34,000 Inventory uniform capitalization ............................ 324,000 302,000 Intangible assets ........................................... 148,000 109,000 State income taxes .......................................... 39,000 18,000 Alternative minimum tax credits ............................. 26,000 88,000 Stockholders' accrued interest .............................. -- 67,000 Other ....................................................... 70,000 -- ---------- --------- Total deferred income tax assets .............................. 677,000 654,000 ---------- --------- Deferred income tax liabilities: Prepaid expenses ............................................ (92,000) (59,000) Depreciation ................................................ (441,000) (451,000) ---------- --------- Total deferred income tax liabilities ......................... (533,000) (510,000) ---------- --------- Deferred income tax asset ..................................... $ 144,000 $ 144,000 ========== =========
F-11 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 6. INCOME TAXES (CONTINUED) YEAR ENDED DECEMBER 31, ----------------------------------------------- 1997 1996 1995 ---- ---- ---- Current: Federal ....................................... $ 1,438,000 $ 321,000 $ 324,000 State ......................................... 195,000 34,000 62,000 ------------ ---------- ----------- Total ........................................... 1,633,000 355,000 386,000 ------------ ---------- ----------- Deferred: Federal ....................................... 5,000 102,000 (202,000) State ......................................... (5,000) (22,000) (22,000) ------------ ---------- ----------- Total ........................................... -- 80,000 (224,000) ------------ ---------- ----------- Total income tax provision ...................... $ 1,633,000 $ 435,000 $ 162,000 ============ ========== ===========
The Company's effective income tax rate differs from the federal statutory income tax rate due to the following: YEAR ENDED DECEMBER 31, 1997 1996 1995 ---- ---- ---- Federal statutory income tax rate ........... 34.0 % 34.0 % 34.0 % State taxes, net of federal benefit ......... 3.2 2.4 4.7 Use of net operating loss carryforwards ..... -- (5.0) Alternative minimum credits ................. -- (15.6) Other, net .................................. 0.8 4.3 2.2 ------ ------ ------ Total ....................................... 38.0 % 40.7 % 20.3 % ====== ====== ====== 7. COMMITMENTS AND CONTINGENCIES LEASES The Company leases retail stores, office buildings and warehouse space under lease agreements that expire through 2007. Future minimum lease payments under noncancelable operating leases are as follows: YEARS ENDING DECEMBER 31, - ------------------------- 1998 ..................................................... $12,366,000 1999 ..................................................... 11,229,000 2000 ..................................................... 9,442,000 2001 ..................................................... 6,604,000 2002 ..................................................... 3,812,000 Thereafter ............................................... 8,522,000 ----------- Total .................................................... $51,975,000 =========== F-12 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 7. COMMITMENTS AND CONTINGENCIES (CONTINUED) The above amounts do not include contingent rentals based on sales in excess of the stipulated minimum that may be paid under certain leases on retail stores and common area charges. Additionally, certain leases contain future adjustments in rental payments based on changes in a specified inflation index. The effective annual rent expense for the Company is the total rent paid over the term of the lease, amortized on a straight-line basis. The difference between the actual rent amount paid and the effective rent recognized for financial statement purposes is reported as deferred rent. Rent expense for the years ended December 31, 1997, 1996 and 1995 totaled $11,333,000, $8,431,000, and $4,774,000, respectively, and includes contingent rentals of $149,000, $79,000, and $49,000 for the years ended December 31, 1997, 1996 and 1995, respectively. LITIGATION The Company is not involved in any legal proceedings other than certain actions arising in the ordinary course of its business. While the outcome of such proceedings and threatened proceedings cannot be predicted with certainty, in the opinion of management, the ultimate resolution of these matters individually or in the aggregate will not have a material adverse effect on the Company's business, financial condition or results of operations. STOCKHOLDERS' EQUITY PREFERRED STOCK On August 1, 1997 the Board of Directors of the Company approved the authorization of 3,000,000 shares of $0.01 par value preferred stock. No shares of preferred stock have been issued as of December 31, 1997. 1996 STOCK INCENTIVE PLAN In July 1996, the Company issued 347,500 shares of common stock under the 1996 Stock Incentive Plan (the "Plan"). The Plan authorized the issuance of up to 500,000 shares of the Company's common stock to key employees and other persons. The shares were sold at $2.59 per share, which the Board of Directors determined to be at or above the fair market value, with proceeds to the Company consisting of $45,000 in cash and the balance of $855,000 in full recourse notes receivable. The notes receivable are due ten years from their date of issuance, bear interest at the rate of 7% per annum, are secured by the common stock acquired and are included as a component of stockholders' equity in the consolidated financial statements. The Plan was terminated on December 31, 1996. The stock vests over a two-year period, with one-third of the shares vesting at the purchase date. On December 31, 1996, the Company reacquired 50,000 shares at an average of $2.76 per share. During 1997, $185,000 of the notes receivables were repaid to the Company. F-13 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 8. STOCKHOLDERS' EQUITY (CONTINUED) STOCK OPTIONS In March 1996, the Company issued a five-year option to its chairman to acquire 35,000 shares of the Company's common stock at an exercise price of $2.59 per share. In August 1996, the Company issued an additional five-year option to the chairman to acquire an additional 20,000 shares at an exercise price of $4.00. The exercise prices were determined by the board of directors to be equal to or greater than the fair value of the Company's common stock at the date of grant. During 1997, these options were exercised, and the Company recognized tax benefits of $250,000 resulting from the exercise of these non-qualified stock options which were recorded as additional paid-in capital in the consolidated financial statements. In January 1997, the Company adopted the 1997 Stock Option Plan authorizing the issuance of nonqualified stock options to directors, officers, employees, consultants and others to purchase common stock at prices equal to the fair value of the Company's shares at the grant dates. In 1997, options for 92,500 shares were granted at exercise prices from $5.00 to $7.50 per share. Such options vest one-third each year, beginning one year after the grant date and expire ten years from the date of grant. The 1997 Stock Option Plan was terminated on August 1, 1997. On August 1, 1997, the Company adopted the 1997 Performance Award Plan to attract, reward and retain officers and employees. The maximum number of shares reserved for issuance under this plan is 1,000,000. Awards under this plan may be in the form of nonqualified stock options, incentive stock options, stock appreciation rights, restricted stock, performance shares, stock bonuses, or cash bonuses based upon performance. During 1997, the Company granted options under this plan for the purchase of 389,500 shares of common stock at exercise prices ranging from $10.25 to $14.00 per share, the fair value of the shares at the date of grant. Such options vest at 20% each year, beginning one year after the grant date and expire seven to ten years from the date of grant. The following summarizes stock option activity for the periods presented: WEIGHTED NUMBER AVERAGE OF SHARES EXERCISE PRICE ---------------- ---------------- Balance at December 31, 1995 ...... -- -- Options granted ................. 55,000 $ 3.10 ---------------- ---------------- Balance at December 31, 1996. 55,000 3.10 Options granted ................. 482,000 11.14 Options exercised ............... (55,000) (3.10) Options cancelled ............... (13,250) (12.04) ---------------- ---------------- Balance at December 31, 1997 ...... 468,750 $ 11.11 ================ ================ F-14 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 8. STOCKHOLDERS' EQUITY (CONTINUED) 1997 1996 ---- ---- Weighted-average fair value of options granted during the year ..$ 4.37 $ 1.55 The following table summarizes information about stock options outstanding at December 31, 1997:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ----------------------------------------- ---------------------------------------- NUMBER NUMBER OUTSTANDING WEIGHTED-AVERAGE EXERCISABLE RANGE OF AT DECEMBER REMAINING WEIGHTED-AVERAGE AT DECEMBER WEIGHTED-AVERAGE EXERCISE PRICES 31, 1997 CONTRACTUAL LIFE EXERCISE PRICE 31, 1997 EXERCISE PRICE - ----------------- -------------- ------------------ --------------------- ----------------- --------------------- $ 5.00 - $ 7.50 92,500 9.2 years $ 6.01 0 $ -- $10.25 20,000 6.9 years 10.25 0 -- $ 12.00 - $14.00 356,250 7.0 years 12.49 0 -- - ----------------- -------------- ------------------ --------------------- ----------------- --------------------- $ 5.00 - $14.00 468,750 7.4 years $11.11 0 $ -- ================= ============== ================== ===================== ================= =====================
The Company accounts for its stock-based awards using the intrinsic value method in accordance with Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees" and its related interpretations. Accordingly, no compensation expense has been recognized in the financial statements for employee stock arrangements. SFAS No. 123, "Accounting for Stock-Based Compensation," requires the disclosure of pro forma net income and net income per share had the Company adopted the fair value method as of the beginning of 1995. Under SFAS No. 123, the fair value of stock-based awards to employees is calculated through the use of option pricing models, even though such models were developed to estimate the fair value of freely tradable, fully transferable options without vesting restrictions, which significantly differ from the Company's stock option awards. These models also require subjective assumptions, including future stock price volatility and expected time to exercise, which greatly affect the calculated values. The Company's calculations were made using the Black-Scholes option pricing model with the following weighted average assumptions: expected life of 7.7 years following vesting; stock price volatility of 7%; risk free interest rate of 6.4%; and no dividends during the expected term. Forfeitures are recognized as they occur. If the computed fair values of the 1997 and 1996 awards had been amortized to expense over the vesting period of the awards, pro forma net income would have been reduced to the pro forma amounts indicated below. There were no stock options granted prior to 1996. YEARS ENDED DECEMBER 31, ------------------------ 1997 1996 ---- ---- Net income: As reported .............................. $ 2,665,000 $ 635,000 Pro forma ................................ 2,567,000 584,000 Net income per share: As reported: Basic and diluted ................... $ 0.24 $ 0.06 Pro forma: Basic and diluted ................... $ 0.23 $ 0.06 F-15 BIG DOG HOLDINGS, INC. AND SUBSIDIARY NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) 9. RELATED PARTY TRANSACTIONS Certain of the Company's stockholders and officers have ownership interests in certain merchandise vendors to the Company. Merchandise inventory purchased from these related vendors totaled $8,636,000, $8,030,000, and $6,696,000 for the years ended December 31, 1997, 1996 and 1995, respectively. Included in accounts payable are $412,000 and $62,000 due to these vendors at December 31, 1997 and 1996, respectively. During 1996, the Company also processed certain sales for one of these merchandise vendors and recorded revenue of $71,000. The Company also received advisory, legal and consulting services from related parties. Such expenses incurred for the years ended December 31, 1997, 1996 and 1995 were $120,000, $208,000, and $388,000, respectively, and are included in general and administrative expenses in the consolidated statements of operations. The Company engaged a related party to perform retail construction services. During 1997, construction services provided to the Company totaled $371,000. 10. QUARTERLY FINANCIAL DATA (UNAUDITED)
FIRST SECOND THIRD FOURTH QUARTER QUARTER QUARTER QUARTER ------- ------- ------- ------- (In thousands, except per share) Year ended December 31, 1997: Net sales .................................. $ 12,265 $ 18,878 $ 24,129 $ 30,909 Gross profit ............................... 6,670 11,265 14,107 17,811 Selling, marketing and distribution expenses 8,454 9,310 9,879 11,906 General and administrative expenses ........ 1,035 1,076 1,118 1,509 Total operating expenses ................... 9,489 10,386 10,997 13,415 Income (loss) from operations .............. (2,819) 879 3,110 4,396 Net income (loss) .......................... (2,031) 228 1,607 2,861 Net income (loss) per share Basic and diluted ....................... $ (0.20) $ 0.02 $ 0.14 $ 0.22 Weighted average shares outstanding Basic ................................... 10,161 10,161 10,355 13,157 Diluted ................................. 10,161 10,421 10,652 13,271 Year ended December 31, 1996: Net sales .................................. $ 9,131 $ 15,220 $ 19,652 $ 24,680 Gross profit ............................... 4,812 8,922 11,311 13,918 Selling, marketing and distribution expenses 6,091 7,594 8,631 9,993 General and administrative expenses ........ 979 997 976 985 Total operating expenses ................... 7,070 8,591 9,607 10,978 Income (loss) from operations .............. (2,258) 331 1,704 2,940 Net income (loss) .......................... (1,522) (18) 755 1,420 Net income (loss) per share Basic and Diluted ....................... $ (0.16) $ (0.00) $ 0.07 $ 0.14 Weighted average shares outstanding Basic ................................... 9,734 9,863 10,101 10,211 Diluted ................................. 9,734 9,863 10,138 10,420
F-16 INDEX TO EXHIBITS Exhibit No. Description 3.1 Amended and Restated Certificate of Incorporation* 3.1A Certificate of Correction* 3.2 Amended and Restated Bylaws 4.1 Reference is hereby made to Exhibits 3.1*, 3.1A* and 3.2 4.2 Specimen Stock Certificate* 10.1 Amended and Restated Credit Agreement dated as of June 30, 1995 between Big Dog Holdings, Inc., Big Dog USA, Inc., and Fortune Dogs, Inc.,* as amended by First Amendment, dated as of February 15, 1996*, Second Amendment dated as of April 30, 1996,* Third Amendment dated as of May 3, 1997* and Fourth Amendment to Amended and Restated Credit Agreement dated as of November 10, 1997 10.2 Form of Stockholder Agreement made as of January 2, 1996 between Big Dog Holdings, Inc. and certain stockholders* 10.3 Forms of Notes and Warrants issued November 4, 1996* 10.6 1996 Stock Incentive Plan* 10.7 Form of Purchase Agreement under the Big Dog Holdings, Inc. 1996 Stock Incentive Plan* 10.8 1997 Stock Option Plan* 10.9 Form of Stock Option Agreement under the 1997 Stock Option Plan* 10.10 Amended and Restated 1997 Performance Award Plan* 10.10A Form of Employee Nonqualified Stock Option Agreement under 1997 Performance Award Plan* 10.11 Lease between Big Dog USA, Inc. and The Prudential Insurance Company of America dated November 4, 1997 10.12 Lease Agreement between Big Dog Holdings, Inc. and S.V.B. Properties dated as of June 1, 1994, as amended by Lease Agreement dated as of December 1, 1994, Second Lease Amendment dated as of March 1, 1996 and Third Lease Amendment dated as of July 22, 1996* 10.13 Lease Agreement between Big Dog Holdings, Inc., and the Eldred Family Trust & Jason Eldred Trust dated as of April 4, 1996* 10.14 Form of Indemnification Agreement* 21.1 List of Subsidiaries of Big Dog Holdings, Inc.* 24.1 Power of Attorney (included in signature page)* 27.1 Financial data schedule - ------------- * Incorporated by reference from the Company's Form S-1 Registration Statement (No. 333-33027), as amended, which became effective September 25, 1997 EX-3.(II) 2 AMENDED AND RESTATED BYLAWS EXHIBIT 3.2 AMENDED AND RESTATED BYLAWS OF BIG DOG HOLDINGS, INC. (a Delaware corporation) The Bylaws are amended and restated as of February 5, 1998. ARTICLE 1 - STOCKHOLDERS 1.1 Place of Meetings. All meetings of stockholders shall be held at such place within or without the State of Delaware as may be designated from time to time by the Board of Directors or the President or, if not so designated, at the executive offices of the corporation. 1.2 Annual Meeting. The annual meeting of stockholders for the election of directors and for the transaction of such other business as may properly be brought before the meeting shall be held each year beginning in the calendar year 1998 on such date and at such time as the Board of Directors determines. If this date shall fall upon a legal holiday at the place of the meeting, then such meeting shall be held on the next succeeding business day at the same hour. If no annual meeting is held in accordance with the foregoing provisions, the Board of Directors shall cause the meeting to be held as soon thereafter as convenient. 1.3 Special Meetings. Special meetings of stockholders may be called only in accordance with Article SIXTH of the Certificate of Incorporation as it may be amended from time to time (the "Certificate of Incorporation"). 1.4 Notice of Meetings. Except as otherwise provided by law, written notice of each meeting of stockholders, whether annual or special, shall be given not less than 10 nor more than 60 days before the date of the meeting to each stockholder entitled to vote at such meeting. The notices of all meetings shall state the place, date and hour of the meeting. The notice of a special meeting shall state, in addition, the purpose or purposes for which the meeting is called. If mailed, notice is given when deposited in the United States mail, postage prepaid, directed to the stockholder at his address as it appears on the records of the corporation. 1.5 Voting List. The officer who has charge of the stock ledger of the corporation shall prepare, at least 10 days before every meeting of stockholders, a complete list of the stockholders entitled to vote at the meeting, arranged in alphabetical order, and showing the address of each stockholder and the number of shares registered in the name of each stockholder. Such list shall be open to the examination of any stockholder, for any purpose germane to the meeting, during ordinary business hours, for a period of at least 10 days prior to the meeting, at a place within the city where the meeting is to be held. The list shall also be produced and kept at the time and place of the meeting during the whole time of the meeting, and may be inspected by any stockholder who is present. 1.6 Quorum. Except as otherwise provided by law, the Certificate of Incorporation or these Bylaws, the holders of a majority of the shares of the capital stock of the corporation issued and outstanding and entitled to vote at the meeting, present in person or represented by proxy, shall constitute a quorum for the transaction of business. 1.7 Adjournments. Any meeting of stockholders may be adjourned to another time and to any other place at which a meeting of stockholders may be held under these Bylaws by the stockholders present or represented at the meeting and entitled to vote, although less than a quorum, or, if no stockholder is present, by any officer entitled to preside at or to act as Secretary of such meeting. It shall not be necessary to notify any stockholder of any adjournment of less than 30 days if the time and place of the adjourned meeting are announced at the meeting at which adjournment is taken, unless after the adjournment a new record date is fixed for the adjourned meeting. At the adjourned meeting, the corporation may transact any business which might have been transacted at the original meeting. 1.8 Voting and Proxies. Each stockholder shall have one vote for each share of stock entitled to vote held of record by such stockholder and a proportionate vote for each fractional share so held, unless otherwise provided in the Certificate of Incorporation. Each stockholder of record entitled to vote at a meeting of stockholders may vote in person or may authorize another person or persons to vote or act for him by written proxy executed by the stockholder or his authorized agent and delivered to the Secretary of the corporation. No such proxy shall be voted or acted upon after three years from the date of its execution, unless the proxy expressly provides for a longer period. 1.9 Action at Meeting. In all matters other than the election of directors, when a quorum is present at any meeting, the holders of a majority of the stock present or represented and entitled to vote on the subject matter (or if there are two or more classes of stock entitled to vote as separate classes, then in the case of each such class, the holders of a majority of the stock of that class present or represented and entitled to vote on the subject matter) shall decide any matter to be voted upon by the stockholders at such meeting, except when a different vote is required by express provision of law, the Certificate of Incorporation or these Bylaws. Any election of directors by stockholders shall be determined by a plurality of the votes cast by the stockholders entitled to vote at the election. 1.10 Advance Notice of Stockholder Nominees and Stockholder Business. (a) At an annual meeting of the stockholders, only such business shall be conducted as shall have been properly brought before the meeting. To be properly brought before an annual meeting, business must be: (A) specified in the notice of meeting (or any supplement thereto) given by or at the direction of the Board of Directors, (B) otherwise properly brought before the meeting by or at the direction of the Board of Directors, or (C) otherwise properly brought before the meeting by a stockholder. For business to be properly brought before an annual meeting by a stockholder, the stockholder must have given timely notice thereof in writing to the Secretary of the corporation. To be timely, a stockholder's notice must be delivered to or mailed and received at the principal executive offices of the corporation not later than the close of business on the sixtieth (60th) day nor earlier than the close of business on the ninetieth (90th) day prior to the first anniversary of the preceding year's annual meeting; provided, however, that in the event that no annual meeting was held in the previous year or the date of the annual meeting has been changed by more than thirty (30) days from the date contemplated at the time of the previous year's proxy statement, notice by the stockholder to be timely must be so received not earlier than the close of business on the ninetieth (90th) day prior to such annual meeting and not later than the close of business on the later of the sixtieth (60th) day prior to such annual meeting or, in the event public announcement of the date of such annual meeting is first made by the corporation fewer than seventy (70) days prior to the date of such annual meeting, the close of business on the tenth (10th) day following the day on which public announcement of the date of such meeting is first made by the corporation. A stockholder's notice to the Secretary shall set forth as to each matter the stockholder proposes to bring before the annual meeting: (i) a brief description of the business desired to be brought before the annual meeting and the reasons for conducting such business at the annual meeting, (ii) the name and address, as they appear on the corporation's books, of the stockholder proposing such business, (iii) the class and number of shares of the corporation which are beneficially owned by the stockholder, (iv) any material interest of the stockholder in such business and (v) any other information that is required to be provided by the stockholder pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended (the "1934 Act"), in his or her capacity as a proponent to a stockholder proposal. Notwithstanding the foregoing, in order to include information with respect to a stockholder proposal in the proxy statement and form of proxy for a stockholder's meeting, stockholders must provide notice as required by the regulations promulgated under the 1934 Act. Notwithstanding anything in these Bylaws to the contrary, no business shall be conducted at any annual meeting except in accordance with the procedures set forth in this paragraph (a). The chairman of the annual meeting shall, if the facts warrant, determine and declare at the meeting that business was not properly brought before the meeting and in accordance with the provisions of this paragraph (a), and, if he or she should so determine, such chairman shall so declare at the meeting that any such business not properly brought before the meeting shall not be transacted. (b) Only persons who are nominated in accordance with the procedures set forth in this paragraph (b) shall be eligible for election as directors. Nominations of persons for election to the Board of Directors of the corporation may be made at a meeting of stockholders by or at the direction of the Board of Directors or by any stockholder of the corporation entitled to vote in the election of directors at the meeting who complies with the notice procedures set forth in this paragraph (b). Such nominations, other than those made by or at the direction of the Board of Directors, shall be made pursuant to timely notice (as set forth in paragraph (a) of this Section 1.10) in writing to the Secretary of the corporation in accordance with the provisions of paragraph (b) of this Section 1.10. Such stockholder's notice shall set forth (i) as to each person, if any, whom the stockholder proposes to nominate for election or re-election as a director: (A) the name, age, business address and residence address of such person, (B) the principal occupation or employment of such person, (C) the class and number of shares of the corporation which are beneficially owned by such person, (D) a description of all arrangements or understandings between the stockholder and each nominee and any other person or persons (naming such person or persons) pursuant to which the nominations are to be made by the stockholder, and (E) any other information relating to such person that is required to be disclosed in solicitations of proxies for election of directors, or is otherwise required, in each case pursuant to Regulation 14A under the 1934 Act (including without limitation such person's written consent to being named in the proxy statement, if any, as a nominee and to serving as a director if elected), and (ii) as to such stockholder giving notice, the information required to be provided pursuant to paragraph (a) of this Section 1.10. At the request of the Board of Directors, any person nominated by a stockholder for election as a director shall furnish to the Secretary of the corporation that information required to be set forth in the stockholder's notice of nomination which pertains to the nominee. No person shall be eligible for election as a director of the corporation unless nominated in accordance with the procedures set forth in this paragraph (b). The chairman of the meeting shall, if the facts warrant, determine and declare at the meeting that a nomination was not made in accordance with the procedures prescribed by these Bylaws, and if he or she should so determine, such chairman shall so declare at the meeting, and the defective nomination shall be disregarded. (c) For purposes of this Section 1.10, "public announcement" shall mean disclosure in a press release reported by the Dow Jones News Service, Associated Press or comparable national news service or in a document publicly filed by the corporation with the Securities and Exchange Commission pursuant to Section 13, 14 or 15(d) of the 1934 Act. ARTICLE 2 - DIRECTORS 2.1 General Powers. The business and affairs of the corporation shall be managed by or under the direction of a Board of Directors, who may exercise all of the powers of the corporation except as otherwise provided by law, the Certificate of Incorporation or these Bylaws. In the event of a vacancy in the Board of Directors, the remaining directors, except as otherwise provided by law, may exercise the powers of the full Board of Directors until the vacancy is filled. 2.2 Number; Election; Tenure and Qualification. The number of Directors of the Corporation shall be six (6), subject to amendment in accordance with Article FIFTH of the Certificate of Incorporation. The Directors shall be classified and their successors elected in accordance with Article SEVENTH of the Certificate of Incorporation. Subject to the requirement of the Certificate of Incorporation that the classes be as nearly equal in number as possible, the size of each class of Directors shall be as determined from time to time by resolution adopted by a majority of the Board of Directors. Any reduction in the size of any class of Directors shall not shorten the term of office of any incumbent Director. Directors need not be stockholders of the corporation. 2.3 Chairman of the Board and Vice Chairman of the Board. The Board of Directors may appoint a Chairman of the Board. Although the Chairman may also be an officer of the corporation, the Chairman shall not be deemed to be an officer of the corporation simply by virtue of his appointment as an officer. The Chairman shall, when present, preside at all meetings of the Board of Directors and shall perform such other duties and possess such other powers as may be vested in him by these Bylaws, by applicable law and by the Board of Directors. If the Board of Directors appoints a Vice Chairman of the Board, he shall, in the absence or disability of the Chairman of the Board, perform the duties and exercise the powers of the Chairman of the Board and shall perform such other duties and possess such other powers as may from time to time be vested in him by the Board of Directors. 2.4 Enlargement of the Board of Directors. The authorized number of directors on the Board of Directors may be increased in accordance with Article FIFTH of the Certificate of Incorporation. 2.5 Vacancies. Unless and until filled by the stockholders, any vacancy in the Board of Directors, however occurring, including a vacancy resulting from an enlargement of the Board of Directors, may be filled by vote of a majority of the directors then in office, although less than a quorum, or by a sole remaining director; provided, however, a vacancy created by the removal of a director by the vote of the stockholders or by court order may be filled only by the affirmative vote of a majority of the shares represented and voting at a duly held meeting at which a quorum is present (which shares voting affirmatively also constitute a majority of the required quorum). Any director elected in accordance with the preceding sentence shall hold office for the remainder of the full term of the class of directors in which the new directorship was created or the vacancy occurred and until such director's successor shall have been elected and qualified, or until such director's earlier death, resignation or removal. 2.6 Resignation. Any director may resign by delivering his written resignation to the corporation at its principal office or to the President or Secretary. Such resignation shall be effective upon receipt unless it is specified to be effective at some other time or upon the happening of some other event. 2.7 Removal. Any director or the entire Board of Directors may be removed, only as permitted by applicable law and Article SEVENTH of the Certificate of Incorporation. 2.8 Regular Meetings. Regular meetings of the Board of Directors may be held without notice at such time and place, within or without the State of Delaware, as shall be determined from time to time by the Board of Directors; provided that any director who is absent when such a determination is made shall be given notice of the determination. A regular meeting of the Board of Directors may be held without notice immediately after and at the same place as the annual meeting of stockholders. 2.9 Special Meetings. Special meetings of the Board of Directors may be held at any time and place, within or without the State of Delaware, designated in a call by the Chairman of the Board, Vice Chairman of the Board, President, two or more directors, or by one director in the event that there is only a single director in office. 2.10 Notice of Special Meetings. Notice of any special meeting of directors shall be given to each director by the Secretary or by the officer or one of the directors calling the meeting. Notice shall be given to each director in person, by telephone, by facsimile transmission or by telegram sent to his business or home address at least 48 hours in advance of the meeting, or by written notice mailed to his business or home address at least 72 hours in advance of the meeting. A notice or waiver of notice of a meeting of the Board of Directors need not specify the purposes of the meeting. 2.11 Meetings by Telephone Conference Calls. Directors or any members of any committee designated by the directors may participate in a meeting of the Board of Directors or such committee by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other, and participation by such means shall constitute presence in person at such meeting. 2.12 Quorum. A majority of the number of directors fixed pursuant to Section 2.2 shall constitute a quorum at all meetings of the Board of Directors. In the event one or more of the directors shall be disqualified to vote at any meeting, then the required quorum shall be reduced by one for each such director so disqualified; provided, however, that in no case shall less than one-third (1/3) of the number so fixed constitute a quorum. In the absence of a quorum at any such meeting, a majority of the directors present may adjourn the meeting from time to time without further notice other than announcement at the meeting, until a quorum shall be present. 2.13 Action at Meeting. At any meeting of the Board of Directors at which a quorum is present, the vote of a majority of those present shall be sufficient to take any action, unless a different vote is specified by law, the Certificate of Incorporation or these Bylaws. 2.14 Action by Consent. Any action required or permitted to be taken at any meeting of the Board of Directors or of any committee of the Board of Directors may be taken without a meeting, if all members of the Board of Directors or committee, as the case may be, consent to the action in writing, and the written consents are filed with the minutes of proceedings of the Board of Directors or committee. 2.15 Committees. The Board of Directors may, by resolution passed by a majority of the whole Board of Directors, designate one or more committees, each committee to consist of one or more of the directors of the corporation. The Board of Directors may designate one or more directors as alternate members of any committee, who may replace any absent or disqualified member at any meeting of the committee. In the absence or disqualification of a member of a committee, the member or members of the committee present at any meeting and not disqualified from voting, whether or not he or they constitute a quorum, may unanimously appoint another member of the Board of Directors to act at the meeting in the place of any such absent or disqualified member. Any such committee, to the extent provided in the resolution of the Board of Directors and subject to the provisions of the General Corporation Law of Delaware, shall have and may exercise all the powers and authority of the Board of Directors in the management of the business and affairs of the corporation and may authorize the seal of the corporation to be affixed to all papers which may require it. Each such committee shall keep minutes and make such reports as the Board of Directors may from time to time request. Except as the Board of Directors may otherwise determine, any committee may make rules for the conduct of its business, but unless otherwise provided by the directors or in such rules, its business shall be conducted as nearly as possible in the same manner as is provided in these Bylaws for the Board of Directors. 2.16 Compensation for Directors. Directors may be paid such compensation for their services and such reimbursement for expenses of attendance at meetings as the Board of Directors may from time to time determine. No such payment shall preclude any director from serving the corporation or any of its parent or subsidiary corporations in any other capacity and receiving compensation for such service. ARTICLE 3 - OFFICERS 3.1 Enumeration. The officers of the corporation shall consist of a President, a Treasurer, a Secretary and such other officers with such other titles as the Board of Directors shall determine, including one or more Vice Presidents, Assistant Treasurers, and Assistant Secretaries. The Board of Directors may appoint such other officers as it may deem appropriate. 3.2 Election. The President, Treasurer and Secretary shall be elected by the Board of Directors at its first meeting following the annual meeting of stockholders. Other officers may be appointed by the Board of Directors at such meeting or at any other meeting. 3.3 Qualification. The President need not be a director. No officer need be a stockholder. Any two or more offices may be held by the same person. 3.4 Tenure. Except as otherwise provided by law, by the Certificate of Incorporation or by these Bylaws, each officer shall hold office until his successor is elected and qualified, unless a different term is specified in the vote choosing or appointing him, or until his earlier death, resignation or removal. 3.5 Resignation and Removal. Any officer may resign by delivering his written resignation to the corporation at its principal office or to the President or Secretary. Such resignation shall be effective upon receipt unless it is specified to be effective at some other time or upon the happening of some other event. The Board of Directors, or a committee duly authorized to do so, may remove any officer with or without cause. Except as the Board of Directors may otherwise determine, no officer who resigns or is removed shall have any right to any compensation as an officer for any period following his resignation or removal, or any right to damages on account of such removal, whether his compensation be by the month or by the year or otherwise, unless such compensation is expressly provided in a duly authorized written agreement with the corporation. 3.6 Vacancies. The Board of Directors may fill any vacancy occurring in any office for any reason and may, in its discretion, leave unfilled for such period as it may determine any offices other than those of President, Treasurer and Secretary. Each such successor shall hold office for the unexpired term of his predecessor and until his successor is elected and qualified, or until his earlier death, resignation or removal. 3.7 President. The President shall be the chief operating officer of the corporation. He shall also be the chief executive officer of the corporation. The President shall, subject to the direction of the Board of Directors, have general supervision and control of the business of the corporation. Unless otherwise provided by the directors, he shall preside at all meetings of the stockholders and of the Board of Directors (except as provided in Section 3.7 above). The President shall perform such other duties and shall have such other powers as the Board of Directors may from time to time prescribe. 3.8 Vice Presidents. Any Vice President shall perform such duties and possess such powers as the Board of Directors or the President may from time to time prescribe. In the event of the absence, inability or refusal to act of the President, the Vice President (or if there shall be more than one, the Vice Presidents in the order determined by the Board of Directors) shall perform the duties of the President and when so performing shall have all the powers of and be subject to all the restrictions upon the President. The Board of Directors may assign to any Vice President the title of Executive Vice President, Senior Vice President or any other title selected by the Board of Directors. 3.9 Secretary and Assistant Secretary. The Secretary shall perform such duties and shall have such powers as the Board of Directors or the President may from time to time prescribe. In addition, the Secretary shall perform such duties and have such powers as are incident to the office of the secretary, including without limitation the duty and power to give notices of all meetings of stockholders and special meetings of the Board of Directors, to attend all meetings of stockholders and the Board of Directors and keep a record of the proceedings, to maintain a stock ledger and prepare lists of stockholders and their addresses as required, to be custodian of corporate records and the corporate seal and to affix and attest to the same on documents. Any Assistant Secretary shall perform such duties and possess such powers as the Board of Directors, the President or the Secretary may from time to time prescribe. In the event of the absence, inability or refusal to act of the Secretary, the Assistant Secretary (or if there shall be more than one, the Assistant Secretaries in the order determined by the Board of Directors) shall perform the duties and exercise the powers of the Secretary. In the absence of the Secretary or any Assistant Secretary at any meeting of stockholders or directors, the person presiding at the meeting shall designate a temporary secretary to keep a record of the meeting. 3.10 Treasurer, Vice President-Finance and Controller. The Treasurer shall be the chief financial officer of the corporation. The Vice President-Finance (who may be a Senior or Executive Vice President) shall be the chief accounting officer of the corporation. The Treasurer and Vice President-Finance shall perform such duties and shall have such powers as may from time to time be assigned to each of them by the Board of Directors or the President. In addition, the Treasurer and Vice President-Finance shall perform such duties and have such powers as are incident to the office of chief financial officer and chief accounting officer, including without limitation the duty and power to keep and be responsible for all funds and securities of the corporation, to deposit funds of the corporation in depositories selected in accordance with these Bylaws, to disburse such funds as ordered by the Board of Directors or the President, to make proper accounts of such funds, and to render as required by the Board of Directors or the President statements of all such transactions and of the financial condition of the corporation. The Vice President-Finance, Assistant Treasurer and Controller shall perform such duties and possess such powers as the Board of Directors, the President or the Treasurer may from time to time prescribe. In the event of the absence, inability or refusal to act of the Treasurer, the President, or if the President or the Board elects, the Vice President-Finance shall perform the duties and exercise the powers of the chief financial officer. 3.11 Bonded Officers. The Board of Directors may require any officer to give the corporation a bond in such sum and with such surety or sureties as shall be satisfactory to the Board of Directors upon such terms and conditions as the Board of Directors may specify, including without limitation a bond for the faithful performance of his duties and for the restoration to the corporation of all property in his possession or under his control belonging to the corporation. 3.12 Salaries. Officers of the corporation shall be entitled to such salaries, compensation or reimbursement as shall be fixed or allowed from time to time by the Board of Directors. ARTICLE 4 - CAPITAL STOCK 4.1 Issuance of Stock. Unless otherwise voted by the stockholders and subject to the provisions of the Certificate of Incorporation, the whole or any part of any unissued balance of the authorized capital stock of the corporation held in its treasury may be issued, sold, transferred or otherwise disposed of by vote of the Board of Directors in such manner, for such consideration and on such terms as the Board of Directors may determine. 4.2 Certificates of Stock. Every holder of stock of the corporation shall be entitled to have a certificate, in such form as may be prescribed by law and by the Board of Directors, certifying the number and class of shares owned by him in the corporation. Each such certificate shall be signed by, or in the name of the corporation by, the President or a Vice President, and by the Treasurer or an Assistant Treasurer, or the Secretary or an Assistant Secretary of the corporation. Any or all of the signatures on the certificate may be a facsimile. Each certificate for shares of stock which are subject to any restriction on transfer pursuant to the Certificate of Incorporation, the Bylaws, applicable securities laws or any agreement among any number of stockholders or among such holders and the corporation shall have conspicuously noted on the face or back of the certificate either the full text of the restriction or a statement of the existence of such restriction. 4.3 Transfers. Subject to the restrictions, if any, stated or noted on the stock certificates, shares of stock may be transferred on the books of the corporation by the surrender to the corporation or its transfer agent of the certificate representing such shares properly endorsed or accompanied by a written assignment or power of attorney properly executed, and with such proof of authority or the authenticity of signature as the corporation or its transfer agent may reasonably require. Except as may be otherwise required by law, by the Certificate of Incorporation or by these Bylaws, the corporation shall be entitled to treat the record holder of stock as shown on its books as the owner of such stock for all purposes, including the payment of dividends and the right to vote with respect to such stock, regardless of any transfer, pledge or other disposition of such stock until the shares have been transferred on the books of the corporation in accordance with the requirements of these Bylaws. 4.4 Lost, Stolen or Destroyed Certificates. The corporation may issue a new certificate of stock in place of any previously issued certificate alleged to have been lost, stolen, or destroyed, upon such terms and conditions as the Board of Directors may prescribe, including the presentation of reasonable evidence of such loss, theft or destruction and the giving of such indemnity as the Board of Directors may require for the protection of the corporation or any transfer agent or registrar. 4.5 Record Date. The Board of Directors may fix in advance a date as a record date for the determination of the stockholders entitled to notice of or to vote at any meeting of stockholders or to express consent (or dissent) to corporate action in writing without a meeting, or entitled to receive payment of any dividend or other distribution or allotment of any rights in respect of any change, conversion or exchange of stock, or for the purpose of any other lawful action. Such record date shall not be more than 60 nor less than 10 days before the date of such meeting, nor more than 60 days prior to any other action to which such record date relates. If no record date is fixed, the record date for determining stockholders entitled to notice of or to vote at a meeting of stockholders shall be the close of business on the day before the day on which notice is given, or, if notice is waived, at the close of business on the day before the day on which the meeting is held. The record date for determining stockholders entitled to express consent to corporate action in writing without a meeting, when no prior action by the Board of Directors is necessary, shall be the day on which the first written consent is expressed. The record date for determining stockholders for any other purpose shall be at the close of business on the day on which the Board of Directors adopts the resolution relating to such purpose. A determination of stockholders of record entitled to notice of or to vote at a meeting of stockholders shall apply to any adjournment of the meeting; provided, however, that the Board of Directors may fix a new record date for the adjourned meeting. ARTICLE 5 - INDEMNIFICATION The corporation shall, to the fullest extent permitted by Section 145 of the General Corporation Law of Delaware, as that Section may be amended and supplemented from time to time, indemnify any director or officer which it shall have power to indemnify under the Section against any expenses, liabilities or other matters referred to in or covered by that Section. The indemnification provided for in this Article: (i) shall not be deemed exclusive of any other rights to which those indemnified may be entitled under any bylaw, agreement or vote of stockholders or disinterested directors or otherwise, both as to action in their official capacities and as to action in another capacity while holding such office; (ii) shall continue as to a person who has ceased to be a director or officer; and (iii) shall inure to the benefit of the heirs, executors and administrators of such a person. The corporation's obligation to provide indemnification under this Article shall be offset to the extent of any other source of indemnification or any otherwise applicable insurance coverage under a policy maintained by the corporation or any other person. Expenses incurred by a director of the corporation in defending a civil or criminal action, suit or proceeding by reason of the fact that he is or was a director of the corporation (or was serving at the corporation's request as a director or officer of another corporation) shall be paid by the corporation in advance of the final disposition of such action, suit or proceeding upon receipt of an undertaking by or on behalf of such director to repay such amount if it shall ultimately be determined that he is not entitled to be indemnified by the corporation as authorized by relevant sections of the General Corporation Law of Delaware. To assure indemnification under this Article of all such persons who are determined by the corporation or otherwise to be or to have been "fiduciaries"' of any employee benefit plan of the corporation which may exist from time to time, such Section 145 shall, for the purposes of this Article, be interpreted as follows: an "other enterprise" shall be deemed to include such an employee benefit plan, including, without limitation, any plan of the corporation which is governed by the Act of Congress entitled "Employee Retirement Income Security Act of 1974," as amended from time to time; the corporation shall be deemed to have requested a person to serve an employee benefit plan where the performance by such person of his duties to the corporation also imposes duties on, or otherwise involves services by, such person to the plan or participants or beneficiaries of the plan; excise taxes assessed on a person with respect to an employee benefit plan pursuant to such Act of Congress shall be deemed "fines"; and action taken or omitted by a person with respect to an employee benefit plan in the performance of such person's duties for a purpose reasonably believed by such person to be in the interest of the participants and beneficiaries of the plan shall be deemed to be for a purpose which is not opposed to the best interests of the corporation. ARTICLE 6 - GENERAL PROVISIONS 6.1 Fiscal Year. Except as from time to time otherwise designated by the Board of Directors, the fiscal year of the corporation shall end on the Saturday closest to February 28. 6.2 Corporate Seal. The corporate seal shall be in such form as shall be approved by the Board of Directors. 6.3 Execution of Instruments. The President, the Chief Executive Officer, any Vice President, the Secretary or the Treasurer shall have power to execute and deliver on behalf and in the name of the corporation any instrument requiring the signature of an officer of the corporation, except as otherwise provided in these Bylaws, or where the execution and delivery of such an instrument shall be expressly delegated by the Board of Directors to some other officer or agent of the corporation. 6.4 Waiver of Notice. Whenever any notice whatsoever is required to be given by law, by the Certificate of Incorporation or by these Bylaws, a waiver of such notice either in writing signed by the person entitled to such notice or such person's duly authorized attorney, or by telegraph, cable or any other available method, whether before, at or after the time stated in such waiver, or the appearance of such person or persons at such meeting in person or by proxy, shall be deemed equivalent to such notice. 6.5 Voting of Securities. Except as the directors may otherwise designate, the President, the Chief Executive Officer, any Vice President, the Secretary or Treasurer may waive notice of, and act as, or appoint any person or persons to act as, proxy or attorney-in-fact for this corporation (with or without power of substitution) at, any meeting of stockholders or shareholders of any other corporation or organization, the securities of which may be held by this corporation. 6.6 Evidence of Authority. A certificate by the Secretary, or an Assistant Secretary, or a temporary Secretary, as to any action taken by the stockholders, directors, a committee or any officer or representative of the corporation shall as to all persons who rely on the certificate in good faith be conclusive evidence of such action. 6.7 Certificate of Incorporation. All references in these Bylaws to the Certificate of Incorporation shall be deemed to refer to the Certificate of Incorporation of the corporation, as amended and in effect from time to time. These Bylaws are subject to the provisions of the Certificate of Incorporation and applicable law. 6.8 Transactions with Interested Parties. No contract or transaction between the corporation and one or more of the directors or officers, or between the corporation and any other corporation, partnership, association, or other organization in which one or more of the directors or officers are directors or officers, or have a financial interest, shall be void or voidable solely for this reason, or solely because the director or officer is present at or participates in the meeting of the Board of Directors or a committee of the Board of Directors which authorizes the contract or transaction or solely because his or their votes are counted for such purpose, if: (a) The material facts as to his relationship or interest and as to the contract or transaction are disclosed or are known to the Board of Directors or the committee, and the Board of Directors or committee in good faith authorizes the contract or transaction by the affirmative votes of a majority of the disinterested directors, even though the disinterested directors be less than a quorum; or (b) The material facts as to his relationship or interest and as to the contract or transaction are disclosed or are known to the stockholders entitled to vote thereon, and the contract or transaction is specifically approved in good faith by vote of the stockholders; or (c) The contract or transaction is fair as to the corporation as of the time it is authorized, approved or ratified, by the Board of Directors, a committee of the Board of Directors, or the stockholders. Common or interested directors may be counted in determining the presence of a quorum at a meeting of the Board of Directors or of a committee which authorizes the contract or transaction. 6.9 Severability. Any determination that any provision of these Bylaws is for any reason inapplicable, illegal or ineffective shall not affect or invalidate any other provision of these Bylaws. 6.10 Pronouns. All pronouns used in these Bylaws shall be deemed to refer to the masculine, feminine or neuter, singular or plural, as the identity of the person or persons may require. ARTICLE 7 - AMENDMENTS 7.1 By the Board of Directors. Subject to the provisions of the Certificate of Incorporation, these Bylaws may be altered, amended or repealed or new Bylaws may be adopted by the affirmative vote of a majority of the directors present at any regular or special meeting of the Board of Directors at which a quorum is present. 7.2 By the Stockholders. Subject to the provisions of the Certificate of Incorporation, these Bylaws may be altered, amended or repealed or new Bylaws may be adopted by the affirmative vote of the holders of at least 66-2/3% of the shares of the capital stock of the corporation issued and outstanding and entitled to vote at any regular meeting of stockholders, or at any special meeting of stockholders, provided notice of such alteration, amendment, repeal or adoption of new bylaws shall have been stated in the notice of such special meeting. CERTIFICATE OF SECRETARY The undersigned, being the duly elected Secretary of Big Dog Holdings, Inc., a Delaware corporation, hereby certifies that the Amended and Restated Bylaws to which this Certificate is attached were duly adopted by the Board of Directors of said Corporation as of February 5, 1998. /s/ANTHONY WALL Anthony Wall, Secretary EX-10 3 AMENDED AND RESTATED CREDIT AGREEMENT EXHIBIT 10.1 FOURTH AMENDMENT TO AMENDED AND RESTATED CREDIT AGREEMENT THE PARTIES HERETO, BIG DOG HOLDINGS, Inc., a Delaware Corporation and BIG DOG USA, INC., a California corporation (individually and collectively "Borrowers," "Debtors," or "Makers"), and Israel Discount Bank Limited ("Lender," "Bank," "Creditor," or "Payee"), hereby Amend that certain Amended and Restated Credit Agreement ("the Agreement") dated June 30, 1995 and the other loan documents, as defined below effective as of November 10, 1997, as follows: RECITALS A. Borrowers are currently indebted to Lender directly and contingently, pursuant to the terms and conditions of the AGREEMENT, made by Borrowers to the order of Bank, as payee; and together with all other documents executed in connection, therewith, as such documents may have been, at any time, amended, otherwise modified, renewed or extended to the date hereof, (the "Credit Agreements"); and B. Borrowers and Lender have agreed to amend the Credit Agreements as set forth herein. NOW, THEREFORE, in consideration of the premises and intending to be legally bound hereby, the parties agree as follows; AGREEMENT 1. Amendment not a Novation. This Amendment amends and supplements all the loan documents ("Original Documents") as defined by Section 1.2.25 and "Documents" as defined by Section 1.2.10 of the Agreement. This Amendment is not, and should not be construed as, a novation. All terms of the Credit Agreements not specifically amended and altered by this Amendment will remain in full force and effect, and the terms of which are incorporated herein by reference. 2. Decrease of Revolving Line of Credit. Sections 1.2.4, 1.2.21, 1.2.31, 1.2.32, 1.2.33, 2.1, and 2.2 of the Agreement are amended only to decrease the Revolving Credit Facility, as defined by Sections 1.2.31 and 2.1, from "$10,500,000" to "$3,000,000." The total amount of indebtedness ("Maximum Commitment"), as defined by Section 1.2.21 of the Agreement shall be decreased to $3,000,000. 3. Release of Guarantors. Sections 1.2.13, 1.2.14, 5.11, 6.15, 8.18 and 17 are amended to read "Deleted." The numbering of the subsequent Sections will not change. Section 1.2.23 is amended to read as follows: "Borrowers." Sections 8.13 and 8.14 are amended to delete "or any Guarantor" wherever it appears in those sections. 4. Release of Subordination. Sections 1.2.37, 1.2.38, and 8.19 are amended to read "Deleted." The numbering of the subsequent Sections will not change. Sub-Sections (b) and (c) of Section 7.6 are amended to read "Deleted." The lettering of the Subsequent Sub-Sections will not change. 5. Amendment of Note. Effective as of the date hereof, the Revolving Credit Note is amended by deleting the reference to "$10,500,000" therein and replacing such reference with "$3,000,000." 6. No Modification of Other Obligations. Except as is otherwise specifically set forth herein, all obligations of Borrower and Lender, shall remain unmodified and in full force and effect. 7. Costs; Expenses; Attorneys' Fees. Borrower shall reimburse Lender on demand for all costs and expenses, including reasonable attorneys' fees expended or incurred by Lender in the present and any future negotiation, preparation and executions of this Agreement. 8. Execution in Counterparts. This Amendment Agreement may be executed in counterparts and each counterpart shall constitute one and the same original document. 9. Use of Copy in Lieu of Original. A copy of this Amendment Agreement shall have the same force and effect as the original. 10. Entire Agreement. This Amendment together with all other Amendments to the Agreement and all Other Documents executed in connection, therewith, as such documents may have been amended, otherwise modified, or renewed, the Credit Agreements, embody the entire agreement and understanding among the parties hereto. There are no oral agreements or understandings. No course of prior dealings, usage of trade, or oral conversation shall be admissible to supplement or explain this Amendment. The parties have read Section 20 of the Agreement, the terms of which are restated and incorporated here by reference. IN WITNESS WHEREOF, the parties hereto have caused this Amendment to be executed as of the day and year first written above. BIG DOG USA, INC. ISRAEL DISCOUNT BANK LIMITED Los Angeles Agency By: /s/ANTHONY WALL By: ______________________________ Title: Exec. V.P. Date: ___________ Title: __________ Date: ________ BIG DOG HOLDINGS, INC. By: /s/ANTHONY WALL Title: Exec. V.P. Date: ___________ EX-10 4 LEASE EXHIBIT 10.11 LEASE (Multi Tenant) between THE PRUDENTIAL INSURANCE COMPANY OF AMERICA and BIG DOG U.S.A., INC., a California corporation TABLE OF CONTENTS Page 1. Parties...............................................................1 2. Premises, Parking and Common Areas....................................1 2.1 Premises.........................................................1 2.2 Vehicle Parking..................................................1 2.3 Common Areas -- Definition.......................................2 2.4 Common Areas -- Lessee's Rights..................................2 2.5 Common Areas -- Rules and Regulations............................2 2.6 Common Areas -- Changes..........................................3 2.7 Roof Access......................................................4 3. Term..................................................................4 3.1 Term.............................................................4 3.2 Delay in Possession..............................................4 3.3 Early Possession.................................................5 4. Rent..................................................................5 4.1 Base Rent........................................................5 4.2 Operating Expenses...............................................5 4.3 Rent Escalations - Initial Term.................................10 5. Security Deposit.....................................................12 6. Use..................................................................12 6.1 Use.............................................................12 6.2 Compliance with Law.............................................12 6.3 Conditions of Premises..........................................13 7. Maintenance, Repairs, Alterations and Common Area Services...........14 7.1 Lessor's Obligations............................................14 7.2 Lessee's Obligations............................................14 7.3 Alterations and Additions.......................................15 7.4 Utility Additions...............................................20 7.5 Condition of Premises Upon Termination; Additional Use Provisions......................................................20 8. Insurance; Indemnity.................................................21 9. Damage or Destruction................................................25 9.1 Definitions.....................................................25 9.2 Premises Partial Damage; Premises Building Partial Damage.......26 9.3 Premises Total Destruction; Premises Building Total Destruction; Industrial Center Buildings Total Destruction......27 9.4 Damage Near End of Term.........................................27 9.5 Abatement of Rent; Lessee's Remedies............................28 9.6 Termination -- Advance Payments.................................29 9.7 Waiver..........................................................29 10.Real Property Taxes..................................................29 10.1 Payment of Taxes...............................................29 10.2 Additional Improvements........................................29 10.3 Definition of "Real Property Tax"..............................29 10.4 Joint Assessment...............................................30 10.5 Personal Property Taxes........................................30 10.6 Additional Provisions Regarding Real Property Taxes............30 11.Utilities............................................................31 12.Assignment and Subletting............................................31 12.1 Lessor's Consent Required......................................31 12.2 Lessee Affiliate...............................................32 12.3 Lessees Other Than Individuals.................................33 12.4 Terms and Conditions of Assignment.............................33 12.5 Terms and Conditions Applicable to Subletting..................33 12.6 Attorney's Fees................................................35 13.Default Remedies.....................................................36 13.1 Default........................................................36 13.2 Remedies.......................................................37 13.3 Default by Lessor..............................................39 13.4 Late Charges...................................................39 13.5 Notice Before Late Charge......................................40 14.Condemnation.........................................................40 15.Broker's Commissions.................................................41 16.Estoppel Certificate.................................................41 17.Lessor's Liability...................................................42 18.Severability.........................................................42 19.Interest on Past-due Obligations.....................................42 20.Time of Essence......................................................43 21.Additional Rent......................................................43 22.Incorporation of Prior Agreements; Amendments........................43 23.Notices..............................................................43 24.Waivers..............................................................44 25.Recording............................................................44 26.Holding Over.........................................................45 27.Cumulative Remedies..................................................45 28.Covenants and Conditions.............................................45 29.Binding Effect; Choice of Law........................................45 30.Subordination........................................................45 31.Attorneys Fees.......................................................46 32.Lessor's Access......................................................46 33.Auctions.............................................................47 34.Signs................................................................47 35.Merger...............................................................47 36.Consents.............................................................47 37.Guarantor............................................................47 38.Quiet Possession.....................................................47 39.Options..............................................................48 39.1 Definition.....................................................48 39.2 Options Personal...............................................48 39.3 Multiple Options...............................................48 39.4 Effect of Default on Options...................................48 39.5 Option.........................................................49 39.6 Fair Market Rent...............................................50 39.7 Rent Escalations - Option Term.................................52 40.Security Measures....................................................54 41.Easements............................................................54 42.Performance Under Protest............................................54 43.Authority............................................................54 44.Intentionally Omitted................................................55 45.Amendments to Lease..................................................55 46.Storage Tanks........................................................55 47.Hazardous Materials..................................................56 47.1 Lessee's Covenants Regarding Hazardous Materials...............56 47.2 Indemnification of Lessor......................................58 47.3 Preexisting Conditions.........................................58 47.4 Studies........................................................58 48.Lessor's Default.....................................................59 49.Offer................................................................59 50.Lessor Improvements..................................................59 51.Lessee Improvement Allowance.........................................59 52.Signage Right........................................................60 LEASE 1. Parties. This Lease, dated, for reference purposes only, November 4, 1997, is made by and between THE PRUDENTIAL INSURANCE COMPANY OF AMERICA, a New Jersey corporation (herein called "Lessor") and BIG DOG U.S.A., INC., a California corporation (herein called "Lessee"). 2. Premises, Parking and Common Areas 2.1 Premises. Lessor hereby leases to Lessee and Lessee leases from Lessor for the term, at the rental, and upon all of the conditions set forth herein, that certain real property situated in the County of Los Angeles, State of California, commonly known as 15614 Shoemaker Avenue, Santa Fe Springs, California 90670 and described as the portion containing 136,198 square feet of the building (the "Building") located on the property shown on Exhibit "A" hereto, said 136,198 square feet herein referred to as the "Premises," and cross-hatched on Exhibit "A" attached hereto, including rights to the Common Areas as hereinafter specified but not including any rights to the roof of the Premises or to any building in the Industrial Center. The Premises are a portion of the Building. The Premises, the building, the Common Areas, the land upon which the same are located, along with all other buildings and improvements thereon, are herein collectively referred to as the "Industrial Center." 2.2 Vehicle Parking. Lessee shall be entitled to exclusive use of all of the vehicle parking spaces, on those portions of the Common Areas shown as Lessee's Parking on Exhibit "B" hereto (Lessee's Parking Area:). Lessee shall not use parking spaces outside of Lessee's Parking Area. Said parking spaces shall be used only for parking by vehicles no larger than full size passenger automobiles or pick-up trucks, herein called "Permitted Size Vehicles." Vehicles other than Permitted Size Vehicles are herein referred to as "Oversized Vehicles." 2.2.1 Lessee shall not permit or allow any vehicles that belong to or are controlled by Lessee or Lessee's employees, suppliers, shippers, customers, or invitees to be loaded, unloaded, or parked (a) in the Ezell Parking Area (as defined below) or the Ezell Truck Area (as defined below) (except to the extent Ezell (as defined below) has consented thereto) or (b) any other areas outside of Lessee's Parking Area. 2.2.2 If Lessee permits or allows any of the prohibited activities described in paragraph 2.2 of this Lease, then Lessor shall have the right, without notice, in addition to such other rights and remedies that it may have, to remove or tow away the vehicle involved and charge the cost to Lessee, which cost shall be immediately payable upon demand by Lessor. 2.2.3 That portion of the parking for the Industrial Center shown as "Ezell Parking Area" on Exhibit "B" is subject to a grant of exclusive parking rights to another tenant ("Ezell") in the Building (the "Ezell Parking Area") and that portion of the parking for the Industrial Center shown as "Ezell Truck Area" on Exhibit "B" is subject to a grant of a right to enclose that area with fencing (the "Ezell Truck Area"). Lessee's right to use the Common Area is subject to rights of Ezell to fence the Ezell Truck Area. Lessee shall not interfere with access by Ezell, or by Ezell's employees, agents, contractors or invitees, to and from the Ezell Parking Area and the Ezell Truck Area. 2.3 Common Areas - Definition. The term "Common Areas" is defined as all areas and facilities outside the Premises and within the exterior boundary line of the Industrial Center that are provided and designated by the Lessor from time to time for the general non-exclusive use of Lessor, Lessee and of other lessees of the Industrial Center and their respective employees, suppliers, shippers, customers and invitees, including parking areas, loading and unloading areas, trash areas, roadways, sidewalks, walkways, parkways, driveways and landscaped areas. 2.4 Common Areas- Lessee's Rights. Lessor hereby grants to Lessee, for the benefit of Lessee and its employees, suppliers, shippers, customers and invitees, during the term of this Lease, the non-exclusive (other than Lessee's exclusive parking provided for under Paragraph 2.2) right to use, in common with others entitled to such use, the Common Areas as they exist from time to time, subject to any rights, powers, and privileges reserved by Lessor under the terms hereof or under the terms of any rules and regulations or restrictions governing the use of the Industrial Center. Under no circumstances shall the right herein granted to use the Common Areas be deemed to include the right to store any property, temporarily or permanently, in the Common Areas. Any such storage shall be permitted only by the prior written consent of Lessor or Lessor's designated agent, which consent may be revoked at any time. In the event that any unauthorized storage shall occur then Lessor shall have the right, without notice, in addition to such other rights and remedies that it may have, to remove the property and charge the cost to Lessee, which cost shall be immediately payable upon demand by Lessor. 2.5 Common Areas-Rules and Regulations. Lessor or such other person(s) as Lessor may appoint shall have the exclusive control and management of the Common Areas and shall have the right, from time to time, to establish, modify, amend and enforce reasonable rules and regulations with respect thereto. Lessee agrees to abide by and conform to all such rules and regulations, and to cause its employees, suppliers, shippers, customers, and invitees to so abide and conform. Lessor shall not be responsible to Lessee for the non-compliance with said rules and regulations by other lessees of the Industrial Center. Notwithstanding the foregoing, in the event Lessee notifies Lessor of any material non-compliance with the Rules and Regulations by another lessee of the Industrial Center which adversely affects Lessee's use and enjoyment of the Premises or the Common Areas, Lessor shall use its reasonable efforts to cause such other lessee to comply with the rules and regulations that are enforceable against such lessee. Lessor agrees to enforce all rules, regulations and restrictions in a commercially reasonable manner against Lessee. The Rules and Regulations are attached to this Lease. The enforceability of the Rules and Regulations against other lessees is subject to such other lessees' approval of the Rules and Regulations in accordance with the terms of their respective leases. 2.6 Common Areas - Changes. Lessor shall have the right, in Lessor's sole discretion, from time to time: (1) To make changes to the Common Areas, including, without limitation, changes in the location, size, shape and number of driveways, entrances, parking spaces, parking areas, loading and unloading areas, ingress, egress, direction of traffic, landscaped areas and walkways; (2) To close temporarily any of the Common Areas for maintenance purposes so long as reasonable access to the Premises remains available and provided that five days' prior written notice (except in the case of emergencies, where no notice shall be required) is given to Lessee; (3) To add additional buildings and improvements to the Common Areas; (4) To use the Common Areas while engaged in making additional improvements, repairs or alterations to the Industrial Center, or any portion thereof; (5) To do and perform such other acts and make such other changes in, to or with respect to the Common Areas and Industrial Center as Lessor may, in the exercise of sound business judgment, deem to be appropriate. 2.6.2 Lessor shall at all times provide the parking facilities required by applicable law and in no event shall the number of parking spaces that Lessee is entitled to under paragraph 2.2 be reduced. 2.6.3 In Lessor's exercise of its rights under Paragraphs 2.6(a) and (e), Lessor shall permit Lessee reasonable access to the Premises at all times and not unreasonably interfere with the physical operation of Lessee's business. 2.7 Roof Access. Lessee shall allow Ezell, and Ezell's employees, agents and contractors, to have access to the roof of the Building by means of the roof access in the Premises during normal business hours. 3.0 Term 3.1 Term. The term of this Lease shall be for Ten (10) years commencing on January 1, 1998 (the "Commencement Date") and ending on the date that is ten (10) years after the Commencement Date unless sooner terminated pursuant to any provision hereof. Lessor and Lessee shall promptly execute an amendment to the Lease confirming the commencement and expiration dates of the initial term as soon as the Commencement Date is determined, but failure to execute that amendment shall not affect the Commencement Date. If the Commencement Date falls on a day that is other than the first day of a calendar month, the number of months for purposes of rent adjustments under this Lease shall be measured from the first day of the calendar month in which the Commencement Date falls. 3.2 Delay in Possession. Notwithstanding the later Commencement Date, Lessee shall be given possession of the Premises on the first business day (the "Early Access Date") after the date (the "Execution Date") of full execution and delivery of this Lease. If for any reason Lessor fails to deliver possession of the Premises to Lessee by the Early Access Date, Lessor shall not be subject to liability therefor, nor shall such failure affect the validity of this Lease. Notwithstanding the foregoing, if Lessor shall not have delivered possession of the Premises by 5:00 p.m. Los Angeles time on December 31, 1997 (the "Outside Date") with Lessor's Work (as defined in Paragraph 50) completed Lessee may, at Lessee's option, by notice in writing to Lessor no later than 5:00 p.m. Los Angeles time on the first business day after the Outside Date, cancel this Lease, in which event the parties shall be discharged from all obligations hereunder; provided further, however, that if such written notice of Lessee is not received by Lessor by 5:00 p.m. Los Angeles time on the first business day after the Outside Date, Lessee's right to cancel this Lease hereunder shall terminate and be of no further force or effect. Lessee acknowledges that after delivery of possession to Lessee, Lessor shall continue to have the right to enter the Premises to perform the work necessary to complete Lessor's Work. Lessee further acknowledges that due to Lessor's construction of Lessor's Work there will exist disruption of and interference with Lessee's use of the Premises. No such disruption or interference or presence on the Premises by Lessor or its contractors to perform Lessor's Work shall be deemed to be a failure by Lessor to deliver possession. In the event Lessor's Work is not completed by November 26, 1997, the Commencement Date shall be extended for one day for each day after November 26, 1997, if substantial completion of Lessor's Work is delayed for reasons other than the acts or omissions of Lessee. 3.3 Early Possession. Lessee's use and occupancy of the Premises prior to the Commencement Date shall be subject to all provisions hereof, provided, however, Lessee shall have no obligation to pay Base Rent (as defined below) until the Commencement Date. From and after the date of commencement of Lessee's early occupancy and use of the Premises, Lessee shall be responsible for payment of all costs and expenses (other than Base Rent) payable by Lessee under this Lease. 4.0 Rent 4.1. Base Rent. Lessee shall pay to Lessor, as Base Rent for the Premises, without any offset or deduction, except as may be otherwise expressly provided in this Lease, on the first day of each month of the term hereof, monthly payments in advance of $53,798.21. The Base Rent is subject to adjustment as provided herein. Lessee shall pay Lessor upon the execution hereof $53,798.21 as Base Rent for the first month after the Commencement Date (and if such first month is a partial month, the balance shall be applied to the next month). Rent for any period during the term hereof which is for less than one month shall be a pro rata portion of the Base Rent. Rent shall be payable in lawful money of the United States to Lessor at the address stated herein or to such other persons or at such other places as Lessor may designate in writing. 4.2 Operating Expenses. Lessee shall pay to Lessor during the term hereof, in addition to the Base Rent, Lessee's Share, as hereinafter defined, of all Operating Expenses, as hereinafter defined, during each calendar year of the term of this Lease, in accordance with the following provisions: (1) "Lessee's Share" is defined, for purposes of this Lease, as 39.36%. (2) "Operating Expenses" is defined, for purposes of this Lease, as all costs incurred by Lessor, if any, for: (1) The operation, repair and maintenance, in neat, clean, good order and condition, of the following: (aa) The Common Areas, including parking areas, loading and unloading areas, trash areas, roadways, sidewalks, walkways, parkways, driveways, landscaped areas, striping, bumpers, irrigation systems, Common Area, lighting facilities and fences and gates. (bb) Trash disposal services; (cc) Tenant directories; (dd) Fire detection systems including sprinkler system maintenance and repair. (ee) Security services; (ff) Any other service to be provided by Lessor that is elsewhere in this Lease stated to be an "Operating Expense." (2)Any deductible portion of an insured loss concerning the Building or the Common Areas (unless such cost is otherwise excluded from Operating Expenses pursuant to the term of this Lease). (3)The cost of the premiums for the liability and property insurance policies to be maintained by Lessor under paragraph 8 hereof; provided that if Lessor elects to self-insure or includes the Premises under blanket insurance policies covering multiple properties, then the cost included in Operating Expenses shall include the portion of the reasonable cost of such self-insurance or blanket insurance that is allocated to the Premises; (4)The amount of the real property tax to be paid by Lessor under paragraph 10.1 hereof; (5)The cost of water, gas and electricity to service the Common Areas; (6)The cost of Lessor's performing the maintenance obligations described in paragraph 7.1, including replacements; (7)The cost of operating, repairing, replacing and maintaining the Building, the roof, and any other utilities or equipment, wherever situated, that are for the common use of the tenants of the Building or Industrial Center; and (8)The cost of a Commercial General Liability policy of insurance, insuring Lessor, but not Lessee, against liability arising out of the ownership, use, occupancy or maintenance of the Industrial Center, in amounts determined by Lessor, if Lessor determines to obtain such insurance. Notwithstanding the provisions of Section 4.2 or anything else in the Lease to the contrary, Operating Expenses shall not include the following: (i) Any ground lease rental; (ii) Costs incurred by Landlord for the repair of damage to the extent Landlord is reimbursed by insurance proceeds; (iii) Costs incurred with respect to improvements made for other lessees or occupants in the Industrial Center that are not available to or do not benefit Lessee or that are incurred in renovating or maintaining vacant space for other potential lessees; (iv) Marketing costs including leasing commissions, attorneys' fees, space planning costs, and other costs and expenses incurred in connection with leases, sublease and/or assignment negotiations and transactions with present or prospective lessees or other occupants of the Industrial Center; (v) Expenses in connection with services or other benefits which are provided to another lessee and not offered or available to Tenant; (vi) Costs incurred by Lessor due to the violation by Lessor or any other lessee of the terms and conditions of any lease of space in the Industrial Center; (vii) Overhead and profit increments paid to Lessee or to its agents or affiliates for goods and/or services in the Industrial Center to the extent the same exceeds the costs of such goods and/or services that could be obtained from unaffiliated third parties on a competitive basis; (viii) Lessor's corporate overhead and general and administrative expense; (ix) Tax penalties incurred as a result of Lessor's negligence, inability or unwillingness to make payments and/or file any income tax or informational returns when due; (x) Costs arising from remedial work or the presence of Hazardous Materials (as defined in Paragraph 47) in or about the Industrial Center or the site on which is resides (the "Site"), including, without limitation, Hazardous Materials in the ground water or soil, but only to the extent the same are (1) Preexisting Conditions (as defined in Paragraph 47.3), or (2) due to the introduction of such Hazardous Materials to the Industrial Center or the Site by Lessor or a lessee (other than Lessee) of the Industrial Center; (xi) Costs arising from Lessor's charitable or political contributions; (xii) Costs (including in connection therewith all attorneys' fees and costs of settlement judgments and payments in lieu thereof) arising from claims, disputes or potential disputes in connection with potential or actual claims litigation or arbitrations pertaining to the Lessor and/or the Industrial Center and/or Site. (xiii) The cost of the maintenance, repair or replacement of the structural elements of the foundations, or exterior walls or of the truss system and wall ledger for the roof. (3) The inclusion of the improvements, facilities and services set forth in paragraph 4.2(b)(i) of the definition of Operating Expenses shall not be deemed to impose an obligation upon Lessor to either have said improvements or facilities or to provide those services unless the Industrial Center already has the same, Lessor already provides the services, or Lessor has agreed elsewhere in this Lease to provide the same or some of them. (4) Lessee's Share as set forth in paragraph 4.2(a), above, is Lessee's Share of Operating Expenses applicable only to the Building in which the Premises are located. The percentage set forth in paragraph 4.2(a) has been determined by dividing the approximate square footage of the Premises by the total approximate square footage of rentable space contained in the Building. It is understood and agreed that the percentage figure set forth in 4.2(a) is an approximation which Lessor and Lessee agree is reasonable and shall not be subject to revision except in connection with an actual change in the size of the Premises or a change in the space available for lease in the Building. (5) Lessee's Share of Operating Expenses applicable to the Industrial Center shall be reasonably determined by Lessor as the percentage created by dividing the square footage of the Premises by the total square footage of the Buildings in the Industrial Center that are involved in the item covered by the particular expense. (6) Lessee's Share of Operating Expenses shall be payable by Lessee monthly or quarterly, as determined by Lessor, within ten (10) business days after a reasonably detailed statement of actual expenses is presented to Lessee by Lessor. At Lessor's option, however, an amount may be estimated by Lessor from time to time of Lessee's Share of annual Operating Expenses and the same shall be payable monthly or quarterly, as Lessor shall designate, during each twelve-month period of the Lease term, on the same day as the Base Rent is due hereunder. In the event that Lessee pays Lessor's estimate of Lessee's Share of Operating Expenses as aforesaid, Lessor shall deliver to Lessee within sixty (60) days after the expiration of each calendar year, or as soon thereafter as practicable, a reasonably detailed statement showing Lessee's Share of the actual Operating Expenses incurred during the preceding year. If Lessee's payments under this paragraph 4.2(f) during said preceding year exceed Lessee's Share as indicated on said statement, Lessee shall be entitled to credit the amount of such overpayment against Lessee's Share of Operating Expenses and Base Rental next falling due. If Lessee's payments under this paragraph during said preceding year were less than Lessee's Share as indicated on said statement, Lessee shall pay to Lessor the amount of the deficiency within ten (10) business days after delivery by Lessor to Lessee of said statement. (7) Lessor and Lessee shall promptly adjust between them by appropriate cash payment any balance determined to exist with respect to Lessee's Share of Operating Expenses after the end of the calendar year in which this Lease terminates, prorating for any partial year involved. (1) (8) In the event of any dispute as to the amount of Operating Expenses as set forth in Lessor's Statement of Operating Expenses delivered to Lessee, Lessee shall have the right, after reasonable notice and at reasonable times within one year after the final statement for such Operating Expenses is delivered to Lessee, to inspect and photocopy (at Lessee's expense) Lessor's accounting record with respect to Lessee's Share of Operating Expenses. If, after such inspection and photocopying, Lessee still disputes the amount of Operating Expenses as set forth in Lessor's Statement, Lessee shall be entitled to retain an independent, certified public accountant reasonably approved by Lessor to audit Lessor's record to determine the proper amount of such Operating Expenses and the proper amount payable by Lessee pursuant to this Lease. Lessee agrees to pay the cost of such audit, provided that Lessor shall pay such cost if the audit reveals that Lessor's determination of Operating Expenses as set forth in Lessor's statement overstated Operating Expenses by 5% or more. If such audit reveals an overstatement or understatement of Operating Expenses, the amount of the differential shall be promptly reimbursed to Lessee by Lessor or paid by Lessee to Lessor, as the case may be. 4.3 Rent Escalations - Initial Term (1) On the first day of each of the 31st, 61st and 91st months of the term of this Lease, the monthly Base Rent payable under Paragraph 4.1 of this Lease shall be adjusted by the increase, if any, from the date this Lease commenced, in the Consumer Price Index of the Bureau of Labor Statistics of the U.S. Department of Labor for Urban Wage Earners and Clerical Workers, Los Angeles-Anaheim-Riverside, California (1982-84=100), "All Items", herein referred to as "C.P.I." (2) The monthly Base Rent payable in accordance with Paragraph (a) above shall be calculated as follows: the Base Rent payable as set forth in Paragraph 4.1 of this Lease, shall be multiplied by a fraction the numerator of which shall be the C.P.I. of the calendar month during which the adjustment is to take effect, and the denominator of which shall be the C.P.I. for the calendar month in which the original Lease term commences. The sum so calculated shall constitute the new monthly Base Rent hereunder, subject to Subparagraph (e), below. (3) Pending receipt of the required C.P.I. and determination of the actual adjustment, Lessee shall pay an estimated adjusted rental, as reasonably determined by Lessor by reference to the then available C.P.I. information. Upon notification of the actual adjustment after publication of the required C.P.I., any overpayment shall be credited against the next installment of rent due, and any underpayment shall be immediately due and payable by Lessee. Lessor's failure to request payment of an estimated or actual rent adjustment shall not constitute a waiver of the right to any adjustment provided for in this Lease or this Paragraph 4.3. (4) In the event the compilation and/or publication of the C.P.I. shall be transferred to any other governmental department or bureau or agency or shall be discontinued, then the index most nearly the same as the C.P.I. shall be used to make such calculation. In the event that Lessor and Lessee cannot agree on such alternative index, then the matter shall be submitted for decision to the American Arbitration Association in accordance with the then rules of said association and the decision of the Arbitrators shall be binding upon the parties. The cost of said Arbitrators shall be paid equally by Lessor and Lessee. (5) The adjustment(s) required by this Rent Escalation Paragraph shall be subject to the following additional agreements: (1)The increase under Subparagraph (b), above, shall be subject to the following minimum and maximum percentage increases per year involved in the adjustment period, on a cumulative but non-compounded basis: Minimum yearly percentage increase:3% Maximum yearly percentage increase:5% The "adjustment period" is defined as the period commencing with the month designated in Subparagraph (b) as the reference for determining the "denominator", and ending with the month preceding the month designated therein as the reference for determining the "numerator". Should the adjustment period include a partial year, the minimum and maximum percentages shall be prorated for that partial year by multiplying them by a fraction, the numerator of which shall be the number of full calendar months or major portion thereof contained in said partial year, and the denominator of which is twelve (12). (2)The new monthly Base Rent shall in no event be less than the monthly Base Rent scheduled to be paid immediately preceding the rent adjustment. 5. Security Deposit. Lessee shall deposit with Lessor upon execution hereof $53,798.21 as security for Lessee's faithful performance of Lessee's obligations hereunder. If Lessee fails to pay rent or other charges due hereunder, or otherwise defaults with respect to any provision of this Lease, Lessor may use, apply or retain all or any portion of said deposit for the payment of any rent or other charge in default or for the payment of any other sum to which Lessor may become obligated by reason of Lessee's default, or to compensate Lessor for any loss or damage which Lessor may suffer thereby. If Lessor so uses or applies all or any portion of said deposit, Lessee shall within ten (10) business days after written demand therefor deposit cash with Lessor in an amount sufficient to restore said deposit to the full amount then required of Lessee and Lessee's failure to do so shall be a material breach of this Lease. If the monthly rent shall, from time to time, increase during the term of this Lease, Lessee shall, at the time of such increase, deposit with Lessor additional money as a security deposit so that the total amount of the security deposit held by Lessor shall at all times bear the same proportion to the then current Base Rent as the initial security deposit bears to the initial Base Rent set forth in paragraph 4. Lessor shall not be required to keep said security deposit separate from its general accounts. If Lessee performs all of Lessee's obligations hereunder, said deposit, or so much thereof as has not theretofore been applied by Lessor, shall be returned, without payment of interest or other increment for its use, to Lessee (or, at Lessor's option, to the last assignee, if any, of Lessee's interest hereunder) at the expiration of the term hereof, and after Lessee has vacated the Premises. No trust relationship is created herein between Lessor and Lessee with respect to said Security Deposit. 6.0 Use 6.1 Use. The Premises shall be used and occupied only for warehousing, distribution, sale and manufacture (including screen printing and embroidery) of Lessee's apparel and other products and for no other purpose; provided, however, that the area used for sales to the public shall not exceed 2% of the gross floor area of the Premises. 6.2 Compliance with Law (1) Lessor warrants to Lessee that the Premises, in the state existing on the date that the Lease term commences, but without regard to alterations by Lessee or to the use for which Lessee will occupy the Premises, does not violate any covenants or restrictions of record, or any applicable building code, rule, regulation or ordinance in effect on such Lease term commencement date. In the event it is determined that this warranty has been violated, then it shall be the obligation of the Lessor, after written notice from Lessee, to promptly, at Lessor's sole cost and expense, rectify any such violation. In the event Lessee does not give to Lessor written notice of the violation of this warranty within 24 months from the date that the Lease term commences, the correction of same shall be the obligation of Lessee at Lessee's sole cost. The warranty contained in this paragraph 6.2(a) shall be of no force or effect if, prior to the date of this Lease, Lessee was an owner or occupant of the Premises and, in such event, Lessee shall correct any such violation at Lessee's sole cost. (2) Except as provided in paragraph 6.2(a) Lessee shall, at Lessee's expense, promptly comply with all applicable statutes, ordinances, rules, regulations, orders, covenants and restrictions of record, and requirements of any fire insurance underwriters or rating bureaus, now in effect or which may hereafter come into effect, whether or not they reflect a change in policy from that now existing, during the term or any part of the term hereof, relating in any manner to the Premises and the occupation and use by Lessee of the Premises and of the Common Areas. Lessee shall not use nor permit the use of the Premises or the Common Areas in any manner that will tend to create waste or a nuisance or shall tend to disturb other occupants of the Industrial Center. 6.3 Conditions of Premises (1) Lessor shall deliver the Premises to Lessee clean and free of debris on the Lease commencement date (unless Lessee is already in possession) and Lessor warrants to Lessee that the plumbing, lighting, air conditioning, heating, and loading doors in the Premises other than those portions constructed by Lessee shall be in good operating condition on the Lease commencement date. In the event that it is determined that this warranty has been violated, then it shall be the obligation of Lessor, after receipt of written notice from Lessee setting forth with specificity the nature of the violation, to promptly, at Lessor's sole cost, rectify such violation. Lessee's failure to give such written notice to Lessor within 12 months after the Lease commencement date shall cause the conclusive presumption that Lessor has complied with all of Lessor's obligations hereunder. The warranty contained in this paragraph 6.3(a) shall be of no force or effect if prior to the date of this Lease, Lessee was an owner or occupant of the Premises. (2) Except as otherwise provided in this Lease, Lessee hereby accepts the Premises in their condition existing as of the Lease commencement date or the date that Lessee takes possession of the Premises, whichever is earlier, subject to all applicable zoning, municipal, county and state laws, ordinances and regulations governing and regulating the use of the Premises, and any covenants, easements or restrictions of record and accepts this Lease subject thereto and to all matters disclosed thereby and by any exhibits attached hereto. Lessee acknowledges that neither Lessor nor Lessor's agent has made any representation or warranty as to the present or future suitability of the Premises for the conduct of Lessee's business. 7. Maintenance, Repairs, Alterations and Common Area Services. 7.1 Lessor's Obligations. Subject to the provisions of paragraph 4.2 (Operating Expenses), 6 (Use), 7.2 (Lessee's Obligations) 7.5, (Condition of Premises Upon Termination) and 9 (Damage or Destruction) and except for damage caused by any negligent or intentional act or omission of Lessee, Lessee's employees, suppliers, shippers, customers, or invitees, in which event Lessee shall repair the damage, Lessor, at Lessor's expense, subject to reimbursement pursuant to paragraph 4.2, shall keep in good condition and repair the foundations, exterior walls, structural condition of interior bearing walls, and roof of the Premises, as well as the parking lots, walkways, driveways, landscaping, fences, signs and utility installations of the Common Areas and all parts thereof. Lessor shall not, however, be obligated to paint the interior surface of exterior walls, nor shall Lessor be required to maintain, repair or replace windows, doors or plate glass of the Premises, or to maintain or repair anything required to be maintained by Lessee under paragraph 7.2. The cost to Lessor of painting the exterior walls shall be an Operating Expense. Lessor shall have no obligation to make repairs under this paragraph 7.1 until a reasonable time after receipt of written notice from Lessee of the need for such repairs. Lessee expressly waives the benefits of any statute now or hereafter in effect which would otherwise afford Lessee the right to make repairs at Lessor's expense or to terminate this Lease because of Lessor's failure to keep the Premises in good order, condition and repair. Lessor shall not be liable for damages or loss of any kind or nature by reason of Lessor's failure to furnish any Common Area services when such failure is caused by accident, breakage, repairs, strikes, lockout, or other labor disturbances or disputes of any character or by any other cause beyond the reasonable control of Lessor. 7.2 Lessee's Obligations (1) Subject to the provisions of paragraphs 6 (Use), 7.1 (Lessor's Obligations), and 9 (Damage or Destruction), and except for damage to the Premises caused by any negligent or intentional act or omission of Lessor or its employees, agents, contractors or invitees, in which event Lessor shall repair the damage at its expense (subject to paragraph 9), Lessee, at Lessee's expense, shall keep in good order, condition and repair the Premises and every part thereof (whether or not the damaged portion of the Premises or the means of repairing the same are reasonably or readily accessible to Lessee) including, without limiting the generality of the foregoing, the non-structural elements of foundations, exterior walls, interior bearing walls, and roof of the Premises, any plumbing, heating, ventilating and air conditioning systems (Lessee shall procure and maintain, at Lessee's expense, a ventilating and air conditioning system maintenance contract), electrical and lighting facilities and equipment within the Premises, or that serves only the Premises wherever situated, fixtures, interior walls and interior surfaces of exterior walls, ceilings, windows, doors, plate glass, and skylights located within the Premises. Lessor reserves the right to procure and maintain the ventilating and air conditioning system maintenance contract and if Lessor so elects, Lessee shall reimburse Lessor, upon demand for the cost thereof. (2) If Lessee fails to perform Lessee's obligations under this paragraph 7.2 or under any other paragraph of this Lease, Lessor may enter upon the Premises after ten (10) days' prior written notice to Lessee (except in the case of emergency, in which no notice shall be required) perform such obligations on Lessee's behalf and put the Premises in good order, condition and repair, and the cost thereof together with interest thereon at the Interest Rate shall be due and payable as additional rent to Lessor together with Lessee's next Base Rent installment. (3) On the last day of the term hereof, or on any sooner termination, Lessee shall surrender the Premises to Lessor in the same condition as received, ordinary wear and tear excepted, broom clean and free of debris. Any damage or deterioration of the Premises shall not be deemed ordinary wear and tear if the same could have been prevented by generally prevailing maintenance practices. Lessee shall repair any damage to the Premises occasioned by the installation or removal of Lessee's trade fixtures, alterations, furnishings and equipment. Notwithstanding anything to the contrary otherwise stated in this Lease, Lessee shall leave the air lines, power panels, electrical distribution systems, lighting fixtures, space heaters, air conditioning, plumbing and fencing on the Premises in good operating condition. 7.3 Alterations and Additions (1) Lessee shall not, without Lessor's prior written consent make any alterations, improvements, additions, or Utility Installations in, on or about the Premises, or the Industrial Center, except for nonstructural alterations to the Premises not exceeding $2,500 in costs as to any single project (the "Threshold Amount") during the term of this Lease. In any event, whether or not in excess of the Threshold Amount, Lessee shall make no change or alteration to the exterior of the Premises nor the exterior of the Building nor the Industrial Center without Lessor's prior written consent. As used in this paragraph 7.3 the term "Utility Installation" shall mean carpeting, window coverings, air lines, power panels, electrical distribution systems, lighting fixtures, space heaters, air conditioning, plumbing, and fencing. Lessor may require that Lessee remove any or all of said alterations, improvements, additions or Utility Installations at the expiration or earlier termination of the term, and restore the Premises and the Industrial Center to their prior condition. Lessor may require Lessee to provide Lessor, at Lessee's sole cost and expense, a lien and completion bond in an amount equal to one and one-half times the estimated cost of such improvements, to insure Lessor against any liability for mechanic's and materialmen's liens and to insure completion of the work; provided, however, that so long as Big Dog U.S.A., Inc., a California corporation, is the Lessee, Lessor shall not require a lien and completion bond unless the cost of the work for the particular project exceeds $50,000. Should Lessee make any alterations, improvements, additions or Utility Installations without the prior approval of Lessor, Lessor may, at any time during the term of the Lease, require that Lessee remove any or all of the same, excluding the improvements made pursuant to Paragraph 51. (2) Any alterations, improvements, additions, or Utility Installations made by Lessee during the term of this Lease shall be done in a good and workmanlike manner and of good and sufficient materials, and Lessee shall, within thirty (30) days after completion of such alteration, improvements, addition or Utility Installation, provide Lessor with as-built plans and specifications for same. Notwithstanding anything contained in this Lease to the contrary, Paragraphs 7.3(d)(i)(bb) and (cc) shall apply to non-structural alterations, improvements, additions or Utility Installations not exceeding the Threshold Amount. (3) Any alterations, improvements, additions or Utility Installations in or about the Premises or the Industrial Center that Lessee shall desire to make and which requires the consent of the Lessor shall be presented to Lessor in written form, with proposed detailed plans. If Lessor shall give its consent, the consent shall be deemed conditioned upon Lessee acquiring a permit to do so from appropriate governmental agencies, the furnishing of a copy thereof to Lessor prior to the commencement of the work and the compliance by Lessee of all conditions of said permit in a prompt and expeditious manner. (1) (4) For any additions, alterations, improvements, or Utility Installations requiring Lessor's prior written consent: (1)Lessee shall: (aa) Request Lessor's approval in writing at least thirty (30) days prior to proposed construction. (bb) Employ a California licensed architect, contractor and structural engineer in connection with the proposed construction, if the work is structural or, in the case of non-structural work, if the employment of such person is appropriate in connection with the work being performed and the cost of such work exceeds $20,000. (cc) Be fully responsible for the acts of Lessee's consultants, employees, contractors, subcontractors, invitees and agents, and cause them to fully comply with any applicable terms of this Lease and documents referred to by this Lease and all applicable laws, rules and regulations. (dd) Enter into written agreements with an architect and general contractor on standard American Institute of Architects (AIA) form or reasonable equivalent for the contract itself as well as payment schedules, change orders, etc. Copies of executed agreements will be forwarded to Lessor within five (5) days of execution. (ee) Cause to be obtained an applicable building permit for any and all construction and modifications, and construct the additions and alterations and perform the construction work in accordance with all applicable laws, including without limitation the Americans With Disabilities Act. (2)Lessee's Architect shall: (aa) Be licensed by the State of California. (bb) Design and specify within the parameters of the building work letter (if any) and approved building specifications (if any) or have received specific written exceptions from Lessor. (cc) Secure Lessor's written approval before submitting plans to the general contractor for bidding or to governmental agencies for approval. (dd) Secure Lessor's written approval of any changes or alternates to the plans recommended by the general contractor or required by governmental agencies. (ee) Submit a copy of the final application for permit and issued permit to Lessor. (ff) Incorporate the building standard details (if any) supplied by Lessor onto the drawings. (gg) Submit final plans for Lessor's written approval prior to construction. (hh) Be available for final inspection with Lessor at job completion. (ii) Secure Lessor's written approval of details of any changes in specifications or finishes during construction. (jj) Provide samples and specifications as required by Lessor. (kk) Sign off on the as-built drawings as the Architect's certification that the improvements have, in fact, been built as per the Architect's design. (3)Lessee's General Contractor and/or Subcontractors shall: (aa) Be licensed by the State of California. (bb) Have substantial experience providing similar quality and quantity of improvements. Work history shall be provided to Lessor prior to being awarded contract. (cc) Have a bonding capacity equal to or exceeding the valuation of the job. (dd) Maintain in full force and effect, throughout the duration of its performance under the contract with the Lessee, a Worker's Compensation insurance policy and a Commercial General Liability insurance policy issued by an insurer satisfactory to Lessor with liability coverage of not less than $1,000,000.00 for personal injury and $500,000.00 to cover property damage. The Commercial General Liability insurance policy shall include assumption of contractual liability. Certificates of insurance containing a thirty (30) day cancellation clause shall be furnished to Lessor prior to commencement of performance under the construction contract naming Lessor (The Prudential Insurance Company of America) and its managing agent (currently Cushman & Wakefield of California, Inc.) as additional insureds. (ee) Provide a construction schedule to Lessor prior to commencement of work and weekly written progress reports. (ff) Warrant the General Contractor's work and that of the General Contractor's subcontractors, for a minimum of one (1) year. (gg) Provide Lessor with as- built drawings of all improvements. (4) All approvals by Lessor, as herein provided for, shall not be unreasonably withheld. All requests to be submitted to Lessor shall be submitted through Lessor's managing agent. (5) Lessee shall pay, when due, all claims for labor or materials furnished or alleged to have been furnished to or for Lessee at or for use in the Premises, which claims are or may be secured by any mechanic's or materialmen's lien against the Premises, or the Industrial Center, or any interest therein. Lessee shall give Lessor not less than thirty (30) days' notice prior to the commencement of any work in the Premises, and Lessor shall have the right to post notices of non-responsibility in or on the Premises or the Building as provided by law. If Lessee shall, in good faith, contest the validity of any such lien, claim or demand, then Lessee shall, at its sole expense defend itself and Lessor against the same and shall pay and satisfy any such adverse judgment that may be rendered thereon before the enforcement thereof against the Lessor or the Premises or the Industrial Center, upon the condition that if Lessor shall require, Lessee shall furnish to Lessor a surety bond satisfactory to Lessor in an amount equal to such contested lien claim or demand indemnifying Lessor against liability for the same and holding the Premises and the Industrial Center free from the effect of such lien or claim. In addition, Lessor may require Lessee to pay Lessor's attorneys fees and costs in participating in such action if Lessor shall decide it is to Lessor's best interest to do so. (6) All alterations, improvements, additions and Utility Installations (unless they constitute trade fixtures of Lessee), which may be made on the Premises, shall be the property of Lessor and shall remain upon and be surrendered with the Premises at the expiration or earlier termination of the Lease term, unless Lessor requires their removal pursuant to paragraph 7.3(a). Notwithstanding the provisions of this paragraph 7.3(f), Lessee's machinery and equipment, other than that which is affixed to the Premises so that it cannot be removed without material damage to the Premises, and other than Utility Installations, shall remain the property of Lessee and may be removed by Lessee subject to the provisions of paragraph 7.2. . Lessor reserves the right to install new or additional utility facilities throughout the Building and the Common Areas for the benefit of Lessor or Lessee, or any other lessee of the Industrial Center, including, but not by way of limitation, such utilities as plumbing, electrical systems, security systems, communication systems, and fire protection and detection systems, so long as such installations do not unreasonably interfere with Lessee's use of the Premises. 7.5 Condition of Premises Upon Termination; Additional Use Provisions. 7.5.1 Lessee shall maintain the Premises as provided in Paragraph 7.2 and in accordance with the requirements of any covenants or restrictions as may from time to time be applicable to the Premises. Lessee, in keeping the Premises in good order, condition and repair, shall exercise and perform good maintenance practices and any damage or deterioration shall not be deemed "ordinary wear and tear" if the same could have been prevented by good maintenance practice. Lessee's obligations shall include restorations, replacements or renewals when necessary to keep the Premises and all improvements thereon or a part thereof in good order, condition and state of repair, subject to Lessor's obligations under Paragraph 7.1. Notwithstanding anything contained in the Lease to the contrary, Lessee shall make all repairs whatsoever on the Premises necessitated by the negligence, misconduct or fault of Lessee, or its agents, licensees, contractors or invitees. 7.5.2 Notwithstanding anything to the contrary in paragraph 7.2 of this Lease, upon termination of this Lease, Lessee shall leave all plumbing, heating (including space heaters), air conditioning, electrical and mechanical systems, on the Premises and in good condition and operating order, reasonable wear and tear excepted, and Lessee shall upon demand pay to Lessor that portion of the cost to restore such items to good condition and operating order. 7.5.3 Notwithstanding anything to the contrary contained in this Lease, the Premises shall not be used for the warehousing or distribution of hazardous or explosive products, substances or materials, or of products, substances or materials that are detrimental to the Premises, the Industrial Center or other tenants thereof. 8. Insurance; Indemnity 8.1 Lessee hereby agrees to indemnify, defend and hold harmless Lessor, its successors, assigns, subsidiaries, directors, officers, agents and employees from and against any and all damage, loss, liability or expense including, but not limited to, reasonable attorney's fees and legal costs suffered by same directly or by reason of any claim, suit or judgement brought by or in favor of any person or persons for damage, loss or expense due to, but not limited to, bodily injury, including death resulting anytime therefrom, and property damage sustained by such person or persons which arises out of, is occasioned by or in any way attributable to the use or occupancy of the Premises by the Lessee, the acts or omission of the Lessee, its agents, employees or any other contractors or invitees brought onto said Premises by the Lessee, or any breach or default in the performance of any obligation on Lessee's part to be performed under the terms of this Lease, except to the extent caused by the negligence or wilful misconduct of Lessor, its employees, and agents. If any action or proceeding is brought against Lessor by reason of any such claim, Lessee, upon notice from Lessor, shall defend same at Lessee's expense by counsel reasonably satisfactory to Lessor (it being agreed that Lessor's good faith belief that a conflict of interest exists or may reasonably exist in the event that Lessor and Lessee are represented by the same counsel shall constitute reasonable grounds for Lessor's insistence on separate counsel). Such loss or damage shall include, but not be limited to, any injury or damage to Lessor's personnel (including death resulting anytime therefrom) on the Premises. Lessor shall not be liable for any damages arising from any act or neglect of any other tenant, if any, of the Building or Industrial Center in which the Premises are located. Lessee agrees that the obligations assumed herein shall survive the termination of this Lease. 8.2 Lessee hereby agrees to maintain in full force and effect at all times during the term of this Lease, at Lessee's own expense, for the protection of Lessee, Lessor and Lessor's property manager, as their interest may appear, policies of insurance issued by a responsible carrier or carriers to Lessor which afford the following coverages: (1) Workers' Compensation with statutory limits. (2) Employers' Liability insurance with the following minimum limits: Bodily injury by disease per person $1,000,000 Bodily injury by accident policy limit $1,000,000 Bodily injury by disease policy limit $1,000,000 (3) Property insurance on a special causes of loss insurance form covering any and all personal property of Lessee including but not limited to improvements, betterments, furniture, fixtures, Utility Installations, and equipment in an amount not less than their full replacement cost, with a deductible not to exceed $10,000. This policy should contain a waiver of subrogation. (4) Commercial General Liability Insurance including Broad Form Property Damage and Contractual Liability with the following minimum limits: General Aggregate $2,000,000 Products/Completed Operations Aggregate $2,000,000 Each Occurrence $1,000,000 Personal & Advertising Injury $1,000,000 Medical Payments $5,000 per person (5) Umbrella/Excess Liability on a following form basis with the following minimum limits: General Aggregate $10,000,000 Each Occurrence $10,000,000 The limits of said insurance in this Paragraph 8.2 shall not, however, limit the liability of Lessee hereunder. 8.3 If Lessor is providing property insurance on the Premises, then Lessor shall, at all times during the term of this Lease, maintain the following insurance: (1) A policy or policies of all-risk property insurance, issued by and binding upon some solvent insurance company, insuring for the full replacement cost of the building on the Premises. Lessor shall not be obligated to insure, and shall not assume any liability or risk of loss for, any of Lessee's furniture, equipment, machinery, goods, supplies, utility installations, improvements, or alterations upon the Premises. This policy shall contain an agreed amount endorsement and be written with no coinsurance. Lessor may, but shall not be obligated to, obtain earthquake and flood insurance. (2) Rent insurance on an all-risk basis in an amount equal to all that is called for under Paragraph 4 of this Lease (Base Rent and any additional rents payable under this Lease including tax and insurance costs) for a period of at least twelve (12) months commencing with the date of loss. (3) Boiler and machinery insurance in an amount satisfactory to Lessor on a comprehensive coverage form. 8.4 The Lessee shall deliver to Lessor prior to taking possession of the Premises, and thereafter at least thirty (30) days prior to expiration of such policy, certificates of insurance evidencing the above coverage with limits not less than those specified above. Insurance required hereunder shall be in companies holding a "General Policyholders Rating" of at least A-VIII as set forth in the most current issue of "Best's Insurance Guide". Such Certificates with the exception of Worker's Compensation, shall name Lessor, its subsidiaries, directors, agents and employees, and its property manager as additional insureds and shall expressly provide that the interest of same herein shall not be affected by a breach by Lessee of any insurance policy provision for which such Certificates evidence coverage. Further, all Certificates shall expressly provide that no less than thirty (30) days prior written notice shall be given to Lessor in the event of material alteration to or cancellation of the coverage evidenced by such Certificates. 8.5 Lessor may secure and maintain, at Lessee's expense, increased amounts of insurance and other insurance coverage in such limits, as Lessor may require in its reasonable judgment to afford Lessor adequate protection consistent with the practices of institutional owners of comparable properties. 8.6 Lessor makes no representation that the limits of liability specified to be carried by Lessee under the term of this Lease are adequate to protect Lessee against Lessee's undertaking under this Paragraph 8 and in the event Lessee believes that any such insurance coverage called for under this Lease is insufficient, Lessee shall provide, at its own expense, such additional insurance as Lessee deems adequate. 8.7 Anything in this Lease to the contrary notwithstanding, Lessor and Lessee hereby waive and release each other of and from any and all rights of recovery, claims, action or cause of action, against each other, their agents, officers and employees, for any loss or damage that may occur to the Premises, improvements to the building of which the Premises are a part, personal property (building contents) within the building on the Premises, any furniture, equipment, machinery, goods or supplies not covered by this Lease which Lessee may bring or obtain upon the Premises or any additional improvements which Lessee may construct on the Premises, by reason of fire, the elements or any other cause to the extent the same is insured against under the terms of all risk property insurance policies, regardless of cause or origin, including negligence of Lessor or Lessee and their agents, officers and employees. Because this Paragraph will preclude the assignment of any claim mentioned in it by way of subrogation (or otherwise) to an insurance company (or any other person) each party to this Lease agrees immediately to give to each insurance company, written notice of the terms of the mutual waivers contained in this Paragraph, and to have the insurance policies properly endorsed if necessary to prevent the invalidation of the insurance coverages by reason of the mutual waivers contained in this Paragraph. Lessee also waives and releases Lessor, its agents, officers and employees of and from any and all rights of recovery, claim, action or cause of action for any loss or damage to the extent the same is insured against under any other policies of insurance carried by Lessee. 8.8 Payment of Premium Increase. (1) After the term of this Lease has commenced, Lessee shall not be responsible for paying Lessee's Share of any increase in the property insurance premium for the Industrial Center specified by Lessor's insurance carrier as being caused by the use, acts or omissions of Lessor or any other lessee of the Industrial Center, or by the nature of Lessor's or such other lessee's occupancy which create an extraordinary or unusual risk. (2) Lessee, however, shall pay the entirety of any increase in the property insurance premium for the Industrial Center over what is was immediately prior to the commencement of the term of this Lease if the increase is specified by Lessor's insurance carrier as being caused by the nature of Lessee's occupancy or any act or omission of Lessee. 8.9 Exemption of Lessor from Liability. Lessee hereby agrees that Lessor shall not be liable for injury to Lessee's business or any loss of income therefrom or for damage to the goods, wares, merchandise or other property of Lessee, Lessee's employees, invitees, customers, or any other person in or about the Premises or the Industrial Center, nor shall Lessor be liable for injury to the person of Lessee, Lessee's employees, agents or contractors, whether such damage or injury is caused by or results from fire, steam, electricity, gas, water or rain, or from the breakage, leakage, obstruction or other defects of pipes, sprinklers, wires, appliances, plumbing, air conditioning, or lighting fixtures, or from any other cause, whether said damage or injury results from conditions arising upon the Premises or upon other portions of the Industrial Center, or from other sources or places and regardless of whether the cause of such damage or injury or the means of repairing the same is inaccessible to Lessee, Lessor shall not be liable for any damages arising from any act or neglect of any other lessee, occupant or user of the Industrial Center, nor from the failure of Lessor to enforce the provisions of any other lease of the Industrial Center. Notwithstanding anything in this Paragraph 8.9 to the contrary, but subject to Paragraph 8.7, nothing in this Paragraph 8.9 shall limit Lessor's liability for injuries to natural persons or direct damage to property to the extent caused by the active negligence or wilful misconduct of Lessor, its employees or agents. 9. Damage or Destruction 9.1 Definitions (1) "Premises Partial Damage" shall mean if the Premises are damaged or destroyed to the extent that the cost of repair is less than fifty percent of the then replacement cost of the Premises. (2) "Premises Total Destruction" shall mean if the Premises are damaged or destroyed to the extent that the cost of repair is fifty percent or more of the then replacement cost of the Premises. (3) "Premises Building Partial Damage" shall mean if the Building of which the Premises are a part is damaged or destroyed to the extent that the cost to repair is less than fifty percent of the then replacement cost of the Building. (4) "Premises Building Total Destruction" shall mean if the Building of which the Premises are a part is damaged or destroyed to the extent that the cost to repair is fifty percent or more of the then replacement cost of the Building. (5) "Industrial Center Buildings" shall mean all of the buildings on the Industrial Center site. (6) "Industrial Center Buildings Total Destruction" shall mean if the Industrial Center Buildings are damaged or destroyed to the extent that the cost of repair is fifty percent or more of the then replacement cost of the Industrial Center Buildings. (7) "Insured Loss" shall mean damage or destruction which was caused by an event required to be covered by the insurance described in paragraph 8 or where the cost to restore is less than 5% of the then replacement cost of the Building. The fact that an Insured Loss has a deductible amount shall not make the loss an uninsured loss. (8) "Replacement Cost" shall mean the amount of money necessary to be spent in order to repair or rebuild the damaged area to the condition that existed immediately prior to the damage occurring excluding all improvements made by lessees. 9.2 Premises Partial Damage; Premises Building Partial Damage. (1) Insured Loss: Subject to the provisions of paragraphs 9.4 and 9.5, if at any time during the term of this Lease there is damage which is an Insured Loss and which falls into the classification of either Premises Partial Damage or Premises Building Partial Damage, then Lessor shall, at Lessor's expense, repair such damage to the Premises, but not Lessee's fixtures, equipment, tenant improvements or Utility Installations, as soon as reasonably possible and this Lease shall continue in full force and effect. (2) Uninsured Loss: Subject to the provisions of paragraphs 9.4 and 9.5, if at any time during the term of this Lease there is damage which is not an Insured Loss and which falls within the classification of Premises Partial Damage or Premises Building Partial Damage, unless caused by a negligent or willful act of Lessee or its agents, contractors or invitees (in which event Lessee shall make the repairs at Lessee's expense), which damage prevents Lessee from using the Premises, Lessor may at Lessor's option either (i) repair such damage as soon as reasonably possible at Lessor's expense, in which event this Lease shall continue in full force and effect, or (ii) give written notice to Lessee within thirty (30) days after the date of the occurrence of such damage of Lessor's intention to cancel and terminate this Lease as of the date of the occurrence of such damage. In the event Lessor elects to give such notice of Lessor's intention to cancel or terminate this Lease, Lessee shall have the right within ten (10) days after the receipt of such notice to give written notice to Lessor of Lessee's intention to repair such damage at Lessee's expense, without reimbursement from Lessor, in which event this Lease shall continue in full force and effect, and Lessee shall proceed to make such repairs as soon as reasonably possible. If Lessee does not give such notice within such 10-day period this Lease shall be cancelled and terminated as of the date of the occurrence of such damage. 0.1 Premises Total Destruction; Premises Building Total Destruction; Industrial CenterBuildings Total Destruction 9.3 Premises TotalDestruction; Premises Building Total .estruction; Industrial Center BuildingsTotal Destruction (3) Subject to the provisions of paragraphs 9.4 and 9.5, if at any time during the term of this Lease there is damage, whether or not it is an Insured Loss, and which falls into the classifications of either (i) Premises Total Destruction, or (ii) Premises Building Total Destruction, or (iii) Industrial Center Buildings Total Destruction, then Lessor may at Lessor's option either (i) repair such damage or destruction, but not Lessee's fixtures, equipment, tenant improvements or Utility Installations as soon as reasonably possible at Lessor's expense, and this Lease shall continue in full force and effect, or (ii) give written notice to Lessee within thirty (30) days after the date of occurrence of such damage of Lessor's intention to cancel and terminate this Lease, in which case this Lease shall be cancelled and terminated as of the date of the occurrence of such damage. 9.3 Damage Near End of Term (1) Subject to paragraph 9.4(b), if at any time during the last six months of the term of this Lease there is substantial damage, whether or not an Insured Loss, which falls within the classification of Premises Partial Damage, Lessor may at Lessor's option cancel and terminate this Lease as of the date of occurrence of such damage by giving written notice to Lessee of Lessor's election to do so within 30 days after the date of occurrence of such damage. (2) Notwithstanding paragraph 9.4(a), in the event that Lessee has an option to extend or renew this Lease, and the time within which said option may be exercised has not yet expired, Lessee shall exercise such option, if it is to be exercised at all, no later than twenty (20) days after the occurrence of an Insured Loss falling within the classification of Premises Partial Damage during the last six months of the term of this Lease. If Lessee duly exercises such option during said twenty (20) day period, Lessor shall, at Lessor's expense, repair such damage, but not Lessee's fixtures, equipment or tenant improvements, as soon as reasonably possible and this Lease shall continue in full force and effect provided Lessee first deposits with Lessor any shortfall in necessary funds. If Lessee fails to exercise such option during said twenty (20) day period, then Lessor may at Lessor's option terminate and cancel this Lease as of the expiration of said twenty (20) day period by giving written notice to Lessee of Lessor's election to do so within ten (10) days after the expiration of said twenty (20) day period, notwithstanding any term or provision in the grant of option to the contrary. 9.4 Abatement of Rent; Lessee's Remedies (1) In the event Lessor repairs or restores the Premises pursuant to the provisions of this paragraph 9, the rent payable hereunder for the period during which such damage, repair or restoration continues shall be abated in proportion to the degree to which Lessee's use of the Premises is impaired. Except for abatement of rent, if any, Lessee shall have no claim against Lessor for any damage suffered by reason of any such damage, destruction, repair or restoration. (2) If Lessor shall be obligated to repair or restore the Premises under the provisions of this paragraph 9 and shall not commence such repair or restoration within 100 days after such obligation shall accrue, Lessee may at Lessee's option cancel and terminate this Lease by giving Lessor written notice of Lessee's election to do so at any time prior to the commencement of such repair or restoration. In such event this Lease shall terminate as of the date of such notice. In the event that Lessor shall be obligated to repair or restore the Premises pursuant to Paragraph 9 of this Lease and shall not commence such repair or restoration within 100 days after such obligation shall accrue, the right of Lessee to terminate this Lease pursuant to this Paragraph 9.5(b) shall be the sole right and remedy of Lessee against Lessor, and Lessor shall have no other liability to Lessee, for damages, specific performance or otherwise, in connection with any such failure. (3) If any repair or restoration Lessor shall be obligated to or shall elect to undertake under the provisions of this Paragraph 9 is estimated by Lessor's architect to take more than 270 days from the event of damage to complete, either party at such party's election, may cancel and terminate this Lease by giving the other party written notice of the electing party's election to do so at any time prior to the commencement of such repair or restoration. In such event, this Lease shall terminate as of the date of such notice. 9.5 Termination-Advance Payment. Upon termination of this Lease pursuant to this paragraph 9, an equitable adjustment shall be made concerning advance rent and any advance payments made by Lessee to Lessor, Lessor shall, in addition, return to Lessee so much of Lessee's security deposit as has not theretofore been applied by Lessor. 9.6 Waiver. Lessor and Lessee waive the provisions of any statute which relate to termination of leases when leased property is destroyed and agree that such event shall be governed by the terms of this Lease. 10. Real Property Taxes 10.1 Payment of Taxes. Lessor shall pay the real property tax, as defined in paragraph 10.3, applicable to the Industrial Center subject to reimbursement by Lessee of Lessee's Share of such taxes in accordance with the provisions of paragraph 4.2, except as otherwise provided in paragraph 10.2. 10.2 Additional Improvements. Lessee shall not be responsible for paying Lessee's Share of any increase in real property tax specified in the tax assessor's records and work sheets as being caused by additional improvements placed upon the Industrial Center by other lessees or by Lessor for the exclusive enjoyment of such other lessees. Lessee shall, however, pay to Lessor at the time that Operating Expenses are payable under paragraph 4.2(c) the entirety of any increase in real property tax if assessed solely by reason of additional improvements placed upon the Premises by Lessee or at Lessee's request. 10.3 Definition of "Real Property Tax". As used herein, the term "real property tax" shall include any form of real estate tax or assessment, general, special, ordinary or extraordinary, and any license fee, commercial rental tax, improvement bond or bonds, levy or tax (other than inheritance, personal income or estate taxes) imposed on the Industrial Center or any portion thereof by any authority having the direct or indirect power to tax, including any city, county, state or federal government, or any school, agricultural, sanitary, fire, street, drainage or other improvement district thereof, as against any legal or equitable interest of Lessor in the Industrial Center or in any portion thereof, as against Lessor's right to rent or other income therefrom, and as against Lessor's business of leasing the Industrial Center. The term "real property tax" shall also include any tax, fee, levy, assessment or charge (i) in substitution of, partially or totally, any tax, fee, levy, assessment or charge hereinabove included within the definition of "real property tax," or (ii) the nature of which was hereinbefore included within the definition of "real property tax" or (iii) which is imposed for a service or right not charged prior to June 1, 1978, or, if previously charged, has been increased since June 1, 1978 or (iv) which is imposed as a result of a transfer, either partial or total, of Lessor's interest in the Industrial Center or which is added to a tax or charge hereinbefore included within the definition of real property tax by reason of such transfer, or (v) which is imposed by reason of this transaction, any modifications or changes hereto, or any transfers hereof. 10.4 Joint Assessment. If the Industrial Center is not separately assessed, Lessee's Share of the real property tax liability shall be an equitable proportion of the real property taxes for all of the land and improvements included within the tax parcel assessed, such proportion to be determined by Lessor from the respective valuations assigned in the assessor's work sheets or such other information as may be reasonably available, Lessor's reasonable determination thereof, in good faith, shall be conclusive. 10.5 Personal Property Taxes (1) Lessee shall pay prior to delinquency all taxes assessed against and levied upon trade fixtures, furnishings, equipment and all other personal property of Lessee contained in the Premises or elsewhere. When possible, Lessee shall cause said trade fixtures, furnishings, equipment and all other personal property to be assessed and billed separately from the real property of Lessor. (2) If any of Lessee's said personal property shall be assessed with Lessor's real property, Lessee shall pay to Lessor the Shares attributable to Lessee within ten (10) days after receipt of a written statement setting forth the taxes applicable to Lessee's property. 10.6 Additional Provisions Regarding Real Property Taxes. Lessor shall have the sole right to contest or appeal any real property taxes or assessments applicable to all or any portion of the Industrial Center and to seek a reduction in the assessed valuation of all or any portion of the Industrial Center (collectively, "Tax Contests"). Any refund of real property taxes resulting from any such Tax Contest shall be applied first to reimburse Lessor for its costs and expenses in connection with the Tax Contest (including, without limitation attorneys' fees and the costs of consultants) and then, out of and to the extent of the balance of such refund, Lessor shall reimburse to Lessee the portion of such reduction attributable to the Premises and the term of this Lease, as and to the extent previously paid by Lessee as part of Lessee's Share of Operating Expenses. 11. Utilities. Lessee shall pay for all water, gas, heat, light, power, telephone and other utilities and services supplied to the Premises, together with any taxes thereon. If any such services are not separately metered to the Premises, Lessee shall pay at Lessor's option, either Lessee's Share or a reasonable proportion to be determined by Lessor of all charges jointly metered with other premises in the Building. Electrical Power capacity to Lessee for the Premises shall be 1200 AMP, 277/480 volt, 3-phase power. 12. Assignment and Subletting 12.1 Lessor's Consent Required. Lessee shall not voluntarily or by operation of law assign, transfer, mortgage, sublet, or otherwise transfer or encumber all or any part of Lessee's interest in the Lease or in the Premises, without Lessor's prior written consent, which Lessor shall not unreasonably withhold. Lessor shall respond to Lessee's request for consent hereunder in a timely manner and any attempted assignment, transfer, mortgage, encumbrance or subletting without such consent shall be void, and shall constitute a noncurable breach of this Lease without the need for notice to Lessee under paragraph 13.1. If at any time or from time to time during the term of this Lease, Lessee desires to assign or sublet all or any part of Lessee's interest in this Lease or in the Premises, Lessee shall give prior written notice to Lessor setting forth the terms of the proposed assignment or subletting and the space so proposed to be assigned or sublet. Such assignment or sublease shall be subject to, without limitation, all the conditions in this Paragraph 12 and the following conditions: (1) The assignment or sublease shall be on the terms set forth in the notice given to Lessor. Any subsequent changes or modifications will require Lessor's prior written consent. (2) Lessee acknowledges that Lessor's agreement to lease these Premises to Lessee at the rent and terms stated herein is made in material reliance upon Lessor's evaluation of this particular Lessee's background, experience and ability, as well as the nature of the use of the Premises by this Lessee as set forth in Paragraph 6. In the event that Lessee shall request Lessor's written consent to assign or sublease the Premises as required in this Paragraph 12.1, then each such request for consent shall be accompanied by the following: (1) Financial statements of the proposed assignee or sublessee; (2) A statement of the specific uses for which the Premises will be utilized by the proposed assignee or sublessee; and (3) Preliminary plans prepared by an architect or civil engineer for all alterations to the Premises that are contemplated to be made by Lessee, the proposed assignee or sublessee. (3) No assignment or sublease shall be valid and no assignee or sublessee shall take possession of the Premises assigned or subleased until an executed counterpart of such assignment or sublease has been delivered to Lessor. (4) No sublessee or assignee shall have a right further to sublet or assign. 12.2 Lease Affiliate. Notwithstanding the provisions of paragraph 12.1 hereof, Lessee may assign or sublet the Premises, or any portion thereof, without Lessor's consent, to any corporation or other person or entity which controls, is controlled by or is under common control with Lessee, or to any corporation or entity resulting from the merger or consolidation with Lessee, or to any person or entity which acquires all the assets of Lessee as a going concern of the business that is being conducted on the Premises, all of which are referred to as "Lessee Affiliate," provided that before such assignment shall be effective said assignee shall assume, in full, the obligations of Lessee under this Lease. Any such assignment shall not, in any way, affect or limit the liability of Lessee under the terms of this Lease, even if after such assignment or subletting the terms of this Lease are materially changed or altered without the consent of Lessee, the consent of whom shall not be necessary. 0.2 Lessees Other Than Individuals 12.3 Lessees Other Than Individuals ------------------------------ ------------------------------ (1) If Lessee is a partnership, a transfer of any interest of a general partner, a withdrawal of any general partner from the partnership, or the dissolution of the partnership, shall be deemed to be an assignment of this Lease. (2) If Lessee is a corporation, unless Lessee is a public corporation whose stock is regularly traded on a national stock exchange, or is regularly traded in the over-the-counter market and quoted on NASDAQ, any sale or other transfer of a percentage of capital stock of Lessee which results in a change of controlling persons, or the sale or other transfer of substantially all of the assets of Lessee, shall be deemed to be an assignment of this Lease. 12.3 Terms and Conditions of Assignment. Regardless of Lessor's consent, no assignment shall release Lessee of Lessee's obligations hereunder or alter the primary liability of Lessee to pay the Base Rent and Lessee's Share of Operating Expenses, and to perform all other obligations to be performed by Lessee hereunder. Lessor may accept rent from any person other than Lessee pending approval or disapproval of such assignment. Neither a delay in the approval or disapproval of such assignment nor the acceptance of rent shall constitute a waiver or estoppel of Lessor's right to exercise its remedies for the breach of any of the terms or conditions of this paragraph 12 of this Lease. Consent to one assignment shall not be deemed consent to any subsequent assignment. In the event of default by any assignee of Lessee or any successor of Lessee, in the performance of any of the terms hereof, Lessor may proceed directly against Lessee without the necessity of exhausting remedies against said assignee, Lessor may consent to subsequent assignments of this Lease or amendments or modifications to this Lease with assignees of Lessee, without notifying Lessee, or any successor of Lessee, and without obtaining its or their consent thereto and such action shall not relieve Lessee of liability under this Lease. 12.4 Terms and Conditions Applicable to Subletting. Regardless of Lessor's consent, the following terms and conditions shall apply to any subletting by Lessee of all or any part of the Premises and shall be included in subleases: (1) Lessee hereby assigns and transfers to Lessor all of Lessee's interest in all rentals and income arising from any sublease heretofore or hereafter made by Lessee, and Lessor may collect such rent and income and apply same toward Lessee's obligations under this Lease; provided, however, that until a default shall occur in the performance of Lessee's obligations under this Lease, Lessee may, subject to paragraph 12.1(e) receive, collect and enjoy the rents accruing under such sublease. Lessor shall not, by reason of this or any other assignment of such sublease to Lessor nor by reason of the collection of the rents from a sublessee, be deemed liable to the sublessee for any failure of Lessee to perform and comply with any of Lessee's obligations to such sublessee under such sublease. Lessee hereby irrevocably authorizes and directs any such sublessee, upon receipt of a written notice from Lessor stating that a default exists in the performance of Lessee's obligations under this Lease, to pay to Lessor the rents due and to become due under the sublease, Lessee agrees that such sublessee shall have the right to rely upon any such statement and request from Lessor, and that such sublessee shall pay such rents to Lessor without any obligation or right to inquire as to whether such default exists and notwithstanding any notice from or claim from Lessee to the contrary. Lessee shall have no right or claim against such sublessee or Lessor for any such rents so paid by said sublessee to Lessor. (2) No sublease entered into by Lessee shall be effective unless and until it has been approved in writing by Lessor which Lessor shall not unreasonably withhold. In entering into any sublease, Lessee shall use only such form of sublease as is reasonably satisfactory to Lessor, and once approved by Lessor, such sublease shall not be materially changed or modified without Lessor's prior written consent. Any sublessee shall, by reason of entering into a sublease under this Lease, be deemed, for the benefit of Lessor, to have assumed and agreed to conform and comply with each and every obligation herein to be performed by Lessee other than such obligations as are contrary to or inconsistent with provisions contained in a sublease to which Lessor has expressly consented in writing. (3) If Lessee's obligations under this Lease have been guaranteed by third parties, then a sublease, and Lessor's consent thereto, shall not be effective unless said guarantors give their written consent to such sublease and the terms thereof. (4) The consent by Lessor to any subletting shall not release Lessee from its obligations or alter the primary liability of Lessee to pay the rent and perform and comply with all of the obligations of Lessee to be performed under this Lease. (5) The consent by Lessor to any subletting shall not constitute a consent to any subsequent subletting by Lessee or to any assignment or subletting by the sublessee. However, Lessor may consent to subsequent sublettings and assignments of the sublease or any amendments or modifications thereto without notifying Lessee or anyone else liable on the Lease or sublease and without obtaining their consent and such action shall not relieve such persons from liability. (6) In the event of any default under this Lease, Lessor may proceed directly against Lessee, any guarantors or any one else responsible for the performance of this Lease, including the sublessee, without first exhausting Lessor's remedies against any other person or entity responsible therefor to Lessor, or any security held by Lessor or Lessee. (7) In the event Lessee shall default in the performance of its obligations under this Lease, Lessor, at its option and without any obligation to do so, may require any sublessee to attorn to Lessor, in which event Lessor shall undertake the obligations of Lessee under such sublease from the time of the exercise of said option to the termination of such sublease; provided, however, Lessor shall not be liable for any prepaid rents or security deposit paid by such sublessee to Lessee or for any other prior defaults of Lessee under such sublease. (8) Each and every consent required of Lessee under a sublease shall also require the consent of Lessor. (9) No sublessee shall further assign or sublet all or any part of the Premises without Lessor's prior written consent. (10) Lessor's written consent to any subletting of the Premises by Lessee shall not constitute an acknowledgment that no default then exists under this Lease of the obligations to be performed by Lessee nor shall such consent be deemed a waiver of any then existing default, except as may be otherwise stated by Lessor at the time. (11) With respect to any subletting to which Lessor has consented, Lessor agrees to deliver a copy of any notice of default by Lessee to the sublessee. Such sublessee shall have the right to cure a default of Lessee within ten (10) days after service of said notice of default upon such sublessee, and the sublessee shall have a right of reimbursement and offset from and against Lessee for any such defaults cured by the sublessee. 12.5 Attorney's Fees. In the event Lessee shall assign or sublet the Premises or request the consent of Lessor to any assignment or subletting or if Lessee shall request the consent of Lessor for any act Lessee proposes to do then Lessee shall pay Lessor's reasonable attorney's and/or consultants' fees incurred in connection therewith, such attorney's fees not to exceed $350.00 for each such request. Notwithstanding anything to the contrary in this Paragraph 12.6, the parties agree that a payment of $750.00 is a reasonable fee for Lessor's review of Lessee's request to assign or sublet. 13. Default Remedies 13.1 Default. The occurrence of any one or more of the following events shall constitute a material default of this Lease by Lessee: (1) The vacating or abandonment of the Premises by Lessee. (2) The failure by Lessee to make any payment of rent or any other payment required to be made by Lessee hereunder, as and when due, where such failure shall continue for a period of ten (10) days after written notice thereof from Lessor to Lessee. In the event that Lessor serves Lessee with a Notice to Pay Rent or Quit pursuant to applicable Unlawful Detainer statutes such Notice to Pay Rent or Quit shall also constitute the notice required by this subparagraph. (3) Except as otherwise provided in this Lease, the failure by Lessee to observe or perform any of the covenants, conditions or provisions of this Lease to be observed or performed by Lessee, other than described in paragraph (b) above, where such failure shall continue for a period of thirty (30) days after written notice of such failure from Lessor to Lessee; provided, however, that if the nature of Lessee's noncompliance is such that more than thirty (30) days are reasonably required for its cure, then Lessee shall not be deemed to be in default if Lessee commenced such cure within said thirty (30) day period and thereafter diligently prosecutes such cure to completion. To the extent permitted by law, such thirty (30) day notice shall constitute the sole and exclusive notice required to be given to Lessee under applicable Unlawful Detainer statutes. (4) (i) The making by Lessee of any general arrangement or general assignment for the benefit of creditors; (ii) Lessee becomes a "debtor" as defined in 11 U.S.C. ss. 101 or any successor statute thereto (unless, in the case of a petition filed against Lessee, the same is dismissed within sixty (60) days); (iii) the appointment of a trustee or receiver to take possession of substantially all of Lessee's assets located at the Premises or of Lessee's interest in this Lease, where possession is not restored to Lessee within thirty (30) days; or (iv) the attachment, execution or other judicial seizure of substantially all of Lessee's assets located at the Premises or of Lessee's interest in this Lease, where such seizure is not discharged within thirty (30) days. In the event that any provision of this paragraph 13.1(d) is contrary to any applicable law, such provision shall be of no force or effect. (5) The discovery by Lessor that any financial statement given to Lessor by Lessee, any assignee of Lessee, any subtenant of Lessee, any successor in interest of Lessee or any guarantor of Lessee's obligations hereunder, was materially false. (6) If the performance of Lessee's obligations under this Lease is guaranteed: (i) the death of a guarantor, (ii) the termination of a guarantor's liability with respect to this Lease other than in accordance with the terms of such guaranty, (iii) a guarantor's becoming insolvent or the subject of a bankruptcy filing, (iv) a guarantor's refusal to honor the guaranty, or (v) a guarantor's breach of its guaranty obligation on an anticipatory breach basis, and Lessee's failure, within sixty (60) days following written notice by or on behalf of Lessor to Lessee of any such event, to provide Lessor with written alternative assurance or security, which, when coupled with the then existing resources of Lessee, equals or exceeds the combined financial resources of Lessee and the guarantors that existed at the time of execution of this Lease. 13.2 Remedies. If Lessee fails to perform any affirmative duty or obligation of Lessee under this Lease, within ten (10) business days after written notice to Lessee (or in case of an emergency, without notice), Lessor may at its option (but without obligation to do so), perform such duty or obligation on Lessee's behalf including but not limited to the obtaining of reasonably required bonds, insurance policies, or governmental licenses, permits or approvals. The costs and expenses of any such performance by Lessor shall be due and payable by Lessee to Lessor upon invoice therefor. In the event of a breach of this Lease by Lessee, as defined in Paragraph 13.1, with or without further notice or demand, and without limiting Lessor in the exercise of any right or remedy which Lessor may have by reason of such breach, Lessor may: (1) Terminate Lessee's right to possession of the Premises by any lawful means, in which case this Lease and the term hereof shall terminate and Lessee shall immediately surrender possession of the Premises to Lessor. In such event Lessor shall be entitled to recover from Lessee: (i) the worth at the time of the award of the unpaid rent which had been earned at the time of termination; (ii) the worth at the time of award of the amount by which the unpaid rent which would have been earned after termination until the time of award exceeds the amount of such rental loss that the Lessee proves could have been reasonably avoided; (iii) the worth at the time of award of the amount by which the unpaid rent for the balance of the term after the time of award exceeds the amount of such rental loss that the Lessee proves could be reasonably avoided; and (iv) any other amount necessary to compensate Lessor for all the detriment proximately caused by the Lessee's failure to perform its obligations under this Lease or which in the ordinary course of things would be likely to result therefrom, including but not limited to the cost of recovering possession of the Premises, expenses of reletting, including necessary renovation and alteration of the Premises, reasonable attorneys' fees, and that portion of the leasing commission paid by Lessor applicable to the unexpired term of this Lease. The worth of the time of award of the amount referred to in provisions (i) and (ii) of the prior sentence shall be calculated based on an interest rate equal to the Interest Rate. The worth at the time of award of the amount referred to in provision (iii) of the prior sentence shall be computed by discounting such amount at the discount rate of the Federal Reserve Bank of San Francisco at the time of award plus one percent. Efforts by Lessor to mitigate damages caused by Lessee's breach of this Lease shall not waive Lessor's right to recover damages under this Paragraph. If termination of this Lease is obtained through the provisional remedy of unlawful detainer, Lessor shall have the right to recover in such proceeding the unpaid rent and damages as are recoverable therein, or Lessor may reserve therein the right to recover all or any part thereof in a separate suit for such rent and/or damages. If a notice and grace period required under subparagraphs 13.1(b), (c) or (d) was not previously given, a notice to pay rent or quit, or to perform or quit, as the case may be, given to Lessee under any statute authorizing the forfeiture of leases for unlawful detainer shall also constitute the applicable notice for grace period purposes required by subparagraphs 13.1(b), (c) or (d). In such case, the applicable grace period under subparagraphs 13.1(b), (c) or (d) and under the unlawful detainer statute shall run concurrently after the one such statutory notice, and the failure of Lessee to cure the default within the greater of the two such grace periods shall constitute both an unlawful detainer and breach of this Lease entitling Lessor to the remedies provided for in this Lease and/or by said statute. (2) Continue the Lease and Lessee's right to possession in effect (in California under California Civil Code Section 1951.4) after Lessee's breach and abandonment and recover the rent as it becomes due, provided Lessee has the right to sublet or assign, subject only to reasonable limitations. See Paragraphs 12 and 36 for the limitations on assignment and subletting which limitations Lessee and Lessor agree are reasonable. Acts of maintenance or preservation, efforts to relet the Premises, or the appointment of a receiver to protect the Lessor's interest under the Lease, shall not constitute a termination of the Lessee's right to possession. (3) Pursue any other remedy now or hereafter available to Lessor under the laws or judicial decisions of the State of California. Unpaid installments of rent and other unpaid monetary obligations of Lessee under the terms of this Lease shall bear interest from the date due at the maximum rate allowed by law. (4) The expiration or termination of this Lease and/or the termination of Lessee's right to possession shall not relieve Lessee from liability under any indemnity provisions of this Lease as to matters occurring or accruing during the term hereof or by reason of Lessee's occupancy of the Premises. 13.3 Default by Lessor. Lessor shall not be in default unless Lessor fails to perform obligations required of Lessor within a reasonable time, but in no event later than thirty (30) days after written notice by Lessee to Lessor and to the holder of any first mortgage or deed of trust covering the Premises whose name and address shall have theretofore been furnished to Lessee in writing, specifying wherein Lessor has failed to perform such obligation; provided, however, that if the nature of Lessor's obligation is such that more than thirty (30) days are required for performance then Lessor shall not be in default if Lessor commences performance within such thirty (30) day period and thereafter diligently prosecutes the same to completion. 13.4 Late Charges. Lessee hereby acknowledges that late payment by Lessee to Lessor of Base Rent, Lessee's Share of Operating Expenses or other sums due hereunder will cause Lessor to incur costs not contemplated by this Lease, the exact amount of which will be extremely difficult to ascertain. Such costs include, but are not limited to, processing and accounting charges, and late charges which may be imposed on Lessor by the terms of any mortgage or trust deed covering the Property. Accordingly, if any installment of Base Rent, Operating Expenses or any other sum due from Lessee shall not be received by Lessor or Lessor's designee within ten (10) days after such amount shall be due, then, without any requirement for notice to Lessee, Lessee shall pay to Lessor a late charge equal to 3% of such overdue amount. The parties hereby agree that such late charge represents a fair and reasonable estimate of the costs Lessor will incur by reason of late payment by Lessee. Acceptance of such late charge by Lessor shall in no event constitute a waiver of Lessee's default with respect to such overdue amount, nor prevent Lessor from exercising any of the other rights and remedies granted hereunder. 1.1 13.5 Notice Before Lage Charges. Notwithstanding the provisions of Paragraph 13.4, the 3% late charge described in Paragraph 13.4 shall not be imposed with respect to the first late payment in any calendar year unless the applicable payment due from Lessee is not received by Lessor or Lessor's designee within ten (10) days following written notice from Lessor that such payment was not received when due. Following the first such written notice from Lessor in any calendar year (and regardless of whether such payment is then received within such 10-day period), a late charge will be imposed without notice (as set forth in Paragraph 13.4) for any subsequent payment due from Lessee during such calendar year which is not received within ten (10) days of its due date. 14. Condemnation. If the Premises or any portion thereof or the Industrial Center are taken under the power of eminent domain, or sold under the threat of the exercise of said power (all of which are herein called "condemnation"), this Lease shall terminate as to the part so taken as of the date the condemning authority takes title or possession, whichever first occurs. If more than ten percent of the floor area of the Premises, or more than twenty percent of that portion of the Common Area designated as parking for the Industrial Center is taken by condemnation, Lessee may, at Lessee's option, to be exercised in writing only within ten (10) days after Lessor shall have given Lessee written notice of such taking (or in the absence of such notice, within ten (10) days after the condemning authority shall have taken possession) terminate this Lease as of the date the condemning authority takes such possession. If Lessee does not terminate this Lease in accordance with the foregoing, this Lease shall remain in full force and effect as to the portion of the Premises remaining, except that the rent shall be reduced in the proportion that the floor area of the Premises taken bears to the total floor area of the Premises. No reduction of rent shall occur if the only area taken is that which does not have the Premises located thereon. Any award for the taking of all or any part of the Premises under the power of eminent domain or any payment made under threat of the exercise of such power shall be the property of Lessor, whether such award shall be made as compensation for diminution in value of the leasehold or for the taking of the fee, or as severance damages; provided, however, that Lessee shall be entitled to any award for loss of or damage to Lessee's trade fixtures and removable personal property. In the event that this Lease is not terminated by reason of such condemnation, Lessor shall to the extent of severance damages received by Lessor in connection with such condemnation, repair any damage to the Premises caused by such condemnation except to the extent that Lessee has been reimbursed therefor by the condemning authority. Lessee shall pay any amount in excess of such severance damages required to complete such repair. 15. Broker's Commissions Lessee and Lessor each represent and warrant to the other that neither has had any dealings with any person, firm, broker or finder (other than those persons, if any, whose names are set forth at the end of this paragraph 15) in connection with the negotiation of this Lease and/or the consummation of the transaction contemplated hereby, and no other broker or other person, firm or entity is entitled to any commission or finder's fee in connection with said transaction and Lessee and Lessor do each hereby indemnify and hold the other harmless from and against any costs, expenses, attorneys' fees or liability for compensation, commission or charges which may be claimed by any such unnamed broker, finder or other similar party by reason of any dealings or actions of the indemnifying party. Named brokers: Lessor's Broker: CB Commercial Real Estate Group, Inc. Lessee's Broker: Lee & Associates The commission payable to Lessor's Broker with respect to this Lease shall be pursuant to the terms of the separate commission agreement in effect between Lessor and Lessor's Broker. Lessor's Broker shall pay a portion of its commission to Lessee's Broker, if so provided in any agreement between Lessor's Broker and Lessee's Broker. Nothing in this Lease shall impose any obligation on Lessor to pay a commission or fee to any party other than Lessor's Broker. 16. Estoppel Certificate (1) Each party (as "responding party") shall at any time upon not less than ten (10) business days' prior written notice from the other party, ("requesting party") execute, acknowledge and deliver to the requesting party a statement in writing (i) certifying that this Lease is unmodified and in full force and effect (or, if modified, stating the nature of such modification and certifying that this Lease, as so modified, is in full force and effect) and the date to which the rent and other charges are paid in advance, if any, and (ii) acknowledging that there are not, to the responding party's knowledge, any uncured defaults on the part of the requesting party, or specifying such defaults if any are claimed. Any such statement may be conclusively relied upon by any prospective purchaser or encumbrancer of the Premises or of the business of the requesting party. (2) At the requesting party's option, the failure to deliver such statement within such time shall be a material default of this Lease by the party who is to respond, without any further notice to such party, or it shall be conclusive upon such party that (i) this Lease is in full force and effect, without modification except as may be represented by the requesting party, (ii) there are no uncured defaults in the requesting party's performance, and (iii) if Lessor is the requesting party, not more than one month's rent has been paid in advance. (3) If Lessor desires to finance, refinance, or sell the Property, or any part thereof, Lessee hereby agrees to deliver to any lender or purchaser designated by Lessor such financial statements of Lessee as may be reasonably required by such lender or purchaser. Such statements shall include the past three (3) years' financial statements of Lessee. All such financial statements shall be received by Lessor and such lender or purchaser in confidence and shall be used only for the purposes herein set forth. 17. Lessor's Liablity. The term "Lessor" as used herein shall mean only the owner or owners, at the time in question, of the fee title or a lessee's interest in a ground lease of the Industrial Center, in the event of any transfer of such title or interest. Lessor herein named (and in case of any subsequent transfers then the grantor) shall be relieved from and after the date of such transfer of all liability as respects Lessor's obligations thereafter to be performed, provided that any funds in the hands of Lessor or the then grantor at the time of such transfer, in which Lessee has an interest, shall be delivered to the grantee. The obligations contained in this Lease to be performed by Lessor shall, subject as aforesaid, be binding on Lessor's successors and assigns, only during their respective periods of ownership. 18. Severability. The invalidity of any provision of this Lease as determined by a court of competent jurisdiction, shall in no way affect the validity of any other provision hereof. 19. Interest on Past-due Obligations. Except as expressly herein provided, any amount due to Lessor not paid when due shall bear interest at the Interest Rate. Payment of such interest shall not excuse or cure any default by Lessee under this Lease; provided, however, that interest shall not be payable on late charges incurred by Lessee nor on any amounts upon which late charges are paid by Lessee. As used herein, the term "Interest Rate" means the lesser of (a) a floating annual interest rate equal to five percent (5%) over the prime rate (for corporate loans at large United States money center commercial banks) published in The Wall Street Journal on the first business day of each month, or (b) the maximum rate permitted by applicable law. In the event that The Wall Street Journal fails to publish such a prime rate, the "prime rate" shall be the prime rate or reference rate quoted by a national bank having offices in California selected by Lessor in its sole discretion. 1. 20. Time of Essence. Time is of the essence with respect to the obligations to be performed under this Lease. 21. Additional Rent. All monetary obligations of Lessee to Lessor under the terms of this Lease, including but not limited to Lessee's Share of Operating Expenses and insurance and tax expenses payable shall be deemed to be rent. 22. Incorporation of Prior Agreements; Amendments of Prior Agreements; Amendments. This Lease contains all agreements of the parties with respect to any matter mentioned herein. No prior or contemporaneous agreement or understanding pertaining to any such matter shall be effective. This Lease may be modified in writing only, signed by the parties in interest at the time of the modification. Except as otherwise stated in this Lease, Lessee hereby acknowledges that neither the real estate broker listed in paragraph 15 hereof nor any cooperating broker on this transaction nor the Lessor or any employee or agents of any of said persons has made any oral or written warranties or representations to Lessee relative to the condition or use by Lessee of the Premises or the Property and Lessee acknowledges that Lessee assumes all responsibility regarding the Occupational Safety Health Act, the legal use and adaptability of the Premises and the compliance thereof with all applicable laws and regulations in effect during the term of this Lease except as otherwise specifically stated in this Lease. 23. Notices. Any notice required or permitted to be given hereunder shall be in writing and may be given by personal delivery or by certified mail and if given personally or by mail, shall be deemed sufficiently given if addressed to Lessee or to Lessor at the address noted below the signature of the respective parties, as the case may be. Either party may by notice to the other specify a different address for notice purposes except that upon Lessee's taking possession of the Premises, the Premises shall constitute Lessee's address for notice purposes. A copy of all notices required or permitted to be given to Lessor hereunder shall be concurrently transmitted to such party or parties at such addresses as Lessor may from time to time hereafter designate by notice to Lessee. Any notice given pursuant to this Lease shall be personally delivered, delivered by Federal Express or comparable overnight courier, providing written evidence of delivery, or delivered by U.S. registered or certified mail, return receipt requested, postage prepaid and sent to Lessor and Lessee at the following addresses: LESSOR: Prudential Real Estate Investors 2029 Century Park East Suite 2050 Los Angeles, California 90067 Attn: Regional Counsel With a copy by the same method to: Cushman & Wakefield of California, Inc. 555 South Flower Street, Suite 4200 Los Angeles, California 90017-2413 Attn: Mark Harryman LESSEE: Big Dog Sportswear 121 Gray Avenue Santa Barbara, CA 93101 Attention: Real Estate Administrator or such other address as either party may from time to time designate as its notice address by notifying the other party thereof. Notice so sent shall be deemed given (a) when personally delivered, or (b) on the first business day following deposit with Federal Express or a comparable overnight courier service providing written evidence of delivery, or (c) five business days following deposit in the United States mail, if notice is sent by registered or certified mail, return receipt requested, postage prepaid. 24. Waivers. No waiver by any party of any provision hereof shall be deemed a waiver of any other provision hereof or of any subsequent breach by the other party of the same or any other provision. Lessor's consent to, or approval of, any act shall not be deemed to render unnecessary the obtaining of Lessor's consent to or approval of any subsequent act by Lessee. The acceptance of rent hereunder by Lessor shall not be a waiver of any preceding breach by Lessee of any provision hereof, other than the failure of Lessee to pay the particular rent so accepted, regardless of Lessor's knowledge of such preceding breach at the time of acceptance of such rent. 25. Recording. Lessee shall not record this Lease. 26. Holding Over. If Lessee, with Lessor's consent, remains in possession of the Premises or any part thereof after the expiration of the term hereof, such occupancy shall be a tenancy from month to month upon all of the provisions of this Lease pertaining to the obligations of Lessee, except that the monthly rent shall be 120% of the rent payable in the last month of the lease term but all Options, if any, granted under the terms of this Lease shall be deemed terminated and be of no further effect during said month to month tenancy. 27. Cummulative Remedies. No remedy or election hereunder shall be deemed exclusive but shall, wherever possible, be cumulative with all other remedies at law or in equity. 28. Covenants and Conditions. Each provision of this Lease performable by Lessee shall be deemed both a covenant and condition. 29. Binding Effect;Choice of Law. Subject to any provisions hereof restricting assignment or subletting by Lessee and subject to the provisions of paragraph 17, this Lease shall bind the parties, their personal representatives, successors and assigns. This Lease shall be governed by the laws of the State where the Industrial Center is located and any litigation concerning this Lease between the parties hereto shall be initiated in the county in which the Industrial Center is located. 30. Subordination (1) This Lease, and any Option granted hereby, at Lessor's option, shall be subordinate to any ground lease, mortgage, deed of trust, or any other hypothecation or security now or hereafter placed upon the Industrial Center and to any and all advances made on the security thereof and to all renewals, modifications, consolidations, replacements and extensions thereof. Notwithstanding such subordination, Lessee's right to quiet possession of the Premises shall not be disturbed if Lessee is not in default and so long as Lessee shall pay the rent and observe and perform all of the provisions of this Lease, unless this Lease is otherwise terminated pursuant to its terms. If any mortgagee, trustee or ground lessor shall elect to have this Lease and any Options granted hereby prior to the lien of its mortgage, deed of trust or ground lease, and shall give written notice thereof to Lessee, this Lease and such Options shall be deemed prior to such mortgage, deed of trust, or ground lease, whether this Lease or such Options are dated prior or subsequent to the date of said mortgage, deed of trust or ground lease or the date of recording thereof. (2) Lessee agrees to execute any documents required to effectuate an attornment, a subordination or to make this Lease or any Option granted herein prior to the lien of any mortgage, deed of trust or ground lease, as the case may be, provided that Lessee's failure to execute such documents within ten (10) business days after written demand shall constitute a material default by Lessee hereunder without further notice to Lessee or, at Lessor's option, Lessor shall execute such documents on behalf of Lessee as Lessee's attorney-in-fact. Lessee does hereby make, constitute and irrevocably appoint Lessor as Lessee's attorney-in-fact and in Lessee's name, place and stead, to execute such documents in accordance with this paragraph 30(b). 31. Attorneys Fees 31.1 If either party brings an action or proceeding to enforce the terms hereof or declare rights hereunder, the prevailing party in any such proceeding, action, or appeal thereon, shall be entitled to his reasonable attorney's fees and such fees as may be awarded in the same suit or recovered in a separate suit, whether or not such action or proceeding is pursued to decision or judgment. The term, "prevailing party" shall include, without limitation, a party who obtains legal counsel or brings an action against the other by reason of the other's breach or default, or who defends such action, and substantially obtains or defeats the relief sought, whether by compromise, settlement, judgment, or abandonment of the claim or defense by the other party. 31.2 The attorney's fee award shall not be computed in accordance with any court fee schedule, but shall be such as to fully reimburse all attorney's fees reasonably incurred in good faith. 31.3 Lessor shall be entitled to attorney's fees, costs and expenses incurred in the preparation and service of notices of default and consultations in connection therewith, whether or not a legal action is subsequently commenced in connection with such default. Lessor and Lessee agree that $150.00 is a reasonable sum per occurrence for legal services and costs per preparation and service of a notice of default and that Lessor may include $150.00 as additional rent due in each such notice of default as an amount that must be paid to cure said default. 32. Lessor's Access. Lessor and Lessor's agents shall have the right to enter the Premises at reasonable times for the purpose of inspecting same, showing the same to prospective purchasers, lenders, or lessees, and making such alterations, repairs, improvements or additions to the Premises or to the building of which they are part as Lessor may deem necessary or desirable. Lessor may at any time place on or about the Premises or the Building any ordinary "For Sale" signs and Lessor may at any time during the last 120 days of the term hereof place on or about the Premises any ordinary "For Lease" signs. All activities of Lessor pursuant to this paragraph shall be without abatement of rent, nor shall Lessor have any liability to Lessee for the same. 33. Auctions. Lessee shall not conduct, nor permit to be conducted, either voluntarily or involuntarily, any auction upon the Premises or the Common Areas without first having obtained Lessor's prior written consent. Notwithstanding anything to the contrary in this Lease, Lessor shall not be obligated to exercise any standard of reasonableness in determining whether to grant such consent. 34. Signs. Lessee shall not place any sign upon the Premises or the Industrial Center without Lessor's prior written consent. Under no circumstances shall Lessee place a sign on any roof of the Industrial Center. 35. Merger. The voluntary or other surrender of this Lease by Lessee, or a mutual cancellation thereof, or a termination by Lessor, shall not work a merger, and shall, at the option of Lessor, terminate all or any existing subtenancies or may, at the option of Lessor, operate as an assignment to Lessor of any or all of such subtenancies. 36. Consents. Except for paragraphs 33, 34, 46 and 47 hereof, wherever in this Lease the consent of one party is required to an act of the other party, such consent shall not be unreasonably withheld or delayed and wherever this Lease grants the other party the right to take action, exercise discretion, make a judgment or other determination, or request or require documents or other items, and the same is not expressly stated to be in the "sole discretion" (or words of similar meaning) of such party, such party shall act reasonably and in good faith. 37. Guarantor. In the event that there is a guarantor of this Lease, said guarantor shall have the same obligations as Lessee under this Lease. 38. Quiet Possession. Upon Lessee paying the rent for the Premises and observing and performing all of the covenants, conditions and provisions on Lessee's part to be observed and performed hereunder, Lessor covenants that Lessee shall have quiet possession of the Premises for the entire term hereof peacefully and quietly have, hold and enjoy without hindrance, ejection or molestation by any person lawfully claiming under Lessor, subject to all of the provisions of this Lease and all easements, covenants, conditions and restrictions of record. The individuals executing this Lease on behalf of Lessor represent and warrant to Lessee that they are fully authorized and legally capable of executing this Lease on behalf of Lessor and that such execution is binding upon all parties holding an ownership interest in the Property. 39. Options 39.1 Definition. As used in this paragraph, the word "Option" has the following meaning: (1) the right or option to extend the term of this Lease or to renew this Lease or to extend or renew any lease that Lessee has on other property of Lessor; (2) the option or right of first refusal to lease the Premises or the right of first offer to lease the Premises or the right of first refusal to lease other space within the Industrial Center or other property of Lessor or the right of first offer to lease other space within the Industrial Center or other property of Lessor; (3) the right or option to purchase the Premises or the Industrial Center, or the right of first refusal to purchase the Premises or the Industrial Center, or the right of first offer to purchase the Premises or the Industrial Center, or the right or option to purchase other property of Lessor, or the right of first refusal to purchase other property of Lessor or the right of first offer to purchaser other property of Lessor. 39.2 Options Personal. Each Option granted to Lessee in this Lease is personal to Lessee and may not be exercised or be assigned, voluntarily or involuntarily, by or to any person or entity other than Lessee, provided, however, the Option may be exercised by or assigned to any Lessee Affiliate as defined in Paragraph 12.2 of this Lease and any assignee of Lessee's entire interest in this Lease consented to by Lessor. The Options herein granted to Lessee are not assignable separate and apart from this Lease. 39.3 Multiple Options. In the event that Lessee has any multiple options to extend or renew this Lease a later option cannot be exercised unless the prior option to extend or renew this Lease has been so exercised. 39.4 Effect of Default on Options (1) Lessee shall have no right to exercise an Option, notwithstanding any provision in the grant of Option to the contrary, (i) during the time commencing from the date Lessor gives to Lessee a notice of default pursuant to Paragraphs 13.1(b) or 13.1(c) and continuing until the default alleged in said notice of default is cured, or (ii) during the period of time commencing on the day after a monetary obligation to Lessor is due from Lessee and unpaid (without any necessity for notice thereof to Lessee) continuing until the obligation is paid, or (iii) at any time after an event of default described in Paragraphs 13.1(a), 13.1(d), 13.1(e) or 13.1(f) (without any necessity of Lessor to give notice of such default to Lessee), or (iv) in the event that Lessor has given to Lessee three or more notices of default under Paragraph 13.1(b), where a late charge has become payable under Paragraph 13.4 for each of such defaults, or Paragraph 13.1(c), whether or not the defaults are cured, during the 12 month period prior to the time that Lessee intends to exercise the subject Option. (2) The period of time within which an Option may be exercised shall not be extended or enlarged by reason of Lessee's inability to exercise an Option because of the provisions of Paragraph 39.4(a). (3) All rights of Lessee under the provisions of an Option shall terminate and be of no further force or effect, notwithstanding Lessee's due and timely exercise of the Option, if, after such exercise and during the term of this Lease, (i) Lessee fails to pay to Lessor a monetary obligation of Lessee for a period of 30 days after such obligation becomes due (without any necessity of Lessor to give notice thereof to Lessee), or (ii) Lessee fails to commence to cure a default specified in Paragraph 13.1(c) within 30 days after the date that Lessor gives notice to Lessee of such default and/or Lessee fails thereafter to diligently prosecute said cure to completion, or (iii) Lessee commits a default described in Paragraphs 13.1(a), 13.1(d), 13.1(e) or 13.1(f) (without any necessity of Lessor to give notice of such default to Lessee). 39.5 Option. Lessor hereby grants to Lessee the option to extend the term of this Lease for a five (5) year period commencing on the date the prior term expires (the "Option Period") upon each and all of the following terms and conditions: (1) Lessee gives to Lessor, and Lessor actually receives, on a date which is prior to the date that the Option Period would commence (if exercised) by at least six (6) and not more than nine (9) months, a written notice of exercise of the option to extend this Lease for said additional term, time being of the essence. If said notification of the exercise of said option is not so given and received, this option shall automatically expire; (2) The provisions of Paragraph 39, including the provision relating to default of Lessee set forth in Paragraph 39.4, of this Lease are conditions of this option; (3) All of the terms and conditions of this Lease except where specifically modified by this option shall apply, except that Lessee shall have no further option to extend the term of this Lease; (4) Any prior Lessee that has not been expressly released from liability under this Lease, and any guarantor of the Lessee's performance hereunder, expressly reaffirms in writing the extension of their liability for the term of the option; and (5) Subject to adjustment as provided in Paragraph 39.7, the monthly Base Rent for each month of the Option Period shall be the Fair Market Rent (as defined below) of the Premises as of the commencement of the Option Period, but in no event less than the monthly Base Rent scheduled to be paid during the month prior to the commencement of the Option Period. 39.6 Fair Market Rent (1) The term "Fair Market Rent" as used in this Lease is defined to mean the rent, including all escalations, at which tenants are leasing non-sublease, non-encumbered, non-equity space comparable in size and quality to the Premises for the Option Period as to which Fair Market Rent is being determined in the Mid Cities Area, giving appropriate consideration to the annual rental rates per square foot and the standard of measurement by which the square footage is measured. In determining Fair Market Rent it shall be assumed that: (1) The Premises are in good condition and repair and there shall be no deduction for depreciation, obsolescence or deferred maintenance except that attributable to Lessor's failure to meet its maintenance obligations under this Lease (but less reasonable wear and tear as long as well maintained by Lessee). (2) The Premises would be leased for the period of the option being exercised by a tenant with the credit standing of Lessee, as the same exists at that time. (3) The Premises would be leased on the same terms of this Lease insofar as the obligations for repair, maintenance, insurance and real estate taxes existed as of the expiration of the original term of this Lease. (4) No deduction shall be given nor consideration given to allowances for free rent. (5) The Premises will be used for its highest and best use. (6) The rent escalation in Paragraph 39.7 will be applicable. (2) Determination By Lessor. Lessor shall initially determine the Fair Market Rent in each instance, and shall give Lessee notice (the "Market Rent Notice") of such determination and the basis on which such determination was made on or before the 60th day prior to the date on which such determination is to take effect, or as soon thereafter as is reasonably practicable. (3) Disputes re Fair Market Rent. In the event that Lessee notifies Lessor in writing, on or before the 20th business day following any Market Rent Notice, that Lessee disagrees with the applicable determination, Lessor and Lessee shall negotiate in good faith to resolve such dispute within 10 business days thereafter (The 30th business day after any Market Rent Notice is referred to herein as the "Outside Agreement Date.") If not resolved by the Outside Agreement Date each party shall submit to the other its determination of Fair Market Rent and the dispute shall be submitted to arbitration in accordance with the following paragraph titled "Arbitration Procedures." Until any such dispute is resolved, any applicable payments due under this Lease shall correspond to Lessor's determination and, if Lessee's determination becomes the final determination, Lessor shall refund any overpayments to Lessee, within 5 business days following the final resolution of the dispute. (4) Arbitration Procedures. (1)Lessor and Lessee shall each appoint one arbitrator who shall by profession be a real estate broker who shall have been active over the 5-year period ending on the date of such appointment in the leasing of properties similar to the Premises in the surrounding area of Los Angeles County. The determination of the arbitrators shall be limited solely to the issue of whether Lessor's or Lessee's submitted Fair Market Rent for the Premises is the closest to the actual Fair Market Rent for the Premises as determined by the arbitrators, taking into account the requirements of this subparagraph regarding the same. Each such arbitrator shall be appointed within 15 days after the Outside Agreement Date. Lessor and Lessee may not consult with either such arbitrator prior to resolution. (2) The two arbitrators so appointed shall within 15 days of the date of the appointment of the last appointed arbitrator, meet and attempt to reach a decision as to whether the parties shall use Lessor's or Lessee's submitted Fair Market Rent, and shall notify Lessor and Lessee of their decision, if any. (3) If the two arbitrators are unable to reach a decision, the two arbitrators shall, within 30 days of the date of the appointment of the last appointed arbitrator, agree upon and appoint a 3rd arbitrator who shall be a broker who shall be qualified under the same criteria set forth hereinabove for qualification of the initial 2 arbitrators. (4) The 3 arbitrators shall, within 30 days of the appointment of the 3rd arbitrator, reach a decision as to whether the parties shall use Lessor's or Lessee's submitted Fair Market Rent, and shall notify Lessor and Lessee thereof. (5) The decision of the majority of the 3 arbitrators shall be binding upon Lessor and Lessee. (6) If either Lessor or Lessee fails to appoint an arbitrator within 15 days after the Outside Agreement Date, the arbitrator appointed by one of them shall reach a decision, notify Lessor and Lessee thereof, and such arbitrator's decision shall be binding upon Lessor and Lessee. (7) If the 2 arbitrators fail to agree upon and to appoint a 3rd arbitrator, then the appointment of the 3rd arbitrator shall be dismissed, and the matter to be decided shall be forthwith submitted to arbitration under the provisions of the American Arbitration Association, but subject to the instructions set forth in this Lease. (8) The cost of arbitration shall be paid by Lessor and Lessee equally. 39.7 Rent Escalations - Option Term (1) Upon the commencement of the 31st month of the Option Period, the monthly Base Rent payable under Paragraph 4 of the Lease as modified by Paragraph 39, shall be adjusted by the increase, if any, from the date the Option Period commenced, in the C.P.I. (2) The monthly base rent payable in accordance with Paragraph 39.7(a), above shall be calculated as follows: The Base Rent payable as set forth in Paragraph 4 of the Lease as modified by Paragraph 39, shall be multiplied by a fraction the numerator of which shall be the C.P.I. of the calendar month during which the adjustment is to take effect, and the denominator of which shall be the C.P.I. for the calendar month in which the Option Period commences. The sum so calculated shall constitute the new monthly Base Rent hereunder, subject to Paragraph 39.7(e) below. (3) Pending receipt of the required C.P.I. and determination of the actual adjustment, Lessee shall pay an estimated adjusted rental, as reasonably determined by Lessor by reference to the then available C.P.I. information. Upon notification of the actual adjustment after publication of the required C.P.I., any overpayment shall be credited against the next installment of rent due, and any underpayment shall be immediately due and payable by Lessee. Lessor's failure to request payment of an estimated or actual rent adjustment shall not constitute a waiver of the right to any adjustment provided for in the Lease or this Paragraph 39.7. (4) In the event the compilation and/or publication of the C.P.I. shall be transferred to any other governmental department or bureau or agency or shall be discontinued, then the index most nearly the same as the C.P.I. shall be used to make such calculation. In the event that Lessor and Lessee cannot agree on such alternative index, then the matter shall be submitted for decision to the American Arbitration Association in accordance with the then rules of said association and the decision of the Arbitrators shall be binding upon the parties. The cost of said Arbitrators shall be paid equally by Lessor and Lessee. (5) The adjustment(s) required by this Paragraph 39.7 shall be subject to the following additional agreements: (1) The increase under Paragraph 39.7(b), above, shall be subject to the following minimum and maximum percentage increases per year involved in the adjustment period, on a cumulative and compounded basis: Minimum yearly percentage increase:3% Maximum yearly percentage increase:5% The "adjustment period" is defined as the period commencing with the month designated in Paragraph 39.7(b), above, as the reference for determining the "denominator", and ending with the month preceding the month designated therein as the reference for determining the "numerator". Should the adjustment period include a partial year, the minimum and maximum percentages shall be prorated for that partial year by multiplying them by a fraction, the numerator of which shall be the number of full calendar months or major portion thereof contained in said partial year, and the denominator of which is twelve (12). (2) The new monthly Base Rent shall in no event be less than the rent scheduled to be paid immediately preceding the rent adjustment. 40. Security Measures. Lessee hereby acknowledges that Lessor shall have no obligation whatsoever to provide guard service or other security measures for the benefit of the Premises or the Industrial Center. Lessee assumes all responsibility for the protection of Lessee, its agents and invitees and the property of Lessee and of Lessee's agents and invitees from acts of third parties. Nothing herein contained shall prevent Lessor at Lessor's sole option, from providing security protection for the Industrial Center or any part thereof, in which event the cost thereof shall be included within the definition of Operating Expenses, as set forth in paragraph 4.2(b). 41. Easements. Lessor reserves to itself the right, from time to time, to grant such easements, rights and dedications that Lessor deems necessary or desirable, and to cause the recordation of Parcel Maps and restrictions, so long as such easements, rights, dedications, Maps and restrictions do not unreasonably interfere with the use of the Premises by Lessee. Lessee shall sign any of the aforementioned documents upon request of Lessor and failure to do so shall constitute a material default of this Lease by Lessee without the need for further notice to Lessee. 42. Performance Under Protest. If at any time a dispute shall arise as to any amount or sum of money to be paid by one party to the other under the provisions hereof, the party against whom the obligation to pay the money is asserted shall have the right to make payment "under protest" and such payment shall not be regarded as a voluntary payment, and there shall survive the right on the part of said party to institute suit for recovery of such sum. If it shall be adjudged that there was no legal obligation on the part of said party to pay such sum or any part thereof, said party shall be entitled to recover such sum or so much thereof as it was not legally required to pay under the provisions of this Lease. 43. Authority. If Lessee is a corporation, trust, or general or limited partnership, each individual executing this Lease on behalf of such entity represents and warrants that he or she is duly authorized to execute and deliver this Lease on behalf of said entity. If Lessee is a corporation, trust or partnership, Lessee shall, within thirty (30) days after execution of this Lease, deliver to Lessor evidence of such authority satisfactory to Lessor. 44. Intentionally Omitted 45. Amendments to Lease 45.1 At such times as a rental adjustment is made to this Lease by virtue of any provision of this Lease, the parties shall execute a written amendment to this Lease to reflect said change. 45.2 Lessee agrees to make any non-monetary modifications to this Lease that may be required by an institutional mortgagee of Lessor. 46. Storage Tanks 46.1 Notwithstanding anything to the contrary in Paragraph 7.3 hereof, Lessee shall not install storage tanks of any size or shape in the Premises, above or below ground, without the consent of the Lessor which can be withheld in Lessor's sole discretion. If Lessor elects to grant its consent, Lessor shall have the right to condition its consent upon Lessee agreeing to give to Lessor such assurances that Lessor, in its sole discretion, deems necessary to protect itself against potential problems concerning the installation, use, removal and contamination of the Premises as a result of the installation and/or use of such tank, including but not limited to the installation of a concrete encasement for said tank. Lessee shall comply at its expense with all applicable permit and/or registration requirements and repair any damage caused by the installation, maintenance or removal of such tank. Upon termination of the Lease, Lessee shall, at its sole cost and expense, remove any tank from the Premises, remove and replace any contaminated soil or materials (and compact or treat the same as then required by law) and repair any damage or change to the Premises caused by said installation and/or removal. Nothing contained herein shall be construed to diminish or reduce Lessee's obligations under Paragraph 47. 46.2 Lessor shall have the right to employ experts and/or consultants, at Lessee's expense, to advise Lessor with respect to the installation, operation, monitoring, maintenance and removal and restoration of any such tank. 47. Hazardous Materials 47.1 Lessee's Covenants Regarding Hazardous Materials (1) Lessor's Prior Consent. Notwithstanding anything contained in this Lease to the contrary, Lessee has not caused or permitted, and shall not cause or permit any "Hazardous Materials" (as defined in subparagraph (b) below) to be brought upon, kept, stored, discharged, released or used in, under or about the Premises by Lessee, its agents, employees, contractors, subcontractors, licensees or invitees, unless (1) such Hazardous Materials are reasonably necessary to Lessee's business and will be handled, used, kept, stored and disposed of in a manner which complies with all "Hazardous Materials Laws" (as defined in subparagraph (b) below); (2) Lessee will comply with such other rules or requirements as Lessor may from time to time impose, including without limitation that (i) such materials are in small quantities, properly labeled and contained, (ii) such materials are handled and disposed of in accordance with the highest accepted industry standards for safety, storage, use and disposal, (iii) such materials are for use in the ordinary course of business (i.e., as with office or cleaning supplies), (3) notice of and a copy of the current material safety data sheet is provided to Lessor for each such Hazardous Material, and (4) Lessor shall have granted its prior written consent to the use of such Hazardous Materials. (2) Compliance with Hazardous Materials Laws. As used herein, the term "Hazardous Materials" means any (1) oil, petroleum, petroleum products, flammable substances, explosives, radioactive materials, hazardous wastes or substances, toxic wastes or substances or any other wastes, materials or pollutants which (i) pose a hazard to the Premises or to persons on or about the Premises or (ii) cause the Premises to be in violation of any Hazardous Materials Laws (as hereinafter defined); (2) asbestos in any form, urea formaldehyde foam insulation, transformers or other equipment which contain dielectric fluid containing levels of polychlorinated biphenyls, or radon gas; (3) chemical, material or substance defined as or included in the definition of "hazardous substances," "hazardous wastes," "hazardous materials," "extremely hazardous waste," "restricted hazardous waste," or "toxic substances" or words of similar import under any applicable local, state or federal law or under the regulations adopted or publications promulgated pursuant thereto, including, but not limited to, the Comprehensive Environmental Response, Compensation and Liability Act of 1980, as amended, 42 U.S.C. ss. 9601, et seq.; the Resources Conservation Recovery Act, 42 U.S.C. ss. 6901, et seq.; the Hazardous Materials Transportation Act, as amended, 49 U.S.C. ss. 1801, et seq.; the Federal Water Pollution Control Act, as amended, 33 U.S.C. ss. 1251, et seq.; Sections 25115, 25117, 25122.7, 25140, 25249.8, 25281, 25316 and 25501 of the California Health and Safety Code; and Title 22 of the California Code of Regulations, Division 4.5, Chapter 11; (4) other chemical, material or substance, exposure to which is prohibited, limited or regulated by any governmental authority or may or could pose a hazard to the health and safety of the occupants of the Premises or the owners and/or occupants of property adjacent to or surrounding the Premises, or any other Person coming upon the Premises or adjacent property; and (5) other chemical, materials or substance which may or could pose a hazard to the environment. As used here the term "Hazardous Materials Laws" means any federal, state or local laws, ordinances, regulations or policies relating to the environment, health and safety, and Hazardous Materials (including, without limitation, the use, handling, transportation, production, disposal, discharge or storage thereof) or to industrial hygiene or the environmental conditions on, under or about the Premises, including, without limitation, soil, groundwater and indoor and ambient air conditions. Lessee shall at all times and in all respects comply with all Hazardous Materials Laws. (3) Hazardous Materials Removal. Upon expiration or earlier termination of this Lease, Lessee shall, at Lessee's sole cost and expense, cause all Hazardous Materials brought on the Premises with Lessor's consent to be removed from the Premises in compliance with all applicable Hazardous Materials Laws. If Lessee or its employees, agents, or contractors violates the provisions of the foregoing two paragraphs, or if Lessee's acts, negligence, or business operations contaminate, or expand the scope of contamination of, the Leased Premises from such Hazardous Materials, then Lessee shall promptly, at Lessee's expense, take all investigatory and/or remedial action (collectively, the "Remediation") that is necessary in order to clean up, remove and dispose of such Hazardous Materials causing the violation on the Leased Premises or the underlying groundwater or the properties adjacent to the Leased Premises to the extent such contamination was caused by Lessee, in compliance with all applicable Hazardous Materials Laws. Lessee shall further repair any damage to the Leased Premises caused by the Hazardous Materials contamination. Lessee shall provide prior written notice to Lessor of such Remediation, and Lessee shall commence such Remediation no later than thirty (30) days after such notice to Lessor and diligently and continuously complete such Remediation. Such written notice shall also include Lessee's method, time and procedure for such Remediation and Lessor shall have the right to require reasonable changes in such method, time or procedure of the Remediation. Lessee shall not take any Remediation in response to the presence of any Hazardous Materials in or about the Premises or enter into any settlement agreement, consent decree or other compromise in respect to any claims relating to any Hazardous Materials in any way connected with the Premises, without first notifying Lessor of Lessee's intention to do so and affording Lessor ample opportunity to appear, intervene or otherwise appropriately assert and protect Lessor's interests with respect thereto. (4) Notices. Lessee shall immediately notify Lessor in writing of: (i) any enforcement, cleanup, removal or other governmental or regulatory action threatened, instituted, or completed pursuant to any Hazardous Materials Laws with respect to the Premises; (ii) any claim, demand, or complaint made or threatened by any person against Lessee or the Premises relating to damage, contribution, cost recovery compensation, loss or injury resulting from any Hazardous Materials; and (iii) any reports made to any governmental authority arising out of any Hazardous Materials on or removed from the Premises. Lessor shall have the right (but not the obligation) to join and participate, as a party, in any legal proceedings or actions affecting the Premises initiated in connection with any Hazardous Materials Laws. 47.2 Indemnification of Lessor. Lessee shall indemnify, protect, defend and forever hold Lessor harmless from any and all damages, losses, expenses, liabilities, obligations and costs arising out of any failure of Lessee to observe any of the covenants contained in paragraphs 46 and 47. 47.3 Preexisting Conditions. Notwithstanding anything to the contrary in this Lease, Lessee shall not be liable to Lessor under this Lease for any cost associated with Hazardous Materials, if any, to the extent that the Hazardous Materials existed on the Premises prior to the date of this Lease and were not brought on to the Premises by Lessee, its agents, employees, contractors, subcontractors, licensees or invitees (the "Preexisting Conditions"). Without limiting any other provision of this Lease, Lessee shall provide Lessor with the original of any notices or other documents received by Lessee in connection with the Preexisting Conditions. 47.4 Studies. Lessee acknowledges receipt of a copy of that certain Soil and Ground Water Investigation, Former Best Foods Facility, Santa Fe Springs, California dated June 10, 1996 prepared by Harding Lawson Associates, and that certain Environmental Site Assessment, Mid Counties Business Park, 15700 and 15614 Shoemaker Avenue, Santa Fe Springs, California dated June 11, 1996, prepared by Harding Lawson Associates (collectively, "Hazardous Substance Reports"). Lessor, except as provided in the following sentence of this paragraph, makes no representations or warranties whatsoever to Lessee regarding: (i) the Hazardous Substance Reports (including, without limitation, the contents and/or accuracy thereof) or (ii) the presence or absence of toxic or Hazardous Materials in, at, or under the Premises, the Building or the Industrial Center. Lessor does acknowledge to Lessee that: (i) Lessor has not authorized any other studies for hazardous or toxic materials at the Premises or Building other than the Hazardous Substance Reports; and (ii) Lessor does not know of any surveys for toxic or Hazardous Materials at the Premises or the Building other than the Hazardous Substance Reports. Notwithstanding the preceding sentence, Lessee: (a) shall not rely on and Lessee hereby represents to Lessor that it has not relied on the Hazardous Substance Reports; and (b) shall make such studies and investigations, conduct such tests and surveys, and engage such specialists as Lessee deems appropriate to fairly evaluate the Premises and any risks from hazardous or toxic materials. In connection with any inspections or tests to be conducted by Lessee at the Premises or Building, Lessee shall first notify Lessor of each proposed inspection or test and the scope, impact, and intent thereof and obtain Lessor's written consent to perform the same. Lessee shall restore the Premises and the property on which the leased premises are located to the condition existing immediately prior to any such test and/or inspection and will provide Lessor with true and complete copies of any survey or report obtained by or for the benefit of Lessee in connection with hazardous or toxic materials that concern the Building, the Industrial Center or the Premises. 48. Lessor's Default Any damages or judgments arising out of Lessor's default of its obligations under this Lease shall be satisfied only out of Lessor's interest and estate in the Industrial Center, and Lessor shall have no personal liability beyond such interest and estate with respect to such damages or judgments. 49. Offer. Preparation of this Lease by Lessor or Lessor's agent and submission of same to Lessee shall not be deemed an offer to lease. This Lease shall become binding upon Lessor and Lessee only when fully executed by Lessor and Lessee. 50. Lessor Improvements. Lessor shall construct on the Premises at Lessor's cost the following improvements ("Lessor's Work") prior to November 26, 1997: 50.1 A demising wall between the Premises and the adjacent leasable area in the Building. 51. Lessee Improvement Allowance. Lessor shall provide to Lessee a building allowance (the "Lessee Improvement Allowance"), not to exceed $183,867.30, to be disbursed to Lessee in reimbursement of costs reasonably incurred by Lessee in the design and construction of improvements in the Premises in accordance with plans and specifications reasonably approved by Lessor (the "Approved Plans"). Provided that such improvements shall have been completed substantially in accordance with the Approved Plans, as reasonably determined by Lessor, Lessor shall disburse the Lessee Improvement Allowance to Lessee one time only, 30 days following the date on which Lessee commences its ordinary business operations in the Premises, upon receipt by Lessor of invoices and other evidence in form and substance reasonably satisfactory to Lessor in support of the performance of the work and the payment therefor by Lessee, together with appropriate lien releases. Lessor shall have no obligation to make any disbursement of the Lessee Improvement Allowance after December 31, 1998. 52. Signage Right. Lessee shall have the right, at its sole cost and expense, to install a sign on the exterior of the Building and on 2 shared monument signs as shown on the attached Signage Exhibit identifying its name and logo. The graphics, materials, color, design, lettering, size, location and specifications of Lessee's signage shall be subject to the prior written approval of Lessor, which approval shall not be unreasonably withheld or delayed, and the approval of the City of Santa Fe Springs. The signs shall be installed and maintained, at Lessee's sole cost and expenses, pursuant to an installation and maintenance program approved and supervised by Lessor. At the expiration or earlier termination of this Lease, Lessor shall, at Lessee's sole cost and expense, cause the sign to be removed and the exterior of the Building and Common Area affected by the signs to be restored to the condition existing prior to the installation of the signs Lessor may disapprove any signage that contains a name which relates to an entity or individual which is of a character or reputation, or is associated with a political orientation or faction, which is materially inconsistent with the quality of the Industrial Center, or which would otherwise reasonably offend the landlord of a comparable building or that would conflict with any covenants in leases of space in the Industrial Center. This signage right is personal to Big Dog U.S.A. LESSOR AND LESSEE HAVE CAREFULLY READ AND REVIEWED THIS LEASE AND EACH TERM AND PROVISION CONTAINED HEREIN AND, BY EXECUTION OF THIS LEASE, SHOW THEIR INFORMED AND VOLUNTARY CONSENT THERETO. THE PARTIES HEREBY AGREE THAT, AT THE TIME THIS LEASE IS EXECUTED, THE TERMS OF THIS LEASE ARE COMMERCIALLY REASONABLE AND EFFECTUATE THE INTENT AND PURPOSE OF LESSOR AND LESSEE WITH RESPECT TO THE PREMISES. "LESSOR" "LESSEE" THE PRUDENTIAL INSURANCE COMPANY OF AMERICA BIG DOG U.S.A., INC. a California corporation By Cushman & Wakefield of California, Inc. Its Managing Agent By /s/ANTHONY WALL Executive Vice President By _______________________ ______________________ By __________________________ Printed Name and Title __________________________ Printed Name and Title By _______________________ --------------------- Printed Name and Title Executed on__________________ Executed on__________________ LEASE GUARANTY This Lease Guaranty ("Guaranty"), dated as of November 4, 1997, is executed by BIG DOG HOLDINGS, INC., a Delaware corporation ("Guarantor") in favor of THE PRUDENTIAL INSURANCE COMPANY OF AMERICA, a New Jersey corporation ("Landlord"), in conjunction with, and to induce Landlord to enter into, that certain Lease of even date herewith (the "Lease") between Landlord and BIG DOG U.S.A., a California corporation ("Tenant"), pursuant to which Landlord is leasing to Tenant certain real property (the "Premises") more particularly described in the Lease. Capitalized terms used and not otherwise defined in this Guaranty shall have the meanings set forth for them in the Lease. In consideration of the foregoing, and for other valuable consideration, the receipt and sufficiency of which are hereby acknowledged, Guarantor hereby agrees as follows: 1. Guaranty of Tenant's Obligations. Guarantor hereby unconditionally and irrevocably guarantees to Landlord (a) the prompt payment by Tenant of all Base Rent, additional rent and other amounts from time to time owing to Landlord under the Lease, and (b) the prompt and diligent performance and observance of all other obligations and provisions of the Lease by Tenant. The payment of all such amounts and the performance and observance of all such other obligations and provisions shall be collectively referred to herein as the "Tenant Obligations." This Guaranty will apply to the Lease, any extension or renewal of the Lease, and any holdover term following the term of the Lease, or any such extension or renewal. 2. Modification of Lease; Assignment and Subletting. Guarantor agrees that the Lease may be supplemented, amended and/or otherwise modified from time to time without Guarantor's consent, in which event this Guaranty shall continue to apply to the Lease as so modified. In addition, no assignment or subletting of all or any portion of Tenant's interests in the Lease shall impair or affect the continuing force of this Guaranty. Notwithstanding the foregoing, in the event that, following any assignment of Tenant's interests in the Lease (in accordance with the Lease) to a person or entity not affiliated with Tenant, Landlord and such assignee modify the Lease in such a way as to increase any Tenant Obligation, Guarantor shall not, unless Guarantor then otherwise consents in writing, be liable for the incremental portion of such Tenant Obligation corresponding to such increase. 3. Guarantor Waivers. Guarantor hereby waives, to the fullest extent allowed by law, all suretyship rights, defenses and other benefits to which it might otherwise be entitled. Without limiting the generality of the foregoing: (a) Landlord shall be entitled to proceed against Guarantor with respect to any unfulfilled Tenant Obligation regardless of whether Landlord has proceeded, is then proceeding, or intends to proceed, against Tenant or any other person with respect thereto, and Guarantor expressly waives the benefits of Section 2845 of the Civil Code of California; (b) Landlord shall not be required to furnish Guarantor with copies of any notices given or required to be given to Tenant under the Lease, including without limitation notices of default, except as provided in the Lease; (c) Guarantor's liability for the Tenant Obligations shall not be affected, released, terminated, discharged or impaired by (i) the existence of any bankruptcy, insolvency, reorganization or similar proceeding with respect to Tenant or any other person, (ii) any exercise, non-exercise or delay or lack of diligence in the exercise of remedies by Landlord against Tenant or any other person (except to the extent that the same has resulted in the fulfillment of the applicable Tenant Obligation), (iii) any assignment or other transfer (voluntary or involuntary) of Tenant's interests in the Lease, (iv) the rejection of the Lease in any bankruptcy proceeding with respect to Tenant, or any other release or discharge of Tenant in any bankruptcy, insolvency, reorganization or similar proceeding; (v) any amendment of the Lease; (vi) any change in the time, manner or place of payment, performance or observance of any of the Tenant Obligations; (vii) any waiver of, or any assertion or enforcement or failure or refusal to assert or enforce, or any consent or indulgence granted by Landlord with respect to a departure from, any term of the Lease, including without limitation the waiver of any default by Tenant, or the making of any other arrangement with, or the accepting of any compensation or settlement from, Tenant; provided that to the extent that Lessor provides Lessee with a written waiver of, or written agreement with respect to a consent or indulgence with respect to a departure from, any term of the Lease, the Tenant Obligations for which Guarantor is liable under the Guaranty shall be deemed modified to reflect the terms of such written waiver or agreement; (viii) any other guaranty now or hereafter executed by Guarantor or any other guarantor or the release of any other guarantor from liability for the payment, performance or observance of any of the Tenant Obligations, whether by operation of law or otherwise; or (ix) any defect in or invalidity of the Lease caused by Tenant; and (d) Guarantor hereby expressly waives (i) notice of acceptance of this Guaranty and of any change in the financial condition of Tenant, (ii) presentment, demand and protest, (iii) until such time as all defaulted Tenant Obligations are fulfilled, all right of subrogation with respect to any obligation of Tenant that is fulfilled by Guarantor hereunder, (iv) the right to trial by jury in any action or proceeding arising out of or with respect to this Guaranty or the interpretation, breach or enforcement hereof, (v) the right to interpose any setoff or counterclaim in any action or proceeding arising out of or with respect to this Guaranty, and (vi) any right or claim of right to cause a marshalling of the assets of Tenant or to cause Landlord to apply to any Tenant Obligation any security deposit or to proceed against Tenant or any collateral or security held by Landlord at any time or in any particular order. The liability of Guarantor hereunder shall be reinstated and revived, and the rights of Landlord under this Guaranty shall continue, with respect to any amount at any time paid on account of any Tenant Obligation which shall thereafter be required to be restored or returned by Landlord upon the bankruptcy, insolvency or reorganization of Tenant or any other person, or otherwise, as though such amount had not been paid. Guarantor subordinates any liability or indebtedness of Tenant held by Guarantor to the Tenant Obligations. 4. Jurisdiction. All disputes with respect to this Guaranty, and all actions to enforce this Guaranty, may be adjudicated in the state courts of California or the federal court sitting in California; and Guarantor hereby irrevocably submits to the jurisdiction of such courts in any action relating to this Guaranty. To the fullest extent permitted by law, this submission to California jurisdiction shall be self-operative and no further instrument or action, other than service of process, shall be required to confer jurisdiction over Guarantor in any such court. Nothing in this paragraph shall be construed to limit the right of Landlord to serve process in any manner permitted by law, or to institute any action against Guarantor in the courts of other appropriate jurisdictions. 5. Notices All notices and other communications provided for in this Guaranty shall be in writing and be delivered to the appropriate party at its address as follows: If to Guarantor: Big Dog Holdings 121 Gray Avenue Santa Barbara, CA 93101 Attention: Anthony Wall - ------------------------------------------------------------------------------- 2 - ------------------------------------------------------------------------------- If to Landlord: The Prudential Realty Group 2029 Century Park East Suite 2050 Los Angeles, California 90067 Attention: Regional Counsel With a copy by the same method to: Cushman & Wakefield of California, Inc. 555 South Flower Street, Suite 4200 Los Angeles, California 90017-2413 Attention: Mark Harryman Addresses for notice may be changed from time to time by written notice to all other parties. All communications shall be effective when actually received; provided, however, that nonreceipt of any communication as the result of a change of address of which the sending party was not notified or as the result of a refusal to accept delivery shall be deemed receipt of such communication. 6. Attorneys' Fees. In the event that any litigation is commenced with respect to this Guaranty, the party prevailing in such litigation shall be entitled to recover, in addition to such other relief as may be granted, its reasonable costs and expenses, including without limitation reasonable attorneys' fees and court costs, whether or not taxable, as awarded by a court of competent jurisdiction. 7. Representations and Warranties. Guarantor represents and warrants to Landlord that: (a) the execution, delivery and performance of this Guaranty by Guarantor will not violate any provision of any law, regulation, order or decree of any governmental authority or of any court binding on Guarantor, or conflict with, result in a breach of or constitute a default under any provision of any instrument to which Guarantor is a party or which it or any of its property is bound, and will not result in the imposition or creation of any lien, charge or encumbrance on, or security interest in, any of its property pursuant to the provisions of any of the foregoing; and (b) this Guaranty has been duly executed and delivered by Guarantor and constitutes a legal, valid and binding obligation of Guarantor, enforceable against it in accordance with its terms, subject as to enforcement of rights and remedies to any applicable bankruptcy, reorganization, moratorium or other laws affecting the enforcement of creditors' rights generally and doctrines of equity affecting the availability of specific enforcement or other equitable remedies. 8. Estoppel Certificate. Landlord, by its acceptance of this Guaranty, and Guarantor agree that (a) each will, from time to time, within 10 days following request by the other (the "Requesting Party"), execute and deliver to the Requesting Party a statement certifying that this Guaranty is unmodified and in full force and effect (or if modified, that it is in full force and effect as modified and stating such modifications), and (b) such certificates may be relied upon by anyone holding or proposing to acquire from or through Landlord or Guarantor any interest in the premises of which the Premises are a part or by any mortgagee or prospective mortgagee of such premises or any interest therein or by any prospective assignee or subtenant of Tenant. 9. Miscellaneous. This Guaranty shall (a) remain in full force and effect until the payment, performance or observance in full of the Tenant Obligations and all other amounts payable under this Guaranty, (b) be binding upon Guarantor, its heirs, legal representatives, successors and assigns, and (c) inure to the benefit of and be enforceable by Landlord and its successors and assigns or by any person to whom Landlord's interest in the Lease or any part thereof, including the rents, may be assigned, whether by way of mortgage or otherwise. Wherever in this Guaranty reference is made to Landlord or Tenant, the same shall be deemed to refer also to the then heir, legal representative, successor or assign of Landlord or Tenant, respectively. No provision of this Guaranty that is held to be inoperative, unenforceable or otherwise invalid shall affect the remaining provisions, and to this end all provisions hereof shall be severable. In the event that more than one person or entity executes this Guaranty as Guarantor, the obligations of each shall be joint and several. Time is of the essence of this Guaranty. This Guaranty shall be governed by the laws of the State of California. IN WITNESS WHEREOF, Guarantor has caused this Guaranty to be duly executed as of the date first written above. "Guarantor": BIG DOG HOLDINGS, INC., a Delaware corporation By: /s/ANTHONY WALL Executive Vice President EX-27 5 FINANCIAL DATA SCHEDULE
5 1000 YEAR DEC-31-1997 JAN-01-1997 DEC-31-1997 23508 0 823 (72) 16714 41861 15658 (5426) 52584 6393 0 0 0 132 45409 52584 86181 86181 36328 44287 0 0 1268 4298 1633 2665 0 0 0 2665 0.24 0.24
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