-----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, IoK5Ay0GrvI8QioD0U1s87s36Pgli+aHq8hjG6M/9y2SG90lkGhAjenoq9daS7Ii qrJVU1TYR5tPaDyasyc5jw== 0000950146-96-002145.txt : 19961126 0000950146-96-002145.hdr.sgml : 19961126 ACCESSION NUMBER: 0000950146-96-002145 CONFORMED SUBMISSION TYPE: 10-12B/A PUBLIC DOCUMENT COUNT: 8 FILED AS OF DATE: 19961125 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: CORNING CLINICAL LABORATORIES INC CENTRAL INDEX KEY: 0001022079 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMMERCIAL PHYSICAL & BIOLOGICAL RESEARCH [8731] IRS NUMBER: 161387862 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-12B/A SEC ACT: 1934 Act SEC FILE NUMBER: 001-12215 FILM NUMBER: 96671469 BUSINESS ADDRESS: STREET 1: ONE MALCLOM AVE CITY: TETERBORO STATE: NJ ZIP: 07601 BUSINESS PHONE: 2013935143 MAIL ADDRESS: STREET 1: ONE MALCOLM AVE CITY: TETERBORO STATE: NJ ZIP: 07601 10-12B/A 1 FORM 10 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 Form 10/A Amendment No. 3 to Form 10 General Form For Registration of Securities Pursuant to Section 12(b) or (g) of the Securities Exchange Act of 1934 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (Exact name of registrant as specified in its charter)
Delaware 16-1387862 ----------------------------------------------- ------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) One Malcolm Avenue Teterboro, New Jersey 07608 ----------------------------------------------- ------------------------- (Address of principal executive offices) (Zip Code) 201 393 5000 -------------------------------------------------- (Registrant's telephone number, including area code)
Securities to be registered pursuant to Section 12(b) of the Act:
Title of each class Name of each exchange on which to be so registered each class is to be registered Common Stock, with attached Preferred New York Stock Exchange Stock Purchase Right
Securities to be registered pursuant to Section 12(g) of the Act: None - -------------------------------------------------------------------------------- (Title of class) CORNING CLINICAL LABORATORIES INC. INTRODUCTION This Registration Statement on Form 10 relates to the registration under the Securities Exchange Act of 1934, as amended, of the common stock, with attached Preferred Stock Purchase Right, of the Registrant which is being issued as described in the Information Statement (the "Information Statement"), dated November 25, 1996, of Corning Incorporated. Selected pages of the Information Statement which are related to the Registrant and the securities being registered hereunder (the "Quest Diagnostics Information") are attached hereto as Exhibit 99.1 and are incorporated herein by reference in answer to the items of this Registration Statement set forth below. Item 1. Business The information required by this item is contained under the sections" Risk Factors--Risks Relating to Quest Diagnostics," "Business of Quest Diagnostics" and "The Relationship Among Corning, Quest Diagnostics and Covance After the Distributions" of the Quest Diagnostics Information and such sections are incorporated herein by reference. Item 2. Financial Information The information required by this item is contained under the sections "Capitalization of Quest Diagnostics," "Pro Forma Financial Information of Quest Diagnostics," "Selected Historical Financial Data of Quest Diagnostics" and "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics" of the Quest Diagnostics Information and such sections are incorporated herein by reference. Item 3. Properties The information required by this item is contained under the section "Business of Quest Diagnostics-- Properties" of the Quest Diagnostics Information and such section is incorporated herein by reference. Item 4. Security Ownership of Certain Beneficial Owners and Management The information required by this item is contained under the section "Security Ownership of Certain Beneficial Owners and Management of Quest Diagnostics" of the Quest Diagnostics Information and such section is incorporated herein by reference. Item 5. Directors and Executive Officers The information required by this item is contained under the section "Management of Quest Diagnostics" of the Quest Diagnostics Information and such section is incorporated herein by reference. Item 6. Executive Compensation The information required by this item is contained under the section "Management of Quest Diagnostics" of the Quest Diagnostics Information and such section is incorporated herein by reference. Item 7. Certain Relationships and Related Transactions The information required by this item is contained under the section "Management of Quest Diagnostics" of the Quest Diagnostics Information and such section is incorporated herein by reference. Item 8. Legal Proceedings The information required by this item is contained under the sections "Business of Quest Diagnostics-- Government Investigations and Related Claims" and "--Legal Proceedings" of the Quest Diagnostics Information and such sections are incorporated herein by reference. Item 9. Market Price of and Dividends on the Registrant's Common Equity and Related Stockholder Matters The information required by this item is contained under the sections "Risk Factors--Risks Relating to Quest Diagnostics--Absence of Dividends; Restrictions Imposed on Dividends by the Indenture and the Quest Diagnostics Credit Facility," "Risk Factors--Risks Relating to Quest Diagnostics--Absence of Prior Public 2 Market," "Risk Factors--Risks Relating to Quest Diagnostics--Potential Volatility of Stock Price," "Description of Quest Diagnostics Capital Stock--Quest Diagnostics Common Stock--Dividend Policy," "--Quest Diagnostics Common Stock--Listing and Trading" and "Management of Quest Diagnostics" of the Quest Diagnostics Information and such sections are incorporated herein by reference. Item 10. Recent Sales of Unregistered Securities Not applicable. Item 11. Description of Registrant's Securities to be Registered The information required by this item is contained under the sections "Description of Quest Diagnostics Capital Stock" and "Antitakeover Effects of Certain Provisions of the Quest Diagnostics Certificate of Incorporation and By-Laws" of the Quest Diagnostics Information and such sections are incorporated herein by reference. Item 12. Indemnification of Directors and Officers The information required by this item is contained under the section "Liability and Indemnification of Directors and Officers of Quest Diagnostics" of the Quest Diagnostics Information and such section is incorporated herein by reference. Item 13. Financial Statements and Supplementary Data The information required by this item is contained under the sections "Capitalization of Quest Diagnostics," "Pro Forma Financial Information of Quest Diagnostics," "Selected Historical Financial Data of Quest Diagnostics," "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics" and "Financial Statements of Corning Clinical Laboratories Inc." of the Quest Diagnostics Information and such sections are incorporated herein by reference. Item 14. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure Not applicable. Item 15. Financial Statements and Exhibits (a) Financial Statements The information required by this item is contained under the section "Financial Statements of Quest Diagnostics Incorporated" of the Quest Diagnostics Information and such section is incorporated herein by reference. (b) Exhibits 3
Exhibit Number Description - ----------- ----------- 2.1 Form of Transaction Agreement among Corning Incorporated, Corning Life Sciences Inc., Corning Clinical Laboratories Inc. (Delaware), Covance Inc. and Corning Clinical Laboratories Inc. (Michigan), dated November 22, 1996 3.1* Certificate of Incorporation of the Registrant 3.2* By-Laws of the Registrant 4.1 Form of Common Stock certificate 4.2* Form of Rights Agreement between Corning Clinical Laboratories Inc. and Harris Trust and Savings Bank, dated December 31, 1996 10.1* Form of Tax Sharing Agreement among Corning Incorporated, Corning Clinical Laboratories Inc. and Covance Inc., dated [ ], 1996 10.2* Form of Spin-Off Tax Indemnification Agreement between Corning Incorporated and Corning Clinical Laboratories Inc. dated, [ ], 1996 10.3* Form of Spin-Off Tax Indemnification Agreement between Corning Clinical Laboratories Inc. and Covance Inc., dated [ ], 1996 10.4 Form of Credit Agreement among Corning Clinical Laboratories Inc., Morgan Guaranty Trust Company of New York, Nationsbank, N.A. and Wachovia Bank of Georgia, N.A., dated [ ], 1996 10.5* Form of Spin-Off Tax Indemnification Agreement between Covance Inc. and Corning Clinical Laboratories Inc., dated [ ], 1996 10.6* Form of Corning Clinical Laboratories Inc. Employees Stock Purchase Plan 10.7* Form of Corning Clinical Laboratories Inc. Variable Compensation Plan 10.8* Form of Corning Clinical Laboratories Inc. Profit Sharing Plan 10.9* Form of Corning Clinical Laboratories Inc. Employee Equity Participation Program 10.10 Form of Corning Clinical Laboratories Inc. Executive Retirement Supplemental Plan 10.11* Form of Corning Clinical Laboratories Inc. Directors' Restricted Stock Plan 10.12 Form of Employment Agreement between Kenneth W. Freeman and Corning Clinical Laboratories Inc. 21 Subsidiaries of the Registrant 27* Financial Data Schedules 99.1 Selected pages of the Information Statement of Corning Incorporated dated November 25, 1996 (pages 2; 28-107; F-1-F-32)
- ------------- * Previously filed. 4 SIGNATURES Pursuant to the requirements of Section 12 of the Securities Exchange Act of 1934, the registrant has duly caused this amendment to the registration statement to be signed on its behalf by the undersigned, thereunto duly authorized. CORNING CLINICAL LABORATORIES INC. Dated: November 25, 1996 By: /s/ Kenneth W. Freeman ---------------------------------------- Kenneth W. Freeman, President and Chief Executive Officer 5 EX-2.1 2 TRANSACTION AGREEMENT ================================================================================ S&S DRAFT --------------------------------------------- TRANSACTION AGREEMENT --------------------------------------------- dated as of November 22, 1996 by and among CORNING INCORPORATED, CORNING LIFE SCIENCES INC., CORNING CLINICAL LABORATORIES INC. (Delaware), COVANCE INC., and CORNING CLINICAL LABORATORIES INC. (Michigan) ================================================================================ TABLE OF CONTENTS Page ARTICLE I DEFINITIONS SECTION 1.01. General................................................................................. 2 SECTION 1.02. References; Interpretation.............................................................. 7 ARTICLE II DISTRIBUTIONS AND OTHER TRANSACTIONS; CERTAIN COVENANTS SECTION 2.01. Conditions Precedent.................................................................... 7 SECTION 2.02. The Distributions and Other Transactions................................................ 8 SECTION 2.03. Treatment of Fractional Shares.......................................................... 12 SECTION 2.04. Certain Intercompany Financial and Other Arrangements................................... 12 SECTION 2.05. Certain Indebtedness and Capital Structure.............................................. 13 SECTION 2.06. Further Assurances...................................................................... 13 SECTION 2.07. No Representations or Warranties........................................................ 14 SECTION 2.08. Guarantees.............................................................................. 14 SECTION 2.09. Certain Transactions.................................................................... 15 SECTION 2.10. Insurance............................................................................... 15 ARTICLE III INDEMNIFICATION SECTION 3.01. Indemnification by Corning.............................................................. 15 SECTION 3.02. Indemnification by CCL.................................................................. 22 SECTION 3.03. Indemnification by Covance.............................................................. 23 SECTION 3.04. Adjustments for Indemnification Obligations............................................. 23 SECTION 3.05. Procedures for Indemnification - Third Party Claims..................................... 23 SECTION 3.06. Survival of Indemnities................................................................. 25 SECTION 3.07. Payments................................................................................ 25 ARTICLE IV ACCESS TO INFORMATION SECTION 4.01. Provision of Corporate Records.......................................................... 25 SECTION 4.02. Access to Information................................................................... 25 SECTION 4.03. Reimbursement........................................................................... 26 SECTION 4.04. Confidentiality......................................................................... 26 ARTICLE V DISPUTE RESOLUTION SECTION 5.01. Good Faith Negotiations................................................................. 27 SECTION 5.02. Procedure............................................................................... 27 ii ARTICLE VI GENERAL PROVISIONS SECTION 6.01. Expenses................................................................................ 28 SECTION 6.02. Notices................................................................................. 28 SECTION 6.03. Complete Agreement; Construction........................................................ 29 SECTION 6.04. Ancillary Agreements.................................................................... 29 SECTION 6.05. Counterparts............................................................................ 29 SECTION 6.06. Survival of Agreements.................................................................. 29 SECTION 6.07. Waiver.................................................................................. 29 SECTION 6.08. Amendments.............................................................................. 30 SECTION 6.09. Assignment.............................................................................. 30 SECTION 6.10. Successors and Assigns.................................................................. 30 SECTION 6.11. Termination............................................................................. 30 SECTION 6.12. Subsidiaries............................................................................ 30 SECTION 6.13. Third Party Beneficiaries............................................................... 30 SECTION 6.14. Headings................................................................................ 30 SECTION 6.15. Specific Performance.................................................................... 30 SECTION 6.16. Governing Law........................................................................... 31 SECTION 6.17. Public Announcements.................................................................... 31 SECTION 6.18. Severability............................................................................ 31 iii SCHEDULES Schedule 2.08 Guarantees EXHIBITS Exhibit A Forms of Contribution Agreement, Liabilities Undertaking, Bill of Sale and Assignment and Instrument of Assignment and Assumption Exhibit B Form of Plan of Liquidation and Dissolution of CLSI Exhibit C Certificate of Ownership and Merger and Certificate of Merger, with attached Agreement and Plan of Merger and Complete Liquidation (Covance CAPS into Covance) Exhibit D Form of Insurance Agreement Exhibit E Form of Services Agreement Exhibit F Form of Spin-off Tax Indemnification Agreements Exhibit G Form of Tax Sharing Agreement Exhibit H Forms of Amended Charter and By-Laws of CCL Exhibit I Forms of Amended Charter and By-Laws of Covance
TRANSACTION AGREEMENT dated as of November 22, 1996, by and among CORNING INCORPORATED, a New York corporation ("Corning"), CORNING LIFE SCIENCES INC., a Delaware corporation ("CLSI"), CORNING CLINICAL LABORATORIES INC., a Delaware corporation ("CCL"), COVANCE INC., a Delaware corporation ("Covance") and CORNING CLINICAL LABORATORIES INC., a Michigan corporation ("CCL (MI)"). W I T N E S S E T H: WHEREAS, Corning is the common parent of a consolidated group which includes CLSI, CCL, Covance and CCL (MI); WHEREAS, the Board of Directors of Corning has determined that it is appropriate and desirable to distribute to the holders of shares of common stock, par value $0.50 per share, of Corning (the "Corning Common Shares") all the outstanding shares of common stock of CCL (the "CCL Common Stock") and, immediately following such distribution, for CCL to distribute to the holders of CCL Common Stock all the outstanding shares of common stock of Covance (the "Covance Common Stock"); WHEREAS, each of Corning, CCL and Covance has determined that it is necessary and desirable to set forth the principal corporate transactions required to effect such distribution and to set forth other agreements that will govern certain other matters following the distribution; WHEREAS, each of Corning, CCL and Covance has determined that it is necessary and desirable to allocate and assign responsibility for those liabilities in respect of the activities of the businesses of such entities on the Distribution Date (as defined herein) and those liabilities in respect of other businesses and activities of Corning and its former subsidiaries and other matters; WHEREAS, Corning currently owns 100% of the stock of CLSI; WHEREAS, CLSI currently owns 100% of the stock of CCL; WHEREAS, CCL currently owns 100% of the stock of each of Covance and CCL (MI); WHEREAS, Covance currently owns 100% of the stock of Covance Clinical and Periapproval Services Inc. (formerly Corning Besselaar, Inc.) ("Covance CAPS"); and 2 WHEREAS, prior to the Distribution Date, CLSI will contribute to CCL substantially all of its assets other than the stock of CCL in exchange for additional shares of CCL Common Stock, shares of voting preferred stock of CCL and cash and will contribute to CCL (MI) certain of its obligations and liabilities and Corning will cause CLSI to dissolve and Covance CAPS to be merged with and into Covance. NOW, THEREFORE, in consideration of the mutual agreements, provisions and covenants contained in this Agreement, the parties hereby agree as follows: ARTICLE I DEFINITIONS SECTION 1.01. General. As used in this Agreement, the following terms shall have the following meanings (such meanings to be equally applicable to both the singular and plural forms of the terms defined): "Action" shall mean any action, suit, arbitration, inquiry, proceeding or investigation by or before any court, any governmental or other regulatory or administrative agency, body or commission or any arbitration tribunal. "Affiliate" shall mean, when used with respect to a specified person, another person that directly, or indirectly through one or more intermediaries, will control or will be controlled by or will be under common control with the person specified immediately following the Effective Time. "Agent" shall have the meaning as defined in Section 2.02(g). "Agreement Disputes" shall have the meaning as defined in Section 5.01. "Ancillary Agreements" shall mean the Insurance Agreement, the Intellectual Property Agreement, the Services Agreement, the Spin-off Tax Indemnification Agreements and the Tax Sharing Agreement. "Assignee" shall have the meaning as defined in Section 2.02(i)(ii). "CCL" shall mean Corning Clinical Laboratories Inc., a Delaware corporation. "CCL Business" shall mean all businesses and operations conducted by (i) CLSI, MRL Nucor, Inc. and all current and former subsidiaries of CLSI (other than Covance Biotechnology Services Inc. (formerly CORNING Bio Inc.), Covance and its 3 Subsidiaries, Pharmaceutical Laboratory Services, Inc., Quanterra Incorporated, California Analytical Laboratory, Chemical Research Laboratories, Inc., Enseco Incorporated, ERCO, Rocky Mountain Analytical Laboratory and Wadsworth/Alert Laboratories, Inc.), including without limitation CCL (but excluding in any event the environmental testing business previously conducted by CCL); and (ii) any business entities acquired or established by or for CCL or any of its Subsidiaries after the date of this Agreement. "CCL Indemnitees" shall mean CCL, each Affiliate of CCL, each of their respective directors and officers and each of the heirs, executors, successors and assigns of any of the foregoing. "CCL Liabilities" shall mean, collectively, (i) all the Liabilities of CCL and its Subsidiaries under this Agreement and any of the Ancillary Agreements, and (ii) all the Liabilities of the parties hereto or their respective Subsidiaries (whenever arising whether prior to, at or following the Effective Time) arising out of or in connection with or otherwise relating to the management or conduct before or after the Effective Time of the CCL Business. "CCL (MI)" shall mean Corning Clinical Laboratories Inc., a Michigan corporation. "CCL Record Holders" shall mean all holders of CCL Common Stock as of the Distribution Record Date, provided that the CCL Record Holders shall be deemed to be determined immediately following the distribution of CCL Common Stock to all Corning Record Holders. "CLSI" shall mean Corning Life Sciences Inc., a Delaware corporation. "CLSI Revolver" shall mean the Revolving Credit Agreement dated December 1, 1994 between Corning and CLSI. "Code" shall mean the Internal Revenue Code of 1986, as amended, and the Treasury regulations promulgated thereunder, including any successor legislation. "Commission" shall mean the Securities and Exchange Commission. "Company Policies" shall mean all Policies, current or past, which are or at any time were maintained by or on behalf of or for the benefit or protection of Corning or any of its predecessors which relate to the Corning Business, the CCL Business or the Covance Business, or current or past directors, officers, employees or agents of any of the foregoing Businesses. 4 "Corning" shall mean Corning Incorporated, a New York corporation. "Corning Business" shall mean (i) all businesses and operations of Corning and its subsidiaries other than the CCL Business and the Covance Business and (ii) the environmental testing business previously conducted by CCL and its Subsidiaries, including California Analytical Laboratory, Chemical Research Laboratories, Inc., Enseco Incorporated, ERCO, Quanterra Incorporated, Rocky Mountain Analytical Laboratory and Wadsworth/Alert Laboratories, Inc. "Corning Indemnitees" shall mean Corning, each Affiliate of Corning, each of their respective directors and officers and each of the heirs, executors, successors and assigns of any of the foregoing. "Corning Liabilities" shall mean all the Liabilities of Corning and its Subsidiaries under this Agreement and any of the Ancillary Agreements, and all the Liabilities of Corning and its subsidiaries that are not CCL Liabilities or Covance Liabilities including, without limitation, all Liabilities under any employee benefit plans maintained by Corning and any stock option employment or consulting agreements to which Corning is a party, including any such benefit plans or agreements covering or with persons who are or were employees of CCL or Covance and their respective Subsidiaries. Notwithstanding the foregoing, the remaining payment obligations under the Agreement dated June 7, 1995 among Corning, CLSI and Ralph H. Thurman and the Consulting Agreement dated June 7, 1995 among Corning, CLSI and Ralph H. Thurman shall be CCL Liabilities and not Corning Liabilities. "Corning Record Holders" shall mean all holders of record of Corning Common Shares as of the Distribution Record Date. "Covance" shall mean Covance Inc., a Delaware corporation (formerly known as Corning Pharmaceutical Services Inc.). "Covance Business" shall mean all businesses and operations conducted by (i) all current and former subsidiaries of Covance and by Covance Biotechnology Services Inc. and Pharmaceutical Laboratory Services, Inc. prior to the Effective Time; and (ii) any business entities acquired or established by or for Covance or any of its Subsidiaries after the date of this Agreement. "Covance Indemnitees" shall mean Covance, each Affiliate of Covance, each of their respective directors and officers and each of the heirs, executors, successors and assigns of any of the foregoing. 5 "Covance Liabilities" shall mean, collectively, (i) all the Liabilities of Covance and its Subsidiaries under this Agreement and any of the Ancillary Agreements, and (ii) all the Liabilities of the parties hereto or their respective Subsidiaries (whenever arising whether prior to, at or following the Effective Time) arising out of or in connection with or otherwise relating to the management or conduct before or after the Effective Time of the Covance Business. "Distribution Date" shall mean December 31, 1996 or such later date as may hereafter be determined by Corning's Board of Directors as the date as of which the Distributions shall be effected. "Distribution Record Date" shall mean December 31, 1996 or such later date as may hereafter be determined by Corning's Board of Directors as the record date for the Distributions. "Distributions" shall mean the two consecutive distributions in the following order on the Distribution Date to (i) all Corning Record Holders of the CCL Common Stock owned by Corning and (ii) all CCL Record Holders of the Covance Common Stock owned by CCL. "Effective Time" shall mean 11:59 p.m., New York time, on the Distribution Date. "Exchange Act" shall mean the Securities and Exchange Act of 1934, as amended. "Indemnifiable Losses" shall mean any and all losses, liabilities, claims, damages, demands, costs or expenses (including, without limitation, reasonable attorneys' fees and any and all reasonable and necessary out-of-pocket expenses) whatsoever, including any and all losses, liabilities, claims, damages, demands, costs or expenses reasonably incurred in investigating, preparing for or defending against any Actions or potential Actions, provided, however, that such Indemnifiable Losses shall not include Taxes or other amounts indemnified against under the Spin-off Tax Indemnification Agreements and the Tax Sharing Agreement. "Indemnifying Party" shall have the meaning as defined in Section 3.04. "Indemnitee" shall have the meaning as defined in Section 3.04. "Information Statement" shall mean the Information Statement sent to all the Record Holders in connection with the Distributions, including any amendment or supplement thereto. 6 "Insurance Agreement" shall mean the Insurance Agreement among Corning, CCL and Covance, in substantially the form attached hereto as Exhibit D. "Intellectual Property Agreement" shall mean the Intellectual Property and Licensing Agreement among Corning, CCL and Covance, in a form to be agreed upon by the parties to this Agreement. "Liabilities" shall mean any and all debts, liabilities and obligations, absolute or contingent, matured or unmatured, liquidated or unliquidated, accrued or unaccrued, known or unknown, whenever arising, including, without limitation, those debts, liabilities and obligations arising under any law, rule, regulation, Action, threatened Action, order or consent decree of any court, any governmental or other regulatory or administrative agency or commission or any award of any arbitration tribunal, and those arising under any contract, guarantee, commitment or undertaking. "person" shall mean any natural person, corporation, business trust, joint venture, association, company, partnership or government, or any agency or political subdivision thereof. "Policies" shall mean insurance policies and insurance contracts of any kind (other than life and benefits policies or contracts), including, without limitation, primary, excess and umbrella policies, comprehensive general liability policies, fiduciary liability, automobile, aircraft, property and casualty, workers' compensation and employee dishonesty insurance policies, bonds and self-insurance and captive insurance company arrangements, together with the rights, benefits and privileges thereunder. "Record Holders" shall mean the CCL Record Holders and the Corning Record Holders, collectively. "Records" shall have the meaning as defined in Section 4.01. "Registration Statements" shall mean the registration statements on Form 10 in respect of the CCL Common Stock and the Covance Common Stock required to be filed with the Commission pursuant to Rule 12(b) under the Exchange Act. "Rules" shall have the meaning as defined in Section 5.02. "Services Agreement" shall mean the Services Agreement among Corning, CCL and Covance, in substantially the form attached hereto as Exhibit E. 7 "Spin-off Tax Indemnification Agreement" shall mean each of the Spin-off Tax Indemnification Agreements between or among two or more of Corning, CCL and Covance, in substantially the form attached hereto as Exhibit F. "Subsidiary" shall mean any corporation, partnership or other entity of which another entity (i) will own, immediately following the Effective Time, directly or indirectly, ownership interests sufficient to elect a majority of the board of directors (or persons performing similar functions) (irrespective of whether at the time any other class or classes of ownership interests of such corporation, partnership or other entity shall or might have such voting power upon the occurrence of any contingency) or (ii) will be, immediately following the Effective Time, a general partner or an entity performing similar functions; provided that Bio Imaging Technologies Inc. will be deemed to be a Subsidiary of Covance and, National Imaging Associates will be deemed to be a Subsidiary of CCL, in each case, for all purposes of this Agreement. "Tax" shall mean all federal, state, local and foreign gross or net income, gross receipts, withholding, franchise, transfer, estimated or other tax or similar charges and assessments, including all interest, penalties and additions imposed with respect to such amounts. "Tax Sharing Agreement" shall mean the Tax Sharing Agreement among Corning, CCL and Covance, in substantially the form attached hereto as Exhibit G. "Third Party Claim" shall have the meaning as defined in Section 3.05. SECTION 1.02. References; Interpretation. References to an "Exhibit" or to a "Schedule" are, unless otherwise specified, to one of the Exhibits or Schedules attached to this Agreement, and references to a "Section" are, unless otherwise specified, to one of the Sections of this Agreement. ARTICLE II DISTRIBUTIONS AND OTHER TRANSACTIONS; CERTAIN COVENANTS SECTION 2.01. Conditions Precedent. Neither the Distributions nor the related transactions set forth in this Agreement or in the Ancillary Agreements shall become effective unless the following conditions have been satisfied or waived by Corning on or before the Effective Time: (a) The Registration Statements shall have been filed by CCL and Covance, as applicable, with, and declared effective by, the Commission and the Information Statement shall have been mailed in a timely manner to all holders of Corning Common Shares prior to the Distribution Date. 8 (b) Corning shall have received a favorable ruling from the Internal Revenue Service to the effect that the Distributions qualify as tax-free distributions under Section 355 of the Code. (c) Corning shall have received a favorable response from the Commission to the "no-action request" letter describing the Distributions filed by Corning with the Commission. (d) The New York Stock Exchange shall have approved the CCL Common Stock and Covance Common Stock for listing on its exchange, subject to official notice of distribution. (e) The financing arrangements among and between the parties contemplated in the Information Statement will have been consummated. CCL and Covance each shall pay all of the expenses associated with their respective financings. SECTION 2.02. The Distributions and Other Transactions. (a) Certain Transactions. Prior to the Distribution Date: (i) Covance CAPS shall be merged with and into Covance pursuant to the Certificate of Ownership and Merger between Covance CAPS and Covance and the Certificate of Merger between Covance CAPS and Covance, in substantially the forms attached hereto as Exhibit C, and in accordance with all applicable filing requirements under the Delaware General Corporation Law and the New Jersey Business Corporation Act. As a result of the merger, Covance CAPS will cease to exist and Covance will acquire the assets of Covance CAPS and assume (or take the assets of Covance CAPS subject to) the liabilities of Covance CAPS. (ii) CLSI will contribute to CCL all of CLSI's assets other than the stock of CCL and CLSI's rights under certain agreements that CLSI agrees to transfer pursuant to Section 2.02(i) in exchange for 200,000 additional shares of CCL Common Stock, 1,000 shares of voting preferred stock of CCL and $250,000 in cash from CCL pursuant to (A) the Contribution Agreement between CLSI and CCL, (B) the Liabilities Undertaking between CLSI and CCL (C) the Instrument of Assignment and Assumption between CLSI and CCL and (D) the Bill of Sale and Assignment between CLSI and CCL, each in substantially the forms attached hereto as Exhibit A, and in accordance with all applicable filing requirements under the Delaware General Corporation Law. As a result of such transactions, CCL will acquire the assets of CLSI and assume (or take the assets of CLSI subject to) the liabilities of CLSI other than (A) such obligations and liabilities for which either Corning or Covance is responsible under this Agreement or the Ancillary Agreements and (B) any obligations that CCL(MI) assumes pursuant to 9 the following sentence. CCL (MI) shall assume (A) the first $2 million in principal amount of obligations of CLSI owed by CLSI to Corning under the CLSI Revolver and (B) the first $2 million of CLSI's obligations under Section 6.06(a) of the Agreement and Plan of Merger among Corning, Opera Acquisition Corp. and CLSI (then known as Damon Corporation). Following such contributions and assumptions, CLSI shall adopt a plan of liquidation and dissolve pursuant to the Plan of Liquidation and Dissolution of CLSI, substantially in the form attached hereto as Exhibit B, and in accordance with all applicable filing requirements under the Delaware General Corporation Law. As a result of such liquidation and dissolution, CLSI will distribute to Corning its remaining assets, which will consist largely of the capital stock of CCL, and CLSI will cease to exist. (iii) No earlier than one day following the effective date for the transactions described in Section 2.02(a)(ii), CCL will transfer to certain of its subsidiaries the following shares of common stock that CCL will have received from CLSI pursuant to the transactions described in Section 2.02(a)(ii): (A) the shares of common stock of Corning Nichols Institute, (B) the shares of common stock of Corning Clinical Laboratories Inc. (Mass.) and (C) the shares of common stock of Corning Clinical Laboratories Inc. (MD). (iv) No earlier than three (3) days following the later of the effective dates for the transactions described in Sections 2.02(a)(i), (ii) and (iii), CCL will transfer its Covance Common Stock, its entire interest in Pharmaceutical Laboratory Services, Inc. and its entire interest in Covance Biotechnology Services Inc. to Covance by delivering to Covance stock certificates representing each of CCL's share interests in such companies, accompanied by stock powers duly endorsed by CCL and with all required stock transfer tax stamps affixed. In connection therewith CCL shall deliver to Covance for cancellation the share certificate currently held by it representing Covance Common Stock and Covance shall issue to CCL new certificates representing the total number of newly-issued shares of Covance Common Stock sufficient in number to allow for an orderly and pro rata distribution of such Covance Common Stock to the CCL common shareholders. (v) No earlier than three (3) days following the later of the effective dates for the transactions described in Sections 2.02(a)(i), (ii) and (iii), Corning will transfer its CCL Common Stock and its entire interest in MRL Nucor, Inc. to CCL by delivering to CCL stock certificates representing each of Corning's share interests in CCL and MRL Nucor, Inc., accompanied by stock powers duly endorsed by Corning and with all required stock transfer tax stamps affixed. In connection therewith Corning shall deliver to CCL for cancellation the share certificate then held by it representing CCL Common Stock and shall receive new certificates representing the total number of newly-issued shares of CCL Common Stock sufficient in number to 10 allow for an orderly and pro rata distribution of such CCL Common Stock to the Corning common shareholders. (b) Ancillary Agreements. On or prior to the Distribution Date, each of Corning, CCL and Covance shall have executed and delivered to each of the others, each of the Ancillary Agreements. (c) Charters; By-laws. On or prior to the Distribution Date: (i) All necessary actions shall have been taken to provide for the amendments of the Articles of Incorporation and By-laws for CCL, such amendments to be in substantially the forms attached hereto as Exhibit H. (ii) All necessary actions shall have been taken to provide for the amendments of the Articles of Incorporation and By-laws for Covance, such amendments to be in substantially the forms attached hereto as Exhibit I. (d) Benefit Plans. On or prior to the Distribution Date, any shareholder approvals deemed necessary for employee benefit plans shall have been obtained. (e) Directors. On or prior to the Distribution Date, Corning as the sole shareholder of CCL, and CCL, as the sole shareholder of Covance, shall have taken all necessary action by written consent on or prior to the Distribution Date to elect to the Board of Directors of CCL and the Board of Directors of Covance the individuals identified in the Information Statement as directors of CCL and Covance, respectively. (f) Consents. The parties hereto shall use their commercially reasonable efforts to obtain any required consents to assignment of agreements hereunder, if applicable. (g) Delivery of Shares to Agent. Corning shall deliver to Harris Trust and Savings Bank (the "Agent") the share certificates representing the CCL Common Stock and CCL shall deliver to the Agent the share certificates representing the Covance Common Stock and Corning and CCL shall instruct the Agent to distribute, on or as soon as practicable following the Distribution Date, such common stock to the Corning Record Holders and the CCL Record Holders, as the case may be, as further contemplated by the Information Statement and herein. CCL and Covance shall provide all share certificates that the Agent shall require in order to effect the Distributions. 11 (h) Sublease. Corning shall have entered into a sublease agreement with National Imaging Associates, Inc. with respect to the first floor of 10 Mountainview Road, Upper Saddle River, New Jersey. (i) Transfer of Agreements. (i) CLSI hereby agrees that on or prior to the date on which it is dissolved, subject to the limitations set forth in this Section 2.02(i), it will assign, transfer and convey to Covance all of CLSI's rights and obligations under (a) the Capital Contribution Agreement and Shareholder Agreement dated February 22, 1995 among Corning BioPro Inc., CLSI, Richard Hawkins, Dr. John Scarlett, Robert F. Amundsen and Dr. Nona Niland, (b) any and all existing stock option agreements between CLSI, Corning Bio Inc. and individual employees of Corning Bio Inc., (c) the Registration Agreement dated as of February 22, 1995 by and between Corning BioPro Inc. and CLSI, (d) the Joint Escrow Instructions dated February 22, 1995 by and between Corning BioPro Inc., CLSI, Robert F. Amundsen and the Escrow Agent named therein, and (e) the Joint Escrow Instructions dated February 22, 1995 by and between Corning BioPro Inc., CLSI, Dr. John Scarlett and the Escrow Agent named therein. CLSI hereby further agrees that on or prior to the date on which it is dissolved, subject to the limitations set forth in this Section 2.02(i), it will assign, transfer and convey to Corning all of its rights and obligations under the lease agreement dated October 5, 1995 between 2154 Trading Corporation and CLSI with respect to 10 Mountainview Road, Upper Saddle River, New Jersey and a sublease to National Imaging Associates with respect to a portion of such premises. CCL hereby agrees that on or prior to the Distribution Date or as soon as reasonably practicable thereafter, subject to the limitations set forth in this Section 2.02(i), it will assign, transfer and convey to Corning all of CCL's rights and obligations under the Asset Transfer Agreement dated as of May 2, 1994, as amended, among CCL, International Technology Corporation, IT Corporation and Quanterra Incorporated and the related closing documents thereunder, including without limitation the General Instrument of Assignment and Assumption dated June 28, 1994 between CCL and Quanterra Incorporated. Corning hereby agrees that on or prior to the Distribution Date or as soon as reasonably practicable thereafter, subject to the limitations set forth in this Section 2.02(i), it will assign, transfer and convey to Covance all of Corning's rights and obligations under that certain Registration Agreement dated as of February 22, 1995 by and between Corning, Dr. Nona Niland, Dr. John Scarlett, Robert F. Amundsen and Richard Hawkins. (ii) The assignee of any agreement assigned, in whole or in part, hereunder (an "Assignee") shall assume and agree to pay, perform, and fully discharge all obligations of the assignor under such agreement or such Assignee's related portion of such obligations as determined in accordance with the terms of the relevant agreement, where determinable on the face thereof, and otherwise as determined in accordance with the practice of the parties prior to the Distribution. 12 (iii) Notwithstanding anything in this Agreement to the contrary, this Agreement shall not constitute an agreement to assign any agreement, in whole or in part, or any rights thereunder if the agreement to assign or attempt to assign, without the consent of a third party, would constitute a breach thereof or in any way adversely affect the rights of the Assignee thereof. Until such consent is obtained, or if an attempted assignment thereof would be ineffective or would adversely affect the rights of any party hereto so that the Assignee would not, in fact, receive all such rights, the parties will cooperate with each other in any arrangement designed to provide for the Assignee the benefits of, and to permit the Assignee to assume liabilities under, any such agreement. (iv) Corning understands and agrees that approximately 10,968 Corning Common Shares are held to secure certain claims of CCL under that Escrow Agreement dated as of October 9, 1994 (the "Escrow Agreement") among Corning, The First National Bank of Boston and former shareholders of Moran Research Labs, as amended, and will act at CCL's direction and at CCL's expense with respect to those shares. The remaining Corning Common Shares held under the Escrow Agreement are being held for the benefit of Corning. (j) Other Transactions. On or prior to the Distribution Date, each of Corning, CCL and Covance shall have consummated those other transactions in connection with the Distributions that are contemplated by the Information Statement and the ruling request submission by Corning to the Internal Revenue Service dated June 17, 1996, as supplemented, and not specifically referred to in subparagraphs (a)-(i) above. SECTION 2.03. Treatment of Fractional Shares. As soon as practicable after the Distribution Date, the Agent shall determine the number of whole shares and fractional shares of CCL and Covance allocable to each Corning Record Holder and CCL Record Holder, respectively, as of the Distribution Record Date, to aggregate all such fractional shares and sell the whole shares obtained thereby, in open market transactions or otherwise, in each case at then prevailing trading prices, and to cause to be distributed to each such holder to which a fractional share shall be allocable such holder's ratable share of the proceeds of such sale, after making appropriate deductions of the amount required to be withheld for federal income tax purposes and after deducting an amount equal to all brokerage charges, commissions and transfer taxes attributed to such sale. In determining the manner and timing of selling the aggregated fractional shares, the Agent shall use its independent judgment and shall neither consult with nor communicate its plans to Corning, CCL or Covance. SECTION 2.04. Certain Intercompany Financial and Other Arrangements. (a) Intercompany Accounts. Without limiting the terms of Section 2.05, all intercompany receivables, payables and loans (other than receivables, payables and loans otherwise specifically provided for in any of the Ancillary Agreements or hereunder), including, without limitation, in respect of any cash balances, any cash balances representing deposited checks or drafts for which only a provisional credit has been allowed or any cash held in any centralized cash management system, between Corning, CCL, Covance or any of their respective Subsidiaries, on the one hand, and Corning, CCL, Covance or any of their respective Subsidiaries, on the other hand, shall, as of the Effective Time, be settled or contributed to capital, in each case as may be agreed in writing prior to the Effective Time by duly authorized representatives of Corning, CCL or Covance, as applicable. Notwithstanding the foregoing, on or after the Distribution Date, CCL shall make a payment to Corning in an amount equal to 13 the excess, if any, of (i) the aggregate amount of cash and cash equivalents held by CCL and its Subsidiaries on the Distribution Date over (ii) the sum of the aggregate principal amount of Working Capital Loans and Swingline Loans (each as defined in the credit agreement among CCL and the banks listed therein to be entered into prior to the Distribution Date) outstanding on the Distribution Date, plus $40,000,000 plus the net cash proceeds from the sales of assets identified in the credit agreement received on or prior to the Distribution Date. If the amount calculated in accordance with clause (ii) of the preceding sentence, less $10,000,000, is greater than the amount calculated in accordance with clause (i) then, on or after the Distribution Date, Corning shall make a payment to CCL in an amount equal to the difference between such calculations. (b) Operations in Ordinary Course. Each of CCL and Covance covenants and agrees that, except as otherwise provided in any Ancillary Agreement, during the period from the date of this Agreement through the Distribution Date, it will, and will cause any entity that is a Subsidiary of such party at any time during such period to, conduct its business in a manner substantially consistent with current and past operating practices and in the ordinary course, including, without limitation, with respect to the payment and administration of accounts payable and the administration of accounts receivable, the purchase of capital assets and equipment and the management of inventories. SECTION 2.05. Certain Indebtedness and Capital Structure. Corning, CCL and Covance each agree to use their respective commercially reasonable efforts to achieve both an allocation of consolidated indebtedness of Corning and a capital structure (including cash position) of each of CCL and Covance so as to substantially reflect the respective capital structures after the Distributions of CCL and Covance set forth in the Information Statement under the headings "Capitalization of CCL" and "Capitalization of Covance". SECTION 2.06. Further Assurances. In case at any time after the Effective Time any further action is reasonably necessary or desirable to carry out the purposes of this Agreement and the Ancillary Agreements, the proper officers of each party to this Agreement shall take all such necessary action. Without limiting the foregoing, Corning, CCL and Covance shall use their commercially reasonable efforts to obtain all consents and approvals, to enter into all amendatory agreements and to make all filings and applications that may be required for the consummation of the transactions contemplated by this Agreement and the Ancillary Agreements, including, without limitation, all applicable governmental and regulatory filings. 14 SECTION 2.07. No Representations or Warranties. Each of the parties hereto understands and agrees that, except as otherwise expressly provided, no party hereto is, in this Agreement, in any Ancillary Agreement or in any other agreement or document contemplated by this Agreement or otherwise, making any representation or warranty whatsoever, including, without limitation, as to title, value or legal sufficiency. SECTION 2.08. Guarantees. (a) Except as otherwise specified in any Ancillary Agreement, Corning, CCL and Covance shall use their commercially reasonable efforts to have, on or prior to the Distribution Date, or as soon as practicable thereafter, Corning and any of its Subsidiaries removed as guarantor of or obligor for any CCL Liability or Covance Liability, including, without limitation, in respect of those guarantees set forth on Schedule 2.08(a), and to the extent any such guarantee is not removed, CCL or Covance, as the case may be, will indemnify Corning for all Indemnifiable Losses related to or arising from such guarantee, in accordance with the procedures set forth in Section 3.05 and will pay Corning a fee reflecting Corning's continuing role as guarantor. (b) Except as otherwise specified in any Ancillary Agreement, Corning, CCL and Covance shall use their commercially reasonable efforts to have, on or prior to the Distribution Date, or as soon as practicable thereafter, CCL and any of its Subsidiaries removed as guarantor of or obligor for any Corning Liability or Covance Liability, including, without limitation, in respect of those guarantees set forth on Schedule 2.08(b), and to the extent any such guarantee is not removed, Corning or Covance, as the case may be, will indemnify CCL for all Indemnifiable Losses related to or arising from such guarantee, in accordance with the procedures set forth in Section 3.05 and will pay CCL a fee reflecting CCL's continuing role as guarantor. (c) Except as otherwise specified in any Ancillary Agreement, Corning, CCL and Covance shall use their commercially reasonable efforts to have, on or prior to the Distribution Date, or as soon as practicable thereafter, Covance and any of its Subsidiaries removed as guarantor of or obligor for any Corning Liability or CCL Liability, including, without limitation, in respect of those guarantees set forth on Schedule 2.08(c), and to the extent any such guarantee is not removed, Corning or CCL, as the case may be, will indemnify Covance for all Indemnifiable Losses related to or arising from such guarantee, in accordance with the procedures set forth in Section 3.05 and will pay Covance a fee reflecting Covance's continuing role as guarantor. 15 SECTION 2.09. Certain Transactions. (a) On or prior to the Distribution Date, and in accordance to Section 2.02(b), Corning, CCL and Covance shall enter into (i) the Tax Sharing Agreement which shall govern, among other things, their respective rights and obligations with respect to Taxes of CCL and Covance and each of their respective Subsidiaries for all periods through the Distribution Date and certain other tax-related matters; and (ii) the Spin-off Tax Indemnification Agreements which shall, among other things, restrict CCL and Covance from engaging in certain activities that might jeopardize the continuing tax-free treatment of the Distributions. (b) Following the Distribution Date, Corning, CCL and Covance shall each comply with and otherwise not take any action inconsistent with each representation and statement made, or to be made, to the Commission in connection with the "no-action request" letter describing the Distributions filed by Corning with the Commission. SECTION 2.10. Insurance. Except as contemplated by the Insurance Agreement, any and all coverage of CCL, Covance and their respective Subsidiaries under Company Policies has terminated or will terminate (and will not be replaced by Corning) no later than the Effective Time. ARTICLE III INDEMNIFICATION SECTION 3.01. Indemnification by Corning. (a) Except as otherwise specifically set forth in any provision of this Agreement or of any Ancillary Agreement, Corning shall indemnify and hold harmless the CCL Indemnitees and the Covance Indemnitees from and against any and all Indemnifiable Losses of the CCL Indemnitees and the Covance Indemnitees, respectively, arising out of, by reason of or otherwise in connection with (i) the Corning Liabilities or (ii) the breach by Corning of any provision of this Agreement or any Ancillary Agreement. (b) Corning shall indemnify and hold harmless CCL and its Subsidiaries from and against any and all monetary payments by or on behalf of CCL or any of its Subsidiaries (other than criminal fines or penalties imposed upon former or current employees of CCL or its subsidiaries) to the United States government or one of the States of the United States or any of their respective departments, branches or agencies arising out of any investigation or claim by or on behalf of the United States government or one of the States of the United States or any of their respective departments, branches or agencies, whether criminal, civil or administrative in nature which investigation or claim has been settled prior to the Distribution Date or is pending as of the Distribution Date pursuant to service of subpoena or other notice of such investigation to Corning, CCL or any of its Subsidiaries, as well as any qui tam proceeding for which a complaint was filed prior to the Distribution Date whether or not Corning, CCL or any Subsidiary of CCL has been served with such complaint or otherwise been notified of the pendency of such action, but only to the extent such investigations or claims arise out of or are related to alleged violations of (i) the federal civil False Claims Act (31 USC ss. 3729, et seq.) and its criminal counterpart (18 USC ss. 287), (ii) Medicare and Medicaid fraud (42 USC ss. 1320a-7(b)(a)(1)), (iii) the Civil Monetary Penalties Law (42 USC ss.ss. 1320a-7a and 1320a-7(b)(b)), (iv) mail fraud and wire fraud statutes (18 USC ss.ss. 1341 and 1343), (v) false statements (18 USC ss. 1301), (vi) conspiracy (18 USC ss. 371), (vii) money laundering (18 USC ss. 1956, et seq.), (viii) RICO (18 USC ss. 1961), (ix) Title II of the Health Insurance Portability and Accountability Act of 1996, (x) Title XVIII of the Social Security 16 Act (42 USC ss.ss. 1395-1395ccc) (the Medicare statute), (xi) Title XIX of the Social Security Act (42 USC ss.ss. 1396, et seq.) (the Medicaid statute), (xii) the Programs Fraud Civil Remedies Act (31 USC ss.ss. 3801, et seq.); or (xiii) the federal Anti-Kickback Act (42 USC ss.ss. 52, et seq.) arising out of the billing or alleged overbilling by CCL or any past or present subsidiary of CLSI (or any of their predecessors) of any federal program or agency, or any federally supported state health care program or agency, or any beneficiary of any of them, for services provided to any such beneficiary thereof by CCL, any Subsidiary of CCL or any past or present subsidiary of CLSI (or any of their predecessors). (c) In the event that CCL or its Subsidiaries make monetary payments in excess of forty-two million dollars ($42,000,000) within the period beginning on the Distribution Date and ending five (5) years thereafter in respect of claims by nongovernmental persons relating to or arising out of the investigations or claims referred to in Section 3.01(b) and alleging overbillings of such person or any beneficiary of such person by CCL, its Subsidiaries or any past or present subsidiary of CLSI (or any of their predecessors) for services provided prior to the Distribution Date to such person or beneficiary thereof by CCL, its Subsidiaries or any past or present subsidiary of CLSI (or any of their predecessors), then Corning shall indemnify and hold harmless CCL and its Subsidiaries from and against fifty percent (50%) of up to fifty million dollars ($50,000,000) in the aggregate of such monetary payments actually paid by CCL or any Subsidiary of CCL in excess of such forty-two million dollars ($42,000,000) in respect of such alleged overbillings. (d) (i) Except as otherwise agreed by Corning and CCL or unless otherwise required by a change in applicable law or regulations, a contrary judicial decision, adverse determination by a Taxing authority, or a contrary published ruling (in each case, subsequent to the date hereof), all payments made by Corning to CCL, or to another party for the benefit of CCL, pursuant to Section 3.01(b) and Section 3.01(c) shall be treated as nontaxable capital contributions by Corning to CCL and the parties shall report the payments consistent with such treatment for Tax purposes (ii) Each amount indemnified against by Corning pursuant to Section 3.01(b) and Section 3.01(c) shall be reduced by (1) the product of (x) the amount of any Tax deduction used to reduce the Tax liability of CCL, any CCL Subsidiary (CCL and the CCL Subsidiaries shall be referred to in this Section 3.01(d) individually as a "CCL Company" and collectively as the "CCL Companies") or any combined or consolidated group which has any of the CCL Companies as a member and which does not have Corning as a member (referred to in this Section 3.01(d) as the "CCL Group") to the extent such Tax deduction is attributable to the portion of the payment, loss, expense or other item indemnified against by Corning and (y) the maximum marginal statutory rate (exclusive of any surtax rate or other marginal rate imposed in lieu of a surtax to eliminate the benefits of a lower marginal rate) at which the Tax to which such deduction relates is imposed for the taxable year in which the CCL Company or the CCL Group uses the Tax deduction to reduce its Tax liability, and (2) the amount of any other Tax 17 credit, benefit or other similar item (a "Tax Benefit Item") used to reduce the Tax liability of any CCL Company or the CCL Group to the extent the Tax Benefit Item is attributable to the portion of the payment, loss, expense or other item indemnified against by Corning. (iii) For purposes of determining whether any Tax deduction or Tax Benefit Item of any CCL Company attributable to the portion of a payment, loss, expense or other item indemnified against by Corning (a "Corning Deduction") is used to reduce the Tax liability of any CCL Company or the CCL Group, it shall be assumed that all losses and deductions of such CCL Company or the CCL Group (including carryforwards and carrybacks (unless otherwise excluded below) of net operating losses or other items) other than Corning Deductions are applied in reduction of such CCL Company's or the CCL Group's Tax liability before any Corning Deductions are so applied, except that Tax deductions and Tax Benefit Items attributable to the following items shall be deemed to be applied to reduce such CCL Company's or the CCL Group's Tax liability after using (in determining such Tax liability) all available Corning Deductions: (i) Special Events (as defined below), (ii) claims against which Corning has partially indemnified CCL pursuant to Section 3.01(c) (other than payments applied toward the $42,000,000 threshold specified in Section 3.01(c)) and (iii) carrybacks of losses or other Tax items from Tax years subsequent to the Tax year in which the amount indemnified against under Sections 3.01(b) or (3.01(c) is paid by Corning. Special Event shall mean a material event that is unusual in nature or occurs infrequently (but not both) and is unrelated to normal operations (including, without limitation, entering or exiting businesses, sales or other dispositions, litigation or regulatory settlements, restructuring reserves), but does not include operating items such as start-up expenses and receivable reserves. For this purpose, material means an event or series of related events involving amounts exceeding 5 percent of CCL's pre-tax income (determined on a consolidated basis). (iv) Corning shall make estimated payments to CCL, or another party for the benefit of CCL, pursuant to Section 3.01(b) and Section 3.01(c) (the "Estimated Payments") which shall be calculated in good faith by CCL and Corning by taking into account the adjustments required by Section 3.02(d)(ii) and Section 3.01(d)(iii) to the extent practical (based on information available to the parties at the time the Estimated Payment is made as to the proper tax treatment of the item, CCL's projected Tax liability (including for estimated Tax payments), or losses for the year in which the Estimated Payment is made (without taking into account the use of Corning Deductions in future years), prior Tax return positions and other factors the parties deem relevant). Estimated Payments shall be paid by Corning (1) if paid to a CCL Company, as directed by CCL, within 15 business days after written notice from CCL to Corning indicating that the underlying obligation indemnified against by Corning has been paid by a CCL Company (which notice shall include any documentation reasonably requested by Corning establishing the amount and Tax treatment of such payment) or, (2) if paid directly by Corning for the benefit of a CCL Company, within 15 business days after written notice from CCL that the obligation has been settled or is otherwise due (which notice shall include to whom such payment should be made, the amount of the payment, an executed copy of the 18 settlement or other agreement and any other documentation reasonably requested by Corning establishing the amount and Tax treatment of such payment); provided, however, that failure to give such notification shall not affect the indemnification provided hereunder except to the extent Corning shall have been actually prejudiced as a result of such failure. (v) Within 60 business days following the close of the Tax year in which an Estimated Payment is made and each tax year thereafter until the Corning Deductions (as adjusted under Sections 3.01(d)(ii) and 3.01(d)(iii)) are fully used by the CCL Companies to reduce the Tax liability of the CCL Group or any CCL Member, CCL shall compute the amount by which any reduction in the Tax liability of a CCL Company or the CCL Group for such Tax year attributable to a Corning Deduction decreases the after-Tax indemnity payable by Corning under Sections 3.02(d)(ii) and (iii). CCL shall submit such computation in writing to Corning (together with such other documentation as is reasonably necessary to demonstrate how the reduction was computed) for review and approval by Corning, which approval shall not be unreasonably withheld, within 20 business days of the receipt by Corning of such computation prepared by CCL. If Corning does not approve of such computation and the parties cannot otherwise agree on such computation, then the disagreement shall be resolved under Section 3.01(d)(ix). Promptly following agreement by the parties as to the computation required under this paragraph, either CCL shall pay to Corning an adjusting payment if the amount of such after-Tax indemnity payable by Corning under Sections 3.01(d)(ii) and 3.01(d)(iii) is less than the aggregate amount of Estimated Payments made to CCL for such Tax year and prior years (net of any prior adjusting payments) or Corning shall pay to CCL an adjusting payment if the amount of such after-Tax indemnity payable by Corning under Section 3.02(d)(ii) and (iii) exceeds the aggregate amount of Estimated Payments made to CCL for such Tax year and prior years (net of any prior adjusting payments). (vi) CCL shall consult with Corning and CCL and Corning shall determine the Tax treatment by any CCL Company or the CCL Group of any payment, loss, expense or other amount indemnified against by Corning under Section 3.01(b) or Section 3.01(c) provided that neither the CCL Group nor any CCL Company nor Corning shall be required to take a position on any Tax return for which there is no reasonable basis. If requested by CCL, Corning at its expense will provide CCL with an opinion of independent tax counsel selected by Corning (provided such counsel is not reasonably objected to by CCL) to the effect that there exists a reasonable basis for the treatment proposed by Corning as part of such determination. The parties shall report the payments consistent with the treatment as determined by them for Tax purposes. (vii) If any payments are made by Corning pursuant to Section 3.01(b) or Section 3.01(c), and calculated and paid pursuant to this Section 3.01(d), and the amount of the after-Tax indemnity payable by Corning pursuant to such sections would have been different if the computation of such indemnification payment were made at a later time (because of final settlements or final dispositions of audit adjustments, administrative or judicial proceedings, 19 amended returns, utilization or disallowance of Corning Deductions in subsequent Tax periods or other reasons), then the amount of such indemnification shall be recomputed by CCL and Corning at such later time by taking into account such subsequent events and the parties shall make an adjusting payment between each other as is appropriate because of such recomputation within 15 business days of their agreement as to the amount of such adjusting payment. (viii) (A) CCL shall notify Corning promptly (and in any event within 15 business days) after receipt by any CCL Company of written notice of any demand or claim by a Taxing authority relating to the Tax treatment of a payment, loss, expense or other item indemnified against by Corning under Section 3.01(b) or Section 3.01(c). Such notice shall contain factual information (to the extent known to any CCL Company) describing the asserted tax treatment in reasonable detail and shall include copies of any notice or other document received from any Taxing authority. If the Taxing authority proposes in writing an adjustment to a Corning Deduction, which adjustment if sustained would reduce the amount of a Corning Deduction or otherwise increase the amount indemnified against by Corning, CCL shall notify Corning promptly of such adjustment and of all action taken or proposed to be taken by the Taxing authority; provided, however, that failure to give such notification shall not affect the indemnification provided hereunder except to the extent Corning shall have been actually prejudiced as a result of such failure. (B) If Corning requests within 30 days (or sooner if the nature of the proposed adjustment so requires) after CCL's notice that the proposed adjustment to a Corning Deduction be contested, CCL shall contest the proposed adjustment in good faith upon receipt of an opinion of independent tax counsel selected by Corning (provided such counsel is not reasonably objected to by CCL) to the effect that there exists a reasonable basis that CCL will prevail in such contest; provided, that (i) CCL shall be required to contest any proposed adjustment beyond the level of administrative proceedings only if the j aggregate amount of the proposed adjustment (exclusive of penalties, interest and additions to tax) exceeds $250,000, (ii) CCL shall determine the court of competent jurisdiction in which to contest the proposed adjustment either before or after payment of the Tax asserted to be payable as a result thereof, (iii) Corning shall control with counsel selected by Corning (provided such counsel is not reasonably objected to by CCL) the prosecution of any contested adjustment or asserted deficiency in respect of a Corning Deduction arising from an amount indemnified against by Corning under Section 3.01(b), and CCL shall control with counsel selected by CCL (provided such counsel is not reasonably objected to by Corning) the prosecution of any contested adjustment or asserted deficiency in respect of a Corning Deduction arising from an amount indemnified against by Corning under Section 3.01(c), (iv) the controlling party shall keep the other party informed as to the progress of any contest or litigation and, if requested by such other party, shall consult with such other party's tax counsel, and (v) the controlling party shall not settle, compromise or otherwise concede the adjustment or deficiency in respect of a Corning Deduction that the controlling party is contesting without the consent of the other party, which consent shall not be unreasonably withheld, provided, further, that any adverse 20 court determination will be required to be appealed only upon receipt of an additional opinion from independent tax counsel that there exists a reasonable basis that the appellate court will reverse such adverse determination. CCL shall not be required to take any action pursuant to this Section 3.01(viii)(B) in respect of a contesting Corning Deduction relating to an amount indemnified against by Corning under Section 3.01(b) unless Corning shall have agreed to pay (with no net after-Tax cost to CCL) all penalties, interest and additions to tax that CCL may incur in connection with contesting a proposed adjustment to such Corning Deduction. The controlling party shall pay all out-of-pocket expenses and other costs relating to a contest of an adjustment to a Corning Deduction ("Expenses"), including but not limited to fees for attorneys, accountants, expert witnesses or other consultants retained by (or selected or controlled by) the controlling party incurred at any time during which the controlling party is controlling and directing the proceeding in respect of which such fees are incurred; provided, however, that Corning shall pay CCL, in respect of a proceeding controlled by CCL that relates to or involves a proposed adjustment or asserted deficiency in respect of a Corning Deduction attributable to an amount indemnified against by Corning under Section 3.01(c), that proportion of the Expenses relating to the proceeding and involving such deduction as is equal to the ratio of (i) the amount of the adjustment or deficiency that relates to such Corning Deduction at issue in the proceeding and (ii) the total adjustments at issue in the proceeding that relate to claims by nongovernmental persons described in Section 3.01(c). (C) If asserted liabilities unrelated to the matters contemplated herein become grouped with contests arising hereunder, the parties shall use their respective best efforts to cause the contest arising hereunder to be the subject of a separate proceeding. If such severance is not possible, Corning shall control only the prosecution of any contested adjustment or asserted deficiency in respect of a Corning Deduction arising from an amount indemnified against by Corning under Section 3.01(b), and CCL shall have sole discretion to determine the court of competent jurisdiction in which to contest the proposed adjustment either before or after payment of the tax asserted to be payable, provided that CCL shall not settle, compromise or otherwise concede any such contested adjustment or asserted deficiency without the consent of Corning, which consent shall not be unreasonably withheld. If CCL pays a disputed amount of Taxes resulting from a disallowed Corning Deduction arising from an amount indemnified against by Corning under Section 3.01(b) or Section 3.01(c), and brings suit for refund, Corning shall advance the disputed amount of Taxes (but only to the extent of the portion of such disputed Taxes as is attributable to the disallowance of such Corning Deduction) to CCL within 15 business days of such payment by CCL. If CCL subsequently receives a refund or credit, of all or a part of the amount of disputed Taxes advanced by Corning, CCL shall promptly pay (and in any event within 15 business days) to Corning an amount equal to the portion of such refund or credit attributable to a Corning Deduction together with any interest received (including by offset) by CCL from the Taxing authority with respect to such portion. With respect to matters arising hereunder controlled by Corning, and where deemed necessary by Corning, CCL shall itself, and shall compel any 21 CCL Subsidiary to, authorize by appropriate powers of attorney such persons as Corning shall designate to represent CCL, or such CCL Subsidiary, with respect to such matters. (ix) If Corning and CCL are unable to agree on the proper calculation or treatment of a payment or other obligation, a Tax deduction or Tax Benefit Item or any other item described in this Section 3.01(d), then such disputed item or items shall be resolved by a nationally recognized accounting or law firm chosen and mutually acceptable to both parties. Such accounting or law firm shall resolve the dispute within 30 days of having the item or items referred to it and such resolution shall be binding on the parties. The costs, fees and expenses of the accounting or law firm shall be borne equally by Corning and CCL. In the event the parties are not able to agree on an accounting or law firm, each party shall select its own nationally recognized law firm (and bear the costs, fees and expenses thereof) and such law firms shall select a nationally recognized accounting or law firm which accounting or law firm shall be deemed to be mutually acceptable to both parties for the purpose of applying this provision. Nothing in this Section 3.01(d) shall require either party to take any position on a Tax return or for Tax purposes for which there is no reasonable basis. (x) All payments under Sections 3.01(b), 3.01(c) and 3.01(d) shall be made without gross-up for Taxes, except if (A) the Tax liability of Corning or a consolidated or combined group which has Corning as a member and which does not have CCL as a member (the "Corning Group") is actually reduced by a Tax deduction attributable to the payment by Corning of an amount indemnified against by Corning under Sections 3.01(b) or 3.01(c) in any tax year that ends after the Distribution Date because such payment is properly treated as an deduction against ordinary income for Corning or the Corning Group in computing its Taxable income for such year (a "CCL Payment Deduction") and (B) the Tax Liability of any CCL Company or the CCL Group for such year is actually increased by such payment because such payment is properly treated as an item of ordinary income for any CCL Company or the CCL Group, then Corning shall pay to CCL an amount equal to the lesser of the amount of such Corning Tax reduction and the amount of such CCL Tax increase, within 15 business days after the parties agree on the amount of the Corning Tax reduction and CCL Tax increase, provided, however, any payment by Corning to CCL shall be net of Taxes imposed on Corning or the Corning Group in respect of amounts paid by CCL to Corning under Section 3.01(d). For purposes of computing a Corning Tax increase, it shall be assumed that all losses and deductions other than the CCL Payment Deduction are applied to reduce the Tax Liability of Corning or the Corning Group before the CCL Payment Deduction is so applied. (e) Notwithstanding anything to the contrary in this agreement, Corning shall not indemnify, defend or hold harmless CCL or any Subsidiary of CCL against (x) costs and expenses relating to the investigations or claims referred to in Sections 3.01(b) and (c) (including, without limitation, fees and expenses of attorneys, consultants and other agents of CCL or any Subsidiary of CCL), or (y) losses of revenues or profits that may arise as a consequence of the claims or investigations referred to in Sections 3.01(b) or 3.01(c) or the 22 settlements entered into or judgments rendered as a result thereof or as a consequence of any exclusion from participation in any federal or state health care program, or (z) any other consequential or incidental damages that may be incurred by CCL or any Subsidiary of CCL, in each case which relates to the billing of any person or any beneficiary of such person by CCL, any Subsidiary of CCL or any past or present subsidiary of CLSI (or any of their predecessors) for services provided to any such person or beneficiary thereof by CCL, any Subsidiary of CCL or any past or present subsidiary of CLSI (or any of their predecessors). (f) All indemnification obligations of Corning pursuant to this Section 3.01 may be made or assumed by an Affiliate of Corning to the extent deemed necessary or desirable by Corning in its sole discretion; provided, however, that Corning shall remain liable for such obligations. SECTION 3.02. Indemnification by CCL. Except as otherwise specifically set forth in any provision of this Agreement or of any Ancillary Agreement, CCL shall indemnify and hold harmless the Corning Indemnitees and the Covance Indemnitees from and against any and all Indemnifiable Losses of the Corning Indemnitees and the Covance Indemnitees, respectively, arising out of, by reason of or otherwise in connection with (i) the CCL Liabilities or (ii) the breach by CCL of any provision of this Agreement or any Ancillary Agreement; provided, however, that CCL is under no obligation to indemnify or hold harmless Corning from and against any Indemnifiable Losses arising out of, or by reason of or otherwise in connection with any and all monetary payments by Corning in respect of (i) the investigations or claims referred to in Section 3.01(b) or (ii) claims referred to in Section 3.01(c) as to which no CCL Indemnitee is a party. SECTION 3.03. Indemnification by Covance. Except as otherwise specifically set forth in any provision of this Agreement or of any Ancillary Agreement, Covance shall indemnify and hold harmless the Corning Indemnitees and the CCL Indemnitees from and against any and all Indemnifiable Losses of the Corning Indemnities and the CCL Indemnitees, respectively, arising out of, by reason of or otherwise in connection with (i) the Covance Liabilities or (ii) the breach by Covance of any provision of this Agreement or any Ancillary Agreement. SECTION 3.04. Adjustments for Indemnification Obligations. If the amount that any party (an "Indemnifying Party") is or may be required to pay to any other person (an "Indemnitee") pursuant to Section 3.01, Section 3.02 or Section 3.03, as applicable, shall, at any time subsequent to the payment required by this Agreement, be reduced by insurance or other recovery, settlement or otherwise, the amount of such reduction, less any expenses incurred in connection therewith, shall promptly be repaid by the Indemnitee to the Indemnifying Party, up to the aggregate amount of any payments received from such Indemnifying Party pursuant to this Agreement in respect of such Indemnifiable Loss. 23 SECTION 3.05. Procedures for Indemnification - Third Party Claims. If a claim or demand is made against an Indemnitee by any person who is not a party to this Agreement (a "Third Party Claim") as to which such Indemnitee is entitled to indemnification pursuant to this Agreement, such Indemnitee shall notify the Indemnifying Party in writing, and in reasonable detail, of the Third Party Claim promptly (and in any event within 15 business days) after receipt by such Indemnitee of written notice of the Third Party Claim; provided, however, that failure to give such notification shall not affect the indemnification provided hereunder except to the extent the Indemnifying Party shall have been actually prejudiced as a result of such failure (except that the Indemnifying Party shall not be liable for any expenses incurred during the period in which the Indemnitee failed to give such notice). If a Third Party Claim is made against an Indemnitee, the Indemnifying Party shall be entitled to participate in the defense thereof and, in the case of an Indemnifying Party's obligation to indemnify the Indemnitee pursuant to Section 3.01(a), Section 3.01(b), Section 3.02 or Section 3.03, if the Indemnifying Party so chooses and acknowledges in writing its obligation to indemnify the Indemnitee therefor, to assume the defense thereof with counsel selected by the Indemnifying Party; provided, however, that such counsel is not reasonably objected to by the Indemnitee. Should the Indemnifying Party so elect to assume the defense of a Third Party Claim, the Indemnifying Party shall not be liable to the Indemnitee for legal or other expenses subsequently incurred by the Indemnitee in connection with the defense thereof. If the Indemnifying Party assumes such defense, the Indemnitee shall have the right to participate in the defense thereof and to employ counsel, at its own expense, separate from the counsel employed by the Indemnifying Party, it being understood that the Indemnifying Party shall control such defense. The Indemnifying Party shall be liable for the fees and expenses of counsel employed by the Indemnitee for any period during which the Indemnifying Party has failed to assume the defense thereof. If the Indemnifying Party so elects to assume the defense of any Third Party Claim, all of the Indemnitees shall cooperate with the Indemnifying Party in the defense or prosecution thereof. If the Indemnifying Party acknowledges in writing liability for a Third Party Claim, then in no event will the Indemnitee admit any liability with respect to, or settle, compromise or discharge, any Third Party Claim without the Indemnifying Party's prior written consent, which consent shall not be unreasonably withheld or delayed; provided, however, that the Indemnitee shall have the right to settle, compromise or discharge such Third Party Claim without the consent of the Indemnifying Party if the Indemnitee releases the Indemnifying Party from its indemnification obligation hereunder with respect to such Third Party Claim and such settlement, compromise or discharge would not otherwise adversely affect the Indemnifying Party. If the Indemnifying Party acknowledges in writing liability for a Third Party Claim, the Indemnitee will agree to any settlement, compromise or discharge of a Third Party Claim that the Indemnifying Party may recommend which by its terms (i) obligates the Indemnifying Party to pay the full amount of its indemnification obligation in connection with such Third Party Claim and (ii) releases the Indemnitee completely in 24 connection with such Third Party Claim and which would not otherwise adversely affect the Indemnitee; and provided further that the Indemnitee may refuse to agree to any such proposed settlement, compromise or discharge if the Indemnitee agrees that the Indemnifying Party's indemnification obligation with respect to such Third Party Claim shall not exceed the amount that would be required to be paid by or on behalf of the Indemnifying Party in connection with such proposed settlement, compromise or discharge. Notwithstanding the foregoing, the Indemnifying Party shall not be entitled to assume the defense of any Third Party Claim (and shall be liable for the fees and expenses of counsel incurred by the Indemnitee in defending such Third Party Claim) if the Third Party Claim seeks an order, injunction or other equitable relief or relief for other than money damages against the Indemnitee which the Indemnitee reasonably determines, after conferring with its counsel, cannot be separated from any related claim for money damages. If such equitable relief or other relief portion of the Third Party Claim can be so separated from that for money damages, the Indemnifying Party shall be entitled to assume the defense of the portion relating to money damages. The provisions contained in Section 3.01(d) shall control in the situations described particularly in that section. SECTION 3.06. Survival of Indemnities. The obligations of Corning, CCL and Covance under this Article III shall survive the sale or other transfer by any of them of any assets or businesses, with respect to any Indemnifiable Loss of any Indemnitee related to such assets or businesses. SECTION 3.07. Payments. All payments under this Agreement shall be made without gross-up for Taxes except as provided in Section 3.01(d)(x). ARTICLE IV ACCESS TO INFORMATION SECTION 4.01. Provision of Corporate Records. From and after the Distribution Date, upon the prior written request by Corning, CCL or Covance for specific and identified agreements, documents, books, records or files (collectively, "Records") relating to or affecting Corning, CCL or Covance, as applicable, Corning, CCL or Covance, as the case may be, shall arrange, as soon as reasonably practicable following the receipt of such request, for the provision of appropriate copies of such Records (or other originals thereof if the party making the request has a reasonable need for such originals) then in the possession of Corning, CCL or Covance, as the case may be, or any of their Subsidiaries, but only to the extent such items are not already in the possession of the requesting party; provided, however, that nothing in this Section 4.01 shall obligate a party to retain any records except to the extent required by 25 law or by an Ancillary Agreement or to provide Records if the party reasonably determines that such provision of Records would prevent it from claiming that the Records were privileged or otherwise not subject to disclosure in any Action. SECTION 4.02. Access to Information. (a) From and after the Distribution Date, each of Corning, CCL and Covance shall afford to the other and its authorized accountants, counsel and other designated representatives reasonable access during normal business hours, subject to appropriate restrictions for classified, privileged or confidential information, to the personnel, properties, books and records of such party and its Subsidiaries insofar as such access is reasonably required by the other party. (b) For a period of five years following the Distribution Date, each of Corning, CCL and Covance shall provide to the other, promptly following such time at which such documents shall be filed with the Commission, all documents that shall be filed by it and by any of its respective Subsidiaries with the Commission pursuant to the periodic and interim reporting requirements of the Exchange Act, and the rules and regulations of the Commission promulgated thereunder. SECTION 4.03. Reimbursement. Except to the extent otherwise contemplated by any Ancillary Agreement, a party providing Records or access to information to the other party under this Article IV shall be entitled to receive from the recipient, upon the presentation of invoices therefor, payments for such amounts, relating to supplies, disbursement and other out-of-pocket expenses, as may be reasonably incurred in providing such Records or access to information. SECTION 4.04. Confidentiality. (a) Each of (i) Corning and its Subsidiaries, (ii) CCL and its Subsidiaries and (iii) Covance and its Subsidiaries shall not use or permit the use of (without the prior written consent of the other) and shall hold, and shall cause its directors, officers, employees, agents, consultants and advisors to hold, in strict confidence, all information concerning the other parties in its possession, its custody or under its control (except to the extent that (x) such information has been in the public domain through no fault of such party, (y) such information has been later lawfully acquired from other sources by such party or (z) this Agreement, any Ancillary Agreement or any other agreement entered into pursuant hereto permits the use or disclosure of such information) to the extent such information (i) was obtained prior to or relates to periods prior to the Effective Time, (ii) relates to any Ancillary Agreement or (iii) is obtained in the course of performing services for the other party pursuant to any Ancillary Agreement, and each party shall not (without the prior written consent of the other) otherwise release or disclose such information to any other person, except such party's auditors and attorneys, unless compelled to disclose such information by judicial or administrative process or unless such disclosure is required by law and such party has used commercially reasonable efforts to consult with the other affected party or parties prior to such disclosure. 26 (b) To the extent that a party hereto is compelled by judicial or administrative process to disclose otherwise confidential information under circumstances in which any evidentiary privilege would be available, such party agrees to assert such privilege in good faith prior to making such disclosure. Each of the parties hereto agrees to consult with each relevant other party in connection with any such judicial or administrative process, including, without limitation, in determining whether any privilege is available, and further agrees to allow each such relevant party and its counsel to participate in any hearing or other proceeding (including, without limitations, any appeal of an initial order to disclose) in respect of such disclosure and assertion of privilege. ARTICLE V DISPUTE RESOLUTION SECTION 5.01. Good Faith Negotiations. In the event of a controversy, dispute or claim arising out of, in connection with, or in relation to the interpretation, performance, nonperformance, validity or breach of this Agreement or otherwise arising out of, or in any way related to this Agreement, including, without limitation, any claim based on contract, tort or statute (collectively, "Agreement Disputes"), the general counsels of the relevant parties shall negotiate in good faith for a reasonable period of time to settle such Agreement Dispute. SECTION 5.02. Procedure. If after such reasonable period such general counsels are unable to settle such Agreement Dispute (and in any event after 60 days have elapsed from the time the relevant parties began such negotiations), such Agreement Dispute shall be determined, at the request of any relevant party, by arbitration conducted in New York City, before and in accordance with the then-existing Rules for Commercial Arbitration of the American Arbitration Association (the "Rules"), and any judgment or award rendered by the arbitrator shall be final, binding and nonappealable (except upon grounds specified in 9 U.S.C. ss. 10(a) as in effect on the date hereof), and judgment may be entered by any state or federal court having jurisdiction thereof in accordance with Section 6.16 hereof. Unless the arbitrator otherwise determines, the pre-trial discovery of the then-existing Federal Rules of Civil Procedure and the then-existing Rules 46 and 47 of the Civil Rules for the United States District Court for the Southern District of New York shall apply to any arbitration hereunder. Any controversy concerning whether an Agreement Dispute is an arbitrable Agreement Dispute, whether arbitration has been waived, whether an assignee of this Agreement is bound to arbitrate, or as to the interpretation of enforceability of this Article V shall be determined by the arbitrator. The arbitrator shall be a retired or former judge of any United States District Court or Court of Appeals or such other qualified person as the relevant parties may agree to designate, provided, however, such individual has had substantial professional experience with regard to settling sophisticated commercial disputes. The parties intend that the provisions to arbitrate set forth herein be valid, enforceable and irrevocable. The designation of a situs or a 27 governing law for this Agreement or the arbitration shall not be deemed an election to preclude application of the Federal Arbitration Act, if it would be applicable. In his or her award the arbitrator shall allocate, in his or her discretion, among the parties to the arbitration all costs of the arbitration, including, without limitation, the fees and expenses of the arbitrator and reasonable attorneys' fees, costs and expert witness expenses of the parties. The undersigned agree to comply with any award made in any such arbitration proceedings that has become final in accordance with the Rules and agree to the entry of a judgment in any jurisdiction upon any award rendered in such proceedings becoming final under the Rules. The arbitrator shall be entitled if appropriate, to award any remedy in such proceedings, including, without limitation, monetary damages, specific performance and all other forms of legal and equitable relief; provided, however, the arbitrator shall not be entitled to award punitive damages. ARTICLE VI GENERAL PROVISIONS SECTION 6.01. Expenses. Except as otherwise set forth in this Agreement or any Ancillary Agreement, each of Corning, CCL and Covance shall bear its own costs and expenses incurred on or prior to the Distribution Date (whether or not paid on or prior to the Distribution Date) in connection with the preparation, execution, delivery and implementation of this Agreement and any Ancillary Agreement, the Information Statement, the Registration Statements and the Distributions and the consummation of the transactions contemplated thereby and the parties to this Agreement shall agree on an equitable allocation of costs and expenses where any item is not clearly allocable to Corning, CCL or Covance. Except as otherwise set forth in this Agreement or any Ancillary Agreement, each party shall bear its own costs and expenses incurred after the Distribution Date. SECTION 6.02. Notices. All notices, requests, claims, demands and other communications hereunder shall be in writing and shall be given or made (and shall be deemed to have been duly given or made upon receipt) by delivery in person, by courier service, by cable, by telecopy, by telegram, by telex or by registered or certified mail (postage prepaid, return receipt requested) to the respective parties at the addresses (or at such other address for a party as shall be specified in a notice given in accordance with this Section 6.02) listed below (with copies to Shearman & Sterling at 599 Lexington Avenue, New York, New York 10022, Attn: Creighton Condon): 28 (a) To Corning Incorporated: One Riverfront Plaza Corning, New York 14831 Telecopy: (607) 974-8656 Attn: General Counsel (b) To CCL: One Malcolm Avenue Teterboro, New Jersey 07608 Telecopy: (201) 462-4795 Attn: General Counsel (c) To Covance: 210 Carnegie Center Princeton, New Jersey 08540-6233 Telecopy: (609) 452-9865 Attn: General Counsel SECTION 6.03. Complete Agreement; Construction. This Agreement, including the Exhibits and Schedules, and the Ancillary Agreements shall constitute the entire agreement between the parties hereto with respect to the subject matter hereof and shall supersede all prior agreements and undertakings, both written and oral, between the parties with respect to the subject matter hereof and thereof. In the event of any inconsistency between this Agreement and any Schedule hereto, the Schedule shall prevail. Notwithstanding any other provisions in this Agreement to the contrary, in the event and to the extent that there shall be a conflict between the provisions of this Agreement and the provisions of any Ancillary Agreement, such Ancillary Agreement shall control. SECTION 6.04. Ancillary Agreements. This Agreement is not intended to address, and should not be interpreted to address, the matters specifically and expressly covered by the Ancillary Agreements. SECTION 6.05. Counterparts. This Agreement may be executed in one or more counterparts, and by the different parties hereto in separate counterparts, each of which when executed shall be deemed to be an original but all of which taken together shall constitute one and the same agreement. 29 SECTION 6.06. Survival of Agreements. Except as otherwise contemplated by this Agreement, all covenants and agreements of the parties contained in this Agreement shall survive the Distribution Date. SECTION 6.07. Waiver. The parties to this Agreement may (a) extend the time for the performance of any of the obligations or other acts of the other party or parties, (b) waive any inaccuracies in the representations and warranties of the other party or parties contained herein or in any document delivered by the other party or parties pursuant hereto or (c) waive compliance with any of the agreements or conditions of the other party or parties contained herein. Any such extension or waiver shall be valid only if set forth in an instrument in writing signed by the party to be bound thereby. Any waiver of any term or condition shall not be construed as a waiver of any subsequent breach or a subsequent waiver of the same term or condition, or a waiver of any other term or condition, of this Agreement. The failure of any party to assert any of its rights hereunder shall not constitute a waiver of any such rights. SECTION 6.08. Amendments. Subject to the terms of Section 6.11 hereof, this Agreement may not be amended or modified except (a) by an instrument in writing signed by, or on behalf of, the parties or (b) by a waiver in accordance with Section 6.07. SECTION 6.09. Assignment. This Agreement may not be assigned by operation of law or otherwise without the express written consent of the other parties (which consent may be granted or withheld in the sole discretion of the parties), and any attempt to assign any rights or obligations arising under this Agreement without such consent shall be void. SECTION 6.10. Successors and Assigns. The provisions of this Agreement shall be binding upon, inure to the benefit of and be enforceable by the parties and their respective successors and permitted assigns. SECTION 6.11. Termination. This Agreement (including, without limitation, Article III hereof) may be terminated and the Distributions may be amended, modified or abandoned at any time prior to the Distributions by and in the sole discretion of Corning without the approval of CCL or Covance or the shareholders of Corning. In the event of such termination, no party shall have any liability of any kind to any other party or any other person. After the Distributions, this Agreement may not be terminated except by an agreement in writing signed by the parties; provided, however, that Article III shall not be terminated or amended after the Distributions in respect of the third party beneficiaries thereto without the consent of such persons. SECTION 6.12. Subsidiaries. Each of the parties hereto shall cause to be performed, and hereby guarantees the performance of, all actions, agreements and obligations 30 set forth herein to be performed by any Subsidiary of such party or by any entity that is contemplated to be a Subsidiary of such party on and after the Distribution Date. SECTION 6.13. Third Party Beneficiaries. Except as provided in Article III relating to Indemnitees, this Agreement shall be binding upon and inure solely to the benefit of the parties hereto and their respective Subsidiaries, Affiliates and assigns and nothing herein, express or implied, is intended to or shall confer upon any third parties any legal or equitable right, benefit or remedy of any nature whatsoever under or by reason of this Agreement. SECTION 6.14. Headings. The descriptive headings contained in this Agreement are for convenience of reference only and shall not affect in any way the meaning or interpretation of this Agreement. SECTION 6.15. Specific Performance. The parties hereto agree that irreparable damage would occur in the event any provision of this Agreement was not performed in accordance with the terms hereof and that the parties shall be entitled to specific performance of the terms hereof, in addition to any other remedy at law or equity. SECTION 6.16. Governing Law. This Agreement shall be governed by, and construed in accordance with, the laws of the State of New York, applicable to contracts executed in and to be performed entirely within that state. Without limiting the provisions of Article V, all actions and proceedings arising out of or relating to this Agreement shall be heard and determined in any New York state or federal court sitting in the City of New York. SECTION 6.17. Public Announcements. (a) Prior to the Effective Time, neither CCL nor Covance shall make, or cause to be made, any press release or public announcement in respect of this Agreement or the transactions contemplated hereby or otherwise communicate with any news media without the prior written consent of Corning. (b) Following the Effective Time, no party to this Agreement shall make, or cause to be made, any press release or public announcement in respect of this Agreement or the transactions contemplated hereby or otherwise communicate with any news media without prior consultation with the other parties, and the parties shall cooperate as to the timing and contents of any such press release or public announcement. SECTION 6.18. Severability. If any term or other provision of this Agreement is invalid, illegal or incapable of being enforced by any law or public policy, all other terms and provisions of this Agreement shall nevertheless remain in full force and effect so long as the economic or legal substance of the transactions contemplated hereby is not affected in any manner materially adverse to any party. Upon such determination that any term or other provision is invalid, illegal or incapable of being enforced, the parties hereto shall negotiate in good faith to modify this Agreement so as to effect the original intent of the parties as closely 31 as possible in an acceptable manner in order that the transactions contemplated hereby are consummated as originally contemplated to the greatest extent possible. IN WITNESS WHEREOF, the parties have caused this Agreement to be executed as of the date first written above by their respective officers thereunto duly authorized. CORNING INCORPORATED by________________________________ Name: Title: CORNING LIFE SCIENCES INC. by_________________________________ Name: Title: CORNING CLINICAL LABORATORIES INC. (Delaware) by__________________________________ Name: Title: COVANCE INC. by__________________________________ Name: Title: CORNING CLINICAL LABORATORIES INC. (Michigan) by__________________________________ Name: Title: 32 EX-4.1 3 COMMON STOCK CERTIFICATE This is the text of a common stock certificate as issued by Quest Diagnostics Incorporated. There is a patterned background. There are circular designs in the upper left corner with a representation of the DNA chemical chain printed on top. Below this patterned area is a small circular graphic rendering of a chemist pouring from a bottle into a vial. There are several bottles in the foreground. COMMON STOCK NUMBER SHARES CUSIP 74834L100 SEE REVERSE FOR CERTAIN DEFINITIONS Quest Diagnostics Incorporated [Seal of Quest Diagnostics Incorporated] Corporate 1990 Delaware Incorporated under the law of the State of Delaware This is to Certify that is the owner of Fully-paid and non-assessable shares of the Common Stock of Quest Diagnostics Incorporated transferable in person or by duly authorized attorney upon surrender of this Certificate properly endorsed. This Certificate is not valid until countersigned by the transfer agent and registered by the Registrar. Witness, the facsimile seal of the Corporation and the facsimile signatures of its duly authorized officers. Countersigned and Registered: Chairman and Secretary Harris Trust and Savings Bank Chief Executive Officer Transfer Agent and Registrar Authorized Signature This Certificate is transferable in the City of Chicago, IL or New York, NY Dated EX-10.4 4 CREDIT AGREEMENT [Draft--11/17/96] - -------------------------------------------------------------------------------- CREDIT AGREEMENT dated as of November [ ], 1996 among Corning Clinical Laboratories Inc. The Banks Listed Herein NationsBank, N.A., as Issuing Bank, Wachovia Bank of Georgia, N.A., as Swingline Bank, and Morgan Guaranty Trust Company of New York, as Administrative Agent ------------------------------ Morgan Guaranty Trust Company of New York NationsBank, N.A. Wachovia Bank of Georgia, N.A., as Arranging Agents - -------------------------------------------------------------------------------- [Ref No. 1385-308] TABLE OF CONTENTS* Page ---- ARTICLE I Definitions ----------- SECTION 1.01 Definitions.................................................. 1 1.02 Accounting Terms and Determinations.......................... 26 1.03 Types of Borrowings.......................................... 26 ARTICLE II The Credits ----------- SECTION 2.01 Commitments to Lend.......................................... 27 2.02 Notice of Borrowing.......................................... 27 2.03 Notice to Banks; Funding of Loans............................ 28 2.04 Swingline Loans.............................................. 30 2.05 Notes........................................................ 31 2.06 Interest Rate Elections...................................... 32 2.07 Interest Rates............................................... 34 2.08 Fees......................................................... 37 2.09 Termination or Reduction of Commitments................................................ 38 2.10 Maturity of Loans............................................ 38 2.11 Optional Prepayments; Mandatory Prepayments................................................ 41 2.12 General Provisions as to Payments............................ 43 2.13 Funding Losses; Prepayment Premium........................... 44 2.14 Computation of Interest and Fees............................. 45 2.15 Letters of Credit............................................ 45 ARTICLE III Conditions ---------- SECTION 3.01 Effectiveness................................................ 52 3.02 Each Credit Event............................................ 56 - -------- *The Table of Contents is not a part of this Agreement. 2 ARTICLE IV Representations and Warranties ------------------------------ SECTION 4.01 Corporate Existence and Power.............................. 57 4.02 Corporate and Governmental Authorization; No Contravention.......................... 57 4.03 Binding Effect............................................. 58 4.04 Financial Information...................................... 58 4.05 Litigation................................................. 59 4.06 Compliance with ERISA...................................... 59 4.07 Environmental Matters...................................... 60 4.08 Taxes...................................................... 60 4.09 Subsidiaries............................................... 60 4.10 Regulatory Restriction on Borrowing........................ 61 4.11 Full Disclosure............................................ 61 4.12 Compliance with Laws and Agreements........................ 61 4.13 Governmental Approvals..................................... 61 4.14 Solvency................................................... 62 ARTICLE V Covenants --------- SECTION 5.01 Information................................................ 62 5.02 Payment of Obligations..................................... 66 5.03 Maintenance of Property; Insurance......................... 66 5.04 Conduct of Business and Maintenance of Existence............................................. 67 5.05 Compliance with Laws....................................... 67 5.06 Inspection of Property, Books and Records.................................................. 67 5.07 Additional Subsidiaries.................................... 68 5.08 Amendment of Certain Documents; Post-Closing Transaction Documents....................... 68 5.09 Investments................................................ 69 5.10 Negative Pledge............................................ 70 5.11 Consolidations, Mergers, Acquisitions and Sales of Assets...................................... 71 5.12 Use of Proceeds and Letters of Credit................................................... 73 5.13 Further Assurances......................................... 74 5.14 Transactions with Affiliates............................... 74 5.15 Restrictions Affecting Subsidiaries........................ 74 5.16 Restricted Payments........................................ 75 5.17 Debt....................................................... 76 5.18 Leverage Ratio............................................. 78 3 5.19 Debt Coverage Ratio........................................ 78 5.20 Coverage Ratio............................................. 79 5.21 Consolidated Capital Expenditures ......................... 80 5.22 Relationships with Corning Companies and CPS Companies........................................ 80 ARTICLE VI Defaults -------- SECTION 6.01 Events of Default.......................................... 81 6.02 Notice of Default.......................................... 84 ARTICLE VII The Agent and Arranging Agents ------------------------------ SECTION 7.01 Appointment and Authorization.............................. 85 7.02 Agent and Affiliates....................................... 85 7.03 Action by Agent............................................ 85 7.04 Consultation with Experts.................................. 85 7.05 Liability of Agent......................................... 85 7.06 Indemnification............................................ 86 7.07 Credit Decision............................................ 86 7.08 Successor Agent............................................ 87 7.09 Agent's Fees............................................... 87 7.10 Arranging Agents........................................... 87 ARTICLE VIII Change in Circumstances ----------------------- SECTION 8.01 Basis for Determining Interest Rate Inadequate or Unfair................................ 87 8.02 Illegality................................................. 88 8.03 Increased Cost and Reduced Return.......................... 89 8.04 Taxes...................................................... 90 8.05 Base Rate Loans Substituted for Affected Euro-Dollar Loans............................... 93 4 ARTICLE IX Miscellaneous ------------- SECTION 9.01 Notices..................................................... 94 9.02 No Waivers.................................................. 95 9.03 Expenses; Indemnification................................... 95 9.04 Sharing of Setoffs.......................................... 96 9.05 Amendments and Waivers...................................... 97 9.06 Successors and Assigns...................................... 98 9.07 Collateral..................................................100 9.08 Governing Law; Submission to Jurisdiction..............................................101 9.09 Counterparts; Integration...................................101 9.10 WAIVER OF JURY TRIAL........................................101 Exhibits: - --------- Exhibit A -- Form of Term Note Exhibit B -- Form of Working Capital Note Exhibit C -- Form of Guarantee Agreement Exhibit D -- Form of Indemnity, Subrogation and Contribution Agreement Exhibit E -- Form of Pledge Agreement Exhibit F -- Form of Security Agreement Exhibit G -- Forms of opinions of Borrower's counsel Exhibit H -- Form of opinion of Agent's counsel Exhibit I -- Form of Issuing Bank Agreement Exhibit J -- Form of Corning Subordination Agreement Schedules: - ---------- Schedule 1 -- Commitments Schedule 1.01(a) -- Certain Lease Schedule 1.01(b) -- Post-Closing Spin-Off Transactions Schedule 1.01(c) -- Quadrant Properties Schedule 1.01(d) -- Qualified Joint Venture Schedule 4.09 -- Subsidiaries Schedule 5.09 -- Investments Schedule 5.10 -- Existing Liens Schedule 5.11 -- Assets Schedule 5.15 -- Restrictions Affecting Subsidiaries Schedule 5.17 -- Existing Debt CREDIT AGREEMENT AGREEMENT dated as of November [ ], 1996, among CORNING CLINICAL LABORATORIES INC., the BANKS listed on the signature pages hereof, NATIONSBANK, N.A., as Issuing Bank, WACHOVIA BANK OF GEORGIA, N.A., as Swingline Bank, MORGAN GUARANTY TRUST COMPANY OF NEW YORK, as Administrative Agent, and MORGAN GUARANTY TRUST COMPANY OF NEW YORK, NATIONSBANK, N.A. and WACHOVIA BANK OF GEORGIA, N.A., as Arranging Agents. The parties hereto agree as follows: ARTICLE I Definitions ----------- SECTION 1.01. Definitions. The following terms, as used herein, have the following meanings: "Adjusted Consolidated Net Income" means, for any period, the net income of the Borrower and its Consolidated Subsidiaries, determined on a consolidated basis for such period, exclusive of the effect of (i) any extraordinary or other nonrecurring gain or loss, (ii) charges aggregating $46,000,000 during the quarter ended June 30, 1996, and $142,000,000 during the quarter ended September 30, 1996, to establish reserves related to claims arising out of billing practices, (iii) a charge aggregating $13,700,000 during the quarter ended September 30, 1996, to write-off certain development costs, (iv) non-recurring charges not exceeding $25,000,000 associated with the Spin-Off Transactions as disclosed in the Spin-Off Information, (v) non-cash charges coincident with the Spin-Off Distributions associated with the write-off of intangible assets in connection with certain changes in accounting policies as disclosed in the Spin-Off Information, (vi) any charges taken by the Borrower after the Effective Date, to the extent that the Borrower is reimbursed for the after-tax cash portion of such charges pursuant to the Transaction Agreement, and (vii) non-cash charges associated with the issuance by the Borrower of shares of its common stock to its employees. 2 "Adjusted London Interbank Offered Rate" has the meaning set forth in Section 2.07(b). "Administrative Questionnaire" means, with respect to each Bank, an administrative questionnaire in the form prepared by the Agent and submitted to the Agent (with a copy to the Borrower) duly completed by such Bank. "Affiliate" means (i) any Person that directly, or indirectly through one or more intermediaries, controls the Borrower (a "Controlling Person") or (ii) any Person (other than the Borrower or a Subsidiary) which is controlled by or under common control with a Controlling Person. As used herein, the term "control" means possession, directly or indirectly, of the power to vote 10% or more of any class of voting securities of a Person or to direct or cause the direction of the management or policies of a Person, whether through the ownership of voting securities, by contract or otherwise. The Corning Companies and the CPS Companies shall be deemed to be Affiliates prior to consummation of the Spin-Off Distributions. "Agent" means Morgan Guaranty Trust Company of New York in its capacity as administrative agent for the Banks hereunder, and its successors in such capacity. "Applicable Lending Office" means, with respect to any Bank, (i) in the case of its Base Rate Loans, its Domestic Lending Office and (ii) in the case of its Euro-Dollar Loans, its Euro-Dollar Lending Office. "Applicable Percentage" of any Bank means the percentage of the aggregate Working Capital Commitments represented by such Bank's Working Capital Commitment. "Arranging Agents" means Morgan Guaranty Trust Company of New York, NationsBank, N.A. and Wachovia Bank of Georgia, N.A. "Asset Sale" means any sale or other disposition (including any sale and leaseback) by the Borrower or any of its Subsidiaries of any asset or assets, other than (i) any sale or other disposition of inventory or used or surplus equipment including, without limitation, motor vehicles, in each case in the ordinary course of business, or (ii) any sale or other disposition of surplus real estate; provided that sales and dispositions of surplus real estate shall constitute "Asset Sales" to the extent that the aggregate 3 cumulative amount of Net Cash Proceeds of all sales and dispositions of such real estate on and after the Effective Date exceed $5,000,000. "Asset Swap" means (a) any direct exchange by the Borrower or any of its Subsidiaries of assets comprising (without limitation) one or more Quadrant Four Properties for assets comprising (without limitation) one or more Quadrant One Properties, Quadrant Two Properties or Quadrant Three Properties or (b) any series of transactions involving a sale by the Borrower or any of its Subsidiaries of assets comprising (without limitation) one or more Quadrant Four Properties combined with the acquisition by the Borrower or any of its Subsidiaries of assets comprising (without limitation) one or more Quadrant One Properties, Quadrant Two Properties or Quadrant Three Properties; provided that: (i) prior to consummating any such transaction (and prior to consummating the first of any series of such transactions) the Borrower shall notify the Agent of all clinical laboratories to be exchanged, sold or acquired in connection with such transactions and the material terms of such transactions; (ii) within five Domestic Business Days after consummating the first of any series of such transactions, the Borrower shall deliver to the Agent copies of executed contracts or letters of intent with respect to all other transactions involved in such series of transactions; and (iii) all transactions involved in any such series of transactions shall be consummated within six months after consummation of the first transaction in such series. If all transactions in a series of transactions intended to qualify as an Asset Swap are not consummated within six months after the first such transaction, then none of such transactions shall be considered to be part of an Asset Swap (except to the extent that the completed transactions alone would constitute an Asset Swap). "Assignee" has the meaning set forth in Section 9.06(c). "Bank" means each Person (other than the Borrower) listed on the signature pages hereof, each Assignee which 4 becomes a Bank pursuant to Section 9.06(c), and their respective successors. References herein to a Bank or Banks may include the Issuing Banks or the Swingline Bank or both as the context requires. "Base Rate" means, for any day, a rate per annum equal to the higher of (i) the Prime Rate for such day and (ii) the sum of 1/2 of 1% plus the Federal Funds Rate for such day. "Base Rate Loan" means (i) a Loan which bears interest at the Base Rate pursuant to the applicable Notice of Borrowing or Notice of Interest Rate Election or the provisions of Article VIII or (ii) an overdue amount which was a Base Rate Loan immediately before it became overdue. "Benefit Arrangement" means at any time an employee benefit plan within the meaning of Section 3(3) of ERISA which is not a Plan or a Multiemployer Plan and which is maintained or otherwise contributed to by any member of the ERISA Group. "Borrower" means Corning Clinical Laboratories Inc. (to be renamed Quest Diagnostics Incorporated), a Delaware corporation, and its successors. "Borrowing" has the meaning set forth in Section 1.03. "Calculation Period" means a period of four consecutive fiscal quarters of the Borrower. "CCL/CPS Spin-Off Tax Indemnification Agreement" means the tax indemnification agreements to be entered into between CPS and the Borrower as contemplated by the Spin-Off Information. "Class" has the meaning set forth in Section 1.03. "CLSI" means Corning Life Sciences Inc. "Commitment" means, with respect to each Bank, its Tranche A Commitment, Tranche B Commitment or Working Capital Commitment or any combination thereof, as the context may require. "Commitment Fee Rate" has the meaning set forth in Section 2.07(a). 5 "Consolidated Capital Expenditures" means, for any period, (i) the additions to property, plant and equipment and other capital expenditures of the Borrower and its Consolidated Subsidiaries for such period, as the same are or would be set forth in a consolidated statement of cash flows of the Borrower and its Consolidated Subsidiaries for such period and (ii) capital lease obligations incurred during such period. "Consolidated EBIT" means, for any period, Adjusted Consolidated Net Income for such period plus, to the extent deducted in determining Adjusted Consolidated Net Income for such period, the aggregate amount of (i) Consolidated Interest Expense and (ii) income tax expense. "Consolidated EBITDA" means, for any period, Consolidated EBIT for such period plus, to the extent deducted in determining Adjusted Consolidated Net Income for such period, the aggregate amount of depreciation and amortization. "Consolidated Interest Expense" means, for any period, the interest expense of the Borrower and its Consolidated Subsidiaries determined on a consolidated basis for such period. "Consolidated Rental Expense" means, for any period, the sum of (a) the aggregate rental expense of the Borrower and its Consolidated Subsidiaries determined on a consolidated basis for such period in accordance with generally acceptable accounting principles plus (b) rentals during such period under the lease described in Schedule 1.01(a) to the extent paid by the Borrower or its Subsidiaries. "Consolidated Subsidiary" means at any date any Subsidiary or other entity the accounts of which would be consolidated with those of the Borrower in its consolidated financial statements if such statements were prepared as of such date. "Consolidated Total Capitalization" means at any date the sum of (a) Consolidated Total Debt at such date and (b) the consolidated stockholders' equity of the Borrower at such date adjusted to exclude all write-ups (other than write-ups of assets of a going concern business made within twelve months after the acquisition of such business) 6 subsequent to the Effective Date in the book value of any asset owned by the Borrower or a Consolidated Subsidiary. "Consolidated Total Debt" means at any date the aggregate principal amount of the Debt (excluding any Excess Corning Debt) of the Borrower and its Consolidated Subsidiaries, determined on a consolidated basis at such date. "Corning" means Corning Incorporated, a New York corporation, and its successors. "Corning Companies" means Corning and its subsidiaries other than the Borrower, its Subsidiaries and the CPS Companies. "Corning Subordination Agreement" means a Subordination Agreement among Corning, the Borrower and the Agent substantially in the form of Exhibit J, as the same may be amended from time to time. "Coverage Ratio" means, for any Calculation Period, the ratio of (i) the sum of (a) Consolidated EBITDA plus (b) Consolidated Rental Expense to (ii) the sum of Consolidated Interest Expense (excluding interest, if any, on Excess Corning Debt) and Consolidated Rental Expense for such Calculation Period. "CPS" means Covance Inc. (formerly known as Corning Pharmaceutical Services Inc.), a Delaware corporation. "CPS Capitalization Transactions" means (i) the contribution by the Corning Companies and the Borrower and its Subsidiaries to the CPS Companies of all properties and other assets (including, without limitation, the capital stock of all corporations that are to be subsidiaries of CPS) that are to be properties and assets of CPS and its subsidiaries at the time of the Spin-Off Distributions as contemplated by the Spin-Off Information, (ii) the capitalization of CPS and its subsidiaries as contemplated by the Spin-Off Information (including, without limitation, the elimination of all Debt and other intercompany balances between the Corning Companies, the Borrower and its Subsidiaries, on the one hand, and the CPS Companies, on the other hand) and (iii) the transfer by the CPS Companies to the Borrower and/or its Subsidiaries of any and all properties and other assets held by the CPS Companies that 7 are to be properties and assets of the Borrower and its Subsidiaries after giving effect to the Spin-Off Distributions as contemplated by the Spin-Off Information. "CPS Companies" means CPS and the corporations and other entities that are to be subsidiaries of CPS at the time of the Spin-Off Distributions as contemplated by the Spin-Off Information. "Debt" of any Person means at any date, without duplication, (i) all obligations of such Person for borrowed money, (ii) all obligations of such Person evidenced by bonds (other than bid and performance bonds), debentures, notes or other similar instruments, (iii) all obligations of such Person to pay the deferred purchase price of property or services, except trade accounts payable arising in the ordinary course of business, (iv) all obligations of such Person as lessee which are capitalized in accordance with generally accepted accounting principles, (v) all non- contingent obligations (and, for purposes of Section 5.17 and the definitions of Material Debt and Material Financial Obligations, all contingent obligations) of said Person to reimburse any bank or other person in respect of amounts paid under a letter of credit or similar instrument, (vi) all Debt secured by a Lien on any asset of such Person, whether or not such Debt is otherwise an obligation of such Person, and (vii) all Debt of others Guaranteed by such Person. "Debt Coverage Ratio" means, at any time, the ratio of (i) Consolidated Total Debt at such time to (ii) Consolidated EBITDA for the most recent Calculation Period ended at or prior to such time. "Default" means any condition or event which constitutes an Event of Default or which with the giving of notice or lapse of time or both would, unless cured or waived, become an Event of Default. "Derivatives Obligations" of any Person means all obligations of such Person in respect of any rate swap transaction, basis swap, forward rate transaction, commodity swap, commodity option, equity or equity index swap, equity or equity index option, bond option, interest rate option, foreign exchange transaction, cap transaction, floor transaction, collar transaction, currency swap transaction, cross-currency rate swap transaction, currency option or any other similar transaction (including any option with respect 8 to any of the foregoing transactions) or any combination of the foregoing transactions. "Domestic Business Day" means any day except a Saturday, Sunday or other day on which commercial banks in New York City are authorized by law to close. "Domestic Lending Office" means, as to each Bank, its office located at its address set forth in its Administrative Questionnaire (or identified in its Administrative Questionnaire as its Domestic Lending Office) or such other office as such Bank may hereafter designate as its Domestic Lending Office by notice to the Borrower and the Agent. "Effective Date" means the date on which the obligations of the Banks to make Loans and of the Issuing Banks to issue Letters of Credit under this Agreement become effective in accordance with Section 3.01. "Environmental Laws" means all laws, rules, regulations, codes, ordinances, orders, decrees, judgments, injunctions, notices or binding agreements issued, promulgated or entered into by any governmental body, agency or official, relating in any way to the protection of the environment, preservation or reclamation of natural resources, the management, release or threatened release of any Hazardous Material or to health and safety matters. "Environmental Liability" means any liability, contingent or otherwise (including any liability for damages, costs of environmental remediation, fines, penalties or indemnities), of the Borrower or any Subsidiary directly or indirectly resulting from or based upon (a) violation of any Environmental Law, (b) the generation, use, handling, transportation, storage, treatment or disposal of any Hazardous Materials, (c) exposure to any Hazardous Materials, (d) the release or threatened release of any Hazardous Materials into the environment or (e) any contract, agreement or other consensual arrangement pursuant to which liability is assumed or imposed with respect to any of the foregoing. "ERISA" means the Employee Retirement Income Security Act of 1974, as amended, or any successor statute. "ERISA Group" means the Borrower, any Subsidiary and all members of a controlled group of corporations and 9 all trades or businesses (whether or not incorporated) under common control which, together with the Borrower or any Subsidiary, are treated as a single employer under Section 414 of the Internal Revenue Code. "Euro-Dollar Business Day" means any Domestic Business Day on which commercial banks are open for international business (including dealings in dollar deposits) in London. "Euro-Dollar Lending Office" means, as to each Bank, its office, branch or affiliate located at its address set forth in its Administrative Questionnaire (or identified in its Administrative Questionnaire as its Euro-Dollar Lending Office) or such other office, branch or affiliate of such Bank as it may hereafter designate as its Euro-Dollar Lending Office by notice to the Borrower and the Agent. "Euro-Dollar Loan" means (i) a Loan which bears interest at a Euro-Dollar Rate pursuant to the applicable Notice of Borrowing or Notice of Interest Rate Election or (ii) an overdue amount which was a Euro-Dollar Loan immediately before it became overdue. "Euro-Dollar Margin" has the meaning set forth in Section 2.07(b). "Euro-Dollar Rate" means a rate of interest determined pursuant to Section 2.07(b) on the basis of the Adjusted London Interbank Offered Rate. "Euro-Dollar Reserve Percentage" means, for any day, that percentage (expressed as a decimal) which is in effect on such day, as prescribed by the Board of Governors of the Federal Reserve System (or any successor) for determining the maximum reserve requirement for a member bank of the Federal Reserve System in New York City with deposits exceeding five billion dollars in respect of "Eurocurrency liabilities" (or in respect of any other category of liabilities which includes deposits by reference to which the interest rate on Euro-Dollar Loans is determined or any category of extensions of credit or other assets which includes loans by a non-United States office of any Bank to United States residents). "Event of Default" has the meaning set forth in Section 6.01. 10 "Excluded Subsidiary" means (a) each of National Imaging Associates Inc. and Nichols Institute Diagnostics and (b) each other Subsidiary existing on the date of this Agreement identified on Schedule 4.09 as an Excluded Subsidiary unless and until either (i) such Subsidiary has consolidated assets in excess of $ 1,000,000 or (ii) such Subsidiary's consolidated revenues for any fiscal year of the Borrower exceeds 1.0% of the Borrower's consolidated revenues for such fiscal year. Each Subsidiary listed in clause (a) of this definition shall cease to be an Excluded Subsidiary on the first anniversary of the date of this Agreement. "Excess Corning Debt" means any Debt of the Borrower or any of its Subsidiaries to any of the Corning Companies that remains outstanding on the Effective Date after giving effect to a repayment of such Debt to be made on the Effective Date, but excluding Permitted Subordinated Debt. "Existing Letters of Credit" means the letters of credit identified on Schedule 5.17. "Federal Funds Rate" means, for any day, the rate per annum (rounded upward, if necessary, to the nearest 1/100th of 1%) equal to the weighted average of the rates on overnight Federal funds transactions with members of the Federal Reserve System arranged by Federal funds brokers on such day, as published by the Federal Reserve Bank of New York on the Domestic Business Day next succeeding such day, provided that (i) if such day is not a Domestic Business Day, the Federal Funds Rate for such day shall be such rate on such transactions on the next preceding Domestic Business Day as so published on the next succeeding Domestic Business Day, and (ii) if no such rate is so published on such next succeeding Domestic Business Day, the Federal Funds Rate for such day shall be the average rate quoted to Morgan Guaranty Trust Company of New York on such day on such transactions as determined by the Agent. "Financing Transactions" means the execution and delivery of the Loan Documents and the performance of the transactions contemplated by the Loan Documents, including the borrowing of the Loans, the issuance of Letters of Credit and the grant of security interests under the Security Documents. 11 "Foreign Subsidiary" means a Subsidiary existing on the date of this Agreement identified on Schedule 4.09 as a Foreign Subsidiary. "Group of Loans" means at any time a group of Loans of the same Class consisting of (i) all Loans of such Class which are Base Rate Loans at such time and (ii) all Euro-Dollar Loans of such Class having the same Interest Period at such time, provided that, if a Loan of any particular Bank is converted to or made as a Base Rate Loan pursuant to Article VIII, such Loan shall be included in the same Group or Groups of Loans from time to time as it would have been in if it had not been so converted or made. "Guarantee" by any Person means any obligation, contingent or otherwise, of such Person directly or indirectly guaranteeing any Debt of any other Person and, without limiting the generality of the foregoing, any obligation, direct or indirect, contingent or otherwise, of such Person (i) to purchase or pay (or advance or supply funds for the purchase or payment of) such Debt (whether arising by virtue of partnership arrangements, by agreement to keep-well, to purchase assets, goods, securities or services, to take-or-pay, or to maintain financial statement conditions or otherwise) or (ii) entered into for the purpose of assuring in any other manner the holder of such Debt of the payment thereof or to protect such obligee against loss in respect thereof (in whole or in part), provided that the term Guarantee shall not include endorsements for collection or deposit in the ordinary course of business. The term "Guarantee" used as a verb has a corresponding meaning. "Guarantee Agreement" means a Guarantee Agreement among the Agent and the Guarantors substantially in the form of Exhibit C, as the same may be amended from time to time. "Guarantor" means each Person that is or becomes party to the Guarantee Agreement as a Guarantor and their respective successors. "Hazardous Materials" means all explosive or radioactive substances or wastes, all hazardous or toxic substances, wastes or other pollutants, and all other substances or wastes of any nature regulated pursuant to any Environmental Law, including petroleum or petroleum distillates, asbestos or asbestos containing materials, 12 polychlorinated biphenyls, radon gas, infectious or medical wastes. "Indemnity, Subrogation and Contribution Agreement" means an Indemnity, Subrogation and Contribution Agreement among the Borrower, the Subsidiaries and the Security Agent, substantially in the form of Exhibit D hereto, as the same may be amended from time to time. "Initial Guarantors" means the Subsidiaries listed on Schedule 4.09, other than Subsidiaries identified on such Schedule as Excluded Subsidiaries, Foreign Subsidiaries, Qualified Joint Ventures and Joint Venture Holding Companies. "Initial Pricing Period" means the period commencing on the Effective Date and ending on the date on which the Borrower's financial statements for the period ended December 31, 1996, shall have been delivered to the Agent. "Interest Period" means with respect to each Euro- Dollar Loan, the period commencing on the date of borrowing specified in the applicable Notice of Borrowing or on the date specified in the applicable Notice of Interest Rate Election and ending one, two, three or six months thereafter, as the Borrower may elect in the applicable notice; provided that: (a) any Interest Period which would otherwise end on a day which is not a Euro-Dollar Business Day shall be extended to the next succeeding Euro-Dollar Business Day unless such Euro-Dollar Business Day falls in another calendar month, in which case such Interest Period shall end on the next preceding Euro-Dollar Business Day; (b) any Interest Period which begins on the last Euro-Dollar Business Day of a calendar month (or on a day for which there is no numerically corresponding day in the calendar month at the end of such Interest Period) shall, subject to clause (c) below, end on the last Euro-Dollar Business Day of a calendar month; and (c) any Interest Period which would otherwise end after the Maturity Date (in the case of Term Loans) or the Termination Date (in the case of Working Capital 13 Loans) shall end on the Maturity Date or the Termination Date, as applicable. "Internal Revenue Code" means the Internal Revenue Code of 1986, as amended, or any successor statute. "Investment" means any investment in any Person, whether by means of share purchase, capital contribution, loan, Guarantee, time deposit or otherwise (but not including any demand deposit or any account receivable arising in the ordinary course of business). "IRS Ruling Letter" means the private letter ruling dated November 5, 1996, from the Internal Revenue Service to Corning. "Issuing Bank" means (i) NationsBank, N.A. and (ii) any other Bank that shall enter into an Issuing Bank Agreement as provided in Section 2.15(l), in each case in their respective capacities as the issuers of Letters of Credit, and their respective successors in such capacity. "Issuing Bank Agreement" has the meaning set forth in Section 2.15(l). "Joint Venture Holding Company" means a Subsidiary the only non-cash asset of which is its ownership interest in a Qualified Joint Venture and the cash assets of which are promptly distributed. "Letter of Credit" means any letter of credit issued pursuant to Section 2.15. "Letter of Credit Disbursement" means a payment or disbursement made by an Issuing Bank pursuant to a Letter of Credit. "Letter of Credit Exposure" means at any time the sum of (i) the aggregate undrawn amount of all outstanding Letters of Credit plus (ii) the aggregate amount of all Letter of Credit Disbursements not yet reimbursed by the Borrower as provided in Section 2.15. The Letter of Credit Exposure of any Bank at any time shall mean its Applicable Percentage of the aggregate Letter of Credit Exposure at such time. 14 "Letter of Credit Sublimit Amount" means the lesser of $20,000,000 and the total amount of the Working Capital Commitments. "Level I Pricing Period" means any period (other than the Initial Pricing Period) during which the Borrower's Debt Coverage Ratio as of the end of the most recent Calculation Period is less than 2.0 to 1.0. Any such period shall commence on (and include) the date of delivery to the Agent of financial statements demonstrating that such period has commenced and shall terminate on (and exclude) the date of delivery to the Agent of financial statements demonstrating that such period has terminated. "Level II Pricing Period" means any period (other than the Initial Pricing Period) during which the Borrower's Debt Coverage Ratio as of the end of the most recent Calculation Period is 2.0 to 1.0 or greater but less than 2.25 to 1.0. Any such period shall commence on (and include) the date of delivery to the Agent of financial statements demonstrating that such period has commenced and shall terminate on (and exclude) the date of delivery to the Agent of financial statements demonstrating that such period has terminated. "Level III Pricing Period" means any period (other than the Initial Pricing Period) during which the Borrower's Debt Coverage Ratio as of the end of the most recent Calculation Period is 2.25 to 1.0 or greater but less than 2.5 to 1.0. Any such period shall commence on (and include) the date of delivery to the Agent of financial statements demonstrating that such period has commenced and shall terminate on (and exclude) the date of delivery to the Agent of financial statements demonstrating that such period has terminated. "Level IV Pricing Period" means any period (other than the Initial Pricing Period) during which the Borrower's Debt Coverage Ratio as of the end of the most recent Calculation Period is 2.5 to 1.0 or greater but less than 2.75 to 1.0. Any such period shall commence on (and include) the date of delivery to the Agent of financial statements demonstrating that such period has commenced and shall terminate on (and exclude) the date of delivery to the Agent of financial statements demonstrating that such period has terminated. 15 "Level V Pricing Period" means any period (other than the Initial Pricing Period) during which the Borrower's Debt Coverage Ratio as of the end of the most recent Calculation Period is 2.75 to 1.0 or greater but less than 3.0 to 1.0. Any such period shall commence on (and include) the date of delivery to the Agent of financial statements demonstrating that such period has commenced and shall terminate on (and exclude) the date of delivery to the Agent of financial statements demonstrating that such period has terminated. "Level VI Pricing Period" means (i) the Initial Pricing Period and (ii) any other period during which the Borrower's Debt Coverage Ratio as of the end of the most recent Calculation Period is 3.0 to 1.0 or greater but less than 3.5 to 1.0. Any such period referred to in clause (ii) above shall commence on (and include) the date of delivery to the Agent of financial statements demonstrating that such period has commenced and shall terminate on (and exclude) the date of delivery to the Agent of financial statements demonstrating that such period has terminated. "Level VII Pricing Period" means any period that is not a Level I Pricing Period, a Level II Pricing Period, a Level III Pricing Period, a Level IV Pricing Period, a Level V Pricing Period or a Level VI Pricing Period. "Leverage Ratio" means, at any time, the ratio of (i) Consolidated Total Debt at such time to (ii) Consolidated Total Capitalization at such time. "Lien" means, with respect to any asset, any mortgage, lien, pledge, charge, security interest or encumbrance of any kind, or any other type of preferential arrangement that has the practical effect of creating a security interest, in respect of such asset. For the purposes of this Agreement, the Borrower or any Subsidiary shall be deemed to own subject to a Lien any asset which it has acquired or holds subject to the interest of a vendor or lessor under any conditional sale agreement, capital lease or other title retention agreement relating to such asset. "Loan" means a Base Rate Loan or a Euro-Dollar Loan of either Class or a Swingline Loan and "Loans" means any combination of the foregoing. "Loan Documents" means this Agreement, the Guarantee Agreement, the Security Documents, the Corning 16 Subordination Agreement, the Notes and any Issuing Bank Agreement. "London Interbank Offered Rate" has the meaning set forth in Section 2.07(b). "Margin Stock" has the meaning given to such term under Regulation U. "Material Adverse Effect" means (i) a materially adverse effect on the business, assets, liabilities, operations or condition (financial or otherwise) of the Borrower and its Consolidated Subsidiaries considered as a whole (after giving effect to any insurance proceeds under existing insurance policies and indemnification payments by Corning or CPS under the Transaction Documents), (ii) material impairment of the ability of the Borrower or any Subsidiary to perform any of its obligations under any Loan Document to which it is or will be a party, or (iii) material impairment of the rights of or benefits available to the Agent, the Security Agent or the Banks under any Loan Document. "Material Debt" means Debt (other than the Notes) of the Borrower and/or one or more of its Subsidiaries, arising in one or more related or unrelated transactions, in an aggregate principal amount equal to or exceeding $10,000,000. "Material Financial Obligations" means a principal or face amount of Debt and/or payment or collateralization obligations in respect of Derivatives Obligations of the Borrower and/or one or more of its Subsidiaries, arising in one or more related or unrelated transactions, equal to or exceeding in the aggregate $10,000,000. "Material Plan" means at any time a Plan or Plans having aggregate Unfunded Liabilities in excess of $10,000,000. "Multiemployer Plan" means at any time an employee pension benefit plan within the meaning of Section 4001(a)(3) of ERISA to which any member of the ERISA Group (i) is then making or accruing an obligation to make contributions or (ii) has within the preceding five plan years made contributions, including for these purposes any Person which ceased to be a member of the ERISA Group during such five year period; provided, however, that clause (ii) 17 shall apply solely to the extent that any member of the ERISA Group as of such time has incurred or could reasonably be expected to incur liability under Title IV of ERISA with respect to such plan. "Net Cash Proceeds" means (a) in connection with any sale or other disposition of any asset or any settlement by, or receipt of payment in respect of, any property or casualty insurance claim or condemnation award in respect thereof, the cash proceeds (including any cash payments received by way of deferred payment of principal pursuant to a note or installment receivable or purchase price adjustment receivable or otherwise, but only as and when received) of such sale, settlement or payment, net of reasonable and documented attorneys' fees, accountants' fees, investment banking fees, amounts required to be applied to the repayment of Debt secured by a Lien expressly permitted hereunder on any asset which is the subject of such sale, insurance claim or condemnation award in respect thereof (other than any Lien in favor of the Security Agent for the benefit of the Banks), any amounts required to be escrowed or reserved by the Borrower or its Subsidiaries with respect to liabilities retained by the Borrower or its Subsidiaries in connection with such sale or disposition, including any indemnification or purchase price adjustments (provided that if and to the extent any such amounts are released to the Borrower or any of its Subsidiaries from escrow or such reserve, such amounts will be treated as Net Cash Proceeds) and other customary fees and other costs and expenses actually incurred in connection therewith and net of taxes paid or reasonably estimated to be payable as a result thereof (after taking into account any tax sharing arrangements) and (b) in connection with any issuance or sale by the Borrower or any of its Subsidiaries to any Person other than the Borrower or any of its Subsidiaries of equity securities or debt securities or instruments or the incurrence of loans, the cash proceeds received from such issuance or incurrence, net of investment banking fees, reasonable and documented attorneys' fees, accountants' fees, underwriting discounts and commissions and other customary fees and other costs and expenses actually incurred in connection therewith. "Note" means a promissory note of the Borrower substantially in the form of Exhibit A or B, evidencing the obligation of the Borrower to repay Loans, and "Notes" means any or all of such promissory notes issued hereunder. 18 "Notice of Borrowing" has the meaning set forth in Section 2.02. "Notice of Interest Rate Election" has the meaning set forth in Section 2.06. "Obligations" has the meaning set forth in the Guarantee Agreement. "Parent" means, with respect to any Bank, any Person controlling such Bank. "Participant" has the meaning set forth in Section 9.06(b). "PBGC" means the Pension Benefit Guaranty Corporation or any entity succeeding to any or all of its functions under ERISA. "Permitted Preferred Stock" means the 1,000 shares of cumulative preferred stock of the Borrower described in the Spin-Off Information to be acquired by Corning. "Permitted Subordinated Debt" means up to $150,000,000 aggregate principal amount of unsecured subordinated Debt of the Borrower in the form of the Senior Subordinated Notes or the Senior Subordinated Bridge Loans or, if the Corning Subordination Agreement has been executed and delivered, Debt of the Borrower to Corning. "Person" means an individual, a corporation, a limited liability company, a partnership, an association, a trust or any other entity or organization, including a governmental or political subdivision or an agency or instrumentality thereof. "Plan" means at any time an employee pension benefit plan (other than a Multiemployer Plan) which is covered by Title IV of ERISA or subject to the minimum funding standards under Section 412 of the Internal Revenue Code and either (i) is maintained, or contributed to, by any member of the ERISA Group for employees of any member of the ERISA Group or (ii) has at any time within the preceding five years been maintained, or contributed to, by any Person which was at such time a member of the ERISA Group for employees of any Person which was at such time a member of the ERISA Group; provided, however, that clause (ii) shall 19 apply solely to the extent that any member of the ERISA Group as of such time has incurred or could reasonably be expected to incur liability under Title IV of ERISA with respect to such plan. "Pledge Agreement" means a Pledge Agreement among the Borrower, the Subsidiaries (other than Qualified Joint Ventures, Joint Venture Holding Companies, Foreign Subsidiaries and Excluded Subsidiaries) and the Security Agent, substantially in the form of Exhibit E hereto, as the same may be amended from time to time. "Preliminary Spin-Off Transactions" means the Spin-Off Transactions other than the transactions described in Schedule 1.01(b). "Pricing Period" means a Level I Pricing Period, a Level II Pricing Period, a Level III Pricing Period, a Level IV Pricing Period, a Level V Pricing Period, a Level VI Pricing Period or a Level VII Pricing Period. "Prime Rate" means the rate of interest publicly announced by Morgan Guaranty Trust Company of New York in New York City from time to time as its Prime Rate. "Quadrant One Property" means any clinical laboratory a substantial majority of the business of which is derived from a geographical region identified as a "Quadrant One Property" in Schedule 1.01(c). "Quadrant Two Property" means any clinical laboratory a substantial majority of the business of which is derived from a geographical region identified as a "Quadrant Two Property" in Schedule 1.01(c). "Quadrant Three Property" means any clinical laboratory a substantial majority of the business of which is derived from a geographical region identified as a "Quadrant Three Property" in Schedule 1.01(c). "Quadrant Four Property" means any clinical laboratory a substantial majority of the business of which is derived from a geographical region identified as a "Quadrant Four Property" in Schedule 1.01(c). "Qualified Joint Venture" means any of (i) Associated Clinical Laboratories L.P., (ii) the joint venture described in Schedule 1.01(d) and (iii) one 20 additional joint venture that the Borrower or any of its Subsidiaries may enter into in accordance with clause (d) of Section 5.09. "Quarterly Dates" means each March 31, June 30, September 30 and December 31. "Reference Banks" means the principal London offices of NationsBank, N.A., Wachovia Bank of Georgia, N.A. and Morgan Guaranty Trust Company of New York, and "Reference Bank" means any one of such Reference Banks. "Regulation U" means Regulation U of the Board of Governors of the Federal Reserve System, as in effect from time to time. "Required Banks" means at any time Banks having at least 51% of the sum of the outstanding Loans, Letter of Credit Exposure and unused Commitments at such time. "Restricted Payment" means (i) any dividend or other distribution (whether in cash, securities or other property) on any shares of the capital stock of the Borrower (except dividends or distributions payable solely in shares of its capital stock), (ii) any payment (whether in cash, securities or other property) in respect of any Permitted Subordinated Debt or Excess Corning Debt, whether on account of principal, interest, premium or otherwise, or (iii) any payment (whether in cash, securities or other property), including any sinking fund or similar deposit, on account of the purchase, redemption, retirement or acquisition of (a) any shares of the capital stock of the Borrower or any Subsidiary owned by any Person other than the Borrower or any Subsidiary, (b) any option, warrant or other right to acquire shares of the capital stock of the Borrower or any Subsidiary (but not including payments of principal, premium (if any) or interest made pursuant to the terms of convertible debt securities prior to conversion), or (c) any Permitted Subordinated Debt or Excess Corning Debt. "Security Agent" means [J. P. Morgan Delaware] in its capacity as security agent under the Security Documents, and its successors in such capacity. "Security Agreement" means a Security Agreement among the Borrower, its Subsidiaries (other than Qualified Joint Ventures, Joint Venture Holding Companies, Foreign Subsidiaries and Excluded Subsidiaries) and the Security 21 Agent, substantially in the form of Exhibit F hereto, as the same may be amended from time to time. "Security Documents" means the Pledge Agreement, the Security Agreement and all other security agreements and other documents and instruments executed and delivered pursuant to Section 5.13 in order to secure any Obligations. "Senior Subordinated Bridge Loans" means $150,000,000 aggregate principal amount of unsecured senior subordinated loans to the Borrower. "Senior Subordinated Notes" means $150,000,000 aggregate principal amount of unsecured senior subordinated notes of the Borrower. "Spin-Off Distributions" means (i) the distribution by Corning of all the capital stock of the Borrower (other than the Permitted Preferred Stock) to the holders of Corning's common stock and (ii) the distribution by the Borrower of all the capital stock of CPS to the holders of the Borrower's common stock. "Spin-Off Information" means the information disclosed in (a) the Transaction Agreement, (b) the draft dated November [5], 1996, of the Information Statement and (c) the IRS Ruling Letter, each of which has been delivered to the Banks prior to the execution and delivery of this Agreement. "Spin-Off Tax Indemnification Agreement" means the tax indemnification agreement to be entered into between Corning and the Borrower as contemplated by the Spin-Off Information. "Spin-Off Transactions" means the transactions contemplated by the Spin-Off Information to occur on or before the date of the Spin-Off Distributions, including without limitation (i) the contribution by the Corning Companies to the Borrower and its Subsidiaries of all properties and other assets (including, without limitation, the capital stock of all corporations that are to be Subsidiaries) that are to be properties and assets of the Borrower and its Subsidiaries at the time of the Spin-Off Distributions as contemplated by the Spin-Off Information and the assumption by the Borrower of liabilities of CLSI not to exceed $250,000,000 (or the transfer to the Borrower of assets of CLSI subject to such liabilities), (ii) the 22 capitalization of the Borrower and its Subsidiaries as contemplated by the Spin-Off Information (including, without limitation, the elimination of all Debt and other intercompany balances between the Corning Companies, on the one hand, and the Borrower and its Subsidiaries, on the other hand), (iii) the CPS Capitalization Transaction and (iv) execution and delivery of the Transaction Documents by the parties thereto; provided that clause (ii) above shall not be construed to require the elimination of the Debt owed by the Borrower or its Subsidiaries to the Corning Companies that is to be repaid (a) on the Effective Date as contemplated by clause (o) of Section 3.01, (b) with the proceeds of the Senior Subordinated Bridge Loans or the Senior Subordinated Notes as contemplated by clause (a) of Section 5.16 or (c) as contemplated by clause (g) of Section 5.16. "Subordinated Debt Documents" means (i) any indenture, loan agreement, note purchase agreement or other agreement pursuant to which any Permitted Subordinated Debt is issued or incurred, (ii) any debt securities, promissory notes or other instruments evidencing any Permitted Subordinated Debt and (iii) any other agreements, instruments or documents governing any of the terms or conditions of any Permitted Subordinated Debt or any Guarantee of any Permitted Subordinated Debt. "subsidiary" means, as to any Person, any corporation or other entity of which securities or other ownership interests having ordinary voting power to elect a majority of the board of directors or other persons performing similar functions are at the time directly or indirectly owned by such Person. "Subsidiary" means a subsidiary of the Borrower; provided that the CPS Companies shall be deemed not to be "Subsidiaries" prior to the consummation of the Spin-Off Distributions. "Swingline Bank" means Wachovia Bank of Georgia, N.A., in its capacity as lender of Swingline Loans hereunder, and its successors in such capacity. "Swingline Exposure" means at any time the aggregate principal amount of all Swingline Loans outstanding at such time. The Swingline Exposure of any Bank at any time shall mean its Applicable Percentage of the Swingline Exposure at such time. 23 "Swingline Loan" means a loan made by the Swingline Bank pursuant to Section 2.04. "Tax Sharing Agreement" means the tax sharing agreement to be entered into among Corning, CPS and the Borrower as contemplated by the Spin-Off Information. "Temporary Cash Investment" means any Investment in (i) direct obligations of the United States or any agency thereof, or obligations fully guaranteed or insured by the United States or any agency or instrumentality thereof having maturities of not more than one year, (ii) time deposits with, including certificates of deposit issued by, any office located in the United States of any commercial bank which is organized under the laws of the United States or any state thereof and has capital and surplus exceeding $500,000,000 and having a peer group rating of B or better (or the equivalent thereof) by Thompson Bank Watch, Inc. or outstanding long-term debt rated BBB or better (or the equivalent thereof) by Standard & Poor's Rating Group or Baa or better (or the equivalent thereof) by Moody's Investors Service Inc. or (iii) repurchase obligations with a term of not more than seven days for underlying securities described in clause (i) and (ii) above entered into with an office of a bank meeting the criteria specified in clause (ii) above, or (iv) commercial paper (other than commercial paper issued by an Affiliate of the Borrower) rated at least A-1 (or the equivalent thereof) by Standard & Poor's Ratings Group and P-1 (or the equivalent thereof) by Moody's Investors Service, Inc., in each case maturing within 90 days. "Term Loan" means a Tranche A Term Loan or a Tranche B Term Loan. "Termination Date" means the last day of the Working Capital Availability Period. "Total Commitments" means at any time the sum of the Banks' Commitments at such time. "Tranche A Commitment" means, as to any Bank, the obligation of such Bank to make Tranche A Term Loans to the Borrower in an aggregate principal amount not exceeding the amount set forth opposite such Bank's name in Schedule 1 hereto under the caption "Tranche A Commitment". "Tranche A Bank" means a Bank with a Tranche A Commitment or an outstanding Tranche A Term Loan. 24 "Tranche A Maturity Date" means November [ ], 2002. "Tranche A Term Loan" means a loan made by a Tranche A Bank pursuant to clause (i) of Section 2.01(a). "Tranche B Commitment" means, as to any Bank, the obligation of such Bank to make Tranche B Loans to the Borrower in an aggregate principal amount not exceeding the amount set forth opposite such Bank's name in Schedule 1 hereto under the caption "Tranche B Commitments". "Tranche B Bank" means a Bank with a Tranche B Commitment or an outstanding Tranche B Term Loan. "Tranche B Maturity Date" means November [ ], 2003. "Tranche B Term Loan" means a loan made by a Tranche B Bank pursuant to clause (ii) of Section 2.01(a). "Transaction Agreement" means the Transaction Agreement dated as of November [ ], 1996, among Corning, CPS, CLSI and the Borrower. "Transactions" means the Financing Transactions, the Spin-Off Transactions and the Spin-Off Distributions. "Transaction Documents" means (i) the Transaction Agreement, the CCL/CPS Spin-Off Tax Indemnification Agreement, the Spin-Off Tax Indemnification Agreement, the Tax Sharing Agreement and (ii) any other contracts and agreements between the Borrower or any Subsidiary, on the one hand, and any Corning Company or CPS Company, on the other hand, in effect on the Effective Date or contemplated by Schedule 1.01(b) (other than any such contracts and agreements relating solely to the purchase or sale of inventory or services in the ordinary course of business on terms no less favorable to the Borrower and its Subsidiaries than they would obtain in a comparable arm's length transaction). "Type" has the meaning set forth in Section 1.03. "Unfunded Liabilities" means, with respect to any Plan at any time, the amount (if any) by which (i) the value of all benefit liabilities under such Plan, determined on a plan termination basis using the assumptions prescribed by 25 the PBGC for purposes of Section 4044 of ERISA, exceeds (ii) the fair market value of all Plan assets allocable to such liabilities under Title IV of ERISA (excluding any accrued but unpaid contributions), all determined as of the then most recent valuation date for such Plan, but only to the extent that such excess represents a potential liability of a member of the ERISA Group to the PBGC or any other Person under Title IV of ERISA. "United States" means the United States of America, including the States and the District of Columbia, but excluding its territories and possessions. "Working Capital Availability Period" means the period from and including the Effective Date to but excluding the Working Capital Maturity Date or such earlier date as the Working Capital Commitments shall have expired or been terminated. "Working Capital Bank" means a Bank with a Working Capital Commitment or, if the Working Capital Commitments have terminated or expired, a Bank with Working Capital Exposure. "Working Capital Commitment" means, as to any Bank, the obligation of such Bank to make Working Capital Loans to the Borrower and to acquire participations in Letters of Credit in an aggregate principal amount at any one time outstanding not exceeding the amount set forth opposite such Bank's name in Schedule 1 hereto under the caption "Working Capital Commitment", as the same may be reduced from time to time pursuant to Section 2.09 and subject to the limitations of Sections 2.01(b) and 2.15. "Working Capital Exposure" means, with respect to any Bank at any time, the sum of the aggregate principal amount of such Bank's Working Capital Loans outstanding at such time and its Letter of Credit Exposure and Swingline Exposure at such time. "Working Capital Loan" means a loan made by a Bank pursuant to Section 2.01(b). "Working Capital Maturity Date" means November [ ], 2002. 26 SECTION 1.02. Accounting Terms and Determinations. Unless otherwise specified herein, all accounting terms used herein shall be interpreted, all accounting determinations hereunder shall be made, and all financial statements required to be delivered hereunder shall be prepared in accordance with United States generally accepted accounting principles as in effect from time to time, applied on a basis consistent (except for changes concurred in by the Borrower's independent public accountants) with the most recent audited consolidated financial statements of the Borrower and its Consolidated Subsidiaries delivered to the Banks; provided that, if the Borrower notifies the Agent that the Borrower wishes to amend the calculation of the Borrower's Debt Coverage Ratio for purposes of determining Pricing Periods or to amend any covenant in Article V, in either case to eliminate the effect of any change in generally accepted accounting principles on the operation of such calculation or covenant (or if the Agent notifies the Borrower that the Required Banks wish to amend any such calculation or covenant for such purpose), then such calculation or the Borrower's compliance with such covenant, as the case may be, shall be determined on the basis of generally accepted accounting principles in effect immediately before the relevant change in generally accepted accounting principles became effective, until either such notice is withdrawn or such calculation or covenant is amended in a manner satisfactory to the Borrower and the Required Banks. SECTION 1.03. Types of Borrowings. Borrowings and Loans hereunder are distinguished by "Type" and by "Class". The Type of a Loan refers to whether such Loan is a Base Rate Loan or a Euro-Dollar Loan. The "Class" of a Loan (or a Commitment to make such a Loan or a Borrowing comprising such Loans) refers to whether such Loan is a Tranche A Term Loan, a Tranche B Term Loan, a Working Capital Loan or a Swingline Loan, each of which constitutes a Class. The term "Borrowing" denotes the aggregation of Loans of one or more Banks to be made to the Borrower pursuant to Article II on the same date, all of which Loans are of the same Type (subject to Article VIII) and Class and, in the case of Euro-Dollar Loans, have the same initial Interest Period. Borrowings are classified for purposes of this Agreement either by reference to the Type of Loans comprising such Borrowing (e.g., a "Euro-Dollar Borrowing" is a Borrowing comprised of Euro-Dollar Loans) or by reference to the Class of such Loans (e.g., a "Term Borrowing" is a Borrowing comprised of Term Loans) or both 27 (e.g., a "Euro-Dollar Working Capital Borrowing" is a Borrowing comprised of Working Capital Loans that are Euro- Dollar Loans). ARTICLE II The Credits ----------- SECTION 2.01. Commitments to Lend. (a) Term Loans. Each Bank severally agrees, on the terms and conditions set forth in this Agreement, to make (i) a Tranche A Term Loan to the Borrower on the Effective Date in an aggregate principal amount not exceeding its Tranche A Commitment and (ii) a Tranche B Term Loan to the Borrower on the Effective Date in an aggregate principal amount not exceeding its Tranche B Commitment. (b) Working Capital Loans. Each Bank severally agrees, on the terms and conditions set forth in this Agreement, to make loans to the Borrower from time to time during the Working Capital Availability Period; provided that the aggregate principal amount of such Bank's loans at any one time outstanding under this subsection (b) shall not exceed the excess of (i) its Working Capital Commitment at such time over (ii) the sum of its Letter of Credit Exposure at such time, plus its Swingline Exposure at such time, plus the aggregate amount of the Existing Letters of Credit outstanding at such time. Within the foregoing limits, the Borrower may borrow under this subsection (b), repay or (to the extent permitted by Section 2.11) prepay loans made under this subsection (b) and reborrow at any time during the Working Capital Availability Period under this subsection (b). (c) Borrowings Ratable. Each Borrowing under this Section shall be made from the Banks ratably in proportion to their respective Commitments of the relevant Class. (d) Euro-Dollar Borrowings. There shall not at any time be more than a total of seven Euro-Dollar Borrowings outstanding. SECTION 2.02. Notice of Borrowing. The Borrower shall give the Agent notice (a "Notice of Borrowing") not later than 10:30 A.M. (New York City time) on (x) the date 28 of each Base Rate Borrowing, and (y) the third Euro-Dollar Business Day before each Euro-Dollar Borrowing, specifying: (i) the date of such Borrowing, which shall be a Domestic Business Day in the case of a Base Rate Borrowing or a Euro-Dollar Business Day in the case of a Euro-Dollar Borrowing; (ii) the aggregate amount of such Borrowing, which shall be (x) in the case of a Euro-Dollar Borrowing, $10,000,000 and (y) in the case of a Base Rate Borrowing, $5,000,000, or in each case a larger multiple of $1,000,000; (iii) the Class and Type of such Borrowing; and (iv) in the case of a Euro-Dollar Borrowing, the duration of the Interest Period applicable thereto, subject to the provisions of the definition of Interest Period. This Section 2.02 shall not apply to Swingline Loans. SECTION 2.03. Notice to Banks; Funding of Loans. (a) Upon receipt of a Notice of Borrowing, the Agent shall promptly notify each Bank that is to participate in such Borrowing of the contents thereof and of such Bank's share of such Borrowing and such Notice of Borrowing shall not thereafter be revocable by the Borrower. (b) Not later than 12:00 Noon (New York City time) on the date of each Borrowing, each Bank participating therein shall (except as provided in subsection (d) of this Section) make available its share of such Borrowing, in Federal or other funds immediately available in New York City, to the Agent at its address referred to in Section 9.01. Unless the Agent determines that any applicable condition specified in Article III has not been satisfied, the Agent will make the funds so received from the Banks available to the Borrower at the Agent's aforesaid address. (c) If an Issuing Bank has not received from the Borrower a payment required by Section 2.15(g) to be made to such Issuing Bank by 1:00 P.M. (New York City time) on the date on which such payment is due, as provided in Section 2.15(g), such Issuing Bank shall promptly notify the Agent 29 thereof and, promptly following receipt of such notice, the Agent will notify each Bank that has a participation in such Letter of Credit of the Letter of Credit Disbursement and such Bank's Applicable Percentage of such Letter of Credit Disbursement. Not later than 3:00 P.M. (New York City time) on such date, each Bank shall make available such Bank's Applicable Percentage of such Letter of Credit Disbursement, in Federal or other funds immediately available in New York City, to the Agent at its address specified in or pursuant to Section 9.01, and the Agent will promptly make such funds available to such Issuing Bank. Thereafter, any payments made by the Borrower in respect of such Letter of Credit Disbursement shall be paid to the Agent (and such Issuing Bank shall promptly remit such payments to the Agent if received by such Issuing Bank) and the Agent will promptly remit to each Bank that shall have made such funds available its Applicable Percentage of any amounts subsequently received by the Agent from such Issuing Bank or the Borrower in respect of such Letter of Credit Disbursement (excluding interest for the account of such Issuing Bank for the period prior to the date that such Bank shall have made such funds available). (d) If any Bank (including the Swingline Bank) makes a new Loan to the Borrower hereunder on a day on which the Borrower is to repay all or any part of an outstanding Loan from such Bank, such Bank shall apply the proceeds of its new Loan to make such repayment and only an amount equal to the difference (if any) between the amount being borrowed and the amount being repaid shall be made available by such Bank to the Agent as provided in subsection (c) of this Section, or remitted by the Borrower to the Agent as provided in Section 2.12, as the case may be. (e) Unless the Agent shall have received notice from a Bank prior to the date of any Borrowing, or prior to the time of any required payment by such Bank in respect of a Letter of Credit Disbursement, that such Bank will not make available to the Agent such Bank's share of such Borrowing or payment, the Agent may assume that such Bank has made such share available to the Agent on the date of such Borrowing or payment in accordance with subsection (b) or (c), as applicable, of this Section and the Agent may, in reliance upon such assumption, make available to the Borrower or the applicable Issuing Bank, as the case may be, on such date a corresponding amount. If and to the extent that such Bank shall not have so made such share available to the Agent, such Bank and the Borrower severally agree to 30 repay to the Agent forthwith on demand such corresponding amount together with interest thereon, for each day from the date such amount is made available to the Borrower or the applicable Issuing Bank until the date such amount is repaid to the Agent, at (i) in the case of the Borrower, a rate per annum equal to the higher of the Federal Funds Rate and the interest rate applicable thereto pursuant to Section 2.07 or Section 2.15(g), as applicable, and (ii) in the case of such Bank, the Federal Funds Rate. In the case of a Borrowing, if such Bank shall repay to the Agent such corresponding amount, such amount so repaid shall constitute such Bank's Loan included in such Borrowing for purposes of this Agreement. SECTION 2.04. Swingline Loans. (a) During the Working Capital Availability Period the Swingline Bank agrees, on the terms and conditions set forth in this Agreement, to lend to the Borrower from time to time amounts that will not result in (i) the aggregate principal amount of outstanding Loans under this Section 2.04 at any time exceeding $10,000,000 or (ii) the sum of the Letter of Credit Exposure plus the aggregate principal amount of all outstanding Working Capital Loans and Loans made under this Section 2.04 plus the aggregate amount of outstanding Existing Letters of Credit at any time exceeding the total Working Capital Commitments. (b) In order to request a Swingline Loan, the Borrower shall notify the Agent and the Swingline Bank of such request not later than 11:00 A.M. (New York City time) on the day of such proposed Swingline Loan, specifying the proposed date (which shall be a Domestic Business Day) and amount of the requested Swingline Loan (which shall be $1,000,000 or a larger multiple of $100,000). The Swingline Bank shall make each Swingline Loan available to the Borrower by means of a credit to the general deposit account of the Borrower with the Swingline Bank by 3:00 P.M. (New York City time) on the requested date of such Swingline Loan. (c) Each Swingline Loan shall mature and be due and payable, together with accrued and unpaid interest thereon, on the earlier of (i) the first day after such Swingline Loan is made on which a Borrowing of Working Capital Loans is made and (ii) the Working Capital Maturity Date. Each Swingline Loan shall be a Base Rate Loan and shall bear interest as provided in Section 2.07. 31 (d) The Swingline Bank may by written notice given to the Agent and the Working Capital Banks not later than 10:00 A.M. New York City time, on any Domestic Business Day require the Working Capital Banks to acquire participations on such Domestic Business Day in all or a portion of the Swingline Loans outstanding. Such notice shall specify the aggregate amount of Swingline Loans in which the Working Capital Banks will acquire participations. In furtherance of the foregoing, each Working Capital Bank hereby absolutely and unconditionally agrees, upon receipt of notice as provided above, to pay to the Agent, for the account of the Swingline Bank, such Working Capital Bank's Applicable Percentage of such Swingline Loan or Loans. Each Working Capital Bank acknowledges and agrees that its obligation to acquire participations in Swingline Loans pursuant to this paragraph is absolute and unconditional and shall not be affected by any circumstance whatsoever, including the occurrence and continuance of a Default or reduction or termination of the Working Capital Commitments, and that each such payment shall be made without any offset, abatement, withholding or reduction whatsoever. Each Working Capital Bank shall comply with its obligation under this paragraph by wire transfer of immediately available funds, in the same manner as provided in Section 2.05 with respect to Loans made by such Working Capital Bank (and Section 2.05 shall apply, mutatis mutandis, to the payment obligations of the Working Capital Banks). The Agent shall notify the Borrower of any participations in any Swingline Loan acquired pursuant to this paragraph. Any amounts received by the Swingline Bank from the Borrower (or other party on behalf of the Borrower) in respect of a Swingline Loan after receipt by the Swingline Bank of the proceeds of a sale of participations therein shall be promptly remitted to the Agent; any such amounts received by the Agent shall be promptly remitted by the Agent to the Working Capital Banks that shall have made their payments pursuant to this paragraph and to the Swingline Bank, as their interests may appear. The purchase of participations in a Swingline Loan pursuant to this paragraph shall not relieve the Borrower of any default in the payment thereof. SECTION 2.05. Notes. (a) Each Bank's Loans of each Class shall be evidenced by a single Note (in the form applicable to such Class) payable to the order of such Bank for the account of its Applicable Lending Office. (b) Each Bank may, by notice to the Borrower and the Agent, request that its Loans of a particular Type and 32 Class be evidenced by a separate Note. Each such Note shall be in substantially the form of Exhibit A-1 or A-2 hereto applicable to the relevant Class with appropriate modifications to reflect the fact that it evidences solely Loans of the relevant Type. Each reference in this Agreement to the "Note" of such Bank shall be deemed to refer to and include any or all of such Notes, as the context may require. (c) Upon receipt of each Bank's Notes pursuant to clause (b) of Section 3.01(b), the Agent shall forward such Notes to such Bank. Each Bank shall record the date and amount of each Loan made by it to the Borrower and the date and amount of each payment of principal made by the Borrower with respect thereto and may, if such Bank so elects, in connection with any transfer or enforcement of any of its Notes, endorse on the schedule forming a part thereof appropriate notations to evidence the foregoing information with respect to each such Loan then outstanding; provided that the failure of any Bank to make any such recordation or endorsement shall not affect the obligations of the Borrower hereunder or under the Notes. Each Bank is hereby irrevocably authorized by the Borrower so to endorse its Notes and to attach to and make a part of any of its Notes a continuation of any such schedule as and when required. SECTION 2.06. Interest Rate Elections. (a) The initial Type of Loans comprising each Borrowing, and the duration of the initial Interest Period applicable thereto if they are initially Euro-Dollar Loans, shall be as specified in the applicable Notice of Borrowing. Thereafter, the Borrower may from time to time elect to change or continue the Type of, or the duration of the Interest Period applicable to, the Loans included in any Borrowing (excluding overdue Loans and subject in each case to the provisions of the definition of Interest Period and Article VIII), as follows: (i) if such Loans are Base Rate Loans, the Borrower may elect to convert such Loans to Euro-Dollar Loans as of any Euro-Dollar Business Day; and (ii) if such Loans are Euro-Dollar Loans, the Borrower may elect to convert such Loans to Base Rate Loans or elect to continue such Loans as Euro-Dollar Loans for an additional Interest Period, subject to Section 2.13 in the case of any such conversion or continuation effective on any day other than the last 33 day of the then current Interest Period applicable to such Loans. Each such election shall be made by delivering a notice (a "Notice of Interest Rate Election") to the Agent not later than 10:30 A.M. (New York City time) on the third Euro-Dollar Business Day before the conversion or continuation selected in such notice is to be effective (unless the relevant Loans are to be converted to Base Rate Loans in which case such notice shall be delivered to the Agent not later than 10:30 A.M. (New York City time) on the second Domestic Business Day before such conversion or continuation is to be effective). A Notice of Interest Rate Election may, if it so specifies, apply to only a portion of the aggregate principal amount of the relevant Group of Loans; provided that (i) such portion is allocated ratably among the Loans comprising such Group and (ii) the portion to which such Notice applies, and the remaining portion to which it does not apply, are each $10,000,000 or any larger multiple of $1,000,000. Notwithstanding the foregoing, the Borrower may not elect to convert any Loan to, or continue any Loan as, a Euro-Dollar Loan pursuant to any Notice of Interest Rate Election if at the time such notice is delivered an Event of Default shall have occurred and be continuing. (b) Each Notice of Interest Rate Election shall specify: (i) the Group of Loans (or portion thereof) to which such notice applies; (ii) the date on which the conversion or continuation selected in such notice is to be effective, which shall comply with the applicable clause of subsection (a) above; (iii) if the Loans comprising such Group are to be converted, the new Type of Loans and, if the Loans being converted are to be Euro-Dollar Loans, the duration of the next succeeding Interest Period applicable thereto; and (iv) if such Loans are to be continued as Euro-Dollar Loans for an additional Interest Period, the duration of such additional Interest Period. 34 Each Interest Period specified in a Notice of Interest Rate Election shall comply with the provisions of the definition of Interest Period. (c) Upon receipt of a Notice of Interest Rate Election from the Borrower pursuant to subsection (a) above, the Agent shall promptly notify each Bank affected thereby of the contents thereof and such notice shall not thereafter be revocable by the Borrower. If no Notice of Interest Rate Election is timely received prior to the end of an Interest Period for any Group of Loans, the Borrower shall be deemed to have elected that such Group of Loans be converted to Base Rate Loans as of the last day of such Interest Period. (d) An election by the Borrower to change or continue the rate of interest applicable to any Group of Loans pursuant to this Section shall not constitute a "Borrowing" subject to the provisions of Section 3.02. This Section 2.06 shall not apply to Swingline Loans, which may not be converted or continued. SECTION 2.07. Interest Rates. (a) Each Base Rate Loan shall bear interest on the outstanding principal amount thereof, for each day from the date such Loan is made until it becomes due, at a rate per annum equal to (i) in the case of a Base Rate Working Capital Loan, a Base Rate Tranche A Term Loan or a Swingline Loan, the sum of the Base Rate Margin for such day plus the Base Rate for such day or (ii) in the case of a Base Rate Tranche B Term Loan, the sum of the Base Rate for such day plus 1.25%. Such interest shall be payable quarterly in arrears on each Quarterly Date and, with respect to the principal amount of any Base Rate Loan converted to a Euro-Dollar Loan, on each date a Base Rate Loan is so converted. Any overdue principal of or interest on any Base Rate Loan of any Class shall bear interest, payable on demand, for each day until paid at a rate per annum equal to the sum of 2% plus the rate otherwise applicable to Base Rate Loans of such Class for such day. "Base Rate Margin" applicable to any Working Capital Loan or Tranche A Term Loan that is a Base Rate Loan outstanding on any day, or any Swingline Loan outstanding on any day, means: (i) if such day falls within a Level I Pricing Period, a Level II Pricing Period or a Level III Pricing Period, then 0.0%; 35 (ii) if such day falls within a Level IV Pricing Period, then 0.25%; (iii) if such day falls within a Level V Pricing Period, then 0.50%; (iv) if such day falls within a Level VI Pricing Period, then 0.75%; or (v) if such day falls within a Level VII Pricing Period, then 1.00%. (b) Each Euro-Dollar Loan shall bear interest on the outstanding principal amount thereof, for each day during each Interest Period applicable thereto, at a rate per annum equal to (i) in the case of a Euro-Dollar Working Capital Loan or a Euro-Dollar Tranche A Term Loan, the sum of the Euro-Dollar Margin for such day plus the Adjusted London Interbank Offered Rate applicable to such Interest Period or (ii) in the case of a Euro-Dollar Tranche B Term Loan, the sum of the Adjusted London Interbank Offered Rate applicable to such Interest Period plus 2.25%. Such interest shall be payable for each Interest Period on the last day thereof and, if such Interest Period is longer than three months, at intervals of three months after the first day thereof. "Euro-Dollar Margin" applicable to any Working Capital Loan or Tranche A Term Loan that is a Euro-Dollar Loan outstanding on any day means: (i) if such day falls within a Level I Pricing Period, then 0.50%; (ii) if such day falls within a Level II Pricing Period, then 0.75%; (iii) if such day falls within a Level III Pricing Period, then 1.00%; (iv) if such day falls within a Level IV Pricing Period, then 1.25%; (v) if such day falls within a Level V Pricing Period, then 1.50%; (vi) if such day falls within a Level VI Pricing Period, then 1.75%; or 36 (vii) if such day falls within a Level VII Pricing Period, then 2.00%; The "Adjusted London Interbank Offered Rate" applicable to any Interest Period means a rate per annum equal to the quotient obtained (rounded upward, if necessary, to the next higher 1/100 of l%) by dividing (i) the applicable London Interbank Offered Rate by (ii) 1.00 minus the Euro-Dollar Reserve Percentage. The "London Interbank Offered Rate" applicable to any Interest Period means the average (rounded upward, if necessary, to the next higher 1/16 of 1%) of the respective rates per annum at which deposits in dollars are offered to each of the Reference Banks in the London interbank market at approximately 11:00 A.M. (London time) two Euro-Dollar Business Days before the first day of such Interest Period in an amount approximately equal to the principal amount of the Euro-Dollar Loan of such Euro-Dollar Reference Bank to which such Interest Period is to apply and for a period of time comparable to such Interest Period. (c) Any overdue principal of or interest on any Euro-Dollar Loan shall bear interest, payable on demand, for each day until paid, at a rate per annum equal to the higher of (i) the sum of the Euro-Dollar Margin (or, in the case of a Euro-Dollar Tranche B Term Loan, 2.25%) for such day plus 2% plus the quotient obtained (rounded upward, if necessary, to the next higher 1/100 of 1%) by dividing (x) the average (rounded upward, if necessary, to the next higher 1/16 of 1%) of the respective rates per annum at which one day (or, if such amount due remains unpaid more than three Euro- Dollar Business Days, then for such other period of time not longer than three months as the Agent may select) deposits in dollars in an amount approximately equal to such overdue payment due to each of the Euro-Dollar Reference Banks are offered to such Euro-Dollar Reference Bank in the London interbank market for the applicable period determined as provided above by (y) 1.00 minus the Euro-Dollar Reserve Percentage (or, if the circumstances described in clause (a) or (b) of Section 8.01 shall exist, at a rate per annum equal to the sum of 2% plus the rate applicable to Base Rate Loans for such day) and (ii) the sum of the Euro-Dollar Margin (or, in the case of a Euro-Dollar Tranche B Term Loan, 2.25%) for such day plus 2% plus the Adjusted London Interbank Offered Rate applicable to such Loan at the date such payment was due. 37 (d) The Agent shall determine each interest rate applicable to the Loans hereunder. The Agent shall give prompt notice to the Borrower and the participant Banks of each rate of interest so determined, and its determination thereof shall be conclusive in the absence of manifest error. (e) Each Reference Bank agrees to use its best efforts to furnish quotations to the Agent as contemplated by this Section. If any Reference Bank does not furnish a timely quotation, the Agent shall determine the relevant interest rate on the basis of the quotation or quotations furnished by the remaining Reference Bank or Banks or, if none of such quotations is available on a timely basis, the provisions of Section 8.01 shall apply. SECTION 2.08. Fees. (a) Commitment Fee. During the Working Capital Availability Period the Borrower shall pay to the Agent for the account of the Banks ratably in proportion to their Working Capital Commitments a commitment fee at the applicable per annum Commitment Fee Rate on the daily amount by which the aggregate amount of the Working Capital Commitments exceeds the sum of outstanding principal amount of the Working Capital Loans plus the Letter of Credit Exposure. Such commitment fee shall accrue from and including the Effective Date to but excluding the date of termination of the Working Capital Commitments in their entirety. "Commitment Fee Rate" applicable on any day means: (i) if such day falls within a Level I Pricing Period, then 0.175%; (ii) if such day falls within a Level II Pricing Period, then 0.250%; (iii) if such day falls within a Level III Pricing Period or a Level IV Pricing Period, then 0.300%; (iv) if such day falls within a Level V Pricing Period or a Level VI Pricing Period, then 0.375%; or (v) if such day falls within a Level VII Pricing Period, then 0.500%. (b) Payments. Accrued fees under this Section shall be payable quarterly in arrears on each 38 Quarterly Date and on the date of termination of the Working Capital Commitments in their entirety. SECTION 2.09. Termination or Reduction of Commitments. (a) The Tranche A Commitments and Tranche B Commitments shall terminate at the close of business on the Effective Date. All Commitments shall terminate on January 31, 1997, unless the Effective Date occurs on or before January 31, 1997. (b) During the Working Capital Availability Period, the Borrower may, upon at least three Domestic Business Days' notice to the Agent (i) terminate the Working Capital Commitments at any time if there is no Letter of Credit Exposure at such time and if no Working Capital Loans are outstanding at such time or (ii) ratably reduce from time to time by an aggregate amount of $10,000,000 or any larger multiple of $1,000,000, the aggregate amount of the Working Capital Commitments in excess of the sum of the Letter of Credit Exposure and the aggregate outstanding principal amount of the Working Capital Loans. (c) Unless previously terminated, the Working Capital Commitments shall terminate on the Working Capital Maturity Date. (d) Notwithstanding anything to the contrary in this Agreement, all Commitments shall terminate and all outstanding Loans shall be repaid (and any outstanding Letters of Credit shall be secured by cash collateral as provided in Section 2.15(k)) on March 31, 1997, in the event that Corning shall not have delivered to the Agent by such date a certificate, executed on behalf of Corning by one of its executive officers, confirming that the Spin-Off Transactions and the Spin-Off Distributions have been completed in all material respects in accordance with the Spin-Off Information. SECTION 2.10. Maturity of Loans. (a) The Working Capital Loans of each Bank shall mature, and the principal amount thereof shall be due and payable, together with accrued interest thereon, on the Working Capital Maturity Date or such earlier date on which the Working Capital Commitments shall be terminated. Each Swingline Loan shall mature, and the principal amount thereof shall be due and payable, together with accrued interest thereon, as provided in Section 2.04. 39 (b) The aggregate principal amount of the Term Loans shall be payable in quarterly installments on each Quarterly Date commencing March 31, 1998. Subject to adjustment as provided in subsection (c) of this Section, such installments shall be payable in the respective amounts set forth below opposite the respective payment dates: Tranche A Term Loans: ---------------------
Payment Date Amount Payment Date Amount - ------------ ------ ------------ ------ March 31, 1998 $7,500,000 September 30, 2000 $17,500,000 June 30, 1998 $7,500,000 December 31, 2000 $17,500,000 September 30, 1998 $7,500,000 March 31, 2001 $18,750,000 December 31, 1998 $7,500,000 June 30, 2001 $18,750,000 March 31, 1999 $12,500,000 September 30, 2001 $18,750,000 June 30, 1999 $12,500,000 December 31, 2001 $18,750,000 September 30, 1999 $12,500,000 March 31, 2002 $18,750,000 December 31, 1999 $12,500,000 June 30, 2002 $18,750,000 March 31, 2000 $17,500,000 September 30, 2002 $18,750,000 June 30, 2000 $17,500,000 Tranche A Maturity Date $18,750,000 Tranche B Term Loans: --------------------- Payment Date Amount Payment Date Amount ------------ ------ ------------ ------ March 31, 1998 $250,000 March 31, 2001 $ 250,000 June 30, 1998 $250,000 June 30, 2001 $ 250,000 September 30, 1998 $250,000 September 30, 2001 $ 250,000 December 31, 1998 $250,000 December 31, 2001 $ 250,000 March 31, 1999 $250,000 March 31, 2002 $ 250,000 June 30, 1999 $250,000 June 30, 2002 $ 250,000 September 30, 1999 $250,000 September 30, 2002 $ 250,000 December 31, 1999 $250,000 December 31, 2002 $ 250,000 March 31, 2000 $250,000 March 31, 2003 $11,250,000 June 30, 2000 $250,000 June 30, 2003 $11,250,000 September 30, 2000 $250,000 September 30, 2003 $11,250,000 December 31, 2000 $250,000 Tranche B Maturity Date $11,250,000
40 All Tranche A Term Loans and all Tranche B Term Loans outstanding on the Tranche A Maturity Date or the Tranche B Maturity Date, respectively, shall mature and be due and payable on such date. All principal payments in respect of the Term Loans shall be accompanied by accrued interest on the principal amount being repaid to the date of payment. (c) If the initial aggregate amount of the Banks' Tranche A Commitments or Tranche B Commitments exceeds the aggregate principal amount of Term Loans of such Class that are made on the Effective Date, then the scheduled repayments of Term Borrowings of such Class to be made pursuant to this Section shall be reduced ratably by an aggregate amount equal to such excess. Any prepayment of a Tranche B Term Borrowing shall be applied to reduce the subsequent scheduled repayments of the Tranche B Term Borrowings to be made pursuant to this Section in reverse chronological order. Any prepayment of a Tranche A Term Borrowing shall be applied, first, to reduce the scheduled repayment of Tranche A Term Loans set forth in subsection (b) of this Section opposite the Tranche A Maturity Date, second to reduce the scheduled repayment of Tranche A Term Loans set forth in subsection (b) of this Section opposite September 30, 2002, and third ratably to reduce the remaining scheduled repayments of Tranche A Term Loans set forth in subsection (b) of this Section. (d) Prior to any repayment of any Term Borrowings of either Class hereunder, the Borrower shall select the Borrowing or Borrowings of the applicable Class to be repaid and shall notify the Agent by telephone (confirmed by telecopy) of such selection not later than 11:00 A.M., New York City time, three Domestic Business Days before the scheduled date of such repayment; provided that each repayment of Term Borrowings of either Class shall be applied to repay any outstanding Base Rate Term Borrowings of such Class before any other Borrowings of such Class. If the Borrower fails to make a timely selection of the Borrowing or Borrowings to be repaid, such repayment shall be applied, first, to repay any outstanding Base Rate Term Borrowings of the applicable Class and, second, to other Borrowings of such Class in the order of the remaining duration of their respective Interest Periods (the Borrowing with the shortest remaining Interest Period to be repaid first). Each repayment of a Borrowing shall be applied ratably to the Loans included in the repaid Borrowing. 41 SECTION 2.11. Optional Prepayments; Mandatory Prepayments. (a) Subject to Section 2.13 and to subsection (f) of this Section, the Borrower may, upon at least one Domestic Business Day's notice to the Agent, prepay any Group of Base Rate Loans or upon at least three Euro-Dollar Business Days' notice to the Agent, prepay any Group of Euro-Dollar Loans, in each case in whole at any time, or from time to time in part in amounts aggregating (i) in the case of Euro-Dollar Loans, $10,000,000 and (ii) in the case of Base Rate Loans, $5,000,000, or in each such case any larger multiple of $1,000,000, by paying the principal amount to be prepaid together with accrued interest thereon to the date of prepayment. Each such optional prepayment shall be applied to prepay ratably the Loans of the several Banks included in such Group (or Borrowing). The Borrower may, upon notice to the Agent and the Swingline Bank prior to 11:00 A.M. (New York City time) on the date of prepayment, prepay any Swingline Loan in whole at any time, or from time to time in part in amounts aggregating $100,000 or any larger multiple thereof, by paying the principal amount to be prepaid together with accrued interest thereon to the date of prepayment. (b) Upon receipt of a notice of prepayment pursuant to this Section, the Agent shall promptly notify each Bank that is entitled to a share of such prepayment of the contents thereof and of such Bank's ratable share of such prepayment and such notice shall not thereafter be revocable by the Borrower. (c) If the Borrower or any of its Subsidiaries shall incur Debt for borrowed money (other than Debt otherwise permitted under Section 5.17), an amount equal to 100% of the Net Cash Proceeds therefrom shall be applied on or within two Domestic Business Days after the date of receipt of the Net Cash Proceeds therefrom toward the prepayment of one or more Groups of Term Loans as set forth in paragraph (f) of this Section. (d) If the Borrower shall issue in a primary offering any shares of any class of equity securities of the Borrower (other than pursuant to the issuance of equity securities in connection with any employee compensation or benefit plan), an amount equal to 50% of the Net Cash Proceeds therefrom shall be applied on or within two Domestic Business Days after the date of receipt of the Net Cash Proceeds therefrom toward the prepayment of one or more 42 Groups of Term Loans as set forth in paragraph (f) of this Section. (e) If the Borrower or any of its Subsidiaries shall receive Net Cash Proceeds from any Asset Sale, an amount equal to 75% of the Net Cash Proceeds therefrom shall be applied on or within two Domestic Business Days after the date of receipt of the Net Cash Proceeds toward the prepayment of one or more Groups of Term Loans as set forth in paragraph (f) of this Section; provided, that no such prepayment pursuant to this subsection needs to be made until the aggregate Net Cash Proceeds required to be applied pursuant to this subsection to prepay Term Loans and not yet so applied equals or exceeds $5,000,000, at which time all such Net Cash Proceeds not yet so applied shall be so applied to prepay Term Loans. Notwithstanding the foregoing, no prepayment shall be required under this subsection (e) with respect to an Asset Sale that constitutes part of an Asset Swap; provided that (i) if the aggregate Net Cash Proceeds, if any, received by the Borrower and its Subsidiaries in connection with any Asset Swap exceeds the aggregate amount of any cash consideration paid by the Borrower and its Subsidiaries in connection therewith, then a prepayment shall be required under this subsection (e) in an amount equal to 75% of such excess Net Cash Proceeds, and (ii) if the Borrower or any Subsidiary consummates an Asset Sale that is intended to constitute part of an Asset Swap and such Asset Swap is not completed within the time required in order for such Asset Sale to qualify as part of an Asset Swap (as provided in the definition of the term "Asset Swap"), then a prepayment shall be required under this subsection (e) with respect to the Net Cash Proceeds of such Asset Sale and the amount of such prepayment shall be equal to 100% of such Net Cash Proceeds. Subject to the proviso to the first sentence of this subsection (e), any prepayment required pursuant to clause (i) above shall be made on or within two Domestic Business Days after completion of the applicable Asset Swap and any prepayment required pursuant to clause (ii) above shall be made on or within two Domestic Business Days after expiration of the period of time allowed to complete the applicable Asset Swap. (f) The Borrower shall notify the Agent of each mandatory prepayment of Term Loans pursuant to subsection (c), (d) or (e) of this Section not less than three Domestic Business Days prior to the date of prepayment, which notice shall specify the amount and 43 allocation of the prepayment and the Group or Groups of Term Loans to be prepaid. Each such mandatory prepayment shall be applied to prepay ratably the Term Loans of the Banks included in such Group or Groups. In the event of any optional or mandatory prepayment of Term Borrowings made at a time when Term Borrowings of both Classes remain outstanding, the Borrower shall select Term Borrowings to be prepaid so that the aggregate amount of such prepayment is allocated between the Tranche A Term Borrowings and Tranche B Term Borrowings pro rata based on the aggregate principal amount of outstanding Borrowings of each such Class; provided that any Tranche B Bank may elect, by notice to the Agent by telephone (confirmed by telecopy) at least one Business Day prior to the prepayment date, to decline all or any portion of any prepayment of its Tranche B Term Loans pursuant to this Section (other than an optional prepayment pursuant to subsection (a) of this Section, which may not be declined), in which case the aggregate amount of the prepayment that would have been applied to prepay Tranche B Term Loans but was so declined shall be applied to prepay Tranche A Term Borrowings. Each mandatory prepayment of the Loans under this Section shall be accompanied by accrued interest to the date of such prepayment on the amount prepaid. (g) Term Loans that are prepaid may not be reborrowed. SECTION 2.12. General Provisions as to Payments. (a) The Borrower shall make each payment of principal of, and interest on, the Loans and of fees hereunder, not later than 12:00 Noon (New York City time) on the date when due, in Federal or other funds immediately available in New York City, to the Agent at its address referred to in Section 9.01, except that (i) fees payable to an Issuing Bank may be paid directly to such Issuing Bank and (ii) principal of and interest on Swingline Loans may be paid directly to the Swingline Bank. The Agent will promptly distribute to each Bank its ratable share of each such payment received by the Agent for the account of the Banks. (b) Whenever any payment of principal of, or interest on, the Base Rate Loans or of fees shall be due on a day which is not a Domestic Business Day, the date for payment thereof shall be extended to the next succeeding Domestic Business Day. Whenever any payment of principal of, or interest on, the Euro-Dollar Loans shall be due on a 44 day which is not a Euro-Dollar Business Day, the date for payment thereof shall be extended to the next succeeding Euro-Dollar Business Day unless such Euro-Dollar Business Day falls in another calendar month, in which case the date for payment thereof shall be the next preceding Euro-Dollar Business Day. If the date for any payment of principal is extended by operation of law or otherwise, interest thereon shall be payable for such extended time. (c) Unless the Agent shall have received notice from the Borrower prior to the date on which any payment is due to an Issuing Bank or the Banks hereunder that the Borrower will not make such payment in full, the Agent may assume that the Borrower has made such payment in full to the Agent on such date and the Agent may, in reliance upon such assumption, cause to be distributed to such Issuing Bank or the relevant Banks, as the case may be, on such due date an amount equal to the amount then due to such Issuing Bank or Banks. If and to the extent that the Borrower shall not have so made such payment, each Issuing Bank or Bank shall repay to the Agent forthwith on demand such amount distributed to such Issuing Bank or Bank, together with interest thereon, for each day from the date such amount is distributed to such Issuing Bank or Bank until the date such Issuing Bank or Bank repays such amount to the Agent, at the Federal Funds Rate. SECTION 2.13. Funding Losses; Prepayment Premium. (a) If the Borrower makes any payment of principal with respect to any Euro-Dollar Loans or any Euro-Dollar Loan is converted (pursuant to Article II, VI or VIII or otherwise) on any day other than the last day of an Interest Period applicable thereto, or the last day of an applicable period fixed pursuant to Section 2.07(c), or if the Borrower fails to borrow, prepay, convert or continue any Euro-Dollar Loans after notice has been given to any Bank in accordance with Section 2.03, 2.06 or 2.11, the Borrower shall reimburse each Bank within 15 days after demand for any resulting loss or expense incurred by it (or by an existing or prospective Participant in the related Loan), including (without limitation) any loss incurred in obtaining, liquidating or employing deposits from third parties, but excluding loss of margin for the period after any such payment or conversion or failure to borrow; provided that such Bank shall have delivered to the Borrower a certificate as to the amount of such loss or expense, which certificate shall be conclusive in the absence of manifest error. 45 (b) In the event of any optional prepayment of any Tranche B Term Loan pursuant to Section 2.11(a) prior to the date that is 18 months after the Effective Date, then the Borrower shall pay to each Tranche B Bank a prepayment premium equal to 1% of the principal amount so prepaid. Each such premium payment shall be paid at the time of the prepayment and shall be in addition to any amounts payable under subsection (a) of this Section. SECTION 2.14. Computation of Interest and Fees. Interest based on the Prime Rate hereunder shall be computed on the basis of a year of 365 days (or 366 days in a leap year) and paid for the actual number of days elapsed (including the first day but excluding the last day). All other interest and fees shall be computed on the basis of a year of 360 days and paid for the actual number of days elapsed (including the first day but excluding the last day). SECTION 2.15. Letters of Credit. (a) The Borrower may request the issuance of Letters of Credit by any Issuing Bank, in a form reasonably acceptable to the Agent and such Issuing Bank, appropriately completed, for the account of the Borrower, at any time and from time to time during the Working Capital Availability Period; provided that any Letter of Credit shall be issued only if, and each request by the Borrower for the issuance of any Letter of Credit shall be deemed a representation and warranty of the Borrower that, immediately following the issuance of any such Letter of Credit, (i) the Letter of Credit Exposure shall not exceed the Letter of Credit Sublimit Amount and (ii) the sum of the Letter of Credit Exposure plus the aggregate principal amount of all outstanding Working Capital Loans and Swingline Loans plus the aggregate amount of the outstanding Existing Letters of Credit shall not exceed the aggregate amount of the Working Capital Commitments. (b) Each Letter of Credit shall provide for payment of all drawings thereunder in U.S. dollars. (c) Each issuance of any Letter of Credit shall be made on such prior notice from the Borrower to the applicable Issuing Bank as shall be acceptable to such Issuing Bank specifying the date of issuance, the date on which such Letter of Credit is to expire (which shall not be later than the earlier of (i) the date that is five Domestic Business Days prior to the Working Capital Maturity Date, 46 and (ii) subject to renewal, the date one year after the date of such Letter of Credit), the amount of such Letter of Credit, the name and address of the beneficiary of such Letter of Credit, the purpose of such Letter of Credit, and such other information as may be necessary or desirable to complete such Letter of Credit. Each Issuing Bank will give the Agent prompt notice of the issuance and amount of each Letter of Credit issued by it, any amendment, extension or renewal of such Letter of Credit and the expiration of such Letter of Credit. Each Issuing Bank will give the Agent and the Borrower (i) daily notice of the aggregate amount available to be drawn under all outstanding Letters of Credit issued by it and (ii) a quarterly summary indicating, on a daily basis during such quarter, the issuance of any Letter of Credit issued by it and the amount thereof, the expiration of any such Letter of Credit and any payment on drafts presented under such Letters of Credit. (d) Each Issuing Bank that issues a Letter of Credit, by the issuance of such Letter of Credit and without any further action on the part of such Issuing Bank or the Banks in respect thereof, hereby grants to each Working Capital Bank, and each Working Capital Bank hereby acquires from such Issuing Bank, a participation in such Letter of Credit equal to such Bank's Applicable Percentage of the aggregate amount available to be drawn under such Letter of Credit, effective upon the issuance of such Letter of Credit. In consideration and in furtherance of the foregoing, each Working Capital Bank hereby absolutely and unconditionally agrees to pay to the Agent, on behalf of such Issuing Bank, in accordance with Section 2.03(c) such Bank's Applicable Percentage of each Letter of Credit Disbursement made by such Issuing Bank and not reimbursed by the Borrower when due in accordance with subsection (g) of this Section; provided that the Working Capital Banks shall not be obligated to make any such payment with respect to any wrongful Letter of Credit Disbursement made as a result of the gross negligence or wilful misconduct of such Issuing Bank. (e) Each Working Capital Bank acknowledges and agrees that its obligation to acquire participations pursuant to subsection (d) above in respect of Letters of Credit is absolute and unconditional and shall not be affected by any circumstance whatsoever, including the occurrence and continuance of a Default, and that each such payment shall be made without any offset, abatement, withholding or 47 reduction whatsoever (subject only to the proviso in subsection (d) above). (f) During the Working Capital Availability Period (and thereafter if and so long as there is any Letter of Credit Exposure), the Borrower shall pay (i) to the Agent for the account of the Working Capital Banks ratably in accordance with their Letter of Credit Exposure a fee at the per annum Euro-Dollar Margin for such day on the aggregate undrawn amount at the end of such day of all outstanding Letters of Credit and (ii) to each Issuing Bank for its own account, a fee at the rate of 0.125% per annum on the amount available to be drawn on each outstanding Letter of Credit issued by such Issuing Bank. Accrued fees under this subsection shall be calculated by the Agent (in the case of fees payable pursuant to clause (i) above) or the applicable Issuing Bank (in the case of fees payable to it pursuant to clause (ii) above) and shall be payable quarterly on each Quarterly Date (commencing on March 31, 1997) and on the Termination Date (and on demand after the Termination Date). The Agent (in the case of fees payable pursuant to clause (i) above) or the applicable Issuing Bank (in the case of fees payable to it pursuant to clause (ii) above) will notify the Borrower of the amount of accrued fees payable hereunder on each payment date. In addition to the foregoing, the Borrower shall pay directly to each Issuing Bank, for its account, such Issuing Bank's customary processing and documentation fees in connection with the issuance or amendment of or payment on any Letter of Credit, payable within 15 days after demand therefor by such Issuing Bank. (g) If an Issuing Bank shall pay any draft presented under a Letter of Credit, the Borrower shall pay directly to such Issuing Bank an amount equal to the amount of such draft before 1:00 P.M. (New York City time), on the day on which such Issuing Bank shall have notified the Borrower (as provided in subsection (j) below) that payment of such draft will be made; provided that, if the Borrower shall not have received notice of such draft before 11:00 A.M. (New York City time) on the date that payment of such draft is made, then such payment may be made by the Borrower to such Issuing Bank on the Domestic Business Day immediately following the date of receipt by the Borrower of notice of such draft, together with interest (at a rate per annum equal to the interest rate then applicable to Base Rate Working Capital Loans) on the amount of such draft from and including the date such draft was paid by such Issuing 48 Bank to but excluding such next Domestic Business Day. If the Borrower shall fail to pay any amount required to be paid by it under this subsection when due, such unpaid amount shall bear interest, for each day from and including the due date to but excluding the date of payment, at a rate per annum equal to the interest rate then applicable to overdue Base Rate Working Capital Loans. (h) The Borrower's obligation to reimburse Letter of Credit Disbursements as provided in subsection (g) above shall be absolute, unconditional and irrevocable and shall be performed strictly in accordance with the terms of this Agreement under any and all circumstances whatsoever, and irrespective of: (i) any lack of validity or enforceability of any Letter of Credit or any Loan Document; (ii) the existence of any claim, setoff, defense or other right which the Borrower, any Subsidiary or any other Person may at any time have against the beneficiary under any Letter of Credit, any Issuing Bank, the Agent or any Bank or any other Person in connection with this Agreement, any other Loan Document or any other related or unrelated agreement or transaction; (iii) any draft or other document presented under a Letter of Credit proving to be forged, fraudulent, invalid or insufficient in any respect or any statement therein being untrue or inaccurate in any respect; (iv) payment by any Issuing Bank under a Letter of Credit against presentation of a draft or other document which does not comply with the terms of such Letter of Credit, subject to subsection (i) below; and (v) any other act or omission or delay of any kind or any other circumstance or event whatsoever, whether or not similar to any of the foregoing and whether or not foreseeable, that might, but for the provisions of this subsection (h), constitute a legal or equitable discharge of the Borrower's obligations hereunder. (i) None of the Banks (including any Issuing Bank) nor the Agent nor any of their officers or directors or employees or agents shall be liable or responsible by reason of or in connection with (and the Borrower shall 49 indemnify and hold harmless each of the Banks, the Issuing Banks, the Agent and their officers, directors, employees and agents from and against any and all liabilities, losses, damages, costs and expenses, including, without limitation, reasonable fees and disbursements of counsel, arising by reason of or in connection with) the execution and delivery or transfer of or payment or failure to pay under any Letter of Credit, including without limitation any of the circumstances enumerated in subsection (h) above, as well as (i) any error, omission, interruption or delay in transmission or delivery of any messages, by mail, cable, telegraph, telex or otherwise, (ii) any error in interpretation of technical terms, (iii) any loss or delay in the transmission of any document required in order to make a drawing under a Letter of Credit, or (iv) any consequences arising from causes beyond the control of any Issuing Bank, including without limitation any government acts, or any other circumstances whatsoever in making or failing to make payment under any Letter of Credit; provided that the Borrower shall not be required to indemnify any Issuing Bank for any claims, damages, losses, liabilities, costs or expenses, and the Borrower shall have a claim for direct (but not consequential) damage suffered by it, to the extent found by a court of competent jurisdiction to have been caused by (x) the wilful misconduct or gross negligence of an Issuing Bank in determining whether a request presented under any Letter of Credit issued by it complied with the terms of such Letter of Credit or (y) an Issuing Bank's failure to pay under any Letter of Credit issued by it after the presentation to it of a request strictly complying with the terms and conditions of such Letter of Credit. Nothing in this subsection (i) is intended to limit the obligations of the Borrower under any other provision of this Agreement. To the extent the Borrower does not indemnify an Issuing Bank as required by this subsection, the Banks agree to do so ratably in accordance with their Working Capital Commitments. It is expressly understood and agreed that, for purposes of determining whether a wrongful payment under a Letter of Credit resulted from an Issuing Bank's gross negligence or wilful misconduct, such Issuing Bank may accept documents that appear on their face to be in order, without responsibility for further investigation, regardless of any notice or information to the contrary and, in making any payment under any Letter of Credit (A) an Issuing Bank's exclusive reliance on the documents presented to it under such Letter of Credit as to any and all matters set forth therein, including reliance on the amount of any draft presented under such Letter of Credit, whether or not 50 the amount due to the beneficiary thereunder equals the amount of such draft and whether or not any document presented pursuant to such Letter of Credit proves to be insufficient in any material respect, if such document on its face appears to be in order, and whether or not any other statement or any other document presented pursuant to such Letter of Credit proves to be forged or invalid or any statement therein proves to be inaccurate or untrue in any respect whatsoever and (B) any noncompliance in any immaterial respect of the documents presented under such Letter of Credit with the terms thereof shall, in each case, be deemed not to constitute wilful misconduct or gross negligence of such Issuing Bank. (j) Each Issuing Bank shall, promptly following its receipt thereof, examine all documents purporting to represent a demand for payment under a Letter of Credit issued by it. Such Issuing Bank shall as promptly as possible give telephonic notification, confirmed by telex or telecopy, to the Agent and the Borrower of such demand for payment and whether such Issuing Bank has made or will make a Letter of Credit Disbursement thereunder, provided that the failure to give such notice shall not relieve the Borrower of its obligation to reimburse any such Letter of Credit Disbursement in accordance with this Section. The Agent shall promptly give each Bank that holds a participation in such Letter of Credit notice thereof. (k) If at any time, (i) the Letter of Credit Exposure exceeds the Letter of Credit Sublimit Amount or (ii) the sum of the Letter of Credit Exposure plus the aggregate principal amount of all outstanding Working Capital Loans and Swingline Loans plus the aggregate amount of the outstanding Existing Letters of Credit exceeds the aggregate Working Capital Commitments, then the Borrower shall provide cash collateral in respect of the Letter of Credit Exposure as provided below in an amount equal to such excess; provided that, solely for purposes of determining whether the Borrower is in compliance with the foregoing requirements of this subsection (k), each of the Letter of Credit Sublimit Amount and the aggregate Working Capital Commitments shall be deemed to be increased by the amount of any cash collateral then held by the Agent pursuant to this subsection (k). In the event that the Borrower is required pursuant to the terms of this Agreement to provide cash collateral in respect of the Letter of Credit Exposure, the Borrower shall deposit in an account with the Agent, for the benefit of the Banks (including the Issuing Banks), an amount in cash equal to (x) in the case of a deposit 51 required pursuant to the first sentence of this subsection (k), the amount specified therein, or (y) in the case of a deposit required as a result of an Event of Default, the entire Letter of Credit Exposure. Such deposit shall be held by the Agent as collateral for the payment and performance of the Obligations. The Agent shall have exclusive dominion and control, including the exclusive right of withdrawal, over such account. Other than any interest earned on the investment of such deposits in Temporary Cash Investments, which investments shall be made at the direction of the Borrower if at the time no Event of Default shall have occurred and be continuing (in which case such investments shall be made at the option and sole but reasonable discretion of the Agent), such deposits shall not bear interest. Interest or profits, if any, on such investments shall accumulate in such account. Moneys in such account shall automatically be applied by the Agent to reimburse the Issuing Banks for Letter of Credit Disbursements and, if the maturity of the Loans has been accelerated, to satisfy the Obligations. If the Borrower is required to provide an amount of cash collateral hereunder pursuant to the first sentence of this subsection (k), the Agent shall return such amount (to the extent not applied as aforesaid) to the Borrower, from time to time, to the extent that doing so would not give rise to an obligation on the part of the Borrower to provide additional cash collateral pursuant to such sentence. If the Borrower is required to provide an amount of cash collateral hereunder as a result of an Event of Default, such amount (to the extent not applied as aforesaid) shall be returned to the Borrower within three Domestic Business days after all Events of Default have been cured or waived, and if prior to such return the amount of the Letter of Credit Exposure is reduced, any excess of the amount deposited (to the extent not applied as aforesaid and disregarding interest or profits on investments) over the reduced amount of the Letter of Credit Exposure shall be returned to the Borrower promptly after such reduction gives rise to such excess. Notwithstanding the foregoing, if any Obligation is due and payable but remains unpaid at the time that the Agent would otherwise be required to return any amount of cash collateral to the Borrower hereunder, the Agent may retain such cash collateral and apply the amounts retained to the payment of such unpaid Obligation. (l) The Borrower, the Agent and any Bank that is willing to be an Issuing Bank hereunder may agree that such Bank shall be an Issuing Bank by the execution and delivery 52 of an agreement substantially in the form of Exhibit I (an "Issuing Bank Agreement"). The Agent shall notify the Banks of the identity of any Issuing Bank appointed pursuant to this subsection (l). The Borrower also may terminate the status of any Issuing Bank as an Issuing Bank hereunder at any time by at least three Domestic Business Days' prior notice to such Issuing Bank and the Agent, and the Agent shall thereupon notify the Banks of such termination; provided that such termination shall operate only to relieve such Issuing Bank of its obligation to issue Letters of Credit hereunder and shall not affect such Issuing Bank's status as an Issuing Bank or its rights and obligations hereunder with respect to any Letters of Credit previously issued by it. ARTICLE III Conditions ---------- SECTION 3.01. Effectiveness. The obligations of the Banks to make Loans and of the Issuing Banks to issue Letters of Credit under this Agreement shall become effective on the date that each of the following conditions shall have been satisfied (or waived in accordance with Section 9.05): (a) receipt by the Agent of counterparts hereof signed by each of the parties hereto (or, in the case of any party as to which an executed counterpart shall not have been received, receipt by the Agent in form satisfactory to it of telecopy or other written confirmation from such party of execution of a counterpart hereof by such party); (b) receipt by the Agent for the account of each Bank of duly executed Notes dated on or before the Effective Date complying with the provisions of Section 2.05; (c) receipt by the Agent of counterparts of the Guarantee Agreement, duly executed by the Initial Guarantors; (d) receipt by the Agent of counterparts of the Indemnity, Subrogation and Contribution Agreement, duly executed by the Initial Guarantors; 53 (e) receipt by the Security Agent of (i) counterparts of the Pledge Agreement, duly executed by the parties thereto and (ii) certificates representing all outstanding shares of capital stock (or other equity interest) of each Subsidiary of the Borrower to be pledged under the Pledge Agreement (it being understood that (x) the Pledge Agreement does not require the pledge of any shares of capital stock (or other equity interest) owned by an Excluded Subsidiary, a Foreign Subsidiary, a Qualified Joint Venture or a Joint Venture Holding Company, or any shares of capital stock (or other equity interest) issued by a Foreign Subsidiary or Excluded Subsidiary and (y) prior to January 1, 1997, the Pledge Agreement does not require the pledge of any shares of capital stock (or other equity interest) issued by a Qualified Joint Venture), accompanied by stock powers endorsed in blank; (f) receipt by the Security Agent of counterparts of the Security Agreement, duly executed by the parties thereto, and a duly completed and executed Perfection Certificate (as defined in the Security Agreement); (g) receipt by the Security Agent of copies of each document (including each Uniform Commercial Code financing statement) required by law or reasonably requested by the Security Agent to be filed, registered or recorded in order to create in favor of the Security Agent for the benefit of the Banks a valid, legal and perfected security interest in or lien on the collateral that is the subject of the Security Agreement; (h) receipt by the Security Agent of the results of a search of the Uniform Commercial Code financing statements filed with respect to the Borrower and its Subsidiaries in the States in which are located the chief executive offices of such Persons and the other jurisdictions in which Uniform Commercial Code financing statements are to be filed, together with copies of all financing statements disclosed by such search, and accompanied by evidence reasonably satisfactory to the Required Banks that each Lien indicated in any such financing statement is permitted hereunder or that the Lien indicated thereby has been released; (i) receipt by the Agent of a certificate signed on behalf of the Borrower by the chief financial 54 officer, treasurer or controller of the Borrower, dated the Effective Date, to the effect that (i) no Default has occurred and is continuing as of the Effective Date, (ii) the representations and warranties of the Borrower set forth in Article IV hereof and in the Pledge Agreement and the Security Agreement are true in all material respects on, and as of, the Effective Date and (iii) all the Preliminary Spin-Off Transactions have been consummated in all material respects; (j) to the extent not received prior to the date of execution and delivery of this Agreement, receipt by the Agent and its counsel of true and complete copies of the Transaction Documents (excluding those described in Schedule 1.01(b)) and reasonable satisfaction of the Agent and its counsel with the form, terms and provisions of the Transaction Documents, including, without limitation, the indemnities of Corning for the benefit of the Borrower with respect to certain contingent liabilities; (k) receipt by the Banks of satisfactory evidence that the Borrower shall have obtained all consents and approvals of, and shall have made all filings and registrations with, any governmental authority required in order to consummate the Transactions (other than (i) filing of Uniform Commercial Code financing statements in order to perfect Liens granted under the Security Agreement and (ii) notice filings in connection with (x) changing the name of the Borrower and certain Subsidiaries and (y) substituting the ultimate parent entity with respect to substantially all licenses and accreditation, in each case in connection with the Spin-Off Transactions), in each case without the imposition of any condition which, in the reasonable judgment of the Required Banks, could have a Material Adverse Effect; (l) receipt by the Agent of all fees and other compensation payable to the Agent, the Arranging Agents and the Banks on or prior to the Effective Date pursuant to their agreements with the Borrower, including reimbursement of all out-of-pocket expenses of the Agent and the Arranging Agents payable by the Borrower in accordance with this Agreement for which invoices have been presented to the Borrower at least one Domestic Business Day prior to the Effective Date; 55 (m) receipt by the Agent of (i) an opinion of Raymond C. Marier, general counsel of the Borrower, substantially in the form of Exhibit G-1 hereto, and (ii) an opinion of Shearman & Sterling, counsel for the Borrower, substantially in the form of Exhibit G-2 hereto, and in each case covering such additional matters relating to the Transactions as the Required Banks may reasonably request; (n) receipt by the Agent of an opinion of Cravath, Swaine & Moore, special counsel for the Agent, substantially in the form of Exhibit H hereto and covering such additional matters relating to the transactions contemplated hereby as the Required Banks may reasonably request; (o) the Borrower shall have made arrangements satisfactory to the Agent to repay, on the Effective Date, Debt of the Borrower and its Subsidiaries owing to the Corning Companies with the proceeds of the Term Loans, together with the proceeds of certain loan repayments and dividends received from CPS as contemplated by the Spin-Off Information, and the Agent shall have received counterparts of the Corning Subordination Agreement duly executed by the parties thereto with respect to the remaining Permitted Subordinated Debt and any Excess Corning Debt; (p) receipt by the Agent and each Bank of copies of a solvency opinion from Murray, Devine & Co., Inc. in form and substance satisfactory to the Agent and the Banks, with respect to the solvency of the Borrower as of the Effective Date and giving effect to the Spin-Off Transactions; (q) the Banks shall be reasonably satisfied that there are no environmental and employee health and safety exposures to which the Borrower or the Subsidiaries may be subject (other than any such exposures that individually or in the aggregate would not reasonably be expected to have a Material Adverse Effect) and shall be reasonably satisfied with the plans of the Borrower with respect thereto; (r) the Banks shall be reasonably satisfied with the Borrower's arrangements for insurance required by Section 5.03(b) and the Security Documents, including premiums payable with respect thereto; and 56 (s) receipt by the Agent of all documents and certificates it may reasonably request relating to the existence of the Borrower and the Initial Guarantors, the corporate authority for and the validity of this Agreement and the other Loan Documents, the accuracy of the representations and warranties contained in this Agreement and the other Loan Documents on the Effective Date, the Transactions and any other matters relevant hereto or thereto, all in form and substance satisfactory to the Agent; provided that the obligations of the Banks to make Loans and of the Issuing Banks to issue Letters of Credit under this Agreement shall not become effective unless all of the foregoing conditions are satisfied not later than January 31, 1997. The Agent shall promptly notify the Borrower and the Banks of the Effective Date, and such notice shall be conclusive and binding on all parties hereto. SECTION 3.02. Each Credit Event. The obligation of any Bank (including the Swingline Bank) to make a Loan on the occasion of any Borrowing and of any Issuing Bank to issue any Letter of Credit is subject to the satisfaction of the following conditions: (a) receipt by the Agent of a Notice of Borrowing as required by Section 2.02, receipt by the Swingline Bank of a notice requesting a Swingline Loan as required by Section 2.04 or receipt by the applicable Issuing Bank of a notice requesting issuance of a Letter of Credit as required by Section 2.15(c), as applicable; (b) the fact that, immediately after such Borrowing or the issuance of such Letter of Credit, (i) the sum of the aggregate principal amount of all outstanding Working Capital Loans and Swingline Loans plus the Letter of Credit Exposure and the aggregate amount of the outstanding Existing Letters of Credit shall not exceed the aggregate Working Capital Commitments and (ii) the Letter of Credit Exposure shall not exceed the Letter of Credit Sublimit Amount; (c) the fact that, immediately before and after such Borrowing or the issuance of such Letter of Credit, no Default shall have occurred and be continuing; and 57 (d) the fact that the representations and warranties of the Borrower contained in this Agreement and of the Borrower and its Subsidiaries contained in the other Loan Documents shall be true on and as of the date of such Borrowing or issuance of such Letter of Credit. Each Borrowing hereunder and the issuance of each Letter of Credit hereunder shall be deemed to be a representation and warranty by the Borrower on the date of such Borrowing or issuance as to the facts specified in clauses (b), (c) and (d) of this Section. ARTICLE IV Representations and Warranties ------------------------------ The Borrower represents and warrants that: SECTION 4.01. Corporate Existence and Power. The Borrower is a corporation duly incorporated, validly existing and in good standing under the laws of the State of Delaware, and has all corporate powers and all material governmental licenses, authorizations, consents and approvals required to carry on its business as now conducted. SECTION 4.02. Corporate and Governmental Authorization; No Contravention. The execution, delivery and performance by each of the Borrower and the Subsidiaries of each Loan Document to which it is or is to be a party and the Financing Transactions provided for thereunder and, to the extent involving the Borrower or any Subsidiary, the Spin-Off Transactions, are within its corporate powers, have been duly authorized by all necessary corporate action, require no action by or in respect of, or filing with, any governmental body, agency or official (other than (i) the filing of Uniform Commercial Code financing statements in order to perfect Liens granted under the Security Agreement, (ii) notice filings in connection with (x) changing the name of the Borrower and certain Subsidiaries and (y) substituting the ultimate parent entity with respect to substantially all licenses and accreditation, in each case in connection with the Spin-Off Transactions and (iii) any other actions and filings that have been obtained and are in full force and effect) and do not contravene, or constitute a default under, any provision of applicable law or 58 regulation or of the certificate of incorporation or by-laws of the Borrower or any Subsidiary or of any judgment, injunction, order or decree, or any other material agreement or instrument, in each case binding upon the Borrower or any of its Subsidiaries, or result in the creation or imposition of any Lien (other than Liens created under the Security Documents) on any asset of the Borrower or any of its Subsidiaries. SECTION 4.03. Binding Effect. This Agreement constitutes a valid and binding agreement of the Borrower, and the other Loan Documents to which the Borrower or any of the Subsidiaries is or is to be a party, when executed and delivered in accordance with this Agreement, will constitute valid and binding agreements and obligations of each of the Borrower and the Subsidiaries that is a party thereto, in each case enforceable in accordance with its terms. SECTION 4.04. Financial Information. (a) The combined balance sheets of the Borrower as of December 31, 1995 and the related combined statements of operations, stockholder's equity and cash flows for the fiscal year then ended, reported on by Price Waterhouse LLP and set forth in the Spin-Off Information, a copy of which has been delivered to each of the Banks, fairly present, in conformity with generally accepted accounting principles, the financial position of the Borrower as of such date and its results of operations and cash flows for such fiscal year. (b) The unaudited combined balance sheet of the Borrower as of September 30, 1996, and the related combined statements of operations and cash flows for the fiscal period then ended, set forth in the Spin-Off Information, a copy of which has been delivered to each of the Banks, fairly present, in conformity with generally accepted accounting principles applied on a basis consistent with the financial statements referred to in subsection (a) of this Section, the financial position of the Borrower as of such date and its results of operations and cash flows for such fiscal period (subject to normal year-end adjustments). (c) The unaudited pro-forma combined balance sheet of the Borrower dated as of September 30, 1996, and the related unaudited pro forma combined statements of income for the fiscal year ended December 31, 1995, and the fiscal quarter ended September 30, 1996, set forth in the Spin-Off Information, have been derived from the historical financial statements as of such date and for such periods 59 referred to in subsections (a) and (b) of this Section adjusted to give effect to the Transactions on the basis described therein. Such pro-forma combined financial statements present fairly, on a pro-forma basis, the consolidated financial position of the Borrower as of the date thereof and its consolidated income for such periods, assuming that the adjustments specified therein had occurred as described therein, subject, in the case of such pro forma financial statements as of and for the period ended September 30, 1996, to normal year-end adjustments. (d) Since December 31, 1995, there has been no material adverse change in the business, assets, liabilities, operations or condition (financial or otherwise) of the Borrower and its Consolidated Subsidiaries, considered as a whole; provided that it is understood that the special charges taken and reserves established as described in footnotes numbered [2, 3 and 6] to the unaudited combined financial statements of the Borrower for the nine-month period ended September 30, 1996, as set forth in the Spin-Off Information, shall not, in and of themselves, be deemed to constitute such a material adverse change. SECTION 4.05. Litigation. There is no action, suit or proceeding pending against, or to the knowledge of the Borrower threatened against or affecting, the Borrower or any of its Subsidiaries before any court or arbitrator or any governmental body, agency or official in which there is a reasonable possibility of an adverse decision which would reasonably be expected to have a Material Adverse Effect or which in any manner draws into question the validity or enforceability of this Agreement or any other Loan Document. SECTION 4.06. Compliance with ERISA. Except to the extent that all such failures to fulfill any such obligations or comply with any such provisions would not reasonably be expected to have a Material Adverse Effect, each member of the ERISA Group has fulfilled its obligations under the minimum funding standards of ERISA and the Internal Revenue Code with respect to each Plan and is in compliance in all material respects with the presently applicable provisions of ERISA and the Internal Revenue Code with respect to each Plan. Except to the extent that all such waivers, failures and liabilities would not reasonably be expected to have a Material Adverse Effect, no member of the ERISA Group has (i) sought a waiver of the minimum funding standard under Section 412 of the Internal Revenue 60 Code in respect of any Plan, (ii) failed to make any contribution or payment to any Plan or Multiemployer Plan or in respect of any Benefit Arrangement, or made any amendment to any Plan or Benefit Arrangement, which failure or amendment has resulted or could result in the imposition of a Lien or the posting of a bond or other security under ERISA or the Internal Revenue Code or (iii) incurred any liability under Title IV of ERISA other than a liability to the PBGC for premiums under Section 4007 of ERISA. SECTION 4.07. Environmental Matters. Except with respect to matters that, individually or in the aggregate, would not reasonably be likely to result in a Material Adverse Effect, neither the Borrower nor any of its Subsidiaries (i) has failed to comply with any Environmental Law or to obtain, maintain or comply with any permit, license or other approval required under any Environmental Law, (ii) has become subject to any Environmental Liability, (iii) has received notice of any claim with respect to any Environmental Liability or (iv) knows of any basis for any Environmental Liability. SECTION 4.08. Taxes. The Borrower and each Subsidiary has filed, or caused to be filed, all tax returns (Federal, state, local and foreign) required to be filed and paid (a) all amounts of taxes shown thereon to be due (including interest and penalties) and (b) all other taxes, fees, assessments and other governmental charges (including mortgage recording taxes, documentary stamp taxes and intangible taxes) owed by it, except for such taxes (i) which are not delinquent or (ii) that are being contested in good faith and by proper proceedings, and against which adequate reserves are being maintained in accordance with generally accepted accounting principles. Neither the Borrower nor any of its Subsidiaries is aware of any proposed tax assessments issued against it by a taxing authority to either the Borrower or any of its Subsidiaries which would be reasonably likely to have a Material Adverse Effect. SECTION 4.09. Subsidiaries. (a) Each of the Borrower's corporate Subsidiaries is a corporation duly incorporated, validly existing and in good standing under the laws of its jurisdiction of incorporation, and has all corporate powers and all material governmental licenses, authorizations, consents and approvals required to carry on its business as now conducted. 61 (b) Schedule 4.09(b) lists as of the Effective Date, each Subsidiary indicating the Initial Guarantors, Foreign Subsidiaries, Qualified Joint Ventures, Joint Venture Holding Companies and Excluded Subsidiaries. SECTION 4.10. Regulatory Restrictions on Borrowing. The Borrower is not an "investment company" within the meaning of the Investment Company Act of 1940, as amended, a "holding company" within the meaning of the Public Utility Holding Company Act of 1935, as amended, or otherwise subject to any regulatory scheme which restricts its ability to incur debt. SECTION 4.11. Full Disclosure. All written information heretofore furnished by the Borrower to the Agent or any Bank for purposes of or in connection with this Agreement or any other Loan Document or any Transaction is, and all such information hereafter furnished by the Borrower to the Agent or any Bank will be, true and accurate in all material respects on the date as of which such information is stated or certified. The Borrower has disclosed to the Banks in the Spin-Off Information any and all facts which materially and adversely affect or may affect (to the extent the Borrower can now reasonably foresee) the business, operations or financial condition of the Borrower and its Consolidated Subsidiaries, taken as a whole, or the ability of the Borrower to perform its obligations under this Agreement and the other Loan Documents. SECTION 4.12. Compliance with Laws and Agreements. Neither the Borrower nor any Subsidiary is in violation of any law, rule or regulation, or in default with respect to any judgment, writ, injunction or decree applicable to it of any governmental body, agency or official, where such violation or default (individually or in the aggregate) could reasonably be expected to result in a Material Adverse Effect. Neither the Borrower nor any Subsidiary is in default in any manner under any provision of any indenture or other agreement or instrument evidencing Debt, or any other agreement or instrument to which it is a party or by which it or any of its properties or assets are or may be bound, where such default (individually or in the aggregate) could reasonably be expected to result in a Material Adverse Effect. SECTION 4.13. Governmental Approvals. As of the Effective Date, all material consents and approvals of, and material filings and registrations with, and all other 62 material actions in respect of, all governmental bodies, agencies or officials or any other Person required in order to consummate the Transactions shall have been obtained, given, filed or taken and shall be in full force and effect, other than the filings and notices referred to in clauses (i) and (ii) of Section 4.02. SECTION 4.14. Solvency. (a) On the Effective Date and immediately after the consummation of the Spin-Off Distributions, (i) the fair value of the assets of the Borrower, at a fair valuation, will exceed its debts and liabilities, subordinated, contingent or otherwise; (ii) the present fair saleable value of the property of the Borrower will be greater than the amount that will be required to pay the probable liability of its debts and other liabilities, subordinated, contingent or otherwise, as such debts and other liabilities become absolute and matured; (iii) the Borrower does not intend to incur and does not believe it will incur debts and liabilities, subordinated, contingent or otherwise, beyond its ability to pay such debts and liabilities as they become absolute and matured; and (iv) the Borrower will not have unreasonably small capital with which to conduct the business in which it is engaged as such business is now conducted and is proposed to be conducted following the Effective Date and the consummation of the Spin-Off Distributions. ARTICLE V Covenants --------- The Borrower agrees that, so long as any Bank has any Commitment or any Loan or Letter of Credit Disbursement or accrued interest thereon remains unpaid or any Letter of Credit remains outstanding: SECTION 5.01. Information. The Borrower will deliver to each of the Banks: (a) as soon as available and in any event within 90 days after the end of each fiscal year of the Borrower, a consolidated balance sheet of the Borrower and its Consolidated Subsidiaries as of the end of such fiscal year and the related consolidated statements of operations, stockholders' equity and cash flows for such fiscal year, setting forth in each case in comparative form the figures for the previous fiscal 63 year, all reported on in a manner acceptable to the Securities and Exchange Commission by Price Waterhouse LLP or other independent public accountants of nationally recognized standing; (b) as soon as available and in any event within 45 days after the end of each of the first three quarters of each fiscal year of the Borrower, a consolidated balance sheet of the Borrower and its Consolidated Subsidiaries as of the end of such quarter and the related consolidated statements of operations, stockholders' equity and cash flows for such quarter and for the portion of the Borrower's fiscal year ended at the end of such quarter, setting forth in each case in comparative form the figures for the corresponding quarter and the corresponding portion of the Borrower's previous fiscal year, all certified (subject to normal year-end adjustments) as to fairness of presentation, generally accepted accounting principles and consistency by the chief financial officer or chief accounting officer of the Borrower; (c) simultaneously with the delivery of each set of financial statements referred to in clauses (a) and (b) above, a certificate of the chief financial officer or the chief accounting officer of the Borrower (i) setting forth in reasonable detail the calculations required to establish whether the Borrower was in compliance with the requirements of Sections 5.18, 5.19, 5.20 and 5.21 of this Agreement on the date of such financial statements, (ii) setting forth in reasonable detail the calculations required to establish the Borrower's Debt Coverage Ratio as of the end of the Calculation Period ended on the date of the most recent balance sheet included in such financial statements, (iii) stating whether to such officer's actual knowledge any Default exists hereunder on the date of such certificate and, if any such Default then exists, setting forth the details thereof and the action which the Borrower is taking or proposes to take with respect thereto, (iv) stating whether, since the date of the most recent financial statements previously delivered pursuant to this Section, there has been any material change in the generally accepted accounting principles applied in the preparation of such statements, and, if so, describing such change and (v) stating whether there is any Subsidiary that has not 64 taken all actions required to be taken pursuant to Section 5.07; (d) simultaneously with the delivery of each set of financial statements referred to in clause (a) above, a statement of the firm of independent public accountants which reported on such statements indicating whether anything has come to their attention to cause them to believe that any Default existed on the date of such statements (which certificate may be limited to the extent required by accounting rules or guidelines); (e) within five days after any officer of the Borrower obtains actual knowledge of any Default, if such Default is then continuing, a certificate of the chief financial officer or the chief accounting officer of the Borrower setting forth the details thereof and the action which the Borrower is taking or proposes to take with respect thereto; (f) promptly upon the mailing thereof to the shareholders of the Borrower generally after the Spin- Off Distributions, copies of all financial statements, reports and proxy statements so mailed; (g) promptly upon the filing thereof, copies of all registration statements (other than the exhibits thereto and any registration statements on Form S-8 or its equivalent) and reports on Forms 10-K, 10-Q and 8-K (or their equivalents), including, without limitation, any and all amendments thereto and to the Spin-Off Information, which the Borrower shall have filed with the Securities and Exchange Commission; (h) within 10 days after any member of the ERISA Group (i) gives or is required to give notice to the PBGC of any "reportable event" (as defined in Section 4043 of ERISA), other than any reportable event resulting from the Spin-Off Transactions, with respect to any Plan with an unfunded liability in excess of $5,000,000 which might constitute grounds for a termination of such Plan under Title IV of ERISA, or knows that the plan administrator of any Plan has given or is required to give notice of any such reportable event, a copy of the notice of such reportable event given or required to be given to the PBGC; (ii) receives notice of complete or partial withdrawal 65 liability under Title IV of ERISA or notice that any Multiemployer Plan is in reorganization, is insolvent or has been terminated, a copy of such notice; (iii) receives notice from the PBGC under Title IV of ERISA of an intent to terminate, impose liability (other than for premiums under Section 4007 of ERISA) in respect of, or appoint a trustee to administer any Plan with an unfunded liability in excess of $5,000,000, a copy of such notice; (iv) applies for a waiver of the minimum funding standard under Section 412 of the Internal Revenue Code, a copy of such application; (v) gives notice of intent to terminate any Plan with an unfunded liability in excess of $5,000,000 under Section 4041(c) of ERISA, a copy of such notice and other information filed with the PBGC; (vi) gives notice of withdrawal from any Plan with an unfunded liability in excess of $5,000,000 pursuant to Section 4063 of ERISA, a copy of such notice, if such withdrawal, reorganization, insolvency or termination has resulted or could reasonably be expected to result in a current payment obligation of any member of the ERISA Group in excess of $5,000,000; or (vii) fails to make any payment or contribution to any Plan or Multiemployer Plan or makes any amendment to any Plan which failure or amendment has resulted or could result in the imposition of a Lien or the posting of a bond or other security, a certificate of the chief financial officer or the chief accounting officer of the Borrower setting forth details as to such occurrence and action, if any, which the Borrower or applicable member of the ERISA Group is required or proposes to take; provided, however, that prior to the Spin-Off Transactions, the Borrower's covenant under this subparagraph (h) shall not apply with respect to (i) any notice given or required to be given by, (ii) any notice received by, (iii) any waiver application by, or (iv) any failure or amendment by (collectively, "Section 5.01(h) Notice"), any member of the ERISA Group other than the Borrower or any Subsidiary, unless the event or condition that is the subject of the Section 5.01(h) Notice has resulted or is reasonably expected to result in a liability in excess of $5,000,000. (i) not later than 45 days after the end of each fiscal year of the Borrower, commencing with the fiscal year beginning in January 1997, a copy of the annual business plan and projections of the Borrower and its Consolidated Subsidiaries (including, without 66 limitation, operating budget and cash flow budget of the Borrower and its Consolidated Subsidiaries) for such fiscal year, such plans and projections to be accompanied by a certificate of the chief financial officer or chief accounting officer of the Borrower stating that such plans and projections have been prepared using assumptions believed in good faith by management of the Borrower to be reasonable at the time made; and (j) from time to time such additional information regarding the financial position or business of the Borrower and its Subsidiaries as the Agent, at the request of any Bank, may reasonably request. SECTION 5.02. Payment of Obligations. The Borrower will pay and discharge, and will cause each of its Subsidiaries to pay and discharge, at or before maturity, all their respective material obligations and liabilities, (including, without limitation, tax liabilities and claims of materialmen, warehousemen and the like which if not paid might by law give rise to a Lien), except where the same may be contested in good faith by appropriate proceedings, and will maintain, and will cause each Subsidiary to maintain, in accordance with generally accepted accounting principles, appropriate reserves for the accrual of any of the same. SECTION 5.03. Maintenance of Property; Insurance. (a) The Borrower will keep, and will cause each of its Subsidiaries to keep, all property useful and necessary in its business in good working order and condition, ordinary wear and tear excepted. (b) The Borrower will, and will cause each of its Subsidiaries to, maintain (either in the name of the Borrower or in such Subsidiary's own name) with financially sound and responsible insurance companies, insurance on all their respective properties in at least such amounts, against at least such risks and with such risk retention as are usually maintained, insured against or retained, as the case may be, in the same general area by companies of established repute engaged in the same or a similar business; and will furnish to the Banks, upon request from the Agent, information presented in reasonable detail as to the insurance so carried. Prior to the Spin-Off Distributions, the Borrower will be deemed to be in compliance with the foregoing provisions of this subparagraph (b) of this Section if and to the extent 67 Corning maintains such insurance coverage under common policies for the Borrower and its Subsidiaries. SECTION 5.04. Conduct of Business and Maintenance of Existence. The Borrower will continue, and will cause each of its Subsidiaries to continue, to engage in business of the same general type as now conducted by the Borrower and its Subsidiaries, and will preserve, renew and keep in full force and effect, and will cause each of its Subsidiaries to preserve, renew and keep in full force and effect, their respective corporate existence and their respective rights, privileges and franchises necessary or desirable in the normal conduct of business; provided that nothing in this Section 5.04 shall prohibit (i) any merger of any Subsidiary of the Borrower permitted by Section 5.11(a) or (ii) the termination of the corporate existence of any Subsidiary if the Borrower in good faith determines that such termination is in the best interest of the Borrower and is not materially disadvantageous to the Banks (it being understood that the mere existence of Security Documents or a Guarantee Agreement applicable to such Subsidiary does not preclude the Borrower from making such determination). SECTION 5.05. Compliance with Laws. The Borrower will comply, and cause each of its Subsidiaries to comply, with all applicable laws, ordinances, rules, regulations and requirements of any governmental authorities (including, without limitation, Environmental Laws and ERISA and the rules and regulations thereunder) except where (i) noncompliance therewith would not have a Material Adverse Effect or (ii) the necessity of compliance therewith is contested in good faith by appropriate proceedings. SECTION 5.06. Inspection of Property, Books and Records. The Borrower will keep, and will cause each of its Subsidiaries to keep, proper books of record and account in which full, true and correct entries shall be made of all dealings and transactions in relation to its business and activities. The Borrower, upon reasonable advance notice from any Bank, will permit, and will cause each of its Subsidiaries to permit, representatives of such Bank at such Bank's expense to visit and inspect any of their respective properties, to examine and make abstracts from any of their respective books and records and to discuss their respective affairs, finances and accounts with their respective officers, employees and independent public accountants, all 68 at such reasonable times and as often as may reasonably be desired. SECTION 5.07. Additional Subsidiaries. If at any time after the Effective Date any Person is or becomes a Subsidiary (or any Subsidiary that initially is an Excluded Subsidiary ceases to be an Excluded Subsidiary) the Borrower, within 30 days of such Person becoming a Subsidiary (or ceasing to be an Excluded Subsidiary), will (a) cause such Subsidiary (unless such Subsidiary is a Qualified Joint Venture, Joint Venture Holding Company, Foreign Subsidiary or Excluded Subsidiary) to become a Guarantor pursuant to the Guarantee Agreement; (b) pledge, or cause to be pledged, all the outstanding shares of capital stock of and other Investments in such Subsidiary (unless such Subsidiary is a Foreign Subsidiary or Excluded Subsidiary or, prior to January 1, 1997, a Qualified Joint Venture) that are owned directly or indirectly by or on behalf of the Borrower or any other Subsidiary (unless such Subsidiary is a Qualified Joint Venture, Joint Venture Holding Company, Foreign Subsidiary or Excluded Subsidiary), to be pledged pursuant to the Pledge Agreement; (c) cause such Subsidiary (unless such Subsidiary is a Qualified Joint Venture, Joint Venture Holding Company, Foreign Subsidiary or Excluded Subsidiary) to become a party to the Pledge Agreement and the Security Agreement and grant Liens on its assets to the same extent as the Borrower and its other Subsidiaries thereunder; and (d) take all actions as shall be necessary, or that the Agent or the Security Agent shall reasonably request, to perfect such Liens, including, without limitation, the execution and filing of Uniform Commercial Code financing statements in all relevant jurisdictions, and deliver evidence thereof to the Security Agent, all at the Borrower's expense. SECTION 5.08. Amendment of Certain Documents; Post-Closing Transaction Documents. (a) The Borrower will not permit any amendment or modification to be made to, or any waiver of its rights or the rights of any Subsidiary under, any Transaction Document or Subordinated Debt Document. The Borrower will not permit any amendment or modification to be made to the terms of the Permitted Preferred Stock. (b) Neither the Borrower nor any Subsidiary will enter into any Transaction Document after the Effective Date unless either (i) such Transaction Document is substantially in the form delivered to the Agent and its counsel on or 69 prior to the Effective Date, (ii) such Transaction Document is entered into in order to effectuate a transaction expressly contemplated by another Transaction Document and, to the extent the terms and conditions of such Transaction Document are not disclosed in the Spin-Off Information, is on terms and conditions no less favorable to the Borrower and its Subsidiaries than they would obtain in a comparable arm's-length transaction or (iii) such Transaction Document is approved by the Required Banks. SECTION 5.09. Investments. Neither the Borrower nor any of its Subsidiaries will make, hold or acquire any Investment in any Person other than: (a) Investments of the Borrower and its Subsidiaries existing on the date of this Agreement and set forth in Schedule 5.09; (b) Investments by the Borrower and its Subsidiaries in the Borrower and its Subsidiaries other than Excluded Subsidiaries, Foreign Subsidiaries, Joint Venture Holding Companies and Qualified Joint Ventures; (c) Temporary Cash Investments; (d) Investments by the Borrower and its Subsidiaries in Excluded Subsidiaries, Foreign Subsidiaries, Joint Venture Holding Companies and Qualified Joint Ventures consisting of (i) Investments made prior to the date of this Agreement and set forth in Schedule 5.09, (ii) Investments in additional Qualified Joint Ventures consisting of the contribution to such Qualified Joint Ventures of assets (other than cash and cash equivalents) described in Schedule 1.01(c) and assets (other than cash and cash equivalents) comprising one additional Quadrant Four Property and (iii) additional Investments, provided that the sum of all such additional Investments plus any commitments to make any such Investments (including the amount of any Indebtedness or other monetary obligations of any Excluded Subsidiaries, Foreign Subsidiaries, Joint Venture Holding Companies and Qualified Joint Ventures Guaranteed by the Borrower or any other Subsidiary) shall not exceed $25,000,000 in the aggregate at any time; (e) Investments by a Qualified Joint Venture; 70 (f) Investments that constitute acquisitions permitted by subparagraph (c) of Section 5.11; (g) loans and advances by the Borrower and its Subsidiaries to their respective employees not exceeding $3,000,000 in the aggregate at any time outstanding; and (h) any Investment by the Borrower not otherwise permitted by the foregoing clauses of this Section if, immediately after such Investment is made or acquired, the aggregate net book value of all Investments permitted by this subparagraph (h) does not exceed $5,000,000. SECTION 5.10 Negative Pledge. Neither the Borrower nor any of its Subsidiaries (other than Qualified Joint Ventures) will create, assume or suffer to exist any Lien on any asset now owned or hereafter acquired by it, except Liens created under the Security Documents and the following: (a) Liens existing on the date of this Agreement, or that the Borrower or any of its Subsidiaries has an existing commitment to create after the date of this Agreement, in each case identified on Schedule 5.10 securing obligations identified on such Schedule; (b) any Lien existing on any asset of any Person that becomes a Subsidiary after the Effective Date at the time such Person becomes a Subsidiary and not created in contemplation of such event; (c) any Lien on any asset securing Debt incurred or assumed for the purpose of financing all or any part of the cost of acquiring such asset; provided that (i) such Lien attaches to such asset concurrently with or within 90 days after the acquisition thereof and (ii) such Debt is permitted hereunder; (d) any Lien on any asset of any Person (other than the Borrower or a Subsidiary) existing at the time such Person is merged or consolidated with or into the Borrower or a Subsidiary and not created in contemplation of such event; provided that such Lien shall not attach to any other assets; 71 (e) any Lien existing on any asset prior to the acquisition thereof by the Borrower or a Subsidiary and not created in contemplation of such acquisition; provided that such Lien shall not attach to any other assets; (f) any Lien arising out of the refinancing, extension, renewal or refunding of any Debt secured by any Lien permitted by any of the foregoing clauses of this Section; provided that such Debt is permitted hereunder, is not increased and is not secured by any additional assets; (g) Liens for taxes not delinquent or being contested in good faith and by appropriate proceedings; (h) deposits or pledges to secure obligations under workers' compensation, social security or similar laws, or under unemployment insurance; (i) mechanics', workers', materialmen's, warehousemen's, lessor's or other like Liens arising in the ordinary course of business with respect to obligations which are not due or which are being contested in good faith; (j) Liens arising in the ordinary course of its business which (i) do not secure Debt or Derivatives Obligations, (ii) do not secure any monetary obligation in an amount exceeding $3,000,000 and (iii) do not in the aggregate materially detract from the value of its assets or materially impair the use thereof in the operation of its business; and (k) Liens on cash and cash equivalents securing Derivatives Obligations; provided that the aggregate amount of cash and cash equivalents subject to such Liens may at no time exceed $5,000,000. SECTION 5.11. Consolidations, Mergers, Acquisitions and Sales of Assets. (a) Neither the Borrower nor any of its Subsidiaries will consolidate or merge with or into any other Person, except that if, after giving effect thereto, no Default shall have occurred and be continuing, (i) any Subsidiary of the Borrower may be merged into the Borrower if the Borrower is the surviving corporation and (ii) any Subsidiary of the Borrower may merge with any other corporation (other than the Borrower) 72 if the surviving corporation is a Subsidiary; provided that if any such merger involves a party that was not a wholly-owned Subsidiary immediately prior to such merger, then such merger must also comply with subsection (c) of this Section. (b) Neither the Borrower nor any of its Subsidiaries will sell or otherwise transfer any asset, except (i) those assets owned on the date of this Agreement by the Borrower or any of its Subsidiaries identified on Schedule 5.11, (ii) sales and transfers between and among the Borrower and the Guarantors, (iii) the Spin-Off Transactions identified in Schedule 1.01(b) and the Spin-Off Distributions may be made in accordance with the Spin-Off Information, (iv) in the ordinary course of business, (v) transfers made to acquire Investments permitted by Section 5.09 or transfers made as Restricted Payments permitted by Section 5.16, (vi) transfer of assets comprising Quadrant Four Properties and (vii) other transfers (including assets other than Quadrant Four Properties transferred pursuant to Asset Swaps) provided that the aggregate fair market value of all assets transferred in reliance upon this clause (vii) shall not exceed $5,000,000 (or $10,000,000, in the case of transfers of assets comprising a Quadrant Two Property or Quadrant Three Property as part of an Asset Swap) per transfer or $25,000,000 in the aggregate during the period from the Effective Date through the Tranche B Maturity Date. Notwithstanding the foregoing, neither the Borrower nor any of its Subsidiaries will sell or otherwise transfer any assets prior to the date of the Spin-Off Distributions, except as permitted by clauses (ii), (iv) or (v) above and except for those assets identified in Part II of Schedule 5.11. (c) Neither the Borrower nor any of its Subsidiaries will, directly or indirectly (including, without limitation, by merger or consolidation), acquire any assets constituting a going concern business, or any capital stock or other ownership interests in any Person that prior to such acquisition was not a wholly-owned Subsidiary, except that, if at the time thereof and after giving effect thereto no Default shall have occurred and be continuing, the Borrower or any of its Subsidiaries may make any such acquisition; provided that (i) the business conducted with such acquired assets or conducted by such acquired Person shall be the same as or substantially similar to the principal business conducted by the Borrower and its Subsidiaries on the Effective Date, (ii) the aggregate 73 consideration paid or delivered by the Borrower and its Subsidiaries (including the fair market value of any non-cash consideration, including any capital stock of the Borrower issued as part of such consideration, and any Debt outstanding at the time of any such acquisition that becomes Debt of the Borrower or a Subsidiary as a result of any such acquisition) shall not exceed (A) $5,000,000, in the case of any such acquisition or series of related acquisitions (or $25,000,000, in the case of any such acquisition or series of acquisition of any Quadrant One Property) or (B) $50,000,000, on a cumulative basis, for all such acquisitions subsequent to the Effective Date, (iii) the Borrower would be in compliance with Sections 5.18, 5.19, 5.20 and 5.21 for the most recent Calculation Period and as of the last day thereof if such acquisition had been consummated at the beginning of such Calculation Period, (iv) the Borrower shall deliver to the Agent a certificate of the chief financial officer or the chief accounting officer of the Borrower setting forth calculations in reasonable detail demonstrating compliance with the conditions set forth in clauses (ii) and (iii) above and (v) in the case of any such acquisition of any capital stock of or other ownership interests in any Person, such acquisition will result in such Person becoming a wholly-owned Subsidiary of the Borrower; provided further, that the limitations set forth in clause (ii) above shall not apply to any consideration paid or delivered in connection with an acquisition constituting part of an Asset Swap to the extent that the aggregate consideration paid or delivered by the Borrower and its Subsidiaries in connection with such acquisition includes assets comprising one or more Quadrant Two Properties, Quadrant Three Properties or Quadrant Four Properties transferred as part of such Asset Swap (or if one or more of such Quadrant Two Properties, Quadrant Three Properties or Quadrant Four Properties are sold as part of such Asset Swap, an amount equal to the Net Cash Proceeds of such sale), but shall apply to any excess consideration so paid or delivered. SECTION 5.12. Use of Proceeds and Letters of Credit. The proceeds of the Term Loans will be used to partially finance the repayment of the Borrower's or Subsidiaries' intercompany Debt to the Corning Companies. The proceeds of the Working Capital Loans and Swingline Loans will be used for general corporate purposes of the Borrower and its Subsidiaries, including acquisitions permitted by subclause (c) of Section 5.11 and working capital. Letters of Credit will be issued only to support 74 obligations of the Borrower and its Subsidiaries incurred in the ordinary course of business. None of such proceeds of the Loans will be used, directly or indirectly, for the purpose, whether immediate, incidental or ultimate, of buying or carrying any Margin Stock. SECTION 5.13. Further Assurances. The Borrower will, and will cause each of its Subsidiaries to, execute any and all further documents, financing statements, agreements and instruments, and take all further action (including filing Uniform Commercial Code and other financing statements), that may be required under applicable law, or that the Required Banks, the Agent or the Security Agent may request, in order to effectuate the transactions contemplated by the Loan Documents and in order to grant, preserve, protect and perfect the validity and priority of the security interests created or intended to be created by the Security Documents. The Borrower agrees to provide such evidence as the Security Agent shall reasonably request as to the perfection and priority status of each such security interest. SECTION 5.14. Transactions with Affiliates. The Borrower will not, nor will it permit any of its Subsidiaries to, directly or indirectly, enter into any transaction, including any purchase, sale, lease or exchange of property or rendering of services, with or for the benefit of any Affiliate, other than (a) transactions expressly contemplated by the Transaction Documents or (b) any transaction entered into by the Borrower or any Subsidiary which is (i) otherwise permitted under this Agreement, (ii) in the ordinary course of business of such entity's business and (iii) upon fair and reasonable terms no less favorable to such entity than it would obtain in a comparable arm's-length transaction with a Person not an Affiliate. SECTION 5.15. Restrictions Affecting Subsidiaries. The Borrower will not create, incur, permit or suffer to exist any agreement or other arrangement that prohibits, restricts or imposes any condition upon the ability or right of any Subsidiary to pay dividends or other distributions with respect to any shares of its capital stock or to make or repay loans or advances to the Borrower or any other Subsidiary; provided that the foregoing shall not apply to restrictions or conditions (i) imposed by law, (ii) existing on the Effective Date that are identified in Schedule 5.15 or (iii) included in any partnership agreement 75 or other governing document relating to a Qualified Joint Venture. SECTION 5.16. Restricted Payments. Neither the Borrower nor any of its Subsidiaries will declare or make, or agree to declare or make, any Restricted Payment, except that, if at the time thereof and after giving effect thereto no Default shall have occurred and be continuing, (a) the Borrower may repay Permitted Subordinated Debt consisting of Debt owing to Corning, but only to the extent of the gross proceeds received by the Borrower (before deducting underwriting discounts and commissions or other expenses) from the issuance of the Senior Subordinated Notes or the borrowing of Senior Subordinated Bridge Loans, (b) the Borrower may repay Permitted Subordinated Debt consisting of Senior Subordinated Bridge Loans, but only to the extent of the gross proceeds received by the Borrower (before deducting underwriting discounts and commissions or other expenses) from the issuance of the Senior Subordinated Notes, (c) the Borrower may pay interest and fees as and when due in respect of the Senior Subordinated Bridge Loans and the Senior Subordinated Notes, (d) the Borrower may make the Spin-Off Distributions, (e) the Borrower may pay dividends on the Permitted Preferred Stock in an amount not exceeding $150,000 per year, (f) after consummation of the Spin-Off Distributions, the Borrower may repurchase shares of its common stock to be contributed to employee benefit plans, or to the extent of any cash consideration received by the Borrower in respect of the issuance of shares of its common stock to employees, provided that aggregate Restricted Payments pursuant to this clause (f) shall not exceed during any fiscal year of the Borrower the sum of $10,000,000 plus the amount of cash consideration received by the Borrower during such fiscal year in respect of the issuance of shares of common stock to its employees, and (g) following the date of consummation of the Spin-Off Distributions, the Borrower may make a payment to Corning (as a Restricted Payment or otherwise) in an amount equal to the excess, if any, of (i) the aggregate amount of cash and cash equivalents held by the Borrower and its Subsidiaries on the date of the Spin-Off Distributions over (ii) the sum of the aggregate principal amount of Working Capital Loans and Swingline Loans outstanding on the date of the Spin-Off Distributions plus $40,000,000 plus the Net Cash Proceeds from any sales of assets identified in Part II of Schedule 5.11 received on or prior to such date. 76 SECTION 5.17. Debt. (a) The Borrower will not create, assume or otherwise be or become liable with respect to any Debt, except: (i) Debt existing on the date of this Agreement identified on Schedule 5.17 and extensions, renewals and replacements of any such Debt (other than Existing Letters of Credit) that do not increase the outstanding principal amount thereof; (ii) Debt in respect of the Loans and Letters of Credit hereunder; (iii) Permitted Subordinated Debt on terms and conditions, and incurred pursuant to documentation, satisfactory to the Agent and the Required Banks; (iv) secured Debt of the Borrower permitted by clause (c) of Section 5.10 and unsecured Debt of the Borrower not otherwise permitted by the foregoing clauses of this Section; provided that the aggregate outstanding principal amount of Debt permitted by this clause (iv) plus Debt permitted by clause (vii) of subsection (b) of this Section shall not at any time exceed $10,000,000; (v) Debt of the Borrower to the Corning Companies that is repaid on the Effective Date as provided in clause (o) of Section 3.01 and Excess Corning Debt; provided that no payment, whether of principal, interest or otherwise, shall be made in respect of any Excess Corning Debt (except to the extent of Restricted Payments made pursuant to clause (g) of Section 5.16) and all Excess Corning Debt outstanding on the date of consummation of the Spin-Off Distribution (after giving effect to any such permitted payments) shall be contributed by the Corning Companies to the capital of the Borrower and shall cease to be outstanding; and (vi) Debt owed by the Borrower to any Subsidiary. 77 (b) The Borrower will not permit any Subsidiary to create, assume or otherwise be or become liable with respect to any Debt, except: (i) Debt existing on the date of this Agreement identified on Schedule 5.17 and extensions, renewals and replacements of any such Debt (other than Existing Letters of Credit) that do not increase the outstanding principal amount thereof; (ii) Debt in respect of the Guarantees under the Guarantee Agreement; (iii) Debt owed by any Subsidiary to the Borrower or to another Subsidiary; provided that such Debt is incurred in compliance with Section 5.09; (iv) unsecured Debt of any Subsidiary that has become a Guarantor under the Guarantee Agreement in respect of a Guarantee of Permitted Subordinated Debt provided that any such Guarantee by a Subsidiary of any Permitted Subordinated Debt shall by its terms expressly provide that (A) the obligations of such Subsidiary under such Guarantee are subordinated to the obligations of such Subsidiary under the Loan Documents to which it is a party on the same terms as the obligations of the Borrower are subordinated pursuant to the related Permitted Subordinated Debt and (B) will terminate and be released if such Subsidiary is released from the Guarantee Agreement or if the Borrower's ownership interest in such Subsidiary is sold or otherwise disposed of either in a transaction permitted by the terms of the Permitted Subordinated Debt or pursuant to the exercise of remedies under the Pledge Agreement; (v) Debt outstanding at the time of any acquisition permitted by subsection (c) of Section 5.11 that becomes Debt of the Borrower or a Subsidiary as a result of such acquisition and is treated as consideration paid in connection with such acquisition for purposes of subsection (c) of Section 5.11; (vi) Debt of Qualified Joint Ventures that by its terms provides that neither the Borrower nor any of its other Subsidiaries (other than a Joint Venture Holding Company that owns an equity interest in such Qualified Joint Venture) is liable therefor; provided that the 78 aggregate principal amount of Debt permitted by this clause (vi) shall not at any time exceed $5,000,000 for any Qualified Joint Venture or $15,000,000 in the aggregate for all Qualified Joint Ventures; (vii) secured Debt of Subsidiaries permitted by clause (c) of Section 5.10 and unsecured Debt of Subsidiaries not otherwise permitted by the foregoing clauses of this Section; provided that the aggregate outstanding principal amount of Debt permitted by this clause (vii) plus Debt permitted by clause (iv) of subsection (a) of this Section shall not at any time exceed $10,000,000; and (viii) Debt of any Subsidiary to the Corning Companies that is repaid on the Effective Date as provided in clause (o) of Section 3.01 and Excess Corning Debt; provided that no payment, whether of principal, interest or otherwise, shall be made in respect of any Excess Corning Debt (except to the extent of Restricted Payments made pursuant to clause (g) of Section 5.16) and all Excess Corning Debt outstanding on the date of consummation of the Spin-Off Distribution (after giving effect to any such permitted payments) shall be contributed by the Corning Companies to the capital of the Borrower and shall cease to be outstanding. SECTION 5.18. Leverage Ratio. The Leverage Ratio will not at any time during any period set forth below exceed the ratio set forth opposite such period: Period Ratio ------ ----- Effective Date through December 31, 1997 0.55 to 1.00 January 1, 1998 through December 31, 1998 0.50 to 1.00 January 1, 1999 and thereafter 0.45 to 1.00 SECTION 5.19. Debt Coverage Ratio. The Debt Coverage Ratio will not at any time during any period set forth below exceed the ratio set forth opposite such period: Period Ratio ------ ----- Effective Date through June 30, 1997 3.80 to 1.00 July 1, 1997 through December 31, 1997 3.50 to 1.00 79 January 1, 1998 through June 30, 1998 2.80 to 1.00 July 1, 1998 through December 31, 1998 2.50 to 1.00 January 1, 1999 and thereafter 2.00 to 1.00 SECTION 5.20. Coverage Ratio. The Coverage Ratio for any Calculation Period ending during any period set forth below will not be less than the ratio set forth opposite such period: Calculation Period Ending During the Period Ratio - ------------------------------------------- ----- January 1, 1997 through June 30, 1997 1.80 to 1.00 July 1, 1997 through December 31, 1997 2.00 to 1.00 January 1, 1998 through June 30, 1998 2.25 to 1.00 July 1, 1998 through December 31, 1998 2.50 to 1.00 January 1, 1999 through December 31, 1999 2.75 to 1.00 January 1, 2000 and thereafter 3.00 to 1.00 provided that for purposes of determining the Coverage Ratio (i) for the Calculation Period ended March 31, 1997, the Consolidated Interest Expense shall be based on the Consolidated Interest Expense for the fiscal quarter then ended multiplied by four and shall be determined on a pro forma basis adjusted to give effect to the Spin-Off Transactions as if the Spin-Off Transactions and the borrowing of the Term Loans and Permitted Subordinated Debt had occurred on December 31, 1996; (ii) for the Calculation Period ended June 30, 1997, the Consolidated Interest Expense shall be based on the Consolidated Interest Expense for the two fiscal quarters then ended multiplied by two and shall be determined on a pro forma basis adjusted to give effect to the Spin-Off Transactions as if the Spin-Off Transactions and the borrowing of the Term Loans and Permitted Subordinated Debt had occurred on December 31, 1996; (iii) for the Calculation Period ended September 30, 1997, the Consolidated Interest Expense shall be based on the Consolidated Interest Expense for the three fiscal quarters then ended multiplied by four-thirds and shall be determined on a pro forma basis adjusted to give effect to the Spin-Off Transactions as if the Spin-Off Transactions and the borrowing of the Term Loans and Permitted Subordinated Debt had occurred on December 31, 1996; and (iv) for the Calculation Period ended December 31, 1997, the 80 Consolidated Interest Expense shall be based on the Consolidated Interest Expense for the four fiscal quarters then ended and shall be determined on a pro forma basis adjusted to give effect to the Spin-Off Transactions as if the Spin-Off Transactions and the borrowing of the Term Loans and Permitted Subordinated Debt had occurred on December 31, 1996. SECTION 5.21. Consolidated Capital Expenditures. Consolidated Capital Expenditures during any fiscal year will not exceed the excess of (i) $95,000,000 over (ii) one-half of the aggregate consideration paid or delivered by the Borrower or any of its Subsidiaries during such fiscal year in connection with any acquisitions permitted by subsection (c) of Section 5.11 (including the fair market value of any non-cash consideration, including any capital stock of the Borrower issued as part of such consideration, and any Debt outstanding at the time of any such acquisition that becomes Debt of the Borrower or a Subsidiary as a result of such acquisition) excluding any such consideration that is not subject to the limitations of clause (ii) thereof by reason of the final proviso to such subsection; provided that, if the aggregate Capital Expenditures made in any fiscal year commencing on or after January 1, 1997, are less than the maximum allowed amount for such fiscal year (excluding amounts allowed by reason of this proviso), then an amount equal to the lesser of (x) such shortfall and (y) $9,500,000 shall be carried forward and added to the amount of Capital Expenditures permitted in the immediately succeeding fiscal year. SECTION 5.22. Relationships with Corning Companies and CPS Companies. If the Spin-Off Distributions are not made on or prior to the Effective Date, then, unless and until the Spin-Off Distributions are made, and without limitation of the other covenants and agreements of the Borrower herein: (a) the Borrower shall be permitted to own the shares of common stock of CPS to be distributed by it in connection with the Spin-Off Distributions, but neither the Borrower nor any of its Subsidiaries shall make, hold or acquire any other Investment in any CPS Company, or Guarantee any Debt or other obligation of any CPS Company, or incur any Debt to any CPS Company; and 81 (b) neither the Borrower nor any of its Subsidiaries shall enter into any agreement or other transaction with any CPS Company or Corning Company, other than the Transaction Documents entered into on or prior to the Effective Date and transactions expressly contemplated thereby and except as otherwise permitted by clause (b) of Section 5.14. ARTICLE VI Defaults -------- SECTION 6.01. Events of Default. If one or more of the following events ("Events of Default") shall have occurred and be continuing: (a) (i) the Borrower shall fail to pay when due any principal of any Loan or any reimbursement obligation in respect of a Letter of Credit Disbursement or (ii) the Borrower shall fail to pay interest on any Loan, any fees or any other amount payable hereunder or under any other Loan Document within three days of the time such amount is due; (b) the Borrower shall fail to observe or perform any covenant contained in Section 5.01(e), any of Sections 5.08 to 5.12, inclusive, any of Sections 5.14 to 5.22, inclusive, or the Borrower or any Subsidiary shall fail to observe or perform any covenant contained in any of Sections [ ] of the Pledge Agreement or Sections [ ] of the Security Agreement; (c) the Borrower or any Subsidiary shall fail to observe or perform any covenant or agreement contained in any Loan Document (other than those covered by clause (a) or (b) above) for 10 days after notice thereof has been given to the Borrower by the Agent at the request of any Bank; (d) any representation, warranty, certification or statement made by the Borrower, any Subsidiary or Corning in this Agreement or any other Loan Document or in any certificate, financial statement or other document delivered pursuant to this Agreement or any other Loan Document shall prove to have been incorrect in any material respect when made (or deemed made); 82 (e) the Borrower or any Subsidiary shall fail to make any payment in respect of any Material Financial Obligations when due or within any applicable grace period; (f) any event or condition shall occur which results in the acceleration of the maturity of any Material Debt or enables (or, with the giving of notice or lapse of time or both, would enable) the holder of such Debt or any Person acting on such holder's behalf to accelerate the maturity thereof or, under circumstances in the nature of a default, to require the prepayment, repurchase or redemption thereof; (g) the Borrower or any Subsidiary shall commence a voluntary case or other proceeding seeking liquidation, reorganization or other relief with respect to itself or its debts under any bankruptcy, insolvency or other similar law now or hereafter in effect or seeking the appointment of a trustee, receiver, liquidator, custodian or other similar official of it or any substantial part of its property, or shall consent to any such relief or to the appointment of or taking possession by any such official in an involuntary case or other proceeding commenced against it, or shall make a general assignment for the benefit of creditors, or shall fail generally to pay its debts as they become due, or shall take any corporate action to authorize any of the foregoing; (h) an involuntary case or other proceeding shall be commenced against the Borrower or any Subsidiary seeking liquidation, reorganization or other relief with respect to it or its debts under any bankruptcy, insolvency or other similar law now or hereafter in effect or seeking the appointment of a trustee, receiver, liquidator, custodian or other similar official of it or any substantial part of its property, and such involuntary case or other proceeding shall remain undismissed and unstayed for a period of 60 days; or an order for relief shall be entered against the Borrower or any Subsidiary under the federal bankruptcy laws as now or hereafter in effect; (i) any member of the ERISA Group shall fail to pay when due an amount or amounts aggregating in excess of $10,000,000 which it shall have become liable to pay 83 under Title IV of ERISA; or notice of intent to terminate a Material Plan pursuant to Section 4041(c) of ERISA shall be filed under Title IV of ERISA by any member of the ERISA Group, any plan administrator or any combination of the foregoing; or the PBGC shall institute proceedings under Title IV of ERISA to terminate, to impose liability (other than for premiums under Section 4007 of ERISA) in respect of, or to cause a trustee to be appointed to administer any Material Plan; or the Borrower or any Subsidiary has knowledge that a condition set forth in Sections 4042(a)(1), (2) or (3) of ERISA exists, or the PBGC shall have given notice to any member of the ERISA Group that it has determined that a condition exists by reason of which the PBGC would be entitled to obtain a decree adjudicating that any Material Plan must be terminated and that it has commenced proceedings to obtain such a decree; or there shall occur a complete or partial withdrawal from, or a default, within the meaning of Section 4219(c)(5) of ERISA, with respect to, one or more Multiemployer Plans which could reasonably be expected to cause one or more members of the ERISA Group to incur a current payment obligation in excess of $10,000,000; provided, however, that prior to the Spin-Off Transactions any such event or condition with respect to any member of the ERISA Group other than the Borrower or any Subsidiary shall constitute an Event of Default only if it has resulted or is reasonably expected to result a liability in excess of $10,000,000. (j) one or more judgments or orders for the payment of money in an aggregate amount in excess of $10,000,000 shall be rendered against the Borrower or any Subsidiary or a combination thereof and shall continue unsatisfied and unstayed for a period of 30 days, or any action shall be legally taken by a judgment creditor to levy upon assets or properties of the Borrower or any Subsidiary to enforce any such judgment; (k) at any time after the Spin-Off Distributions are made, any person or group of persons (within the meaning of Section 13 or 14 of the Securities Exchange Act of 1934, as amended) shall have acquired beneficial ownership (within the meaning of Rule 13d-3 promulgated by the Securities and Exchange Commission under said Act) of 20% or more of the outstanding shares of common 84 stock of the Borrower; or, during any period of 12 consecutive calendar months, individuals who were directors of the Borrower on the first day of such period shall cease to constitute a majority of the board of directors of the Borrower; or (l) any security interest purported to be created by any Security Document shall cease to be, or shall be asserted by the Borrower or any Subsidiary not to be, a valid and perfected security interest in respect of the collateral; then, and in every such event, the Agent shall (i) if requested by Banks having more than 50% in aggregate amount of the Commitments, by notice to the Borrower terminate the Commitments and they shall thereupon terminate, (ii) if requested by Banks holding Notes evidencing more than 50% of the aggregate principal amount of the Loans, by notice to the Borrower declare the Loans (together with accrued interest thereon) to be, and the Loans (together with accrued interest thereon) shall thereupon become, immediately due and payable without presentment, demand, protest or other notice of any kind, all of which are hereby waived by the Borrower, (iii) if requested by Banks having more than 50% of the Letter of Credit Exposure, require cash collateral as contemplated by Section 2.15(k) in an amount not exceeding the Letter of Credit Exposure or (iv) any combination of the foregoing; provided that in the case of any of the Events of Default specified in clause (g) or (h) above with respect to the Borrower, without any notice to the Borrower or any other act by the Agent or the Banks, the Commitments shall thereupon terminate and the Loans (together with accrued interest thereon) shall become immediately due and payable without presentment, demand, protest or other notice of any kind, all of which are hereby waived by the Borrower and the Borrower shall be required to provide, immediately, cash collateral as contemplated by Section 2.15(k) in an amount equal to the Letter of Credit Exposure. SECTION 6.02. Notice of Default. The Agent shall give notice to the Borrower under Section 6.01(c) promptly upon being requested to do so by any Bank and shall thereupon notify all the Banks thereof. 85 ARTICLE VII The Agent and Arranging Agents ------------------------------ SECTION 7.01. Appointment and Authorization. Each Bank irrevocably appoints and authorizes each of the Agent and the Security Agent, each being referred to as an "Agent" for purposes of this Article, to take such action as agent on its behalf and to exercise such powers under this Agreement and the other Loan Documents as are delegated to such Agent by the terms hereof or thereof, together with all such powers as are reasonably incidental thereto. SECTION 7.02. Agent and Affiliates. Each Bank that is an Agent shall have the same rights and powers under this Agreement as any other Bank and may exercise or refrain from exercising the same as though it were not an Agent, and each such Bank and its affiliates may accept deposits from, lend money to, and generally engage in any kind of business with the Borrower or any Subsidiary or Affiliate of the Borrower as if it were not an Agent. SECTION 7.03. Action by Agent. The obligations of any Agent under this Agreement or any other Loan Documents are only those expressly set forth herein and therein. Without limiting the generality of the foregoing, no Agent shall be required to take any action with respect to any Default, except as expressly provided in Article VI or, in the case of the Security Agent, as may be expressly provided in the Security Documents. SECTION 7.04. Consultation with Experts. Each Agent may consult with legal counsel (who may be counsel for the Borrower), independent public accountants and other experts selected by it and shall not be liable for any action taken or omitted to be taken by it in good faith in accordance with the advice of such counsel, accountants or experts. SECTION 7.05. Liability of Agent. Neither any Agent nor any of its Affiliates nor any of their respective directors, officers, agents, or employees shall be liable for any action taken or not taken by it in connection herewith (i) with the consent or at the request of the Required Banks (or, when expressly required hereby, such different number of Banks required to consent to or request such action or inaction) or (ii) in the absence of its own gross negligence or willful misconduct. Neither any Agent 86 nor any of its Affiliates nor any of their respective directors, officers, agents or employees shall be responsible for or have any duty to ascertain, inquire into or verify (i) any statement, warranty or representation made in connection with this Agreement or any other Loan Document or any borrowing hereunder; (ii) the performance or observance of any of the covenants or agreements of the Borrower or its Subsidiaries; (iii) the satisfaction of any condition specified in Article III, except receipt of items required to be delivered to it; or (iv) the validity, effectiveness or genuineness of this Agreement, the other Loan Documents or any other instrument or writing furnished in connection herewith or therewith. No Agent shall incur any liability by acting in reliance upon any notice, consent, certificate, statement, or other writing (which may be a bank wire, telex, facsimile transmission or similar writing) believed by it to be genuine or to be signed by the proper party or parties. Without limiting the generality of the foregoing, the use of the term "agent" in this Agreement with reference to any Agent is not intended to connote any fiduciary or other implied (or express) obligations arising under agency doctrine of any applicable law. Instead, such term is used merely as a matter of market custom and is intended to create or reflect only an administrative relationship between independent contracting parties. SECTION 7.06. Indemnification. Each Bank shall, ratably in accordance with its Loans, Letter of Credit Exposure and unused Commitment, indemnify each Agent, its Affiliates and their respective directors, officers, agents and employees (to the extent not reimbursed by the Borrower) against any cost, expense (including counsel fees and disbursements), claim, demand, action, loss or liability (except such as result from such indemnitee's gross negligence or willful misconduct) that such Agent may suffer or incur in connection with this Agreement or any other Loan Document or any action taken or omitted by such indemnities hereunder or thereunder. SECTION 7.07. Credit Decision. Each Bank acknowledges that it has, independently and without reliance upon any Agent or any other Bank, and based on such documents and information as it has deemed appropriate, made its own credit analysis and decision to enter into this Agreement. Each Bank also acknowledges that it will, independently and without reliance upon any Agent or any other Bank, and based on such documents and information as it shall deem appropriate at the time, continue to make its 87 own credit decisions in taking or not taking any action under this Agreement. SECTION 7.08. Successor Agent. Any Agent may resign at any time by giving notice thereof to the Banks and the Borrower. Upon any such resignation, the Required Banks shall have the right to appoint a successor Agent. If no successor Agent shall have been so appointed by the Required Banks and shall have accepted such appointment within 30 days after the retiring Agent gives notice of resignation, then the retiring Agent may, on behalf of the Banks, appoint a successor Agent, which shall be a commercial bank organized or licensed under the laws of the United States of America or of any State thereof and having a combined capital and surplus of at least $500,000,000. Upon the acceptance of its appointment as an Agent by a successor Agent, such successor Agent shall thereupon succeed to and become vested with all the rights and duties of the retiring Agent, and the retiring Agent shall be discharged from its duties and obligations hereunder. After any retiring Agent's resignation, the provisions of this Article shall inure to its benefit as to any actions taken or omitted to be taken by it while it was Agent. SECTION 7.09. Agent's Fees. The Borrower shall pay to each Agent for its own account fees in the amounts and at the times previously agreed upon between the Borrower and such Agent. SECTION 7.10. Arranging Agents. Each of the parties to this Agreement hereby acknowledges that the Arranging Agents do not have any obligations in their capacities as such under this Agreement or any other Loan Document and that neither any Arranging Agent nor any of its directors, officers, agents or employees shall have any liability hereunder or thereunder. ARTICLE VIII Change in Circumstances ----------------------- SECTION 8.01. Basis for Determining Interest Rate Inadequate or Unfair. If on or prior to the first day of any Interest Period for any Euro-Dollar Borrowing: (a) the Agent is advised by the Reference Banks that deposits in dollars (in the applicable amounts) 88 are not being offered to the Reference Banks in the relevant market for such Interest Period; or (b) Banks having 50% or more of the aggregate principal amount of the affected Loans advise the Agent that the London Interbank Offered Rate as determined by the Agent will not adequately and fairly reflect the cost to such Banks of funding their Euro-Dollar Loans for such Interest Period, the Agent shall forthwith give notice thereof to the Borrower and the Banks, whereupon until the Agent notifies the Borrower that the circumstances giving rise to such suspension no longer exist, (i) the obligations of the Banks to make Euro-Dollar Loans or to continue or convert outstanding Loans into Euro-Dollar Loans shall be suspended, and (ii) each outstanding Euro-Dollar Loan shall be converted into a Base Rate Loan on the last day of the then current Interest Period applicable thereto. Unless the Borrower notifies the Agent at least two Domestic Business Days before the date of any Euro-Dollar Borrowing for which a Notice of Borrowing has previously been given that it elects not to borrow on such date, if such Borrowing is a Euro-Dollar Borrowing such Borrowing shall instead be made as a Base Rate Borrowing. SECTION 8.02. Illegality. If, on or after the date of this Agreement, the adoption of any applicable law, rule or regulation, or any change in any applicable law, rule or regulation, or any change in the interpretation or administration thereof by any governmental authority, central bank or comparable agency charged with the interpretation or administration thereof, or compliance by any Bank (or its Euro-Dollar Lending Office) with any request or directive (whether or not having the force of law) of any such authority, central bank or comparable agency shall make it unlawful or impossible for any Bank (or its Euro-Dollar Lending Office) to make, maintain or fund its Euro-Dollar Loans and such Bank shall so notify the Agent, the Agent shall forthwith give notice thereof to the other Banks and the Borrower, whereupon until such Bank notifies the Borrower and the Agent that the circumstances giving rise to such suspension no longer exist, the obligation of such Bank to make Euro-Dollar Loans, or to convert outstanding Loans into Euro-Dollar Loans, shall be suspended. Before giving any notice to the Agent pursuant to this Section, such Bank shall designate a different Euro- Dollar Lending Office if such designation will avoid the 89 need for giving such notice and will not, in the judgment of such Bank, be otherwise disadvantageous to such Bank. If such notice is given, each Euro-Dollar Loan of such Bank then outstanding shall be converted either (a) on the last day of the then current Interest Period applicable to such Euro-Dollar Loan if such Bank may not lawfully continue to maintain and fund such Loan to such day or (b) immediately if such Bank shall determine that it may not lawfully continue to maintain and fund such Loan to such day. SECTION 8.03. Increased Cost and Reduced Return. (a) If on or after the date hereof the adoption of any applicable law, rule or regulation, or any change in any applicable law, rule or regulation, or any change in the interpretation or administration thereof by any authority, central bank or comparable agency charged with the interpretation or administration thereof, or compliance by any Bank (or its Applicable Lending Office) with any request or directive (whether or not having the force of law) of any such governmental authority, central bank or comparable agency shall impose, modify or deem applicable any reserve (including, without limitation, any such requirement imposed by the Board of Governors of the Federal Reserve System, but excluding with respect to any Euro-Dollar Loan any such requirement reflected in the Euro-Dollar Reserve Percentage), special deposit, insurance assessment or similar requirement against assets of, deposits with or for the account of, or credit extended by, any Bank (or its Applicable Lending Office) or shall impose on any Bank (or its Applicable Lending Office) or on the London interbank market any other condition affecting its Euro-Dollar Loans or Letters of Credit or its participations therein or its obligation to make such Euro-Dollar Loans or to issue or participate in Letters of Credit and the result of any of the foregoing is to increase the cost to such Bank (or its Applicable Lending Office) of making or maintaining any Euro-Dollar Loan to the Borrower or to issue or participate in Letters of Credit, or to reduce the amount of any sum received or receivable by such Bank (or its Applicable Lending Office) under this Agreement or under its Notes with respect thereto, by an amount deemed by such Bank to be material, then, within 15 days after demand by such Bank (with a copy to the Agent), the Borrower shall pay to such Bank such additional amount or amounts as will compensate such Bank for such increased cost or reduction. (b) If any Bank shall have determined that, after the date hereof, the adoption of any applicable law, rule or 90 regulation regarding capital adequacy, or any change in any such law, rule or regulation, or any change in the interpretation or administration thereof by any governmental authority, central bank or comparable agency charged with the interpretation or administration thereof, or any request or directive regarding capital adequacy (whether or not having the force of law) of any such authority, central bank or comparable agency, has or would have the effect of reducing the rate of return on capital of such Bank (or its Parent) as a consequence of such Bank's obligations hereunder to a level below that which such Bank (or its Parent) could have achieved but for such adoption, change, request or directive (taking into consideration its policies with respect to capital adequacy) by an amount deemed by such Bank to be material, then from time to time, within 15 days after demand by such Bank (with a copy to the Agent), the Borrower shall pay to such Bank such additional amount or amounts as will compensate such Bank (or its Parent) for such reduction. (c) Each Bank will promptly notify the Borrower and the Agent of any event of which it has knowledge, occurring after the date hereof, which will entitle such Bank to compensation pursuant to this Section and will designate a different Applicable Lending Office if such designation will avoid the need for, or reduce the amount of, such compensation and will not, in the judgment of such Bank, be otherwise disadvantageous to such Bank. A certificate of any Bank claiming compensation under this Section and setting forth the additional amount or amounts to be paid to it hereunder shall be conclusive in the absence of manifest error. In determining such amount, such Bank may use any reasonable averaging and attribution methods. (d) The provisions of this Section also shall inure to the benefit of each Issuing Bank in its capacity as such. SECTION 8.04. Taxes. (a) For purposes of this Section 8.04(a), the following terms have the following meanings: "Taxes" means any and all present or future taxes, duties, levies, imposts, deductions, charges or withholdings with respect to any payment by the Borrower pursuant to this Agreement or under any other Loan Document, and all liabilities with respect 91 thereto, excluding (i) in the case of each Bank, each Issuing Bank and the Agent, taxes imposed on or measured by its income, and franchise, branch profits or similar taxes imposed on it, and taxes on the overall capital or net worth of the Bank or its applicable lending office or any branch or Affiliate thereto by a jurisdiction under the laws of which such Bank, such Issuing Bank or the Agent (as the case may be), is organized or in which its principal executive office is located or, in the case of each Bank, in which its Applicable Lending Office is located, and (ii) in the case of each Bank organized outside the United States of America, any United States withholding tax imposed on such payments but only to the extent that such Bank is subject to United States withholding tax at the time such Bank first becomes a party to this Agreement. "Other Taxes" means any present or future stamp or documentary taxes and any other excise or property taxes, or similar charges or levies, which arise from any payment made pursuant to this Agreement or under any other Loan Document or from the execution or delivery of, or otherwise with respect to, this Agreement or any other Loan Document, excluding any current or future stamp, intangible or documentary taxes or any other excise or property taxes, charges or similar levies (including, without limitation, mortgage recording taxes and similar fees) that arise as a result of sales, assignments or other transfers of rights hereunder by any Bank. (b) Any and all payments by the Borrower to or for the account of any Bank, any Issuing Bank or the Agent hereunder or under any Note shall be made without deduction for any Taxes or Other Taxes; provided that, if the Borrower shall be required by law to deduct any Taxes or Other Taxes from any such payments, (i) the sum payable shall be increased as necessary so that after making all required deductions (including deductions applicable to additional sums payable under this Section) such Bank, such Issuing Bank or the Agent (as the case may be) receives an amount equal to the sum it would have received had no such deductions been made, (ii) the Borrower shall make such deductions, (iii) the Borrower shall pay the full amount deducted to the relevant taxation authority or other authority in accordance with applicable law and (iv) the Borrower shall furnish to the Agent, at its address referred 92 to in Section 9.01, the original or a certified copy of a receipt evidencing payment thereof or, if none is available, other documentary evidence showing such payment. (c) The Borrower agrees to indemnify each Bank, each Issuing Bank and the Agent for the full amount of Taxes or Other Taxes (including, without limitation, any Taxes or Other Taxes imposed or asserted by any jurisdiction on amounts payable under this Section) paid by such Bank, such Issuing Bank or the Agent (as the case may be) and any liability (including penalties, interest and expenses) arising therefrom or with respect thereto. This indemnification shall be paid within 30 days after such Bank, such Issuing Bank or the Agent (as the case may be) makes written demand therefor. (d) Each Bank organized under the laws of a jurisdiction outside the United States, on or prior to the date of its execution and delivery of this Agreement in the case of each Bank listed on the signature pages hereof and on or prior to the date on which it becomes a Bank in the case of each other Bank, and from time to time thereafter (but only so long as such Bank remains lawfully able to do so), shall provide the Borrower and the Agent with the appropriate form or forms (including IRS Forms No. 1001 and 4224 and any forms required to replace forms previously provided because of a change in a Bank's place of organization, principal office or Applicable Lending Office, or in the event that any forms are no longer valid because of their expiration or a change in law or regulations, other appropriate evidence of exemption or reduction as reasonably requested by the Borrower), certifying that such Bank is entitled to benefits under an income tax treaty to which the United States is a party which exempts the Bank from withholding tax imposed by the United States or reduces the rate of withholding tax (if any) on payments of interest for the account of such Bank or certifying that the income receivable pursuant to this Agreement is otherwise not subject to such withholding tax. (e) For any period with respect to which a Bank has failed to provide the Borrower or the Agent with the appropriate form as required by Section 8.04(d) (unless such failure is due to a change in treaty, law or regulation occurring subsequent to the date on which such form originally was required to be provided), such Bank shall not be entitled to indemnification under Section 8.04(b) or (c) with respect to Taxes imposed by the United States; 93 provided that if a Bank, which is otherwise exempt from or subject to a reduced rate of withholding tax, becomes subject to Taxes because of its failure to deliver a form required hereunder, the Borrower shall take such steps as such Bank shall reasonably request to assist such Bank to recover such Taxes. (f) If the Borrower is required to pay additional amounts to or for the account of any Bank pursuant to this Section, then such Bank will change the jurisdiction of its Applicable Lending Office if, in the reasonable judgment of such Bank, such change (i) will eliminate or reduce any such additional payment which may thereafter accrue and (ii) is not otherwise disadvantageous to such Bank. (g) Each Bank that is organized under the laws of the United States of America or any State thereof shall, on or before the date such Bank becomes a party to this Agreement, deliver to the Borrower and the Agent an IRS Form W-9, or successor applicable form, certifying that it is entitled to an exemption from United States backup withholding tax. (h) If the Borrower and a Bank (or, in the case of a payment to the Agent, the Agent) agree that any Taxes paid by the Borrower under this Section 8.04 with respect to payments to such Bank (or the Agent) should, more likely than not, be refunded under applicable law, such Bank (or the Agent) shall, at the request of the Borrower and at the Borrower's expense, take such steps as may be appropriate to obtain a refund of such Taxes and shall permit the Borrower to participate in the preparation of any such refund claim. If any Bank (or the Agent) receives a refund in respect of any Taxes for which the Bank has received payment from the Borrower hereunder, such Bank (or the Agent), within 30 days of such receipt, shall deliver to the Borrower the amount of such refund. In addition, within 30 days of a written request by the Borrower, the relevant Bank (or Agent) shall execute and deliver to the Borrower such certificates, forms or other documents which can be reasonably furnished consistent with the facts and which are reasonably necessary to assist the Borrower in applying for refunds of Taxes remitted hereunder. SECTION 8.05. Base Rate Loans Substituted for Affected Euro-Dollar Loans. If (i) the obligation of any Bank to make, or convert outstanding Loans to, Euro-Dollar Loans to the Borrower has been suspended pursuant to Section 94 8.02 or (ii) any Bank has demanded compensation under Section 8.03 or 8.04 with respect to its Euro-Dollar Loans and the Borrower shall, by at least five Euro-Dollar Business Days' prior notice to such Bank through the Agent, have elected that the provisions of this Section shall apply to such Bank, then, unless and until such Bank notifies the Borrower that the circumstances giving rise to such suspension or demand for compensation no longer exist: (a) all Loans which would otherwise be made by such Bank as (or continued or converted into) Euro- Dollar Loans shall instead be Base Rate Loans (on which interest and principal shall be payable contemporaneously with the related Euro-Dollar Loans of the other Banks); and (b) after each of its Euro-Dollar Loans has been repaid (or converted to a Base Rate Loan), all payments of principal which would otherwise be applied to repay such Euro-Dollar Loans shall be applied to repay its Base Rate Loans instead. If such Bank notifies the Borrower that the circumstances giving rise to such notice no longer apply, the principal amount of each such Base Rate Loan shall be converted into a Euro-Dollar Loan on the first day of the next succeeding Interest Period applicable to the related Euro-Dollar Loans of the other Banks. ARTICLE IX Miscellaneous ------------- SECTION 9.01. Notices. All notices, requests and other communications to any party hereunder shall be in writing (including bank wire, telex, facsimile transmission or similar writing) and shall be given to such party: (a) in the case of the Borrower, any Issuing Bank, the Swingline Bank or the Agent, at its address or its facsimile number or telex number set forth on the signature pages hereof (or, in the case of any Issuing Bank, in its Issuing Bank Agreement), (b) in the case of any Bank, at its address or its facsimile number or telex number set forth in its Administrative Questionnaire, or (c) in the case of any party, such other address or other facsimile number or telex number as such party may hereafter specify for the purpose by notice to the Agent and the Borrower. Each such notice, 95 request or other communication shall be effective (i) if given by telex, when such telex is transmitted to the telex number specified in this Section and the appropriate answer back is received, (ii) if given by facsimile transmission, when transmitted to the facsimile number specified in this Section and confirmation of receipt is received, (iii) if given by mail, 72 hours after such communication is deposited in the mails with first class postage prepaid, addressed as aforesaid or (iv) if given by any other means, when delivered at the address specified in this Section; provided that notices to the Agent under Article II or Article VIII shall not be effective until received. SECTION 9.02. No Waivers. No failure or delay by the Agent, the Security Agent, any Issuing Bank or any Bank in exercising any right, power or privilege hereunder or under any other Loan Document shall operate as a waiver thereof nor shall any single or partial exercise thereof preclude any other or further exercise thereof or the exercise of any other right, power or privilege. The rights and remedies herein and in the other Loan Documents provided shall be cumulative and not exclusive of any rights or remedies provided by law. SECTION 9.03. Expenses; Indemnification. (a) The Borrower shall pay (i) all reasonable out-of-pocket expenses of the Agent, the Security Agent, each Arranging Agent and (in the case of expenses relating to any Letter of Credit) each Issuing Bank, including reasonable fees and disbursements of special counsel for the Agent and the Arranging Agents, in connection with the syndication of the credit facilities contemplated by this Agreement, the preparation and administration of this Agreement and the other Loan Documents, any waiver or consent hereunder or thereunder or any amendment hereof or thereof, the issuance, amendment, renewal or extension of or drawing under any Letter of Credit, or any Default or alleged Default hereunder and (ii) if an Event of Default occurs, all reasonable out-of-pocket expenses incurred by the Agent, the Security Agent, each Arranging Agent, each Issuing Bank and each Bank, including reasonable fees and disbursements of outside counsel and allocated cost of inside counsel, in connection with such Event of Default and collection, bankruptcy, insolvency and other enforcement proceedings resulting therefrom. (b) The Borrower agrees to indemnify the Agent, the Security Agent, each Arranging Agent, each Issuing Bank 96 and each Bank, their respective affiliates and the respective directors, officers, agents and employees of the foregoing (each an "Indemnitee") and hold each such Indemnitee harmless from and against any and all liabilities, losses, damages, costs and expenses of any kind (including any of the foregoing with respect to Environmental Laws applicable to the Borrower or any Subsidiary), including, without limitation, the reasonable fees and disbursements of counsel, which may be incurred by such Indemnitee in connection with any investigative, administrative or judicial proceeding (whether or not such Indemnitee shall be designated a party thereto) brought or threatened relating to or arising out of any of the Loan Documents or Letters of Credit or any actual or proposed use of proceeds of Loans or Letters of Credit hereunder; provided that no Indemnitee shall have the right to be indemnified hereunder for such Indemnitee's own gross negligence or willful misconduct as determined by a court of competent jurisdiction. SECTION 9.04. Sharing of Setoffs. Each Bank agrees that if it shall, by exercising any right of setoff or counterclaim or otherwise, receive payment of a proportion of the aggregate amount of its claims in respect of Letter of Credit Disbursements and principal and interest due with respect to any Note held by it which is greater than the proportion received by any other Bank in respect of the aggregate amount of claims in respect of Letter of Credit Disbursements and principal and interest due with respect to any Note held by such other Bank, the Bank receiving such proportionately greater payment shall purchase such participations in the claims in respect of Letter of Credit Disbursements and Notes held by the other Banks, and such other adjustments shall be made, as may be required so that all such payments of claims in respect of Letter of Credit Disbursements and of principal and interest with respect to the Notes held by the Banks shall be shared by the Banks pro rata; provided that nothing in this Section shall impair the right of any Bank to exercise any right of setoff or counterclaim it may have and to apply the amount subject to such exercise to the payment of indebtedness of the Borrower other than its indebtedness under the Loan Documents. The Borrower agrees, to the fullest extent it may effectively do so under applicable law, that any holder of a participation in a claim in respect of a Letter of Credit Disbursement or in a Note, whether or not acquired pursuant to the foregoing arrangements, may exercise rights of setoff or counterclaim and other rights with respect to 97 such participation as fully as if such holder of a participation were a direct creditor of the Borrower in the amount of such participation. SECTION 9.05. Amendments and Waivers. Any provision of this Agreement or any other Loan Document may be amended or waived if, but only if, such amendment or waiver is in writing and is signed by, or approved in writing by, the Borrower and the Required Banks (and if the rights or duties of the Agent, the Security Agent, any Issuing Bank or the Swingline Bank are affected thereby, by the Agent, the Security Agent, such Issuing Bank or the Swingline Bank, as the case may be); provided that no such amendment or waiver shall (i) unless signed by all the Banks, increase or decrease the Commitment of any Bank (except for a ratable decrease in the Commitments of the same Class of all Banks) or subject any Bank to any additional obligation, (ii) unless signed by all the Banks, reduce the principal of or rate of interest on any Loan or any claim for reimbursement of a Letter of Credit Disbursement or any fees hereunder, (iii) unless signed by all the Banks, postpone the date fixed for any scheduled payment (but excluding any optional or mandatory prepayment) of principal of or interest on any Loan or for any reimbursement of a Letter of Credit Disbursement or for payment of any fees hereunder or for termination of any Commitment, (iv) unless signed by all the Banks, change the percentage of the Commitments or of the aggregate unpaid principal amount of the Notes, or the number of Banks, which shall be required for the Banks or any of them to take any action under this Section or any other provision of this Agreement, (v) unless signed by all the Banks, release any material amount of collateral from the security interest granted under any Security Document, except as expressly contemplated by such Security Document, (vi) unless signed by all the Banks, release any Guarantor from its Guarantee under the Guarantee Agreement, except as expressly contemplated by the Guarantee Agreement, (vii) unless signed by the Banks holding a majority in interest of the outstanding Loans and unused Commitments of each affected Class, change any provisions of any Loan Document in a manner that by its terms adversely affects the rights in respect of payments due to Banks holding Loans of any Class differently than those holding Loans of any other Class or (viii) unless signed by the Tranche B Banks holding a majority of the outstanding Tranche B Loans, change the rights of the Tranche B Banks to decline mandatory prepayments as provided in Section 2.11; provided further 98 that any amendment or waiver of this Agreement that by its terms affects the rights or duties under this Agreement of the Working Capital Banks (but not the Tranche A Banks and Tranche B Banks), the Tranche A Banks (but not the Working Capital Banks and Tranche B Banks) or the Tranche B Banks (but not the Working Capital Banks and Tranche A Banks) may be effected by an agreement or agreements in writing entered into by the Borrower and requisite percentage in interest of the affected class of Banks. SECTION 9.06. Successors and Assigns. (a) The provisions of this Agreement shall be binding upon and inure to the benefit of the parties hereto and their respective successors and assigns, except that the Borrower may not assign or otherwise transfer any of its rights under this Agreement without the prior written consent of all Banks. (b) Any Bank may at any time grant to one or more banks or other institutions (each a "Participant") participating interests in its Commitment or any or all of its Loans or its participations in Letters of Credit. In the event of any such grant by a Bank of a participating interest to a Participant, whether or not upon notice to the Borrower and the Agent, such Bank shall remain responsible for the performance of its obligations hereunder, and the Borrower and the Agent shall continue to deal solely and directly with such Bank in connection with such Bank's rights and obligations under this Agreement. Any agreement pursuant to which any Bank may grant such a participating interest shall provide that such Bank shall retain the sole right and responsibility to enforce the obligations of the Borrower hereunder including, without limitation, the right to approve any amendment, modification or waiver of any provision of this Agreement or any other Loan Document; provided that such participation agreement may provide that such Bank will not agree to any modification, amendment or waiver described in clause (i), (ii), (iii) or (iv) of Section 9.05 without the consent of the Participant. The Borrower agrees that each Participant shall, to the extent provided in its participation agreement, be entitled to the benefits of Article VIII with respect to its participating interest. An assignment or other transfer which is not permitted by subsection (c) or (d) below shall be given effect for purposes of this Agreement only to the extent of a participating interest granted in accordance with this subsection (b). 99 (c) Any Bank may at any time assign to one or more banks or other institutions (each an "Assignee") all, or a proportionate part (equivalent to an initial Commitment of not less than $10,000,000) of all, of its rights and obligations under this Agreement and the Notes, and such Assignee shall assume such rights and obligations, pursuant to an instrument executed by such Assignee and such transferor Bank, with (and subject to) the subscribed consent of the Borrower, the Agent and (in the case of any assignment of a Working Capital Commitment) and each Issuing Bank and the Swingline Bank (which consents shall not be unreasonably withheld or delayed); provided that (i) if an Assignee is another Bank or an affiliate of any Bank, no such consent shall be required and (ii) a Bank may assign all, or a proportionate part of all, of its rights and obligations of one Class separately from the other Classes. Upon execution and delivery of such instrument (including by the Borrower, the Agent, each Issuing Bank and the Swingline Bank, if their consent is required as provided above) and payment by such Assignee to such transferor Bank of an amount equal to the purchase price agreed between such transferor Bank and such Assignee, such Assignee shall be a Bank party to this Agreement and shall have all the rights and obligations of a Bank with a Commitment as set forth in such instrument of assumption, and the transferor Bank shall be released from its obligations hereunder to a corresponding extent, and no further consent or action by any party shall be required. Upon the consummation of any assignment pursuant to this subsection (c), the transferor Bank, the Agent and the Borrower shall make appropriate arrangements so that, if required, a new Note is issued to the Assignee. In connection with any such assignment, the transferor Bank shall pay to the Agent an administrative fee for processing such assignment in the amount of $2,500. If the Assignee is not incorporated under the laws of the United States of America or a state thereof, it shall, prior to the first date on which interest or fees are payable hereunder for its account, deliver to the Borrower and the Agent certification as to exemption from deduction or withholding of any United States federal income taxes in accordance with Section 8.04. (d) If any Bank requests compensation under Section 8.03, or if the Borrower is required to pay any additional amount to any Bank or any governmental body, agency or official for the account of any Bank pursuant to Section 8.04, then the Borrower may, at its sole expense and effort, upon notice to such Bank and the Agent, require such 100 Bank to assign and delegate, without recourse (in accordance with and subject to the restrictions contained in Section 9.06), all its interests, rights and obligations under this Agreement to an assignee that shall assume such obligations (which assignee may be another Bank, if a Bank accepts such assignment); provided that (i) the Borrower shall have received the prior written consent of the Agent (and, if a Working Capital Commitment is being assigned, the Issuing Banks and the Swingline Bank), which consents shall not unreasonably be withheld, (ii) such Bank shall have received payment of an amount equal to the outstanding principal of its Loans and participations in Letter of Credit Disbursements, accrued interest thereon, accrued fees and all other amounts payable to it hereunder, from the assignee (to the extent of such outstanding principal and accrued interest and fees) or the Borrower (in the case of all other amounts) and (iii) in the case of any such assignment resulting from a claim for compensation under Section 8.03 or payments required to be made pursuant to Section 8.04, such assignment will result in a reduction in such compensation or payments. A Bank shall not be required to make any such assignment and delegation if, prior thereto, as a result of a waiver by such Bank or otherwise, the circumstances entitling the Borrower to require such assignment and delegation cease to apply. (e) Any Bank may at any time assign all or any portion of its rights under this Agreement and its Notes to a Federal Reserve Bank. No such assignment shall release the transferor Bank from its obligations hereunder. (f) No Assignee, Participant or other transferee of any Bank's rights shall be entitled to receive any greater payment under Section 8.03 or 8.04 than such Bank would have been entitled to receive with respect to the rights transferred, unless such transfer is made with the Borrower's prior written consent or by reason of the provisions of Section 8.02, 8.03 or 8.04 requiring such Bank to designate a different Applicable Lending Office under certain circumstances or at a time when the circumstances giving rise to such greater payment did not exist. SECTION 9.07. Collateral. Each of the Banks represents to the Agent and each of the other Banks that it in good faith is not relying upon any margin stock (as defined in Regulation U) as collateral in the extension or maintenance of the credit provided for in this Agreement. 101 SECTION 9.08. Governing Law; Submission to Jurisdiction. This Agreement and each Note shall be governed by and construed in accordance with the laws of the State of New York. The Borrower hereby submits to the nonexclusive jurisdiction of the United States District Court for the Southern District of New York and of any New York State court sitting in New York City for purposes of all legal proceedings arising out of or relating to this Agreement or the transactions contemplated hereby. The Borrower irrevocably waives, to the fullest extent permitted by law, any objection which it may now or hereafter have to the laying of the venue of any such proceeding brought in such a court and any claim that any such proceeding brought in such a court has been brought in an inconvenient forum. SECTION 9.09. Counterparts; Integration. This Agreement may be signed in any number of counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. This Agreement, together with the other Loan Documents and separate letter agreements regarding fees relating hereto, constitutes the entire agreement and understanding among the parties hereto and supersedes any and all prior agreements and understandings, oral or written, relating to the subject matter hereof. This Agreement shall become effective upon receipt by the Agent of counterparts hereof signed by each of the parties hereto (or, in the case of any party as to which an executed counterpart shall not have been received, receipt by the Agent in form satisfactory to it of telegraphic, telex, facsimile or other written confirmation from such party of execution of a counterpart hereof by such party). SECTION 9.10. WAIVER OF JURY TRIAL. EACH OF THE BORROWER, THE AGENT, THE ISSUING BANKS, THE SWINGLINE BANK AND THE BANKS HEREBY IRREVOCABLY WAIVES ANY AND ALL RIGHT TO TRIAL BY JURY IN ANY LEGAL PROCEEDING ARISING OUT OF OR 102 RELATING TO THIS AGREEMENT, THE OTHER LOAN DOCUMENTS OR THE TRANSACTIONS CONTEMPLATED HEREBY. IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed by their respective authorized officers as of the day and year first above written. CORNING CLINICAL LABORATORIES INC., by ______________________________ Title: One Malcolm Avenue Teterboro, NJ 07608 Attention of: Telecopy Number: MORGAN GUARANTY TRUST COMPANY OF NEW YORK, by ______________________________ Title: NATIONSBANK, N.A., by ______________________________ Title: WACHOVIA BANK OF GEORGIA, N.A., by ______________________________ Title: [OTHER BANKS] 103 NATIONSBANK, N.A., as Issuing Bank, by ______________________________ Title: [Address] Attention of: Telecopy Number: WACHOVIA BANK OF GEORGIA, N.A., as Swingline Bank, by ______________________________ Title: [Address] Attention of: Telecopy Number: MORGAN GUARANTY TRUST COMPANY OF NEW YORK, as Administrative Agent by ______________________________ Title: 60 Wall Street New York, NY 10260 Attention of: Telecopy number: EX-10.10 5 EXECUTIVE RETIREMENT SUPPLEMENTAL PLAN QUEST DIAGNOSTICS TRANSFEREE PENSION PLAN Effective as of the effective date of the divestiture by Corning Incorporated of its interest in QUEST DIAGNOSTICS INC., formerly Corning Clinical Laboratories, Inc. (the "Company"), the Company hereby establishes this QUEST DIAGNOSTICS TRANSFEREE PENSION PLAN (the "Plan") for the benefit of eligible Employees. ARTICLE ONE Definitions 1.1 "Board" means the Board of Directors of the Company. 1.2 "Change in Control" means one of the following circumstances: (i) an offeror (other than the Company) purchases shares of Common Stock of the Company pursuant to a tender or exchange offer for such shares; (ii) any person (as such term is used in Sections 13(d) and 14(d)(2) of the Securities Exchange Act of 1934) is or becomes the beneficial owner, directly or indirectly, of securities of the Company representing 30% or more of the combined voting power of the Company's then outstanding securities; (iii) the membership of the Company's Board of Directors changes as the result of a contested election or elections, such that a majority of the individuals who are directors at any particular time were placed on the Board of Directors initially as a result of such a contested election or elections occurring within the previous two years; or (iv) shareholders of the Company approve a merger, consolidation, sale or disposition of all or substantially all of the Company's assets, or approve a plan of partial or complete liquidation. 1.3 "Code" means the Internal Revenue Code of 1986 as amended from time to time. 1.4 "Committee" means the Committee appointed by the Company's Board of Directors to administer this Plan. -2- 1.5 "Company" means Quest Diagnostics Inc. (formerly Corning Clinical Laboratories, Inc.) and its successors. 1.6 "Corning" means Corning Incorporated. 1.7 "Effective Date" means the date of the divestiture by Corning of its interest in the Company. 1.8 "Employee" means any employee of a Participating Company who is within a select group of management or highly-compensated employees as such employees are defined in Title I of ERISA. 1.9 "Final Average Compensation" means an eligible Employee's average compensation (as compensation is defined in the Qualified Plan) received from the Company or from Corning consisting of the highest five consecutive calendar years, or portions thereof, out of the 10 calendar years preceding the Employee's termination of employment that produces the highest such average. 1.10 "Normal Retirement Date" and "Early Retirement Date" shall have the same meanings given these terms in the Qualified Plan. 1.11 "Participating Company" means the Company and any related entity which is approved by the Committee as a Participating Company under this Plan. 1.12 "Plan" means this Quest Diagnostics Transferee Pension Plan. 1.13 "Qualified Plan" means The Corning Incorporated Pension Plan for Salaried Employees, a copy of which is appended hereto. 1.14 "Years of Credited Service" means all years, and portions thereof, of service with the Company, with Corning or with the members of the controlled groups of either the Company or Corning provided that no service shall be double counted for the same period of time. -3- ARTICLE TWO Purpose and Intent of Plan 2.1 The purpose of this Plan is to preserve the previously expected pension benefits of executives who transfer from Corning to the Company by providing to eligible Employees retirement benefits in excess of those they are entitled to receive under the Qualified Plan. The Plan is intended to constitute an unfunded plan of deferred compensation for a select group of management or highly-compensated employees as provided for in Title I of ERISA. ARTICLE THREE Eligible Employee 3.1 The Committee in its sole discretion shall designate those Employees who shall be eligible to participate in this Plan. All eligible Employees shall be identified in such records as the Committee deems appropriate to establish and maintain. An otherwise eligible Employee shall be ineligible to participate and shall forfeit all rights to receive any future benefit payment under this Plan if such employee: [bullet] is terminated for cause, which determination shall be in the sole discretion of the Committee and this determination shall be final and binding on all persons; [bullet] terminates employment for any reason prior to completing five full Years of Credited Service measured from the eligible Employee's date of hire; or [bullet] without the prior consent of the Committee, engages in any activity inimical to the interests of any Participating Company at any time until the lapse of 36 months following the Employee's retirement. ARTICLE FOUR Benefits 4.1 Benefit Amount. The benefit payable to an eligible Employee under this Plan on the Employee's Normal Retirement Date shall be a straight life annuity equal to the excess of (a) over (b) below where: -4- (a), the basic benefit formula, equals the aggregate amount the eligible Employee would be entitled to receive, under the following formula after application of the factors listed in (1) through (7) after the formula: 1.0% times the Employee's Final Average Compensation up to Social Security Covered Compensation for the year in which employment terminates, times the Employee's Years of Credited Service up to 35 Plus 1.5% times the Employee's Final Average Compensation in excess of such Social Security Covered Compensation, times the Employee's Years of Credited Service up to 35 Plus 1.5% times the Employee's Final Average Compensation times the Employee's Years of Credited Service in excess of 35 The factors referred to in computing the basic benefit above are as follows: (1) the term Compensation means Compensation as used in the Qualified Plan except there shall be added to such Compensation, stock grants in lieu of bonuses valued at the stock's fair market value and compensation earned by an eligible Employee during a year but deferred to a subsequent year. Such deferred compensation shall not again be taken into account in the year of receipt. The Committee in its sole discretion may add to the items of includable compensation other compensatory payments or benefits earned by eligible Employees; (2) the term Year of Credited Service means service determined through the date the eligible Employee terminates employment as such service is defined in the Qualified Plan together with the modifications set forth in the Corning Incorporated Supplemental Pension Plan as if the Qualified Plan had covered the Employee through the date he terminates employment as a participant in this Plan; -5- (3) an eligible Employee's Covered Compensation means the amount set forth in IRS Revenue Ruling 71-446 and subsequent IRS updates determined as of the year the eligible Employee terminates employment. If the IRS ceases to update the covered compensation table, covered compensation shall be determined by the Qualified Plan's actuary using the same methodology as in Revenue Ruling 71-446; (4) for purposes of determining eligibility to receive benefits (but not their amount), an eligible Employee who has reached age 55 and whose age and Years of Credited Service total at least 65 shall be deemed to have satisfied all of the Qualified Plan's credited service conditions for benefit eligibility; (5) all Code limits on compensation and benefit amounts shall be disregarded; (6) an early retirement benefit is payable from this Plan if an eligible Employee meets the age and service requirements for early retirement under the Qualified Plan taking into account for this purpose all Years of Credited Service under this Plan. In the event of early retirement, the benefit amount shall be determined pursuant to the benefit formula under this Section 4.1 but applying the reduction factors applicable to early retirement benefits prescribed by the Qualified Plan; and (7) no benefit shall be paid under this Plan unless an eligible Employee has five or more Years of Credited Service. An eligible Employee who has five or more Years of Credited Service but is not eligible for an early or normal retirement benefit shall be entitled to receive a deferred vested benefit computed generally under the provisions of this Section 4.1 except that the compensation and benefit limits of Code Sections 401(a)(17) and 415 shall be taken into account in applying these provisions, but applying the reduction factors applicable to deferred vested benefits prescribed by the Qualified Plan, and where -6- (b), the offset to the basic benefit formula, equals the aggregate amount the eligible Employee is actually entitled to receive under the Qualified Plan and each of Corning's non-qualified plans that supplement the Qualified Plan. The amount of benefit used as an offset for the Corning qualified and non-qualified plans shall be an eligible Employee's accrued benefit (age 65 amount payable in the normal form) earned as of the date the Employee terminates employment with Corning but applying the reduction factors applicable to deferred vested benefits prescribed by the Qualified Plan. Pension improvements, retiree increases and past service pension updates occurring in all Corning plans after the Employee terminates employment with Corning shall not be taken into account in determining the offset amounts for the Corning plans. 4.2 Commencement of Benefits. A Participating Company shall pay the benefits due under this Plan commencing within 30 days of retirement, death or any other event that entitles an eligible Employee or the Employee's beneficiary to receive benefits under the Qualified Plan as if the Qualified Plan had covered the Employee during the Employee's period of service while a participant in this Plan. 4.3 Form of Payment. The benefit payable under this Plan shall be a life annuity for unmarried Employees and a joint and 75 percent survivor annuity for married Employees. Notwithstanding the foregoing, the Committee in its sole discretion may elect to pay the entire benefit, or the present value of the remaining installments, in a lump sum payment in the event of the Employee's or his beneficiary's financial need. The amount of the actual benefit paid from this Plan shall be the straight life annuity calculated under Section 4.1 adjusted as appropriate by the actuarial assumptions used in the Qualified Plan if a different form of benefit is paid, provided that for lump sum payments the interest factor shall be the average of the PBGC immediate interest rate in effect as of the -7- first day of each of the three months immediately preceding the month in which the payment is made. Notwithstanding the foregoing, any life annuity or joint and survivor annuity shall be paid in the form of the six year certain benefit described in Section 4.9 of the Qualified Plan. No actuarial adjustments shall be made for such six year certain benefit. 4.4 Death Benefits During Employment. If an eligible Employee dies while still employed by a Participating Company but after becoming entitled to receive a vested benefit, the eligible Employee's spouse, if surviving, shall be entitled to a monthly lifetime benefit equal to 50 percent of the benefit the eligible Employee would have received under Section 4.1. This benefit shall be payable at such time as in-service death benefits are payable under the Qualified Plan as if the Qualified Plan had covered the Employee during the Employee's period of service while a participant in this Plan and pursuant to such other terms and conditions as may apply to benefits payable under the Qualified Plan. In the discretion of the Committee, the value of this benefit may be paid out in a lump sum or in another alternative form of benefit the Committee may elect. 4.5 Unfunded Plan. This Plan is intended to be "unfunded" as this term is used in Title I of ERISA. All benefits payable to an eligible Employee under this Plan shall be paid by the Participating Company that employs the eligible Employee out of its general assets and shall not be otherwise funded. Although the Company does not intend, as of the Effective Date, to set aside any additional specific assets to meet its obligation to pay benefits under this Plan, the Company may, in its discretion, set aside assets for meeting its obligations, including, but not limited to, the establishment of a rabbi or other grantor trust. In the event such fund or trust is established, each Participating Company shall be responsible for making contributions to provide for the benefits of its own eligible Employees. No Employee shall have any property rights in any such fund or trust or in any other assets held by a Participating Company. The right of an eligible Employee or his spouse or beneficiary to receive any of the benefits provided by this Plan shall be an unsecured claim against the general assets of a Participating Company. -8- Employees are neither required nor permitted to make any contributions to this Plan. 4.6 Change in Control. In the event of a Change in Control, all eligible Employees shall become fully vested, and upon termination of employment, or by action of the Committee in anticipation of termination of employment, shall receive such vested benefits in a single lump sum payment. For this purpose, termination of employment shall mean termination of the Employee's employment with a Participating Company within four years following a Change in Control. A termination shall be deemed to occur if during such period the Employee determines in good faith that the position, duties, responsibilities and status assigned to the Employee are inconsistent with the position, duties, responsibilities and status of the Employee with the Participating Company immediately prior to the Change in Control. Such determination shall be evidenced by the Employee in a writing delivered to the Secretary of the Company promptly but in no event later than 180 days after such determination. In the case of a Change in Control and a termination of employment as above described, an eligible Employee who has not at such time attained the age of fifty-five (55) and whose Qualified Plan benefits are therefore deferred shall nevertheless be entitled to an immediate lump sum payment under this Plan equal to the then present value of the benefit that would have been payable at the time the Employee reached age 55 but determined on the basis of Compensation and Credited Service figures in effect on the date of the Employee's termination of employment. ARTICLE FIVE Administration 5.1 Committee as Administrator. This Plan shall be administered by the Committee in accordance with the Plan's terms. The Committee shall determine the benefits due each Employee from this Plan and shall direct them to be paid by a Participating Company. The Committee shall inform each Employee of any elections which the Employee may possess and shall record such choices along with such other information as may be necessary to administer the Plan. -9- 5.2 Coordination with Qualified Plan. Since this Plan is intended to operate in conjunction with the Qualified Plan, any questions concerning plan administration or the calculation of benefits that arise but are not specifically addressed by this Plan shall be considered in light of the Qualified Plan. In addition, unless the context requires otherwise, the terms used in this Plan shall have the same meaning as the same terms used in the Qualified Plan. 5.3 Committee Action Final. The Committee has sole discretion to determine eligibility to participate in this Plan, to determine the eligibility for and the amount of benefits, to interpret the Plan and to take any other action it deems appropriate to administer this Plan. The decisions made by and the actions taken by the Committee shall be final and conclusive on all persons. Members of the Committee shall not be subject to individual liability with respect to their actions under this Plan. Notwithstanding the foregoing, the Company shall indemnify each member of the Committee who may incur financial liability for actions or failures to act with respect to the member's Committee responsibilities. ARTICLE SIX Amendment and Termination 6.1 While the Company intends to maintain this Plan indefinitely, the Board reserves the right to amend or terminate it at any time for whatever reasons it may deem appropriate. Notwithstanding the preceding paragraph, however, the Company hereby makes a contractual commitment on behalf of itself, the other Participating Companies and their successors to pay, or to require the other Participating Companies to pay, the benefits accrued under this Plan prior to its amendment or termination to the extent it or the other Participating Companies are financially capable of meeting such obligation. ARTICLE SEVEN Miscellaneous 7.1 No Contract of Employment. Nothing contained in this Plan shall be construed as a contract of employment between a Participating Company and an Employee, or as a right of any Employee to be continued in the -10- employment of a Participating Company, or as a limitation of the right of a Participating Company to discharge any of its Employees, with or without cause. 7.2 No Transferability. The rights of an Employee under this Plan shall not be transferable, voluntarily or involuntarily, other than by will or the laws of descent and distribution and are exercisable during the Employee's lifetime only by the Employee or the Employee's guardian or legal representative. 7.3 Taxation. The benefits payable under this Plan shall be subject to all federal, state and local income and employment taxes to which benefits of this type are normally subject. 7.4 Indemnification. To the fullest extent authorized or permitted by law, the Company shall indemnify any eligible Employee who brings an action or proceeding, whether civil or criminal, or who is made, or threatened to be made, a party to an action or proceeding, whether civil or criminal, by reason of the fact that he, his testator or intestate, is or shall be entitled to benefits under this Plan and the Company has failed to make payments hereunder when due or has otherwise failed to follow the terms of the Plan or such eligible Employee has reasonable cause to believe the Company shall fail or intends to fail to perform its future obligations hereunder arising within a reasonable time thereof, or with respect to any other matter directly or indirectly related to this Plan, unless a judgment or other final adjudication adverse to such eligible Employee establishes that the Company was or is legally entitled to fail to so perform its obligations hereunder. Without limitation of the foregoing, such indemnification shall include indemnification against all costs of whatever nature or kind, including attorneys' fees and costs of investigation or defense, incurred by any eligible Employee with respect to any such action or proceeding and any appeal therein, and which judgments, fines, amounts and expenses have not been recouped by him in any other manner. All expenses incurred by a person in connection with an actual or threatened action or proceeding with respect to which such person is or may be entitled to indemnification under this Section, shall, in the absence of a final adjudication adverse to such person as described above, be promptly paid by the Company to him, upon receipt of an undertaking by him to repay the portion of such advances, if any, to which he may finally be determined not to be entitled. The Company's obligations under this Section 7.4 may be -11- paid from any rabbi trust or other fund established by the Company for the purpose of paying such expenses. This Section may not without the consent of a eligible Employee be amended or changed in any manner adverse to such eligible Employee. The indemnification provided by this Section shall not be deemed exclusive of any other rights to which an eligible Employee may be entitled other than pursuant to this Section. Notwithstanding the foregoing, there shall be no indemnification for persons who cease Plan participation and forfeit all benefits on account of termination for cause as described in Section 3.1. 7.5 Successors. This Plan shall be binding on the Company's successors and assigns. 7.6 Governing Law. This Plan shall be interpreted and enforced in accordance with the laws of the State of New Jersey. IN WITNESS WHEREOF, the Company has caused this Plan document to be executed by its duly authorized officer this ____ day of ______________, 1996. QUEST DIAGNOSTICS INC. By ____________________________ Title__________________________ EX-10.12 6 EMPLOYMENT AGREEMENT Employment Agreement between Kenneth W. Freeman & Corning Clinical Laboratories, Incorporated This EMPLOYMENT AGREEMENT (the "Agreement") is entered into between CORNING CLINICAL LABORATORIES, INC. (the "Company"), a Delaware corporation having its principal place of business at One Malcolm Avenue, Teterboro, NJ 07608, and KENNETH W. FREEMAN (the "Executive"). WHEREAS, Executive has been employed by the Company as President and Chief Executive Officer; and WHEREAS, the Company considers the services of the Executive to be unique and essential to the success of the Company's business; and WHEREAS, it is anticipated that the Company will be subject to a tax-free spin-off by Corning Incorporated ("Corning") (the "Spin-off") and the parties desire that the Executive continue as President and Chief Executive Officer of the Company following the Spin-off; and WHEREAS, the Company and the Executive now wish to enter into an agreement of employment that will constitute the sole and exclusive agreement relating to the employment of Executive by the Company on the terms and conditions set forth herein. 2 NOW, THEREFORE, in consideration of the foregoing premises, the mutual covenants, terms and conditions set forth herein, and other valuable consideration, the receipt and sufficiency of which are hereby acknowledged, it is hereby agreed between the Corporation and the Executive as follows: 1. Employment: The Company shall continue to employ the Executive in a full-time capacity in the position set forth in this paragraph, and the Executive shall continue to accept such employment upon the terms and conditions set forth herein. Such employment shall be in the capacity of President and Chief Executive Officer of the Company, and as a Director and Chairman of the Board of Directors of the Company, reporting directly to the Board. The Company shall nominate the Executive as a Director of the Company and shall use its best efforts to have the Executive elected and re-elected to the Board for the duration of the "Employment Term" (as hereinafter defined). 2. Term: Unless earlier terminated pursuant to Section (9) hereof, the term of employment under this agreement shall commence on the later of January 1, 1997 or the date upon which the Spin-off is consummated (the "Effective Date"), and shall continue through December 31, 1999 (the "Employment Term"). On or before June 1, 1999, the Company and the Executive agree to use their good faith efforts to negotiate a renewal of this Agreement (the "Renewal Agreement"), on mutually satisfactory terms and conditions. In the event that the Company and Executive are unable to agree to a Renewal Agreement, and subject to continued service by the Executive through December 31, 1999 (absent any termination by the Company 3 without Cause, or termination by the Executive for Good Reason, or as a result of the death or disability of the Executive, in each case giving rise to payments pursuant to Section 12 hereof) (each individually a "Section 12 Event"), then upon the expiration of this Agreement on December 31, 1999, and in lieu of any other amounts otherwise payable to the Executive pursuant to Section 12 hereof, the Executive shall receive the "Non-Renewal Payment" (as hereinafter defined). "Non-Renewal Payment" shall mean (i) a lump-sum cash payment equal to two times the highest annual cash compensation paid to the Executive during the Employment Term, and (ii) reimbursed health benefits under COBRA for eighteen months for the Executive and his family following the expiration of this Agreement. Notwithstanding the foregoing, the Executive shall not be entitled to receive the Non-Renewal Payment if upon the expiration of the Employment Term (and absent any Section 12 Event) the Executive accepts an executive position at Corning on terms and conditions satisfactory to the Executive. 3. Duties: During the Employment Term, the Executive shall, subject to the supervising powers of the Board, have those powers and duties consistent with his position as Chief Executive Officer and Chairman, which powers shall in all cases include, without limitation, the power of supervision and control over, and responsibility for, the general management and operations of the Company. Executive agrees to devote substantially all his working time and attention to the business of the Company. The Executive shall not, without the prior written consent of the Company's Board of Directors, be directly or indirectly engaged in any other trade, business or occupation 4 for compensation requiring his personal services during the Employment Term. Nothing in this agreement shall preclude the Executive from: (i) engaging in charitable and community activities or from managing his personal investments, or (ii) serving as a member of the board of directors of an unaffiliated company not in competition with the Company, subject however, in each such case of board membership, to approval by the Company's Board of Directors (not to be unreasonably withheld). 4. Place of Performance: The principal place of employment of the Executive shall be at the Company's principal executive offices in Teterboro, New Jersey, or such other location as may be agreed to by the Board and Executive. 5. Cash Compensation: Executive shall be compensated for services rendered during the Employment Term as follows: (a) Base Salary: Executive shall be compensated at an annual base salary of no less than $500,000 (the base salary, at the rate in effect from time to time, is hereinafter referred to as the "Base Salary"). The Company's Board of Directors shall review and may, if appropriate, at its discretion, increase this annual base salary effective the first day of any future new year during the Employment Term; provided that the Base Salary shall be increased annually to reflect ordinary salary actions generally granted to other Company executives. The Base Salary shall be payable in equal semi-monthly installments. (b) Variable (bonus) Pay: In addition to the Base Salary provided for in Section 5(a) above, the Company will provide annual bonus awards to Executive under its 5 Variable Compensation (VC) program in accordance with the plan and financial performance targets as established by the Company's shareholders and/or Board of Directors. During the Employment Term, Executive's target incentive opportunity under the Company's VC program will be no less than 65% of Base Salary as in effect at the time such target incentive opportunity is established. 6. Equity/Awards: Executive may be awarded additional compensation (such as stock options or restricted stock) (collectively the "Annual Incentive Awards") pursuant to the present or any future incentive compensation or long-term compensation program established for the senior officers of the Company (collectively the "Incentive Compensation Programs"), which, in the sole judgment of the Company's Board of Directors, is appropriate for the position occupied by Executive and his performance therein; provided that no executive, consultant or individual shall receive any annual award under the Incentive Compensation Programs in excess of the annual award (if any) made to the Executive, without Executive's express written consent. Compensation granted under such plans will be subject to the actual provisions and conditions applicable to such plans. 7. Initial Incentive Awards: (a) The Executive is hereby granted (i) options on 180,000 shares of common stock of the Company ("Common Stock") at an exercise price equal to the lesser of $12.50 or the fair market value of the Common Stock as of the effective date of the Spin-Off (the "Exercise Price"); and (ii) 90,000 shares of the Company's common stock (collectively the "Initial Incentive Awards"). The Initial Incentive Awards shall 6 be subject to the general terms and conditions of the incentive plans under which they were granted subject in each case to any provisions of this Agreement providing for accelerated vesting. (b) The Executive's rights with respect to certain previously granted incentive awards in Corning shall be converted into (i) options on 185,600 shares of Common Stock (representing first and second year CPP 6 stock options under Corning's long-term plan), and (ii) 55,085 shares of Common Stock (the "CCL Career Shares") (such CCL Career Shares to be subject to the vesting provisions set forth in Annex A hereto, absent accelerated vesting under the terms of this Agreement) (collectively "Converted Incentive Awards"). (c) The final number of Initial Incentive Awards and Converted Incentive Awards granted to the Executive shall be adjusted pro rata upward or downward, as the case may be, depending on the appropriate pricing formula finally adopted with the approval of the Executive, and the extent to which the price of the Common Stock on the effective date of the Spin-Off is less than or greater than $12.50 per share. 8. Employee Benefits: (a) General Provisions: Except as expressly provided in this Agreement, Executive shall be eligible to participate in all employee benefit and welfare plans offered by the Company (e.g. Life Insurance, Medical & Dental Insurance, Travel, Accident, STD<D, Flexible Spending Accounts, Regular and Supplemental AD&D, Optional/Supplemental Life Insurance, Investment Plan - 401k, Employee Stock Purchase Plan and other personal benefit plans of the Company) on a basis 7 which is no less favorable to the Executive than that made available to other senior officers of the Company. (b) Transferred Executive Supplemental Retirement Plan: (i) Executive will be eligible to participate in the "Transferred Executive Supplemental Retirement Plan" (the "SRP") established by the Company for certain executives of the Company, effective upon the Effective Date. Under the terms of such plan, Executive will be entitled to receive a nonqualified retirement benefit in accordance with the terms and provisions of the plan, as administered by the Company's Board of Directors, subject to the terms of this Agreement. (ii) Notwithstanding any terms of the SRP to the contrary, Executive shall be entitled to receive a retirement pension benefit under this Agreement (the "Company Non-Qualified Benefit") as provided for below. The Company Non-Qualified Benefit shall be an annuity commencing on the later of (i) his date of termination or (ii) the Executive's 57th birthday (the "SRP Commencement Date"), and (iii) shall be (1) fully equivalent in value to the pension benefits Executive would have received under the Corning non-qualified and qualified pension plans as in effect on the date of this Agreement (including all across-the-board plan improvements or benefit decreases and/or successor plans, in each case adopted after the date of this Agreement and applicable to the class of executives of which the Executive was a part while employed by Corning), (2) based on Executive's combined years of service with the Company and Corning (but in any case not less than 34 years of service), (3) computed on an unreduced basis as if Executive were a retiree, rather than on a 8 deferred vested basis, and (4) based on all compensation earned by Executive from Corning and Company through to the SRP Commencement Date (provided that for purposes of such computation, Executive's benefit eligible compensation shall be his 1997 Base Salary and Bonus and such amount increased at 5% per annum for subsequent years); provided that if the Executive terminates his employment under this Agreement without Good Reason or the Company terminates the Executive's employment under this Agreement with Cause, then the pension benefits payable to the Executive under the SRP shall be determined based only on actual years of service and compensation through to the Termination Date. (iii) On or before the Effective Date, the Company shall deliver to Executive a standby letter of credit in the amount of $5.4 million, in form acceptable to Executive and his counsel and with an evergreen term of no less than eighteen (18) months, to ensure that the Company's obligation under the SRP and the Company Non-Qualified Benefit are fully funded and secured on an after-tax basis to the Executive (the "SRP LC"). As of the first day of any calendar year thereafter (the "Adjustment Date") as of which the Company's pension liability (on an after-tax basis) to Executive as computed hereunder, as determined by an actuary acceptable to Executive on or before November 1 of the preceding calendar year, has a present value that exceeds by more than $250,000 the SRP LC (on an after-tax basis), the Company shall, within 60 days of the Adjustment Date, increase the amount of the SRP LC or secure and deliver to the Executive an additional letter of credit in form acceptable to the Executive and his counsel so that, in the aggregate, the letter(s) of 9 credit then in place are not less than the present value of such liability (on an after-tax basis). (iv) Immediately upon (x) the termination of Executive's employment with the Company for any reason, including, without limitation, failure to negotiate a Renewal Agreement (and other than a termination of Executive's employment by the Company for Cause or by the Executive without Good Reason), (y) failure of the Company to renew the SRP LC or increase the amount of the SRP LC or secure an additional letter of credit, as provided herein (in each case, without the consent of the Executive not to do so), or (z) upon the Executive's retirement, the Executive may draw on the SRP LC; it being understood that the Executive may elect to draw on the SRP LC (and any supplemental letter of credit) pursuant to subclause (y) above and continue his employment hereunder. (v) Amounts payable to the Executive in satisfaction of the Company Non-Qualified Benefit shall be reduced by (i) any qualified plan benefits actually received by Executive under Corning's qualified plan ("Qualified Corning Benefits") and (ii) any non-qualified benefits to the extent funded pursuant to Section III (c) of the Transition Agreement, dated as of December __, 1996 between Corning and the Executive, and actually received by the Executive ("Section III (c) Benefits"), and any amounts realized by the Executive upon drawing upon the SRP LC (or any supplemental letter of credit) shall be adjusted to take into account such Qualified Corning Benefits and Section III (c) Benefits. 10 (c) Relocation: The Company shall reimburse the Executive up to $10,000 per month (grossed-up for tax purposes at a rate of 45%) until the earlier of: (i) suitable housing in the New York Metropolitan area being obtained by the Executive, or (ii) June 30, 1998. If the Executive has not utilized Corning's relocation benefits prior to the Effective Date, the Company shall extend equal benefits (to the extent the Company's relocation policies are of lesser value to the Executive) for relocating the Executive and his family from the Corning, New York area to the New York City Metropolitan area. In addition, the Company will provide for an interest-free housing loan to the Executive in the amount of $400,000, all of which shall be forgiven in five (5) annual installments at each annual anniversary of this Agreement's Effective Date. Any compensation income to Executive resulting from the loan forgiveness or interest-free features of this loan will be grossed-up for tax purposes at the Executive's effective tax rate. (d) Vacation and Sick-Leave: Executive shall be entitled to vacation and sick leave in accordance with the vacation and sick leave policies adopted by the Company from time to time, provided that the Executive shall be entitled to no less than five (5) weeks of paid vacation each calendar year. Any vacation shall be at such times and for such periods as shall be mutually agreed upon between the Executive and the Company. The Executive shall be entitled to all public holidays observed by the Company. 11 9. Applicable Taxes: There shall be deducted from any compensation payments made under this Agreement any federal, state and local taxes or other amounts required to be withheld by any entity having jurisdiction over the matter. 10. Miscellaneous Benefits: During the Employment Term, the Company shall provide the Executive with the following additional benefits: (a) Business Travel and Expenses: Executive shall be reimbursed by the Company for reasonable travel and other business expenses, as approved by the Company, which are incurred and accounted for in accordance with the Company's normal practices and procedures for reimbursement of expenses. (b) Legal Fees: The Company shall reimburse Executive for reasonable legal fees and disbursements incurred in connection with the negotiation, preparation and implementation of this Agreement (grossed up for tax purposes at a rate of 45%). (c) Clubs and Memberships: The Company will reimburse Executive, for annual and one-time costs associated with memberships for the Executive and his family in a country club and city club (grossed-up for tax purposes at a rate of 45%). (d) Executive Driver: In order to ensure the accessibility and safety of the Executive during the Employment Term, the Company will reimburse Executive for the costs of an executive driver comparable to the costs presently incurred on behalf of the Executive, subject to annual COLA adjustments (grossed up for tax purposes at a rate of 45%). 12 (e) Use of Aircraft: In order to ensure the accessibility and safety of the Executive during the Employment Term, the Company shall reimburse Executive for all costs associated with the Executive's use of aircraft in accordance with the Company's policies, whether for business purposes or for personal reasons, whether the aircraft is being chartered or is Company-owned. Any payments under this provision which are to be treated as taxable compensation to the Executive (in accordance with IRS rules and regulations) will be grossed-up tax purposes at a rate of 45%. (f) Automobile Expenses: The Company will provide Executive with a gross automobile allowance of $1,070 per month (or other greater monthly amount as is provided to other senior executives of the Company) in accordance with the provisions of the Company's auto allowance program. (g) Financial Counseling and Legal Services: The Company shall reimburse the Executive for financial counseling, tax preparation and legal services (grossed-up for tax purposes at a rate of 45%) in an annual amount comparable to that paid on behalf of similarly situated senior executives, but in no event less than $25,000/year. (h) Non-Exclusivity: Nothing in this Agreement shall prevent the Executive from being entitled to receive any additional compensation or benefits as approved by the Company's Board of Directors. 11. Termination of Employment: Notwithstanding any other provisions of this Agreement to the contrary, the employment of the Executive pursuant to this Agreement may be terminated as follows: 13 (a) Termination by the Company For Cause: Executive may be terminated for "Cause" by the Company as provided below. As used herein, the term "Cause" shall mean (i) conviction of the Executive of a felony; (ii) if Executive is not disabled (as defined below), a willful failure or refusal to substantially perform the duties and services specified herein for a period of not less than thirty (30) days, and after having been afforded (x) written notice of any alleged failure to substantially perform such duties and services and (y) a reasonable opportunity to cure any alleged failure; (iii) the commission by the Executive of fraud or theft against, or embezzlement from, the Company; or (iv) gross misconduct intentionally undertaken by the Executive that is demonstrably and materially injurious to the operations of the Company. For purposes of this section, no act or failure to act on Executive's part shall be considered to be reason for termination for Cause if done, or omitted to be done, by Executive in good faith and with the reasonable belief that the action or omission was in the best interests of the Company. Cause shall not exist unless and until there shall have been delivered to the Executive a copy of a resolution, duly adopted by the affirmative vote of not less than two thirds of the entire membership of the Board at a meeting of the Board held for the purpose (after ten (10) days' prior written notice to the Executive of such meeting and the purpose thereof and an opportunity for him, together with his counsel, to be heard before the Board at such meeting), finding that in the good faith opinion of the Board, the Executive was guilty of the conduct set forth above in this Section 11(a) and specifying the particulars thereof in detail. As set forth more fully in Section 11(f) hereof, the "Date of 14 Termination" shall be the date specified in the "Notice of Termination"; provided, however, that in the case of a termination for Cause under clause (ii) above, the Date of Termination shall not be earlier than 30 days after delivery of the Notice of Termination. Anything herein to the contrary notwithstanding, if, following a termination of the Executive's employment by the Company for Cause based upon the conviction of the Executive for a felony, such conviction is overturned in a final determination on appeal, the Executive shall be entitled to the payments and the economic equivalent of the benefits the Executive would have received if his employment had been terminated by the Company without Cause. (b) Termination By the Company For Disability: At the sole discretion of the Company's Board of Directors, Executive may be terminated if the Executive is disabled (as defined below) and shall have been absent from his duties with the Company on a full-time basis for one hundred and twenty (120) consecutive days, and if within thirty (30) days after written Notice of Termination is given by the Company to the Executive, the Executive shall not have resumed the performance of his duties hereunder on a full-time basis. In this event, the date of termination shall be thirty (30) days after Notice of Termination is given by the Company (provided that the Executive shall not have returned to the full-time performance of his duties). As used herein, the term "disabled" shall mean that the Executive is unable, as a result of a medically determinable physical or mental impairment, to perform the duties and services of his position. 15 (c) Death: The Executive's employment shall terminate upon his death, and the date of his death shall be the Date of Termination for purposes of this Agreement. (d) Termination by the Executive for Good Reason: The Executive may terminate his employment hereunder for "Good Reason," provided that the Executive shall have delivered a Notice of Termination within ninety (90) days after the occurrence of the event of Good Reason giving rise to such termination. For purposes of this Agreement, "Good Reason" shall mean the occurrence of one or more of the following circumstances, without the Executive's express written consent, which are not remedied by the Company with thirty (30) days of receipt of the Executive's Notice of Termination: (i) an assignment to the Executive of any duties materially inconsistent with his positions, duties, responsibilities and status with the Company, or any material limitation of the powers of the Executive not consistent with the powers of the Executive contemplated by Section (3) hereof, (ii) any removal of the Executive from, or any failure to re-elect the Executive to, the positions specified in Section (1) of this Agreement; (iii) the change of the Executive's title as specified by Section (1) of this Agreement; (iv) the Company's requiring the Executive without his written consent to be based at any office or location more than 75 miles commuting distance from the location as described in Section (4) of this Agreement; 16 (v) a reduction in the Executive's Base Salary or Variable Compensation bonus opportunity as in effect from time to time, without his written consent; (vi) the failure of the Company to continue in effect any Benefit Plan that was in effect on the date hereof or provide the Executive with equivalent benefits, without his written consent; (vii) the failure of the Company, within not more than thirty (30) days after the Effective Date, to have the Executive duly elected as a member of its Board of Directors and to maintain the Executive in such position at all times thereafter, for so long as he shall serve as Chief Executive Officer of the Company; (viii) any other material breach by the Company of this Agreement; (ix) a Change in Control; (x) a failure of the Company to secure a written assumption by any successor company as provided for in Section 15(g) hereof; or (xi) the failure of the Company to secure, maintain, renew or supplement the SRP LC (and any supplemental letter of credit) as provided for in Section 8(b)(iii) hereof. In the event of a termination for Good Reason, the Date of Termination shall be the date specified in the Notice of Termination, and shall be more than thirty (30) days after the Notice of Termination. In the event of a termination for Good Reason pursuant to Section 11(d)(xi) hereof, the Executive shall retain the night to draw on 17 the SRP LC (and any supplemental letter of credit) as provided for in Section 8(b) hereof. (e) Other Terminations: Notwithstanding the foregoing, the Executive may terminate his employment at any time, subject to the provisions of Section (11)(f) hereof. If the Executive's employment is terminated hereunder for any reasons other than as set forth in Sections (11)(a)-(11)(d) hereof, the date on which a Notice of Termination is given or any later date (within 30 days) set forth in such Notice of Termination shall be the Date of Termination. (f) Notice of Termination: Any termination of the Executive's employment hereunder by the Company or by the Executive shall be communicated by written Notice of Termination to the other party hereto. For purposes of this Agreement, a "Notice of Termination" shall mean a notice which shall indicate the specific termination provision in this Agreement relied upon and shall set forth in reasonable detail the facts and circumstances claimed to provide a basis for termination of the Executive's employment under the provisions so indicted. 12. Compensation upon Termination or during Disability: (a) Disability Period. During any period during the Employment Term that the Executive fails to perform his duties hereunder as a result of incapacity due to physical or mental illness ("Disability Period"), the Executive shall continue to (i) receive his full Base Salary and bonus otherwise payable for that period of the Employment Term including the Disability Period and (ii) participate in the Benefit Plans. Such payments made to the Executive during the Disability Period shall be 18 reduced by the sum of the amounts, if any, payable to the Executive at or prior to the time of any such payment under disability benefit plans of the Company or under the Social Security disability insurance program, where such amounts were not previously applied to reduce any such payment. (b) Death. If the Executive's employment hereunder is terminated as a result of his death, then: (i) the Company shall pay the Executive's estate or designated beneficiary, as soon as practicable after the Date of Termination, a lump sum payment equal to (1) any Base Salary installments due in the month of death and any reimbursable expenses accrued or owing the Executive hereunder as of the Date of Termination, (2) a pro rata portion of any bonus owed to the Executive for that portion of the Employment Term through to the Date of Termination, and (3) the greater of (x) Base Salary payments otherwise payable for the remainder of the Employment Term or (y) two (2) times the average annual Base Salary paid to the Executive prior to his death (the payments provided for in subclauses (x) and (y) are the "Reduced Severance Benefits"), and (ii) the Initial Incentive Awards, Converted Incentive Awards, and all other Annual Incentive Awards granted to the Executive shall immediately become fully vested as of the Date of Termination, subject to such exercise periods as shall be provided for under the terms of the initial grant. (c) Disability. If the Executive's employment hereunder is terminated as a result of Disability, then (i) the Company shall pay the Executive, as soon as practicable after the Date of Termination (1) any Base Salary and any reimbursable expenses accrued or owing the Executive hereunder as of the Date of Termination, (2) a pro 19 rata portion of any bonus owed to the Executive for that portion of the Employment Term through to the Date of Termination, and (3) the "Reduced Severance Benefits"; and (ii) the Initial Incentive Awards, Converted Incentive Awards, and all other Annual Incentive Awards granted to the Executive shall immediately become fully vested as of the Date of Termination, subject to such exercise periods as shall be provided for under the terms of the initial grant. (d) Termination for Cause or by the Executive other than for Good Reason. If the Executive's employment hereunder is terminated by the Company for Cause or by the Executive (other than for Good Reason), then (i) the Company shall pay the Executive, as soon as practicable after the Date of Termination, any Base Salary and any reimbursable expenses accrued or owing the Executive hereunder for services as of the Date of Termination; and (ii) the Executive shall immediately forfeit any untested CCL Career Shares. In the event of termination by the Company for Cause, the Executive shall have the right to exercise the vested unexercised portion of any Initial Incentive Awards, Converted Incentive Awards or any other Annual Incentive Awards prior to the Date of Termination, and the unexercised portion of any such awards shall be forfeited thereafter. In the event of termination by the Executive other than for Good Reason, the Executive shall have the right to exercise the vested unexercised portion of any Initial Incentive Awards, Converted Incentive Awards or any other Annual Incentive Awards then held by the Executive for such period following the Date of Termination as shall be provided for under the terms of the 20 initial grant, and the unexercised portion of any such awards shall be forfeited thereafter. (e) Termination by Company Without Cause or by Executive with Good Reason: Executive's employment may be terminated without Cause by the Company's Board of Directors (other than as a result of Disability) or by the Executive for Good Reason, provided that in such event: (i) Executive shall be entitled to receive three (3) years base salary (at the Executive's effective annual rate on the date of termination) to be paid in a lump-sum (net of appropriate withholdings) within sixty (60) days of the date of termination; (ii) Executive shall be entitled to receive three (3) years of his annual bonus award (defined to be three (3) times his most recent target incentive opportunity under the Variable Compensation plan times his annual base salary on the date of termination) to be paid in a lump sum (net of appropriate withholdings) within sixty (60) days of the date of termination; (iii) Executive shall be entitled to continue participation in the Company's health and benefit plans (to the extent allowable in accordance with the administrative provisions of those plans and applicable federal and state law) for a period of up to three (3) years or until Executive is covered by a successor employer's benefit plans, whichever is sooner; 21 (iv) The Initial Incentive Awards, Converted Incentive Awards and any other Annual Incentive Awards granted to the Executive shall become vested and fully exercisable as of the Date of Termination; and (v) In the event that the Executive receives any payment or benefit (including but not limited to the payments or benefits pursuant to Section 12 of this Agreement (a "Payment") that is subject to the excise tax (the "Excise Tax") under Section 4999 of the Internal Revenue Code of 1986, as amended (the "Code"), the Company shall pay to the Executive, as soon thereafter as practicable, an additional amount (a "Gross-Up Payment") such that the net amount retained by the Executive, after deduction of any Excise Tax imposed upon the Payment and any federal, state and local income tax and Excise Tax imposed upon the Gross-Up Payment, shall be equal to the Payment. The determination of whether an Excise Tax is due in respect to any payment or benefit, the amount of the Excise Tax and the amount of the Gross-Up Payment shall be made by an independent auditor (the "Auditor") jointly selected by the Company and the Executive and paid by the Company. If the Executive and the Company cannot agree on the firm to serve as the Auditor, then the Executive and the Company shall each select one nationally recognized accounting firm and those two firms shall jointly select the nationally recognized accounting firm to serve as the Auditor. Notwithstanding the Payment, (i) any other payments or benefits received or to be received by the Executive in connection with a Change in Control or the 22 Executive's termination of employment (whether pursuant to the terms of this Agreement or any other plan, arrangement or agreement with the Company, any person whose actions result in a Change in Control or any person affiliated with the Company or such person) shall be treated as "parachute payments" within the meaning of Section 280G(b)(2) of the Code, and all "excess parachute payments" within the meaning of Section 280G of the Code shall be treated as subject to the Excise Tax, unless in the opinion of the tax counsel selected by the Auditor, such other payments or benefits (in whole or in part) do not constitute parachute payments, or are otherwise not subject to the Excise Tax, and (ii) the Executive shall be deemed to pay federal income tax at the highest marginal rate applicable in the calendar year in which the Gross-up Payment is made, and state and local income taxes at the highest marginal rate of Taxation in the state and locality of the Executive's residence on the Date of Termination, net of the maximum reduction in federal income taxes which could be obtained from deduction of such state and local taxes. In the event the actual Excise Tax or such income tax is more or less than the amount used to calculate the Gross-Up Payment, the Executive or the Company, as the case may be, shall pay to the other an amount reflecting the actual Excise Tax or such income tax. (f) Change in Control. For purposes of this Agreement, a "Change- in-Control" is defined to be: 23 (i) any person (as such term is used in Sections 13(d) and 14(d)(2) of the Securities Exchange Act of 1934) becoming the beneficial owner, directly or indirectly, of Company securities representing 20% or more of the combined voting power of the Company's then outstanding securities; or (ii) the majority of the Board consists of individuals other than Incumbent Directors, which term means the members of the Board as of the date of the Spin-Off and any other Director elected to the Board with the consent of the Executive, provided that any person becoming a director subsequent to such date whose election or nomination for election was supported by two-thirds of the directors who then comprised the Incumbent Directors shall be considered to be an Incumbent Director; or (iii) the Company's shareholders approve a merger (pursuant to which the Company is not the surviving entity), consolidation, sale or disposition of all or substantially all of the Company's assets or a plan of partial or complete liquidation; provided that in each case such action was not undertaken by the Board at the direction of the Executive as part of a unilateral, strategic restructuring unrelated to any third party efforts to effect a change in control of the Company. 13. Arbitration: In the event of any difference of opinion or dispute between the Executive and the Company with respect to the construction or interpretation of this Agreement or the alleged breach thereof, which cannot be settled amicably by agreement of the parties, then such dispute shall be submitted to and determined by 24 arbitration by a single arbiter in the city of New York, New York in accordance with the rules then in effect of the Commercial Arbitration Panel of the AMERICAN ARBITRATION ASSOCIATION, and judgment upon the award rendered shall be final, binding and conclusive upon the parties and may be entered in the highest court, state or federal, having jurisdiction. The costs of the arbitration shall be borne as determined by the arbitrator; provided, however, that if the Company's position is not substantially upheld, as determined by the arbitrator, the expenses of the Executive (including, without limitation, fees and expenses payable to the AAA and the arbitrator, fees and expenses payable to witnesses, including expert witnesses, fees and expenses payable to attorneys and other professionals, expenses of the Executive in attending the hearings, costs in connection with obtaining and presenting evidence and costs of the transcription of the proceedings), as determined by the arbitrator, shall be reimbursed to him by the Company. 14. Confidentiality: During the Employment Term, and except as otherwise required by law, the Executive shall not disclose or make accessible to any business, person or entity, or make use of (other than in the course of the business of the Company) any trade secrets, proprietary knowledge or confidential information, which he shall have obtained during his employment by the Company and which shall not be generally known to or recognized by the general public. All information regarding or relating to any aspect of either the Company's business, including but not limited to that relating to existing or contemplated business plans, activities or procedures, current or prospective clients, current or prospective contracts or other business arrangements, 25 or any other information acquired because of the Executive's employment by the Company, shall be conclusively presumed to be confidential; provided however, that Confidential Information shall not include any information known generally to the public (other than as a result of unauthorized disclosure by the Executive) or any specific information or type of information generally not considered information disclosed by the Company or any officer thereof to a third party without restrictions on the disclosure of such information. The Executive's obligations under this Section 14 shall be in addition to any other confidentiality or nondisclosure obligations of the Executive to the Company at law or under any other agreements. 15. Other Matters: (a) Entire Agreement: This Agreement constitutes the entire agreement between the Company and the Executive relating to the subject matter hereof, and supersedes any previous agreements, commitments and understandings, written or oral, with respect to the matters provided herein. As used in this Agreement, terms such as "herein," "hereof," "hereto" and similar language shall be construed to refer to this entire instrument and not merely the paragraph or sentence in which they appear, unless so limited by express language. (b) Assignment: Except as set forth below, this Agreement and the rights and obligations contained herein shall not be assignable or otherwise transferable by either party to this Agreement without the prior written consent of the other party to this Agreement. Notwithstanding the foregoing, any amounts owing to the Executive 26 upon his death shall inure to the benefit of his heirs, legatees, personal representatives, executor or administrator. (c) Notices: Any and all notices provided for under this Agreement shall be in writing and hand delivered or sent by first class registered or certified mail, postage prepaid, return receipt requested, addressed to the Executive at his residence or to the Company at its usual place of business, and all such notices shall be deemed effective at the time of delivery or at the time delivery is refused by the addressee upon presentation. (d) Amendment/Waiver: No provision of this Agreement may be amended, waived, modified, extended or discharged unless such amendment, waiver, extension or discharge is agreed to in writing signed by both the Company and the Executive. (e) Applicable Law: This Agreement and the rights and obligations of the parties hereunder shall be construed, interpreted, and enforced in accordance with the laws of the State of New York (applicable to contracts to be performed wholly within such State). (f) Severability: The Executive hereby expressly agrees that all of the covenants in this Agreement are reasonable and necessary in order to protect the Company and its business. If any provision or any part of any provision of this Agreement shall be invalid or unenforceable under applicable law, such part shall be ineffective only to the extent of such invalidity or unenforceability and shall not affect in any way the validity or enforceability of the remaining provisions of this Agreement, or the remaining parts of such provision. 27 (g) Successor of Interests: In the event the Company merges or consolidates with or into any other corporation or corporations, or sells or otherwise transfers substantially all of its assets to another corporation, the provisions of this Agreement shall be binding upon and inure to the benefit of the corporation surviving or resulting from the merger or consolidation or to which the assets are sold or transferred and, prior to the consummation of any such event, the Company shall obtain the express written assumption of this Agreement by the other corporation (other than in the case of a merger after which the Company is the surviving entity). All references herein to the Company refer with equal force and effect to any corporate or other successor of the corporation that acquires directly or indirectly by merger, consolidation, purchase or otherwise, all or substantially all of the assets of the Company. (h) No Mitigation: The Executive shall not be required to mitigate amounts payable pursuant to Section (12) hereof by seeking other employment or otherwise. 16. Condition Subsequent: This Agreement shall be null and void and of no effect if the Spin-off is not consummated on or before March 1, 1997. 17. Indemnification: The Company shall indemnify the Executive to the full extent permitted by law and the By-laws of the Company for all expenses, costs, liabilities and legal fees which the Executive may incur in the discharge of all his duties hereunder, including, without limitation, the right to be paid in advance by the Company for his expenses in defending a civil or criminal action, proceeding or investigation prior to the final disposition thereof. The Executive shall be insured under the Company's Directors' and Officers' Liability Insurance Policy as in effect 28 from time to time. Notwithstanding any other provision of this Agreement to the contrary, any termination of the Executive's employment or of this Agreement shall have no effect on the continuing operation of this Section (17). 18. Authority: The execution, delivery and performance of this Agreement has been duly authorized by the Company and this Agreement represents the valid, legal and binding obligation of the Company, enforceable against the Company according to its terms. IN WITNESS WHEREOF, the Company has caused this Agreement to be executed on its own behalf and has caused its corporate seal to be affixed, and the Executive has executed this Agreement on his own behalf intending to be legally bound, as of the date first written above. CORNING CLINICAL LABORATORIES By: ------------------------------ Van C. Campbell Chairman CLSI ATTEST: - --------------------- Secretary EXECUTIVE: ---------------------------------- Kenneth W. Freeman ANNEX A CCL Career Shares Vesting Schedule 1997 11,997 1998 22,766 1999 33,538 2000 44,310 2001 55,085 EX-21 7 SUBSIDIARIES OF THE REGISTRANT CORNING CLINICAL LABORATORIES INC. (DE) LIST OF SUBSIDIARIES CLMP Inc. (DE) Corning Clinical Laboratories Inc. (MI)1 Corning Clinical Laboratories of Pennsylvania Inc. (DE)2 Southgate Medical Services, Inc. (OH)1 DeYor CPF/MetPath Inc. (OH) Medical Management Systems Inc. (PA) Associated Clinical Laboratories L.P. (PA) Corning MRL Inc. (DE)3 Covance Inc.4 (DE) (and its subsidiaries) Damon Clinical Laboratories Inc. (MA) Corning Clinical Laboratories Inc. (CT)1 Corning Clinical Laboratories Inc. (MA)1 Damon Investment Holdings, Inc. (DE) DPD Holdings, Inc. (DE) MetWest Inc. (DE) Nichols Institute Diagnostics (CA) Nichols Institute Sales Corporation (U.S.V.I.) Nichols Institute Diagnostics Limited (U.K.) Nichols Institute Diagnostics Trading S.A. (Switzerland) Nichols Institute Diagnosticka GMBH (Germany) Nichols Institute International Holding B.V. (Netherlands) Nichols Institute Diagnostics B.V. (Netherlands) Nomad-Massachusetts Inc. (MA) Corning Laboratorios Clinicos, S.A. de C.V. (Mexico) Analisis, S.A. (Mexico) Laboratorios Clinicos de Mexico, S.A. de C.V. (Mexico) Servicios de Laboratorio, S.A. de C.V. (Mexico) Laboratorios de Frontera Polanco, S.A. de C.V. (Mexico) Laboratorios de Analisis Biomedicos, S.A. (Mexico) Quest Diagnostics Incorporated (CT)5 Quest Diagnostics Incorporated (DE)5 Quest Diagnostics Incorporated (MA)5 Quest Diagnostics Incorporated (MD)6 Corning Clinical Laboratories Inc. (MD)1 Diagnostic Reference Services Inc. (MD) Pathology Building Partnership (MD)7 Quest Diagnostics Incorporated (MI)6 Corning Nichols Institute Inc. (CA)8 Trans United Casualty and Indemnity Insurance Company - ------------- 1 Name will be changed to Quest Diagnostics Incorporated effective at 11:59 p.m. on December 31, 1996. 2 Name will be changed to Quest Diagnostics of Pennsylvania Incorporated effective at 11:59 p.m. on December 31, 1996. 3 Expected to be contributed to Corning Clinical Laboratorics Inc. in connection with the Distributions on or about December 31, 1996. Name will be changed to Quest MRL Inc. effective at 11:59 p.m. on December 31, 1996. 4 Formerly known as Corning Pharmaceutical Services Inc., will be spun off as an independent corporation in connection with the Distributions on or about December 31, 1996. 5 Formed recently as a name saving subsidiary, a certificate of merger effective December 31, 1996 has been filed with the State Secretary of State which will merge it into the Corning Clinical Laboratories Inc. that is also incorporated in the State. 6 Name will be changed to Quest Holdings Incorporated effective at 11:59 p.m. on December 31, 1996. 7 The other 50% partner of Pathology Building Partnership is Corning Clinical Laboratories Inc. (MD). 8 Expected to be contributed to Corning Clinical Laboratories Inc. (DE) which will then contribute it to Quest Diagnostics Incorporated (MI). Name will be changed to Quest Diagnostics Incorporated (CA) effective at 11:59 p.m. on December 31, 1996. EX-99.1 8 SELECTED PAGES OF INFORMATION STATEMENT TABLE OF CONTENTS
Page ------- THE RELATIONSHIP AMONG CORNING, QUEST DIAGNOSTICS AND COVANCE AFTER THE DISTRIBUTIONS 28 QUEST DIAGNOSTICS INCORPORATED RISK FACTORS 32 CAPITALIZATION OF QUEST DIAGNOSTICS 38 SELECTED HISTORICAL FINANCIAL DATA OF QUEST DIAGNOSTICS 39 PRO FORMA FINANCIAL INFORMATION OF QUEST DIAGNOSTICS 43 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF QUEST DIAGNOSTICS 50 BUSINESS OF QUEST DIAGNOSTICS 59 MANAGEMENT OF QUEST DIAGNOSTICS 82 SECURITY OWNERSHIP BY CERTAIN BENEFICIAL OWNERS AND MANAGEMENT OF QUEST DIAGNOSTICS 93 DESCRIPTION OF QUEST DIAGNOSTICS CAPITAL STOCK 94 ANTITAKEOVER EFFECTS OF CERTAIN PROVISIONS OF THE QUEST DIAGNOSTICS CERTIFICATE OF INCORPORATION AND BY-LAWS 100 DESCRIPTION OF CERTAIN INDEBTEDNESS OF QUEST DIAGNOSTICS 104 LIABILITY AND INDEMNIFICATION OF DIRECTORS AND OFFICERS OF QUEST DIAGNOSTICS 107 INDEX TO FINANCIAL STATEMENTS F-1
2 THE RELATIONSHIP AMONG CORNING, QUEST DIAGNOSTICS AND COVANCE AFTER THE DISTRIBUTIONS After the Distributions, Quest Diagnostics Incorporated ("Quest Diagnostics") and Covance Inc. ("Covance") will be independent public companies and Corning Incorporated ("Corning") will not have any ownership interest in either Quest Diagnostics or Covance other than shares of Quest Diagnostics' voting cumulative preferred stock. Corning, Quest Diagnostics and Covance will enter into certain agreements, summarized below, to provide for an orderly transition to the status of three separate independent companies, to govern their relationship subsequent to the Distributions and to provide for the allocation of tax and certain other liabilities and obligations arising from periods prior to the Distributions. Copies of the forms of such agreements have been filed as exhibits to the Registration Statements of which this Information Statement is a part. The following description summarizes the material terms of such agreements, but is qualified by reference to the texts of such agreements as filed. Transaction Agreement Corning, Quest Diagnostics and Covance will enter into the Transaction Agreement (the "Transaction Agreement") providing for, among other things, certain conditions precedent to the Distributions, certain corporate transactions required to effect the Distributions and other arrangements between Corning, Quest Diagnostics and Covance subsequent to the Distributions. See "The Distributions--Conditions; Termination." The Transaction Agreement will provide for, among other things, assumptions of liabilities and cross- indemnities designed to allocate generally, effective as of the Distribution Date, financial responsibility for the liabilities arising out of or in connection with (i) the clinical laboratory business to Quest Diagnostics and its subsidiaries, (ii) the contract research business to Covance and its subsidiaries and (iii) all other business conducted by Corning prior to the Distribution Date to Corning and its subsidiaries other than Quest Diagnostics and Covance. The Transaction Agreement will provide that Corning, Quest Diagnostics and Covance will use their respective commercially reasonable efforts to achieve an allocation of consolidated indebtedness of Corning and a capital structure that reflects the capital structure after the Distributions of Corning, Quest Diagnostics and Covance as contemplated in the discussion under "Capitalization of Quest Diagnostics" and "Capitalization of Covance." In addition to the specific indemnity described below, Corning, Quest Diagnostics and Covance are obligated under the Transaction Agreement to indemnify and hold harmless each other in respect of Indemnifiable Losses (as defined therein) arising out of or otherwise relating to the management or conduct of their respective businesses or the breach of any provision of the Transaction Agreement; provided, however, that Quest Diagnostics will have no obligation to indemnify or hold harmless Corning in respect of Indemnifiable Losses arising out of any governmental claims or investigations described in the next paragraph. As discussed under "Business of Quest Diagnostics--Government Investigations and Related Claims," Quest Diagnostics is subject to several governmental investigations. Any amounts paid by Quest Diagnostics to settle these investigations, or as a result of a judgment relating to these investigations, will be indemnified by Corning under the Transaction Agreement. Under the Transaction Agreement Corning will agree to indemnify Quest Diagnostics against all monetary penalties, fines or settlements arising out of any governmental criminal, civil or administrative investigations or claims that have been settled prior to or are pending as of the Distribution Date, pursuant to service of subpoena or other notice of such investigation to Quest Diagnostics, as well as any qui tam proceeding for which a complaint was filed prior to the Distribution Date whether or not Quest Diagnostics has been served with such complaint or otherwise been notified of the pendency of such action, to the extent that such investigations or claims arise out of or are related to alleged violations of federal fraud and health care statutes identified in the Transaction Agreement by reason of Quest Diagnostics or any company acquired by Quest Diagnostics billing any federal program or agency for services rendered to beneficiaries of such program or agency. Corning will also indemnify Quest Diagnostics for 50% of the aggregate of all judgment or settlement payments made by Quest Diagnostics that are in excess of $42.0 million in respect of claims by private parties (i.e., nongovernmental parties such as private insurers) that relate to indemnified or previously settled governmental claims and that allege overbillings by Quest Diagnostics or any existing subsidiaries of Quest Diagnostics for services provided prior to the Distribution Date; provided, however, such indemnification for private claims will terminate five years after the Distribution Date (whether or not settled) and will not exceed $25.0 million in the aggregate (reduced by certain tax benefits as described below). Quest Diagnostics' aggregate reserve with respect to all governmental and private claims, including litigation costs, was $215 million at September 30, 1996 and is estimated to be reduced to $85 million at the Distribution Date as a result of the payment of settled claims, primarily the Damon settlement of $119 million. 28 Corning will not indemnify Quest Diagnostics against any governmental claims that arise after the Distribution Date, even though relating to events prior to the Distribution Date, or to any private claims that do not relate to the indemnified or previously settled governmental claims or investigations or investigations that relate to post- Distribution Date billings. Corning will not indemnify Quest Diagnostics against consequential or incidental damages relating to the billing claims, including losses of revenues and profits as a consequence of any exclusion from participation in federal or state health care programs or the fees and expenses of the litigation, including attorneys' fees and expenses. All amounts indemnified against by Corning for the benefit of Quest Diagnostics will be calculated on a net after-tax basis by taking into account any deductions and other tax benefits realized by Quest Diagnostics (or a consolidated group of which Quest Diagnostics is a member after the Distributions (the "Quest Diagnostics Group")) in respect of the underlying settlement, judgment payment, or other loss (or portion thereof) indemnified against by Corning generally at the time and to the extent such deductions or tax benefits are deemed to reduce the tax liability of Quest Diagnostics or the Quest Diagnostics Group under the Transaction Agreement. The Transaction Agreement provides that, in the case of any claims for which Corning, Quest Diagnostics or Covance are entitled to indemnification, the indemnified party will control the defense of any claim unless the indemnifying party elects to assume such defense. However, in the case of all private claims related to indemnified governmental claims related to alleged overbillings, Quest Diagnostics will control the defense. Disputes under the Transaction Agreement are subject to binding arbitration. The Transaction Agreement will also provide that, except as otherwise set forth therein or in any other agreement, all costs or expenses incurred on or prior to the Distribution Date in connection with the Distributions will be allocated among the parties. Except as set forth in the Transaction Agreement or any related agreement, each party shall bear its own costs and expenses incurred after the Distribution Date. Spin-Off Tax Indemnification Agreements Corning and Quest Diagnostics will enter into a tax indemnification agreement (the "Corning/Quest Diagnostics Spin-Off Tax Indemnification Agreement") pursuant to which (1) Quest Diagnostics will represent to Corning that, to the best of its knowledge, the materials relating to Quest Diagnostics submitted to the Internal Revenue Service ("IRS") in connection with the request for ruling submitted to the IRS are complete and accurate in all material respects, (2) Quest Diagnostics will represent that it has no present intention to undertake the transactions described in part (3)(iii) hereafter or cease to engage in the active conduct of providing clinical laboratory testing services, (3) Quest Diagnostics will covenant and agree that for a period of two years following the Distribution Date (the "Restricted Period"), (i) Quest Diagnostics will continue to engage in the clinical laboratory testing business, (ii) Quest Diagnostics will continue to manage and own at least 50% of the assets which it owns directly and indirectly immediately after the Distribution Date and (iii) neither Quest Diagnostics, nor any related corporation nor any of their respective directors, officers or other representatives will undertake, authorize, approve, recommend, permit, facilitate, or enter into any contract, or consummate any transaction with respect to: (A) the issuance of Quest Diagnostics Common Stock (including options and other instruments convertible into Quest Diagnostics Common Stock) which would exceed fifty percent (50%) of the outstanding shares of Quest Diagnostics Common Stock immediately after the Distribution Date; (B) the issuance of any other instrument that would constitute equity for federal tax purposes ("Disqualified Quest Diagnostics Stock"); (C) the issuance of options and other instruments convertible into Disqualified Quest Diagnostics Stock; (D) any repurchases of Quest Diagnostics Common Stock, unless such repurchases satisfy certain requirements; (E) the dissolution, merger, or complete or partial liquidation of Quest Diagnostics or any announcement of such action; or (F) the waiver, amendment, termination or modification of any provision of the Quest Diagnostics Rights Plan (as defined therein) in connection with, or in order to permit or facilitate, any acquisition of Quest Diagnostics Common Stock or other equity interest in Quest Diagnostics, and (4) Quest Diagnostics will agree to indemnify Corning for Taxes (as defined below) arising from violations of (1), (2) or (3) above and for Taxes arising as a result of (A) an acquisition of 20% or more of the stock of Quest Diagnostics by a person or related persons during the Restricted Period or (B) the commencement of a tender or purchase offer by a third party for 20% or more of Quest Diagnostics stock. If obligations of Quest Diagnostics under this agreement were breached and as a result thereof one or both of the Distributions do not qualify for the treatment stated in the ruling Corning requested from the IRS (the "IRS Ruling"), Quest Diagnostics would be required to indemnify Corning for Taxes imposed and such indemnification obligations could exceed the net asset value of Quest Diagnostics at such time. Corning and Covance will enter into a tax indemnification agreement (the "Corning/Covance Spin-Off Tax Indemnification Agreement") pursuant to which (1) Covance will represent to Corning that to the best of its knowledge, 29 the materials relating to Covance submitted to the IRS in connection with the request for ruling submitted to the IRS are complete and accurate in all material respects, (2) Covance will represent that it has no present intention to undertake the transactions described in part (3)(iii) hereafter or to cease to engage in the active conduct of providing contract research services, (3) Covance will covenant and agree that during the Restricted Period, (i) Covance will continue to engage in the contract research business, (ii) Covance will continue to manage and own at least 50% of the assets which it owns directly and indirectly immediately after the Distribution Date and (iii) neither Covance, nor any related corporations nor any of their respective directors, officers or other representatives will undertake, authorize, approve, recommend, permit, facilitate, or enter into any contract, or consummate any transaction with respect to: (A) the issuance of Covance Common Stock (including options and other instruments convertible into Covance Common Stock) which would exceed fifty percent (50%) of the outstanding shares of Covance Common Stock immediately after the Distribution Date; (B) the issuance of any other instrument that would constitute equity for federal tax purposes ("Disqualified Covance Stock"); (C) the issuance of options and other instruments convertible into Disqualified Covance Stock; (D) any repurchases of Covance Common Stock, unless such repurchases satisfy certain requirements; (E) the dissolution, merger, or complete or partial liquidation of Covance or any announcement of such action; or (F) the waiver, amendment, termination or modification of any provision of the Covance Rights Plan (as defined therein) in connection with, or in order to permit or facilitate, any acquisition of Covance Common Stock or other equity interest in Covance and (4) Covance will agree to indemnify Corning for Taxes arising from violations of (1), (2) or (3) above and for Taxes arising as a result of (A) an acquisition of 20% or more of the stock of Covance by a person or related persons during the Restricted Period or (B) the commencement of a tender or purchase offer by a third party for 20% or more of Covance stock. If obligations of Covance under this agreement were breached and as a result thereof one or both of the Distributions do not qualify for the treatment stated in the IRS Ruling, Covance would be required to indemnify Corning for Taxes imposed and such indemnification obligations could exceed the net asset value of Covance at such time. Quest Diagnostics and Covance will enter into a tax indemnification agreement (the "Quest Diagnostics/ Covance Spin-Off Tax Indemnification Agreement") which will be essentially the same as the Corning/Covance Spin-Off Tax Indemnification Agreement except that Covance will make representations to and indemnify Quest Diagnostics as opposed to Corning. If obligations of Covance under this agreement were breached and as a result thereof one or both of the Distributions do not qualify for the treatment stated in the IRS Ruling, Covance would be required to indemnify Quest Diagnostics for Taxes imposed and such indemnification obligations could exceed the net asset value of Covance at such time. Quest Diagnostics and Covance will enter into a second tax indemnification agreement (the "Covance/Quest Diagnostics Spin-Off Tax Indemnification Agreement") which will be essentially the same as the Corning/Quest Diagnostics Spin-Off Tax Indemnification Agreement except that Quest Diagnostics will make representations to and indemnify Covance as opposed to Corning. If obligations of Quest Diagnostics under this agreement were breached and as a result thereof one or both of the Distributions do not qualify for the treatment stated in the IRS Ruling, Quest Diagnostics would be required to indemnify Covance for Taxes imposed and such indemnification obligations could exceed the net asset value of Quest Diagnostics at such time. The Spin-Off Tax Indemnification Agreements will also require (i) Quest Diagnostics to take such actions as Corning may reasonably request and (ii) Covance to take such actions as Corning and Quest Diagnostics may reasonably request to preserve the favorable tax treatment provided for in any rulings obtained from the IRS in respect of the Distributions. Tax Sharing Agreement Corning, Quest Diagnostics and Covance will enter into a tax sharing agreement (the "Tax Sharing Agreement") which will allocate responsibility for federal income and various other taxes ("Taxes") among the three companies. The Tax Sharing Agreement provides that, except for Taxes arising as a result of the failure of either or both of the Distributions to qualify for the treatment stated in the IRS Ruling (which Taxes are allocated either pursuant to the Spin-Off Tax Indemnification Agreements or as described below), Corning is liable for and will pay the federal income taxes of the consolidated group that includes Quest Diagnostics and Covance and their subsidiaries, provided, however, that Quest Diagnostics and Covance are required to reimburse Corning for taxes for periods beginning after December 31, 1995 in which they are members of the Corning consolidated group and for which tax returns have not been filed as of the Distribution Date. This reimbursement obligation is based on the hypothetical separate federal tax liability of Quest Diagnostics and Covance, including their respective subsidiaries, calculated on a separate consolidated basis, subject to certain adjustments. Under the Tax Sharing Agreement, in the case of adjustments by a taxing authority of a 30 consolidated federal income tax or certain other tax returns prepared by Corning which includes Quest Diagnostics or Covance, then, subject to certain exceptions, Corning is liable for and will pay any tax assessments, and is entitled to any tax refunds, resulting from such audit. The Tax Sharing Agreement further provides that, if either of the Distributions fails to qualify for the tax treatment stated in the IRS Ruling (for reasons other than those indemnified against under one or more of the Spin-Off Tax Indemnification Agreements), Taxes imposed upon or incurred by Corning, Quest Diagnostics or Covance as a result of such failure are to be allocated among Corning, Quest Diagnostics and Covance in such a manner as will take into account the extent to which the actions or inactions of each may have contributed to such failure, and Corning, Quest Diagnostics and Covance each will indemnify and hold harmless the other from and against the taxes so allocated. If it is determined that none of the companies contributed to the failure of such distribution to qualify for the tax treatment stated in the IRS Ruling, the liability for taxes will be borne by each in proportion to its relative average market capitalization as determined by the average closing price for the common stock of each during the 20 trading-day period immediately following the Distribution Date. In the event that either of the Distributions fails to qualify for the tax treatment stated in the IRS Ruling and the liability for taxes as a result of such failure is allocated among Corning, Quest Diagnostics and Covance, the liability so allocated to Quest Diagnostics or Covance could exceed the net asset value of Quest Diagnostics or Covance, respectively. Voting Cumulative Preferred Stock of Quest Diagnostics After the Distributions, Corning will retain 1,000 shares of Quest Diagnostics' voting cumulative preferred stock, with an aggregate liquidation preference of $1.0 million. Corning is the sole holder of such shares. For a description of the terms of the Quest Diagnostics voting cumulative preferred stock, see "Description of Quest Diagnostics Capital Stock--Voting Cumulative Preferred Stock." 31 QUEST DIAGNOSTICS INCORPORATED RISK FACTORS Corning shareholders should be aware that the Distributions and ownership of the Quest Diagnostics Common Stock involve certain risks, including those described below, which could adversely affect the value of their holdings. Neither Corning nor Quest Diagnostics makes, nor is any other person authorized to make, any representations as to the future market value of Quest Diagnostics Common Stock. Risks Relating to the Distributions Effects on Corning Stock. Following the Distributions, Corning Common Stock will continue to be listed and traded on the NYSE and certain other stock exchanges. As a result of the Distributions, the trading price of Corning Common Stock is expected to be lower than the trading price of Corning Common Stock immediately prior to the Distributions. There can be no assurance that the combined trading prices of Corning Common Stock, Quest Diagnostics Common Stock and Covance Common Stock after the Distributions will be equal to or greater than the trading price of Corning Common Stock prior to the Distributions. Risks Relating to Quest Diagnostics Financial Impact of the Distributions on Quest Diagnostics. While Quest Diagnostics has a substantial operating history, it has not operated as an independent company since 1982. As a Corning subsidiary, Quest Diagnostics' working capital requirements have been financed by Corning and Quest Diagnostics' major acquisitions have been financed through the issuance of Corning common stock and borrowings from Corning. Subsequent to the Distributions, Quest Diagnostics' activities will no longer be financed by Corning. In addition, it is anticipated that the rating of Quest Diagnostics' long-term debt will be non-investment grade. This may impact, among other things, Quest Diagnostics' ability to raise capital, fund working capital requirements or expand, through acquisitions or otherwise, and could thereby have an adverse effect on Quest Diagnostics' operating earnings and cash flow. Substantial Leverage and Debt Service Requirements. After the Distributions and as a result of the incurrence of debt under the Quest Diagnostics Credit Facility (as defined below) and the issuance of Notes (as defined below) in the Quest Diagnostics Notes Offering (as defined below), Quest Diagnostics will have substantial debt. At September 30, 1996, after giving effect to the transactions and adjustments described in "Pro Forma Financial Information of Quest Diagnostics," Quest Diagnostics would have had $517 million of total debt and total capitalization of $1,120 million, on a pro forma basis, and Quest Diagnostics' total debt as a percentage of total capitalization would have been approximately 46%. In addition to creating significant debt service obligations for Quest Diagnostics, the terms of the Quest Diagnostics Credit Facility will contain customary affirmative and negative covenants that will, among other things, require Quest Diagnostics to maintain certain financial tests and ratios and will restrict Quest Diagnostics' ability to make asset dispositions, incur additional indebtedness, make certain payments and investments, transact with affiliates or enter into mergers or consolidate. The Indenture will include similar, but less restrictive, incurrence tests. The degree to which Quest Diagnostics is leveraged could have important consequences to holders of Quest Diagnostics Common Stock, including the following: (1) Quest Diagnostics' ability to obtain additional financing in the future for working capital, capital expenditures, product development, acquisitions, general corporate purposes or other purposes may be impaired; (ii) a substantial portion of Quest Diagnostics' and its subsidiaries' cash flow from operations must be dedicated to the payment of the principal of and interest on its indebtedness; (iii) the Quest Diagnostics Credit Facility will contain certain restrictive financial and operating covenants, including, among others, requirements that Quest Diagnostics satisfy certain financial ratios; (iv) a significant portion of borrowings will be at floating rates of interest, causing Quest Diagnostics to be vulnerable to increases in interest rates; (v) Quest Diagnostics' degree of leverage may make it more vulnerable in a downturn in general economic conditions; and (vi) Quest Diagnostics' financial position may limit its flexibility in responding to changing business and economic conditions. In addition, the Notes will contain certain financial covenants. See "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics-- Liquidity and Capital Resources" and "Description of Certain Indebtedness of Quest Diagnostics." Intense Competition. The independent clinical laboratory industry in the United States is intensely competitive. Quest Diagnostics believes that in 1995 approximately 56% of the revenues of the clinical laboratory testing industry 32 was generated by hospital-affiliated laboratories, approximately 36% by independent clinical laboratories and 8% by thousands of individual physicians in their offices and laboratories. Independent clinical laboratories fall into two separate categories: (1) smaller, generally local, laboratories that generally offer fewer tests and services and have less capital than the larger laboratories, and (2) larger laboratories such as Quest Diagnostics that provide a broader range of tests and services. Quest Diagnostics has two major competitors that operate in the national market--SmithKline Beecham Clinical Laboratories, Inc. ("SmithKline") and Laboratory Corporation of America Holdings, Inc. ("LabCorp"). Both SmithKline and LabCorp are affiliated with larger corporations that have greater financial resources than Quest Diagnostics. There are also many independent clinical laboratories that operate regionally and that compete with Quest Diagnostics in these regions. In addition, hospitals are in general both competitors and customers of independent clinical laboratories. The independent clinical laboratory testing industry has experienced intense price competition over the past several years, which has negatively impacted Quest Diagnostics' profitability. The following factors, among others, are often used by health care providers in selecting a laboratory: (i) pricing of the laboratory's testing services; (ii) accuracy, timeliness and consistency in reporting test results; (iii) number and type of tests performed; (iv) service capability and convenience offered by the laboratory; and (v) its reputation in the medical community. See "Business of Quest Diagnostics--The Clinical Laboratory Testing Industry" and "Business of Quest Diagnostics--Competition." Role of Managed Care. Managed care organizations play a significant role in the health care industry and their role is expected to increase over the next several years. Managed care organizations typically negotiate capitated payment contracts, whereby a clinical laboratory receives a fixed monthly fee per covered individual, regardless of the number or cost of tests performed during the month (excluding certain tests, such as esoteric tests and anatomic pathology services). Laboratory services agreements with managed care organizations have historically been priced aggressively due to competitive pressure and the expectation that a laboratory would capture not only the volume of testing to be covered under the contract, but also the additional fee-for-service business from patients of participating physicians who are not covered under the managed care plan. However, as the number of patients covered under managed care plans continues to increase, there is less such fee-for-service business and, accordingly, less high margin business to offset the low margin (and often unprofitable) managed care business. Furthermore, increasingly, physicians are affiliated with more than one managed care organization and as a result may be required to refer clinical laboratory tests to different clinical laboratories, depending on the coverage of their patients. As a result, a clinical laboratory might not receive any fee-for-service testing from such physicians. See "Business of Quest Diagnostics--Customers and Payors" and "Business of Quest Diagnostics--Effect of the Growth of the Managed Care Sector on the Clinical Laboratory Business." During the nine months ended September 30, 1996, services to managed care organizations under capitated rate agreements accounted for approximately 6% of Quest Diagnostics' net revenues from clinical laboratory testing and approximately 15% of the tests performed by Quest Diagnostics. Quest Diagnostics is currently reviewing its pricing structures for agreements with managed care organizations and intends to insure that all of its future agreements with managed care organizations are profitably priced. However, there can be no assurance that Quest Diagnostics will be able to increase the prices charged to managed care organizations or that Quest Diagnostics will not lose market share in the managed care market to other clinical laboratories who continue to aggressively price laboratory services agreements with managed care organizations. Quest Diagnostics may experience declines in per-test revenue as managed care organizations continue to increase their share of the health care insurance market. Reliance on Medicare/Medicaid Reimbursements. Approximately 23% and 22% of Quest Diagnostics' net revenues for the year ended December 31, 1995 and the nine months ended September 30, 1996, respectively, were attributable to tests performed for Medicare and Medicaid beneficiaries. Quest Diagnostics' business and financial results depend substantially on reimbursements paid to Quest Diagnostics under these programs. Quest Diagnostics is legally required to accept the government's reimbursement for most Medicare and Medicaid testing as payment in full. Such reimbursements are generally made pursuant to fee schedules, which are subject to certain limitations the levels of which have declined steadily since late 1984. Congress enacted a phased-in set of reductions in the reimbursement limitations as part of its 1993 budget legislation that reduced the Medicare national limitations in 1994 to 84% of the 1984 national median, in 1995 to 80% of the 1984 national median and in 1996 to 76% of the 1984 national median. In 1995, both houses of Congress passed a bill (the Medicare Preservation Act) that would have reduced the fee cap schedule from 75% to 65% of the 1984 national median, but the bill was vetoed by the President. Effective January 1, 1996, the Health Care Financing Administration ("HCFA") adopted a new policy on reimbursement for chemistry panel tests. As of January 1, 1996, 22 automated tests (rather than 19 tests) became reimbursable by Medicare as part of an automated chemistry profile. An additional allowance of $0.50 per test is 33 authorized when more than 19 tests are billed in a panel. HCFA retains the authority to expand in the future the list of tests included in a panel. Effective as of March 1, 1996, HCFA eliminated its prior policy of permitting payment for all tests contained in an automated chemistry panel when at least one of the tests in the panel is medically necessary. Under the new policy, Medicare payment will not exceed the amount that would be payable if only the tests that are "medically necessary" had been ordered. In addition, since 1995 most Medicare carriers have begun to require clinical laboratories to submit documentation supporting the medical necessity, as judged by ordering physicians, for many commonly ordered tests. Quest Diagnostics expects to incur additional reimbursement reductions and additional costs associated with the implementation of these requirements of HCFA and Medicare carriers. The amount of the reductions in reimbursements and additional costs cannot be determined at this time. These and other proposed changes affecting the reimbursement policy of Medicare and Medicaid programs could have a material adverse effect on the business, financial condition, results of operations or prospects of Quest Diagnostics. See "Business of Quest Diagnostics--Regulation and Reimbursement--Regulation of Reimbursement for Clinical Laboratory Services." A failure of Quest Diagnostics to properly and promptly process its bills to Medicare may result in an increase in Quest Diagnostics' bad debt expense. See "Business of Quest Diagnostics-- Billing" and "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics--Results of Operations." Government Regulation. The clinical laboratory industry is subject to extensive governmental regulations at the federal, state and local levels. See "Business of Quest Diagnostics--Regulation and Reimbursement." At the federal level, Quest Diagnostics' laboratories are required to be certified under the Clinical Laboratory Improvement Amendments of 1988 ("CLIA") and approved to participate in the Medicare/Medicaid programs. Currently, all clinical laboratories, including most physician-office laboratories ("POLs"), are required to comply with CLIA. However, the Medicare Preservation Act, passed in 1995 by both Houses of Congress, would have largely exempted POLs from having to comply with CLIA (except with respect to pap smear tests). Although this provision was not maintained by the House-Senate conference and was not included in the subsequent legislation, it could be reintroduced at any time. The exemption of POLs from CLIA would significantly reduce their costs, making them more financially viable and a greater competitive challenge to Quest Diagnostics and would more likely encourage physicians to establish laboratories in their offices. A wide array of Medicare/Medicaid fraud and abuse provisions apply to clinical laboratories participating in such programs. Penalties for violations of these federal laws include exclusion from participation in the Medicare/ Medicaid programs, asset forfeitures, civil and criminal penalties. Civil penalties for a wide range of offenses may be up to $2,000 per item and twice the amount claimed. These penalties will be increased effective January 1, 1997 to up to $10,000 per item plus three times the amount claimed. In the case of certain offenses, exclusion from participation in Medicare and Medicaid is a mandatory administrative penalty. The Office of the Inspector General ("OIG") of the Department of Health and Human Services ("HHS") interprets these fraud and abuse administrative provisions liberally and enforces them aggressively. Provisions in a bill enacted in August 1996 are likely to expand the federal government's involvement in curtailing fraud and abuse due to the establishment of (i) an anti-fraud and abuse trust fund funded through the collection of penalties and fines for violations of such laws and (ii) a health care anti-fraud and abuse task force. See "Business of Quest Diagnostics--Regulation and Reimbursement." Government Investigations and Related Claims. As discussed under "Business of Quest Diagnostics-- Government Investigations and Related Claims," Quest Diagnostics has settled various government and private claims (i.e., nongovernmental claims such as those by private insurers) totalling approximately $195 million relating primarily to industry-wide billing and marketing practices that had been substantially discontinued by late 1992. Specifically, Quest Diagnostics has entered into, (i) for an aggregate of approximately $180 million, five settlements with the OIG and the DOJ and two settlements with state governments with respect to Medicare and Medicaid marketing and billing practices of Quest Diagnostics and certain companies acquired by Quest Diagnostics prior to their acquisition and (ii) thirteen settlements relating to private claims totalling approximately $15 million. In addition, there are pending investigations by the OIG and DOJ into billing and marketing practices at three regional laboratories operated by Nichols prior to its acquisition by Quest Diagnostics. There are no private claims presently pending. By issuance of civil subpoenas in August 1993, the government began a formal investigation of Nichols. The investigation of Nichols remains open. Remedies available to the government include exclusion from participation in the Medicare and Medicaid programs, criminal fines, civil recoveries plus civil penalties and asset forfeitures. Although application of such remedies and penalties could materially and adversely affect Quest Diagnostics' business, financial condition, results of operations and prospects management believes that the 34 possibility of this happening is remote. Quest Diagnostics derived approximately 23% and 22% of its net revenues for the year ended December 31, 1995 and the nine months ended September 30, 1996, respectively, from Medicare and Medicaid programs. In connection with the Distributions, Corning will agree to indemnify Quest Diagnostics against all monetary penalties, fines or settlements for any governmental claims arising out of alleged violations of certain federal fraud and health care statutes and relating to billing practices of Quest Diagnostics and its predecessors that have been settled or are pending on the Distribution Date. Corning will also agree to indemnify Quest Diagnostics for 50% of the aggregate of all judgment or settlement payments made by Quest Diagnostics that are in excess of $42.0 million in respect of claims by private parties (i.e., nongovernmental parties such as private insurers) that relate to indemnified or previously settled governmental claims and that allege overbillings by Quest Diagnostics or any existing subsidiaries of Quest Diagnostics, for services provided prior to the Distribution Date; provided, however, such indemnification will not exceed $25.0 million in the aggregate and all amounts indemnified against by Corning for the benefit of Quest Diagnostics will be calculated on a net after-tax basis. However, such indemnification will not cover (i) any governmental claims that arise after the Distribution Date pursuant to service of subpoena or other notice of such investigation after the Distribution Date, (ii) any nongovernmental claims unrelated to the indemnified governmental claims or investigations, (iii) any nongovernmental claims not settled prior to five years after the Distribution Date, (iv) any consequential or incidental damages relating to the billing claims, including losses of revenues and profits as a consequence of exclusion for participation in federal or state health care programs or (v) the fees and expenses of litigation. Quest Diagnostics will control the defense of any governmental claim or investigation unless Corning elects to assume such defense. However, in the case of all nongovernmental claims related to indemnified governmental claims related to alleged overbillings, Quest Diagnostics will control the defense. All disputes under the Transaction Agreement are subject to binding arbitration. See "The Relationship Among Corning, Quest Diagnostics and Covance After the Distributions--Transaction Agreement." Quest Diagnostics' aggregate reserve with respect to all governmental and private claims, including litigation costs of approximately $6.6 million, was $215 million at September 30, 1996 and is estimated to be reduced to $85 million as of the Distribution Date as a result of the payment of settled claims, primarily the Damon settlement of $119 million. Based on information available to management and Quest Diagnostics' experience with past settlements (including the fact that the aggregate amount of the Damon settlement was significantly in excess of established reserves) management has reassessed its reserve levels and believes that its current level of reserves is adequate. However, it is possible that additional information (such as the indication by the government of criminal activity, additional tests being questioned or other changes in the government's theories of wrongdoing) may become available which may cause the final resolution of these matters to be in excess of established reserves by an amount which could be material to Quest Diagnostics' results of operation and, for non-indemnified claims, Quest Diagnostics' cash flows in the period in which such claims are settled. While none of the governmental or nongovernmental investigations or claims is covered by insurance Quest Diagnostics does not believe that these matters will have a material adverse effect on Quest Diagnostic's overall financial condition. Recent Losses. Quest Diagnostics incurred net losses of $52 million for the year ended December 31, 1995 and $158.9 million for the nine months ended September 30, 1996. The 1995 net loss includes the provision of $33 million for restructuring charges (primarily relating to workforce reduction programs and the cost of exiting a number of leased facilities) and $17.6 million of special charges related to settlements of governmental billing claims. The net loss for the 1996 period reflects the provision of $188 million for additional reserves primarily relating to the investigation of pre-acquisition billing practices of Damon Corporation and Nichols Institute and $13.7 million to write off capitalized software as a result of its decision to abandon the billing system which had been intended as a new company-wide billing system. See "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics." There can be no assurance that Quest Diagnostics' operations will be profitable in the future. Billing. Quest Diagnostics' billings have been hampered by both the industry-wide phenomenon of frequently missing or incorrect billing information and increasingly stringent payor requirements, as well as the existence of multiple billing information systems which have resulted in large part from Quest Diagnostics' growth through acquisitions. Quest Diagnostics' standard billing system has been implemented in seven of its 22 billing sites, which seven sites account for 35% of Quest Diagnostic's net revenues. Quest Diagnostics is beginning to convert the remaining non-standard billing systems to the standard SYS system. See "Business of Quest Diagnostics--Information Systems" and "Business of Quest Diagnostics--Billing." Standardizing its billing systems presents conversion risk to Quest Diagnostics as key databases 35 and masterfiles are transferred to the SYS system and because the billing workflow is interrupted during the conversion, which may cause backlogs. Professional Liability Litigation. As a general matter, providers of clinical laboratory testing services may be subject to lawsuits alleging negligence or other similar legal claims, which suits could involve claims for substantial damages. Damages assessed in connection with, and the costs of defending any such actions could be substantial. Litigation could also have an adverse impact on Quest Diagnostics' client base. Quest Diagnostics maintains liability insurance (subject to maximum limits and self-insured retentions) for professional liability claims. This insurance does not cover liability for any of the investigations described under "--Government Investigations and Related Claims" and "Business of Quest Diagnostics--Government Investigations and Related Claims." While there can be no assurance, Quest Diagnostics management believes that the levels of coverage are adequate to cover currently estimated exposures. Although Quest Diagnostics believes that it will be able to obtain adequate insurance coverage in the future at acceptable costs, there can be no assurance that Quest Diagnostics will be able to obtain such coverage or will be able to do so at an acceptable cost or that Quest Diagnostics will not incur significant liabilities in excess of policy limits. Absence of Dividends; Restrictions on Dividends Imposed by the Quest Diagnostics Credit Facility and the Indenture. It is currently contemplated that, following the Distributions, Quest Diagnostics will not pay cash dividends on the Quest Diagnostics Common Stock in the foreseeable future, but will retain earnings to provide funds for the operation and expansion of its business. In addition, the Quest Diagnostics Credit Facility prohibits Quest Diagnostics from paying cash dividends on the Quest Diagnostics Common Stock. Further, the Indenture under which the Notes will be issued will restrict Quest Diagnostics' ability to pay cash dividends based on a percentage of Quest Diagnostics' cash flow. See "Description of Certain Indebtedness of Quest Diagnostics" and "Description of Quest Diagnostics Capital Stock." Potential Liability under the Spin-Off Tax Indemnification Agreements. Quest Diagnostics will enter into the Corning/Quest Diagnostics Spin-Off Tax Indemnification Agreement that will prohibit Quest Diagnostics for a period of two years after the Distribution Date from taking certain actions, including a sale of 50% or more of the assets of Quest Diagnostics or engaging in certain equity or financing transactions, that might jeopardize the favorable tax treatment of the Distributions under Code section 355 and will provide Corning with certain rights of indemnification against Quest Diagnostics. Quest Diagnostics may also have indemnification obligations under the Spin-Off Tax Indemnification Agreements in the case of the acquisition of, or tender or purchase offer by another person for, 20% or more of the outstanding Quest Diagnostics Common Stock. The Corning/Quest Diagnostics Spin- Off Tax Indemnification Agreement will also require Quest Diagnostics to take such actions as Corning may reasonably request to preserve the favorable tax treatment provided for in any rulings obtained from the IRS in respect of the Distributions. Quest Diagnostics and Covance will enter into the Covance/Quest Diagnostics Spin-Off Tax Indemnification Agreement, that will be essentially the same as the Corning/Quest Diagnostics Spin-Off Tax Indemnification except that Quest Diagnostics will make representations to and indemnify Covance as opposed to Corning. If obligations of Quest Diagnostics under either agreement were breached and primarily as a result thereof the Distributions do not receive favorable tax treatment under Code section 355, Quest Diagnostics would be required to indemnify Corning or Covance, as the case may be, for Taxes imposed and such indemnification obligations could exceed the net asset value of Quest Diagnostics at such time. See "The Relationship Among Corning, Quest Diagnostics and Covance After the Distributions--Spin-Off Tax Indemnification Agreements." Absence of a Prior Public Market. Prior to the Distributions, there has been no public market for the Quest Diagnostics Common Stock. Although it is expected that the Quest Diagnostics Common Stock will be approved for listing on the NYSE, there is no existing market for the Quest Diagnostics Common Stock and there can be no assurance as to the liquidity of any markets that may develop, the ability of Quest Diagnostics stockholders to sell their shares of Quest Diagnostics Common Stock or at what price Quest Diagnostics stockholders will be able to sell their shares of Quest Diagnostics Common Stock. Future trading prices will depend on many factors including, among other things, prevailing interest rates, Quest Diagnostics' operating results and the market for similar securities. Potential Volatility of Stock Price. The market price of Quest Diagnostics Common Stock could be subject to wide fluctuations in response to seasonal variations in operating results, changes in earnings estimates by analysts, market conditions in the clinical laboratory industry, prospects for health care reform, changes in government regulation and general economic conditions. In addition, the stock market has from time to time experienced 36 significant price and volume fluctuations that have been unrelated to the operating performance of particular companies. Moreover, Quest Diagnostics Common Stock could be subject to wide fluctuations for some time after the Distributions as a result of heavy trading volume stemming from sales by shareholders of Corning Common Stock who decide not to continue owning Quest Diagnostics Common Stock. Certain of such sales may include those to be made on behalf of investment plans maintained for the benefit of Corning employees. These plans currently hold slightly less than 5% of the outstanding Corning Common Stock and, as a result of the Distributions, are expected to hold a similar percentage of the Quest Diagnostics Common Stock. From time to time as market conditions warrant, and as the administrator of the plans believes to be in the best interests of the employee beneficiaries, the administrator will sell all of the Quest Diagnostics Common Stock held by the plans. Such sales are expected to occur within a period of three years after the Distribution Date. See "Security Ownership by Certain Beneficial Owners and Management of Quest Diagnostics." These market fluctuations could have an adverse effect on the market price of Quest Diagnostics Common Stock. Quest Diagnostics stockholders should be aware, and must be willing to bear the risk, of such fluctuations in earnings and stock price. Dependence on Key Employees. Quest Diagnostics' affairs are managed by a small number of key management personnel, the loss of any of whom could have an adverse impact on Quest Diagnostics. There can be no assurance that Quest Diagnostics can retain its key managerial and technical employees or that it can attract, assimilate or retain other skilled technical personnel in the future. See "Business of Quest Diagnostics--Recent Organizational Changes" and "Management of Quest Diagnostics." Certain Antitakeover Effects. Quest Diagnostics' amended and restated certificate of incorporation (the "Quest Diagnostics Certificate") and by-laws (the "Quest Diagnostics By-Laws"), and the Delaware General Corporation Law ("DGCL"), contain several provisions that could have the effect of delaying, deferring or preventing a change in control of Quest Diagnostics in a transaction not approved by the board of directors of Quest Diagnostics (the "Quest Diagnostics Board"), or, in certain circumstances, by the disinterested members of the Quest Diagnostics Board. In addition, an acquisition of certain securities or assets of Quest Diagnostics within two years after the Distribution Date might jeopardize the tax treatment of the Distributions and could result in Quest Diagnostics being required to indemnify Corning and Covance. See "--Potential Liability under the Spin-Off Tax Indemnification Agreements" and "Antitakeover Effects of Certain Provisions of the Quest Diagnostics Certificate of Incorporation and By-Laws." 37 CAPITALIZATION OF QUEST DIAGNOSTICS The following table sets forth Quest Diagnostics' capitalization as of September 30, 1996 giving effect to (i) the consummation of the Quest Diagnostics Notes Offering and the estimated initial borrowings under the Quest Diagnostics Credit Facility, (ii) the Distributions and (iii) the Quest Diagnostics Accounting Policy Change (as defined below), as if such transactions occurred on such date. This table should be read in conjunction with the Quest Diagnostics Financial Statements and notes thereto and the Quest Diagnostics Pro Forma Financial Information (as defined below) and notes thereto included elsewhere herein. Historical combined and pro forma combined financial information may not be indicative of Quest Diagnostics' future capitalization as an independent company. See "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics" and "Business of Quest Diagnostics."
Pro Forma Historical Adjustments Pro Forma ---------- ------------ ------------- (in thousands) Cash $ 48,319 $ (8,319)(a) $ 40,000 ========== ======== ========= Short-term Debt: Current portion of long-term debt $ 11,885 $ (10,000)(b) $ 1,885(h) Revolving credit facility (c) ---------- -------- --------- Total Short-term Debt $ 11,885 $ (10,000) $ 1,885 ========== ======== ========= Long-term Debt: Term loans $ 15,494 $ 350,000 (b) $ 365,494(h) Notes 150,000 (b) 150,000 Payable to Corning 1,204,406 (8,319)(a) (447,669)(b) (748,418)(d) ---------- --------- --------- Total Long-term Debt 1,219,900 (704,406) 515,494 ---------- --------- --------- Stockholder's Equity: Contributed capital 297,823 748,418 (d) 11,250 (e) 150,000 (f) 1,207,491 Accumulated deficit (163,158) (13,239)(e) (425,000)(g) (601,397) Cumulative translation adjustment. 1,801 1,801 Market valuation adjustment (3,796) (3,796) ---------- --------- --------- Total Stockholder's Equity 132,670 471,429 604,099 ---------- --------- --------- Total Capitalization $1,352,570 $ (232,977) $1,119,593 ========== ========= =========
(a) Historically, Quest Diagnostics has participated in Corning's centralized treasury and cash management processes. Cash received from operations was generally transferred to Corning on a daily basis. Cash disbursements for operations and investments were funded as needed from Corning. The cash balance at the Distribution Date will range from $30 million to $40 million. The pro forma adjustment to cash and payable to Corning represents the reduction to bring cash to the Distribution Date range. (b) The pro forma adjustment to current portion of long-term debt, term loans, Notes, and payable to Corning reflects borrowings by Quest Diagnostics, immediately prior to the Quest Diagnostics Spin-Off Distribution, to repay Corning for certain income tax liabilities and intercompany borrowings. The assumed interest rates on these borrowings are 7.50% and 11.50% for the Quest Diagnostics Credit Facility and the Notes, respectively. (c) The Quest Diagnostics Credit Facility will include a revolving credit facility of $100 million which can be used to fund working capital and investment activities. Quest Diagnostics management believes that the entire revolving credit facility will be available at the Distribution Date. (d) The pro forma adjustment to payable to Corning and contributed capital of $748.4 million reflects Corning's capital contribution to Quest Diagnostics of the estimated remaining intercompany borrowings. (e) The pro forma adjustment to contributed capital and accumulated deficit represents costs directly related to the Quest Diagnostics Spin-Off Distribution that Quest Diagnostics expects to record coincident with the Quest Diagnostics Spin-Off Distribution. These costs, which are estimated at $20.2 million ($13.2 million after tax), include approximately $9.0 million related to professional advisory and financing commitment fees and $11.2 million related to the establishment of an employee stock ownership plan. This amount is subject to change based on the market price of the Quest Diagnostics Common Stock on the Distribution Date. (f) The pro forma adjustment to contributed capital represents the estimated capital contribution related to Corning's indemnification under the Transaction Agreement. See "The Relationship Among Corning, Quest Diagnostics and Covance After the Distributions--Transaction Agreement." As a result of funding settled claims, primarily the Damon settlement of $119 million, the receivable from Corning is estimated to approximate $25 million at the Distribution Date. (g) Coincident with the Quest Diagnostics Spin-Off Distribution, Quest Diagnostics will adopt a new accounting policy for evaluating and measuring the recoverability of intangible assets based on a fair value approach (the "Quest Diagnostics Accounting Policy Change"). The pro forma adjustment to accumulated deficit represents the estimated impact of the Quest Diagnostics Accounting Policy Change. Quest Diagnostics management estimates the charge to reduce the carrying value of intangible assets to fair value will be in the range of $400 million to $450 million. The midpoint of the range has been utilized for the preparation of the Unaudited Pro Forma Combined Balance Sheet. (h) The current portion of long-term debt and the term loans, exclusive of the pro forma adjustment, consists primarily of a mortgage note payable and capital lease obligations. 38 SELECTED HISTORICAL FINANCIAL DATA OF QUEST DIAGNOSTICS The following table presents selected historical financial data of Quest Diagnostics at the dates and for each of the periods indicated. The selected financial data as of and for each of the years ended December 31, 1995, 1994 and 1993 have been derived from the audited combined financial statements of Quest Diagnostics (the "Audited Quest Diagnostics Financial Statements") and the notes thereto included elsewhere herein. The selected financial data as of and for the three and nine months ended September 30, 1996 and 1995 (the "Quest Diagnostics Interim Financial Statements" and, together with the Audited Quest Diagnostics Financial Statements, the "Quest Diagnostics Financial Statements") and the years ended December 31, 1992 and 1991 have been derived from the unaudited combined financial statements of Quest Diagnostics. In the opinion of management, the unaudited combined financial statements include all adjustments, consisting only of normal recurring adjustments, that are necessary for a fair presentation of the financial position and results of operations for these periods. The unaudited interim results of operations for the three and nine months ended September 30, 1996 are not necessarily indicative of the results for the entire year ending December 31, 1996. The selected financial data should be read in conjunction with the Quest Diagnostics Financial Statements and notes thereto, and the Quest Diagnostics Pro Forma Financial Information and notes thereto included elsewhere herein. Historical combined financial data may not be indicative of Quest Diagnostics' future performance as an independent company. See the Quest Diagnostics Financial Statements and notes thereto and Quest Diagnostics Pro Forma Financial Information. See also "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics" and "Business of Quest Diagnostics." 39
Three Months Ended Nine Months Ended September 30, September 30, ---------------------------- ----------------------------- 1996 1995 1996 1995 ------------- ----------- ------------ ------------- (in thousands, except percentage data) Statement of Operations Data: Net revenues $ 405,352 $ 399,959 $1,231,290 $1,239,474 Costs and expenses: Cost of services 255,390 240,868 768,809 735,984 Selling, general and administrative 125,190 181,346(b) 371,439 399,635(b) Provision for restructuring and other special charges(c) 155,730 201,730 45,885 Interest expense, net 19,866 20,927 59,887 61,529 Amortization of intangible assets 10,328 11,293 31,772 33,678 Other, net 1,837 1,930 (198) 4,429 -------- -------- -------- -------- Total 568,341 456,364 1,433,439 1,281,140 -------- -------- -------- -------- Income (loss) before taxes (162,989) (56,405) (202,149) (41,666) Income tax expense (benefit) (43,553) (17,810) (43,280) (3,642) -------- -------- -------- -------- Income (loss) before cumulative effect of change in accounting principle (119,436) (38,595) (158,869) (38,024) Cumulative effect of change in accounting principle -------- -------- -------- -------- Net income (loss) $ (119,436) $ (38,595) $ (158,869) $ (38,024) ======== ======== ======== ======== Balance Sheet Data (at end of period): Cash $ 48,319 $ 46,908 $ 48,319 $ 46,908 Working capital 114,718 129,319 114,718 129,319 Total assets 1,886,378 1,896,058 1,886,378 1,896,058 Long-term debt 1,219,900 1,114,367 1,219,900 1,114,367 Total debt 1,231,785 1,226,211 1,231,785 1,226,211 Stockholder's equity 132,670 320,576 132,670 320,576 Ratio of earnings to fixed charges -- (d) -- (d) -- (d) -- (d) Supplemental Data: Net cash provided by operating activities $ 25,236 $ 38,202 $ 41,937 $ 53,789 Net cash used in investing activities (7,904) (17,044) (53,097) (77,911) Net cash provided by (used in) financing activities (6,618) (18,006) 23,033 32,311 EBITDA(e) $ (118,123)(f) $ (9,910)(b) $ (67,030)(f) $ 95,899(b) EBITDA as a % of net revenues (29.1)% (2.5)% (5.4)% 7.7% Adjusted EBITDA(g) $ 37,607 $ (9,910)(b) $ 134,700 $ 141,784(b) Adjusted EBITDA as a % of net revenues 9.3% (2.5)% 10.9% 11.4%
(Footnotes on page 42) 40
Year Ended December 31, ----------------------------------------------------------------------- 1995 1994(a) 1993 1992 1991 ----------- ----------- ----------- ----------- -------- (in thousands, except percentage data) Statement of Operations Data: Net revenues $1,629,388 $1,633,699 $1,416,338 $1,228,964 $941,116 Costs and expenses: Cost of services 980,232 969,844 805,729 657,354 553,810 Selling, general and administrative 523,271(b) 411,939 363,579 334,665 193,934 Provision for restructuring and other special charges(c) 50,560 79,814 99,600 13,000 Interest expense, net 82,016 63,295 41,898 31,775 14,205 Amortization of intangible assets 44,656 42,588 28,421 21,359 16,556 Other, net 6,221 3,464 6,423 16,300 6,636 --------- --------- --------- --------- ------- Total 1,686,956 1,570,944 1,345,650 1,074,453 785,141 --------- --------- --------- --------- ------- Income (loss) before taxes (57,568) 62,755 70,688 154,511 155,975 Income tax expense (benefit) (5,516) 34,410 25,929 52,115 52,128 --------- --------- --------- --------- ------- Income (loss) before cumulative effect of change in accounting principle (52,052) 28,345 44,759 102,396 103,847 Cumulative effect of change in accounting principle (10,562) --------- --------- --------- --------- ------- Net income (loss) $ (52,052) $ 28,345 $ 34,197 $ 102,396 $103,847 ========= ========= ========= ========= ======= Balance Sheet Data (at end of period): Cash $ 36,446 $ 38,719 $ 39,410 $ 20,528 $ 24,068 Working capital 200,740 214,358 139,771 161,759 126,406 Total assets 1,853,385 1,882,663 1,861,162 1,024,806 764,087 Long-term debt 1,195,566 1,153,054 1,025,787 431,624 270,682 Total debt 1,207,714 1,165,626 1,123,307 474,175 287,973 Stockholder's equity 295,801 386,812 395,509 408,149 291,973 Ratio of earnings to fixed charges -- (d) 1.77(d) 2.20(d) 4.44(d) 5.83(d) Supplemental Data: Net cash provided by operating activities $ 85,828 $ 37,963 $ 99,614 $ 101,077 $ -- (h) Net cash used in investing activities (93,087) (46,186) (473,687) (203,884) -- (h) Net cash provided by (used in)financing activities 4,986 7,532 392,956 99,267 -- (h) EBITDA (e) $ 125,961(b) $ 215,567 $ 179,065 $ 242,527 $213,593 EBITDA as a % of net revenues 7.7% 13.2% 12.6% 19.7% 22.7% Adjusted EBITDA(g) $ 176,521(b) $ 295,381 $ 278,665 $ 255,527 $213,593 Adjusted EBITDA as a % of net revenues 10.8% 18.1% 19.7% 20.8% 22.7%
(Footnotes on page 42) 41 (Footnotes for preceding pages) (a) In August 1993, Quest Diagnostics acquired Damon, a national clinical-testing laboratory with approximately $280 million in annualized revenues, excluding Damon's California-based laboratories, which were sold in April 1994. In November 1993, Quest Diagnostics acquired certain clinical-testing laboratories of Unilab Corporation ("Unilab"), with approximately $90 million in annualized revenues. The Damon and Unilab acquisitions were accounted for as purchases. Quest Diagnostics acquired Maryland Medical Laboratory, Inc. ("MML"), Nichols and Bioran Medical Laboratory ("Bioran") in June, August and October 1994, respectively, and accounted for these acquisitions as poolings of interest. Results presented include the results of Quest Diagnostics, MML, Nichols and Bioran on a pooled basis. The increase in 1994 net revenues compared to 1993 net revenues was primarily due to the Damon and Unilab acquisitions. (b) Includes a third quarter 1995 charge of $62.0 million to increase the reserve for doubtful accounts and allowances resulting from billing systems implementation and integration problems at certain laboratories and increased regulatory requirements. (c) Provision for restructuring and other special charges includes charges for restructurings primarily for work force reduction programs, the write-off of fixed assets and the costs of exiting a number of leased facilities. Other special charges is primarily comprised of settlement reserves for claims related to billing practices. See Note 5 to the Audited Quest Diagnostics Financial Statements and Notes 2 and 3 to the Quest Diagnostics Interim Financial Statements. (d) For purposes of this calculation, earnings consist of pretax income from continuing operations plus fixed charges. Fixed charges consist of interest expense and one-third of rental expense, representing that portion of rental expense deemed representative of the interest factor. Earnings were insufficient to cover fixed charges by the following amounts (in thousands):
Three months Ended Nine months Ended September 30, September 30, Year Ended December 31, ----------------- ----------------- ---------------------- 1996 1995 1996 1995 1995 $162,989 $56,405 $202,149 $41,666 $57,568
(e) EBITDA represents income (loss) before income taxes plus net interest expense and depreciation and amortization. EBITDA is presented because management believes it is an accepted financial indicator of a company's ability to service and incur debt. EBITDA does not represent net income or cash flows from operations as those terms are defined by generally accepted accounting principles and does not necessarily indicate whether cash flows will be sufficient to fund cash needs or service. (f) 1996 EBITDA includes charges of $142 million and $188 million for the three months and nine months ended September 30, 1996, respectively, related to charges to establish additional reserves for settlement issues. In October 1996, Corning contributed $119 million to Quest Diagnostics' capital to fund the settlement of billing issues related to Damon and has agreed to indemnify Quest Diagnostics against certain related and similar claims pending at the Distribution Date. (g) Adjusted EBITDA represents income (loss) before income taxes plus net interest expense, depreciation and amortization and restructuring and other special charges. EBITDA and Adjusted EBITDA include bad debt expense. Adjusted EBITDA is presented because management believes it is an accepted financial indicator of a company's ability to service and incur debt. Adjusted EBITDA does not represent net income or cash flows from operations as those terms are defined by generally accepted accounting principles and does not necessarily indicate whether cash flows will be sufficient to fund cash needs or service debt. (h) 1991 cash flow data, on a basis restated for poolings, is not available. 42 PRO FORMA FINANCIAL INFORMATION OF QUEST DIAGNOSTICS The unaudited pro forma combined statements of operations for the three and nine months ended September 30, 1996 and for the year ended December 31, 1995 present the results of operations of Quest Diagnostics assuming that the Distributions and the Quest Diagnostics Accounting Policy Change had been completed as of January 1, 1995. The unaudited pro forma combined balance sheet as of September 30, 1996 presents the combined financial position of Quest Diagnostics assuming that the Distributions and the Quest Diagnostics Accounting Policy Change had been completed on that date. In the opinion of Quest Diagnostics management, the unaudited pro forma combined financial information for the year ended December 31, 1995 and the three and nine months ended September 30, 1996 (the "Quest Diagnostics Pro Forma Financial Information") includes all material adjustments necessary to restate Quest Diagnostics' historical results. The adjustments required to reflect such assumptions are described in the Notes to the Quest Diagnostics Pro Forma Financial Information and are set forth in the "Pro Forma Adjustments" column. The Quest Diagnostics Pro Forma Financial Information should be read in conjunction with the Quest Diagnostics Financial Statements and notes thereto included elsewhere herein. The Quest Diagnostics Pro Forma Financial Information presented is for informational purposes only and may not necessarily reflect the future results of operations or financial position or what the results of operations or financial position would have been had the Distributions and the Quest Diagnostics Accounting Policy Change occurred as assumed herein, or had Quest Diagnostics been operated as an independent company during the periods shown. 43 QUEST DIAGNOSTICS INCORPORATED UNAUDITED PRO FORMA COMBINED STATEMENT OF OPERATIONS Three Months Ended September 30, 1996
Pro Forma Historical Adjustments Pro Forma ---------- ---------- --------------- (in thousands, except share and per share data) Net revenues $ 405,352 $ $ 405,352 Costs and expenses Cost of services 255,390 255,390 Selling, general and administrative 125,190 0 (a) 125,190 Provision for restructuring and other special charges 155,730 155,730 Interest expense, net 19,866 (7,677)(b) 12,189 Amortization of intangible assets 10,328 (2,656)(c) 7,672 Other, net 1,837 1,837 -------- -------- --------- Loss before taxes (162,989) 10,333 (152,656) Income tax (benefit) provision (43,553) 3,032 (d) (40,521) -------- -------- --------- Net loss $(119,436) $ 7,301 $ (112,135) ======== ======== ========= Pro forma shares outstanding 28,901,735 (e) ========= Pro forma net loss per share $ (3.88)(f) =========
The accompanying notes to unaudited pro forma combined financial information are an integral part hereof. 44 QUEST DIAGNOSTICS INCORPORATED UNAUDITED PRO FORMA COMBINED STATEMENT OF OPERATIONS Nine Months Ended September 30, 1996
Pro Forma Historical Adjustments Pro Forma ---------- ----------- --------------- (in thousands, except share and per share data) Net revenues $1,231,290 $ $ 1,231,290 Costs and expenses Cost of services 768,809 768,809 Selling, general and administrative 371,439 0 (a) 371,439 Provision for restructuring and other special charges 201,730 201,730 Interest expense, net 59,887 (22,949)(b) 36,938 Amortization of intangible assets 31,772 (7,969)(c) 23,803 Other, net (198) (198) -------- ------- --------- Loss before taxes (202,149) 30,918 (171,231) Income tax (benefit) provision (43,280) 9,065 (d) (34,215) -------- ------- --------- Net loss $ (158,869) $ 21,853 $ (137,016) ======== ======= ========= Pro forma shares outstanding 28,901,735 (e) ========= Pro forma net loss per share $ (4.74)(f) =========
The accompanying notes to unaudited pro forma combined financial information are an integral part hereof. 45 QUEST DIAGNOSTICS INCORPORATED UNAUDITED PRO FORMA COMBINED STATEMENT OF OPERATIONS Year Ended December 31, 1995
Pro Forma Historical Adjustments Pro Forma ---------- ----------- --------------- (in thousands, except share and per share data) Net revenues $1,629,388 $ $ 1,629,388 Costs and expenses Cost of services 980,232 980,232 Selling, general and administrative 523,271 0 (a) 523,271 Provision for restructuring and other special charges 50,560 50,560 Interest expense, net 82,016 (31,268)(b) 50,748 Amortization of intangible assets 44,656 (10,625)(c) 34,031 Other, net 6,221 6,221 --------- ------- --------- Loss before taxes (57,568) 41,893 (15,675) Income tax (benefit) provision (5,516) 12,351(d) 6,835 --------- ------- --------- Net loss $ (52,052) $ 29,542 $ (22,510) ========= ======= ========= Pro forma shares outstanding 28,901,735 (e) ========= Pro forma net loss per share $ (0.78)(f) =========
The accompanying notes to unaudited pro forma combined financial information are an integral part hereof. 46 QUEST DIAGNOSTICS INCORPORATED UNAUDITED PRO FORMA COMBINED BALANCE SHEET September 30, 1996
Pro Forma Historical Adjustments Pro Forma ---------- ------------ ------------ (in thousands) ASSETS Current Assets: Cash and cash equivalents $ 48,319 $ (8,319)(g) $ 40,000 Accounts receivable 323,171 323,171 Inventories 25,559 25,559 Deferred taxes on income 126,906 9,400 (h) 136,306 Due from Corning Incorporated 150,000 (i) 150,000 Prepaid expenses and other assets 25,217 25,217 --------- --------- --------- Total current assets 549,172 151,081 700,253 Property, plant and equipment, net 293,490 293,490 Intangible assets, net 1,001,500 (425,000)(j) 576,500 Other assets 42,216 42,216 --------- --------- --------- TOTAL ASSETS $1,886,378 $ (273,919) $1,612,459 ========= ========= ========= LIABILITIES AND STOCKHOLDER'S EQUITY Current Liabilities: Accounts payable and accrued expenses $ 374,058 $ 9,000 (k) $ 383,058 Current portion of long-term debt 11,885 (10,000)(h) 1,885 Income taxes payable 34,212 (18,632)(h) (7,011)(k) 8,569 Due to Corning Incorporated and affiliates 14,299 (14,299) (h) --------- --------- --------- Total current liabilities 434,454 (40,942) 393,512 Long-term debt, third-party 15,494 500,000 (h) 515,494 Payable to Corning 1,204,406 (8,319)(g) (447,669)(h) (748,418))(l) Other liabilities 99,354 99,354 --------- --------- --------- Total liabilities 1,753,708 (745,348) 1,008,360 --------- --------- --------- Stockholder's Equity: Contributed capital 297,823 150,000 (i) 11,250 (k) 748,418 (l) 1,207,491 Accumulated deficit (163,158) (425,000)(j) (13,239)(k) (601,397) Cumulative translation adjustment 1,801 1,801 Market valuation adjustment (3,796) (3,796) --------- --------- --------- Total stockholder's equity 132,670 471,429 604,099 --------- --------- --------- TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $1,886,378 $ (273,919) $1,612,459 ========= ========= =========
The accompanying notes to unaudited pro forma combined financial information are an integral part hereof. 47 QUEST DIAGNOSTICS INCORPORATED NOTES TO UNAUDITED PRO FORMA COMBINED FINANCIAL INFORMATION Statements of Operations (a) The historical financial statements include substantially all of the costs incurred by Corning on Quest Diagnostics' behalf and reflect all of its costs of doing business. Quest Diagnostics management does not expect administrative costs to increase as a result of being an independent, public company. (b) The pro forma adjustment to interest expense, net represents the difference between historical intercompany interest expense and interest expense on the third party debt to be incurred in connection with the Quest Diagnostics Spin- Off Distribution. Quest Diagnostics will borrow, immediately prior to the Quest Diagnostics Spin-Off Distribution, approximately $500 million in long-term debt to repay Corning for certain intercompany borrowings. The debt is assumed to consist of $350 million of borrowings under the Quest Diagnostics Credit Facility and $150 million of Notes to be issued under the Quest Diagnostics Notes Offering. The assumed interest rates on these new borrowings are 7.50% and 11.50% for the Quest Diagnostics Credit Facility and the Notes, respectively. If the interest rate on the Quest Diagnostics Credit Facility fluctuates by 1/8%, interest expense fluctuates by approximately $440,000 annually. Depending on market conditions at the time of the Quest Diagnostics Notes Offering and the consummation of the Quest Diagnostics Credit Facility, the total combined debt amount, the interest rates, and the amounts of each of the Quest Diagnostics Credit Facility and the Notes may vary from that indicated herein. (c) The pro forma adjustment to amortization of intangible assets represents the estimated reduction of amortization expense due to the Quest Diagnostics Accounting Policy Change. Most of Quest Diagnostics' intangible assets resulted from business combinations in 1993 accounted for as purchases. Significant changes in the clinical laboratory and health care industries subsequent to 1993 have caused the fair value of Quest Diagnostics' intangible assets to be significantly less than their carrying value. Quest Diagnostics management believes that a valuation of intangible assets based on the amount for which each regional laboratory could be sold in an arms-length transaction is preferable to using projected undiscounted pre-tax cash flows. Quest Diagnostics believes fair value is a better indicator of the extent to which the intangible assets may be recoverable and therefore may be impaired. Quest Diagnostics management estimates that the reduction of amortization expense will approximate between $10.0 million and $11.3 million annually and $2.5 million and $2.8 million quarterly. The midpoint of the range has been utilized for the preparation of the Unaudited Pro Forma Combined Statements of Operations. (d) The pro forma adjustment to income tax (benefit) provision represents the estimated income tax impact of the pro forma reduction in interest expense at the incremental tax rate of 39.5%. The pro forma amortization expense reduction will not impact income taxes as the amortization is not deductible for tax purposes. (e) The pro forma common shares outstanding represents Quest Diagnostics management's current estimate of the number of shares to be outstanding after the Quest Diagnostics Spin-Off Distribution. Management's estimate includes (a) the issuance of approximately 28.0 million shares of Quest Diagnostics Common Stock at an exchange ratio of one share of Quest Diagnostics Common Stock issued for every eight shares of Corning Common Stock outstanding at September 30, 1996 and (b) the issuance of an estimated 900,000 shares into the employee stock ownership plan. Quest Diagnostics management's estimate of shares outstanding is subject to change as the result of normal issuances and repurchases of Corning Common Stock prior to the date of the Quest Diagnostics Spin-Off Distribution and finalization of the proposed structure of the employee stock ownership plan. (f) Pro forma net loss per share is computed by dividing net loss by the pro forma shares outstanding during each period. Common stock equivalents are not included in the loss per share computation because they do not result in material dilution. Historical net loss per share data is not presented as Quest Diagnostics' historical capital structure is not comparable to periods subsequent to the Quest Diagnostics Spin-Off Distribution. Balance Sheet (g) Historically, Quest Diagnostics has participated in Corning's centralized treasury and cash management processes. Cash received from operations was generally transferred to Corning on a daily basis. Cash disbursements for operations and investments were funded as needed from Corning. The cash balance at the Distribution Date will range from $30 million to $40 million. The pro forma adjustment to cash and payable to Corning represents the reduction to bring cash to the Distribution Date range. 48 (h) The pro forma adjustment to deferred taxes on income, current portion of long-term debt, income taxes payable, due to Corning Incorporated and affiliates, long-term debt third party and payable to Corning reflects borrowings by Quest Diagnostics, immediately prior to the Quest Diagnostics Spin-Off Distribution, to repay Corning for certain income tax liabilities and intercompany borrowings. The debt is assumed to consist of $350 million of bank borrowings under the Quest Diagnostics Credit Facility and $150 million of Notes to be issued under the Quest Diagnostics Notes Offering. (i) The pro forma adjustment to due from Corning Incorporated and contributed capital represents the estimated receivable from Corning and capital contribution related to Corning's indemnification obligations relating to governmental claims under the Transaction Agreement. The receivable from Corning is estimated to approximate $25 million at the Distribution Date. The reduction from $150 million at September 30, 1996 to $25 million at the Distribution Date is due to the funding by Corning of indemnified claims, primarily the Damon settlement of $119 million, subsequent to September 30, 1996 and before the Distribution Date. The remaining receivable will be paid by Corning upon the settlement of the underlying, indemnified claims which is expected to occur within the next twelve months. (j) The pro forma adjustment to intangible assets, net and accumulated deficit represents the estimated impact of the Quest Diagnostics Accounting Policy Change. Quest Diagnostics management estimates the charge to reduce the carrying value of intangible assets to fair value will be in the range of $400 million to $450 million. The midpoint of the range has been utilized for the preparation of the Unaudited Pro Forma Combined Balance Sheet. This charge has not been reflected in the Unaudited Pro Forma Combined Statements of Operations because it is non-recurring. See additional discussion on Quest Diagnostics' planned change in accounting policy in note (c) above. (k) The pro forma adjustment to accounts payable and accrued expenses, income taxes payable, contributed capital and accumulated deficit represents costs directly related to the Quest Diagnostics Spin-Off Distribution that Quest Diagnostics expects to record coincident with the Quest Diagnostics Spin-Off Distribution. These costs, which are estimated at $20.2 million ($13.2 million after tax), include approximately $9 million related to professional advisory and financing commitment fees and $11.2 million related to the establishment of an employee stock ownership plan. This amount is subject to change based on the market price of the Quest Diagnostics Common Stock on the Distribution Date. This charge has not been reflected in the Unaudited Pro Forma Statements of Operations because it is nonrecurring. (l) The pro forma adjustment to payable to Corning and contributed capital of $748.4 million reflects Corning's capital contribution to Quest Diagnostics of the estimated remaining intercompany borrowings. 49 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS OF QUEST DIAGNOSTICS Overview In the last several years, Quest Diagnostics' business has been affected by significant government regulation, price competition and rapid change resulting from payors' efforts to control cost, utilization and delivery of health care services. As a result of these factors, Quest Diagnostics' profitability has been impacted by changes in the volume of testing, the prices and costs of its services, the mix of payors and the level of bad debt expense. Payments for clinical laboratory services are made by government, managed care organizations, insurance companies, physicians and patients. Increased government regulation focusing on health care cost containment has reduced prices and added costs for the clinical laboratory industry by increasing complexity and adding new regulatory requirements. Also, in recent years there has been a significant shift away from traditional fee-for- service health care to managed health care, as employers and other payors of health care costs aggressively move the populations they control into lower cost plans. Managed care organizations typically negotiate capitated payment contracts whereby Quest Diagnostics receives a fixed monthly fee per covered individual for all services included under the contract. Capitated contract arrangements shift the risks of additional routine testing beyond that covered by the capitated payment to the clinical laboratory. The managed care industry is growing as well as undergoing rapid consolidation which has created large managed care companies that control the delivery of health care services for millions of people, and have significant bargaining power in negotiating fees with providers, including clinical laboratories. These market factors have had a significant adverse impact on prices in the clinical laboratory industry, and are major contributors to Quest Diagnostics' decline in profitability over the last two years. This growth of managed care and use of capitated agreements are expected to continue for the foreseeable future. See "Risk Factors--Risks Relating to Quest Diagnostics--Role of Managed Care" and "Business of Quest Diagnostics-- Effect of the Growth of the Managed Care Sector on the Clinical Laboratory Business." A substantial portion of Quest Diagnostics' growth has come from acquisitions in the last four years. The largest of these acquisitions were the purchases of Damon and certain operations of Unilab in 1993 and the acquisitions of MML, Nichols Institute and Bioran in 1994. As a result of these acquisitions, Quest Diagnostics has recorded a number of special charges for restructuring and integration costs since 1993. See Note 5 to the Audited Quest Diagnostics Financial Statements. The MML, Nichols Institute and Bioran transactions were accounted for as poolings of interests. The accompanying financial statements of Quest Diagnostics have been restated to include the results of operations of these pooled entities on a combined basis for all periods presented. The results of operations for Damon and Unilab, as well as all other acquisitions accounted for as purchases, have been included since their respective dates of acquisition. Acquisitions accounted for as purchases have generated large amounts of goodwill which are not deductible for tax purposes, giving rise to a high effective income tax rate and increased sensitivity of the income tax rate to changes in pre-tax income. See Note 4 to the Audited Quest Diagnostics Financial Statements. The clinical laboratory industry is subject to seasonal fluctuations in operating results. Quest Diagnostics' cash flows are influenced by seasonal factors. During the summer months, year-end holiday periods and other major holidays, volume of testing declines, reducing net revenues and resulting cash flows below annual averages during the third and fourth quarters of the year. Winter months are also subject to declines in testing volume due to inclement weather, which varies in severity from year to year. The clinical laboratory industry is labor intensive. Approximately half of Quest Diagnostics' total costs and expenses are associated with employee compensation and benefits. Cost of services, which have approximated sixty percent of net revenues over the past several years, consists principally of costs for obtaining, transporting and testing specimens. Selling, general and administrative expenses consist principally of the cost of the sales force, billing operations (including bad debt expense), and general management and administrative support. Results of Operations Three Months Ended September 30, 1996 Compared with Three Months Ended September 30, 1995. Earnings for the third quarter of 1996 were significantly below those for the prior year due principally to the impact of special 50 charges. Before special charges, earnings were significantly above the prior year level, which included a $62 million charge to operations to increase accounts receivable reserves. Net Revenues Net revenues increased by $5.4 million, or 1.3%, over the three months ended September 30, 1995 due to increased revenues from Quest Diagnostics' nonclinical testing businesses. Volume of clinical testing increased by 1.8% but was offset by average price declines of 1.7%. The majority of the price decline resulted from changes in reimbursement policies of various third-party payors, shifts in volume to lower-priced managed care business and intense price competition in the industry. Also contributing to the price decline was a reduction in Medicare fee schedules effective January 1, 1996, which accounted for approximately a 1% decrease in net revenues. Costs and Expenses Cost of services increased by $14.5 million from the prior period and as a percentage of net revenues increased to 63.0% in 1996 from 60.2% in 1995. These increases were due principally to the effects of declining prices and increases in salaries and wages associated with improving customer service levels, and wage adjustments. Selling, general and administrative expense decreased by $56.2 million from the prior period and as a percentage of revenues decreased to 30.9% in 1996 from 45.3% in 1995. These decreases were due principally to a reduction in bad debt expense, which decreased by $55.3 million, from $85.8 million to $30.5 million, and as a percentage of net revenues decreased from 21.5% to 7.5%. The reduction in bad debt expense results primarily from the unusually high level of bad debt expense in the prior year, which included a charge of $62.0 million to increase receivables reserves. Quest Diagnostics has established, and maintains, rigorous programs to improve the effectiveness of Quest Diagnostics' billing and collection operations. The established programs include standard policies and procedures, employee training programs and regular reporting and tracking of key measures by senior management. The implementation of these programs during the fourth quarter of 1995 has aided in reducing bad debt expense. However, additional requirements to provide documentation of the "medical necessity" of testing have added to the backlog of unbilled receivables and caused third quarter 1996 bad debt expense as a percentage of revenues to increase above the rate Quest Diagnostics had experienced during the first two quarters of 1996. Additional efforts to collect medical necessity documentation are currently being made and are expected to lower bad debt expense below the 1996 third quarter rate during 1997. * During the third quarter of 1996, Quest Diagnostics recorded a $142.0 million charge to establish additional reserves associated with government and other claims primarily related to billing practices at certain laboratories of Damon and Nichols prior to their acquisition by Quest Diagnostics. Subsequent to the third quarter, Quest Diagnostics entered into an agreement with the DOJ to pay $119.0 million to settle all federal and Medicaid claims related to the billing by Damon of certain blood test series for federally sponsored health care programs. This payment was fully reserved as part of the third quarter charge. Quest Diagnostics' aggregate reserve with respect to all governmental and nongovernmental claims, including litigation costs, was $215 million at September 30, 1996, and is estimated to be reduced to $85 million at the Distribution Date as a result of the payment of settled claims, primarily the Damon settlement of $119.0 million. Although management believes that established reserves for both indemnified and non-indemnified claims are sufficient, it is possible that the final resolution of these matters could be in excess of established reserves by an amount which could be material to Quest Diagnostics's results of operations and, for non-indemnified claims, Quest Diagnostics' cash flows in the periods in which such claims are settled. Quest Diagnostics does not believe that these matters will have a material adverse effect on Quest Diagnostics' overall financial condition. See "Risk Factors--Risks Relating to Quest Diagnostics--Government Investigations and Related Claims" and "Business of Quest Diagnostics--Government Investigations and Related Claims." Additionally, in the third quarter Quest Diagnostics recorded a charge of $13.7 million to write off capitalized software as a result of its decision to abandon the billing system which had been intended as its company-wide billing system. Management now plans to standardize billing systems using a system already implemented in seven of its sites. See "Risk Factors--Risks Relating to Quest Diagnostics--Billing," "Business of Quest Diagnostics-- Information Systems" and "Business of Quest Diagnostics--Billing" and Note 3 to the Quest Diagnostics Interim Financial Statements. * This is a forward looking statement and is based on current expectations. Actual results may vary materially from those projected. See "Business of Quest Diagnostics--Important Factors Regarding Forward Looking Statements." In particular see factors (c), (d), (j) and (k). 51 Net interest expense declined from the prior year's level due to lower average borrowings during 1996. Amortization of intangible assets decreased below the prior year's level due to certain intangible assets having been fully amortized. Quest Diagnostics' effective tax rate is significantly impacted by goodwill amortization which is not deductible for tax purposes and which had the effect of decreasing the tax benefit rate for the third quarter of 1996. Nine Months Ended September 30, 1996 Compared with Nine Months Ended September 30, 1995. Earnings were substantially below those for the prior year due principally to special charges, price declines, increases in salaries and wages, higher bad debt expense, and unusually severe winter weather experienced during the first quarter of 1996. Net Revenues Net revenues decreased by $8.2 million, or .7%, from the prior period, principally due to average price declines of approximately 3.4%, partially offset by an increase in clinical testing of 1.2% and increased revenues from Quest Diagnostics' nonclinical testing businesses. Adversely affecting the volume growth was unusually severe winter weather in the northeastern and central parts of the United States during the first quarter of 1996. The majority of the price declines resulted from changes in reimbursement policies of various third-party payors, shifts in volume to lower-priced managed care business, and intense price competition in the industry. Also contributing to the price declines was a reduction in Medicare fee schedules effective January 1, 1996, which accounted for approximately a 1% decrease in net revenues. Costs and Expenses Cost of services increased by $32.8 million from the prior period and as a percentage of net revenues increased to 62.4% in 1996 from 59.4% in 1995. These increases were due principally to the effects of declining prices and increases in salaries and wages associated with improving customer service levels, and wage adjustments. Selling, general and administrative expense decreased by $28.2 million from the prior period and as a percentage of net revenues decreased to 30.2% in 1996 from 32.2% in 1995. These decreases were due principally to a reduction in bad debt expense, which decreased, by $45.4 million, from $127.3 million to $81.9 million, and as a percentage of net revenues decreased from 10.3% to 6.7%, partially offset by costs associated with developing and implementing strategic action plans and operating improvement plans. The reduction in bad debt expense results primarily from the unusually high level of bad debt expense in the prior year, which included a charge of $62.0 million to increase receivables reserves. Quest Diagnostics has established, and maintains, rigorous programs to improve the effectiveness of Quest Diagnostics' billing and collection operations. The established programs include standard policies and procedures, employee training programs and regular reporting and tracking of key measures by senior management. The implementation of these programs during the fourth quarter of 1995 has aided in reducing bad debt expense. However, additional requirements to provide documentation of the "medical necessity" of testing have added to the backlog of unbilled receivables and caused third quarter 1996 bad debt expense as a percentage of revenues to increase above the rate Quest Diagnostics had experienced during the first two quarters of 1996. Additional efforts to collect medical necessity documentation are currently being made and are expected to lower bad debt expense below the 1996 third quarter rate during 1997.* In the second quarter of 1996, as a consequence of an investigation begun in 1993, the DOJ notified Quest Diagnostics that it has taken issue with payments related to certain tests received by Damon from federally funded health care programs prior to the acquisition of Damon by Quest Diagnostics. Quest Diagnostics management met with the DOJ several times to evaluate the substance of the government's allegations. A special charge of $46.0 million was recorded in the second quarter of 1996 to establish additional reserves equal to management's estimate, at that time, of the low end of the range of potential amounts which could be required to satisfy the government's claims. During the third quarter of 1996 Quest Diagnostics recorded a $142.0 million charge to establish additional reserves associated with government and other claims primarily related to billing practices at certain laboratories of Damon and Nichols prior to their acquisition by Quest Diagnostics. Subsequent to the third quarter, Quest Diagnostics entered into an * This is a forward looking statement and is based on current expectations. Actual results may vary materially from those projected. See "Business of Quest Diagnostics--Important Factors Regarding Forward Looking Statements." In particular see factors (c), (d), (j) and (k). 52 agreement with the DOJ to pay $119.0 million to settle all federal and Medicaid claims related to the billing by Damon of certain blood test series for federally sponsored health care programs. This payment was fully reserved as part of the third quarter charge. Quest Diagnostics' aggregate reserve with respect to all governmental and nongovernmental claims, including litigation costs, was $215 million at September 30, 1996, and is estimated to be reduced to $85 million at the Distribution Date as a result of the payment of settled claims, primarily the Damon settlement of $119.0 million. Although management believes that established reserves for both indemnified and non-indemnified claims are sufficient, it is possible that the final resolution of these matters could be in excess of established reserves by an amount which could be material to Quest Diagnostics' results of operation and, for non-indemnified claims, Quest Diagnostics' cash flows in the periods in which such claims are settled. Quest Diagnostics does not believe that these matters will have a material adverse effect on Quest Diagnostics' overall financial condition. See "Risk Factors--Risks Relating to Quest Diagnostics--Government Investigations and Related Claims" and "Business of Quest Diagnostics--Government Investigations and Related Claims." In the third quarter Quest Diagnostics recorded a charge of $13.7 million to write off capitalized software as a result of its decision to abandon the billing system which had been intended as its company-wide billing system. Management now plans to standardize billing systems using a system already implemented in seven of its sites. See "Risk Factors--Risks Relating to Quest Diagnostics--Billing," "Business of Quest Diagnostics--Information Systems" and "Business of Quest Diagnostics--Billing" and Note 3 to the Quest Diagnostics Interim Financial Statements. In the second quarter of 1995, Quest Diagnostics recorded a provision for restructuring totalling $33 million primarily for work force reduction programs and the costs of exiting a number of leased facilities. Additionally, in the first quarter of 1995 Quest Diagnostics recorded a special charge of $12.8 million for the settlement of claims related to the inadvertent billing errors of certain laboratory tests that were not completely and/or successfully performed or reported due to insufficient samples and/or invalid results. Net interest expense remained relatively unchanged from the prior year level. Amortization of intangible assets decreased below the prior year level due to certain intangible assets having been fully amortized. A gain on the sale of several small investments and the favorable settlement of a contractual obligation, both of which occurred in 1996, accounted for the majority of the change in "other, net" compared to the prior year. Quest Diagnostics' effective tax rate is significantly impacted by goodwill amortization which is not deductible for tax purposes. This had the effect of reducing the tax benefit rate of Quest Diagnostics in both 1996 and 1995. The effect of this non-deductibility is particularly apparent when amortization increases in proportion to pre-tax earnings, as was the case in 1995. Year Ended December 31, 1995 Compared with Year Ended December 31, 1994. Earnings for 1995 were significantly below those for the prior year as a result of price declines, higher bad debt expense, and the impact of restructuring and other special charges. The 1995 bad debt expense included a $62.0 million charge to increase accounts receivable reserves in the third quarter. Net Revenues Net revenues of $1.6 billion in fiscal 1995 remained essentially unchanged from the prior year. Average price declines, estimated to be 3.7%, were offset by estimated growth of approximately 4% in requisition volume. The majority of the price declines resulted from changes in reimbursement policies of various third-party payors, an accelerated shift in volume to lower-priced managed care business, and intense price competition in the industry. Also contributing to the price declines was a reduction in Medicare fee schedules effective January 1, 1995 which accounted for approximately a 1% decrease in net revenues. Costs and Expenses Cost of services increased $10.4 million from 1994 and as a percentage of net revenues increased to 60.2% in 1995 from 59.4% in 1994. These increases were due principally to the impact of price declines and the added cost of doing business in an increasingly complex environment. Partially offsetting these factors were synergies associated with the elimination of duplicative facilities, personnel and administrative functions of acquired entities, including Damon, MML and Nichols. Selling, general and administrative expense increased $111.3 million from 1994 and as a percentage of net revenues increased to 32.1% in 1995 from 25.2% in 1994. These increases resulted primarily from a higher level 53 of bad debt expense during 1995. Excluding bad debt expense, selling, general and administrative expenses as a percentage of net revenues were approximately 22.7% as compared to 21.6% in 1994. Bad debt expense increased to $152.6 million or 9.4% of net revenues in 1995 from $59.5 million or 3.6% of net revenues in 1994. This increase resulted from an increase in ongoing bad debt expense of $31.0 million throughout 1995 and a $62.0 million charge to increase bad debt reserves in the third quarter of 1995. During 1995, ongoing bad debt expense increased from 4.4% of net revenues in the first quarter to 6.4% of net revenues in the fourth quarter. This increase is due principally to four developments that have complicated the billing process: (1) increased complexity in the health care system; (2) increased requirements in complying with fraud and abuse regulations; (3) deterioration in reimbursement as the payor mix shifts; and (4) changes in Medicare reimbursement policies. These four factors have placed additional requirements on the billing process, including the need for specific test coding, additional research on processing rejected claims that comply with prior practices, increased audits for compliance, and management of a large number of contracts which have very different information requirements for pricing and reimbursement. In addition to the changes in the billing process, in mid-1995, Quest Diagnostics experienced problems integrating billing operations from recent acquisitions into existing billing operations and experienced significant problems implementing a new billing system at its largest facility in Teterboro, New Jersey. These factors, along with the significant changes in the billing process discussed in the preceding paragraph, contributed to a significant increase in the backlog of unbilled receivables and a significant deterioration in the collection of receivables during the third quarter of 1995. As a result, Quest Diagnostics recorded a charge of $62 million in the third quarter to increase accounts receivable reserves. Quest Diagnostics has put in place a rigorous program to improve the effectiveness of its billing and collection operations and has stabilized the current billing system in Teterboro. See "Risk Factors--Risks Relating to Quest Diagnostics--Billing" and "Business of Quest Diagnostics--Information Systems" and "--Billing." In the second quarter of 1995, Quest Diagnostics recorded a provision for restructuring totalling $33.0 million, consisting primarily of costs for work force reduction programs and exiting a number of leased facilities. In the first quarter of 1995, Quest Diagnostics recorded a special charge of $12.8 million for the settlement of claims related to inadvertent billing errors of certain laboratory tests that were not completely and/or successfully performed or reported due to insufficient samples and/or invalid results. In the third quarter of 1994, Quest Diagnostics recorded a provision for restructuring and other special charges totalling $79.8 million which included $48.2 million of integration costs, $21.6 million of transaction expenses, and $10.0 million of other reserves primarily related to the Nichols Institute, MML and Bioran acquisitions. See Note 5 to the Audited Quest Diagnostics Financial Statements. Net interest expense increased by $18.7 million over the 1994 level due to an increase in average debt levels, resulting principally from funding investing activities and cash requirements associated with restructuring and other special charges. Amortization expense increased principally due to additional intangible assets arising from acquisitions completed in 1994 and 1995. Quest Diagnostics' effective tax rate is significantly impacted by goodwill amortization which is not deductible for tax purposes. This had the effect of reducing the tax benefit rate to Quest Diagnostics in 1995 while increasing the overall tax rate in 1994. See Note 4 to the Audited Quest Diagnostics Financial Statements. Year Ended December 31, 1994 Compared with Year Ended December 31, 1993. Earnings for 1994 were below those for the prior year due principally to price declines, which outpaced the cost efficiencies realized from the integration of acquisitions and other activities to reduce costs. Net Revenues Net revenues increased by $217.4 million, or 15.3%, over the prior year, due principally to the net impact of acquisitions and dispositions which increased net revenues by approximately $240 million. The net effect of average price declines, estimated at 4%, offset by an increase in requisition volume, estimated at 3%, accounted for the remaining change in net revenues. The majority of the price declines resulted from a shift in volume to lower-priced managed care business, changes in reimbursement policies of various third-party payors, and intense price competition. Also contributing to the price declines was a reduction in Medicare fee schedules effective January 1, 1994 which accounted for approximately a 1% decrease in net revenues. Costs and Expenses Cost of services increased $164.1 million over 1993 and as a percentage of net revenues increased to 59.4% in 1994 from 56.9% in 1993. These increases were due principally to the impact of price declines and the added 54 cost of doing business in an increasingly complex environment. Partially offsetting these factors were synergies realized from integration of acquisitions. Selling, general and administrative expense increased $48.4 million over 1993 and as a percentage of net revenues decreased slightly from 25.7% in the prior year to 25.2%. Synergies associated with the elimination of duplicate facilities, personnel and administrative functions of acquired entities, primarily Damon, MML and Nichols, with those of Quest Diagnostics were partially offset by an increase in bad debt expense, which increased by $12.3 million, from $47.2 million to $59.5 million, and increased from 3.3% of net revenues in 1993 to 3.6% in 1994. In the third quarter of 1994, Quest Diagnostics recorded a provision for restructuring and other special charges totalling $79.8 million, which included $48.2 million of integration costs, $21.6 million of transaction expenses, and $10.0 million of other reserves primarily related to the Nichols Institute, MML and Bioran acquisitions. Integration costs represented the expected costs for closing clinical laboratories in certain markets where duplicate Quest Diagnostics and Nichols Institute, MML or Bioran facilities existed at the time of the acquisitions. In the third quarter of 1993, Quest Diagnostics recorded a provision for restructuring costs and other special charges totalling $99.6 million. The restructuring component of this special charge aggregated $56.6 million related principally to the integration of Quest Diagnostics' operations with those acquired in the Damon acquisition. The special charge consisted primarily of a $36.5 million charge to reflect the settlement and related legal expenses associated with a compromise agreement with the DOJ to settle claims brought on behalf of the OIG. In making the settlement, Quest Diagnostics did not admit any wrongdoing in connection with its marketing or business practices. See "Risk Factors--Risks Relating to Quest Diagnostics--Government Investigations and Related Claims," "Business of Quest Diagnostics--Government Investigations and Related Claims" and Note 5 to the Audited Quest Diagnostics Financial Statements. Net interest expense increased by $21.4 million over the prior year, due principally to increased borrowings associated with financing acquisitions and, to a lesser degree, increased borrowing rates. Amortization of intangibles increased due to additional intangible assets arising from acquisitions completed in 1993 and 1994. Quest Diagnostics' effective tax rate is significantly impacted by goodwill amortization which is not deductible for tax purposes, and has the effect of increasing the overall tax rate, particularly when amortization increases in proportion to pre-tax earnings. This situation was the principal contributor to the increase in the 1994 effective tax rate over the prior year. See Note 4 to the Audited Quest Diagnostics Financial Statements. Liquidity and Capital Resources After the Distributions Concurrently with the Quest Diagnostics Spin-Off Distribution, Quest Diagnostics' debt will be restructured and equity recapitalized. Quest Diagnostics plans to complete the Quest Diagnostics Notes Offering of approximately $150 million principal amount of Notes, and incur approximately $350 million of borrowings under the Quest Diagnostics Credit Facility. The proceeds from these borrowings will be used to repay amounts owed to Corning. Any amounts owed to Corning in excess of the proceeds from these borrowings will be contributed by Corning to Quest Diagnostics' capital. As a result of these actions, management estimates that Quest Diagnostics' long-term debt will be reduced by approximately $720 million to approximately $515 million, and annual interest expense will be reduced by approximately $31 million. The Quest Diagnostics Credit Facility will include a revolving credit facility of $100 million, substantially all of which is expected to be available for borrowing at the time of the Distributions. Quest Diagnostics estimates that it will invest approximately $20 million during the fourth quarter of 1996 for capital expenditures, principally related to facility upgrades and investments in information technology. Capital expenditures in 1997 are estimated to be approximately $95 million, of which approximately $10 to $15 million relates to the conversion of billing and laboratory systems to Quest Diagnostics' standard systems (see "Business of Quest Diagnostics--Information Systems"). Quest Diagnostics expects to expand its operations principally through internal growth and accelerated growth in strategic markets and related lines of business. Quest Diagnostics expects such activities will be funded from existing cash and cash equivalents, cash flow from operations, and borrowings under the revolving credit facility. Quest Diagnostics believes that the revolving credit facility will be sufficient to meet both its short-term and its long-term financing needs. As a result, Quest Diagnostics believes it has sufficient financial flexibility and sufficient access to funds to meet seasonal working capital requirements, capital expenditures and growth opportunities. 55 Quest Diagnostics does not anticipate paying dividends on the Quest Diagnostics Common Stock in the foreseeable future. In addition, the Quest Diagnostics Credit Facility prohibits Quest Diagnostics from paying cash dividends on the Quest Diagnostics Common Stock. Further, the Indenture under which the Notes will be issued will restrict Quest Diagnostics' ability to pay cash dividends on the Quest Diagnostics Common Stock based on a percentage of Quest Diagnostics' cash flow. Coincident with the Distributions, Quest Diagnostics plans to record a non-recurring charge of approximately $20 million associated with the Distributions. The largest component of the charge will be the cost of establishing an employee stock ownership plan. The remainder of the charge will consist principally of the costs for advisors and other fees associated with establishing Quest Diagnostics as a separate publicly traded entity. The amount of the charge is subject to change based on the price of the Quest Diagnostics Common Stock on the Distribution Date. Although Quest Diagnostics has no present acquisition agreements or arrangements, there may be acquisitions or other growth opportunities which will require additional external financing, and Quest Diagnostics may from time to time seek to obtain funds from public or private issuances of equity or debt securities. There can be no assurance that such financing will be available on terms acceptable to Quest Diagnostics. See "Risk Factors -- Risks Relating to Quest Diagnostics -- Potential Liability under the Spin-Off Tax Indemnification Agreements" and "The Relationship Among Corning, Quest Diagnostics and Covance After the Distributions--Spin-Off Tax Indemnification Agreements." Quest Diagnostics management believes that the recapitalization of Quest Diagnostics and the indemnification by Corning against monetary fines, penalties or losses from outstanding government claims, together with the successful implementation of its business strategy, will generate more predictable and improved cash flows. Additionally, Quest Diagnostics management believes that these actions, together with Quest Diagnostics' leading market position or low cost provider status in a number of geographic regions accounting for the majority of its net revenues, will aid Quest Diagnostics in meeting the ongoing challenges in the clinical laboratory industry brought on by growth in managed care and increased regulatory complexity.* Prior to the Distributions Historically, Quest Diagnostics has financed its operations and growth with cash flow from operations, borrowings from Corning, and stock issued by Corning to finance certain acquisitions on behalf of Quest Diagnostics. Investing activities have included business acquisitions and capital expenditures for facility expansions and upgrades and information systems improvements. Replacement of laboratory equipment has typically been financed through operating leases. Net cash provided by operating activities for the nine months ended September 30, 1996 was below the level for the comparable period of the prior year, as a result of reduced earnings, partially offset by an improved collection rate of accounts receivable and a reduction in restructuring spending. This improvement in accounts receivable is a direct result of specific programs initiated in the fourth quarter of 1995 to improve billing operations. Although these programs are continuing, additional requirements of customers to provide documentation of the "medical necessity" of testing are expected to increase receivable levels in the future. The number of days sales outstanding in accounts receivable ("DSOs") for the clinical testing business is one measure used by Quest Diagnostics to monitor the effectiveness of its billing operations. DSOs were 74 days at September 30, 1996 and December 31, 1995, 81 days at December 31, 1994, and 90 days at December 31, 1993. Net cash provided by operating activities during 1995 increased above the prior year despite reduced earnings, due primarily to changes in accounts payable and accrued expenses and reduced spending for restructuring integration and other special charges. Net cash provided by operating activities in 1994 declined from the 1993 level principally due to larger increases in accounts receivables and higher levels of spending for restructuring, integration and other special charges during 1994. Cash used for investing activities for the nine months ended September 30, 1996 was below the prior year level due to reduced acquisition activity and the sale of several small investments during 1996. Investing activities during *This is a forward looking statement and is based on current expectations. Actual results may vary materially from those projected. See "Business of Quest Diagnostics--Important Factors Regarding Forward Looking Statements." In particular see factors (a), (b), (c), (d), (e) and (j). 56 1995, 1994 and 1993 were funded principally by cash flow from operations and borrowings from Corning, and were principally for capital expenditures and acquisitions. Cash used in investing activities in 1995 exceeded the prior year level due principally to cash proceeds generated from the sale of certain California operations in 1994. See Note 3 to the Audited Quest Diagnostics Financial Statements. Net cash provided by financing activities for the nine months ended September 30, 1996 was below the prior year level due primarily to reduced acquisition activity during 1996. Financing activities in 1995, 1994 and 1993 consisted principally of dividend payments to and net borrowing activities with Corning. Adjusted EBITDA Adjusted EBITDA represents income (loss) before income taxes plus net interest expense, depreciation and amortization and restructuring and other special charges. EBITDA and Adjusted EBITDA include bad debt expense. Adjusted EBITDA includes bad debt expense. Adjusted EBITDA is presented because management believes it is an accepted financial indicator of a company's ability to service and incur debt. Adjusted EBITDA does not represent net income or cash flows from operations as those terms are defined by generally accepted accounting principles and does not necessarily indicate whether cash flows will be sufficient to fund cash needs or service debt. Adjusted EBITDA for the third quarter of 1996 was $37.6 million, or 9.3% of net revenues. Adjusted EBITDA in the prior year period was ($9.9) million. The improvement in Adjusted EBITDA was principally due to a decrease in selling, general and administrative expense (which decreased $56.2 million) and an increase in net revenues of $5.4 million, partially offset by an increase in cost of services (which increased $14.5 million). Adjusted EBITDA for the nine months ended September 30, 1996 was $134.7 million, or 10.9% of net revenues. Adjusted EBITDA in the prior year period was $141.8 million, or 11.4% of net revenues. The decline in Adjusted EBITDA was principally due to a decrease in net revenues of $8.2 million and an increase in cost of services (which increased $32.8 million), partially offset by a decrease in selling, general and administrative expense (which decreased $28.2 million). Adjusted EBITDA for 1995 was $176.5 million, or 10.8% of net revenues. Adjusted EBITDA for the prior year period was $295.4 million, or 18.1% of net revenues. The decline in Adjusted EBITDA was principally due to an increase in cost of services (which increased $10.4 million) and an increase in selling, general and administrative expense (which increased $111.3 million). Adjusted EBITDA for 1994 was $295.4 million, or 18.1% of net revenues. Adusted EBITDA in the prior year period was $278.7 million, or 19.7% of net revenues. The increase in Adjusted EBITDA was principally due to an increase in revenues (which increased $217.4 million), partially offset by an increase in cost of services (which increased $164.1 million) and an increase in selling, general and administrative expenses (which increased $48.4 million). Changes in Accounting Policies Coincident with the Quest Diagnostics Spin-Off Distribution, Quest Diagnostics management will adopt a new accounting policy for evaluating the recoverability of intangible assets and measuring possible impairment under Statement of the Accounting Principles Board No. 17. Most of Quest Diagnostics' intangible assets resulted from purchase business combinations in 1993. Significant changes in the clinical laboratory and health care industries subsequent to 1993, including increased government regulation and movement from traditional fee-for-service care to managed cost health care, have caused the fair value of Quest Diagnostics' intangible assets to be significantly less than carrying value. Quest Diagnostics management believes that a valuation of intangible assets based on the amount for which each regional laboratory could be sold in an arms-length transaction is preferable to using projected undiscounted pre-tax cash flows. Quest Diagnostics believes fair value is a better indicator of the extent to which the intangible assets may be recoverable and therefore, may be impaired. This change in method of evaluating the recoverability of intangible assets will result in Quest Diagnostics recording a charge of between $400 million and $450 million coincident with the Quest Diagnostics Spin-Off Distribution to reflect the other than temporary impairment of intangible assets. This will result in a reduction of amortization expense of approximately $10 million to $11.3 million annually and $2.5 million to $2.8 million quarterly. See Note 15 to the Audited Quest Diagnostics Financial Statements. 57 In October 1995, the Financial Accounting Standards Board issued Statement No. 123, "Accounting for Stock- Based Compensation" ("SFAS 123"). This statement defines a fair value-based method of accounting for employee stock options and similar equity investments and encourages adoption of that method of accounting for employee stock compensation plans. However, it also allows entities to continue to measure compensation cost for employee stock compensation plans using the intrinsic value-based method of accounting prescribed by APB Opinion No. 25, "Accounting for Stock Issued to Employees" ("APB 25"). Entities which elect to continue accounting for stock compensation plans utilizing APB 25 are required to disclose pro forma net income and earnings per share, as if the fair value-based method of accounting under SFAS 123 had been applied. Quest Diagnostics intends to account for stock compensation plans pursuant to APB 25 and, as such, will include the pro forma disclosures required by SFAS 123 in the financial statements beginning in 1996. Inflation Quest Diagnostics believes that inflation generally does not have a material adverse effect on its operations or financial condition because substantially all of its contracts are short-term. 58 BUSINESS OF QUEST DIAGNOSTICS Overview Quest Diagnostics is one of the largest clinical laboratory testing companies in the United States, offering a broad range of routine and esoteric testing services used by the medical profession in the diagnosis, monitoring and treatment of disease and other medical conditions. Quest Diagnostics currently processes approximately 60 million requisitions each year. Quest Diagnostics is the successor by merger to MetPath Inc. ("MetPath"), a New York corporation organized in 1967. Corning acquired MetPath in 1982 and in 1992 merged MetPath into Quest Diagnostics, which had been organized in 1990 as a holding company for the clinical laboratory testing business and contract research business. In 1994, Quest Diagnostics expanded its presence in the esoteric testing market through the acquisition of Nichols Institute, now known as Corning Nichols Institute ("Nichols"), which is one of the leading esoteric clinical laboratories in the world. Upon the consummation of the Distributions, Corning Clinical Laboratories Inc. will adopt the name Quest Diagnostics Incorporated. Since its founding in 1967, Quest Diagnostics' clinical laboratory testing business has grown into a network of 17 regional laboratories across the United States, the Nichols esoteric testing laboratory in San Juan Capistrano, California and one branch laboratory in Mexico City. In addition, Quest Diagnostics has 14 smaller branch laboratories, approximately 200 "STAT" laboratories and approximately 850 patient service centers located throughout the United States. A substantial portion of this growth has resulted from acquisitions. See "--Acquisitions and Dispositions." Recent Organizational Changes Between 1990 and 1995, Corning tripled the size of its clinical laboratory testing business, principally through acquisitions. Historically, prior management pursued a strategy of growth through acquisitions, including diversification outside of the clinical laboratory testing business. As a result of difficult integrations and increased pricing pressures and regulatory complexity in the clinical testing industry, a new strategy was needed. In May 1995, Corning responded by appointing Kenneth Freeman, then an Executive Vice President of Corning, as President and Chief Executive Officer of Quest Diagnostics, who was charged with the responsibility to formulate a new strategy. Mr. Freeman has over 24 years of key financial and managerial experiences at Corning, including serving as the general manager of Corning's science products division and the President and Chief Executive Officer of Corning Asahi Video Products Company. Under Mr. Freeman's leadership, profitability of these operations increased. Mr. Freeman immediately suspended Quest Diagnostics' acquisition program. Under his direction, Quest Diagnostics began to refocus on its core clinical laboratory testing business and reorganize its senior management team. As a result, Quest Diagnostics is implementing the best practices in each region throughout Quest Diagnostics; standardizing processes and systems; analyzing the cost of serving various customers; intensifying efforts to correct persistent billing errors to both enhance customer satisfaction and reduce the cost of billing operations; enhancing its compliance program to audit and correct system defaults and to better train employees in the laws and rules governing the industry; and improving communications with employees by improving systems and the kind and amount of current information available to employees. Mr. Freeman revamped the senior management team by appointing four new senior executives and changing the responsibilities of five other senior executives. Additionally, approximately one-half of the existing laboratory facility general managers were replaced. Mr. Freeman also changed the management structure, appointing three of the senior executives to newly created key positions--Douglas VanOort, who will focus exclusively on laboratory operations, Don Hardison, who will focus on commercial activities, and Dr. Gregory Critchfield, who will lead the efforts in the science and medical areas and pursue innovations. All three report directly to Mr. Freeman. See "Management of Quest Diagnostics--Management-- Executive Officers of Quest Diagnostics." Quest Diagnostics believes that this new management structure will greatly enhance Quest Diagnostics' ability to pursue its business strategy. Mr. VanOort and the regional and facility operations leaders who report to him will focus their primary attention on laboratory operations, efficiencies and standardization. Mr. Hardison and the regional and local commercial leaders who report to him will develop and coordinate national, regional and local sales and marketing efforts, and will cultivate national and regional client relationships and provider 59 alliances. Dr. Critchfield will pursue scientific excellence in the laboratory as well as seek out, develop and assimilate those new tests and technologies that will differentiate Quest Diagnostics and propel its growth in the future. This three-prong management structure is designed to implement Quest Diagnostics' business strategy to make Quest Diagnostics the best supplier (i.e., lowest-cost, highest quality) of quality testing services; the preferred provider of fairly priced and useful health care services and information; and the industry's leading innovator of new clinical tests, methodologies and services. Business Strategy Quest Diagnostics' overall goal is to be recognized by its customers, employees and competitors as the best provider of comprehensive and innovative clinical testing, information and services. To achieve this, Quest Diagnostics has set several strategic goals and put in place organizational structures to implement them. Best Supplier. Quest Diagnostics seeks to be the best supplier of the highest quality and the lowest-cost testing services. Health care providers and patients expect accurate, timely and consistent laboratory test results at a fair price. (bullet) Lowest Cost Provider. Currently, approximately 28% of Quest Diagnostics' net revenues are from laboratories that Quest Diagnostics believes are the lowest cost providers in their respective markets. Management believes that these laboratories are the lowest cost providers in their respective markets based on its knowledge of such markets and information obtained in acquiring other laboratories. Quest Diagnostics currently receives approximately 60 million requisitions for testing each year. Currently, Quest Diagnostics' average cost per requisition varies significantly among its regional laboratories: an approximately $7.00 difference in cost per requisition between the most efficient regional laboratory and the average and an approximately $13.00 difference in cost per requisition between the most and the least efficient regional laboratories. In many cases, these variations do not relate to testing volumes or mixes, space costs, service requirements or regional labor cost differences. To reduce costs, Quest Diagnostics has begun to replicate the best practices from each region throughout its national network. Standardization of equipment and supplies, as well as leveraging of Quest Diagnostics' purchasing power, is also part of this strategy. While Quest Diagnostics' overall program of standardization is in a preliminary stage, Quest Diagnostics has already selected its standard clinical instruments and has selected its national vendors for laboratory supplies, temporary services and personal computers. Management expects to achieve significant cost savings within the next three years as these programs are fully implemented, the majority of which are expected to be achieved by the end of 1998. * (bullet) Highest Quality Provider. Quest Diagnostics is dedicated to providing accurate and timely testing results and to being viewed by its customers as the highest quality provider of clinical testing services. Quest Diagnostics believes that implementation of best practices already developed in certain regions will permit Quest Diagnostics to be viewed by its customers as the highest quality provider of clinical testing services. For example, as part of its best practices policy, Quest Diagnostics is identifying the most common service failures in each regional laboratory and establishing procedures to substantially reduce these service failures. Management believes that implementing these best practices will increase the level of quality while lowering costs.** Historically, Quest Diagnostics' experience has been that the regions with the highest quality of services have also had the lowest costs. Preferred Provider. Quest Diagnostics seeks to be the preferred provider of laboratory testing services to existing and new health care networks on a selective basis determined by profitability of accounts. Quest Diagnostics believes that it will become the preferred provider to these networks as (1) large networks typically prefer to utilize large independent clinical laboratories that can service them on a national or regional basis and (2) Quest Diagnostics continues to pursue its primary strategy of becoming the highest quality, lowest cost provider. To achieve this, Quest Diagnostics will employ a rigorous national and regional process to identify prospective customers and to efficiently allocate resources to support these efforts. Quest Diagnostics will also pursue innovative alliances and seek to assist its partners in achieving their business objectives. * This is a forward looking statement and is based on current expectations. sults may vary materially from those projected. See "--Important Factors Regarding Forward Looking Statements." In particular see factors (c), (d), (g) and (j). ** This is a forward looking statement and is based on current expectations. Actual results may vary materially from those projected. See "--Important Factors Regarding Forward Looking Statements." In particular see factors (b), (c), (d), (f) and (j). 60 (bullet) Account Profitability. Quest Diagnostics intends to refocus its sales efforts on pursuing and keeping profitable accounts. Quest Diagnostics is engaging in an active program with current accounts, including those with managed care organizations, to evaluate their profitability and either increase pricing or eliminate accounts that cannot be serviced profitably. Throughout the independent clinical laboratory industry, there are substantial differences in pricing among, as well as the cost of serving, various categories of payors and health care providers. Quest Diagnostics is beginning to provide clear pricing guidelines to its sales force and changing its commission structure so that compensation is tied to the profitability of (rather than revenues from) new business. Management expects to achieve significant benefits from these programs within the next three years, the majority of which are expected to be achieved by the end of 1998. * (bullet) Regional Profitability. Quest Diagnostics presently believes that it has the leading market share among independent clinical laboratories in most routine testing markets of the northeast, mid-Atlantic and midwest regions. Approximately 65% of Quest Diagnostics' revenues and almost all of its EBITDA is generated from markets in which Quest Diagnostics believes that it has the leading market share. In most of these markets, Quest Diagnostics believes that it also is the lowest cost provider. Quest Diagnostics is evaluating its strategic alternatives relative to units whose profitability does not meet its internal goals. These alternatives may include joint ventures, alliances, or dispositions. Quest Diagnostics believes that, while the clinical laboratory industry is becoming national in scope, Quest Diagnostics can subcontract with other clinical laboratories to perform testing for national accounts in any markets in which Quest Diagnostics chooses not to compete. Quest Diagnostics may also make selected local acquisitions where appropriate. Leading Innovator. Quest Diagnostics intends to remain a leading innovator in the clinical laboratory industry by continuing to introduce new tests, technology and services. Through its relationship with the academic community and pharmaceutical and biotechnology firms and a research and development budget exceeding $15 million per year, Quest Diagnostics believes it is one of the leaders in transferring innovation from academic biotechnology laboratories to the market. For example, Quest Diagnostics (through its subsidiary Nichols) has been informed by its licensors that it is currently the only independent clinical laboratory that is using both molecular signal amplification (branched DNA) and polymerase chain reaction (PCR) technologies for HIV testing. These technologies permit the detection of lower levels of HIV than can be achieved using other technologies, which in turn permits health care providers to better tailor drug therapies for HIV-infected patients. Nichols continues to be one of the leading esoteric testing laboratories in the world. Nichols serves approximately 2,000 of the country's estimated 6,400 hospitals and counts among its largest customers both LabCorp and SmithKline. Quest Diagnostics hopes to leverage Nichols' existing relationships with hospitals into increased routine testing to hospitals, which continue to perform over half of the clinical laboratory testing in the United States. The Clinical Laboratory Testing Industry Clinical testing is a critical component in the delivery of quality health care service to patients. Currently, clinical laboratory testing is the first step in determining how a significant amount of all health care dollars are spent. Laboratory tests and procedures are used generally by physicians and other health care providers to assist in the diagnosis, evaluation, monitoring and treatment of diseases and other medical conditions through the measurement and analysis of chemical and cellular components in blood, tissues and other specimens. Clinical laboratory testing is generally categorized as either clinical testing, which is performed on body fluids such as blood and urine, or anatomical pathology testing, which is performed on tissue and other samples, including human cells. Clinical and anatomical pathology procedures are frequently ordered as part of regular physician office visits and hospital admissions. Most clinical laboratory tests ordered by health care providers are considered "routine" and can be performed by most independent clinical laboratories, while "esoteric" tests (which generally require more sophisticated equipment, materials and personnel) are generally referred to laboratories, such as the Nichols facility in San Juan Capistrano, that specialize in such tests. Quest Diagnostics believes that in 1995 the entire United States clinical laboratory industry had revenues exceeding $30 billion. The clinical laboratory industry consists primarily of three types of providers: hospital- affiliated laboratories, independent clinical laboratories, such as those owned by Quest Diagnostics, and physician- - ------------- * This is a forward looking statement and is based on current expectations. Actual results may vary materially from those projected. See "--Important Factors Regarding Forward Looking Statements." In particular see factors (a), (b), (c), (d), (f) and (i). 61 office laboratories. Quest Diagnostics believes that in 1995 approximately 56% of the clinical testing revenues in the United States were attributable to hospital-affiliated laboratories, approximately 36% were attributable to independent clinical laboratories and approximately 8% were attributable to physicians in their offices and laboratories. Quest Diagnostics believes that consolidation will continue in the clinical laboratory testing business. In addition, Quest Diagnostics believes that it and the other large independent clinical laboratory testing companies may have the opportunity to increase their share of the overall clinical laboratories testing market due to a number of external factors including cost efficiencies afforded by large-scale automated testing, Medicare reimbursement reductions and the growth of managed health care entities which require low-cost testing services and large service networks. In addition, legal restrictions on physician referrals and the ownership of laboratories as well as increased regulation of laboratories are expected to contribute to the continuing consolidation of the industry. Quest Diagnostics believes that a number of factors are likely to positively influence the volume of clinical laboratory testing performed in the United States in the future, including (1) the general aging of the population in the United States; (2) an expanded base of scientific knowledge which has led to the development of more sophisticated specialized tests and an increase in the awareness of physicians of the value of clinical laboratory testing as a cost-effective means of early detection of disease and monitoring of treatment; (3) an increase in the number and types of tests which are, due to advances in technology and increased cost efficiencies, readily available on a more affordable basis to physicians; (4) expanded substance-abuse testing by corporations and governmental agencies; and (5) increased testing for sexually transmitted diseases such as AIDS. The impact of these factors is expected to be offset in part by increased controls over the utilization of clinical laboratory tests by both Medicare and the private sector, particularly managed care organizations. Quest Diagnostics believes that the clinical laboratory industry will continue to be subject to pricing pressures as a result of (1) continued growth of the managed care sector; (2) a shift toward capitated payment contracts within the managed care sector; and (3) decreases in Medicare reimbursement rates. In addition, increased regulatory requirements in the billing of Medicare are expected to result in reimbursement reductions and additional costs to clinical laboratory testing companies in the United States. Quest Diagnostics has formulated strategies to address these challenges. See "--Business Strategy." Services Quest Diagnostics' laboratory business is comprised of routine testing, which Quest Diagnostics management estimates currently generates approximately 88% of Quest Diagnostics' net revenues; and esoteric testing, which is performed at the Nichols facility in San Juan Capistrano and which Quest Diagnostics management estimates generates approximately 10% of Quest Diagnostics' net revenues. The balance of Quest Diagnostics' net revenues is derived principally from the manufacture of clinical laboratory test kits. Routine Testing Services and Operations. Routine tests, which are performed at Quest Diagnostics' regional laboratories, include procedures in the area of blood chemistry, hematology, urine chemistry, virology, tissue pathology and cytology. Commonly ordered individual tests include red and white blood cell counts, Pap smears, blood cholesterol level tests, AIDS-related tests, urinalyses, pregnancy tests, and alcohol and other substance-abuse tests. Routine test groups include tests to determine the function of the kidney, heart, liver and thyroid, as well as other organs, and several health screens that measure various important bodily health parameters. Quest Diagnostics provides services through 17 regional laboratories located in major metropolitan areas throughout the United States, as well as 14 branch laboratories, approximately 200 STAT laboratories and 850 patient service centers. Quest Diagnostics also operates a branch laboratory in Mexico. Regional laboratories offer a full line of routine clinical testing procedures. "STAT" laboratories are local laboratory facilities where Quest Diagnostics can quickly perform and report results of certain routine tests for customers that require such emergency testing services. "Branch laboratories" have a test menu that is smaller than that of regional laboratories but larger than that of STAT laboratories. A "patient service center" is a facility maintained by Quest Diagnostics, typically in or near a medical professional building, to which patients can be referred by physicians for specimen collection. Quest Diagnostics operates 24 hours a day, 365 days a year, utilizing a fully integrated collection and processing system. Quest Diagnostics generally performs and reports most routine procedures within 24 hours, employing a variety of sophisticated and computerized laboratory testing instruments. On an average work day, Quest Diagnostics processes approximately 220,000 requisitions. Quest Diagnostics provides daily pickup of specimens from most customers principally through an in-house courier system. The specimens are sent to one of Quest Diagnostics' laboratories (generally a regional or branch laboratory) where one or more tests are performed. 62 Each patient specimen is accompanied by a test requisition form, which is completed by the customer, that indicates the tests to be performed and provides the necessary billing information. Each specimen and related requisition form is checked for completeness and then given a unique bar-coded identification number. The unique identification number assigned to each specimen helps to assure that the results are attributed to the correct patient. The requisition form is sent to a data entry department where a file is established for each patient and the necessary testing and billing information is entered. Once this information is entered into the computer system, the tests are performed and the results are entered, primarily through computer interface or manually, depending upon the type of testing equipment involved. Most of Quest Diagnostics' computerized testing equipment is directly linked with Quest Diagnostics' information systems. Most routine testing is performed and completed during the evening following receipt of the specimens to be tested, and test results are readied for distribution the following morning either electronically or by service representatives. Many customers have local printer capability enabling laboratory medical reports to be printed in their offices. Customers who request that they be called with a result are so notified in the morning. It is Quest Diagnostics's policy to notify the customer immediately if a life-threatening result is found at any point during the course of the testing process. Esoteric Testing Services and Operations. Through Nichols, Quest Diagnostics operates one of the leading esoteric clinical testing laboratories in the world. Esoteric tests are performed in cases where the information provided by routine tests is not specific enough or is inconclusive as to the existence or absence of disease or when a physician requires more information. Typically, unlike routine testing, only one test is performed per requisition. The logistics for esoteric testing are similar to that for routine testing except that, due to the complexity of the testing, approximately 60% of the tests are performed within 24 hours, with almost all of the rest being performed within one week. During 1995 Nichols performed approximately 3.9 million esoteric tests, of which 77% were referred by sources other than Quest Diagnostics regional laboratories. Esoteric tests generally require more sophisticated equipment and materials as well as more highly skilled personnel to perform test procedures and analyze results than what is required for routine testing. Consequently, esoteric tests are generally priced substantially higher than routine tests. New medical discoveries lead to the development of new esoteric tests. However, over time esoteric tests may become routine tests as a result of improved technology or increased volume. The volume of esoteric tests required by most health care providers, including hospitals, is relatively low compared to the volume of routine tests. Because it is generally not cost effective for such health care providers to perform the low volume of esoteric tests in-house, a significant portion of esoteric tests are referred to clinical laboratories like Nichols that specialize in such tests. Some examples of esoteric testing procedures include capillary electrophoresis, cell culture technology, chemiluminescent immunoassays, certain enzyme immunoassays, flow cytometry, fluorescent in situ hybridization (FISH), inductively coupled plasma mass spectroscopy (ICPMS), molecular tissue pathology, molecular signal amplification (branched DNA), and polymerase chain reaction (PCR) technologies. Nichols's laboratory is comprised of 18 individual laboratory departments, which in the aggregate offer approximately 1,400 individual tests or "assays" in such fields as endocrinology, genetics, immunology, microbiology, molecular biology, oncology, serology, special chemistry and toxicology. Nichols believes that it has been one of the leaders in transferring technological innovation from academic biotechnology laboratories to the marketplace. Nichols was the first to introduce a number of esoteric tests, including immunoassay methods for measurement of circulating hormone levels and sensitive tests to predict breast cancer prognosis. Among more recent developments have been tests to detect a variety of tumor types, a common form of mental retardation, leukemia, cystic fibrosis, osteoporosis, hepatitis and neurological disorder and to monitor success of therapy in cancer and AIDS. The branched DNA and PCR technologies can be applied to a variety of infectious agents and permit the detection of lower levels of HIV than can be achieved under other technologies. The ability to measure the amount of HIV permits health care providers to better tailor drug therapies for HIV-infected patients. As part of its research and development efforts, Nichols maintains a relationship with the academic community through its Academic Associates program, under which approximately sixty scientists from academia and biotechnology firms work directly with Nichols's staff scientists to monitor and consult on existing test procedures and develop new esoteric test methods. In addition, Nichols relies on internal resources for the development of new tests as well as on license arrangements and co-development agreements with biotechnology companies and academic medical centers. Nichols also provides clinical laboratory testing in connection with pre-marketing clinical trials of pharmaceutical drugs. This testing is competitive with the testing performed by a subsidiary of Covance and is expected to continue in the future. Quest Diagnostics management estimates that net revenues from such testing accounted for less than 1% of Quest Diagnostics' net revenues in 1995. 63 Diagnostics. Through its Nichols Institute Diagnostics ("NID") subsidiaries, which were acquired as a result of the acquisition of Nichols Institute in August 1994, Quest Diagnostics manufactures and markets clinical laboratory kits primarily for esoteric testing. Test kits are sold principally to hospital and clinical laboratories. Customers and Payors Quest Diagnostics provides testing services to a broad range of health care providers. The primary types of customers served by Quest Diagnostics are as follows: Independent Physicians and Physician Groups. Physicians requesting testing for their patients who are unaffiliated with a managed care plan remain the principal source of Quest Diagnostics' clinical laboratory business. Fees for clinical laboratory testing services rendered for these physicians are billed either to the physician, to the patient, or to the patient's third-party payor such as insurance companies, Medicare and Medicaid. In four states, including New York and Michigan, Quest Diagnostics is required to bill patients directly. The clinical laboratory industry is supporting legislative efforts to expand direct patient billing. Billings are typically on a fee-for-service basis. If the billings are to the physician, they are based on the laboratory's wholesale or customer fee schedule and are typically subject to negotiation. Otherwise, the billings are based on the laboratory's retail or patient fee schedule, subject to limitations on fees imposed by third parties and to negotiation by physicians on behalf of their patients. Medicare and Medicaid billings are based on fee schedules set by governmental authorities. See "-- Regulation and Reimbursement." HMOs and Other Managed Care Groups. HMOs and other managed care organizations typically contract with a limited number of clinical laboratories and then designate the laboratory or laboratories to be used for tests ordered by their participating physicians. In an effort to control costs, the managed care groups generally negotiate discounts to the fees usually charged by such laboratories. Most testing for managed care organizations is being performed on a capitated basis. Under a capitated payment contract, the clinical laboratory and the managed care organization agree to a monthly payment per covered individual to cover all laboratory tests during the month, regardless of the number or cost of tests actually performed. Such contracts shift the risks of additional routine testing beyond that covered by the capitated payment to the clinical laboratory. In certain cases, however, the monthly payment may be subject to prospective or retroactive adjustment if the number of tests performed exceeds (or is less than) certain thresholds. The types of tests covered by capitated contracts are negotiated for each contract, with esoteric tests and anatomic pathology services generally not being covered under the capitation rate. Large regional and national HMOs and preferred provider organization networks typically prefer to utilize large independent clinical laboratories such as Quest Diagnostics that can service the managed care groups on a national or regional basis. See "--Effect of the Growth of the Managed Care Sector on the Clinical Laboratory Business." Hospitals. Quest Diagnostics serves approximately 3,000 hospitals with services that vary from providing esoteric testing to management contracts, where Quest Diagnostics manages the hospital's laboratory for a fee. Hospitals generally maintain an on-site laboratory to perform testing on patients receiving care and refer less frequently needed procedures to outside laboratories. Hospitals are typically charged for such tests a negotiated fee-for-service which is based on the laboratory's customer fee schedule. Some hospitals actively encourage community physicians to send their testing to the hospital's laboratory. In addition, some hospitals have been purchasing physician practices and requiring that the physicians/employees send their testing to the hospital's affiliated laboratory. As a result, hospital-affiliated laboratories can be both a customer and a competitor for independent clinical laboratories such as Quest Diagnostics. Other Institutions. Quest Diagnostics also serves other institutions, including governmental agencies, such as the Department of Defense and prison systems, large employers and independent clinical laboratories that do not have the full range of Quest Diagnostics' testing capabilities. These institutions are typically charged on a negotiated or bid fee-for- service basis. Quest Diagnostics' services to employers principally involve the provision of substance abuse testing services. In 1995, no single customer or affiliated group of customers accounted for more than 2% of Quest Diagnostics' net revenues. Quest Diagnostics believes that the loss of any one of its customers would not have a material adverse effect on Quest Diagnostics' results of operations or cash flows. Payors. Most clinical laboratory testing is billed to a party other than the "customer" that ordered the test. Tests performed for various patients of a single physician may be billed to different payors besides the ordering physician, including third-party payors (generally an insurance company or managed care organization), Medicare, Medicaid or the patient. 64 The following table sets forth current estimates of the breakdown by payor of Quest Diagnostics' total volume of requisitions and average approximate revenues per requisition:
Requisition Volume as % of Total Revenue Per Requisition ------------------- ------------------------ Patient 5%-10% $60-$80 Medicare & Medicaid 20%-25% $20-$25 Monthly Bill (Physician, Hospital, Employer, Other) 35%-40% $15-$35 Third Party Fee-For-Service 15%-20% $30-$40 Managed Care--Capitated 15%-20% $ 5-$15
For a discussion of the mix shift and the impact of the managed care sector on volume and price trends, see "--Effect of the Growth of the Managed Care Sector on the Clinical Laboratory Business." Average Revenue per Requisition Trends. Since the fourth quarter of 1995, declines in Quest Diagnostics' average revenue per requisition have moderated. Average revenue per requisition for the quarter ended September 30, 1996 was approximately 1.7% below the comparable period in 1995. This decline in revenue per requisition was smaller than the approximate 4.8% and 3.6% decline experienced in the first and second quarters of 1996, respectively. Since August of 1995, the company-wide average revenue per requisition has remained relatively stable and is effectively unchanged during the first three quarters of 1996. This trend is illustrated by the following chart: [REPRESENTATION OF A LINE CHART GRAPHIC] Average Revenue per Requisition as a Percentage of December 1994 Revenue per Requisition Q1/95 98.6 Q2/95 97.6 Q3/95 95.8 Q4/95 95.1 Q1/96 93.9 Q2/96 94.1 Q3/96 94.2 Sales and Marketing Quest Diagnostics markets and services its customers through its direct sales force of approximately 430 sales representatives, 300 account representatives and 2,200 couriers. Most sales representatives market the mainstream or traditional routine laboratory services primarily to physicians, while others concentrate on individual market segments, such as hospitals or managed care organizations, or on testing niches, such as substance abuse testing. Quest Diagnostics' sales representatives are compensated through a combination of salaries, commissions and bonuses, at levels commensurate with each individual's qualifications and responsibilities. Commissions are based primarily upon the individual's results in generating new business for Quest Diagnostics. Quest Diagnostics is currently changing its commission structure so that compensation is tied to the profitability of (rather than revenues from) new business. See "--Business Strategy--Preferred Provider." Quest Diagnostics' account representatives interact with customers on an ongoing basis. Account representatives monitor the status of services being provided to customers, act as problem-solvers, provide information on new testing developments and serve as the customer's regular point of contact with Quest Diagnostics. Account representatives are compensated with a combination of salaries and bonuses commensurate with each individual's qualifications and responsibilities. Quest Diagnostics believes that the clinical laboratory service business is shifting away from the traditional direct sales structure and into one in which the purchasing decisions for laboratory services are increasingly made 65 by managed care organizations, integrated health delivery systems, insurance plans, employers and by patients themselves. In view of these changes, Quest Diagnostics has completed a rigorous regional market strategy process and has reorganized its sales and marketing organization structure to support these strategies and emerging customers. Quest Diagnostics believes that, given the increasing regulation and complexity of the clinical laboratory marketplace, training of its sales force is of paramount importance. With this goal in mind, during 1995 Quest Diagnostics enhanced its comprehensive sales training program and compliance training. See "--Compliance Program." Effect of the Growth of the Managed Care Sector on the Clinical Laboratory Business The managed care industry is growing as well as undergoing rapid consolidation which has created large managed care companies that control the delivery of health care services for millions of people, and have significant bargaining power in negotiating fees with health care providers, including clinical laboratories. Quest Diagnostics believes that there are potential opportunities for large, low-cost, clinical laboratories such as Quest Diagnostics to capture additional testing volume from managed care organizations. The larger regional and national managed care organizations typically prefer to utilize large independent clinical laboratories, like Quest Diagnostics, that can service their organizations on a national or a regional basis. In addition, smaller laboratories are unlikely to be able to achieve the low cost structures necessary to profitably service managed care organizations. The growth of the managed care sector presents various challenges to independent clinical laboratories, including Quest Diagnostics. Managed care organizations typically negotiate capitated payment contracts, whereby the clinical laboratory receives a monthly fee per covered individual. The fixed monthly payment generally covers all laboratory tests (excluding certain tests, such as esoteric tests and anatomic pathology services) performed during the month, regardless of the number or cost of the tests performed. Unlike fee-for-service indemnity insurance, such contracts shift the risks of additional routine testing beyond that covered by the capitated payment to the clinical laboratory. In certain cases, however, the monthly payment may be subject to prospective or retroactive adjustment if the number of tests performed exceeds (or is less than) certain thresholds. Quest Diagnostics expects the amount of clinical laboratory testing performed for managed care organizations under capitated rate agreements to continue to grow. Laboratory services agreements with managed care organizations have historically been priced aggressively due to competitive pressures and the expectation that a laboratory would capture not only the volume of testing to be covered under the contract, but also the additional fee-for-service business from patients of participating physicians who are not covered under the managed care plan. However, as the number of patients covered under managed care plans continues to increase, there is less such fee-for-service business and, accordingly, less high margin business to offset the low margin (and often unprofitable) managed care business. Furthermore, increasingly, physicians are affiliated with more than one managed care organization and as a result may be required to refer clinical laboratory tests to different clinical laboratories, depending on the coverage of their patients. As a result, a clinical laboratory might not receive any fee-for-service testing from such physicians. The level of pricing charged to managed care organizations, including under capitated payment contracts, if continued, may adversely affect the pricing of the clinical laboratory industry. During the nine months ended September 30, 1996, services to managed care organizations under capitated rate agreements accounted for approximately 6% of Quest Diagnostics' net revenues from clinical laboratory testing and approximately 15% of the number of tests performed by Quest Diagnostics. Quest Diagnostics believes that the prices charged by the independent clinical laboratory testing companies to managed care organizations can and must be increased. Quest Diagnostics is currently reviewing its pricing structures for agreements with managed care organizations and intends to insure that all such agreements are profitably priced. However, there can be no assurance that Quest Diagnostics will be able to increase the prices charged to managed care organizations or that Quest Diagnostics will not lose market share in the managed care market to other clinical laboratories who continue to aggressively price laboratory services agreements with managed care organizations. Quest Diagnostics believes that the growth of the managed care sector presents both challenges and opportunities. Quest Diagnostics, as part of its preferred provider strategy, will seek to capitalize on the opportunity and meet the challenge by seeking to secure large-volume, profitable managed care contracts through providing low cost, high quality testing services at rational prices. 66 Expansion Opportunities Quest Diagnostics believes that there are several expansion opportunities. Quest Diagnostics believes that it can take advantage of these opportunities without incurring significant capital expenditures or deploying significant resources. Hospital Alliances. In response to the growth of the managed care sector and the developments described under "--Effect of the Growth of the Managed Care Sector on the Clinical Laboratory Business," many health care providers have established new alliances. Hospital-physician networks are emerging in many markets in order to offer comprehensive, integrated service capabilities, either to managed care plans or directly to employers. Since Quest Diagnostics has traditionally derived a substantial portion of its esoteric testing revenues from referrals from hospitals, which perform approximately half of all clinical laboratory tests in the United States, Quest Diagnostics established a hospital business venture group whose primary goal is to develop additional nontraditional hospital arrangements, including management and consulting agreements, shared service arrangements and joint ventures. Under federal cost containment legislation enacted in 1985, treatment provided to hospital inpatients covered by Medicare is classified into diagnosis-related groups ("DRGs") which prescribe the maximum reimbursable payments for all services, including laboratory testing services, provided on behalf of an inpatient under each DRG. As a result of this payment structure, and similar price constraints from managed care organizations and other third- party payors, hospitals have an economic incentive to seek the most cost-effective laboratory testing services for their patients. Quest Diagnostics believes that in many cases, by managing a hospital laboratory or entering into a joint venture with a hospital, Quest Diagnostics can improve a hospital laboratory's economic structure and preserve hospital capital that would be required for needed laboratory improvements while providing accurate and timely testing services due to greater economies of scale, increased utilization of expensive testing and data processing equipment through optimization of the mix between on-site and off-site testing and more efficient use of laboratory employees. Quest Diagnostics has several such arrangements with hospitals, including a joint venture with two hospitals in Erie, Pennsylvania that performs outreach testing and a management agreement with a group of approximately 25 hospitals in eastern Nebraska and Sioux City, Iowa. These two laboratory arrangements, which provide testing for both the hospitals and the commercial outreach markets in their geographical areas, serve as two of Quest Diagnostics' laboratory facilities. Quest Diagnostics also manages the laboratories at several hospitals in the eastern United States. However, despite the potential cost savings and additional revenues available to hospitals through such arrangements, Quest Diagnostics believes that only a small percentage of the hospitals in the United States have entered into such arrangements with independent clinical laboratories. Nonetheless, Quest Diagnostics expects to enter into alliances with various hospitals in the future and believes that this market has potential. As an alternative service for hospitals that are entering into integrated delivery systems, Quest Diagnostics is beginning to market consulting support and technical solutions for integrating diverse laboratory infrastructures, systems and data. Employer Market. Quest Diagnostics is considering expanding its business in the employer market to include the provision of laboratory services to large employers on a basis comparable to that offered to managed care organizations, whereby laboratory services paid under self-insured indemnity plans may be relatively fixed (rather than on a fee-for-service basis). These services could be offered in alliance with other service providers, including pharmaceutical benefits and diagnostic imaging services. Quest Diagnostics recently organized National Imaging Associates Inc. ("NIA"), a company offering diagnostic imaging benefit management services to employers, payors and managed care organizations. NIA seeks to carve out the imaging component of a health care plan service offering and manage it at lower cost through utilization controls and provider price concessions. Medical Information. The market need for medical information, particularly disease-specific information about provider practices and patient care, is growing rapidly. Large customers of clinical laboratories are increasingly interested in using information from clinical laboratory data on their covered population to answer financial, marketing and quality related questions. Integrated data from clinical laboratories and other health encounters provides additional insights to these questions. To meet these emerging needs, Quest Diagnostics created the Medical Informatics ("Medical Informatics") division which focuses solely on the medical information needs of managed care organizations, integrated healthcare delivery networks and other large customers. Through internal development, Quest Diagnostics now has a portfolio of information products based primarily upon its extensive database. A combination of advanced information technology and experienced analytical and data integration skills provides the platform for delivery of these products. 67 As market interest has increased, the Medical Informatics division has devoted experienced account executives to work with customers to meet their information needs. Current information products include provider profiles and benchmarks, high-risk patient registries based on customer disease management initiatives, normative comparisons with other populations, and quantitative clinical outcomes based on laboratory measures. Quest Diagnostics believes that health care customers will increasingly see value in the information obtained from clinical laboratory results. Information Systems The need for information systems to support laboratory, billing, customer service, logistics, medical data, and other business requirements is significant and will continue to place high demands on Quest Diagnostics' information systems staff. Quest Diagnostics has historically not standardized the billing, laboratory and other information systems at laboratories that it has acquired. As a result, Quest Diagnostics has numerous different information systems to handle billing, test result reporting and financial data and transactions. Quest Diagnostics believes that the efficient handling of information involving customers, patients, payors, and other parties will be critical to Quest Diagnostics' future success. To this end, Quest Diagnostics has chosen standard billing and laboratory systems. During the third quarter of 1996, Quest Diagnostics recorded a charge of $13.7 million to write off capitalized software as a result of its decision to abandon the billing system which had been intended as its company-wide billing system. Management now plans to standardize using a SYS billing system which has already been implemented in seven of its 22 billing sites, which seven sites account for 35% of Quest Diagnostics' net revenues. The standard laboratory system is already operational in nine of its 22 billing sites, which account for 30% of Quest Diagnostics' net revenues. Such sites are not necessarily the same sites as those with standard billing systems. Quest Diagnostics is beginning to convert the remaining nonstandard billing and laboratory systems to the standard systems, prioritized on an impact basis. The most critical conversions will be completed within three years. The New York/New Jersey (Teterboro) laboratory is the first priority and is expected to be converted by early 1998. The conversion costs are expected to average approximately $3 million per billing system and $1 million to $3 million per laboratory system. As more billing sites are converted to the standard billing system, consolidation of billing sites is expected to occur, which will reduce overall conversion costs and improve billing efficiencies. Quest Diagnostics anticipates that the cost of converting all billing and laboratory systems to the standard systems over the next several years will cost between approximately $55 million and $85 million, depending on the number of billing consolidations that occur.* Quest Diagnostics does not anticipate that the conversion costs will result in a significant increase in capital expenditures over the levels spent during the last several years. Quest Diagnostics is developing systems that will permit managed care organizations and other providers to have electronic access to test orders and results for participating physicians, which will permit managed care organizations to better monitor and control the utilization of testing services. Billing Billing for laboratory services is a complicated process. Laboratories must bill different payors such as doctors, patients, insurance companies, Medicare, Medicaid and employer groups, all of whom have different billing requirements. Quest Diagnostics believes that less than 30% of its bad debt expense is attributable to specific credit or payment issues of its customers. The remainder of the bad debt expense is the result of many non-credit related issues which slow the billing process, create backlogs of unbilled requisitions and generally increase the aging of accounts receivable. A primary cause of bad debt expense is missing or incorrect billing information on requisitions. Typically approximately one-third of the requisitions that Quest Diagnostics receives either do not provide all the necessary data or provide incorrect data. Quest Diagnostics believes that this experience is similar to that of its primary competitors. Quest Diagnostics performs the requested tests and reports back the test results regardless of whether billing information has been provided at all or has been provided incorrectly. Quest Diagnostics subsequently attempts to obtain any missing information or rectify any incorrect billing information received from the health care provider. Among the many other factors complicating the billing process are pricing differences between the fee schedules of Quest Diagnostics and the payor, disputes between payors as to the party responsible - ------------- * This is a forward looking statement and is based on current expectations. Actual results may vary materially from those projected. See "--Important Factors Regarding Forward Looking Statements." In particular see factors (d), (j) and (k). 68 for payment of the bill and auditing for specific compliance issues. Ultimately, if all issues are not resolved in a timely manner, the related receivables are written off to bad debt expense. Quest Diagnostics' bad debt expense has increased each year since 1993 due principally to four developments that have further complicated the billing process: (1) increased complexity in the health care system; (2) increased requirements in complying with fraud and abuse regulations; (3) deterioration in reimbursement as the payor mix shifts; and (4) changes in Medicare reimbursement policies. These four factors have placed additional requirements on the billing process, including the need for specific test coding, additional research on processing rejected claims that comply with prior practices, increased audits for compliance, and management of a large number of contracts which have very different information requirements for pricing and reimbursement. See "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics." Quest Diagnostics' billing has also been hampered by the existence of multiple billing information systems. In 1995 Quest Diagnostics had severe billing problems at its largest laboratory site in Teterboro, New Jersey. A new billing information system developed with outside consultants experienced significant implementation problems, including excessive downtime, which severely impacted Quest Diagnostics' ability to efficiently bill for its services from the Teterboro location. The problem was compounded by a lack of experienced staff as the result of work force reductions made to meet cost reduction initiatives undertaken in anticipation of greater efficiencies from the new billing information system. As a result of all of these factors, Quest Diagnostics recorded a charge to bad debt of $62 million in the third quarter of 1995. Of this amount approximately $34 million was attributable to its Teterboro location. At the time of the charge, the backlog of unbilled requisitions was estimated at over 2 million requisitions and DSOs for the clinical testing business were 90 days. In addition, significant backlogs existed in (1) reconciling cash received to payment of specific bills, (2) rejected claims that needed to be researched and (3) correspondence from customers attempting to resolve billing problems. Integration of a standardized billing system is a priority of Quest Diagnostics and Quest Diagnostics is in the process of integrating a billing system with proven reliability throughout its network. The SYS system is in use at seven of Quest Diagnostics' laboratories. Its reliability is evidenced by both the improvement in the laboratories' bad debt experience after SYS was implemented and the improved capability to handle new billing requirements as compared with non-SYS laboratories, such as Teterboro. For example, bad debt expense for the nine months ended September 30, 1996 for the combined SYS laboratories is 6.4% of sales, versus 7.1% for all other laboratories combined. The use of a standard system will also provide for operational efficiencies as redundant programming efforts are eliminated and the ability to consolidate billing sites will become more feasible. See "--Information Systems." Standardizing billing systems presents conversion risk to Quest Diagnostics as key databases and masterfiles are transferred to the SYS system and because the billing workflow is interrupted during the conversion, which may cause backlogs. Quest Diagnostics, however, has already completed seven conversions to this system and has retained key people who have been involved in those conversions. Quest Diagnostics has focused on improving its billing operations in the last year. Over the last twelve months, the backlog of unbilled requisitions has been reduced by approximately 30%, DSOs for the clinical testing business have been reduced to 74 days, bad debt expense as a percentage of net revenues has decreased, the percentage of requisitions received with missing billing information has been reduced by approximately 30% and backlogs in rejected claims, unapplied cash and customer correspondence have been significantly reduced. These improvements were achieved in spite of a higher level of information requirements necessary for correct billing, especially those bills relating to Medicare. However, additional requirements to provide documentation of the "medical necessity" of testing have added to the backlog of unbilled receivables and caused third quarter 1996 bad debt expense as a percentage of revenues to increase above the rate Quest Diagnostics had experienced during the first two quarters of 1996. See "--Regulation and Reimbursement--Regulation of Reimbursement for Clinical Laboratory Services." Acquisitions and Dispositions MetPath, Quest Diagnostics' predecessor, originally commenced operations in 1967 with laboratories only in the New York metropolitan area. Most of Quest Diagnostics' other regional laboratories have been added through acquisitions. Principally as the result of the acquisitions discussed below that were completed in 1993 and 1994, Quest Diagnostics' revenues have almost tripled since 1991. However, this increase in revenues is not reflected in the Quest Diagnostics Financial Statements because several of the major acquisitions are accounted for as a pooling of interests. Acquisition activity has diminished significantly since May 1995, in part so that Quest Diagnostics could concentrate on the integration of the laboratory networks that had been acquired in 1993 and 1994. Quest Diagnostics may resume making acquisitions in the future, most likely focusing on acquisitions of 69 smaller laboratories that can be folded into existing laboratories where Quest Diagnostics can expect to achieve significant cost savings and other benefits resulting from the elimination of redundant facilities and equipment and reductions in staffing or personnel. Quest Diagnostics is evaluating its strategic alternatives relative to units whose profitability does not meet its internal goals. These alternatives may include joint ventures, alliances or dispositions. However, there are no negotiations or definitive plans with respect to any such dispositions. During 1994 Corning acquired three large clinical laboratory testing companies, each of which was accounted for as a pooling of interests. In June 1994, Corning acquired Maryland Medical Laboratory, Inc. ("MML"), a regional laboratory based in Baltimore, Maryland with approximately $90 million in annual revenues. In August 1994, Corning acquired the stock of Nichols Institute, a national esoteric clinical laboratory with approximately $280 million in annual revenues. In October 1994, Corning acquired Bioran, a regional laboratory based in Cambridge, Massachusetts with approximately $65 million in annual revenues. In August 1993, Corning acquired Damon, a national clinical testing laboratory with approximately $330 million in annualized revenue. The acquisition was accounted for as a purchase. The assets of Damon's California- based laboratories were sold in April 1994 to Physicians Clinical Laboratory Inc. In November 1993, Quest Diagnostics acquired the clinical testing laboratories of Unilab in Dallas, Denver and Phoenix, in exchange for Quest Diagnostics' then 43% ownership of Unilab and the assumption of approximately $70 million of indebtedness of Unilab. In a separate transaction, Quest Diagnostics transferred to Unilab Quest Diagnostics' investment in J.S. Pathology PLC, a clinical testing laboratory based in the United Kingdom, in exchange for a small equity interest in Unilab. Quest Diagnostics currently owns approximately 4% of Unilab's outstanding common stock. In May 1993, Corning acquired and contributed to Quest Diagnostics DeYor Laboratory Inc., a regional laboratory based in Ohio, Pennsylvania and Tennessee with approximately $20 million of annual revenues. This transaction was accounted for under the pooling of interests method, although Quest Diagnostics' consolidated financial statements for prior periods have not been restated since this acquisition is not material. See Note 3 to the Audited Quest Diagnostics Financial Statements. In addition to the acquisitions discussed above, since January 1993 Quest Diagnostics has acquired approximately 25 other smaller clinical laboratories and customer lists, principally in assets acquisitions. Only one such acquisition has been completed since May 1995. Competition The clinical laboratory testing business is intensely competitive. Quest Diagnostics believes that in 1995 the entire United States clinical laboratory testing industry had revenues exceeding $30 billion; approximately 56% of such revenues were attributable to hospital-affiliated laboratories, approximately 36% were attributable to independent clinical laboratories and approximately 8% were attributable to physicians in their offices and laboratories. As recently as 1993, there were seven laboratories that provided clinical laboratory testing services on a national basis: Quest Diagnostics, SmithKline, National Health Laboratories Inc. ("NHL"), Roche Biomedical Laboratories Inc. ("Roche"), Damon, Allied Clinical Laboratories Inc. ("Allied") and Nichols Institute. In April 1995 Roche merged into NHL (under the name LabCorp), which had acquired Allied in June 1994. Quest Diagnostics acquired Nichols Institute in August 1994 and Damon in August 1993. In addition, in the last several years a number of large regional laboratories have been acquired by national clinical laboratories. There are presently three national independent clinical laboratories: Quest Diagnostics, which had approximately $1.63 billion in revenues from clinical laboratory testing in 1995; LabCorp, which had approximately $1.68 billion in revenues from clinical laboratory testing in 1995 on a pro forma basis, after giving effct to the April 1995 merger of Roche into NHL; and SmithKline, which had approximately $1.29 billion in revenues from clinical laboratory testing in 1995. Both LabCorp and SmithKline are affiliated with large corporations that have greater financial resources than Quest Diagnostics. SmithKline is wholly owned by SmithKline Beecham Ltd. and R. Hoffman La Roche S.A. beneficially owns approximately 49.9% of the outstanding capital stock of LabCorp. In addition to the three national clinical laboratories, Quest Diagnostics competes on a regional basis with many smaller regional independent clinical laboratories as well as laboratories owned by hospitals and physicians. Quest Diagnostics has the leading market share in most of the northeast, mid-Atlantic and midwest routine testing markets, while its market share is much lower in the routine testing market in the rest of the country. Approximately 65% of Quest Diagnostics' net revenues and almost all of its EBITDA currently is generated from markets in which Quest Diagnostics believes that it has the largest market share. In most of these markets Quest Diagnostics believes that it also is the lowest cost provider. Quest Diagnostics does not generally compete in the California routine testing market other than in the San Diego metropolitan area. 70 Quest Diagnostics believes that the following factors, among others, are often used by health care providers in selecting a laboratory: (i) pricing of the laboratory's testing services; (ii) accuracy, timeliness and consistency in reporting test results; (iii) number and type of tests performed; (iv) service capability and convenience offered by the laboratory; and (v) its reputation in the medical community. Quest Diagnostics believes that it competes favorably with its principal competitors in each of these areas and is currently implementing strategies to improve its competitive position. See "--Business Strategy." Quest Diagnostics believes that consolidation will continue in the clinical laboratory testing business. In addition, Quest Diagnostics believes that it and the other large independent clinical laboratory testing companies will be able to increase their share of the overall clinical laboratories testing market due to a number of external factors including cost efficiencies afforded by large-scale automated testing, Medicare reimbursement reductions and the growth of managed health care entities which require low-cost testing services and large service networks. In addition, legal restrictions on physician referrals and the ownership of laboratories as well as increased regulation of laboratories are expected to contribute to the continuing consolidation of the industry. Quality Assurance Quest Diagnostics maintains a comprehensive quality assurance program for all of its laboratories and patient service centers. The goal is to ensure optimal patient care by continually improving the processes used for collection, storage and transportation of patient specimens, as well as the precision and accuracy of analysis and result reporting. The Quest Diagnostics quality assurance efforts focus on: proficiency testing, process audits, statistical process control, credentialing and personnel training. Internal Quality Control and Audits. Quality control samples are processed in parallel with the analysis of patient specimens. The results of tests on such samples are then monitored to identify drift, shift or imprecision in the analytical processes. In addition, Quest Diagnostics administers an extensive internal program of "blind" proficiency testing. These samples are processed through the Quest Diagnostics system as routine patient samples, unknown to the laboratory as quality control samples. Samples are then handled, processed and reported with patient specimens. This provides a system to assure accuracy of the entire pre- and post-analytical testing process. Another element of the Quest Diagnostics comprehensive quality assurance program includes performance of internal process audits. External Proficiency Testing and Accreditation. All Quest Diagnostics laboratories participate in numerous externally conducted, blind sample quality surveillance programs. These include proficiency testing programs administered by the College of American Pathologists ("CAP"), as well as many state agencies. These programs supplement all other quality assurance procedures. All Quest Diagnostics laboratories are accredited by CAP. Accreditation includes on-site inspections and participation in the CAP Proficiency Test Program. CAP is an independent nongovernmental organization of board certified pathologists that offers an accreditation program to which laboratories may voluntarily subscribe. CAP is approved by HCFA to inspect clinical laboratories to determine compliance with the standards required by the Clinical Laboratory Improvement Amendments of 1988 ("CLIA"). Regulation and Reimbursement Overview. The clinical laboratory industry is subject to significant governmental regulation at the federal and state levels. All Quest Diagnostics laboratories and patient service centers are appropriately licensed and accredited by various state and federal agencies. The health care industry is undergoing significant change as third-party payors, such as Medicare (which principally serves patients 65 and older), Medicaid (which principally serves indigent patients), private insurers and large employers increase their efforts to control the cost, utilization and delivery of health care services. In an effort to address the problem of increasing health care costs, legislation has been proposed or enacted at both the federal and state levels to regulate health care delivery in general and clinical laboratories in particular. Some of the proposals include managed competition, global budgeting and price controls. Although the Clinton Administration's health care reform proposal, initially advanced in 1994, was not enacted, such proposal or other proposals may be considered in the future. In particular, Quest Diagnostics believes that reductions in reimbursement for Medicare services will continue to be implemented from time to time. Reductions in the 71 reimbursement rates of other third-party payors are likely to occur as well. Quest Diagnostics cannot predict the effect health care reform, if enacted, would have on its business, and there can be no assurance that such reforms, if enacted, would not have a material adverse effect on Quest Diagnostics' business and operations. Regulation of Clinical Laboratory Operations. The CLIA standards were designed to ensure that all clinical laboratory testing services are uniformly accurate and of high quality by using a single set of requirements. On February 28, 1992, the final rules implementing CLIA were published in the Federal Register. These regulations extended federal oversight, with few exceptions, to virtually all clinical laboratories regardless of size, type, location or ownership of the laboratory. The regulations generally became effective in 1992. However, certain quality control and proficiency testing requirements are still being phased in. The standards for laboratory personnel, quality control, quality assurance and patient test management are based on complexity and risk factors. Laboratories categorized as "high" complexity are required to meet more stringent requirements than either "moderate" or "waived" (tests regarded as having a low potential for error and requiring little or no oversight) laboratories. Most of the Quest Diagnostics laboratories are categorized as high complexity and these laboratories are in compliance with the more stringent standards for personnel, quality control, quality assurance and patient test management. A few Quest Diagnostics laboratories are categorized as moderate complexity (some STAT laboratories) or waived (only patient service centers). The sanction for failure to comply with these regulations may be suspension, revocation or limitation of a laboratory's CLIA certificate necessary to conduct business, significant fines or criminal penalties. The loss of a license, imposition of a fine or future changes in such federal, state and local laws and regulations (or in the interpretation of current laws and regulations) could have a material adverse effect on Quest Diagnostics. Quest Diagnostics is also subject to state regulation. CLIA permits states to adopt regulations that are more stringent than federal law. For example, state law may require that laboratory personnel meet certain more stringent qualifications, specify certain quality control standards, maintain certain records and undergo additional proficiency testing. For example, certain of Quest Diagnostics' laboratories are subject to the State of New York's clinical laboratory regulations, which contain provisions that are significantly more stringent than federal law. Quest Diagnostics believes it is in material compliance with the foregoing standards. See "--Compliance Program." Drug Testing. Drug testing for public sector employees is regulated by the Substance Abuse and Mental Health Services Administration ("SAMHSA") (formerly the National Institute on Drug Abuse), which has established detailed performance and quality standards that laboratories must meet in order to be approved to perform drug testing on employees of federal government contractors and certain other entities. To the extent that Quest Diagnostics' laboratories perform such testing, each must be certified by HHS as meeting SAMHSA standards. Seven of Quest Diagnostics' laboratories are SAMHSA certified. Controlled Substances. The use of controlled substances in testing for drug abuse is regulated by the federal Drug Enforcement Administration ("DEA"). All Quest Diagnostics laboratories using controlled substances for testing purposes are licensed by the DEA. Medical Wastes and Radioactive Materials. Quest Diagnostics is subject to licensing and regulation under federal, state and local laws relating to the handling and disposal of medical specimens and hazardous waste and radioactive materials as well as to the safety and health of laboratory employees. All Quest Diagnostics laboratories are operated in material compliance with applicable federal and state laws and regulations relating to disposal of all laboratory specimens. Quest Diagnostics utilizes outside vendors for disposal of specimens. Although Quest Diagnostics believes that it is currently in compliance in all material respects with such federal, state and local laws, failure to comply could subject Quest Diagnostics to denial of the right to conduct business, fines, criminal penalties and other enforcement actions. Occupational Safety. In addition to its comprehensive regulation of safety in the workplace, the federal Occupational Safety and Health Administration ("OSHA") has established extensive requirements relating to workplace safety for health care employers, including clinical laboratories, whose workers may be exposed to blood- borne pathogens such as HIV and the hepatitis B virus. These regulations, among other things, require work practice controls, protective clothing and equipment, training, medical follow-up, vaccinations and other measures designed to minimize exposure to chemicals and transmission of blood-borne and airborne pathogens. Specimen Transportation. Regulations of the Department of Transportation, the Public Health Service and the Postal Service apply to the surface and air transportation of clinical laboratory specimens. 72 Regulation of Reimbursement for Clinical Laboratory Services. Containment of health care costs, including reimbursement for clinical laboratory services, has been a focus of ongoing governmental activity. In 1984, Congress established a Medicare fee schedule for clinical laboratory services performed for patients covered under Part B of the Medicare program. Subsequently, Congress imposed a national ceiling on the amount that would be paid under the Medicare fee schedule. Laboratories must bill the program directly and must accept the scheduled amount as payment in full for most tests performed on behalf of Medicare beneficiaries. In addition, state Medicaid programs are prohibited from paying more (and in most instances, pay significantly less) than the Medicare fee schedule for clinical laboratory testing services furnished to Medicaid recipients. In 1995, Quest Diagnostics derived approximately 20% and 3% of its net revenues from tests performed for beneficiaries of Medicare and Medicaid programs, respectively. Since 1984, Congress has periodically reduced the ceilings on Medicare reimbursement to clinical laboratories from previously authorized levels. In 1993, pursuant to the Omnibus Budget and Reconciliation Act of 1993 ("OBRA '93"), Congress reduced, effective January 1, 1994, the Medicare national fee schedule limitations from 88% of the 1984 national median to 76% of the 1984 national median, which reductions were phased in from 1994 through 1996 (to 84% in 1994, 80% in 1995 and 76% in 1996, in each case as a percentage of the 1984 national median). The 1996 reduction to 76% was implemented as scheduled on January 1, 1996. OBRA '93 also eliminated the provision for annual fee schedule increases based upon the consumer price index for 1994 and 1995. Medicare reimbursement reductions have a direct adverse effect on Quest Diagnostics' net earnings and cash flows. Quest Diagnostics cannot predict if additional Medicare reductions will be implemented. The Senate and House Medicare proposal (the Medicare Preservation Act of 1995) passed in October 1995 would have reduced the national limitation to 65% beginning in 1997 and would have eliminated all annual consumer price index adjustments through 2002. This reduction in laboratory reimbursement rates was retained in the House-Senate conference report agreed upon in November 1995. The President vetoed this bill in December 1995. Effective January 1, 1996, HCFA adopted a new policy on reimbursement for chemistry panel tests. As of January 1, 1996, 22 automated tests (rather than 19 tests) became reimbursable by Medicare as part of an automated chemistry profile. An additional allowance of $0.50 per test is authorized when more than 19 tests are billed in a panel. HCFA retains the authority to expand in the future the list of tests included in a panel. Effective as of March 1, 1996, HCFA eliminated its prior policy of permitting payment for all tests contained in an automated chemistry panel when at least one of the tests in the panel is medically necessary. Under the new policy, Medicare payment will not exceed the amount that would be payable if only the tests that are "medically necessary" had been ordered. In addition, since 1995 most Medicare carriers have begun to require clinical laboratories to submit documentation supporting the medical necessity, as judged by ordering physicians, for many commonly ordered tests. Quest Diagnostics expects to incur additional reimbursement reductions and additional costs associated with the implementation of these requirements of HCFA and Medicare carriers. The amount of the reductions in reimbursements and additional costs cannot be determined at this time. See "--Billing." Major clinical laboratories, including Quest Diagnostics, use dual fee schedules: "client" fees charged to physicians, hospitals, and institutions with which a laboratory deals on a bulk basis and "patient" fees charged to individual patients and third-party payors, including Medicare and Medicaid, who generally require separate bills or claims for each requisition. Medicare and other third party payors also set maximum fees that they will pay which are substantially lower than the patient fees otherwise charged by Quest Diagnostics, but are generally higher than Quest Diagnostics' client fees, which may be subject to negotiation or discount. Federal and some state regulatory programs prohibit clinical laboratories from charging government programs more than certain charges to other customers. During 1992, in issuing final regulations implementing the federal statutory prohibition against charging Medicare substantially in excess of a provider's usual charge, the OIG declined to provide any guidance concerning the interpretation of this legislation, including whether or not discounting or the dual fee structure employed by clinical laboratories might raise issues under the provision. Medicare budget proposals developed by the Clinton Administration in 1993 and 1994, along with proposals incorporated in many major health reform bills considered by Congress in 1994, called for the reinstatement of 20% Medicare clinical laboratory co-insurance (which was last in effect in 1984). While co-insurance was in effect, clinical laboratories received from Medicare carriers only 80% of their Medicare reimbursement rates and were required to bill Medicare beneficiaries for the balance of the charges. A co-insurance proposal was not included in any of the Congressional Medicare reform packages considered to date in the 1995 and 1996 legislative sessions. However, it is still possible a co-insurance provision will be proposed in the future and, if enacted, such a proposal could materially adversely affect the revenues and costs of the clinical laboratory industry, including Quest 73 Diagnostics, by exposing the testing laboratory to the credit of individuals and by increasing the number of bills. In addition, a laboratory could be subject to potential fraud and abuse violations if adequate procedures to bill and collect the co-insurance payments are not established and followed. Proposals have also been developed to procure Medicare and Medicaid laboratory testing services through competitive bidding mechanisms. To date, none of the Congressional Medicare reform packages introduced in the 1995 and 1996 legislative sessions have included a competitive bidding provision for clinical laboratory tests. However, President Clinton's Medicare reform proposal would have established competitive bidding for clinical laboratory services. If competitive bidding were implemented, such action could materially adversely affect the revenues of the clinical laboratory industry, including Quest Diagnostics. HCFA is currently developing a demonstration project to determine whether competitive bidding can be used to provide quality laboratory services at prices below current Medicare reimbursement rates. The demonstration is expected to be conducted in Kentucky and to commence in 1997. Future changes in federal, state and local regulations (or in the interpretation of current regulations) affecting governmental reimbursement for clinical laboratory testing could have a material adverse effect on Quest Diagnostics. Quest Diagnostics is unable to predict, however, whether and what type of legislation will be enacted into law. Fraud and Abuse Regulations. The Medicare and Medicaid anti-kickback laws prohibit clinical laboratories from, among other things, making payments or furnishing other benefits to influence the referral of tests billed to Medicare, Medicaid or other federal programs. Penalties for violations of these federal laws include exclusion from participation in the Medicare/Medicaid programs, assets forfeitures, and civil and criminal penalties. Civil administrative penalties for a wide range of offenses may be up to $2,000 per item and twice the amount claimed. Under the Health Insurance Portability and Accountability Act of 1996 (the "Health Insurance Act"), the penalties will be increased, effective January 1, 1997 to up to $10,000 per item plus three times the amount claimed. In the case of certain offenses, exclusion from participation in Medicare and Medicaid is a mandatory penalty. The fraud and abuse provisions are interpreted liberally and enforced aggressively by various enforcing agencies of the federal government, including the Federal Bureau of Investigation ("FBI") and the OIG. According to public statements by the DOJ, health care fraud has been elevated to the second-highest priority of the DOJ, and FBI agents have been transferred from investigating counterintelligence activities to health care provider fraud. The OIG also is involved in such investigations and has, according to recent workplans, targeted certain laboratory practices for study, investigation and prosecution. The federal government's involvement in curtailing fraud and abuse is likely to increase as a result of the enactment in August 1996 of the Health Insurance Act which will require, by January 1, 1997, the U.S. Attorney General and the OIG to jointly establish a program to (a) coordinate federal, state and local enforcement programs to control fraud and abuse with respect to health care, (b) conduct investigations, audits, evaluations and inspections relating to the delivery and payment for health care, (c) facilitate the enforcement of the health care fraud and abuse laws, (d) provide for the modification and establishment of safe harbors and to issue advisory opinions and Special Fraud Alerts and (e) provide for a data collection system for the reporting and disclosure of adverse actions taken against health care providers. The Health Insurance Act also authorizes the establishment of an anti-fraud and abuse trust fund funded through the collection of penalties and fines for violations of the health care anti-fraud laws as well as amounts authorized therefor by Congress. The Health Insurance Act also requires HHS to establish a program to encourage Medicare beneficiaries and others to report violations of the health care anti-fraud laws, including by paying to the reporting person a portion of any fines and penalties collected. In October 1994, the OIG issued a Special Fraud Alert, which set forth a number of practices allegedly engaged in by clinical laboratories and health care providers that the OIG believes violate the anti-kickback laws. These practices include providing employees to collect patient samples at physician offices if the employees perform additional services for physicians that are typically the responsibility of the physicians' staff; selling laboratory services to renal dialysis centers at prices that are below fair market value in return for referrals of Medicare tests which are billed to Medicare at higher rates; providing free testing to a physician's HMO patients in situations where the referring physicians benefit from lower utilization; providing free pickup and disposal of bio-hazardous waste for physicians for items unrelated to a laboratory's testing services; providing facsimile machines or computers to physicians that are not exclusively used in connection with the laboratory services performed; and providing free testing for health care providers, their families and their employees (professional courtesy testing). The OIG stressed in the Special Fraud Alert that when one purpose of the arrangements is to induce referral of program- 74 reimbursed laboratory testing, both the clinical laboratory and the health care provider or physician may be liable under the anti-kickback laws and may be subject to criminal prosecution and exclusion from participation in the Medicare and Medicaid programs. The Special Fraud Alert was issued in part at the request of the American Clinical Laboratory Association, which requested clarification of certain of these rules. Quest Diagnostics does not believe that it has been negatively affected by the issuance of the Special Fraud Alert. Many of these statutes and regulations, including those relating to joint ventures and alliances, are vague or indefinite and have not been interpreted by the courts. In addition, regulators have generally offered little guidance to the clinical laboratory industry. Despite requests from the American Clinical Laboratory Association for clarification of the anti-fraud and abuse rules, since 1992, OIG has issued only two fraud alerts specifically with regard to clinical laboratory practices and has insisted that it lacked statutory authority to issue advisory opinions. Legislation requiring OIG to issue fraud alerts and advisory opinions was enacted in August 1996, and as a result Quest Diagnostics is hopeful that additional regulatory guidance will be given to the clinical laboratory industry. According to the 1995 work plan of the OIG, its recently established Office of Civil Fraud and Administrative Adjudication ("OCFAA") will be responsible for protecting the government-funded health care programs and deterring fraudulent conduct by health care providers through the negotiation and imposition of civil monetary penalties, assessments and program exclusions. The OCFAA works very closely with the DOJ, the Office of General Counsel of HHS and the OIG investigative and audit offices in combating fraud and abuse. In addition, the OIG stated in its 1995 work plan that it will determine the extent to which laboratories supply physicians' offices with phlebotomists (blood-drawing technicians), offer management services or medical waste pick-up to physicians, provide training to physicians or engage in other financial arrangements with purchasers of laboratories' services. The OIG will assess the potential benefits of such arrangements as well as the extent to which such arrangements might be unlawful. A federal "self-referral" law commonly known as the "Stark" law has, since 1992, generally prohibited (with certain exceptions) Medicare payments for laboratory tests referred by physicians who have (personally or through a family member) an investment interest in, or a compensation arrangement with, the testing laboratory. Since January 1995, these restrictions apply to Medicaid-covered services as well. Physicians may, however, be reimbursed by Medicare and Medicaid for testing performed by or under the supervision of the physician or the group practice to which the physician belongs. In addition, a physician may refer specimens to a laboratory owned by a company, such as Quest Diagnostics, whose stock is traded on a public exchange and which has stockholders' equity exceeding $75 million even if the physician owns stock of that company. An amendment to the Stark law in August 1993 makes it clear that ordinary day-to-day transactions between laboratories and their customers, including, but not limited to, discounts granted by laboratories to their customers, are not covered by the compensation arrangement provisions of the Medicare statute. Sanctions for laboratory violations of the prohibition include denial of Medicare payments, refunds, civil money penalties of up to $15,000 for each service billed in violation of the prohibition and exclusion from the Medicare and Medicaid programs. The 1995 House Medicare reform proposal contained, and the House-Senate report adopted, provisions that would significantly narrow the scope of the Stark anti-referral laws. That proposal would, among other changes, have ended the ban on physician referrals to laboratories based on any "compensation arrangements" between the laboratory and the physician. The President vetoed this bill on December 6, 1995. Government Investigations and Related Claims Quest Diagnostics has settled various government and private claims (i.e., nongovernmental claims such as those by private insurers) totalling approximately $195 million relating primarily to industry-wide billing and marketing practices that had been substantially discontinued by late 1992. Specifically, Quest Diagnostics has entered into, (i) for an aggregate of approximately $180 million, five settlements with the OIG and the DOJ (including, the MetPath and the Damon settlements discussed below) and two settlements with state governments with respect to Medicare and Medicaid marketing and billing practices of Quest Diagnostics and certain companies acquired by Quest Diagnostics prior to their acquisition and (ii) thirteen settlements relating to private claims totalling approximately $15 million. In addition, there are pending investigations by the OIG and DOJ into billing and marketing practices at three regional laboratories operated by Nichols prior to its acquisition by Quest Diagnostics. There are no private claims presently pending. 75 Government Settlements The MetPath Settlement. In September 1993, Quest Diagnostics (under the name MetPath Inc.) entered into an agreement with the DOJ and the OIG pursuant to which Quest Diagnostics paid a total of approximately $36 million in settlement of civil claims by the United States that the company had wrongfully induced physicians to order certain laboratory tests without their realizing that such tests would be billed to Medicare at rates higher than those the physicians believed were applicable. The Damon Settlement. By issuance of a civil subpoena in August 1993, the government began a formal investigation of Damon, a company acquired by Corning in August 1993. Subsequent to September 1993, several additional subpoenas were issued. By a plea agreement and civil settlement agreement and release dated October 9, 1996, between DOJ and Damon, all federal criminal matters within the scope of the various federal investigations against Damon, and all claims included in the civil qui tam cases underlying the civil investigations, were settled for an aggregate of $119 million, which sum was reimbursed to Quest Diagnostics by Corning. The settlement included base recoupments of approximately $40 million (which did not differ materially from management's estimate at June 30, 1996) and total criminal and civil payments in excess of base recoupments of approximately $80 million. At the time Quest Diagnostics began its settlement negotiations with DOJ in April 1996, it believed it had meritorious defenses to a number of charges and claims made by the government. Reserves established for such settlements in the second quarter of 1996 were based on Quest Diagnostics' and its counsel's belief that the merits of its factual and legal arguments would be given more weight by the government. Certain of these positions were ultimately rejected by criminal and civil prosecutors in the final rounds of negotiations which occurred in September 1996, resulting in a total settlement substantially in excess of what had earlier been anticipated. The Damon settlement does not exclude Quest Diagnostics from future participation in any federal health care programs on account of Damon's practices. Other Governmental Settlements. In addition to the MetPath settlement and the Damon settlement, since 1992 Quest Diagnostics has settled five other federal and state billing-related claims for a total of approximately $25 million. Ongoing Government Investigations The Nichols Investigation. By issuance of a civil subpoena in August 1993, the government began a formal investigation of Nichols, a company acquired by Corning in August 1994. The investigation of Nichols remains open. While Quest Diagnostics has established reserves in respect of the Nichols investigations, at present there are no settlement discussions pending between DOJ and Quest Diagnostics regarding Nichols, and it is too early to predict the outcome of this investigation. Remedies available to the government include exclusion from participation in the Medicare and Medicaid programs, criminal fines, civil recoveries plus civil penalties and asset forfeitures. Although application of such remedies and penalties could materially and adversely affect Quest Diagnostics' business, financial condition, results of operations and prospects, management believes that the possibility of this happening is remote. Quest Diagnostics derived approximately 23% and 22% of its net revenues for the year ended December 31, 1995 and the nine months ended September 30, 1996, respectively, from Medicare and Medicaid programs. However, in light of the Corporate Integrity Agreement referred to below entered into between Quest Diagnostics and the OIG in connection with the Damon settlement, the fact that the matters being investigated were corrected with or before Quest Diagnostics' acquisition of Nichols and Quest Diagnostics' cooperation in this investigation, Quest Diagnostics believes the prospect of such exclusion on account of the investigation is remote. As discussed below, Corning has agreed to indemnify Quest Diagnostics against any monetary penalties, fines or settlements for any governmental claims that may arise as a result of the Nichols investigations. The Damon Officer Investigations. Quest Diagnostics understands that the Boston United States Attorney's Office has designated several former officers and employees of Damon as targets of its criminal investigation, and will seek indictments against them. Under the agreement and plan of merger under which Damon was acquired by Corning, Quest Diagnostics is obligated to indemnify former officers and directors of Damon to the fullest extent permitted by Delaware law with respect to this investigation. These obligations will remain those of Quest Diagnostics and will not be indemnified by Corning. In addition, as part of the Damon settlement, Corning agreed to cooperate with DOJ in its continuing investigation of individuals formerly associated with Damon and, in connection therewith, Quest Diagnostics is providing additional information pursuant to several subpoenas. 76 Other Government Investigations. In December 1995, Quest Diagnostics received a subpoena from the OIG seeking information as to Quest Diagnostics' policies in instances in which specimens were received and tested by a laboratory without first receiving or verifying specific test requisitions. While compliance with the subpoena is ongoing, Quest Diagnostics has concluded the occurrence of this practice was relatively rare and was engaged in primarily to preserve the integrity of test results from specimens subject to rapid deterioration. During 1996, Quest Diagnostics voluntarily self-reported to the government a few isolated events, involving billings of approximately $16 million, that may have resulted in overpayment by Medicare and Medicaid to Quest Diagnostics. It is Quest Diagnostics' policy to internally investigate all such incidents and to self-report and reimburse payors as appropriate. Although Quest Diagnostics has commenced internal investigations to quantify the amounts that may be recouped by the government and corrective action has been taken as to each such event, it is too early to predict the outcome of these disclosures to the government. As discussed below, Corning has agreed to indemnify Quest Diagnostics against any monetary penalties, fines or settlements for any governmental claims that may arise as a result of the investigations described in this paragraph. Outlook for Future Government Investigations The Damon settlement involved, and a settlement regarding Nichols is expected to involve, only matters predating Corning's acquisition of both such companies, and turned on, or will turn on, facts unique to those companies and other factors individual government enforcement personnel may take into account. However, recent experience in Quest Diagnostics' settlement of the Damon case and public announcements by various government officials indicate that the government's position on health care fraud is still hardening and collections of amounts greatly in excess of mere recoupment of overcharges from laboratories and other providers will be more prevalent. In addition, the newly adopted Health Insurance Act includes provisions to combat health care fraud and abuse will give federal enforcement personnel substantially increased funding, powers and remedies to pursue suspected fraud and abuse. In connection with the Damon settlement, Quest Diagnostics signed a Corporate Integrity Agreement pursuant to which Quest Diagnostics will maintain its corporate compliance program, modify certain of its marketing materials, make periodic reports to the OIG and take certain other steps to demonstrate Quest Diagnostics' integrity as a provider of services to federally sponsored health care programs. This agreement also includes an obligation to self-report instances of noncompliance that are uncovered by Quest Diagnostics, but also gives Quest Diagnostics the opportunity to obtain clearer guidance on matters of compliance and to resolve compliance issues directly with OIG. Importantly, the agreement gives Quest Diagnostics the opportunity to cure any asserted breaches and to otherwise initiate corrective actions, which Quest Diagnostics believes should help to avoid enforcement actions outside of the process provided in the agreement. See "--Compliance Program." Private Settlements and Claims Since 1992 Quest Diagnostics has settled thirteen private actions relating to the governmental settlements described above for an aggregate of approximately $15 million. There are no private claims presently pending. Corning Indemnity In connection with the Distributions, Corning will agree to indemnify Quest Diagnostics against all monetary penalties, fines or settlements for any governmental claims arising out of alleged violations of applicable federal fraud and health care statutes and relating to billing practices of Quest Diagnostics and its predecessors that have been settled or are pending on the Distribution Date. This includes the settlements described under "--Government Settlements" above and the claims described under "--Ongoing Government Investigations--The Nichols Investigation" and "--Other Government Investigations." Corning will also agree to indemnify Quest Diagnostics for 50% of the aggregate of all judgment or settlement payments made by Quest Diagnostics that are in excess of $42.0 million in respect of claims by private parties (i.e., nongovernmental parties such as private insurers) that relate to indemnified or previously settled governmental claims (such as the Damon settlement) and that allege overbillings by Quest Diagnostics or any existing subsidiaries of Quest Diagnostics, for services provided prior to the Distribution Date; provided, however, such indemnification will not exceed $25.0 million in the aggregate and that all amounts indemnified against by Corning for the benefit of Quest Diagnostics will be calculated on a net after-tax basis by taking into account any deductions and other tax benefits realized by Quest Diagnostics (or a consolidated group of which Quest Diagnostics is a member after the Distributions (the "Quest Diagnostics Group")) in respect of the underlying 77 settlement, judgment payment, or other loss (or portion thereof) indemnified against by Corning generally at the time and to the extent such deductions or tax benefits are deemed to reduce the tax liability of Quest Diagnostics or the Quest Diagnostics Group. Corning will not indemnify Quest Diagnostics against (i) any governmental claims that arise after the Distribution Date pursuant to service of subpoena or other notice of such investigation after the Distribution Date, (ii) any nongovernmental claims unrelated to the indemnified governmental claims or investigations, (iii) any nongovernmental claims not settled prior to five years after the Distribution Date, (iv) any consequential or incidental damages relating to the billing claims, including losses of revenues and profits as a consequence of exclusion for participation in federal or state health care programs or (v) the fees and expenses of litigation. Quest Diagnostics will control the defense of any governmental claim or investigation unless Corning elects to assume such defense. However, in the case of all nongovernmental claims related to indemnified governmental claims related to alleged overbillings, Quest Diagnostics will control the defense. All disputes under the Transaction Agreement are subject to binding arbitration. See "The Relationship Among Corning, Quest Diagnostics and Covance After the Distributions--Transaction Agreement." Quest Diagnostics' Reserves Quest Diagnostics' aggregate reserve with respect to all governmental and private claims, including litigation costs of approximately $6.6 million, was $215 million at September 30, 1996 and is estimated to be $85 million at the Distribution Date. The approximately $130 million reduction in the reserve is due to the subsequent payment of the Damon settlement ($119 million), the settlement of an investigation into billing of certain hematology indices (reserved at $7 million) and the settlement of a private claim (reserved at $6 million). These settlements have been or will be funded by contributions to Quest Diagnostics' capital by Corning. The $85 million reserve represents amounts for future government and private settlements of matters which are either presently pending or anticipated as a consequence of the government and private settlements and self-reported matters described above. Based on information available to management and Quest Diagnostics' experience with past settlements, especially the Damon settlement and the fact that the aggregate amount of such settlement was significantly in excess of established reserves, management has reassessed its reserve levels and believes that its current level of reserves is adequate. However, it is possible that the additional information may become available (such as the indication by the government of criminal activity, additional tests being questioned or other changes in the government's theories of wrongdoing) which may cause the final resolution of these matters to be in excess of established reserves by an amount which could be material to Quest Diagnostics' results of operations and, for non-indemnified claims, Quest Diagnostics' cash flows in the period in which such claims are settled. While none of the governmental or nongovernmental investigations or claims is covered by insurance, Quest Diagnostics does not believe that these matters will have a material adverse effect on Quest Diagnostics' overall financial condition. Compliance Program Because of evolving interpretations of regulations and the national debate over health care, compliance with all Medicare, Medicaid and other government-established rules and regulations has become a significant concern throughout the clinical laboratory industry. Quest Diagnostics began the implementation of a compliance program early in 1993. The objective of the program is to develop aggressive and reliable compliance safeguards. Emphasis is placed on developing training programs for personnel intended to assure the strict implementation and observance of all applicable rules and regulations. Further, in-depth reviews of procedures, personnel and facilities are conducted to assure regulatory compliance throughout Quest Diagnostics. Quest Diagnostics' current compliance plan establishes a Compliance Committee of the Quest Diagnostics Board and requires periodic reporting of compliance operations by management to the Compliance Committee. Such sharpened focus on regulatory standards and procedures will continue to be a priority for Quest Diagnostics in the future. Quest Diagnostics has established a comprehensive program designed to ensure that it is in compliance in all material respects with all statutes, regulations and other requirements applicable to its clinical laboratory operations. This program was publicly cited with approval by government officials at the time the Damon settlement was announced and characterized as a "model" for the industry. In addition, the government advised Quest Diagnostics representatives that Quest Diagnostics' compliance program, coupled with corrective action taken by Quest Diagnostics after its acquisition of Damon, greatly reduced the amounts of fines and penalties, and was influential in causing the OIG not to seek exclusion of Quest Diagnostics from future participation in governmental health care programs. Pursuant to the Damon settlement, Quest Diagnostics signed a five year Corporate Integrity 78 Agreement with the OIG pursuant to which Quest Diagnostics will, among other things, maintain its corporate compliance program, make certain changes to its test order forms, provide certain additional notices to ordering physicians, provide to the OIG data on certain test ordering patterns, adopt certain pricing guidelines, audit laboratory operations, deliver annual reports on compliance activities, and investigate and report instances of noncompliance, including any corrective actions and disciplinary steps. Importantly, the agreement gives Quest Diagnostics the opportunity to cure any asserted breaches and to otherwise initiate corrective actions, which Quest Diagnostics believes should help to avoid enforcement actions outside of the process provided in the agreement. The agreement gives Quest Diagnostics the opportunity to obtain clearer guidance on matters of compliance and to resolve compliance issues directly with the OIG. Quest Diagnostics has been advised that its principal competitors will be obliged to execute similar agreements at the conclusion of investigations pending against them and that the OIG will likely publish to the clinical laboratory testing industry a guideline on the essential elements of a satisfactory compliance program. This latter step may help create a fairer competitive environment for Quest Diagnostics. None of the undertakings included in the agreement is expected to have any material adverse affect on Quest Diagnostics' business, financial condition, results of operations and prospects. The clinical laboratory testing industry is, however, subject to extensive regulation. Quest Diagnostics believes that it is in all material respects in compliance with all applicable statutes and regulations. However, there can be no assurance that any statutes or regulations might not be interpreted or applied by a prosecutorial, regulatory or judicial authority in a manner that would adversely affect Quest Diagnostics. Potential sanctions for violation of these statutes and regulations include significant fines and the loss of various licenses, certificates and authorizations. Insurance Quest Diagnostics maintains liability insurance (subject to maximum limits and self-insured retentions) for claims, which may be substantial, that could result from providing or failing to provide clinical laboratory testing services, including inaccurate testing results. While there can be no assurance that coverage will be adequate to cover all future exposure, management believes that the present levels of coverage are adequate to cover currently estimated exposures. Although Quest Diagnostics believes that it will be able to obtain adequate insurance coverage in the future at acceptable costs, there can be no assurance that Quest Diagnostics will be able to obtain such coverage or will be able to do so at an acceptable cost or that Quest Diagnostics will not incur significant liabilities in excess of policy limits. Employees At September 30, 1996, Quest Diagnostics employed approximately 18,700 people. These include approximately 16,500 full-time employees and approximately 2,200 part-time employees. Quest Diagnostics has no collective bargaining agreements with any unions and believes that its overall relations with its employees are good. Seasonality During the summer months, year-end holiday periods and other major holidays, volume of testing declines, reducing net revenues and resulting cash flows below annual averages during the third and fourth quarters each year. Winter months are also subject to declines in testing volume due to inclement weather. As a result, comparisons of the results of successive quarters may not accurately reflect trends or results for the full year. See "Management's Discussion and Analysis of Financial Condition and Results of Operations of Quest Diagnostics--Overview." Properties Quest Diagnostics's principal laboratories (listed alphabetically by state) are located in the following metropolitan areas:
Location Type of Laboratory Leased or Owned ----------------------------------------------- --------------------- ------------------- Phoenix, Arizona Regional Leased San Diego, California Regional Leased San Juan Capistrano, California Esoteric Owned Denver, Colorado Regional Leased New Haven, Connecticut Regional Owned Miami, Florida Branch Leased Tampa, Florida Regional Leased Atlanta, Georgia Regional Leased 79 Location Type of Laboratory Leased or Owned Chicago, Illinois Regional Leased Indianapolis, Indiana Branch Leased Baltimore, Maryland Regional Owned Boston, Massachusetts Owned subject to Regional put/call with option to lease Detroit, Michigan Regional Leased Grand Rapids, Michigan Branch Leased Kansas City, Missouri Branch Leased St. Louis, Missouri Regional Leased Billings, Montana Branch Leased Lincoln, Nebraska Regional Managed (hospital) Teterboro, New Jersey/New York, New York Regional Owned Albuquerque, New Mexico Branch Leased Buffalo, New York Branch Owned Long Island, New York Branch Leased Cleveland, Ohio Branch Owned Columbus, Ohio Branch Leased Portland, Oregon Regional Leased Erie, Pennsylvania Leased by joint Branch venture Philadelphia, Pennsylvania Regional Leased Pittsburgh, Pennsylvania Regional Leased Nashville, Tennessee Branch Owned Dallas, Texas Regional Leased El Paso, Texas Branch Leased Salt Lake City, Utah Branch Leased
Quest Diagnostics executive offices are located in Teterboro, New Jersey in the building that serves as Quest Diagnostics' regional laboratory in the New York City metropolitan area. Quest Diagnostics owns its branch laboratory facility in Mexico City. Quest Diagnostics believes that, in general, its laboratory facilities are suitable and adequate for its current and anticipated future levels of operation. Quest Diagnostics believes that if it were unable to renew the lease on any of its testing facilities, it could find alternative space at competitive market rates and relocate its operations to such new locations. Legal Proceedings In addition to the investigations described in "--Government Investigations and Related Claims," Quest Diagnostics is involved in various legal proceedings arising in the ordinary course of business. Some of the proceedings against Quest Diagnostics involve claims that are substantial in amount. Although it is not feasible to predict the outcome of such proceedings or any claims made against Quest Diagnostics, it does not anticipate that the ultimate liability of such proceedings or claims will have a material adverse effect on Quest Diagnostics' financial position or results of operations as they primarily relate to professional liability for which Quest Diagnostics believes it has adequate insurance coverage. Quest Diagnostics maintains professional liability insurance for its professional liability claims. See "--Insurance." IMPORTANT FACTORS REGARDING FORWARD LOOKING STATEMENTS Quest Diagnostics wishes to caution stockholders that the following factors are hereby identified as important factors that could cause Quest Diagnostics' actual financial results to differ materially from those projected, forecast, estimated, or budgeted by Quest Diagnostics in forward-looking statements. (a) Heightened competition, including the intensification of price competition. See "Risk Factors--Risks Relating to Quest Diagnostics--Intense Competition." 80 (b) Impact of changes in payor mix, including the shift from traditional, fee-for-service medicine to managed- cost health care. See "Risk Factors--Risks Relating to Quest Diagnostics--Role of Managed Care." (c) Adverse actions by governmental or other third-party payors, including unilateral reduction of fee schedules payable to Quest Diagnostics. (d) The impact upon Quest Diagnostics' collection rates or general or administrative expenses resulting from compliance with Medicare administrative policies, including specifically the recent requirements of Medicare carriers to provide diagnosis codes for commonly ordered tests and the policy of HCFA to limit Medicare reimbursement for tests contained in automated chemistry panels to the amount that would have been paid if only the covered tests, determined on the basis of demonstrable "medical necessity," had been ordered. See "Risk Factors--Risks Relating to Quest Diagnostics--Reliance on Medicare/Medicaid Reimbursements" and "Risk Factors--Risks Relating to Quest Diagnostics--Government Regulation." (e) Adverse results from pending governmental investigations, including in particular significant monetary damages and/or exclusion from the Medicare and Medicaid programs and/or other significant litigation matters. Also, the absence of indemnification from Corning for private claims unrelated to the indemnified governmental claims or investigations and for private claims that are not settled within five years of the Distribution Date. See "Risk Factors--Risks Relating to Quest Diagnostics--Government Investigations and Related Claims." (f) Failure to obtain new customers, retain existing customers or reduction in tests ordered or specimens submitted by existing customers. (g) Inability to obtain professional liability insurance coverage or a material increase in premiums for such coverage. (h) Denial of CLIA certification or other licensure of any of Quest Diagnostics's clinical laboratories under CLIA, by HCFA for Medicare and Medicaid programs or other federal, state and local agencies. See "Risk Factors--Risks Relating to Quest Diagnostics--Government Regulation." (i) Adverse publicity and news coverage about Quest Diagnostics or the clinical laboratory industry. (j) Computer or other system failures that affect the ability of Quest Diagnostics to perform tests, report test results or properly bill customers. See "Risk Factors--Risks Relating to Quest Diagnostics--Billing." (k) Development of technologies that substantially alter the practice of laboratory medicine. 81 MANAGEMENT OF QUEST DIAGNOSTICS Management Directors. Certain information with respect to the persons who will serve as directors of Quest Diagnostics following the Distributions is set forth below. Prior to the closing of the Quest Diagnostics Notes Offering and the Quest Diagnostics Spin-Off Distribution, one of the current directors will resign and the prospective directors listed below will be elected. As provided in the Quest Diagnostics Certificate, the Quest Diagnostics Board will be divided into three classes effective upon the Distributions and one class of the Quest Diagnostics Board will be elected for a three-year term at each annual meeting of stockholders. Included in the information set forth below are the names of the directors of each class. The term for which each director will initially be elected has not yet been determined. Quest Diagnostics is contemplating the selection of additional independent directors, which selection may occur prior to the Distributions. Quest Diagnostics does not intend to hold an annual meeting of stockholders until the Spring of 1998.
Name Age ----------------- ---- Kenneth W. Freeman 46 Van C. Campbell 58 David A. Duke 61 Gail R. Wilensky 53
Kenneth W. Freeman was elected President and Chief Executive Officer of Quest Diagnostics in May 1995 and has been a director of Quest Diagnostics since July 1995. Prior to 1995, he served in a variety of key financial and managerial positions at Corning, which he joined in 1972. He was elected controller and a vice president of Corning in 1985, senior vice president in 1987, and general manager of the Science Products Division in 1989. He was appointed president and chief operating officer of Corning Asahi Video Products Company in 1990. In 1993, he was elected executive vice president. Van C. Campbell is the Vice Chairman of Corning, which he joined in 1964. He was elected assistant treasurer in 1971, treasurer in 1972, a vice president in 1973, financial vice president in 1975 and senior vice president for finance in 1980. He became general manager of the Consumer Products Division in 1981. Mr. Campbell was elected vice chairman and a director in 1983 and during 1995 was appointed to the additional position of chairman of Corning Life Sciences, Inc. He is a director of Armstrong World Industries, Inc. and General Signal Corporation. Mr. Campbell has been a director of Quest Diagnostics since January 1991. David A. Duke is a Retired Vice Chairman of Corning. Dr. Duke joined Corning in 1962 and served in a succession of research and management positions. He was elected vice president--Telecommunications Products in 1980, elected a senior vice president in 1984 and named director of Research and Development in 1985. He became responsible for Engineering in March 1987 and was elected as a director and Vice Chairman of Corning in 1988. He resigned as a director of Corning in April 1996 and retired in June 1996. Dr. Duke is a director of Armco, Inc. Dr. Duke was a director of Quest Diagnostics from October 1994 to July 1996 and was re-elected a director of Quest Diagnostics in October 1996. Gail R. Wilensky is the John M. Olin Senior Fellow at Project HOPE, an international non-profit health foundation, which she joined in 1993. She is currently the chair of the Physician Payment Review Commission which advises Congress on physician payment and other Medicare issues. In 1992 and 1993, Dr. Wilensky served as a deputy assistant to the President for policy development relating to health and welfare issues. From 1990 to 1992, she was the administrator of the Health Care Financing Administration where she directed the Medicare and Medicaid programs. Dr. Wilensky is a director of Advance Tissue Sciences Inc., Capstone Pharmacy Inc., Coram Healthcare Corp., Neopath Inc., St. Jude Medical Corp., SMS Corporation, Syncor Corporation and United Healthcare Corporation. Directors' Compensation. Each director of Quest Diagnostics, other than a director who is an employee of Quest Diagnostics, will receive $18,000 annually for service as a director and will also be paid $1,000 for each meeting of the Quest Diagnostics Board and $500 for each meeting of any committee thereof which he or she attends. In addition, directors serving as committee chairs would receive an additional annual retainer of $1500. Quest Diagnostics has adopted, effective the Distribution Date, a deferred compensation plan for directors pursuant to which each director may elect to defer until a date specified by him receipt of all or a portion of his 82 compensation. Such plan provides that amounts deferred may be allocated to (i) a cash account upon which amounts deferred may earn interest, compounded quarterly, at the base rate of Citibank, N.A. in effect on certain specified dates, (ii) a market value account, the value of which will be based upon the market value of Quest Diagnostics Common Stock from time to time, or (iii) a combination of such accounts. All non-employee directors will be eligible to participate in the plan. Quest Diagnostics has adopted, effective the Distribution Date, a restricted stock plan for non-employee directors, pursuant to which Quest Diagnostics will issue to each non-employee director elected 750 shares of Quest Diagnostics Common Stock for each year specified in the term of service for which such director was elected, subject to forfeiture and restrictions on transfer, and 5,000 shares upon such director's election, subject to forfeiture and restrictions on transfer. Committees of the Board of Directors. Prior to the Distributions, the Quest Diagnostics Board is expected to establish and designate specific functions and areas of oversight to an Audit and Finance Committee, a Compensation Committee ("Quest Diagnostics Compensation Committee") and a Compliance Committee. The Audit and Finance Committee will examine and consider matters relating to the financial affairs of Quest Diagnostics, including reviewing Quest Diagnostics' annual financial statements, the scope of the independent and internal audits and the independent auditor's letter to management concerning the effectiveness of Quest Diagnostics's internal financial and accounting controls. The Quest Diagnostics Compensation Committee will make recommendations to the Quest Diagnostics Board with respect to programs for human resource development and management organization and succession, determine senior executive compensation, make recommendations to the Quest Diagnostics Board with respect to compensation matters and policies and employee benefit and incentive plans, administer such plans, and administer Quest Diagnostics' stock option and equity based plans and grant stock options and other rights under such plans. The Compliance Committee will oversee Quest Diagnostics' compliance program, which is administered by management's compliance council. The council will prepare for review and action by the Compliance Committee reports on such matters as audits and investigations. See "Business of Quest Diagnostics--Compliance Program." Executive Officers of Quest Diagnostics. In addition to Mr. Freeman, the following persons will serve as executive officers of Quest Diagnostics after the Distributions: Robert A. Carothers (60) will become Vice President and Chief Financial Officer at the Distribution Date. Mr. Carothers joined Corning in 1959 and has served in a number of key financial positions in the United States and Japan. He was elected Assistant Controller in 1991. In January 1996 he was appointed Assistant to the President of Quest Diagnostics. James D. Chambers (40) is Vice President-Billing. Mr. Chambers joined Corning in 1986 and has served in a variety of managerial and financial positions for Corning and its subsidiaries, becoming Assistant Treasurer in 1991. Mr. Chambers joined Quest Diagnostics in 1992 as Treasurer and served as Chief Financial Officer from 1994 through 1995. In 1995 Mr. Chambers assumed his current responsibilities overseeing Quest Diagnostics' billing process. At the Distribution Date, Mr. Chambers will also assume responsibility for investor relations. Gregory C. Critchfield, M.D. (45) is Senior Vice President, and Chief Medical and Science Officer. Dr. Critchfield joined Quest Diagnostics in 1995 as Chief Laboratory Officer and assumed his current responsibilities in May 1996. Dr. Critchfield has served as a consultant to the National Institutes of Health in the capacity of a reviewer for more than ten years and was selected as Study Section Chair of several Multidisciplinary Review Teams during the last two years. Prior to joining Quest Diagnostics, Dr. Critchfield was a clinical pathologist with Intermountain Health Care ("IHC") for eight years and served in various director positions with IHC Laboratory Services, including Director of Clinical Pathology. Dr. Critchfield also served as Chairman of the Department of Pathology at Utah Valley Regional Medical Center from 1994 through 1995. Kurt R. Fischer (41) is Vice President-Human Resources. Mr. Fischer joined Corning in 1976 and has served in a variety of Human Resources positions. He was appointed Human Resource Manager for the Research, Development and Engineering Group in 1986 and Director-Quality and Performance Management for the Specialty Materials Group in 1991. Mr. Fischer assumed his present responsibilities with Quest Diagnostics in December 1995. Delbert A. Fisher, M.D. (68) is Vice President of Corning Nichols Institute and currently serves as President of its Academic Associates, a select group of eminent physicians and scientists who advise the company on new 83 medical and scientific developments. Dr. Fisher joined Nichols Institute in 1991 as President of its esoteric laboratory facility and assumed his present responsibilities in 1993. Prior to joining Nichols, he was a professor of pediatrics and the Associate Chairman of the Department of Pediatrics of the UCLA School of Medicine for 23 years. Raymond Gambino, M.D. (70) is Chief Medical Officer Emeritus. Dr. Gambino joined Quest Diagnostics in 1983 as President of the Eastern Region. From 1984 to 1994, Dr. Gambino served as Chief Medical Officer and Executive Vice President, at which time his appointment was changed to emeritus. He continues to serve Quest Diagnostics as a senior medical advisor. Don M. Hardison, Jr. (45) is Senior Vice President-Sales and Marketing, with overall responsibility for all commercial activities. Mr. Hardison joined Quest Diagnostics in January 1996. Prior to joining Quest Diagnostics, Mr. Hardison had 18 years experience in health care with subsidiaries of SmithKline Beecham and its predecessor entities, including seven years with the clinical laboratory division of SmithKline, where he held a succession of positions including Director of Marketing; Vice President of Sales-Northern; Vice President-General Manager of the Atlanta Operation; and Vice President of Sales and Marketing. Paul A. Krieger, M.D. (50) is Vice President-Anatomic Pathology. Dr. Krieger joined Quest Diagnostics in 1975 and served as Vice President, Director of Anatomic Pathology at Quest Diagnostics' regional laboratory in Teterboro, New Jersey until 1995, when he was appointed to his present position. Concurrent with his employment with Quest Diagnostics, Dr. Krieger has served as an Adjunct Assistant Professor at the College of Physicians and Surgeons of Columbia University. Raymond C. Marier (51) is Vice President, Secretary and General Counsel. Mr. Marier joined Corning's Legal Department in 1973 as an Assistant Counsel, where he worked with a number of Corning's operating units, including its Medical and Science Products Divisions. He has held his present position since 1992. C. Kim McCarthy (41) is Vice President-Compliance and Government Affairs. Ms. McCarthy joined Corning in 1987 as Director of Federal Government Affairs and Legislative Counsel. She became Vice President of Public Affairs of Quest Diagnostics in 1992 and Senior Vice President of Corporate Affairs in 1994. Ms. McCarthy assumed her present responsibilities in June 1996. Alister W. Reynolds (39) is Vice President-Information Technology. Mr. Reynolds joined Quest Diagnostics in 1982 and has served in a variety of staff, executive and general management positions. Mr. Reynolds assumed his current responsibilities in 1995. Douglas M. VanOort (40) will become Senior Vice President-Operations at the Distribution Date. Mr. VanOort joined Corning in 1982 and has served in various finance, analysis and control positions. He became Vice President and Chief Financial Officer of Corning's Life Sciences division in 1990, Senior Vice President-Finance and New Business Development of Corning's Life Sciences division in 1993 and Executive Vice President and Chief Financial Officer of Quest Diagnostics in 1995. Executive Compensation Historical Compensation. The following table sets forth information with respect to annual and long-term compensation expected to be paid by Quest Diagnostics and its subsidiaries to each of the chief executive officer and the four other most highly compensated executive officers (the "named executive officers") of Quest Diagnostics for services to be rendered in all capacities in fiscal year 1996 and such compensation paid or accrued during the years ended December 31, 1995 and December 31, 1994 for services rendered by each of the named executive officers. All references in the following tables to stock and stock options relate to awards of, and options to purchase, Corning Common Stock. 84 SUMMARY COMPENSATION TABLE
Long-Term Compensation ---------------------------------- Annual Compensation Awards Payouts ----------------------------------- ---------------------- -------- Restricted Other Annual Stock Securities Incentive All Other Name and Salary Bonus Compensation Awards Underlying Plan Compensation Principal Position Year (1) (2) (3) (4) Options Payouts (5) - ------------------------ ------- ------- ------- ------------- --------- --------- -------- --------------- Kenneth W. Freeman, 1996 385,000 211,750 10,440 -- -- -- 16,690 President and Chief 1995 316,667 249,918 7,200 326,926 87,000 -- 14,057 Executive Officer 1994 240,000 244,634 6,900 406,766 20,000 162,679 13,376 Robert A. Carothers, 1996 250,000 136,714 1,800 -- -- -- 8,254 Vice President and 1995 173,000 68,337 -- -- 16,500 -- 8,561 Chief Financial Officer 1994 165,250 84,180 -- -- 6,092 -- 7,557 Gregory C. Critchfield, 1996 310,000 182,900 40,909 -- 2,000 -- 65,690 Senior Vice President 1995 (6) 70,000 122,920 -- -- 3,000 -- 2,370 and Chief Medical and Science Officer Don M. Hardison, Jr., 1996 260,000 159,467 2,880 -- 24,000 -- 17,123 Senior Vice President- Sales and Manufacturing Douglas M. VanOort, 1996 325,000 178,750 2,880 -- -- -- 4,750 Senior Vice President- 1995 251,912 56,754 7,200 98,626 60,000 -- 4,620 Operations 1994 228,333 165,969 6,900 109,652 20,000 -- 4,178
- ------------- (1) Reflects for 1996 current salaries on an annualized basis, including amounts deferred. (2) Reflects for 1996 projected performance-based annual cash compensation awards at target levels. (3) Includes dividends on shares of restricted stock granted but not earned within one year from date of grant and tax gross-up payments. (4) Messrs. Freeman, Carothers, Hardison and VanOort held an aggregate of 97,930, 2,500, 4,000 and 43,627 shares of restricted stock of Corning, respectively, having an aggregate value on September 30, 1996 of $3,819,270, $97,500, $156,000 and $1,701,453, respectively. Certain of such shares, net of forfeitures, were subject to performance-based conditions on vesting and are subject to forfeiture upon termination and restrictions on transfer prior to stated dates. Certain other shares ("Career Shares") are subject to restrictions on transfer until the executive officer retires at or after age 60 and are subject to forfeiture prior to age 60 in whole if such officer voluntarily terminates employment with Quest Diagnostics and in part if such officer's employment is terminated by Quest Diagnostics. On or prior to the Distribution Date (a) all forfeiture conditions and transfer restrictions will be removed from performance-based shares, (b) all restrictions on transfer will be removed from shares which are no longer subject to forfeiture and (c) Career Shares which are subject to forfeiture conditions and transfer restrictions, except for 50% of such shares held by Mr. Freeman, will be forfeited, and in lieu thereof restricted shares and/or options to purchase shares of Quest Diagnostics Common Stock will thereafter be granted pursuant to the terms of the Quest Diagnostics Employee Equity Participation Plan (as defined below). Dividends are paid to such individuals on all shares of restricted Corning Common Stock held by them. (5) Includes the following amounts to be contributed by Quest Diagnostics to the Quest Diagnostics Profit Sharing Plan (as defined below) for 1996: $3,850 for Mr. Freeman, $4,283 for Mr. Hardison and $4,750 for Mr. VanOort. Also includes $12,840 automobile allowance received by each of Messrs. Freeman and Hardison and $9,480 for Dr. Critchfield. Also includes 50% of a $100,000 interest-free loan made by Quest Diagnostics to Dr. Critchfield together with imputed interest thereon, which loan is to be forgiven over a two-year period provided Dr. Critchfield continues to be employed by Quest Diagnostics and was made to assist Dr. Critchfield in relocating to the New Jersey area. (6) Dr. Critchfield commenced employment with Quest Diagnostics in October 1995. Option Grants. The following table sets forth certain information regarding options granted in 1995 (except for Mr. Hardison whose options were granted on February 7, 1996) to the named executive officers pursuant to Corning stock option plans. No other options were granted to the named executive officers in 1996. Employees of Quest Diagnostics who hold at the Distribution Date Corning stock options other than those granted on December 6, 1995 and February 7, 1996 will continue to hold Corning stock options following the Quest Diagnostics Spin-Off Distribution. It is anticipated that appropriate adjustments to the number of shares subject to options and to the exercise prices will be made to reflect the Quest Diagnostics Spin-Off Distribution. A portion of the options granted on December 6, 1995 and February 7, 1996 will be converted into options to purchase shares of Quest Diagnostics Common Stock ("New Options") under the Quest Diagnostics Stock Option Plan (as defined below). The remainder of the options granted on December 6, 1995 and February 7, 1996 will be cancelled. It is anticipated that such cancelled options will be replaced by options to be granted under the Quest Diagnostics Stock Option Plan. The exercise prices and the number of shares of Quest Diagnostics Common Stock subject to New Options will be determined as of the time of the Distributions so as to preserve the investment basis and intrinsic gain associated with the Corning options surrendered as of the date of the Quest Diagnostics Spin-Off Distribution. Generally, the expiration dates and the dates on which New Options are exercisable will be identical to those under the corresponding Corning options at the time of the Distributions. Certain New Options will provide that upon 85 exercise of such option through the surrender of previously owned shares of Quest Diagnostics Common Stock, the participant will be entitled to receive options covering the same number of shares so surrendered, with an exercise price equal to the fair market value of the shares at the time of the exercise of the New Option. OPTION/SAR GRANTS IN FISCAL YEAR 1995 (1)
Potential Realizable Value at Assumed Annual Rates of Stock Price Appreciation for Individual Grants Option Term (3) ------------------------------------------------- ----------------------------------- Number of % of Total Securities Options Underlying Granted Options to Employees Gain Granted in Fiscal Exercise Expiration at Gain at Gain at Name (2) Year Price Date 0% (4) 5% 10% - ----------------------------- --------- ------------ ------- --------- ------ ---------- ------------ Kenneth W. Freeman 87,000 2.6% 31.25 12/5/2005 0 1,709,807 4,332,987 Robert A. Carothers 1,500 0.0% 31.75 6/7/2005 0 29,951 75,902 15,000 0.4% 31.25 12/5/2005 0 294,794 747,067 Gregory C. Critchfield 3,000 0.1% 27.50 10/3/2005 0 51,884 131,484 Don M. Hardison, Jr. 24,000 0.7% 33.69 2/6/2006 0 508,499 1,288,636 Douglas M. VanOort 60,000 1.8% 31.25 12/5/2005 0 1,179,177 2,988,267 All Optionees as a Group (4) 3,389,100 100.0% 31.34 2005 0 66,797,662 169,278,390
- ------------- (1) No SARs were granted. (2) The stock option agreements with Messrs. Freeman, Carothers (with respect to the 15,000 share grant), Hardison and VanOort provide that one-half of the options will become exercisable on February 1, 1999 and all options will become exercisable on February 1, 2000. The stock option agreement with Dr. Critchfield provides that one-half of the options will become exercisable on October 4, 1996 and all of the options will become exercisable on October 4, 1997. The stock option agreement with Mr. Carothers with respect to the 1,500 share grant provides that one-half of the options became exercisable on June 6, 1996 and all of the options will become exercisable on June 6, 1997. All such agreements also provide that an additional option may be granted when the optionee uses shares of Corning Common Stock to pay the purchase price of an option. The additional option will be exercisable for the number of shares tendered in payment of the option price, will be exercisable at the then fair market value of the Corning Common Stock, will become exercisable only after the lapse of twelve months and will expire on the expiration date of the original option. (3) The dollar amounts set forth under these columns are the result of calculations at 0% and at the 5% and 10% rates established by the Commission and therefore are not intended to forecast future appreciation of Corning Common Stock. (4) No gain to the optionees is possible without an appreciation in stock price, an event which will also benefit all stockholders. If the stock price does not appreciate, the optionees will realize no benefit. Option Exercises and Fiscal Year-End Values. The following table sets forth the number of shares of Corning Common Stock covered by both exercisable and unexercisable stock options as of December 31, 1995, for the named executive officers. The named executive officers exercised no options in 1996. 86 AGGREGATED OPTION/SAR EXERCISES IN FISCAL YEAR 1995 AND 1995 FISCAL YEAR-END OPTION/SAR VALUES (1)
Number of Securities Underlying Unexercised Value of Unexercised Options at In-the-Money Options Fiscal Year End At Fiscal Year End ---------------------------- ------------------------------ Shares Acquired Value Name on Exercise Realized Exercisable Unexercisable Exercisable Unexercisable - ----------------------- ------------ -------- ----------- ------------- ----------- --------------- Kenneth W. Freeman 0 0 103,500 127,000 827,784 107,500 Robert A. Carothers 0 0 12,483 15,749 0 0 Gregory C. Critchfield 0 0 0 5,000 0 10,688 Don M. Hardison, Jr. -- -- -- -- -- -- Douglas M. VanOort 0 0 11,500 88,000 19,729 55,750
- ------------- (1) There are no SARs outstanding. Corporate Performance Plan Activity. Awards of performance-based shares of Corning Common Stock have been granted to Quest Diagnostics's executive officers pursuant to a series of performance-based plans (the "Corporate Performance Plan"). The Corporate Performance Plan provides the mechanisms to reward improvement in corporate performance as measured by net income, earnings per share and/or return on equity. Each year minimum, target and maximum goals are set and shares awarded (at target levels) which are subject to forfeiture in whole or in part if performance goals are not met. The percentage of awards that may be earned ranges from 0% to 150% of target. Shares earned remain subject to forfeiture and restrictions on transfer for two years following the end of the performance period. The following table sets forth the number of performance-based shares awarded under the Corporate Performance Plan. The dollar value of shares earned for 1995 is reflected in the "Restricted Stock Awards" column of the Summary Compensation Table. In late 1996, the Compensation Committee of the board of directors of Corning (the "Corning Board") will assess performance against goals, determine the number of shares earned of those granted on December 6, 1995 and February 7, 1996 and remove all possibility of forfeiture and restrictions on transfer from such shares. CORPORATE PERFORMANCE PLAN ACTIVITY TABLE
Number Number of Number of Vesting Date Grant Shares Performance of Shares Shares of Name Year Date Granted Period Forfeited Earned Earned Shares - ----------------------- ---- ----- -------- ---------- --------- -------- -------------- Kenneth W. Freeman 1996 12/95 14,500 1996 2/99 1995 12/94 10,000 1995 10,740 2/98 1994 12/93 10,000 1994 14,690 2/97 Robert A. Carothers 1996 12/95 2,500 1996 2/99 1995 0 1994 0 Gregory C. Critchfield 1996 0 1995 0 Don M. Hardison, Jr. 1996 2/96 4,000 1996 2/99 Douglas M. VanOort 1996 12/95 10,000 1996 2/99 1995 12/94 10,000 1995 6,760 3,240 2/98 1994 12/93 4,000 1994 40 3,960 2/97
Variable Compensation. Quest Diagnostics has adopted, effective upon the Distributions, a variable compensation plan (the "Plan"), an annual incentive cash compensation plan for approximately 950 supervisory, management and executive employees similar to an annual performance plan currently maintained by Quest Diagnostics. The terms of the Plan are as follows. The performance-based annual cash incentive awards payable under the Plan will be grounded in financial goals such as net income, cash flow, operating margin, return on equity, or earnings per share, or a combination 87 thereof, and quantifiable non-financial goals. Each participant will be assigned a target award, as a percentage of base salary in effect at the end of the performance year for which the target is set, payable if the target is achieved. Actual results will be compared to the scale of targets with each gradation of desired result corresponding to a percentage, which will be multiplied by the employee's assigned target award. If the actual result is below target, awards will be less than target, down to a point below which no awards are earned. If the desired result is above target, awards will be greater than target, up to a stated maximum award. The maximum award assigned to the chief executive officer may not exceed 200% of base salary in effect on the date the Quest Diagnostics Compensation Committee sets the target for the performance year. The Quest Diagnostics Compensation Committee retains the right to reduce any award if it believes individual performance does not warrant the award calculated by reference to the result. Employee Equity Participation Program. Quest Diagnostics has adopted, effective upon the Distributions, the Employee Equity Participation Program (the "Program") consisting of two plans: (a) a stock option plan (the "Quest Diagnostics Stock Option Plan") and (b) an incentive stock plan (the "Quest Diagnostics Incentive Stock Plan"). The Program is designed to provide a flexible mechanism to permit key employees of Quest Diagnostics and of any subsidiary to obtain significant equity ownership in Quest Diagnostics, thereby increasing their proprietary interest in the growth and success of Quest Diagnostics. The Program, which will be administered by the Quest Diagnostics Compensation Committee, provides for the grant to eligible employees of either non-qualified or "incentive stock" options, or both, to purchase shares of Quest Diagnostics Common Stock at no less than fair market value on the date of grant. The Quest Diagnostics Compensation Committee may also provide that options may not be exercised in whole or in part for any period or periods of time; provided, however, that no option will be exercisable until at least twelve months from the date of grant. All options shall expire not more than ten years from the date of grant. Options will not be assignable or transferable except for limited circumstances on death. During the lifetime of the employee an option may be exercised only by him. The option price is payable upon exercise. The optionee may pay the option price in cash or with shares of Quest Diagnostics Common Stock owned by him. The optionee will have no rights as a stockholder with respect to the shares subject to option until shares are issued upon exercise of the option. The Quest Diagnostics Compensation Committee may grant options pursuant to which an optionee who uses shares of Quest Diagnostics Common Stock to pay the purchase price of an option will receive automatically on the date of exercise an additional option to purchase shares of Quest Diagnostics Common Stock. Such additional option will cover the number of shares tendered in payment of the option price, will be exercisable at the then fair market value of Quest Diagnostics Common Stock, will become exercisable only after the lapse of twelve months and will expire no later than the expiration date of the original option. The Program also authorizes the Quest Diagnostics Compensation Committee to award to eligible employees shares, or the right to receive shares, of Quest Diagnostics Common Stock, the equivalent value in cash or a combination thereof (as determined by the Quest Diagnostics Compensation Committee). The Quest Diagnostics Compensation Committee shall determine the number of shares which are to be awarded to individual employees and the number of rights covering shares to be issued upon attainment of predetermined performance objectives for specified periods. The shares awarded directly to individual employees may be made subject to certain restrictions prohibiting sale or other disposition and may be made subject to forfeiture in certain events. Shares may be issued to recognize past performance either generally or upon attainment of specific objectives. Shares issuable for performance (based upon specific predetermined objectives) will be payable only to the extent that the Quest Diagnostics Compensation Committee determines that an eligible employee has met such objectives and will be valued as of the date of such determination. Upon issuance, such shares may (but need not) be made subject to the possibility of forfeiture or certain restrictions on transfer. Key executive, managerial and technical employees (including officers and employees who are directors) of Quest Diagnostics and of any subsidiary will be eligible to participate in the Program and the plans thereunder. The selection of employees eligible to participate in any plan under the Program is within the discretion of the Quest Diagnostics Compensation Committee. Approximately 150 employees would have been eligible to participate in the plans under the Program had the Program been in effect in 1996. Under the Program, the maximum number of shares of Quest Diagnostics Common Stock which may be optioned or granted to eligible employees will be 3,000,000. Shares from expired or terminated options under the Quest Diagnostics Stock Option Plan will be available again for option grant under the Program. Shares which are 88 issued but not earned, or which are forfeited under the Quest Diagnostics Incentive Stock Plan, will be available again for issuance under the Program. The Program provides for appropriate adjustments in the aggregate number of shares subject to the Program and in the number of shares and the price per share, or either, of outstanding options in the case of changes in the capital stock of Quest Diagnostics resulting from any recapitalization, stock or unusual cash dividend, stock distribution, stock split or any other increase or decrease effected without receipt of consideration by Quest Diagnostics, or a merger or consolidation in which Quest Diagnostics is the surviving corporation. The Program has a term of five years and no shares may be optioned or awarded and no rights to receive shares may be granted after the expiration of the Program. The Quest Diagnostics Board is authorized to terminate or amend the Program, except that it may not increase the number of shares available thereunder, decrease the price at which options may be granted, change the class of employees eligible to participate, or extend the term of the Program or options granted thereunder without the approval of the holders of a majority of the outstanding shares of Quest Diagnostics Common Stock. Quest Diagnostics believes that the federal income tax consequences of the Program are as follows. An optionee who exercises a non-qualified option granted under the Quest Diagnostics Stock Option Plan will recognize compensation taxable as ordinary income (subject to withholding) in an amount equal to the difference between the option price and the fair market value of the shares on the date of exercise and Quest Diagnostics or the subsidiary employing the optionee will be entitled to a deduction from income in the same amount. The optionee's basis in such shares will be increased by the amount taxable as compensation, and his capital gain or loss when he disposes of the shares will be calculated using such increased basis. If all applicable requirements of the Code with respect to incentive stock options are met, no income to the optionee will be recognized and no deduction will be allowable to Quest Diagnostics at the time of the grant or exercise of an incentive stock option. The excess of the fair market value of the shares at the time of exercise of an incentive stock option over the amount paid is an item of tax preference which may be subject to the alternative minimum tax. In general, if an incentive stock option is exercised three months after termination of employment, the optionee will recognize ordinary income in an amount equal to the difference between the option price and the fair market value of the shares on the date of exercise and Quest Diagnostics or the subsidiary employing the optionee will be entitled to a deduction in the same amount. If the shares acquired subject to the option are sold within one year of the date of exercise or two years from the date of grant, the optionee will recognize ordinary income in an amount equal to the difference between the option price and the lesser of the fair market value of the shares on the date of exercise or the sale price and Quest Diagnostics or the employing subsidiary will be entitled to a deduction from income in the same amount. Any excess of the sale price over the fair market value on the date of exercise will be taxed as a capital gain. Shares of Quest Diagnostics Common Stock which are not subject to restrictions and possibility of forfeiture and which are awarded to an employee under the Quest Diagnostics Incentive Stock Plan will be treated as ordinary income, subject to withholding, to an employee at the time of the transfer of the shares to him and the value of such awards will be deductible by Quest Diagnostics or by the subsidiary employing the employee at the same time in the same amount. Shares granted subject to restrictions and possibility of forfeiture will not be subject to tax nor will such grant result in a tax deduction for Quest Diagnostics at the time of award. However, when such shares become free of restrictions and possibility of forfeiture, the fair market value of such shares at that time (i) will be treated as ordinary income to the employee and (ii) will be deductible by Quest Diagnostics or by the subsidiary employing the employee. The tax treatment upon disposition of shares acquired under the Program will depend upon how long the shares have been held and on whether or not the shares were acquired by exercising an incentive stock option. There are no tax consequences to Quest Diagnostics upon a participant's disposition of shares acquired under the Program, except that Quest Diagnostics may take a deduction equal to the amount the participant must recognize as ordinary income in the case of the disposition of shares acquired under incentive stock options before the applicable holding period has been satisfied. Pension Plans. None of the executive officers of Quest Diagnostics is currently an active participant in a qualified defined benefit plan of Quest Diagnostics. Prior to June 1, 1995, December 1, 1996 and January 1, 1995, respectively, Messrs. Freeman, Carothers and VanOort were eligible to participate in, and accrue benefits under, Corning's Salaried Pension Plan (the "Corning 89 Salaried Pension Plan"), a defined benefit plan, contributions to which are determined by Corning's actuaries and are not made on an individual basis. Benefits paid under this plan are based upon career earnings (regular salary and cash awards paid under Corning's variable compensation plans) and years of credited service. The Corning Salaried Pension Plan provides that salaried employees of Corning who retire on or after December 31, 1993 will receive pension benefits equal to the greater of (a) benefits provided by a formula pursuant to which they shall receive for each year of credited service an amount equal to 1.5% of annual earnings up to the social security wage base and 2% of annual earnings in excess of such base or (b) benefits calculated pursuant to a formula which provides that retirees will receive for each year of credited service prior to January 1, 1994 an amount equal to 1% of the first $24,000 of average earnings for the highest five consecutive years of annual earnings in the ten years of credited service immediately prior to 1994 and 1.5% of such average earnings in excess of $24,000. Effective upon commencement of employment, salaried employees may contribute to the Corning Salaried Pension Plan 2% of their annual earnings up to the social security wage base. Such employees will receive for each year of credited service after December 31, 1990, in lieu of the amount described in (a) above, an amount equal to 2% of annual earnings. The benefit formula is reviewed and adjusted periodically for inflationary and other factors. Corning maintains a non-qualified Executive Supplemental Pension Plan (the "Executive Supplemental Plan") pursuant to which it will pay to certain executives amounts approximately equal to the difference between the benefits provided for under the Corning Salaried Pension Plan and benefits which would have been payable thereunder but for the provisions of the Employee Retirement Income Security Act of 1974, as amended ("ERISA"). It is anticipated that, prior to the Distribution Date, the Compensation Committee of the Corning Board will adopt a transferee supplemental pension plan (the "Transferee Supplemental Plan"), a nonqualified, unfunded defined benefit plan for the benefit of key employees and executive officers of Quest Diagnostics who are former employees of Corning, including Messrs. Freeman and VanOort, effective immediately after the Distribution Date. The Transferee Supplemental Plan will provide benefits approximately equal to the difference between the benefits provided for under the Corning Salaried Pension Plan and the Executive Supplemental Plan and benefits which would have been payable thereunder but for the termination of employment with Corning of such employees. Maximum annual benefits calculated under the straight life annuity option form of pension payable to participants at age 65, the normal retirement age specified in the Corning Salaried Pension Plan, are illustrated in the table set forth below. The table below does not reflect any limitations on benefits imposed by ERISA. It is estimated that Messrs. Freeman and VanOort, who have 25 and 15 years of credited service, respectively, would receive each year if they worked to age 65, the normal retirement age specified in the Corning Salaried Pension Plan, $256,170 and $165,332, respectively, under the Corning Salaried Pension Plan, the Executive Supplemental Plan and the Transferee Supplemental Plan.
Years of Service -------------------------------------------------------------- Remuneration 15 20 25 30 35 40 - -------------- ------- ------- ------- ------- ------- --------- $ 100,000 20,500 27,300 34,100 41,000 47,800 55,300 200,000 43,000 57,300 71,600 86,000 100,300 115,300 300,000 65,500 87,300 109,100 131,000 152,800 175,300 400,000 88,000 117,300 146,600 176,000 205,300 235,300 500,000 110,500 147,300 184,100 221,000 257,800 295,300 600,000 133,000 177,300 221,600 266,000 310,300 355,300 700,000 155,500 207,300 259,100 311,000 362,800 415,300 800,000 178,000 237,300 296,600 356,000 415,300 475,300 900,000 200,500 267,300 334,100 401,000 467,800 535,300 1,000,000 223,000 297,300 371,600 446,000 520,300 595,300 1,100,000 245,500 327,300 409,100 491,000 572,800 655,300 1,200,000 268,000 357,300 446,600 536,000 625,300 715,300
Quest Diagnostics Profit Sharing Plan. Most of the employees of Quest Diagnostics and its subsidiaries have been eligible to participate in a tax-qualified, defined contribution plan known as the Quest Diagnostics Profit Sharing Plan (the "Quest Diagnostics Profit Sharing Plan"), which provides for investment of employee contributions, including tax-deferred contributions under Section 401(k) of the Code, and matching contributions made by their employers, in several investment funds, including Corning Common Stock, at the employees' discretion. Effective as of the Distribution Date, Quest Diagnostics Common Stock will be added as an investment 90 fund and a portion of the employer matching contributions will automatically be invested in Quest Diagnostics Common Stock. Corning Common Stock will no longer be available as an investment fund except with respect to amounts already so invested under the Quest Diagnostics Profit Sharing Plan. Effective as of the Distribution Date, the Quest Diagnostics Profit Sharing Plan will be amended to permit participating employees' employers to make discretionary contributions, other than matching contributions, to the Quest Diagnostics Profit Sharing Plan for the benefit of such employees, which contributions may be invested in Quest Diagnostics Common Stock. Quest Diagnostics Employee Stock Ownership Plan. Quest Diagnostics has adopted, effective upon the Distributions, an employee stock ownership plan, as defined in Section 4975(e)(7) of the Code and related regulations and intended to qualify as a retirement plan under Section 401(a) of the Code, to be known as the Quest Diagnostics Employee Stock Ownership Plan (the "Quest Diagnostics ESOP"). Most employees of Quest Diagnostics and its subsidiaries will become participants in the Quest Diagnostics ESOP after accruing six months of service. To the extent permitted under the Quest Diagnostics ESOP, Quest Diagnostics will contribute as of the Distribution Date an amount equal to a portion of each participating employee's annual compensation. Quest Diagnostics may in its discretion from time to time make additional contributions to the Quest Diagnostics ESOP for the benefit of participating employees. The assets of the Quest Diagnostics ESOP will be invested primarily in shares of Quest Diagnostics Common Stock. Amounts contributed to the Quest Diagnostics ESOP for the benefit of participating employees will be 100% vested at age 65, the normal retirement age specified in the Quest Diagnostics ESOP, or at death, disability or termination of employment following completion of two years of credited service. Contributions to the Quest Diagnostics ESOP will not currently be taxable income to the participating employees and will not generally be available to them until termination of employment. Employee Stock Purchase Plan. Quest Diagnostics has adopted, as of the Distribution Date, the Employee Stock Purchase Plan (the "Quest Diagnostics Stock Purchase Plan"), pursuant to which Quest Diagnostics may make available for sale to employees shares of its Common Stock at a price equal to 85% of the market value on the first or last day of each calendar quarter, whichever is lower. The Quest Diagnostics Stock Purchase Plan, which will be administered by the Quest Diagnostics Compensation Committee, is designed to give eligible employees (generally, employees of Quest Diagnostics and its subsidiaries) the opportunity to purchase shares of Quest Diagnostics Common Stock through payroll deductions up to 10% of compensation in a series of quarterly offerings commencing January 1, 1997, and ending no later than December 31, 2001. Any eligible employee may elect to participate in the Quest Diagnostics Stock Purchase Plan on a quarterly basis and may terminate his payroll deduction at any time or increase or reduce prospectively the amount of his deduction at the beginning of any calendar quarter. At the end of each calendar quarter, a participating employee will purchase shares of Quest Diagnostics Common Stock with the funds deducted. The number of shares purchased will be a number determined by dividing the amount withheld by the lower of 85% of the closing price of a share of Quest Diagnostics Common Stock as reported in The Wall Street Journal on the first or last business day of the particular calendar quarter. An employee will have no interest in any shares of Quest Diagnostics Common Stock until such shares are actually purchased by him. Under the Quest Diagnostics Stock Purchase Plan, the maximum number of shares of Quest Diagnostics Common Stock which may be purchased by eligible employees will be 2,000,000 shares, subject to adjustment in the case of changes in the capital stock of Quest Diagnostics resulting from any recapitalization, stock dividend, stock split or any other increase or decrease effected without receipt of consideration by Quest Diagnostics. The Quest Diagnostics Stock Purchase Plan has a term of five years and no shares of Quest Diagnostics Common Stock may be offered for sale or sold under the Quest Diagnostics Stock Purchase Plan after the fifth anniversary of the effective date. The Quest Diagnostics Board is authorized to terminate or amend the Quest Diagnostics Stock Purchase Plan, except that it may not increase the number of shares of Quest Diagnostics Common Stock available thereunder, decrease the price at which such shares may be offered for sale or change the designation of subsidiaries eligible to participate in the plan without the approval of the holders of a majority of the shares of the capital stock of Quest Diagnostics cast at a meeting at which such matter is considered. 91 Employment Agreements; Severance Arrangements. It is anticipated that Mr. Freeman will enter into an employment agreement with Quest Diagnostics. The agreement will expire on or before December 31, 1999. The agreement will include provisions for an annual salary of no less than $500,000, with increases subject to the discretion of the Quest Diagnostics Board; annual target participation in the Variable Compensation Plan of Quest Diagnostics in amounts no less than 65% of annual salary in effect at the time performance goals are established; and severance payments following a termination by Mr. Freeman for "Good Reason" or by Quest Diagnostics, without cause in accordance with the severance policy described below, except that Mr. Freeman will receive three times his base annual salary and three times his annual award of variable compensation. "Good Reason" is defined as assignment of Mr. Freeman without his consent to mutually inconsistent duties or responsibilities, a failure to re-elect Mr. Freeman to the position of President and Chief Executive Officer, a greater than 75 mile office relocation without his consent and a Change of Control (as detailed in the next paragraph). The agreement will also include provision for reimbursement of up to $10,000 per month until the earlier of Mr. Freeman's obtaining suitable housing in the New York metropolitan area or June 30, 1998; eligibility for a $400,000 interest-free relocation loan to be forgiven over a five-year period; and, in the event the agreement is not renewed upon its expiration, a payment equal to two times the highest annual cash compensation paid to Mr. Freeman during the term of the agreement and health benefits for eighteen months following expiration of the agreement. Mr. Freeman will also be entitled under the agreement to a retirement pension benefit equivalent to benefits under the Corning Salaried Pension Plan and the Executive Supplemental Plan based on not less than 34 years of credited service in the event of termination for reasons other than cause. Mr. Freeman's pension benefits will be initially secured by a $5.4 million letter of credit (such amount based on initial assumptions for pricing pension benefits) issued under the Credit Facility. On or before the Distribution Date, Quest Diagnostics will adopt a severance policy pursuant to which it will provide to each executive officer other than Mr. Freeman and Drs. Fisher and Gambino upon the termination of employment by Quest Diagnostics other than for cause upon a determination that the business needs of Quest Diagnostics require the replacement of such executive officer and other than in connection with a change of control, compensation equal to two times the executive officer's base annual salary at the annual rate in effect on the date of termination and two times the annual award of variable compensation at the most recent target level. Such executive officer will also be entitled to participate in Quest Diagnostics' health and benefits plans (to the extent permitted by the administrative provisions of such plans and applicable federal and state law) for a period of up to two years or until such officer is covered by a successor employer's benefit plans, whichever first occurs. Pursuant to such policy, upon a change of control Quest Diagnostics will provide to each such executive officer upon the termination of employment by Quest Diagnostics other than for cause during the twelve months following a change in control, compensation equal to three times annual base salary and three times the award of annual variable compensation at the most recent target level and such officer will be entitled to participate in Quest Diagnostics' health and benefit plans for a period of up to three years or until such officer is covered by a successor employer's benefits plans, whichever first occurs (to the extent permitted by the administrative provisions of such plans and applicable federal and state law). A "Change in Control" is defined in the policy to include the following: the acquisition by a person of 20% or more of the voting stock of Quest Diagnostics; the membership of the Quest Diagnostics Board changes as a result of a contested election such that a majority of the Quest Diagnostics Board members at any particular time were initially placed on the Quest Diagnostics Board as a result of such contested election; or approval by Quest Diagnostics' stockholders of a merger or consolidation in which Quest Diagnostics is not the survivor thereof, or a sale or disposition of all or substantially all of Quest Diagnostics' assets or a plan of partial or complete liquidation. 92 SECURITY OWNERSHIP BY CERTAIN BENEFICIAL OWNERS AND MANAGEMENT OF QUEST DIAGNOSTICS All of the outstanding shares of Quest Diagnostics Common Stock are currently held by CLSI, which is wholly owned by Corning. The following table sets forth the number of shares of Quest Diagnostics Common Stock that are projected to be beneficially owned after the Quest Diagnostics Spin-Off Distribution by the directors, by the named executive officers and by all directors and executive officers of Quest Diagnostics as a group. The projections are based on the number of shares of Corning Common Stock held by such persons and such group as of October 31, 1996 (including certain restricted shares that may be forfeited prior to the Distribution Date but excluding Career Shares that will not receive the Distributions and Corning Common Stock held in the Quest Diagnostics Profit Sharing Plan and the Corning Investment Plans) and on the number of options to acquire Corning Common Stock held as of such date and exercisable within 60 days thereof. With respect to the shares of Quest Diagnostics Common Stock, the number reflects the distribution ratio of one share of Quest Diagnostics Common Stock for every eight shares of Corning Common Stock and with respect to options the number reflects the actual number of shares of Corning Common Stock subject to options. The stock options held by the directors and executive officers of Quest Diagnostics will not affect the security ownership of Quest Diagnostics unless (i) such options are exercised prior to the Record Date and the underlying shares of Corning Common Stock are held on the Record Date or (ii) such options are converted into options to purchase shares of Quest Diagnostics Common Stock.
Number of Shares Beneficially Owned Number of Name (1) Exercisable Options - ---------------------------- ------------------ ------------------- Van C. Campbell 17,850 (2) 127,457 Robert A. Carothers 316 12,483 Gregory C. Critchfield 0 1,500 David A. Duke 10,878 (2) 82,000 Kenneth W. Freeman 14,461 103,500 Don M. Hardison, Jr. 500 0 Douglas M. VanOort 5,965 11,500 Gail R. Wilensky 5,000 (2) 0 All Directors and Executive Officers as a Group 66,280 393,562
- ------------- (1) Does not include 3,954 shares owned by the spouses and minor children of certain executive officers and directors (or trusts of which families of such executive officers are beneficiaries) as to which such officers and directors disclaim beneficial ownership. (2) Includes 5,000 shares of Quest Diagnostics Common Stock which each non-employee director will receive in connection with their election but does not include 750 shares of Quest Diagnostics Common Stock for each year specified in the term of service as a director. See "Management of Quest Diagnostics--Management-- Directors' Compensation." 93 DESCRIPTION OF QUEST DIAGNOSTICS CAPITAL STOCK General The following is a brief summary of certain provisions of the Quest Diagnostics Certificate, as the restated certificate of incorporation will be amended immediately prior to the Quest Diagnostics Spin-Off Distribution, and does not relate to or give effect to provisions of statutory or other law except as specifically stated. The Quest Diagnostics Certificate authorizes the issuance of 100,000,000 shares of Quest Diagnostics Common Stock. Approximately 28,901,735 shares of Quest Diagnostics Common Stock are expected to be outstanding immediately following the Quest Diagnostics Spin-Off Distribution. The rights of holders of shares of Quest Diagnostics Common Stock are governed by the Quest Diagnostics Certificate, the Quest Diagnostics By-Laws and by the DGCL. Voting Rights Subject to the voting of any shares of Quest Diagnostics Series Preferred Stock (as defined below) that may be outstanding, voting power is vested in the Quest Diagnostics Common Stock, each share having one vote, and the Quest Diagnostics Voting Cumulative Preferred Stock, each $1,000 liquidation preference of which has one vote, voting together as a single class. Preemptive Rights The Quest Diagnostics Certificate provides that no holder of shares of Quest Diagnostics Common Stock or Quest Diagnostics Series Preferred Stock shall have any preemptive rights except as the Quest Diagnostics Board may determine from time to time. No such rights have been granted by the Quest Diagnostics Board. Quest Diagnostics Common Stock Liquidation Rights. Subject to the preferential rights of any outstanding Quest Diagnostics Series Preferred Stock and the Quest Diagnostics Voting Cumulative Preferred Stock, in the event of any liquidation of Quest Diagnostics, holders of shares of Quest Diagnostics Common Stock then outstanding are entitled to share ratably in the assets of Quest Diagnostics available for distribution to such holders. Dividend Policy. Subject to any preferential rights of any outstanding Quest Diagnostics Series Preferred Stock or Quest Diagnostics Voting Cumulative Preferred Stock, such dividends as may be determined by the Quest Diagnostics Board may be declared and paid on the shares of Quest Diagnostics Common Stock from time to time out of any funds legally available therefor. It is currently contemplated that, following the Distributions, Quest Diagnostics will not pay cash dividends in the foreseeable future, but will retain earnings to provide funds for the operation and expansion of its business. Dividend decisions will be based upon a number of factors, including the operating results and financial requirements of Quest Diagnostics and such other considerations as the Quest Diagnostics Board deems relevant. In addition, the Quest Diagnostics Credit Facility prohibits Quest Diagnostics from paying cash dividends on the Quest Diagnostics Common Stock. Further, the Indenture under which the Notes will be issued will limit Quest Diagnostics' ability to pay cash dividends on the Quest Diagnostics Common Stock based on 50% of Quest Diagnostics' net income, plus a credit for issuances of capital stock. Other Provisions. The shares of Quest Diagnostics Common Stock have no redemption, sinking fund or conversion privileges applicable thereto and holders of shares of Quest Diagnostics Common Stock are not liable to assessments or to further call. Listing and Trading. Prior to the Distributions, there has been no public trading market for the Quest Diagnostics Common Stock although a "when issued" market is expected to develop prior to the Distribution Date. Application has been made to list the Quest Diagnostics Common Stock on the NYSE, subject to official notice of the Distributions, under the trading symbol "DGX." Prices at which Quest Diagnostics Common Stock may trade prior to the Distributions on a "when-issued" basis or after the Distributions cannot be predicted. Until shares of the Quest Diagnostics Common Stock are fully distributed and an orderly market develops, the prices at which trading in such stock occurs may fluctuate significantly. The prices at which Quest Diagnostics Common Stock will trade will be determined by the marketplace and may be influenced by many factors, including, among others, the depth and liquidity of the market for Quest Diagnostics Common Stock, investor perceptions of Quest Diagnostics, 94 the clinical laboratory testing business, and general economic and market conditions. Quest Diagnostics initially will have approximately 18,000 stockholders of record, based on the number of holders of record of Corning Common Stock at the date of this Information Statement. The Transfer Agent and Registrar for the Quest Diagnostics Common Stock will be Harris Trust and Savings Bank. For certain information regarding options to purchase Quest Diagnostics Common Stock that may become outstanding after the Distributions, see "Management of Quest Diagnostics." Quest Diagnostics Series Preferred Stock The Quest Diagnostics Certificate authorizes the issuance of up to 10,000,000 shares of Quest Diagnostics Series Preferred Stock, par value $1.00 per share (the "Quest Diagnostics Series Preferred Stock"). The Quest Diagnostics Board has the authority to issue such shares from time to time, without stockholder approval, and to determine the designations, preferences, rights, including voting rights, and restrictions of such shares, subject to the DGCL. Pursuant to this authority, the Quest Diagnostics Board has designated 600,000 shares of Quest Diagnostics Series Preferred Stock as Quest Diagnostics Series A Preferred Stock and 1,000 shares of Quest Diagnostics Nonvoting Cumulative Preferred Stock. No other class of Quest Diagnostics Series Preferred Stock has been designated by the Quest Diagnostics Board. Voting Cumulative Preferred Stock General. Prior to the Quest Diagnostics Spin-off Distribution, Quest Diagnostics will issue to Corning 1,000 shares of Voting Cumulative Preferred Stock, liquidation preference $1,000 per share (the "Quest Diagnostics Voting Cumulative Preferred Stock") without further stockholder approval. Dividend Policy. Holders of shares of Quest Diagnostics Voting Cumulative Preferred Stock will be entitled to receive, when, as and if declared by the Quest Diagnostics Board out of funds legally available for the purpose, quarterly dividends payable in cash at the rate of 10% (the "Dividend Rate") per annum, provided, however, that the Dividend Rate per annum shall be the greater of (a) 10% and (b) the yield to maturity of the Notes expressed as a percentage plus 1%. Voting Rights. The Quest Diagnostics Voting Cumulative Preferred Stock votes together with the Quest Diagnostics Common Stock as a single class and will have one vote per $1,000 liquidation preference. The Quest Diagnostics Cumulative Preferred Stock also votes as a separate class on any amendment to the Certificate of Incorporation which adversely affects the rights of the Quest Diagnostics Voting Cumulative Preferred Stock; provided, however, that any increase in the amount of authorized Quest Diagnostics Common Stock or authorized preferred stock or any increase or decrease in the number of shares of any series of preferred stock or the creation and issuance of other series of common stock or preferred stock shall not be deemed to adversely affect the rights of the Quest Diagnostics Voting Cumulative Preferred Stock. Certain Restrictions. Whenever quarterly dividends or other dividends or distributions payable on the Quest Diagnostics Voting Cumulative Preferred Stock are in arrears, thereafter and until all accrued and unpaid dividends and distributions, whether or not declared, on shares of Quest Diagnostics Voting Cumulative Preferred Stock outstanding shall have been paid in full, Quest Diagnostics shall not: (i) declare or pay dividends, or make any other distributions, on any shares of stock ranking junior (either as to dividends or upon liquidation, dissolution or winding-up) to the Quest Diagnostics Voting Cumulative Preferred Stock; (ii) declare or pay dividends, or make any other distributions, on any shares of Parity Preferred Stock (as defined below) on which dividends are payable or in arrears in proportion to the total amounts to which the holders of all such shares are then entitled; (iii) redeem or purchase or otherwise acquire for consideration shares of any stock ranking junior (either as to dividends or upon liquidation, dissolution or winding-up) to the Quest Diagnostics Voting Cumulative Preferred Stock, provided that Quest Diagnostics may at any time redeem, purchase or otherwise acquire shares of any such junior stock in exchange for shares of any stock of Quest Diagnostics ranking junior (either as to dividends or upon dissolution, liquidation or winding-up) to the Quest Diagnostics Voting Cumulative Preferred Stock; or 95 (iv) redeem or purchase or otherwise acquire for consideration any shares of Quest Diagnostics Voting Cumulative Preferred Stock, or any Parity Preferred Stock, except in accordance with a purchase offer made in writing or by publication (as determined by the Quest Diagnostics Board) to all holders of such shares upon such terms as the Quest Diagnostics Board, after consideration of the respective annual dividend rates and other relative rights and preferences of the respective series and classes, shall determine in good faith will result in fair and equitable treatment among the respective series or classes. Quest Diagnostics shall not permit any subsidiary of Quest Diagnostics to purchase or otherwise acquire for consideration any shares of stock of Quest Diagnostics unless Quest Diagnostics could purchase or otherwise acquire such shares at such time and in such manner. Liquidation Preference. The shares of Quest Diagnostics Voting Cumulative Preferred Stock shall rank, as to liquidation, dissolution or winding-up of Quest Diagnostics, prior to the shares of Quest Diagnostics Common Stock and any other class of stock of Quest Diagnostics ranking junior to the Quest Diagnostics Voting Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding-up of Quest Diagnostics, so that in the event of any liquidation, dissolution or winding-up of Quest Diagnostics, whether voluntary or involuntary, the holders of the Quest Diagnostics Voting Cumulative Preferred Stock shall be entitled to receive out of the assets of Quest Diagnostics available for distribution to its shareholders, whether from capital, surplus or earnings, before any distribution is made to holders of shares of Quest Diagnostics Common Stock or any other such junior stock, an amount equal to $1,000 per share (the "Liquidation Preference" of a share of Quest Diagnostics Voting Cumulative Preferred Stock) plus an amount equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid on the shares of Quest Diagnostics Voting Cumulative Preferred Stock to the date of final distribution. The holders of the Quest Diagnostics Voting Cumulative Preferred Stock will not be entitled to receive the Liquidation Preference and such dividends until the liquidation preference of any other class of stock of Quest Diagnostics ranking senior to the Quest Diagnostics Voting Cumulative Preferred Stock as to rights upon liquidation, dissolution or winding-up shall have been paid (or a sum set aside therefor sufficient to provide for payment) in full. After payment of the full amount of the Liquidation Preference and such dividends, the holders of shares of Quest Diagnostics Voting Cumulative Preferred Stock will not be entitled to any further participation in any distribution of assets by Quest Diagnostics. If, upon any liquidation, dissolution or winding-up of Quest Diagnostics, the assets of Quest Diagnostics, or proceeds thereof, distributable among the holders of the shares of Quest Diagnostics Voting Cumulative Preferred Stock and Parity Preferred Stock shall be insufficient to pay in full the preferential amount aforesaid, then such assets, or the proceeds thereof, shall be distributable among such holders ratably in accordance with the respective amounts which would be payable on such shares if all amounts payable thereon were paid in full. For the purposes hereof, neither a consolidation or merger of Quest Diagnostics with or into any other corporation, nor a merger of any other corporation with or into Quest Diagnostics, nor a sale or transfer of all or any part of Quest Diagnostics' assets for cash or securities shall be considered a liquidation, dissolution or winding-up of Quest Diagnostics. Conversion. The Quest Diagnostics Voting Cumulative Preferred Stock is not convertible into shares of any other class or series of stock of Quest Diagnostics. Optional Redemption. The shares of the Quest Diagnostics Voting Cumulative Preferred Stock may be redeemed at the option of Quest Diagnostics, as a whole, or from time to time in part, at any time, out of funds legally available therefor, upon giving a notice or redemption at least 30 days prior to the date set for redemption; provided, however, that shares of the Quest Diagnostics Voting Cumulative Preferred Stock shall not be redeemable prior to December 31, 2002. Subject to the foregoing, on or after such date, shares of the Quest Diagnostics Voting Cumulative Preferred Stock are redeemable at the redemption prices per share (expressed as a percentage of the Liquidation Preference set forth below) plus an amount in cash equal to all dividends (whether or not earned or declared) accrued and accumulated and unpaid to, but excluding, the date fixed for redemption (the "Redemption Amount") if redeemed during the 12-month period beginning January 1 of each of the years set forth below:
Year Percentage - ------------------------- ------------ 2003 106.000% 2004 104.000% 2005 102.000% 2006 and thereafter 100.000%
If Quest Diagnostics effects such redemption, it shall do so ratably according to the number of shares held by each holder of Quest Diagnostics Voting Cumulative Preferred Stock. 96 Mandatory Redemption. On January 1, 2022, Quest Diagnostics shall redeem all of the then outstanding shares of Quest Diagnostics Voting Cumulative Preferred Stock, out of funds legally available therefor at a redemption price equal to the Liquidation Preference. The redemption payment for each share of Quest Diagnostics Voting Cumulative Preferred Stock shall be the Redemption Amount, in cash, as of January 1, 2022. Authorization and Issuance of Other Securities. No consent of the holders of the Quest Diagnostics Voting Cumulative Preferred Stock shall be required for (a) the creation of any indebtedness of any kind of Quest Diagnostics, (b) the creation, or increase or decrease in the amount, of any class or series of stock of Quest Diagnostics ranking on a parity with, senior to or junior to the Quest Diagnostics Voting Cumulative Preferred Stock as to the payment of dividends or amounts upon liquidation, dissolution or winding up or (c) any increase or decrease in the amount of authorized Common Stock or any increase, decrease or change in the par value thereof or in any other terms thereof. Rank. The Quest Diagnostics Voting Cumulative Preferred Stock will rank senior to the Quest Diagnostics Common Stock and the Series A Preferred Stock, on a parity with any series of preferred stock ranking on a parity with the Quest Diagnostics Voting Cumulative Preferred Stock as to the payment of dividends and amounts upon liquidation, dissolution and winding-up (a "Parity Preferred Stock"), and junior to all other series of preferred stock that do not expressly provide that such series is to rank junior to or on a parity with the Quest Diagnostics Voting Cumulative Preferred Stock. Preferred Share Purchase Rights Attached to each share of Quest Diagnostics Common Stock is one right ("Quest Diagnostics Right"), which entitles the registered holder to purchase from Quest Diagnostics one one-hundredth of a share of Quest Diagnostics Series A Preferred Stock at a price of $35 per one-hundredth of a share of Quest Diagnostics Series A Preferred Stock (the "Exercise Price"), subject to adjustment. The Quest Diagnostics Rights expire on December 31, 2006 (the "Final Expiration Date"), unless the Final Expiration Date is extended or unless the Quest Diagnostics Rights are earlier exercised. The Quest Diagnostics Rights represented by the certificates for shares of Quest Diagnostics Common Stock are not exercisable, and are not transferable apart from the shares of Quest Diagnostics Common Stock, until the earlier of (1) ten days following the public announcement by Quest Diagnostics or an Acquiring Person (as defined below) that a person or group has acquired beneficial ownership of 20% or more of the shares of Quest Diagnostics Common Stock (an "Acquiring Person") or (2) ten business days (or such later date as the Quest Diagnostics Board may determine prior to such time as any person or group of affiliated persons becomes an Acquiring Person) after the commencement or first public announcement of an intention to make a tender or exchange offer that would result in a person or group beneficially owning 20% or more of the shares of Quest Diagnostics Common Stock (the earlier of such dates being called the "Rights Distribution Date"). The Quest Diagnostics Board has the authority to determine that a person that has inadvertently acquired beneficial ownership of 20% of the shares of Quest Diagnostics Common Stock is not an Acquiring Person if such person promptly reduces its ownership interest to below 20%. Separate certificates for the Quest Diagnostics Rights will be mailed to holders of record of the shares of Quest Diagnostics Common Stock as of such date. The Quest Diagnostics Rights could then begin trading separately from the shares of Quest Diagnostics Common Stock. Generally, in the event that a person or group becomes an Acquiring Person, each Quest Diagnostics Right (other than the Quest Diagnostics Rights owned by the Acquiring Person and certain affiliated persons) will thereafter entitle the holder to receive, upon exercise of the Quest Diagnostics Right, shares of Quest Diagnostics Common Stock having a value equal to two times the Exercise Price of the Quest Diagnostics Right. In the event that a person or group becomes an Acquiring Person (but prior to such time as such person or group beneficially owns 50% or more of the outstanding shares of Quest Diagnostics Common Stock), the Quest Diagnostics Board may exchange each Quest Diagnostics Right and each one one-hundredth of a share of Quest Diagnostics Series A Preferred Stock (other than Quest Diagnostics Rights and Quest Diagnostics Series A Preferred Stock owned by the Acquiring Person and certain affiliated persons) for one share of Quest Diagnostics Common Stock. In the event that Quest Diagnostics is acquired in a merger, consolidation, or other business combination transaction or more than 50% of Quest Diagnostics' assets, cash flow or earning power is sold or transferred, each Quest Diagnostics Right (other than the Quest Diagnostics Rights owned by an Acquiring Person and certain affiliated persons) will thereafter entitle the holder thereof to receive, upon the exercise of the Quest Diagnostics Right, 97 common stock of the acquiring corporation having a value equal to two times the Exercise Price of the Quest Diagnostics Right. The Quest Diagnostics Rights are redeemable in whole, but not in part, at $.01 per Quest Diagnostics Right at any time prior to any person or group becoming an Acquiring Person. The right to exercise the Quest Diagnostics Rights terminates at the time that the Quest Diagnostics Board elects to redeem the Quest Diagnostics Rights. Notice of redemption shall be given by mailing such notice to the registered holders of the Quest Diagnostics Rights. At no time will the Quest Diagnostics Rights have any voting rights. The Quest Diagnostics Rights Agent is Harris Trust and Savings Bank (the "Quest Diagnostics Rights Agent"). The exercise price payable, and the number of shares of Quest Diagnostics Series A Preferred Stock or other securities or property issuable, upon exercise of the Quest Diagnostics Rights are subject to adjustment from time to time to prevent dilution (i) in the event of a stock dividend on, or a subdivision, combination or reclassification of, the shares of Quest Diagnostics Series A Preferred Stock, (ii) upon the grant to holders of the shares of Quest Diagnostics Series A Preferred Stock of certain rights or warrants to subscribe for or purchase shares of Quest Diagnostics Series A Preferred Stock at a price, or securities convertible into shares of Quest Diagnostics Series A Preferred Stock with a conversion price, less than the then current market price of the shares of Quest Diagnostics Series A Preferred Stock or (iii) upon the distribution to holders of the shares of Quest Diagnostics Series A Preferred Stock of evidences of indebtedness or assets (excluding regular periodic cash dividends paid out of earnings or retained earnings or dividends payable in shares of Quest Diagnostics Series A Preferred Stock) or of subscription rights or warrants (other than those referred to above). The number of outstanding Quest Diagnostics Rights and the number of one one-hundredths of a share of Quest Diagnostics Series A Preferred Stock issuable upon exercise of each Quest Diagnostics Right are also subject to adjustment in the event of a stock split of, or stock dividend on, or subdivision, consolidation or combination of, the shares of Quest Diagnostics Common Stock prior to the Quest Diagnostics Rights Distribution Date. With certain exceptions, no adjustment in the exercise price will be required until cumulative adjustments require an adjustment of at least 1% in such exercise price. Upon exercise of the Quest Diagnostics Rights, no fractional shares of Quest Diagnostics Series A Preferred Stock will be issued (other than fractions which are integral multiples of one one-hundredth of a share, which may, at the election of Quest Diagnostics, be evidenced by depository receipts) and in lieu thereof an adjustment in cash will be made. The Quest Diagnostics Rights have certain antitakeover effects. The Quest Diagnostics Rights may cause substantial dilution for a person or group that attempts to acquire Quest Diagnostics on terms not approved by the Quest Diagnostics Board, except pursuant to an offer conditioned on a substantial number of Quest Diagnostics Rights being acquired. The Quest Diagnostics Rights should not interfere with any merger or other business combination approved by the Quest Diagnostics Board since the Quest Diagnostics Rights may be redeemed by Quest Diagnostics at $.01 per Quest Diagnostics Right prior to the acquisition by a person or group of beneficial ownership of 20% or more of the shares of Quest Diagnostics Common Stock. The shares of Quest Diagnostics Series A Preferred Stock purchasable upon exercise of the Quest Diagnostics Rights will rank junior to all other series of Quest Diagnostics'preferred stock or any similar stock that specifically provides that they shall rank prior to the shares of Quest Diagnostics Series A Preferred Stock. The shares of Quest Diagnostics Series A Preferred Stock will be nonredeemable. Each share of Quest Diagnostics Series A Preferred Stock will be entitled to a minimum preferential quarterly dividend of $1 per share, but will be entitled to an aggregate dividend of 100 times the dividend declared per share of Quest Diagnostics Common Stock. In the event of liquidation, the holders of the shares of Quest Diagnostics Series A Preferred Stock will be entitled to a minimum preferential liquidation payment of $1 per share, but will be entitled to an aggregate payment of 100 times the payment made per share of Quest Diagnostics Common Stock. Each share of Quest Diagnostics Series A Preferred Stock will have 100 votes, voting together with the shares of Quest Diagnostics Common Stock. In the event of any merger, consolidation or other transaction in which shares of Quest Diagnostics Common Stock are exchanged, each share of Quest Diagnostics Series A Preferred Stock will be entitled to receive 100 times the amount and type of consideration received per share of Quest Diagnostics Common Stock. These rights are protected by customary antidilution provisions. Because of the nature of the Quest Diagnostics Series A Preferred Stock's dividend, liquidation and voting rights, the value of the interest in a share of Quest Diagnostics Series A Preferred Stock 98 purchasable upon the exercise of each Quest Diagnostics Right approximates the value of one share of Quest Diagnostics Common Stock. The foregoing description of the Quest Diagnostics Rights, which describes all of the material terms of the Quest Diagnostics Rights, does not purport to be complete and is qualified in its entirety by reference to the description of the Quest Diagnostics Rights contained in the Quest Diagnostics Rights Agreement, dated as of December 31, 1996 between Quest Diagnostics and the Quest Diagnostics Rights Agent, which agreement has been filed as an exhibit to Quest Diagnostics' registration statement on Form 10 (the "Quest Diagnostics Form 10") that Quest Diagnostics has filed with the Commission. Prior to the Quest Diagnostics Rights Distribution Date, the Quest Diagnostics Rights Agreement may be amended in any respect. After the Quest Diagnostics Rights Distribution Date, the Quest Diagnostics Rights Agreement may be amended in any respect that does not adversely affect the Quest Diagnostics Rights holders. Restrictions on Transfer Shares of the Quest Diagnostics Common Stock distributed to Corning shareholders will be freely transferable, except for shares received by any persons who may be deemed to be "affiliates" of Quest Diagnostics as that term is defined in Rule 144 promulgated under the Securities Act, which shares will remain subject to the resale limitations of Rule 144. Persons who may be deemed to be affiliates of Quest Diagnostics after the Quest Diagnostics Spin-off Distribution generally include individuals or entities that control, are controlled by, or are under common control with Quest Diagnostics and may include certain officers and directors of Quest Diagnostics as well as principal stockholders of Quest Diagnostics. Persons who are affiliates of Quest Diagnostics will be permitted to sell their shares of Quest Diagnostics only pursuant to an effective registration statement under the Securities Act or an exemption from the registration requirements of the Securities Act, such as the exemption provided by Section 4(1) of the Securities Act or Rule 144 thereunder. The Section 4(1) exemption allows the sale of unregistered shares by a person who is not an issuer, an underwriter or a dealer. Rule 144 provides persons who are not issuers with objective standards for selling restricted securities and securities held by affiliates without registration. The rule requires (1) current public information be available concerning the issuer; (2) volume limitations be placed on sales during any three-month period; and (3) compliance with certain manner of sale restrictions. The amount of the Quest Diagnostics Common Stock which could be sold under Rule 144 during a three-month period cannot exceed the greater of (1) 1% of the outstanding shares of Quest Diagnostics Common Stock, or (2) the average weekly trading volume for the shares for a four-week period prior to the date that notice of the sale is filed with the Commission. 99 ANTITAKEOVER EFFECTS OF CERTAIN PROVISIONS OF THE QUEST DIAGNOSTICS CERTIFICATE OF INCORPORATION AND BY-LAWS General In addition to the Quest Diagnostics Rights, the Quest Diagnostics Certificate and the Quest Diagnostics By- Laws contain other provisions that may discourage a third party from seeking to acquire Quest Diagnostics, or to commence a proxy contest or other takeover-related action. These provisions, which are in all material respects identical to the provisions contained in the certificate of incorporation and By-Laws of Corning, are intended to enhance the likelihood of continuity and stability in the composition of the Quest Diagnostics Board and in the policies formulated by the Quest Diagnostics Board and to discourage certain types of transactions that may involve an actual or threatened change of control of Quest Diagnostics. These provisions are designed to reduce the vulnerability of Quest Diagnostics to an unsolicited acquisition proposal and also to discourage certain tactics that may be used in proxy fights. Because such provisions could have the effect of discouraging potential acquisition proposals, they may consequently inhibit fluctuations in the market price of Quest Diagnostics Common Stock which could result from actual or rumored takeover attempts. Such provisions also may have the effect of preventing changes in the management of Quest Diagnostics. See "Risk Factors--Risks Relating to Quest Diagnostics-- Certain Antitakeover Effects." Board of Directors The Quest Diagnostics Certificate provides that, effective as of the Quest Diagnostics Spin-Off Distribution, the Quest Diagnostics Board is divided into three classes, with the classes to be nearly as equal as possible. One class has a term expiring at the 1998 annual meeting of stockholders of Quest Diagnostics; the second class has a term expiring at the 1999 annual meeting of stockholders of Quest Diagnostics; and the third class has a term expiring at the 2000 annual meeting of stockholders of Quest Diagnostics. At each annual meeting of stockholders, one class of the Quest Diagnostics Board will be elected for a three-year term. The classification of directors has the effect of making it more difficult to change the composition of the Quest Diagnostics Board. At least two annual meetings of stockholders, instead of one, generally will be required to effect a change in the majority of the Quest Diagnostics Board. The Quest Diagnostics Board believes that the longer time required to elect a majority of a classified board will help ensure the continuity and stability of Quest Diagnostics' management and policies, because in most cases a majority of the directors at any given time will have had prior experience as directors of Quest Diagnostics. Under the DGCL, unless the certificate of incorporation otherwise provides, a director on a classified board may only be removed by the stockholders for cause. The Quest Diagnostics Certificate provides that a director of Quest Diagnostics is only removable by the stockholders for cause. The Quest Diagnostics Certificate limits the number of directors to twelve and requires that any vacancies on the Quest Diagnostics Board be filled only by a majority of the entire Quest Diagnostics Board. The provisions of the DGCL and the Quest Diagnostics Certificate relating to the removal of directors and the filling of vacancies on the Quest Diagnostics Board preclude a third party from removing incumbent directors without cause and simultaneously gaining control of the Quest Diagnostics Board by filling, with its own nominees, the vacancies created by removal. These provisions also reduce the power of stockholders generally, even those with a majority voting power in Quest Diagnostics, to remove incumbent directors and to fill vacancies on the Quest Diagnostics Board without the support of the incumbent directors. Stockholder Action and Special Meetings The Quest Diagnostics Certificate provides that all stockholder actions to be effected by written consent and not a duly called meeting must be effected by the unanimous written consent of all stockholders entitled to consent thereto. This provision reduces the power of the Quest Diagnostics stockholders and precludes a stockholder of Quest Diagnostics from conducting any form of consent solicitation. The Quest Diagnostics Certificate also does not permit stockholders of Quest Diagnostics to call special meetings of stockholders. Advance Notice Requirements for Stockholder Proposals and Director Nominations The Quest Diagnostics By-Laws contain an advance notice procedure with respect to the nomination, other than by or at the direction of the Quest Diagnostics Board or a committee thereof, of candidates for election as 100 directors as well as for other stockholder proposals to be considered at annual meetings of stockholders. Delivery of a notice with the required information must be delivered to the Secretary of Quest Diagnostics not later than 60 days nor more than 90 days prior to the date of the stockholders' meeting at which the nomination or other proposal is to be considered. No matters can be considered at special meetings of the stockholders other than such matters as are set forth in the notice of meeting. Although the notice provisions do not give the Quest Diagnostics Board any power to approve or disapprove stockholder nominations or proposals for action by Quest Diagnostics, they may have the effect of (i) precluding a contest for the election of directors or the consideration of stockholder proposals if the procedures established by the Quest Diagnostics By-Laws are not followed and (ii) discouraging or deterring any third party from conducting a solicitation of proxies to elect its own slate of directors or to approve its proposals, without regard to whether consideration of such nominees or proposals might be harmful or beneficial to Quest Diagnostics and its stockholders. The purpose of requiring advance notice is to afford the Quest Diagnostics Board an opportunity to consider the qualifications of the proposed nominees or the merits of other stockholder proposals and, to the extent deemed necessary or desirable by the Quest Diagnostics Board, to inform stockholders about those matters. Business Combinations with Interested Stockholders Paragraph 6 of the Quest Diagnostics Certificate (the "Fair Price Amendment") requires the approval by the holders of at least 80% of the voting power of the outstanding capital stock of Quest Diagnostics entitled to vote generally in the election of directors (the "Quest Diagnostics Voting Stock") as a condition for mergers and certain other Business Combinations (as defined below) with any beneficial owner of more than 10% of such voting power (an "Interested Stockholder") unless (i) the transaction is approved by at least a majority of the Continuing Directors (as defined below) or (ii) certain minimum price, form of consideration and procedural requirements are met. An Interested Stockholder, in general, is defined as any person or group who is, or was at any time within the two-year period immediately prior to the date in question, the beneficial owner of more than 10% of the voting power of the Quest Diagnostics Voting Stock. The term "beneficial owner" includes persons directly or indirectly owning or having the right to acquire or vote the shares. In certain circumstances, an Interested Stockholder could include persons or entities affiliated or associated with the Interested Stockholder. A Business Combination generally includes the following transactions: (i) a merger or consolidation of Quest Diagnostics or any subsidiary with an Interested Stockholder; (ii) the sale or other disposition by Quest Diagnostics or a subsidiary of assets having an aggregate fair market value of $20,000,000 or more if an Interested Stockholder is a party to the transaction; (iii) the issuance or transfer of stock or other securities of Quest Diagnostics or of a subsidiary to an Interested Stockholder in exchange for cash or property (including stock or other securities) having an aggregate fair market value of $20,000,000 or more; (iv) the adoption of any plan or proposal for the liquidation or dissolution of Quest Diagnostics proposed by or on behalf of an Interested Stockholder; (v) any reclassification of securities, recapitalization, merger or consolidation with a subsidiary or other transaction which has the effect, directly or indirectly, of increasing the percentage of the outstanding stock of any class of Quest Diagnostics or a subsidiary owned by an Interested Stockholder; or (vi) any agreement, contract or other arrangement providing for any one or more of the foregoing actions. A Continuing Director is in general (i) any member of the Quest Diagnostics Board who is not an Interested Stockholder or affiliated or associated with an Interested Stockholder and was a director of Quest Diagnostics prior to the time the Interested Stockholder became an Interested Stockholder, and any successor to such a Continuing Director who is not affiliated or associated with an Interested Stockholder and was recommended or elected by a majority of the Continuing Directors then on the Quest Diagnostics Board, or (ii) any person who was a director of Quest Diagnostics as of the Distribution Date and any successor thereto who was recommended or elected by a majority of the Continuing Directors then on the Quest Diagnostics Board. It is possible that the approval of a majority of the Continuing Directors could be required in circumstances where the Continuing Directors constitute less than a quorum of the entire Quest Diagnostics Board. The 80% affirmative stockholder vote would not be required if the Business Combination in question had been approved by a majority of the Continuing Directors or if all the minimum price, form of consideration and procedural requirements described below are satisfied. Minimum Price and Form of Consideration Requirements. In a Business Combination involving cash or other consideration being paid to Quest Diagnostics' stockholders, the consideration required, in the case of each class 101 of Quest Diagnostics Voting Stock, would be either cash or the same type of consideration used by the Interested Stockholder in acquiring the largest portion of its share of that class of Quest Diagnostics Voting Stock prior to the first public announcement of the proposed Business Combination. In addition, such consideration would be required to meet the minimum price requirements described below. In the case of payments to holders of Quest Diagnostics Common Stock, the fair market value per share of such payments would be at least equal in value to the higher of (i) the highest per share price paid by the Interested Stockholder in acquiring any shares of Quest Diagnostics Common Stock during the two years prior to the first public announcement of the proposed Business Combination (the "Announcement Date") or in the transaction in which it became an Interested Stockholder, whichever is higher, and (ii) the fair market value per share of Quest Diagnostics Common Stock on the Announcement Date or on the date on which the Interested Stockholder became an Interested Stockholder, whichever is higher. In the case of payments to holders of any series of Quest Diagnostics' voting Series Preferred Stock, if any, the fair market value per share of such payments would have to be at least equal to the higher of (i) the price per share determined with respect to shares of such series in the same manner as described in the preceding paragraph with respect to shares of Common Stock and (ii) the highest preferential amount per share to which the holders of such series of Quest Diagnostics Series Preferred Stock are entitled in the event of a voluntary or involuntary liquidation of Quest Diagnostics. If the transaction does not involve any cash or other property being received by any of the other stockholders, such as a sale of assets or an issuance of Quest Diagnostics' securities to an Interested Stockholder, then the minimum price, form of consideration and procedural requirements would not apply, but an 80% vote of stockholders would still be required unless the transaction was approved by a majority of the Continuing Directors. Procedural Requirements. An 80% stockholder vote would be required to authorize a Business Combination with an Interested Stockholder if Quest Diagnostics, after the interested stockholder became an Interested Stockholder, had failed to pay full quarterly dividends on its Preferred Stock, if any, or reduced the rate of dividends paid on its Common Stock, unless such failure or reduction was approved by a majority of the Continuing Directors. An 80% stockholder vote to authorize a Business Combination with an Interested Stockholder would also be required if the Interested Stockholder had acquired any additional shares of the Quest Diagnostics Voting Stock, directly from Quest Diagnostics or otherwise, in any transaction subsequent to the transaction pursuant to which it became an Interested Stockholder. The receipt by the Interested Stockholder at any time after it became an Interested Stockholder, whether in connection with the proposed Business Combination or otherwise, of the benefit of any loans or other financial assistance or tax advantages provided by Quest Diagnostics (other than proportionately as a stockholder) would also trigger the 80% stockholder vote requirement to authorize a Business Combination with an Interested Stockholder (unless the Business Combination was approved by a majority of the Continuing Directors). In summary, none of the minimum price, form of consideration or procedural requirements described above would apply in the case of a Business Combination approved by a majority of the Continuing Directors. In the absence of such approval, all of such requirements would have to be satisfied to avoid the 80% stockholder vote requirements. Amendment of the Quest Diagnostics Certificate Amendment or repeal of the provisions of the Quest Diagnostics Certificate described above or the adoption of any provision inconsistent therewith would require the affirmative vote of at least 80% of the Quest Diagnostics Voting Stock unless the proposed amendment or repeal or the adoption of the inconsistent provisions are approved by two-thirds of the entire Quest Diagnostics Board and a majority of the Continuing Directors. Antitakeover Statutes Section 203 of the DGCL prohibits transactions between a Delaware corporation and an "interested stockholder," which is defined therein as a person who, together with any affiliates and/or associates of such person, beneficially owns, directly or indirectly, 15% or more of the outstanding voting shares of a Delaware corporation. This provision prohibits certain business combinations (defined broadly to include mergers, consolidations, sales 102 or other dispositions of assets having an aggregate value in excess of 10% of the consolidated assets of the corporation, and certain transactions that would increase the interested stockholder's proportionate share ownership in the corporation) between an interested stockholder and a corporation for a period of three years after the date the interested stockholder acquired its stock unless (i) the business combination is approved by the corporation's board of directors prior to the date the interested stockholder acquired shares, (ii) the interested stockholder acquired at least 85% of the voting stock of the corporation in the transaction in which it becomes an interested stockholder, or (iii) the business combination is approved by a majority of the board of directors and by the affirmative vote of 66 2/3% of the votes entitled to be cast by disinterested stockholders at an annual or special meeting. The Quest Diagnostics Certificate and the Quest Diagnostics By-Laws do not exclude Quest Diagnostics from the restrictions imposed under Section 203 of the DGCL. Tax Sharing and Indemnification Agreements The corporate tax liability which potentially could arise from an acquisition of shares of Quest Diagnostics capital stock or assets of Quest Diagnostics for a period of time following the Quest Diagnostics Spin-Off Distribution, together with the related indemnification arrangements contained in the Tax Sharing and Spin-Off Tax Indemnification Agreements, could have an antitakeover effect on the acquisition of control of Quest Diagnostics. See "The Relationship Among Corning, Quest Diagnostics and Covance After the Distributions--Tax Sharing Agreement" and "The Relationship Among Corning, Quest Diagnostics and Covance After the Distributions--Spin- Off Tax Indemnification Agreements." 103 DESCRIPTION OF CERTAIN INDEBTEDNESS OF QUEST DIAGNOSTICS Description of Quest Diagnostics Credit Facility In order to pay approximately $350 million of the Intercompany Debt owed by Quest Diagnostics in connection with the Quest Diagnostics Spin-Off Distribution, and to meet its future capital requirements including the funding of operating activities and further acquisitions, Quest Diagnostics is negotiating with several banks for a credit agreement (the "Credit Agreement") providing for a $450 million credit facility (the "Quest Diagnostic Credit Facility"). Morgan Guaranty Trust Company of New York ("Morgan"), NationsBank, N.A. ("NationsBank") and Wachovia Bank of Georgia, N.A. ("Wachovia") are arranging the Quest Diagnostics Credit Facility. A copy of the proposed form of the Credit Agreement has been filed as an exhibit to the Quest Diagnostics Form 10. This summary of the material terms and conditions of the Quest Diagnostics Credit Facility and the Credit Agreement does not purport to be complete, and is qualified in its entirety by references to such proposed form, including the definitions therein. The $450 million commitment under the Quest Diagnostics Credit Facility will be comprised of three sub- facilities: (i) a $300 million six-year amortizing term loan (the "Tranche A Loan"), (ii) a seven-year $50 million term loan with minimal amortization until the seventh year (the "Tranche B Loan") and (iii) a $100 million six-year revolving working capital credit facility (the "Working Capital Facility"). Under the Working Capital Facility, up to $20 million may be used for Letters of Credit to be issued by one or more Issuing Banks (initially NationsBank), and up to $10 million may be used to borrow from Wachovia, as the Swingline Bank, under a Swingline Facility. All Working Capital Banks are required to ratably share the exposure of the Issuing Banks under the Letters of Credit and, at the request of the Swingline Bank, must purchase ratable participations in the Swingline Loans. With the exception of Swingline borrowings and Letters of Credit, borrowings under the Working Capital Facility must be at least $10 million for LIBOR based borrowings and $5 million for Base Rate based borrowings. Under the Swingline Facility, borrowings must be at least $1 million. The Quest Diagnostics Credit Facility will be secured by substantially all accounts receivable of Quest Diagnostics and by a guaranty from, and a pledge of all capital stock and accounts receivable (including intercompany loans) of, substantially all of Quest Diagnostics' present and future material U.S. Subsidiaries, excluding certain Joint Ventures, Covance and Covance's Subsidiaries. The borrowings under the Quest Diagnostics Credit Facility will rank senior in priority of repayment to any Permitted Subordinated Debt, including the Senior Subordinated Notes and any of Quest Diagnostics' remaining debt to Corning. At the time of the Distributions, Quest Diagnostics' debt to Corning must be extinguished except to the extent it is included in the $150 million of Permitted Subordinated Debt. Interest Rate Calculations. Interest will be payable on each sub-facility quarterly, or at the end of the relevant interest period, if earlier, at a per annum rate equal to the Base Rate or (except for Swingline Loans) the Eurodollar Rate plus the relevant Applicable Margin. The Base Rate is a fluctuating rate calculated on a daily basis as the higher of (a) the rate of interest publicly announced by Morgan for the day in question and (b) 0.5% over the weighted average of the rates, rounded up to the nearest basis point, on overnight Federal Funds transactions with members of the Federal Reserve System as arranged by Federal Funds brokers on the day in question. The Eurodollar Rate is the average of the annual rate at which deposits in U.S. dollars are offered to each of the Reference Banks in the London interbank market, adjusted for reserve requirements ("Adjusted LIBOR"). The initial Applicable Margin payable for Adjusted LIBOR borrowings will be 1.75% per annum for the Tranche A Loan and the Working Capital Loan and 2.25% per annum for the Tranche B Loan. The initial Applicable Margin payable for Base Rate borrowings will be 0.75% per annum for the Tranche A Loan and the Working Capital Loan and 1.25% per annum for the Tranche B Loan. After December 31, 1996, the Applicable Margin will be determined by a pricing formula based on Quest Diagnostics' Debt Coverage Ratio. The Applicable Margin range for the Tranche A Loan and the Working Capital Loan may vary, depending on the Debt Coverage Ratio, from 0% to 1% for Base Rate Advances, and from 0.5% to 2% per annum for Eurodollar Rate Advances. The Swingline Loans will accrue interest at a rate equal to the Base Rate plus the relevant Applicable Margin for Tranche A and Working Capital Base Rate Loans. The Applicable Margin for the Tranche B Loan will remain fixed throughout the life of the loan at the initial Applicable Margin levels. Any overdue principal or interest payable on any Eurodollar loan will incur interest at the greater of Adjusted LIBOR or LIBOR plus the Applicable Margin plus 2% per annum. Any overdue principal or interest payable on a Base Rate loan will incur interest at the Base Rate plus the Applicable Margin plus 2% per annum. The Credit Agreement also requires the payment of a quarterly Commitment Fee on the average daily unused portion of the Banks' aggregate commitments under the Working Capital Facility. The initial Commitment Fee Rate 104 will be 0.375% per annum. After December 31, 1996, the Commitment Fee Rate will be determined based on Quest Diagnostics' Debt Coverage Ratio, and will range from 0.175% to 0.5% per annum. Quest Diagnostics shall also pay the Issuing Banks in proportion to their Letter of Credit Exposure a fee of 0.125% per annum on any amounts outstanding on undrawn Letters of Credit. Additionally, Quest Diagnostics shall pay directly to the Issuing Bank all customary fees connected with the issuing of a Letter of Credit. Quest Diagnostics will also pay Morgan a negotiated fee for its services as Administrative Agent under the Quest Diagnostics Credit Facility. Covenants and Conditions. The Credit Agreement includes covenants which, subject to certain specific exceptions and limitations, require Quest Diagnostics and its Subsidiaries to: (i) provide certain financial information to the Banks including, Quest Diagnostics' consolidated audited financial reports, financial ratio data, annual business plans and projections and certification that no defaults have occurred; (ii) pay or discharge all material obligations and liabilities; (iii) keep property in good working order and maintain sufficient insurance coverage on all property; (iv) maintain corporate existence; (v) pursue the same or substantially similar lines of business to the ones in which they are currently engaged; (vi) comply with all laws, including ERISA and environmental regulations; (vii) allow any Bank to inspect accounting records; (viii) not permit modification to or waiver of any Transaction Documents including any documents connected with the Permitted Subordinated Debt or the Permitted Preferred Stock; (ix) not hold or acquire any investments other than those allowed by the Credit Agreement; (x) not create or allow to be created any liens other than those permitted by the Credit Agreement; (xi) refrain from engaging in a consolidation, acquisition, merger or sale of assets except as allowed in the Credit Agreement; (xii) not engage in any transaction with or for the benefit of any Affiliate other than certain arm's-length transactions; (xiii) prevent the existence of any agreement that prevents Quest Diagnostics' Subsidiaries from paying dividends or other distributions on capital stock; (xiv) refrain from making certain Restricted Payments as detailed below; (xv) not incur Debt other than Debt allowed under the Credit Agreement; (xvi) maintain certain financial ratios as detailed below; and (xvii) not make Consolidated Capital Expenditures in excess of $95,000,000 (less the consideration paid for certain acquisitions) in any fiscal year. Quest Diagnostics may, subject to certain limitations and exceptions contained in the Credit Agreement, make certain Restricted Payments so long as there are no current or continuing Defaults, and the otherwise Restricted Payment would not cause a Default. Allowed payments include: (i) the repayment of Permitted Subordinated Debt from the proceeds of any newly issued Senior Subordinated Notes, (ii) interest and fees on the Senior Subordinated Notes, (iii) dividends paid on any Permitted Preferred Stock, (iv) repurchases of shares pursuant to certain employee benefit and compensation plans and (v) certain payments to Corning required to be made pursuant to the Spin-Off Transactions. Restricted Payments include: (i) any other dividends or distributions on any of the shares of capital stock of Quest Diagnostics except dividends or distributions paid solely in shares of Quest Diagnostics capital stock, (ii) any other payment on Subordinated Debt and (iii) any payment, including those to sinking funds, made to redeem, repurchase, acquire or retire any of the Subordinated Debt or the shares of capital stock, or the rights to acquire shares, of Quest Diagnostics or its Subsidiaries. Quest Diagnostics will be required to maintain: (i) a ratio (the "Leverage Ratio") of (A) Consolidated Total Debt to (B) Consolidated Total Capitalization equal to or below 0.55 to 1.0 at the outset, decreasing over time to 0.45 to 1.0; (ii) a ratio (the "Debt Coverage Ratio") of (A) Consolidated Total Debt to (B) Consolidated EBITDA equal to or below between 3.8 to 1.0 at the outset, decreasing over time to 2.0 to 1.0; and (iii) a ratio (the "Coverage Ratio") of (A) the sum of (1) Consolidated EBITDA and (2) Consolidated Rental Expense to (B) the sum of (1) Consolidated Interest Expense and (2) Consolidated Rental Expense equal to or above 1.8 to 1.0 at the outset, decreasing over time to 3.0 to 1.0. Quest Diagnostics is required to have a Leverage Ratio no greater than 0.55 to 1.0 through December 31, 1997, a Debt Coverage Ratio of less than 3.8 to 1.0 through June 30, 1997 and a Coverage Ratio of at least 1.8 to 1.0 from January 1, 1997 through June 30, 1997. After giving pro forma effect to the Distributions, $350 million of borrowings under the Credit Facility and to the Permitted Subordinated Debt, Quest Diagnostics would have had a Leverage Ratio of 0.47 to 1.0 at September 30, 1996, a Debt Coverage Ratio of 3.2 to 1.0 for the quarter ended September 30, 1996 and a Coverage Ratio of 2.2 to 1.0 for the quarter ended September 30, 1996. Events of Default. Events of Default include: (i) the failure to make payment under the Credit Agreement of any principal when due or any interest, fees or other amounts within three business days after becoming due; (ii) any representation, warranty, certification or statement made by Quest Diagnostics proving to have been incorrect 105 in any material respect when made; (iii) the failure by Quest Diagnostics or its Subsidiaries to perform or observe any term, covenant or agreement under the Credit Agreement (subject to certain cure periods); (iv) the failure of Quest Diagnostics to make payment on any Material Financial Obligation (totalling in aggregate more than $10 million) within the applicable grace period; (v) the occurrence of an event that causes the acceleration of, or enables another of Quest Diagnostics' creditors to accelerate, any of Quest Diagnostics' other Material Debt (totalling in aggregate more than $10 million); (vi) the commencement of a voluntary or involuntary bankruptcy proceeding by or against Quest Diagnostics; (vii) the failure to pay when due ERISA obligations in excess of $10 million; (viii) the rendering of a judgment or judgments against Quest Diagnostics the aggregate amounts of which are in excess of $10 million and remain unsatisfied or unstayed for more than 30 days, or the placing by a judgment creditor of a levy on the assets of Quest Diagnostics or its Subsidiaries; (ix) at any time after the Spin-Off, a person or group obtains beneficial ownership of 20% or more of the common stock of Quest Diagnostics, or, during any period of 12 calendar months, the individuals who constituted the members of the board of directors of Quest Diagnostics on the first day of that period no longer constitute a majority of the board; or (x) any security interest that was purported to be created by the related security documents ceases to exist or be valid. If an Event of Default occurs and continues beyond the allowed time period for curing the default in question, the Banks, by a vote of more than 50% of the aggregate Commitments, may terminate their Commitments to lend to Quest Diagnostics. The Banks may further choose, by a separate vote representing more than 50% of the aggregate principal amount of all of the Loans, to accelerate the outstanding principal and interest. Additionally, during an Event of Default the Letter of Credit Participants, by a more than 50% vote of the amount of the total outstanding of the Letter of Credit Exposure, may require that Quest Diagnostics fully cash collateralize the outstanding Letter of Credit Exposure. In the case of a voluntary or involuntary bankruptcy proceeding, all credit facilities shall terminate and all outstanding amounts shall become immediately due and payable without any action by the Banks. Description of Notes Prior to the Distributions, Quest Diagnostics will offer (the "Quest Diagnostics Notes Offering") $150 million aggregate principal amount of senior subordinated notes (the "Notes"). General. The Notes will be senior subordinated obligations of Quest Diagnostics, and will be guaranteed on a senior subordinated basis by Quest Diagnostics' present and future Restricted Subsidiaries (as defined) on a joint and several basis. The guarantees will automatically terminate if the related guarantees of the Quest Diagnostics Credit Facility are terminated. Stated Maturity and Interest. The Notes will mature on December 15, 2006. Interest on the Notes will be payable semiannually on June 15 and December 15 of each year, commencing June 15, 1997. Redemption. The Notes will not be redeemable, at the option of Quest Diagnostics, prior to December 15, 2001. On or after such date, the Notes will be redeemable, in whole or in part, at specified redemption prices. Quest Diagnostics will also be entitled to redeem the Notes, as a whole and not in part, in the event that the Distributions do not occur as a result of an event outside of the control of Quest Diagnostics, Corning and Covance. Quest Diagnostics will be required to offer to purchase the Notes upon a Change of Control (as defined) and in the event of certain asset sales. Certain Covenants. The Indenture will impose certain limitations on the ability of Quest Diagnostics and its subsidiaries to, among other things, incur additional indebtedness, pay dividends or make certain other restricted payments, consummate certain asset sales, enter into certain transactions with affiliates, incur indebtedness that is subordinate in right of payment to any Senior Debt (as defined) and senior in right of payment to the Notes, incur liens, enter into leases and sale and leaseback transactions, merge or consolidate with any other person or sell, assign, transfer, lease, convey or otherwise dispose of all or substantially all of the assets of the Company. In particular, the Indenture will limit Quest Diagnostics' ability to pay cash dividends on the Quest Diagnostics Common Stock based on 50% of Quest Diagnostics' net income, plus a credit for issuances of capital stock. 106 LIABILITY AND INDEMNIFICATION OF DIRECTORS AND OFFICERS OF QUEST DIAGNOSTICS Limitation on Liability of Directors Pursuant to authority conferred by Section 102 of the DGCL, Paragraph 11 of the Quest Diagnostics Certificate ("Paragraph 11") eliminates the personal liability of Quest Diagnostics' directors to Quest Diagnostics or its stockholders for monetary damages for breach of fiduciary duty, including without limitation, directors serving on committees of the Quest Diagnostics Board. Directors remain liable for (1) any breach of the duty of loyalty to Quest Diagnostics or its stockholders, (2) any act or omission not in good faith or which involves intentional misconduct or a knowing violation of law, (3) any violation of Section 174 of the DGCL, which proscribes the payment of dividends and stock purchases or redemptions under certain circumstances, and (4) any transaction from which directors derive an improper personal benefit. Indemnification and Insurance In accordance with Section 145 of the DGCL, which provides for the indemnification of directors, officers and employees under certain circumstances, Paragraph 11 grants Quest Diagnostics' directors and officers a right to indemnification for all expenses, liabilities and losses relating to civil, criminal, administrative or investigative proceedings to which they are a party (1) by reason of the fact that they are or were directors or officers of Quest Diagnostics or (2) by reason of the fact that, while they are or were directors or officers of Quest Diagnostics, they are or were serving at the request of Quest Diagnostics as directors or officers of another corporation, partnership, joint venture, trust or enterprise. Paragraph 11 further provides for the mandatory advancement of expenses incurred by officers and directors in defending such proceedings in advance of their final disposition upon delivery to Quest Diagnostics by the indemnitee of an undertaking to repay all amounts so advanced if it is ultimately determined that such indemnitee is not entitled to be indemnified under Paragraph 11. Quest Diagnostics may not indemnify or make advance payments to any person in connection with proceedings initiated against Quest Diagnostics by such person without the authorization of the Quest Diagnostics Board. In addition, Paragraph 11 provides that directors and officers therein described shall be indemnified to the fullest extent permitted by Section 145 of DGCL, or any successor provisions or amendments thereunder. In the event that any such successor provisions or amendments provide indemnification rights broader than permitted prior thereto, Paragraph 11 allows such broader indemnification rights to apply retroactively with respect to any predating alleged action or inaction and also allows the indemnification to continue after an indemnitee has ceased to be a director or officer of Quest Diagnostics and to inure to the benefit of the indemnitee's heirs, executors and administrators. Paragraph 11 further provides that the right to indemnification is not exclusive of any other right which any indemnitee may have or thereafter acquire under any statute, the Quest Diagnostics Certificate, any agreement or vote of stockholders or disinterested directors or otherwise, and allows Quest Diagnostics to indemnify and advance expenses to any person whom the corporation has the power to indemnify under the DGCL or otherwise. Insofar as indemnification for liabilities arising under the Securities Act may be permitted for directors and officers and controlling persons pursuant to the foregoing provisions, Quest Diagnostics has been advised that in the opinion of the Commission such indemnification is against public policy as expressed in the Securities Act and is, therefore, unenforceable. The Quest Diagnostics Certificate authorizes Quest Diagnostics to purchase insurance for directors and officers of Quest Diagnostics and persons who serve at the request of Quest Diagnostics as directors, officers, employees or agents of another corporation, partnership, joint venture, trust or enterprise, against any expense, liability or loss incurred in such capacity, whether or not Quest Diagnostics would have the power to indemnify such persons against such expense or liability under the DGCL. Quest Diagnostics intends to maintain insurance coverage of its officers and directors as well as insurance coverage to reimburse Quest Diagnostics for potential costs of its corporate indemnification of directors and officers. 107 INDEX TO FINANCIAL STATEMENTS
Page --------- FINANCIAL STATEMENTS OF CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) Report of Price Waterhouse LLP--Independent Accountants F-2 Report of Deloitte and Touch LLP--Independent Auditors F-3 Report of Ernst & Young LLP--Independent Auditors F-4 Report of Leverone and Company--Independent Accountants F-5 Combined Financial Statements: Combined Balance Sheets--December 31, 1995 and 1994 F-6 Combined Statements of Operations--Years ended December 31, 1995, 1994 and 1993 F-7 Combined Statements of Cash Flows--Years ended December 31, 1995, 1994 and 1993 F-8 Combined Statements of Stockholder's Equity--Years ended December 31, 1995, 1994 and 1993 F-9 Notes to Combined Financial Statements F-10 Financial Statement Schedule II--Valuation Accounts and Reserves F-23 Quarterly Operating Results (unaudited) F-24 Interim Combined Financial Statements (unaudited): Combined Balance Sheets--September 30, 1996 and December 31, 1995 F-25 Combined Statements of Operations--Three and Nine Months ended September 30, 1996 and 1995 F-26 Combined Statements of Cash Flows--Nine Months ended September 30, 1996 and 1995 F-27 Notes to Interim Combined Financial Statements F-28
F-1 REPORT OF INDEPENDENT ACCOUNTANTS To the Boards of Directors and Stockholders of Corning Incorporated and Corning Clinical Laboratories Inc. In our opinion, based upon our audits and the reports of other auditors, the accompanying combined balance sheets and the related combined statements of operations and of cash flows and of stockholder's equity appearing on pages F-6 through F-23 present fairly, in all material respects, the financial position of Corning Clinical Laboratories Inc. (to be renamed Quest Diagnostics Incorporated) and the combined companies as discussed in Note 1 (collectively, the "Company"), a wholly-owned business of Corning Incorporated, at December 31, 1995 and 1994, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 1995, in conformity with generally accepted accounting principles. 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 did not audit the 1993 financial statements of Maryland Medical Laboratory, Inc., Nichols Institute and Bioran Medical Laboratory, which were acquired by the Company in 1994 in separate transactions accounted for as poolings of interests and which collectively reflect total revenues of $438 million for the year ended December 31, 1993. Those statements were audited by other auditors whose reports thereon have been furnished to us, and our opinion expressed herein, insofar as it relates to the amounts included for Maryland Medical Laboratory, Inc., Nichols Institute and Bioran Medical Laboratory, is based solely on the reports of the other auditors. We conducted our audits of these statements in accordance with generally accepted auditing standards which 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, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits and the reports of other auditors provide a reasonable basis for the opinion expressed above. As discussed in Note 2 to the combined financial statements, in 1993 the Company adopted Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes." /s/ Price Waterhouse LLP Price Waterhouse LLP New York, New York September 20, 1996, except for Note 13 as to which the date is November 4, 1996 F-2 REPORT OF INDEPENDENT AUDITORS To the Board of Directors and Stockholders of Nichols Institute: We have audited the consolidated statements of operations, stockholders' equity and cash flows for the year ended December 31, 1993 of Nichols Institute and its subsidiaries (the Company) (not presented separately herein). These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit 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 audit provides a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the results of operations and cash flows of Nichols Institute and its subsidiaries for the year ended December 31, 1993, in conformity with generally accepted accounting principles. As discussed in Note 11 to the consolidated financial statements, the Company has received a subpoena from the Office of the Inspector General of the Department of Health and Human Services (OIG) requesting documents in connection with an investigation and internal review concerning the possible submission of false or improper claims to the Medicare and Medicaid programs. No claim or charges have been made against the Company relating to this investigation. The ultimate outcome of this investigation cannot presently be determined. Accordingly, no provision for any loss that may result from this investigation has been made in the accompanying consolidated financial statements. As discussed in Notes 1 and 3 to the consolidated financial statements, at December 31, 1993, the Company was not in compliance with certain covenants of its senior note agreements and the senior lenders have not waived those covenants. The senior note agreements provide that, as a result of failure to comply with the covenants, the note holders have the right to declare the entire unpaid balance immediately due and payable, and if that were to occur, the Company would not have the funds required to retire the debt unless alternative financing is obtained. Management's plans in regard to these matters are described in Notes 1 and 3. The note holders' right to declare the entire unpaid balance under the note agreements immediately due and payable raises substantial doubt about the Company's ability to continue as a going concern. The accompanying consolidated financial statements have been prepared assuming that the Company will continue as a going concern. The financial statements do not include any adjustments that might result from the outcome of this uncertainty, except for the classification of amounts due under the senior note agreements as current. /s/ Deloitte & Touche LLP Deloitte & Touche LLP Costa Mesa, California February 28, 1994 F-3 REPORT OF INDEPENDENT AUDITORS Board of Directors Maryland Medical Laboratory, Inc. We have audited the combined balance sheet of Maryland Medical Laboratory, Inc. and affiliates as of March 31, 1994, and the related combined statements of income, changes in equity and cash flows for the year then ended (not presented separately herein). 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 audit. We conducted our audit 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 audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the combined financial position of Maryland Medical Laboratory, Inc. and affiliates at March 31, 1994, and the combined results of their operations and their cash flows for the year then ended in conformity with generally accepted accounting principles. /s/ Ernst & Young LLP Ernst & Young LLP Baltimore, Maryland May 19, 1994 F-4 REPORT OF INDEPENDENT ACCOUNTANTS To the Board of Directors Moran Research Labs 415 Massachusetts Avenue Cambridge, MA 02139 We have audited the accompanying balance sheet of Moran Research Labs (d/b/a Bioran Medical Laboratory, a Massachusetts Business Trust) as of December 31, 1993, and the related statements of income, retained earnings, and cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit 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 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 audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the financial position of Moran Research Labs (d/b/a Bioran Medical Laboratory, a Massachusetts Business Trust) at December 31, 1993 and the results of its operations and its cash flows for the year then ended in conformity with generally accepted accounting principles. /s/ Leverone & Company Leverone & Company Billerica, Massachusetts November 10, 1994 F-5 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) COMBINED BALANCE SHEETS DECEMBER 31, 1995 AND 1994 (in thousands)
1995 1994 ----------- ------------ ASSETS - ------- Current Assets: Cash and cash equivalents $ 36,446 $ 38,719 Accounts receivable, net of allowance of $147,947 and $74,829 for 1995 and 1994, respectively 318,252 360,410 Inventories 26,601 28,248 Deferred taxes on income 98,845 53,696 Prepaid expenses and other assets 22,014 19,241 --------- ---------- Total current assets 502,158 500,314 Property, plant and equipment, net 296,116 287,562 Intangible assets, net 1,030,633 1,053,194 Deferred taxes on income 6,062 19,593 Other assets 18,416 22,000 ----------- ------------ TOTAL ASSETS $1,853,385 $1,882,663 =========== ============ LIABILITIES AND STOCKHOLDER'S EQUITY - ---------------------------------- Current Liabilities: Accounts payable and accrued expenses $ 240,525 $ 236,887 Current portion of long-term debt 12,148 12,572 Income taxes payable 39,766 30,454 Due to Corning Incorporated and affiliates 8,979 6,043 --------- ---------- Total current liabilities 301,418 285,956 Long-term debt (principally due to Corning Incorporated) 1,195,566 1,153,054 Other liabilities 60,600 56,841 --------- ---------- Total liabilities 1,557,584 1,495,851 --------- ---------- Commitments and Contingencies Stockholder's Equity: Contributed capital 297,823 297,823 Retained earnings (accumulated deficit) (3,118) 85,893 Cumulative translation adjustment 2,325 3,096 Market valuation adjustment (1,229) -- --------- ---------- Total stockholder's equity 295,801 386,812 --------- ---------- TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $1,853,385 $1,882,663 ========= ==========
The accompanying notes are an integral part of these statements. F-6 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) COMBINED STATEMENTS OF OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993 (in thousands)
1995 1994 1993 ----------- ----------- ------------ Net revenues $1,629,388 $1,633,699 $1,416,338 Costs and expenses: Cost of services 980,232 969,844 805,729 Selling, general and administrative 523,271 411,939 363,579 Provision for restructuring and other special charges 50,560 79,814 99,600 Interest expense, net 82,016 63,295 41,898 Amortization of intangible assets 44,656 42,588 28,421 Other, net 6,221 3,464 6,423 ---------- ---------- ----------- Total 1,686,956 1,570,944 1,345,650 ---------- ---------- ----------- Income (loss) before taxes (57,568) 62,755 70,688 Income tax expense (benefit) (5,516) 34,410 25,929 ---------- ---------- ----------- Income (loss) before cumulative effect of change in accounting principle (52,052) 28,345 44,759 Cumulative effect of change in accounting principle -- -- (10,562) ---------- ---------- ----------- Net income (loss) $ (52,052) $ 28,345 $ 34,197 ========== ========== ===========
The accompanying notes are an integral part of these statements. F-7 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) COMBINED STATEMENTS OF CASH FLOWS FOR THE YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993 (in thousands)
1995 1994 1993 ----------- ---------- ----------- Cash flows from operating activities: Net income (loss) $ (52,052) $ 28,345 $ 34,197 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation and amortization 101,513 89,517 66,479 Provision for doubtful accounts 152,590 59,480 47,240 Provision for restructuring and other special charges 50,560 79,814 99,600 Deferred income tax provision (32,384) (4,742) (23,841) Cumulative effect of change in accounting principle -- -- 10,562 Other, net 8,303 14,600 1,765 Changes in operating assets and liabilities: Accounts receivable (109,500) (103,402) (61,828) Accounts payable and accrued expenses 14,604 (32,756) (33,903) Restructuring, integration and other special charges (57,768) (88,093) (46,917) Due from/to Corning Incorporated and affiliates 2,934 14,783 (2,581) Other assets and liabilities, net 7,028 (19,583) 8,841 ---------- -------- ---------- Net cash provided by operating activities 85,828 37,963 99,614 ---------- -------- ---------- Cash flows from investing activities: Capital expenditures (74,045) (93,354) (65,317) Proceeds from disposition of assets 2,880 55,762 -- Acquisition of businesses, net of cash acquired (22,907) (12,154) (401,428) Decrease (increase) in investments 985 3,560 (6,942) ---------- -------- ---------- Net cash used in investing activities (93,087) (46,186) (473,687) ---------- -------- ---------- Cash flows from financing activities: Proceeds from borrowings, primarily with Corning Incorporated 55,729 186,046 709,630 Repayment of long-term debt (13,784) (118,046) (265,196) Dividends paid (36,959) (60,468) (51,478) ---------- -------- ---------- Net cash provided by financing activities 4,986 7,532 392,956 ---------- -------- ---------- Net change in cash and cash equivalents (2,273) (691) 18,883 Cash and cash equivalents, beginning of year 38,719 39,410 20,527 ---------- -------- ---------- Cash and cash equivalents, end of year $ 36,446 $ 38,719 $ 39,410 ========== ======== ==========
The accompanying notes are an integral part of these statements. F-8 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) COMBINED STATEMENTS OF STOCKHOLDER'S EQUITY FOR THE YEARS ENDED DECEMBER 31, 1995, 1994 AND 1993 (in thousands)
Cumulative Market Total Retained Translation Valuation Stockholder's Contributed Capital Earnings Adjustment Adjustment Equity ------------------- ----------- ------------ ------------ --------------- Balance, December 31, 1992 $ 261,499 $146,938 $ (288) $ $ 408,149 Net income 34,197 34,197 Dividends to CLSI (28,088) (28,088) Dividends to S-Corporation shareholders (23,390) (23,390) Equity of pooled entity 4,150 (4,096) 54 Translation adjustment 4,587 4,587 ------------------ --------- ---------- ---------- ------------- Balance, December 31, 1993 265,649 125,561 4,299 395,509 Net income 28,345 28,345 Dividends to CLSI (33,275) (33,275) Dividends to S-Corporation shareholders (27,193) (27,193) Dividends in-kind to S-Corporation shareholders (7,545) (7,545) Capital contribution 32,174 32,174 Translation adjustment (1,203) (1,203) ------------------ --------- ---------- ---------- ------------- Balance, December 31, 1994 297,823 85,893 3,096 386,812 Net loss (52,052) (52,052) Dividends to CLSI (36,959) (36,959) Translation adjustment (771) (771) Market valuation adjustment (1,229) (1,229) ------------------ --------- ---------- ---------- ------------- Balance, December 31, 1995 $ 297,823 $ (3,118) $ 2,325 $(1,229) $ 295,801 ================== ========= ========== ========== =============
The accompanying notes are an integral part of these statements. F-9 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (dollars in thousands, unless otherwise indicated) 1. BASIS OF PRESENTATION Corning Clinical Laboratories Inc. and Corning Nichols Institute Inc. (collectively referred to as "CCL" or the "Company") are wholly-owned subsidiaries of Corning Life Sciences Inc. ("CLSI") which in turn is a wholly-owned subsidiary of Corning Incorporated ("Corning"). The Company is one of the largest clinical laboratory testing businesses in the United States. The accompanying financial statements present the carved-out results of operations, cash flows and financial position of Corning's clinical laboratory testing business. Covance Inc. (formerly Corning Pharmaceutical Services Inc.), a subsidiary of CCL, and its related entities ("Covance") as well as environmental testing services formerly provided by CCL are excluded. In 1994, Corning acquired three clinical laboratory testing businesses on the behalf of CCL in separate transactions accounted for as poolings of interests (see Note 3). Results presented for 1994 and 1993 include the results of CCL and the pooled entities on a combined basis. In May 1996, Corning's Board of Directors approved a plan to distribute to its shareholders on a pro rata basis all of the shares of CCL and Covance (the "CCL and Covance Spin-Off Distributions"). The result of the plan will be the creation of two independent, publicly-owned companies. As a result of the Spin-Off Distributions, CCL will operate Corning's clinical laboratory testing business as an independent public company and Covance will own and operate Corning's contract research business as an independent public company. The Spin-Off Distributions will be effected by the distribution of a dividend to holders of Corning Common Stock of all of the outstanding CCL Common Stock, followed immediately by the distribution of a dividend to the holders of CCL Common Stock of all of the Covance Common Stock. Corning has submitted to the Internal Revenue Service a request for a ruling that the Spin-Off Distributions qualify as tax-free distributions under the Internal Revenue Code of 1986. Coincident with the Spin-Off Distribution, the Company will be renamed Quest Diagnostics Incorporated. 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Principles of Consolidation The combined financial statements include the accounts of all laboratory entities controlled by the Company. The equity method of accounting is used for investments in affiliates which are not Company controlled and in which the Company's interest is generally between 20 and 50 percent. All significant intercompany accounts and transactions are eliminated. 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. Revenue Recognition The Company generally recognizes revenue as services are rendered upon completion of the testing process. Billings for services under third-party payor programs, including Medicare and Medicaid, are recorded as revenues net of allowances for differences between amounts billed and the estimated receipts under such programs. Adjustments to the estimated receipts, based on final settlement with the third-party payors, are recorded upon settlement. In 1995, 1994 and 1993, approximately 23%, 28% and 25%, respectively, of net revenues were generated by Medicare and Medicaid programs. Concentrations of Credit Risk Concentrations of credit risk with respect to accounts receivable are limited due to the diversity of the Company's clients as well as their dispersion across many different geographic regions. Taxes on Income The Company uses the asset and liability approach to account for income taxes. Under this method, deferred tax assets and liabilities are recognized for the expected future tax consequences of differences between the carrying amounts of assets and liabilities and their respective tax bases using enacted tax rates in effect for the year in which F-10 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) the differences are expected to reverse. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period when the change is enacted. In 1993 the Company adopted Statement of Financial Accounting Standards No. 109, "Accounting for Income Taxes" (SFAS 109). The adoption of SFAS 109 resulted in a charge to net income of $10.6 million, principally representing a reduction in the Company's deferred tax assets to reflect the then enacted statutory tax rate. Cash and Cash Equivalents Cash and cash equivalents include all highly-liquid investments with original maturities at the time acquired by the Company of three months or less, and consist principally of amounts temporarily invested in a U.S. government money market fund. Inventories Inventories, which consist principally of supplies, are valued at the lower of cost (first in, first out method) or market. Property, Plant and Equipment Property, plant and equipment are recorded at cost. Depreciation and amortization are provided on the straight- line method at rates adequate to allocate the cost of the applicable assets over their expected useful lives, which range from three to forty years. Intangible Assets Acquisition costs in excess of the fair value of net tangible assets acquired are capitalized and amortized over appropriate periods not exceeding forty years. Other intangible assets are recorded at cost and amortized over periods not exceeding fifteen years. Investments The Company accounts for investments in equity securities, which are included in other assets, in conformity with Statement of Financial Accounting Standards No. 115 (SFAS 115), "Accounting for Certain Investments in Debt and Equity Securities." SFAS 115 requires the use of fair value accounting for trading or available-for-sale securities. Unrealized losses for available-for-sale securities are recorded as a separate component within stockholder's equity. Investments in equity securities are not material to the Company. Impairment Accounting The Company adopted Statement of Financial Accounting Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of" (SFAS 121) in 1995. The Company reviews the recoverability of its long-lived assets, including related goodwill and intangible assets, when events or changes in circumstances occur that indicate that the carrying value of the asset may not be recoverable. Evaluation of possible impairment is based on the Company's ability to recover the asset from the expected future pre-tax cash flows (undiscounted and without interest charges) of the related operations. If the expected undiscounted pre-tax cash flows are less than the carrying value of such asset, an impairment loss is recognized for the difference between estimated fair value and carrying value. This assessment of impairment requires management to make estimates of expected future cash flows. It is at least reasonably possible that future events or circumstances could cause these estimates to change. In addition, the carrying value of intangible assets has historically been subject to a separate evaluation based on estimating expected future undiscounted cash flows from operating activities. If these estimated cash flows are less than the carrying amount of the intangible assets, the Company would recognize an impairment loss in an amount necessary to write down the intangible assets to fair value. Earnings Per Share Earnings per share are computed by dividing net income by the weighted average number of common shares outstanding. Historical earnings per share data is not meaningful as the Company's historical capital structure is not comparable to periods subsequent to the CCL Spin-Off Distribution. F-11 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) 3. BUSINESS COMBINATIONS AND DIVESTITURES Acquisitions During 1995, the Company acquired several laboratories in separate transactions accounted for under the purchase method. The total cost of the acquired businesses aggregated approximately $23 million and was financed through borrowings from Corning. Intangible assets of approximately $21.6 million resulted from the transactions and are being amortized over periods not to exceed forty years. During 1994, Corning acquired three clinical laboratory testing companies on behalf of the Company in separate transactions accounted for as poolings of interests. In June 1994, Corning acquired the stock of Maryland Medical Laboratory, Inc. ("MML") in exchange for approximately 4.5 million shares of Corning common stock; in August 1994, Corning acquired the stock of Nichols Institute ("Nichols") in exchange for approximately 7.5 million shares of Corning common stock and reserved an additional 1.1 million shares for future issuance upon the exercise of stock options; and, in October 1994, Corning acquired the stock of Bioran Medical Laboratory ("Bioran") in exchange for approximately 6.0 million shares of Corning common stock. Results presented for 1994 and 1993 include the results of the Company, MML, Nichols and Bioran on a combined basis. In 1994, the Company also acquired several other laboratories in separate transactions accounted for under the purchase method. The total cost of the acquired businesses aggregated approximately $26 million and was financed through the issuance of Corning stock and borrowings from Corning. Intangible assets of approximately $24 million resulted from these transactions and are being amortized over periods not to exceed forty years. In the third quarter of 1993, Corning acquired on behalf of the Company the outstanding shares of common stock of Damon Corporation ("Damon"), a clinical-testing business, for $405 million, including acquisition costs, financed through borrowings from Corning. In addition, approximately $167 million of Damon's indebtedness was refinanced. Goodwill of approximately $600 million resulted from the transaction and is being amortized over forty years. Reserves aggregating $79 million were established for the costs of closing Damon facilities as a result of the integration of Damon operations. In the fourth quarter of 1993, the Company acquired the clinical-testing laboratories of Unilab Corporation ("Unilab") in Denver, Dallas and Phoenix in exchange for its ownership interest in Unilab operations, the assumption of approximately $70 million of Unilab debt, and the Company's investment in J.S. Pathology PLC. Goodwill of approximately $200 million resulted from this transaction and is being amortized over forty years. As a result of this transaction, the Company received a small equity investment in Unilab. The Company previously owned 43% of Unilab. The operations of the businesses, subsequent to the dates they were acquired, are included in the combined financial statements. The pro forma effect of the 1995 acquisitions on periods prior to the acquisitions is not material. In 1993, Corning also acquired and contributed to the Company DeYor Laboratory, Inc., in a transaction accounted for as a pooling of interests, by issuing 840,000 shares of Corning common stock. The Company's combined financial statements for periods prior to this acquisition have not been restated, since this acquisition was not material to the Company's financial position or the results of its operations for such periods. Divestitures In the second quarter of 1994, the Company sold the California clinical laboratory testing operations acquired in the Damon transaction to Physicians Clinical Laboratory, Inc. for cash proceeds of $51 million. 4. TAXES ON INCOME The Company is included in the consolidated Federal income tax return filed by Corning. CLSI and its subsidiaries, including the Company, have a tax sharing agreement with Corning, pursuant to which they are required to compute their provision for income taxes on a separate return basis and pay to Corning the separate Federal income tax return liability so computed. F-12 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) The components of the provision (benefit) for income taxes for 1995, 1994 and 1993 are as follows:
1995 1994 1993 --------- -------- ---------- Current: Federal $ 22,786 $31,598 $ 46,215 State and local 3,556 7,019 2,815 Foreign 526 535 740 Deferred (benefit): Federal (28,109) (1,339) (23,818) State and local (4,275) (3,403) (23) ------- ------ --------- Income tax expense (benefit) $ (5,516) $34,410 $ 25,929 ======= ====== =========
Prior to acquisition by Corning, Bioran and certain MML operations were S-Corporations; accordingly, no federal provision for income taxes has been reflected relative to these operations. A reconciliation of the Federal statutory rate to the Company's effective tax rate for 1995, 1994 and 1993 is as follows:
1995 1994 1993 -------- -------- --------- Taxes at statutory rate (35.0%) 35.0% 35.0% State and local income taxes, net of federal tax benefit (0.8%) 3.8% 2.6% Income from partnership and S-Corporations not subject to federal and state income tax 1.7% (10.3%) (11.1%) Goodwill 17.6% 14.3% 4.8% Non-deductible items 6.0% 8.6% 3.4% Other, net 0.9% 3.4% 2.0% ------ ------ ------- Effective tax rate (9.6%) 54.8% 36.7% ====== ====== =======
The tax effects of temporary differences that give rise to significant portions of the net deferred tax assets at December 31, 1995 and 1994 are as follows:
1995 1994 --------- ---------- Current deferred tax asset: Accounts receivable reserve $ 48,584 $ 16,692 Liabilities not currently deductible 49,222 34,422 Other 1,039 2,582 ------- --------- Current deferred tax asset $ 98,845 $ 53,696 ======= ========= Non-current deferred tax asset (liability): Liabilities not currently deductible $ 21,152 $ 33,572 Depreciation and amortization (15,090) (13,979) ------- --------- Non-current deferred tax asset $ 6,062 $ 19,593 ======= =========
Income taxes payable at December 31, 1995 and 1994 consist of Federal income taxes payable of $34.2 million and $28.7 million, respectively, state income taxes payable of $5.0 million and $1.5 million, respectively, and foreign income taxes payable of $0.6 million and $0.3 million, respectively. The Company paid income taxes of $21.7 million, $58.5 million and $52.0 million during 1995, 1994 and 1993, respectively. F-13 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) 5. PROVISION FOR RESTRUCTURING AND OTHER SPECIAL CHARGES In the second quarter of 1995, the Company recorded a provision for restructuring totaling $33.0 million primarily for workforce reduction programs and the costs of exiting a number of leased facilities. Additionally, in the first quarter of 1995, the Company recorded a special charge of $12.8 million for the settlement of claims related to inadvertent billing errors of certain laboratory tests that were not completely and/or successfully performed or reported due to insufficient samples and/or invalid results. Additionally, in the fourth quarter of 1995, the Company recorded a charge of $4.8 million related to claims by the Civil Division of the U.S. Department of Justice ("DOJ") of alleged billing errors related to a laboratory test performed by Bioran prior to its acquisition by the Company. In the third quarter of 1994, the Company recorded a provision for restructuring and other special charges totaling $79.8 million which included $48.2 million of integration costs, $21.6 million of transaction expenses related to the Nichols, MML and Bioran acquisitions, and $10 million of settlement reserves primarily related to government investigations of billing practices by Nichols prior to its acquisition by the Company. The integration costs represent the expected costs for closing clinical laboratories in certain markets where duplicate Company, Nichols, MML or Bioran facilities existed at the time of the acquisitions. In the third quarter of 1993, the Company recorded a provision for restructuring costs and other special charges totaling $99.6 million. The restructuring component of this special charge aggregated $56.6 million and consisted primarily of asset write-offs, facility related costs and costs for workforce reduction programs related principally to the integration of the Company's operations with those acquired in the Damon acquisition. The special charge of $43 million consists of a $36.5 million charge to reflect the settlement and related legal expenses associated with a compromise agreement with the DOJ to settle claims brought on behalf of the Inspector General, U.S. Department of Health and Human Services and a $6.5 million charge for related asserted and unasserted claims. The DOJ claims related to the marketing, sale, pricing and billing of certain blood-test series provided to Medicare patients. The DOJ settlement does not constitute an admission with respect to any issue arising from subsequent civil actions. The following summarizes the Company's restructuring activity (in millions):
1993 and 1994 Amounts Balance at 1995 Amounts Balance at Restructuring Utilized December 31, Restructuring Utilized December 31, Provisions Through 1994 1994 Provision in 1995 1995 ------------- ------------- ------------ ------------- -------- ------------- Employee termination costs $ 32.5 $14.8 $17.7 $23.4 $27.0 $14.1 Write-off of fixed assets 35.6 19.1 16.5 3.7 9.2 11.0 Costs of exiting leased facilities 21.7 9.3 12.4 3.1 6.8 8.7 Other 15.0 13.4 1.6 2.8 .5 3.9 ------------ ------------ ----------- ------------ ------ ------------ Total $104.8 $56.6 $48.2 $33.0 $43.5 $37.7 ============ ============ =========== ============ ====== ============
F-14 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) The substantial portion of the balance at December 31, 1995 is expected to be expended in 1996. Employee termination costs included severance benefits related to approximately 3,300 employees (700, 2,000 and 600 in 1995, 1994 and 1993, respectively). The estimated number of employees to be terminated has been reduced to 2,355, all of which have been terminated or notified of their termination at December 31, 1995. Management expects that approximately 300 terminations and the remaining business or facility exits will occur by the end of 1996. The decrease in the number of actual versus anticipated employee terminations is primarily attributable to higher than expected attrition. As a result of higher than expected average termination costs, management's estimate of total employee termination costs is unchanged. Certain severance and facility exit costs have payment terms extending beyond 1997. 6. PROPERTY, PLANT AND EQUIPMENT Property, plant and equipment at December 31, 1995 and 1994 consist of the following:
1995 1994 ---------- ----------- Land $ 18,568 $ 18,969 Buildings and improvements 186,192 173,546 Laboratory equipment, furniture and fixtures 286,326 247,200 Leasehold improvements 39,078 30,050 Construction-in-progress 19,490 33,508 -------- ---------- Property and equipment, at cost 549,654 503,273 Less: accumulated depreciation and amortization (253,538) (215,711) -------- ---------- Property and equipment, net $ 296,116 $ 287,562 ======== ==========
Depreciation and amortization expense aggregated $56.8 million, $46.9 million and $38.1 million for 1995, 1994 and 1993, respectively. 7. INTANGIBLE ASSETS Intangible assets at December 31, 1995 and 1994 consist of the following:
1995 1994 ----------- ------------ Goodwill $1,056,073 $1,043,089 Customer lists 84,558 100,428 Other (principally non-compete covenants) 50,626 61,401 ---------- ----------- Intangible assets, at cost 1,191,257 1,204,918 Less: accumulated amortization (160,624) (151,724) ---------- ----------- Intangible assets, net $1,030,633 $1,053,194 ========== ===========
Amortization expense aggregated $44.7 million, $42.6 million and $28.4 million for 1995, 1994 and 1993, respectively. F-15 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) 8. ACCOUNTS PAYABLE AND ACCRUED EXPENSES Accounts payable and accrued expenses at December 31, 1995 and 1994 consist of the following:
1995 1994 --------- ---------- Accrued wages and benefits $ 81,985 $ 74,519 Restructuring, integration and other special charges 61,878 69,812 Accrued expenses 57,338 34,851 Trade accounts payable 31,129 36,169 Accrued acquisition commitments 8,195 21,536 ------- --------- Accounts payable and accrued expenses $240,525 $236,887 ======= =========
9. LONG-TERM DEBT Long-term debt, exclusive of current maturities, at December 31, 1995 and 1994, respectively, consists of the following:
1995 1994 ----------- ----------- Notes payable to Corning: Revolving credit notes--interest at the London Interbank offered rate ("LIBOR") plus 1/8% to 1/4%, maturing 1997 $ 605,636 $ 551,982 Installment note with interest at 9%, maturing 2001 90,000 100,000 Term note with interest at 6.24%, maturing 2003 100,000 100,000 Term note with interest at 6.93%, maturing 2013 100,000 100,000 Term note with interest at 7.17%, maturing 2004 150,000 150,000 Term note with interest at 7.77%, maturing 2024 100,000 100,000 Note payable denominated in pounds Sterling, interest at the London Interbank Sterling Rate minus 1%, due 2002 8,049 8,516 Mortgage note payable through 2011, interest at 9.25% 6,138 6,355 Capital lease obligations expiring through 2031 32,518 32,538 Other 3,225 3,663 ---------- ---------- Total $1,195,566 $1,153,054 ========== ==========
Current maturities on long-term debt totaled $12.1 million and $12.6 million at December 31, 1995 and 1994, respectively. Long-term debt, including capital leases, maturing in each of the years subsequent to December 31, 1996 is as follows:
Fiscal year ending December 31, 1997 $ 261,131 1998 10,493 1999 10,530 2000 10,576 2001 and thereafter 902,836 ---------- Total long-term debt $1,195,566 ==========
F-16 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) Future minimum payments under capital leases and the present value thereof are as follows:
Fiscal year ending December 31, 1997 $ 4,061 1998 3,846 1999 3,840 2000 3,948 2001 and thereafter 116,102 -------- Total future minimum payments under capital leases 131,797 Less amount representing interest (99,279) -------- Present value of minimum payments under capital leases $ 32,518 ========
The Company paid interest of $74.2 million, $60.2 million and $41.2 million during 1995, 1994 and 1993, respectively. Based on borrowing rates currently available to the Company for loans with similar terms and maturities, the fair value of loans payable to third parties (carrying amount of approximately $50.0 million) was approximately $62.0 million at December 31, 1995. As discussed in Note 14, the Company is currently pursuing the issuance of $150 million of Senior Subordinated Notes due in 2006 which will be used to repay certain intercompany indebtedness owed to Corning. The Senior Subordinated Notes will be guaranteed, fully, jointly and severally, and unconditionally, on a senior subordinated basis by the Company and each of the Company's wholly-owned, domestic subsidiaries (Subsidiary Guarantors). Non-guarantor subsidiaries are immaterial to the Company. Full financial statements of the Subsidiary Guarantors are not presented because they are not deemed material to investors. The following is summarized financial information of the Subsidiary Guarantors as of December 31, 1995 and 1994 and for each of the three years in the period ended December 31, 1995.
December 31, --------------------- 1995 1994 -------- ---------- Current assets $244,547 $248,793 Noncurrent assets 864,351 916,499 Current liabilities 71,828 84,223 Noncurrent liabilities 682,805 692,742 Stockholder's equity 354,265 388,227
For the Year Ended December 31, --------------------------------- 1995 1994 1993 -------- -------- ---------- Net revenues $930,472 $923,205 $749,090 Cost of services 587,100 581,397 447,246 Net income (loss) (33,961) (44,056) 258
F-17 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) 10. EMPLOYEE RETIREMENT PLANS Defined Benefit Plans An acquired entity had a defined benefit pension plan which in 1990 was frozen as to the further accrual of benefits. At December 31, 1995 the present value of the projected benefit obligation using a discount rate of 7.5% was $22.6 million and the fair value of the plan assets (publicly traded corporate debt and equity securities, government obligations and money market funds) was $17.4 million. The difference between the projected benefit obligation and the fair value of plan assets is included in other long-term liabilities in the accompanying combined balance sheet. Defined Contribution Plans The Company has several defined contribution plans covering substantially all of its full-time employees. Company contributions to these plans aggregated $18.5 million, $15.9 million and $7.3 million for 1995, 1994 and 1993, respectively. 11. RELATED PARTY TRANSACTIONS The Company, in the ordinary course of business, conducts a number of transactions with Corning and its affiliates. The significant transactions occurring during the years ended December 31, 1995, 1994 and 1993 are as follows:
1995 1994 1993 -------- -------- --------- Interest expense on borrowings $78,930 $55,835 $28,400 Purchase of laboratory supplies 11,261 11,607 7,338 Corporate fees 2,800 2,800 2,450
Certain executives of the Company are included in various stock compensation programs of Corning. Expenses related to these programs have been included in the Company's combined financial statements. In 1994, Corning contributed capital of $25.2 million through the reduction of revolving credit notes and former S-Corporation shareholders contributed capital of a building approximating $4.4 million. 12. COMMITMENTS AND CONTINGENCIES Minimum rental commitments under noncancellable operating leases, primarily real estate, in effect at December 31, 1995 are as follows:
Year ending December 31, 1996 $ 40,459 1997 30,481 1998 20,527 1999 14,877 2000 12,532 2001 and thereafter 65,920 ------- Net minimum lease payments $184,796 =======
F-18 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) Operating lease rental expense for 1995, 1994 and 1993 aggregated $46.9 million, $49.4 million and $46.9 million, respectively. The Company is self-insured for substantially all casualty losses and maintains supplemental coverage on a claims made basis. The basis for the insurance reserve at December 31, 1995 and 1994 is the actuarially determined projected losses for each program (within the self-insured retention) based upon the Company's loss experience. The Company has entered into several settlement agreements with various governmental and private payors during recent years. At present, government investigations of certain practices by clinical laboratories acquired in recent years are ongoing. In addition, certain payors are reviewing their reimbursement practices for laboratory tests. The results of these investigations and reviews may result in additional settlement payments or reductions in reimbursements for certain tests. The recorded reserves of approximately $37.0 million are included in accrued liabilities and represent management's best estimate at December 31, 1995. Based on information then available to CCL, management did not believe that the exposure to claims in excess of recorded reserves would be material (see Note 13). 13. SUBSEQUENT EVENTS As disclosed in Note 12, federal government investigations of certain practices by clinical laboratories acquired in recent years are ongoing. In the second quarter of 1996, the DOJ notified the Company that it has taken issue with certain payments received by Damon from federally funded healthcare programs prior to its acquisition by the Company. Specifically, in late April 1996, the DOJ for the first time disclosed to CCL the total amount of the claims that it proposed to assert against Damon. The government presented its claim for the base recoupment (by lab, by test, by year) and discussed various theories on which criminal and civil payments of up to three times the various base recoupment amounts could be assessed. During May and June, CCL management analyzed the government's claim in detail. CCL management and outside counsel then believed that there were meritorious defenses to a number of the claims for recoupments and potential payments in excess of the base recoupment and these were presented to the government in early July 1996. At the end of the second quarter, CCL recorded a $46 million charge to increase its reserves to equal management's estimate of the low end of the range of amounts necessary to satisfy claims related to Damon and other related and similar investigations. With respect to the Damon investigation, the low end of the range was estimated to be equal to the base recoupment sought by the government reflecting the basis on which CCL had settled an earlier claim with the government in 1993. The low end of the range for the Nichols and other government investigations was based on the base recoupment estimated by management from internal investigations. Reserves for pending private claims were estimated based on CCL's experience in settling private claims following its 1993 government settlement. CCL management considered the potential for some payments to be assessed in excess of the base recoupment in estimating its liability at June 30, 1996. However, management believed that, although it was reasonably possible that some level of payment in excess of the base recoupment could ultimately be assessed, the government had not provided sufficient information to reasonably estimate the amount of any such payments. In addition, management and counsel believed that it was unlikely that treble payments would be assessed. This position was based on CCL's experience with the government in 1993, in which the recovery in excess of base recoupments was not significant, the government's representatives' invitation to present information and arguments to them and their stated intention not to consider the issue of payment multiples until the base recoupment amount had been established, and management's and counsel's belief that it had meritorious factual, legal and equitable defenses and mitigations of the government claims. CCL management was aware that similar investigations of other clinical laboratories in the industry were ongoing. Other than CCL's 1993 settlement, the only other similar settlement known to management was the 1992 civil Medicare settlement by a major competitor for $100 million. CCL had reviewed the publicly-available F-19 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) information about that settlement, including press releases and the settlement agreement. The competitor's settlement agreement did not specify whether the civil settlement included substantial payments to be assessed in excess of the base recoupment. It was believed by CCL that it did not. Although the competitor and its chief executive officer each pleaded guilty to criminal charges, the fine was only $1 million for conduct that was contemporaneous with, and considered by CCL management and its counsel to be more egregious than, that of Damon. During the third quarter 1996, CCL management met with the government several times to evaluate the substance of the government's allegations. During a meeting with the government in mid-August, further information and legal arguments were exchanged. Importantly, at this time, the government for the first time began to disclose to CCL and its outside counsel grand jury testimony and other evidence that was inconsistent with certain of CCL's defenses. The final settlement discussions began in late September. The government responded to and rejected many of CCL's defenses and made its tentative final settlement offer, which included significant payments in excess of base recoupments, to CCL. Negotiations on the final settlement amount and terms (including releases from various federal and state payors, compliance program requirements, etc.) continued into early October and ended with the settlement agreement dated October 9, 1996. The settlement included base recoupments of approximately $40 million (which did not differ materially from management's estimate at June 30, 1996) and total criminal and civil payments in excess of base recoupments of approximately $80 million. This settlement concludes all federal and Medicaid claims relating to the billing by Damon of certain blood tests to Medicare and Medicaid patients and other matters relating to Damon being investigated by the DOJ. Additionally, the Company entered into a separate settlement agreement with the DOJ totaling $6.9 million related to billings of hematology indices provided with hematology test results. This claim will be paid during the fourth quarter of 1996. As a result of these settlement agreements, CCL management has reassessed the level of reserves recorded for other asserted and unasserted claims related to the Damon and other similar government investigations, including the investigation of billing practices by Nichols prior to its acquisition by the Company in 1994. The Company recorded a charge totaling $142 million in the third quarter 1996 to establish additional reserves to provide for the above settlement agreements and management's best estimate of potential amounts which could be required to satisfy the remaining claims. At September 30, 1996, recorded reserves approximated $215 million (including the $119 million Damon settlement paid in October 1996). Based on information currently available to CCL, management does not believe that the exposure to claims in excess of recorded claims is material. Although the Damon settlement was substantially in excess of amounts anticipated by management, it was primarily due to the civil and criminal payments in excess of the base recoupment assessed by the government and CCL has now increased its reserves for asserted and unasserted claims to approximate the amount that may be required to settle the Nichols and other government civil claims taking into account the basis for the Damon civil settlement. In addition, although there is the possibility that CCL could be excluded from participation in Medicare and Medicaid programs, management believes that the possibility is remote as a result of the Damon settlement, which included CCL's signing a Corporate Integrity Agreement, and due to the fact that the government has publicly commended CCL for its cooperation in the investigation and cited CCL as having one of the "model" compliance programs in the industry. In October 1996, Corning contributed $119 million to CCL's capital to fund the Damon settlement. Additionally, Corning has agreed to fund any additional settlements prior to the CCL Spin-Off Distribution and to indemnify CCL against all settlements for any governmental claims relating to billing practices of CCL and its predecessors that have been settled or are pending on the Distribution Date. Corning will also agree to indemnify CCL for 50% of the aggregate of all settlement payments made by CCL that are in excess of $42 million to private parties that relate to indemnified or previously settled governmental claims (such as the Damon settlement) for services provided prior to the Distribution Date; however, the indemnification of private party claims will not exceed $25 million and will be paid on an after-tax basis. Such indemnification will not cover any nongovernmental claims not settled prior to five years after the Distribution Date. Coincident with the CCL Spin-Off Distribution, the F-20 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) Company will record a receivable and a contribution of capital from Corning currently estimated at $25 million which is equal to management's best estimate of amounts which are probable of being received from Corning to satisfy the remaining indemnified governmental claims on an after-tax basis. Although management believes that established reserves for both indemnified and non-indemnified claims are sufficient, it is possible that additional information (such as the indication by the government of criminal activity, additional tests being questioned or other changes in the government's theories of wrongdoing) may become available which may cause the final resolution of these matters to exceed established reserves by an amount which could be material to the Company's results of operations and, for non-indemnified claims, the Company's cash flows in the period in which such claims are settled. The Company does not believe that these issues will have a material adverse effect on the Company's overall financial condition. In addition to the $142 million special charge discussed above, in the third quarter of 1996, the Company recorded a special charge of $13.7 million to write off capitalized software as a result of its decision to abandon the billing system which had been intended as its standard company-wide billing system. Management now plans to standardize billing systems using a system already implemented in seven of its sites. 14. SPIN-OFF DISTRIBUTION (unaudited) Coincident with the CCL Spin-Off Distribution, the Company plans to record a non-recurring charge of approximately $20 million ($13 million after tax) associated with the CCL Spin-Off Distribution. The largest component of the charge will be the cost of establishing an employee stock ownership plan ($11 million). The remainder of the charge will consist principally of the costs for advisors and other fees associated with establishing the Company as a separate publicly-traded entity. The amount of the charge is subject to change based on the price of the CCL stock on the Distribution Date. Prior to the CCL Spin-Off Distribution, the Company will borrow approximately $500 million in long-term debt to repay Corning for certain intercompany borrowings. The debt is assumed to consist of $350 million of bank borrowings and $150 million of publicly-registered high-yield notes. Corning will contribute the remaining debt to the Company's equity prior to the CCL Spin-Off Distribution. The credit facility governing the bank borrowings and the indenture governing the notes will contain various customary affirmative and negative covenants, including the maintenance of certain financial ratios and tests. The credit facility prohibits the Company from paying cash dividends on the CCL common stock. Further, the indenture will restrict the Company's ability to pay cash dividends based on a percentage of the Company's cash flow. In conjunction with the CCL Spin-Off Distribution, Corning and the Company will enter into an indemnification agreement whereby Corning agrees to indemnify CCL, on an after-tax basis, for any losses arising out of any federal, criminal, civil or administrative investigations or claims that are pending as of the Distribution Date to the extent that such investigations or claims arise out of or are related to alleged violations of federal laws by reason of CCL, its affiliates, officers or directors billing any federal program or agency for services rendered to beneficiaries of such program or agency. Corning, CCL and Covance will enter into tax indemnification agreements that will prohibit CCL and Covance for a period of two years after the Spin-Off Distributions from taking certain actions that might jeopardize the favorable tax treatment of the Distributions under section 355 of the Internal Revenue Code of 1986, as amended and will provide Corning and CCL with certain rights of indemnification against CCL and Covance. The tax indemnification agreements will also require CCL and Covance to take such actions as Corning may request to preserve the favorable tax treatment provided for in any rulings obtained from the Internal Revenue Service in respect of the Distributions. Corning, CCL and Covance will also enter into a tax sharing agreement which will allocate among Corning, CCL and Covance responsibility for federal, state and local taxes relating to taxable periods before and after the F-21 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO COMBINED FINANCIAL STATEMENTS (Continued) (dollars in thousands, unless otherwise indicated) Spin-Off Distributions and provide for computing and apportioning tax liabilities and tax benefits for such periods among the parties. 15. PLANNED CHANGE IN ACCOUNTING POLICY (unaudited) Coincident with the CCL Spin-Off Distribution, CCL management will adopt a new accounting policy for evaluating the recoverability of intangible assets and measuring possible impairment under Statement of the Accounting Principles Board No. 17. Most of CCL's intangible assets resulted from purchase business combinations in 1993. Significant changes in the clinical laboratory and health care industries subsequent to 1993, including increased government regulation and movement from traditional fee-for-service care to managed cost health care, have caused the fair value of CCL's intangible assets to be significantly less than carrying value. CCL management believes that a valuation of intangible assets based on the amount for which each regional laboratory could be sold in an arms-length transaction is preferable to using projected undiscounted pre-tax cash flows. CCL believes fair value is a better indicator of the extent to which the intangible assets may be recoverable and therefore, may be impaired. This change in method of evaluating the recoverability of intangible assets will result in CCL recording a charge of between $400 million and $450 million to operations coincident with the CCL Spin-Off Distribution to reflect the other than temporary impairment of intangible assets. This will result in a reduction of amortization expense of approximately $10 million to $11.3 million annually and $2.5 million to $2.8 million quarterly. The fair value method will be applied to each of CCL's regional laboratories. Management's estimate of fair value will primarily be based on multiples of forecasted revenue or multiples of forecasted EBITDA. The multiples will primarily be determined based upon publicly available information regarding comparable publicly-traded companies in the industry, but will also consider (i) the financial projections of each regional laboratory, (ii) the future prospects of each regional laboratory, including its growth opportunities, managed care concentration and likely operational improvements, and (iii) comparable sales prices, if available. Multiples of revenues will be used to estimate fair value in cases where the Company believes that the likely acquirer of a regional laboratory would be a strategic buyer within the industry which would realize synergies from such an acquisition. In regions where management does not believe there is a potential strategic buyer within the industry, and, accordingly, believes the likely buyer would not have synergy opportunities, multiples of EBITDA will be used for estimating fair value. Regional laboratories with lower levels of profitability valued using revenue multiples would generally be ascribed a higher value than if multiples of EBITDA were used, due to assumed synergy opportunities. While management believes the estimation methods are reasonable and reflective of common valuation practices, there can be no assurance that a sale to a buyer for the estimated value ascribed to a regional laboratory could be completed. For purposes of estimating the fair value of each of the regional laboratories, management assumed that a potential buyer would seek to be indemnified for litigation or other contingencies resulting from preacquisition activities. Therefore, the reserves recorded for potential, and settled, billing and marketing claims were not allocated to the regional laboratories for purposes of estimating their fair value. On a quarterly basis, CCL management will perform a review of each regional laboratory to determine if events or changes in circumstances have occurred which could have an other than temporary material adverse effect on the fair value of the business and its intangible assets. If such events or changes in circumstances were deemed to have occurred, management would consult with one or more of its investment bankers in estimating the impact on fair value of the regional laboratory. F-22 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) Schedule II--Valuation Accounts and Reserves (amounts in thousands)
Balance at Net Deductions Balance at Year ended December 31, 1995 1-1-95 Additions and Other 12-31-95 ---------- ---------- -------------- ----------- Doubtful accounts and allowances $ 74,829 $152,590 $ 79,472 $147,947 Balance at Net Deductions Balance at Year ended December 31, 1994 1-1-94 Additions and Other 12-31-94 ---------- ---------- -------------- ----------- Doubtful accounts and allowances $71,991 $59,480 $56,642 $74,829 Balance at Net Deductions Balance at Year ended December 31, 1993 1-1-93 Additions and Other 12-31-93 ---------- --------- -------------- ----------- Doubtful accounts and allowances $65,859 $47,240 $ 41,108 $71,991
F-23 QUARTERLY OPERATING RESULTS (unaudited)
First Second Third Fourth Total Quarter Quarter Quarter Quarter Year ----------- ------------- ------------- ------------- ------------ 1996 ---------------------------- Net revenues $401,395 $ 424,543 $ 405,352 Gross profit 154,277 158,242 149,962 Loss before taxes (1,642) (37,518) (1) (162,989) (1) Net loss (1,511) (37,922) (119,436) 1995 ---------------------------- Net revenues $417,662 $ 421,853 $ 399,959 $ 389,914 $1,629,388 Gross profit 168,606 175,793 159,091 145,666 649,156 Income (loss) before taxes 19,827 (1) (5,088) (1) (56,405) (2) (15,902) (1) (57,568) Net income (loss) 4,423 (3,852) (38,595) (14,028) (52,052) 1994 ---------------------------- Net revenues $399,063 $ 422,942 $ 408,478 $ 403,216 $1,633,699 Gross profit 159,050 182,050 163,391 159,364 663,855 Income (loss) before taxes 40,624 45,109 (51,250) (1) 28,272 62,755 Net income (loss) 24,152 24,148 (36,535) 16,580 28,345
(1) Includes impact of restructuring and other special charges of $46.0 million, $155.7 million, $12.8 million, $33.0 million, $4.8 million and $79.8 million in second quarter 1996, third quarter 1996, first quarter 1995, second quarter 1995, fourth quarter 1995 and third quarter 1994, respectively, which are discussed in Notes 5 and 13 to the CCL Combined Financial Statements. (2) Includes a $62.0 million charge to increase the reserve for doubtful accounts and allowances resulting from billing systems implementation and integration problems at certain laboratories and increased regulatory requirements. F-24 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) COMBINED BALANCE SHEETS SEPTEMBER 30, 1996 AND DECEMBER 31, 1995 (in thousands)
September 30, December 31, 1996 1995 ------------- ------------- (unaudited) ASSETS - ------------------------------------------------------------ Current Assets: Cash and cash equivalents $ 48,319 $ 36,446 Accounts receivable, net of allowance of $116,996 and $147,947 for September 30, 1996 and December 31, 1995, respectively 323,171 318,252 Inventories 25,559 26,601 Deferred taxes on income 126,906 98,845 Prepaid expenses and other assets 25,217 22,014 ------------ ------------ Total current assets 549,172 502,158 Property and equipment, net 293,490 296,116 Intangible assets, net 1,001,500 1,030,633 Other assets 42,216 24,478 ------------ ------------ TOTAL ASSETS $1,886,378 $1,853,385 ============ ============ LIABILITIES AND STOCKHOLDER'S EQUITY - ------------------------------------------------------------ Current Liabilities: Accounts payable and accrued expenses $ 374,058 $ 240,525 Current portion of long-term debt 11,885 12,148 Income taxes payable 34,212 39,766 Due to Corning Incorporated and affiliates 14,299 8,979 ------------ ------------ Total current liabilities 434,454 301,418 Long-term debt (principally due to Corning Incorporated) 1,219,900 1,195,566 Other liabilities 99,354 60,600 ------------ ------------ Total liabilities 1,753,708 1,557,584 ============ ============ Stockholder's Equity: Contributed capital 297,823 297,823 Accumulated deficit (163,158) (3,118) Cumulative translation adjustment 1,801 2,325 Market valuation adjustment (3,796) (1,229) ------------ ------------ Total stockholder's equity 132,670 295,801 ------------ ------------ TOTAL LIABILITIES AND STOCKHOLDER'S EQUITY $1,886,378 $1,853,385 ============ ============
The accompanying notes are an integral part of these statements. F-25 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) COMBINED STATEMENTS OF OPERATIONS FOR THE THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995 (in thousands) (unaudited)
Three Months Ended Nine Months Ended September 30, September 30, September 30, September 30, 1996 1995 1996 1995 ------------- ------------- ------------- -------------- Net revenues $ 405,352 $399,959 $1,231,290 $1,239,474 Costs and expenses: Cost of services 255,390 240,868 768,809 735,984 Selling, general and administrative 125,190 181,346 371,439 399,635 Provision for restructuring and other special charges 155,730 -- 201,730 45,885 Interest expense, net 19,866 20,927 59,887 61,529 Amortization of intangible assets 10,328 11,293 31,772 33,678 Other, net 1,837 1,930 (198) 4,429 ------------ ------------ ------------ ------------- Total 568,341 456,364 1,433,439 1,281,140 ------------ ------------ ------------ ------------- Loss before taxes (162,989) (56,405) (202,149) (41,666) Income tax benefit (43,553) (17,810) (43,280) (3,642) ------------ ------------ ------------ ------------- Net loss $(119,436) $(38,595) $ (158,869) $ (38,024) ============ ============ ============ =============
The accompanying notes are an integral part of these statements. F-26 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) COMBINED STATEMENTS OF CASH FLOWS FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1995 (in thousands) (unaudited)
1996 1995 ----------- ----------- Cash flows from operating activities: Net loss $(158,869) $ (38,024) Adjustments to reconcile net loss to net cash provided by operating activities: Depreciation and amortization 75,232 76,036 Provision for doubtful accounts 81,891 127,297 Provision for restructuring and other special charges 201,730 45,885 Deferred income tax provision (31,612) (39,403) Other, net (753) 4,984 Changes in operating assets and liabilities: Accounts receivable (87,339) (112,110) Accounts payable and accrued expenses 3,355 18,732 Restructuring, integration and other special charges (19,863) (49,836) Due from/to Corning Incorporated and affiliates 5,320 4,572 Changes in other assets and liabilities (27,155) 15,656 ---------- ---------- Net cash provided by operating activities 41,937 53,789 ---------- ---------- Cash flows from investing activities: Capital expenditures (58,802) (56,062) Acquisition of businesses, net of cash acquired -- (22,907) (Increase) decrease in investments (7,580) 1,058 Proceeds from sale of assets 13,285 -- ---------- ---------- Net cash used in investing activities (53,097) (77,911) ---------- ---------- Cash flows from financing activities: Proceeds from borrowings, primarily with Corning Incorporated 59,090 63,795 Repayment of long-term debt (34,885) (3,766) Dividends paid (1,172) (27,718) ---------- ---------- Net cash provided by financing activities 23,033 32,311 ---------- ---------- Net change in cash and cash equivalents 11,873 8,189 Cash and cash equivalents, beginning of year 36,446 38,719 ---------- ---------- Cash and cash equivalents, end of period $ 48,319 $ 46,908 ========== ==========
The accompanying notes are an integral part of these statements. F-27 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO INTERIM COMBINED FINANCIAL STATEMENTS (unaudited) 1. BASIS OF PRESENTATION Corning Clinical Laboratories Inc. and Corning Nichols Institute Inc. (collectively referred to as "CCL" or the "Company") are wholly-owned subsidiaries of Corning Life Sciences Inc. ("CLSI") which in turn is a wholly-owned subsidiary of Corning Incorporated ("Corning"). The Company is one of the largest clinical laboratory testing businesses in the United States. These financial statements present the carved-out results of operations, cash flows and financial position of Corning's clinical laboratory testing business. Covance Inc. (formerly Corning Pharmaceutical Services Inc.), a subsidiary of CCL, and its related entities ("Covance") as well as environmental testing services formerly provided by CCL are excluded. In May 1996, Corning's Board of Directors approved a plan to distribute to its shareholders on a pro rata basis all of the shares of CCL and Covance (the "CCL and Covance Spin-Off Distributions"). The result of the plan will be the creation of two independent, publicly-owned companies. As a result of the Spin-Off Distributions, CCL will operate Corning's clinical laboratory testing business as an independent public company and Covance will own and operate Corning's contract research business as an independent public company. The Spin-Off Distributions will be effected by the distribution of a dividend to holders of Corning Common Stock of all of the outstanding CCL Common Stock, followed immediately by the distribution of a dividend to the holders of CCL Common Stock of all of the Covance Common Stock. Corning has submitted to the Internal Revenue Service a request for a ruling that the Spin-Off Distributions qualify as tax-free distributions under the Internal Revenue Code of 1986. Coincident with the Spin-Off Distribution, the Company will be renamed Quest Diagnostics Incorporated. The interim combined financial statements reflect all adjustments which, in the opinion of management, are necessary for a fair statement of the results of operations for the periods presented. All such adjustments are of a normal recurring nature. The interim combined financial statements have been compiled without audit and are subject to year-end adjustments. These interim combined financial statements should be read in conjunction with the historical combined financial statements of CCL for the years ended December 31, 1995, 1994 and 1993 included elsewhere herein. 2. COMMITMENTS AND CONTINGENCIES As disclosed in the Company's 1995 combined financial statements, federal government investigations of certain practices by clinical laboratories acquired in recent years are ongoing. In the second quarter of 1996, the U.S. Department of Justice ("DOJ") notified the Company that it has taken issue with certain payments received by Damon Corporation ("Damon") from federally funded healthcare programs prior to its acquisition by the Company. Specifically, in late April 1996, the DOJ for the first time disclosed to CCL the total amount of the claims that it proposed to assert against Damon. The government presented its claim for the base recoupment (by lab, by test, by year) and discussed various theories on which criminal and civil payments of up to three times the various base recoupment amounts could be assessed. During May and June, CCL management analyzed the government's claim in detail. CCL management and outside counsel then believed that there were meritorious defenses to a number of the claims for recoupments and potential payments in excess of the base recoupment and these were presented to the government in early July 1996. At the end of the second quarter, CCL recorded a $46 million charge to increase its reserves to equal management's estimate of the low end of the range of amounts necessary to satisfy claims related to Damon and other related and similar investigations. With respect to the Damon investigation, the low end of the range was estimated to be equal to the base recoupment sought by the government reflecting the basis on which CCL had settled an earlier claim with the government in 1993. The low end of the range for the Nichols and other government investigations was based on the base recoupment estimated by management from internal investigations. Reserves for pending private claims were estimated based on CCL's experience in settling private claims following its 1993 government settlement. CCL management considered the potential for some payments to be assessed in excess of the base recoupment in estimating its liability at June 30, 1996. However, management believed that, although it was reasonably possible that some level of payment in excess of the base recoupment could ultimately be assessed, the government had F-28 CORNING CLINICAL LABORATORIES INC. (a wholly-owned business of Corning Incorporated) NOTES TO INTERIM COMBINED FINANCIAL STATEMENTS (Continued) (unaudited) not provided sufficient information to reasonably estimate the amount of any such payments. In addition, management and counsel believed that it was unlikely that treble payments would be assessed. This position was based on CCL's experience with the government in 1993, in which the recovery in excess of base recoupments was not significant, the government's representatives' invitation to present information and arguments to them and their stated intention not to consider the issue of payment multiples until the base recoupment amount had been established, and management's and counsel's belief that it had meritorious factual, legal and equitable defenses and mitigations of the government claims. CCL management was aware that similar investigations of other clinical laboratories in the industry were ongoing. Other than CCL's 1993 settlement, the only other similar settlement known to management was the 1992 civil Medicare settlement by a major competitor for $100 million. CCL had reviewed the publicly-available information about that settlement, including press releases and the settlement agreement. The competitor's settlement agreement did not specify whether the civil settlement included substantial payments to be assessed in excess of the base recoupment. It was believed by CCL that it did not. Although the competitor and its chief executive officer each pleaded guilty to criminal charges, the fine was only $1 million for conduct that was contemporaneous with, and considered by CCL management and its counsel to be more egregious than, that of Damon. During the third quarter 1996, CCL management met with the government several times to evaluate the substance of the government's allegations. During a meeting with the government in mid-August, further information and legal arguments were exchanged. Importantly, at this time, the government for the first time began to disclose to CCL and its outside counsel grand jury testimony and other evidence that was inconsistent with certain of CCL's defenses. The final settlement discussions began in late September. The government responded to and rejected many of CCL's defenses and made its tentative final settlement offer, which included significant payments in excess of base recoupments, to CCL. Negotiations on the final settlement amount and terms (including releases from various federal and state payors, compliance program requirements, etc.) continued into early October and ended with the settlement agreement dated October 9, 1996. The settlement included base recoupments of approximately $40 million (which did not differ materially from management's estimate at June 30, 1996) and total criminal and civil payments in excess of base recoupments of approximately $80 million. This settlement concludes all federal and Medicaid claims relating to the billing by Damon of certain blood tests to Medicare and Medicaid patients and other matters relating to Damon being investigated by the DOJ. Additionally, the Company entered into a separate settlement agreement with the DOJ totaling $6.9 million related to billings of hematology indices provided with hematology test results. This claim will be paid during the fourth quarter of 1996. As a result of these settlement agreements, CCL management has reassessed the level of reserves recorded for other asserted and unasserted claims related to the Damon and other similar government investigations, including the investigation of billing practices by Nichols Institute ("Nichols") prior to its acquisition by the Company in 1994. The Company recorded a charge totaling $142 million in the third quarter 1996 to establish additional reserves to provide for the above settlement agreements and management's best estimate of potential amounts which could be required to satisfy the remaining claims. At September 30, 1996, recorded reserves approximated $215 million (including the $119 million Damon settlement paid in October 1996). Based on information currently available to CCL, management does not believe that the exposure to claims in excess of recorded claims is material. Although the Damon settlement was substantially in excess of amounts anticipated by management, it was primarily due to the civil and criminal payments in excess of the base recoupment assessed by the government and CCL has now increased its reserves for asserted and unasserted claims to approximate the amount that may be required to settle the Nichols and other government civil claims taking into account the basis for the Damon civil settlement. In addition, although there is the possibility that CCL could be excluded from participation in Medicare and Medicaid programs, management believes that the possibility is remote as a result of the Damon settlement, which included CCL's signing a Corporate Integrity Agreement, and due to the fact that the government has publicly commended CCL for its cooperation in the investigation and cited CCL as having one of the "model" compliance programs in the industry. F-29 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO INTERIM COMBINED FINANCIAL STATEMENTS (Continued) (unaudited) In October 1996, Corning contributed $119 million to CCL's capital to fund the Damon settlement. Additionally, Corning has agreed to fund any additional settlements prior to the CCL Spin-Off Distribution and to indemnify CCL against all settlements for any governmental claims relating to billing practices of CCL and its predecessors that have been settled or are pending on the Distribution Date. Corning will also agree to indemnify CCL for 50% of the aggregate of all settlement payments made by CCL that are in excess of $42 million to private parties that relate to indemnified or previously settled governmental claims (such as the Damon settlement) for services provided prior to the Distribution Date; however, the indemnification of private party claims will not exceed $25 million and will be paid on an after-tax basis. Such indemnification will not cover any nongovernmental claims not settled prior to five years after the Distribution Date. Coincident with the CCL Spin-Off Distribution, the Company will record a receivable and a contribution of capital from Corning currently estimated at $25 million which is equal to management's best estimate of amounts which are probable of being received from Corning to satisfy the remaining indemnified governmental claims on an after-tax basis. Although management believes that established reserves for both indemnified and non-indemnified claims are sufficient, it is possible that additional information (such as the indication by the government of criminal activity, additional tests being questioned or other changes in the government's theories of wrongdoing) may become available which may cause the final resolution of these matters to exceed established reserves by an amount which could be material to the Company's results of operations and, for non-indemnified claims, the Company's cash flow in the period in which such claims are settled. The Company does not believe that these issues will have a material adverse impact on the Company's overall financial condition. 3. PROVISION FOR RESTRUCTURING AND OTHER SPECIAL CHARGES In addition to the $142 million special charge discussed in Note 2, in the third quarter of 1996, the Company recorded a special charge of $13.7 million to write off capitalized software as a result of its decision to abandon the billing system which had been intended as its standard company-wide billing system. Management now plans to standardize billing systems using a system already implemented in seven of its sites. 4. RESTRUCTURING RESERVES As described in Note 5 to the CCL Combined Financial statements, CCL has recorded charges for restructuring plans in previous years. Reserves relating to these programs totaled approximately $37.7 million and $23.5 million at December 31, 1995 and September 30, 1996, respectively. Management believes that the costs of the restructuring plans will be financed through cash from operations and does not anticipate any significant impact on its liquidity as a result of the restructuring plans. 5. SPIN-OFF DISTRIBUTION Coincident with the CCL Spin-Off Distribution, the Company plans to record a non-recurring charge of approximately $20 million ($13 million after tax) associated with the CCL Spin-Off Distribution. The largest component of the charge will be the cost of establishing an employee stock ownership plan ($11 million). The remainder of the charge will consist principally of the costs for advisors and other fees associated with establishing the Company as a separate publicly-registered entity. The amount of the charge is subject to change based on the price of the CCL stock on the Distribution Date. Prior to the CCL Spin-Off Distribution, the Company will borrow approximately $500 million in long-term debt to repay Corning for certain intercompany borrowings. The debt is assumed to consist of $350 million of bank borrowings and $150 million of publicly-registered high-yield notes. Corning will contribute the remaining debt to the Company's equity prior to the CCL Spin-Off Distribution. The credit facility governing the bank borrowings and the indenture governing the notes will contain various customary affirmative and negative covenants , including the maintenance of certain financial ratios and tests. The credit facility prohibits the Company from paying cash dividends on the CCL common stock. Further, the indenture will restrict the Company's ability to pay cash dividends based on a percentage of the Company's cash flow. F-30 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO INTERIM COMBINED FINANCIAL STATEMENTS (Continued) (unaudited) In conjunction with the CCL Spin-Off Distribution, Corning and the Company will enter into an indemnification agreement whereby Corning agrees to indemnify CCL, on an after-tax basis, for any losses arising out of any federal, criminal, civil or administrative investigations or claims that are pending as of the Distribution Date to the extent that such investigations or claims arise out of or are related to alleged violations of federal laws by reason of CCL, its affiliates, officers or directors billing any federal program or agency for services rendered to beneficiaries of such program or agency. Corning, CCL and Covance will enter into tax indemnification agreements that will prohibit CCL and Covance for a period of two years after the Spin-Off Distributions from taking certain actions that might jeopardize the favorable tax treatment of the Distributions under section 355 of the Internal Revenue Code of 1986, as amended and will provide Corning and CCL with certain rights of indemnification against CCL and Covance. The tax indemnification agreements will also require CCL and Covance to take such actions as Corning may request to preserve the favorable tax treatment provided for in any rulings obtained from the Internal Revenue Service in respect of the Distributions. Corning, CCL and Covance will also enter into a tax sharing agreement which will allocate among Corning, CCL and Covance responsibility for federal, state and local taxes relating to taxable periods before and after the Spin-Off Distributions and provide for computing and apportioning tax liabilities and tax benefits for such periods among the parties. 6. PLANNED CHANGE IN ACCOUNTING POLICY Coincident with the CCL Spin-Off Distribution, CCL management will adopt a new accounting policy for evaluating the recoverability of intangible assets and measuring possible impairment under Statement of the Accounting Principles Board No. 17. Most of CCL's intangible assets resulted from purchase business combinations in 1993. Significant changes in the clinical laboratory and health care industries subsequent to 1993, including increased government regulation and movement from traditional fee-for-service care to managed cost health care, have caused the fair value of CCL's intangible assets to be significantly less than carrying value. CCL management believes that a valuation of intangible assets based on the amount for which each regional laboratory could be sold in an arms-length transaction is preferable to using projected undiscounted pre-tax cash flows. CCL believes fair value is a better indicator of the extent to which the intangible assets may be recoverable and therefore, may be impaired. This change in method of evaluating the recoverability of intangible assets will result in CCL recording a charge of between $400 million and $450 million to operations coincident with the CCL Spin-Off Distribution to reflect the other than temporary impairment of intangible assets. This will result in a reduction of amortization expense of approximately $10 million to $11.3 million annually and $2.5 million to $2.8 million quarterly. The fair value method will be applied to each of CCL's regional laboratories. Management's estimate of fair value will primarily be based on multiples of forecasted revenue or multiples of forecasted EBITDA. The multiples will primarily be determined based upon publicly available information regarding comparable publicly-traded companies in the industry, but will also consider (i) the financial projections of each regional laboratory, (ii) the future prospects of each regional laboratory, including its growth opportunities, managed care concentration and likely operational improvements, and (iii) comparable sales prices, if available. Multiples of revenues will be used to estimate fair value in cases where the Company believes that the likely acquirer of a regional laboratory would be a strategic buyer within the industry which would realize synergies from such an acquisition. In regions where management does not believe there is a potential strategic buyer within the industry, and, accordingly, believes the likely buyer would not have synergy opportunities, multiples of EBITDA will be used for estimating fair value. Regional laboratories with lower levels of profitability valued using revenue multiples would generally be ascribed a higher value than if multiples of EBITDA were used, due to assumed synergy opportunities. While management believes the estimation methods are reasonable and reflective of common valuation practices, there can be no assurance that a sale to a buyer for the estimated value ascribed to a regional laboratory could be completed. F-31 CORNING CLINICAL LABORATORIES INC. (to be renamed Quest Diagnostics Incorporated) (a wholly-owned business of Corning Incorporated) NOTES TO INTERIM COMBINED FINANCIAL STATEMENTS (Continued) (unaudited) For purposes of estimating the fair value of each of the regional laboratories, management assumed that a potential buyer would seek to be indemnified for litigation or other contingencies resulting from preacquisition activities. Therefore, the reserves recorded for potential, and settled, billing and marketing claims were not allocated to the regional laboratories for purposes of estimating their fair value. On a quarterly basis, CCL management will perform a review of each regional laboratory to determine if events or changes in circumstances have occurred which could have an other than temporary material adverse effect on the fair value of the business and its intangible assets. If such events or changes in circumstances were deemed to have occurred, management would consult with one or more of its investment bankers in estimating the impact on fair value of the regional laboratory. 7. SUMMARIZED FINANCIAL INFORMATION As discussed in Note 5, the Company is currently pursuing the issuance of $150 million of Senior Subordinated Notes due in 2006 which will be used to repay certain intercompany indebtedness owed to Corning. The Senior Subordinated Notes will be guaranteed, fully, jointly and severally, and unconditionally, on a senior subordinated basis by the Company and each of the Company's wholly-owned, domestic subsidiaries (Subsidiary Guarantors). Non-guarantor subsidiaries are immaterial to the Company. Full financial statements of the Subsidiary Guarantors are not presented because they are not deemed material to investors. The following is summarized financial information of the Subsidiary Guarantors as of September 30, 1996 and December 31, 1995 and for the nine months ended September 30, 1996 and September 30, 1995.
September 30, December 31, 1996 1995 ------------- -------------- Current assets $234,183 $244,547 Noncurrent assets 865,265 864,351 Current liabilities 71,416 71,828 Noncurrent liabilities 694,331 682,805 Stockholder's equity 333,701 354,265 For the nine months ended September 30, ----------------------------- 1996 1995 ------------ ------------- Net revenues $677,489 $709,317 Cost of services 427,583 444,705 Net loss (20,564) (26,435)
F-32 -----END PRIVACY-ENHANCED MESSAGE-----